10-K 1 stl-2014x0930xmaster10k.htm 10-K STL-2014-09.30- Master 10K

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 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 September 30, 2014 Commission File Number: 001-35385
________________________
STERLING BANCORP
(Exact name of Registrant as Specified in its Charter)
Delaware
 
80-0091851
(State or Other Jurisdiction of
Incorporation or Organization)
 
(IRS Employer
Identification Number)
 
 
 
400 Rella Blvd., Montebello, New York
 
10901
(Address of Principal Executive Office)
 
(Zip Code)
(845) 369-8040
(Registrant’s Telephone Number including Area Code)
Securities Registered Pursuant to Section 12(b) of the Act:
Title of Class
 
Name of Each Exchange On Which Registered
Common Stock, par value $0.01 per share
 
New York Stock Exchange
Securities Registered Pursuant to Section 12(g) of the Act:
None
____________________________
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act    YES  ý  NO  ¨
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act.    YES  ¨     NO  ý
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 twelve 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  ý    NO  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for shorter period that the registrant was required to submit and post such files)   YES  ý     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 Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendments to this Form 10-K.    ¨
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer — See definition of “accelerated and large accelerated filer” in Rule 12b-2 of the Exchange Act (check one).
Large Accelerated Filer
x
 
 
Accelerated Filer
 
o
Non-Accelerated Filer
o
 
 
Smaller Reporting Company
 
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).   YES  ¨     NO  ý
The aggregate market value of the voting stock held by non-affiliates of the Registrant, computed by reference to the closing price of the common stock as of March 31, 2014 was $1,057,670,927

As of November 25, 2014 there were 83,899,070 outstanding shares of the Registrant’s common stock.
___________________________________
DOCUMENT INCORPORATED BY REFERENCE
Proxy Statement for the Annual Meeting of Stockholders (Part III) to be filed within 120 days after the end of the Registrant’s fiscal year ended September 30, 2014.
 



STERLING BANCORP
FORM 10-K TABLE OF CONTENTS
September 30, 2014
 
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.
SIGNATURES
 



PART I
ITEM 1.
Business

The disclosures set forth in this item are qualified by Item 1A. Risk Factors and the section captioned “Forward-Looking Statements” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations of this report and other cautionary statements set forth elsewhere in this report.

Sterling Bancorp
Sterling Bancorp (“Sterling” or the “Company”) is a Delaware corporation that owns all of the outstanding shares of common stock of Sterling National Bank (the “Bank”), which is the Company’s principal subsidiary. At September 30, 2014, the Company had, on a consolidated basis, $7.3 billion in assets, $5.3 billion in deposits, stockholders’ equity of $961.1 million and 83,628,267 shares of common stock outstanding. Our financial condition and results of operations are discussed herein on a consolidated basis with the Bank.

On October 31, 2013, Provident New York Bancorp (“Legacy Provident”) and the former Sterling Bancorp (“Legacy Sterling”) merged.

In connection with the merger, the Company completed the following corporate actions:

Legacy Sterling merged with and into Legacy Provident, the accounting acquirer and the surviving entity.
The Company changed its legal entity name to Sterling Bancorp and became a bank holding company and a financial holding company, as defined by the Bank Holding Company Act of 1956, as amended.
Sterling National Bank, which was owned by Legacy Sterling, merged into Provident Bank, which was owned by Legacy Provident.
The Bank changed its legal entity name to Sterling National Bank.

We refer to the transactions detailed above collectively as the “Merger”.

The Merger was a stock-for-stock transaction valued at $457.8 million based on the closing price of Legacy Provident’s common stock on October 31, 2013. Under the terms of the Merger, each share of Legacy Sterling was converted into the right to receive 1.2625 shares of Legacy Provident’s common stock. Consistent with our strategy of expanding in the greater New York metropolitan region, we believe the Merger has created a larger, more diversified company and accelerated the build-out of our differentiated strategy targeting small-to-middle market commercial clients and consumers. See additional disclosure regarding the Merger in Note 2. “Acquisitions” to the consolidated financial statements.

Pending Acquisition of Hudson Valley Holding Corp.
On November 5, 2014, the Company announced it had entered into a definitive merger agreement with Hudson Valley Holding Corp. (NYSE: HVB) (the “HVB Merger”). In the HVB Merger, which is a stock-for-stock transaction valued at approximately $539 million based on the closing price of Company common stock on November 4, 2014, Hudson Valley Holding Corp. shareholders will receive a fixed ratio of 1.92 shares of Company common stock for each share of Hudson Valley Holding Corp. common stock. Upon closing, the Company’s shareholders will own approximately 69% of stock in the combined company and Hudson Valley Holding Corp. shareholders will own approximately 31%.

On a pro forma combined basis, for the twelve months ended September 30, 2014, the companies had revenue of $363 million and $22 million in net income. Upon completion of the HVB Merger, the combined company is expected to have approximately $10.7 billion in assets, $6.6 billion in gross loans, and deposits of $8.1 billion. The HVB Merger will further the Company’s strategy of expanding in the greater New York metropolitan region by providing the Company with a significant presence and deposit market share in Westchester County, New York, and will create an opportunity to realize significant operating expense savings. The transaction is expected to be accretive to earnings per share in fiscal 2015 and 2016.

The transaction is subject to approval by shareholders from both companies, regulatory approval and other customary closing conditions, and is expected to close in the second calendar quarter of 2015.

Senior Notes Capital Raise
In connection with the Merger, the Company completed the offering of $100 million of its senior notes due 2018 (the “Senior Notes”) on July 2, 2013. The Senior Notes, which bear interest at 5.50% annually, were issued under an indenture dated July 2, 2013 (the “Indenture”) between the Company and U.S. Bank National Association, as trustee. The Senior Notes were sold in a private placement

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and resold by the initial purchasers to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933, as amended (the “Securities Act”).

The Senior Notes are unsecured obligations of the Company and rank equally with all other unsecured unsubordinated indebtedness, and will be effectively subordinated to any secured indebtedness to the extent of the value of the collateral securing such indebtedness, and structurally subordinated to the existing and future indebtedness of the Company’s subsidiaries. Interest on the Senior Notes is payable on January 2 and July 2 and began January 2, 2014. Interest is calculated on the basis of a 360-day year of twelve 30-day months. The Senior Notes will mature on July 2, 2018.

Acquisition of Gotham Bank of New York
On August 10, 2012, the Company acquired Gotham Bank of New York (“Gotham”), a New York state-chartered banking corporation with approximately $431.5 million in assets, $205.5 million in loans, and $368.9 million in deposits and one branch location in midtown Manhattan. At the closing, Gotham was merged with and into the Bank, with the Bank as the surviving entity. The shareholders of Gotham received cash equal to 125% of adjusted tangible net worth, subject to fair value adjustments. The aggregate cash consideration to Gotham shareholders and option holders was approximately $41 million.

Common Equity Capital Raise
On August 7, 2012, the Company sold directly to several institutional investors an aggregate of 6,258,504 shares of its common stock at a price of $7.35 per share. The Company received net proceeds of approximately $46 million, which were used to fund the acquisition of Gotham and for general corporate purposes.

Sterling National Bank
The Bank is a growing full-service regional bank founded in 1888. Headquartered in Montebello, New York, the Bank specializes in the delivery of services and solutions to business owners, their families and consumers within the communities we serve through teams of dedicated and experienced relationship managers. Sterling National Bank offers a complete line of commercial, business, and consumer banking products and services. As of September 30, 2014, the Bank had $7.3 billion in assets, $5.3 billion in deposits and 836 full-time equivalent employees.

Subsidiaries
The Company and the Bank maintain a number of wholly-owned subsidiaries, including a real estate investment trust that holds real estate mortgage loans, several subsidiaries that hold foreclosed properties acquired by the Bank, a Vermont captive insurance company and other subsidiaries that have an immaterial impact on the financial condition or results of operations of the Company.

Additional Information
The Company’s website (www.sterlingbancorp.com) contains a direct link to the Company’s filings with the Securities and Exchange Commission (“SEC”), including copies of annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to these filings, registration statements on Form S-4, as well as ownership reports on Forms 3, 4 and 5 filed by the Company’s directors and executive officers. Copies may also be obtained, without charge, by written request to Sterling Bancorp, 400 Rella Boulevard, Montebello, New York 10901, Attention: Investor Relations. Sterling’s website is not part of this Annual Report on Form 10-K.

Strategy
Through its subsidiary Sterling National Bank, the Company operates as a regional bank providing a broad offering of deposit, lending and wealth management products to commercial, consumer and municipal clients in its market area. The Bank seeks to differentiate itself by focusing on the following principles:
 
Prioritize client relationships over transactions.
Compete on service experience versus price superiority.
Deploy a single point of contact, relationship-based distribution strategy through our commercial banking teams and financial centers.
Focus on specific customer segments and geographic markets.
Maximize efficiency through a technology enabled, low-cost operating platform.
Maintain strong risk management systems.

Our strategic objectives include generating sustainable growth in revenues and earnings by expanding client acquisitions, improving asset quality and increasing operating efficiency. To achieve these goals we are: 1) focusing on high value client segments; 2) expanding our

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delivery and distribution channels; 3) creating a high productivity and performance culture; 4) controlling our operating costs; and 5) proactively managing enterprise risk.
 
We focus on delivering products and services to small and middle market commercial businesses and affluent consumers.  We believe that this is a client segment that is underserved by larger bank competitors in our market area.

The Bank targets the following geographic markets: the New York Metro Market, which includes Manhattan and Long Island; and the New York Suburban Market, which consists of Rockland, Orange, Sullivan, Ulster, Putnam and Westchester counties in New York and Bergen County in New Jersey. We believe the Bank operates in an attractive footprint that presents us with significant opportunities to execute our strategy. Based on data from Oxxford Information Technology, we estimate the total number of small and middle market businesses in our footprint exceeds 550 thousand.

We deploy a team-based distribution strategy in which clients are served by a focused and experienced group of relationship managers that are responsible for all aspects of the client relationship and delivery of our products and services. A significant portion of the Bank’s organic growth in 2014 was driven by the recruitment of new teams. As of September 30, 2014, the Bank had 21 commercial banking teams. We expect to continue to grow deposits and loan balances through the addition of new teams.

The Bank focuses on building client relationships that allow us to gather low cost, core deposits and originate high quality loans. The Bank maintains a disciplined pricing strategy on deposits that allows us to compete for loans while maintaining an appropriate spread over funding costs. We offer diverse loan products to commercial businesses, real estate owners, real estate developers and consumers. In 2014, we continued to emphasize growth in our commercial loan balances;  as a result, we believe that we have a high quality, diversified loan portfolio with a favorable mix of loan types, maturities and yields. 
 
The Company augments organic growth with opportunistic acquisitions. Between fiscal 2002 and October 2013, the Company completed seven acquisitions, including: National Bank of Florida in 2002; Ellenville National Bank in 2004; Warwick Community Bancorp in 2005; a branch office of HSBC Bank USA in 2005; Hudson Valley Investment Advisors in 2007; Gotham Bank of New York in August 2012; and Legacy Sterling on October 31, 2013. These acquisitions have supported the expansion of the Company into attractive markets and diversified businesses. See additional disclosure of our acquisitions in Note 2. “Acquisitions” to the consolidated financial statements.

On November 5, 2014, the Company announced its pending acquisition of Hudson Valley Holding Corp. which is detailed previously in this section.

Competition
The greater New York metropolitan region is a highly competitive market area with a concentration of financial institutions, many of which are significantly larger institutions with greater financial resources than us, and many of which are our competitors to varying degrees. Our competition for loans comes principally from commercial banks, savings banks, mortgage banking companies, credit unions, insurance companies and other financial services companies. Our most direct competition for deposits has historically come from commercial banks, savings banks and credit unions. We face additional competition for deposits from non-depository competitors such as mutual funds, securities and brokerage firms and insurance companies. We have emphasized relationship banking and the advantage of local decision-making in our banking business. We do not rely on any individual, group, or entity for a material portion of our deposits. Net interest income could be adversely affected should competitive pressures cause us to increase the interest rates paid on deposits in order to maintain our market share.

Employees
As of September 30, 2014, we had 836 full-time equivalent employees. The employees are not represented by a collective bargaining unit and we consider our relationship with our employees to be good.

Supervision and Regulation

General
Sterling Bancorp and Sterling National Bank are subject to extensive regulation under federal and state laws. The regulatory framework is intended primarily for the protection of depositors, federal deposit insurance funds and the banking system as a whole and not for the protection of stockholders and creditors.

Significant elements of the laws and regulations applicable to the Company and the Bank are described below. The description is qualified in its entirety by reference to the full text of the statutes, regulations and policies that are described. Also, such statutes, regulations and

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policies are continually under review by Congress and state legislatures and federal and state regulatory agencies. A change in statutes, regulations or regulatory policies applicable to Sterling and its subsidiaries could have a material effect on the business, financial condition and results of operations of the Company.  While the Bank currently has less than $10 billion in assets, after the completion of the HVB Merger, the Bank’s total assets could exceed $10 billion, thus subjecting it to additional supervision and regulation, including by the Consumer Financial Protection Bureau (“CFPB”), with such additional supervision and regulation discussed throughout this section.

Regulatory Reforms
The Dodd-Frank Act significantly restructures the financial regulatory regime in the United States, and will continue to affect, into the immediate future, the lending and investment activities and general operations of depository institutions and their holding companies. This will particularly be the case for the Company and the Bank if, as anticipated, the Bank’s total assets exceed $10 billion as a result of the HVB Merger.
The Dodd-Frank Act made many changes in banking regulation, including:
forming the CFPB with broad powers to adopt and enforce consumer protection regulations;
the standard maximum amount of deposit insurance per customer was permanently increased to $250,000;
the assessment base for determining deposit insurance premiums has been expanded from domestic deposits to average assets minus average tangible equity; and
the Federal Reserve Board (the “FRB”) has imposed on financial institutions with assets of $10 billion or more a cap on the debit card interchange fees the financial institutions may charge.
In addition, the Dodd-Frank Act requires that the FRB establish minimum consolidated capital requirements for bank holding companies that are as stringent as those required for insured depository institutions, and that the components of Tier 1 capital be restricted to capital instruments that are currently considered to be Tier 1 capital for insured depository institutions. In addition, the proceeds of trust preferred securities will be excluded from Tier 1 capital unless (i) such securities are issued by bank holding companies with assets of less than $500 million, or (ii) such securities were issued prior to May 19, 2010 by bank or savings and loan holding companies with assets of less than $15 billion.

Many of the provisions of the Dodd-Frank Act are not yet effective. The Dodd-Frank Act requires various federal agencies to promulgate numerous and extensive implementing regulations over the next several years. Although it is difficult to predict at this time what impact the Dodd-Frank Act and the implementing regulations will have on the Company and the Bank, they may have a material impact on operations through, among other things, heightened regulatory supervision and increased compliance costs. The Company continues to analyze the impact of rules adopted under the Dodd-Frank Act on the Company’s business. However, the full impact will not be known until the rules, and other regulatory initiatives that overlap with the rules, are finalized and their combined impacts can be understood.

Regulatory Agencies
Sterling Bancorp is a legal entity separate and distinct from Sterling National Bank and its other subsidiaries. As bank and a financial holding company, Sterling Bancorp is regulated under the Bank Holding Company Act of 1956, as amended (“BHC Act”), and its subsidiaries are subject to inspection, examination and supervision by the FRB as its primary federal regulator.

As a national bank, the Bank is principally subject to the supervision, examination and reporting requirements of the Office of the Comptroller of the Currency (the “OCC”), as its primary federal regulator, as well as the Federal Deposit Insurance Corporation (the “FDIC”). Insured banks, including the Bank, are subject to extensive regulations that relate to, among other things: (a) the nature and amount of loans that may be made by the Bank and the rates of interest that may be charged; (b) types and amounts of other investments; (c) branching; (d) permissible activities; (e) reserve requirements; and (f) dealings with officers, directors and affiliates. 

Bank Holding Company Activities
In general, the BHC Act limits the business of bank holding companies to banking, managing or controlling banks and other activities that the FRB has determined to be so closely related to banking as to be a proper incident thereto. In addition, bank holding companies that qualify and elect to be financial holding companies such as the Company, may engage in any activity, or acquire and retain the shares of a company engaged in any activity, that is either (i) financial in nature or incidental to such financial activity (as determined by the FRB in consultation with the Secretary of the Treasury) or (ii) complementary to a financial activity and does not pose a substantial risk to the safety and soundness of depository institutions or the financial system generally (as solely determined by the FRB), without prior approval of the FRB.

To maintain financial holding company status, a financial holding company and all of its depository institution subsidiaries must be “well capitalized” and “well managed.” A depository institution subsidiary is considered to be “well capitalized” if it satisfies the requirements for this status discussed in the section captioned “Prompt Corrective Action.” A depository institution subsidiary is considered “well

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managed” if it received a composite rating and management rating of at least “satisfactory” in its most recent examination. A financial holding company’s status will also depend upon it maintaining its status as “well capitalized” and “well managed” under applicable FRB regulations. If a financial holding company ceases to meet these capital and management requirements, the FRB’s regulations provide that the financial holding company must enter into an agreement with the FRB to comply with all applicable capital and management requirements. Until the financial holding company returns to compliance, the FRB may impose limitations or conditions on the conduct of its activities, and the company may not commence any of the broader financial activities permissible for financial holding companies or acquire a company engaged in such financial activities without prior approval of the FRB. If the company does not return to compliance within 180 days, the FRB may require divestiture of the holding company’s depository institutions.

In order for a financial holding company to commence any new activity permitted by the BHC Act or to acquire a company engaged in any new activity permitted by the BHC Act, each insured depository institution subsidiary of the financial holding company must have received a rating of at least “satisfactory” in its most recent examination under the Community Reinvestment Act.

The FRB has the power to order any bank holding company or its subsidiaries to terminate any activity or to terminate its ownership or control of any subsidiary when the FRB has reasonable grounds to believe that continuation of such activity or such ownership or control constitutes a serious risk to the financial soundness, safety or stability of any bank subsidiary of the bank holding company.

The BHC Act, the Bank Merger Act, and other federal and state statutes regulate acquisitions of banks and banking companies. The BHC Act requires the prior approval of the FRB for the direct or indirect acquisition by the Company of more than 5% of the voting shares or substantially all of the assets of a bank or bank holding company. Under the Bank Merger Act, the prior approval of the FRB or other appropriate bank regulatory authority is required for the Bank to merge with another bank or purchase the assets or assume the deposits of another bank. In reviewing applications seeking approval of merger and acquisition transactions, the bank regulatory authorities will consider, among other things, the competitive effect and public benefits of the transactions, the capital position of the combined organization, the risks to the stability of the U.S. banking or financial system, the applicant’s performance record under the Community Reinvestment Act and fair housing laws and the effectiveness of the subject organizations in combating money laundering activities.

Capital Requirements
As a bank holding company, the Company is subject to consolidated regulatory capital requirements administered by the FRB. The Bank is subject to similar capital requirements administered by the OCC. The federal regulatory authorities’ risk-based capital guidelines are based upon the 1988 capital accord (“Basel I”) of the Basel Committee, which are intended to ensure that banking organizations have adequate capital given the risk levels of assets and off-balance sheet financial instruments. Under the requirements, banking organizations are required to maintain minimum ratios for Tier 1 capital and total capital to risk-weighted assets (including certain off-balance sheet items, such as letters of credit). For purposes of calculating the ratios, a banking organization’s assets and some of its specified off-balance sheet commitments and obligations are assigned to various risk categories. A banking organization’s capital, in turn, is classified in tiers, depending on type:

Core Capital (Tier 1)
Currently, Tier 1 capital includes common equity, retained earnings, qualifying noncumulative perpetual preferred stock, minority interests in equity accounts of consolidated subsidiaries, and, under existing standards, a limited amount of qualifying trust preferred securities, and qualifying cumulative perpetual preferred stock at the holding company level, less goodwill, most intangible assets and certain other assets.

Supplementary Capital (Tier 2)
Currently, Tier 2 capital includes, among other things, perpetual preferred stock not meeting the Tier 1 definition, qualifying mandatory convertible debt securities, qualifying subordinated debt, and allowances for loan and lease losses, subject to limitations.

Under the existing risk-based capital rules, the Company and the Bank are currently required to maintain Tier 1 capital and total capital (the sum of Tier 1 and Tier 2 capital) equal to at least 4.0% and 8.0%, respectively, of its total risk-weighted assets (including various off-balance-sheet items, such as standby letters of credit). For a depository institution to be considered “well capitalized,” its Tier 1 and total capital ratios must be at least 6.0% and 10.0% on a risk-adjusted basis, respectively.

The elements currently comprising Tier 1 capital and Tier 2 capital and the minimum Tier 1 capital and total capital ratios may in the future be subject to change, as discussed in more detail below.
  
Bank holding companies and banks are also required to comply with minimum leverage ratio requirements. The leverage ratio is the ratio of a banking organization’s Tier 1 capital to its total adjusted quarterly average assets (as defined for regulatory purposes). The requirements

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necessitate a minimum leverage ratio of 3.0% for financial holding companies and banking organizations that have the highest supervisory rating. All other banking organizations are required to maintain a minimum leverage ratio of 4.0%, unless a different minimum is specified by an appropriate regulatory authority. For a depository institution to be considered “well capitalized,” its leverage ratio must be at least 5.0%. The bank regulatory agencies have encouraged banking organizations to operate with capital ratios substantially in excess of the stated ratios required to maintain “well capitalized” status. In light of the foregoing, the Company and the Bank expect that they will maintain capital ratios in excess of well capitalized requirements.

Prompt Corrective Action
The Federal Deposit Insurance Act (“FDIA”) requires, among other things, the federal banking agencies to take “prompt corrective action” in respect of depository institutions that do not meet minimum capital requirements. The FDIA includes the following five capital tiers: “well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized” and “critically undercapitalized.” A depository institution’s capital tier will depend upon how its capital levels compare with various relevant capital measures and certain other factors, as established by regulation. The relevant capital measures are the total capital ratio, the Tier 1 capital ratio and the leverage ratio.

Currently, a depository institution will be (i) “well capitalized” if the institution has a total risk-based capital ratio of 10.0% or greater, a Tier 1 risk-based capital ratio of 6.0% or greater, and a leverage ratio of 5.0% or greater, and is not subject to any regulatory order agreement or written directive to meet and maintain a specific capital level for any capital measure; (ii) “adequately capitalized” if the institution has a total risk-based capital ratio of 8.0% or greater, a Tier 1 risk-based capital ratio of 4.0% or greater, and a leverage ratio of 4.0% or greater and is not “well capitalized”; (iii) “undercapitalized” if the institution has a total risk-based capital ratio that is less than 8.0%, a Tier 1 risk-based capital ratio of less than 4.0% or a leverage ratio of less than 4.0%; (iv) “significantly undercapitalized” if the institution has a total risk-based capital ratio of less than 6.0%, a Tier 1 risk-based capital ratio of less than 3.0% or a leverage ratio of less than 3.0%; and (v) “critically undercapitalized” if the institution’s tangible equity is equal to or less than 2.0% of total assets. An institution may be downgraded to, or deemed to be in, a capital category that is lower than indicated by its capital ratios if it is determined to be in an unsafe or unsound condition or if it receives an unsatisfactory examination rating with respect to certain matters. A bank’s capital category is determined solely for the purpose of applying prompt corrective action regulations, and the capital category may not constitute an accurate representation of the bank’s overall financial condition or prospects for other purposes.

The FDIA generally prohibits a depository institution from making any capital distributions (including payment of a dividend) or paying any management fee to its parent holding company if the depository institution would thereafter be “undercapitalized.” “Undercapitalized” institutions are subject to growth limitations and are required to submit a capital restoration plan. The agencies may not accept such a plan without determining, among other things, that the plan is based on realistic assumptions and is likely to succeed in restoring the depository institution’s capital. In addition, for a capital restoration plan to be acceptable, the depository institution’s parent holding company must guarantee that the institution will comply with such capital restoration plan. The bank holding company must also provide appropriate assurances of performance. The aggregate liability of the parent holding company is limited to the lesser of (i) an amount equal to 5.0% of the depository institution’s total assets at the time it became undercapitalized and (ii) the amount which is necessary (or would have been necessary) to bring the institution into compliance with all capital standards applicable with respect to such institution as of the time it fails to comply with the plan. If a depository institution fails to submit an acceptable plan, it is treated as if it is “significantly undercapitalized.”

“Significantly undercapitalized” depository institutions may be subject to a number of requirements and restrictions, including orders to sell sufficient voting stock to become “adequately capitalized,” requirements to reduce total assets, and cessation of receipt of deposits from correspondent banks. “Critically undercapitalized” institutions are subject to the appointment of a receiver or conservator.
The appropriate federal banking agency may, under certain circumstances, reclassify a well-capitalized insured depository institution as adequately capitalized. The FDIA provides that an institution may be reclassified if the appropriate federal banking agency determines (after notice and opportunity for hearing) that the institution is in an unsafe or unsound condition or deems the institution to be engaging in an unsafe or unsound practice.

The appropriate agency is also permitted to require an adequately capitalized or undercapitalized institution to comply with the supervisory provisions as if the institution were in the next lower category (but not treat a significantly undercapitalized institution as critically undercapitalized) based on supervisory information other than the capital levels of the institution.

Sterling believes that, as of September 30, 2014, its bank subsidiary, Sterling National Bank, was “well capitalized” based on the aforementioned ratios. For further information regarding the capital ratios and leverage ratio of the Company and the Bank, see the discussion under the section captioned “Capital and Liquidity” included in Item 7. “Management’s Discussion and Analysis of Financial

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Condition and Results of Operations” and Note 14. “Stockholder’s Equity - Regulatory Capital Requirements” in the notes to consolidated financial statements included in Item 8. “Financial Statements and Supplementary Data”, elsewhere in this report.

Basel III Capital Rules
In July 2013, the Company’s and the Bank’s primary federal regulators, the FRB and the OCC, respectively, approved final rules known as the “Basel III Capital Rules” that substantially revise the risk-based capital and leverage capital requirements applicable to bank holding companies and depository institutions with total consolidated assets of $500 million or more, including the Company and the Bank. The Basel III Capital Rules address the components of capital and other issues affecting the numerator in banking institutions’ regulatory capital ratios. Basel III Capital Rules also implement the requirements of Section 939A of the Dodd-Frank Act to remove references to credit ratings from the federal banking agencies’ rules. The Basel III Capital Rules will come into effect for the Company and the Bank on January 1, 2015 (subject to a phase-in period).
 
The Basel III Capital Rules, among other things, (i) introduce as a new capital measure “Common Equity Tier 1” (“CET1”), (ii) specify that Tier 1 capital consists of CET1 and “Additional Tier 1 capital” instruments meeting specified requirements, (iii) define CET1 narrowly by requiring that most adjustments to regulatory capital measures be made to CET1 and not to the other components of capital and (iv) expand the scope of the adjustments as compared to existing regulations. CET1 capital consists of common stock instruments that meet the eligibility criteria in the final rules, retained earnings, accumulated other comprehensive income and common equity Tier 1 minority interest.
 
When fully phased-in on January 1, 2019, Basel III Capital Rules require banking organizations to maintain (i) a minimum ratio of CET1 to risk-weighted assets of at least 4.5%, plus a 2.5% “capital conservation buffer” (which is added to the 4.5% CET1 ratio as that buffer is phased-in, effectively resulting in a minimum ratio of CET1 to risk-weighted assets of at least 7.0% upon full implementation), (ii) a minimum ratio of Tier 1 capital to risk-weighted assets of at least 6.0%, plus the capital conservation buffer (which is added to the 6.0% Tier 1 capital ratio as that buffer is phased-in, effectively resulting in a minimum Tier 1 capital ratio of 8.5% upon full implementation), (iii) a minimum ratio of total capital (that is, Tier 1 plus Tier 2 capital) to risk-weighted assets of at least 8.0%, plus the capital conservation buffer (which is added to the 8.0% total capital ratio as that buffer is phased-in, effectively resulting in a minimum total capital ratio of 10.5% upon full implementation) and (iv) as a newly adopted international standard, a minimum leverage ratio of 4.0%, calculated as the ratio of Tier 1 capital to adjusted average consolidated assets.
  
The aforementioned capital conservation buffer is designed to absorb losses during periods of economic stress. Banking institutions with a ratio of CET1 to risk-weighted assets above the minimum but below the conservation buffer will face limitations on the payment of dividends, common stock repurchases and discretionary cash payments to executive officers based on the amount of the shortfall.

With respect to the Bank, the Basel III Capital Rules also revise the “prompt corrective action” regulations pursuant to Section 38 of the Federal Deposit Insurance Act, by (i) introducing a CET1 ratio requirement at each level (other than critically undercapitalized), with the required CET1 ratio being 6.5% for well-capitalized status; (ii) increasing the minimum Tier 1 capital ratio requirement for each category, with the minimum Tier 1 risk-based capital ratio for well-capitalized status being 8.0% (as compared to the current 6.0%); and (iii) eliminating the current provision that provides that a bank with a composite supervisory rating of 1 may have a 3.0% leverage ratio and still be well-capitalized.
    
Management believes that, as of September 30, 2014, the Company and the Bank would meet all capital adequacy requirements under the Basel III Capital Rules on a fully phased-in basis if such requirements were currently effective. Requirements to maintain higher levels of capital or to maintain higher levels of liquid assets could adversely impact the Company’s net income.

Dividend Restrictions
The Company depends on funds maintained or generated by its subsidiaries, principally the Bank, for its cash requirements. Various legal restrictions limit the extent to which the Bank can pay dividends or make other distributions to the Company. All national banks are limited in the payment of dividends without the approval of the OCC to an amount not to exceed the net profits (as defined by OCC regulations) for that year-to-date combined with its retained net profits for the preceding two calendar years, less any required transfers to surplus. Federal law also prohibits national banks from paying dividends that would be greater than the bank’s undivided profits after deducting statutory bad debt in excess of the bank’s allowance for loan losses. Under the foregoing restrictions, and while maintaining its “well capitalized” status, as of September 30, 2014, the Bank could pay dividends of approximately $47.9 million to the Company, without obtaining regulatory approval. This is not necessarily indicative of amounts that may be paid or are available to be paid in future periods.
 

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Under the Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”), a depository institution, such as the Bank, may not pay dividends if payment would cause it to become undercapitalized or if it is already undercapitalized. The payment of dividends by the Company and the Bank may also be affected or limited by other factors, such as the requirement to maintain adequate capital. The appropriate federal regulatory authority is authorized to determine under certain circumstances relating to the financial condition of a bank holding company or a bank that the payment of dividends would be an unsafe or unsound practice and to prohibit such payment. The appropriate federal regulatory authorities have indicated that paying dividends that deplete a banking organization’s capital base to an inadequate level would be an unsafe and unsound banking practice and that banking organizations should generally pay dividends only out of current operating earnings.

Source of Strength Doctrine
FRB policy and federal law require bank holding companies to act as a source of financial and managerial strength to their subsidiary banks. Under this requirement, the Company is expected to commit resources to support the Bank, including at times when the Company may not be in a financial position to provide such resources. Any capital loans by a bank holding company to any of its subsidiary banks are subordinate in right of payment to depositors and to certain other indebtedness of such subsidiary banks.

Deposit Insurance
Substantially all of the deposits of the Bank are insured up to applicable limits by the Deposit Insurance Fund (“DIF”) of the FDIC and the Bank is subject to deposit insurance assessments to maintain the DIF. Due to the decline in economic conditions, the deposit insurance provided by the FDIC per account owner was raised to $250,000 for all types of accounts. That change, initially intended to be temporary, was made permanent by the Dodd-Frank Act.

As insurer, the FDIC is authorized to conduct examinations of, and to require reporting by, DIF-insured institutions. It also may prohibit any DIF-insured institution from engaging in any activity the FDIC determines by regulation or order to pose a serious threat to the DIF. The FDIC also has the authority to take enforcement actions against insured institutions. Under the Federal Deposit Insurance Act, as amended (“FDIA”), the FDIC may terminate deposit insurance upon a finding that the institution has engaged in unsafe and 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.

Under the FDIC’s risk-based assessment system, insured institutions are assigned to one of four risk categories based upon supervisory evaluations, regulatory capital level, and certain other factors, with less risky institutions paying lower assessments. An institution’s assessment rate depends upon the category to which it is assigned and certain other factors. Historically, assessment rates ranged from seven to 77.5 basis points of each institution’s deposit assessment base. On February 7, 2011, as required by the Dodd-Frank Act, the FDIC published a final rule to revise the deposit insurance assessment system. The rule, which took effect April 1, 2011, changed the assessment base used for calculating deposit insurance assessments from deposits to total assets less tangible (Tier 1) capital. Since the new base is larger than the previous base, the FDIC also lowered assessment rates so that the rule would not significantly alter the total amount of revenue collected from the industry. The range of adjusted assessment rates is now 2.5 to 45 basis points of the new assessment base.

As the DIF reserve ratio grows, the rate schedule will be adjusted downward. Additionally, an institution must pay an additional premium equal to 50 basis points on every dollar (above 3% of an institution’s Tier 1 capital) of long-term, unsecured debt held that was issued by another insured depository institution (excluding debt guaranteed under the Temporary Liquidity Guarantee Program). The FDIC has the authority to raise or lower assessment rates, subject to limits, and to impose special additional assessments.

The Dodd-Frank Act increased the minimum target DIF ratio from 1.15% of estimated insured deposits to 1.35% of estimated insured deposits. The FDIC must seek to achieve the 1.35% ratio by September 30, 2020. Insured institutions with assets of $10 billion or more, as expected the Bank will reach after the completion of the HVB Merger, are supposed to fund the increase. The Dodd-Frank Act eliminated the 1.5% maximum fund ratio, leaving it, instead, to the discretion of the FDIC. The FDIC has recently exercised that discretion by establishing a long-range fund ratio of 2%, which could result in our paying higher deposit insurance premiums in the future.

FDIC deposit insurance expense totaled $5.0 million, $2.4 million and $2.5 million in fiscal 2014, 2013 and 2012, respectively. FDIC deposit insurance expense includes deposit insurance assessments and Financing Corporation (“FICO”) assessments related to outstanding bonds issued by FICO in the late 1980s to recapitalize the now defunct Federal Savings & Loan Insurance Corporation. The FICO assessments will continue until the bonds mature in 2017 to 2019.




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Safety and Soundness Regulations
In accordance with the FDIA, the federal banking agencies adopted guidelines establishing general standards relating to internal controls, information systems, internal audit systems, loan documentation, credit underwriting, interest rate risk exposure, asset growth, asset quality, earnings, compensation, fees and benefits. In general, the guidelines require, among other things, appropriate systems and practices to identify and manage the risks and exposures specified in the guidelines. The guidelines prohibit excessive compensation as an unsafe and unsound practice and describe compensation as excessive when the amounts paid are unreasonable or disproportionate to the services performed by an executive officer, employee, director or principal shareholder. In addition, regulations adopted by the federal banking agencies authorize the agencies to require that an institution that has been given notice that it is not satisfying any of such safety and soundness standards to submit a compliance plan. If, after being so notified, the institution fails to submit an acceptable compliance plan or fails in any material respect to implement an accepted compliance plan, the agency must issue an order directing corrective actions and may issue an order directing other actions of the types to which an undercapitalized institution is subject under the “prompt corrective action” provisions of FDIA. If the institution fails to comply with such an order, the agency may seek to enforce such order in judicial proceedings and to impose civil money penalties.

Incentive Compensation
The Dodd-Frank Act requires the federal bank regulatory agencies and the Securities and Exchange Commission (the “SEC”) to establish joint regulations or guidelines prohibiting incentive-based payment arrangements at specified regulated entities, such as the Company and the Bank, having at least $1 billion in total assets that encourage inappropriate risks by providing an executive officer, employee, director or principal shareholder with excessive compensation, fees, or benefits or that could lead to material financial loss to the entity. In addition, these regulators must establish regulations or guidelines requiring enhanced disclosure to regulators of incentive-based compensation arrangements. The agencies proposed such regulations in April 2011, but the regulations have not been finalized. If the regulations are adopted in the form initially proposed, they will impose limitations on the manner in which the Company may structure compensation for its executives.

In June 2010, the FRB, OCC and FDIC issued comprehensive final guidance on incentive compensation policies intended to ensure that the incentive compensation policies of banking organizations do not undermine the safety and soundness of such organizations by encouraging excessive risk-taking. The guidance, which covers all employees that have the ability to materially affect the risk profile of an organization, either individually or as part of a group, is based upon the key principles that a banking organization’s incentive compensation arrangements should (i) provide incentives that do not encourage risk-taking beyond the organization’s ability to effectively identify and manage risks, (ii) be compatible with effective internal controls and risk management, and (iii) be supported by strong corporate governance, including active and effective oversight by the organization’s board of directors. These three principles are incorporated into the proposed joint compensation regulations under the Dodd-Frank Act, discussed above.

The FRB will review, as part of the regular, risk-focused examination process, the incentive compensation arrangements of banking organizations, such as the Company, that are not “large, complex banking organizations.” These reviews will be tailored to each organization based on the scope and complexity of the organization’s activities and the prevalence of incentive compensation arrangements. The findings of the supervisory initiatives will be included in reports of examination. Deficiencies will be incorporated into the organization’s supervisory ratings, which can affect the organization’s ability to make acquisitions and take other actions. Enforcement actions may be taken against a banking organization if its incentive compensation arrangements, or related risk-management control or governance processes, pose a risk to the organization’s safety and soundness and the organization is not taking prompt and effective measures to correct the deficiencies.

Loans to One Borrower
The Bank generally may not make loans or extend credit to a single or related group of borrowers in excess of 15% of unimpaired capital and surplus. An additional amount may be loaned, up to 10% of unimpaired capital and surplus, if the loan is secured by readily marketable collateral, which generally does not include real estate. As of September 30, 2014, the Bank was in compliance with the loans-to-one-borrower limitations.

Community Reinvestment Act 
The Community Reinvestment Act of 1977 (“CRA”) requires depository institutions to assist in meeting the credit needs of their market areas consistent with safe and sound banking practice. Under the CRA, each depository institution is required to help meet the credit needs of its market areas by, among other things, providing credit to low- and moderate-income individuals and communities. Depository institutions are periodically examined for compliance with the CRA and are assigned ratings that must be publicly disclosed. In order for a financial holding company to commence any new activity permitted by the BHC Act, or to acquire any company engaged in any new activity permitted by the BHC Act, each insured depository institution subsidiary of the financial holding company must have received

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a rating of at least “satisfactory” in its most recent examination under the CRA. Furthermore, banking regulators take into account CRA ratings when considering approval of certain applications. The Bank received a rating of “satisfactory” in its most recent CRA exam.

Financial Privacy
The federal banking regulators adopted rules that limit the ability of banks and other financial institutions to disclose non-public information about consumers to nonaffiliated third parties. These limitations require disclosure of privacy policies to consumers and, in some circumstances, allow consumers to prevent disclosure of certain personal information to a nonaffiliated third party. These regulations affect how consumer information is transmitted through diversified financial companies and conveyed to outside vendors.

The Bank is also subject to regulatory guidelines establishing standards for safeguarding customer information. These guidelines describe the federal banking agencies’ expectations for the creation, implementation and maintenance of an information security program, which would include administrative, technical and physical safeguards appropriate to the size and complexity of the institution and the nature and scope of its activities.

Anti-Money Laundering and the USA Patriot Act   
A major focus of governmental policy on financial institutions in recent years has been aimed at combating money laundering and terrorist financing. The USA PATRIOT Act of 2001 (the “USA Patriot Act”) substantially broadened the scope of United States anti-money laundering laws and regulations by imposing significant new compliance and due diligence obligations of financial institutions, creating new crimes and penalties and expanding the extra-territorial jurisdiction of the United States. Failure of a financial institution to maintain and implement adequate programs to combat money laundering and terrorist financing, or to comply with all of the relevant laws or regulations, could have serious legal and reputational consequences for the institution, including causing applicable bank regulatory authorities not to approve merger or acquisition transactions when regulatory approval is required or to prohibit such transactions even if approval is not required.

Stress Testing
On October 9, 2012, the FDIC and the FRB issued final rules requiring certain large insured depository institutions and bank holding companies to conduct annual capital-adequacy stress tests. Recognizing that banks and their parent holding companies may have different primary federal regulators, the FDIC and FRB have attempted to ensure that the standards of the final rules are consistent and comparable in the areas of scope of application, scenarios, data collection, reporting, and disclosure. To implement section 165(i) of the Dodd-Frank Act, the rules would apply to FDIC-insured state non-member banks and bank holding companies with total consolidated assets of more than $10 billion (“covered institutions”). While the Bank currently has less than $10 billion in assets, after completion of the HVB Merger, the Bank’s total assets could exceed $10 billion. The final rule requirement for public disclosure of a summary of the stress testing results for $10 billion to $50 billion covered institutions is being implemented starting with the 2014 stress test, with the disclosure occurring by June 30, 2015. The final rules define a stress test as a process to assess the potential impact of economic and financial scenarios on the consolidated earnings, losses and capital of the covered institution over a set planning horizon, taking into account the current condition of the covered institution and its risks, exposures, strategies and activities.
Under the rules, each covered institution with between $10 billion and $50 billion in assets would be required to conduct annual stress tests using the bank’s and the bank holding company’s financial data as of September 30 of that year to assess the potential impact of different scenarios on the consolidated earnings and capital of that bank and its holding company and certain related items over a nine-quarter forward-looking planning horizon, taking into account all relevant exposures and activities. On or before March 31 of each year, each covered institution, including the Bank and the Company, would be required to report to the FDIC and the FRB, respectively, in the manner and form prescribed in the rules, the results of the stress tests conducted by the covered institution during the immediately preceding year. Based on the information provided by a covered institution in the required reports to the FDIC and the FRB, as well as other relevant information, the FDIC and FRB would conduct an analysis of the quality of the covered institution’s stress test processes and related results. The FDIC and FRB envision that feedback concerning such analysis would be provided to a covered institution through the supervisory process. Consistent with the requirements of the Dodd-Frank Act, the rule would require each covered institution to publish a summary of the results of its annual stress tests within 90 days of the required date for submitting its stress test report to the FDIC and the FRB.

Volcker Rule
The Dodd-Frank Act amended the BHC Act to require the federal bank regulatory agencies to adopt rules that prohibit banks and their affiliates from engaging in proprietary trading and investing in and sponsoring certain unregistered investment companies (defined as hedge funds and private equity funds), commonly referred to as the “Volcker Rule.”  The Volcker Rule also requires covered banking entities to implement certain compliance programs, and the complexity and rigor of such programs is determined based on the asset size of the covered company. Upon completion of the HVB Merger, we will be subject to heightened compliance requirements as a covered

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banking entity with over $10 billion in assets. The rules were effective April 1, 2014, but the conformance period has been extended from its statutory end date of July 21, 2014 until July 21, 2015. We continue to evaluate the impact of the Volcker Rule and the final rules adopted by the Federal Reserve thereunder, and whether it will require the Bank to divest any securities in its portfolio as a result of the Volcker Rule. The Bank may incur costs to adopt additional policies and systems to ensure compliance with the Volcker Rule.

Durbin Amendment
The Dodd-Frank Act included provisions which restrict interchange fees to those which are “reasonable and proportionate” for certain debit card issuers and limits the ability of networks and issuers to restrict debit card transaction routing. This statutory provision is known as the “Durbin Amendment.”  The Federal Reserve issued final rules implementing the Durbin Amendment on June 29, 2011.  In the final rules, interchange fees for debit card transactions were capped at $0.21 plus five basis points in order to be eligible for a safe harbor such that the fee is conclusively determined to be reasonable and proportionate.  The interchange fee restrictions contained in the Durbin Amendment, and the rules promulgated thereunder, only apply to debit card issuers with $10 billion or more in total consolidated assets, which we expect the Bank will reach after the completion of the HVB Merger.

Transactions with Affiliates
Transactions between the Bank and its affiliates are regulated by the FRB under sections 23A and 23B of the Federal Reserve Act and related FRB regulations. These regulations limit the types and amounts of covered transactions engaged in by the Bank and generally require those transactions to be on an arm’s-length basis. The term “affiliate” is defined to mean any company that controls or is under common control with the Bank and includes the Company and its non-bank subsidiaries. “Covered transactions” include a loan or extension of credit, as well as a purchase of securities issued by an affiliate, a purchase of assets (unless otherwise exempted by the FRB) from the affiliate, certain derivative transactions that create a credit exposure to an affiliate, the acceptance of securities issued by the affiliate as collateral for a loan, and the issuance of a guarantee, acceptance or letter of credit on behalf of an affiliate. In general, these regulations require that any such transaction by the Bank (or its subsidiaries) with an affiliate must be secured by designated amounts of specified collateral and must be limited to certain thresholds on an individual and aggregate basis.

Federal law also limits the Bank’s authority to extend credit to its directors, executive officers and 10% shareholders, as well as to entities controlled by such persons. Among other things, extensions of credit to insiders are required to be made on terms that are substantially the same as, and follow credit underwriting procedures that are not less stringent than, those prevailing for comparable transactions with unaffiliated persons. Also, the terms of such extensions of credit may not involve more than the normal risk of repayment or present other unfavorable features and may not exceed certain limitations on the amount of credit extended to such persons, individually and in the aggregate, which limits are based, in part, on the amount of the Bank’s capital.

Federal Home Loan Bank System
The Bank is a member of the Federal Home Loan Bank System, which consists of 12 regional Federal Home Loan Banks. The Federal Home Loan Bank System provides a central credit facility primarily for member institutions. As a member of the Federal Home Loan Bank of New York (“FHLBNY”), the Bank is required to acquire and hold shares of capital stock of the FHLBNY in an amount at least equal to the sum of the membership stock purchase requirement, determined on an annual basis at the end of each calendar year, and the activity-based stock purchase requirement, determined on a daily basis. For the Bank, the membership stock purchase requirement is 0.15% of the Mortgage-Related Assets, as defined by the FHLBNY, which consists principally of residential mortgage loans and mortgage-backed securities, held by the Bank. The activity-based stock purchase requirement is equal to the sum of: (1) a specified percentage ranging from 4.0% to 5.0%, which for the Bank is 4.5%, of outstanding borrowings from the FHLBNY; (2) a specified percentage ranging from 4.0% to 5.0%, which for the Bank is inapplicable, of the outstanding principal balance of Acquired Member Assets, as defined by the FHLBNY, and delivery commitments for Acquired Member Assets; (3) a specified dollar amount related to certain off-balance sheet items, which for the Bank is inapplicable; and (4) a specified percentage ranging from 0% to 5%, which for the Bank is inapplicable, of the carrying value on the FHLBNY’s balance sheet of derivative contracts between the FHLBNY and the Bank. The FHLBNY can adjust the specified percentages and dollar amount from time to time within the ranges established by the FHLBNY capital plan. As of September 30, 2014, the Bank was in compliance with the minimum stock ownership requirement.

Federal Reserve System
FRB regulations require depository institutions to maintain cash reserves against their transaction accounts (primarily NOW and demand deposit accounts). A reserve of 3% is to be maintained against aggregate transaction accounts between $13.3 million and $89.0 million (subject to adjustment by the FRB) plus a reserve of 10% (subject to adjustment by the FRB between 8% and 14%) against that portion of total transaction accounts in excess of $89.0 million. The first $13.3 million of otherwise reservable balances (subject to adjustment by the FRB) is exempt from the reserve requirements. The Bank is in compliance with the foregoing requirements.



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Consumer Protection Regulations
The Bank is subject to federal consumer protection statutes and regulations promulgated under those laws, including, but not limited to the following:

Truth-In-Lending Act and Regulation Z, governing disclosures of credit terms to consumer borrowers;
Home Mortgage Disclosure Act and Regulation C, requiring financial institutions to provide certain information about home mortgage and refinanced loans;
Equal Credit Opportunity Act and Regulation B, prohibiting discrimination on the basis of race, creed, or other prohibited factors in extending credit;
Fair Credit Reporting Act and Regulation V, governing the provision of consumer information to credit reporting agencies and the use of consumer information; and
Fair Debt Collection Act, governing the manner in which consumer debts may be collected by collection agencies.

Deposit operations are also subject to:

The Truth in Savings Act and Regulation DD, which requires disclosure of deposit terms to consumers;
Regulation CC, which relates to the availability of deposit funds to consumers;
The Right to Financial Privacy Act, which imposes a duty to maintain the confidentiality of consumer financial records and prescribes procedures for complying with administrative subpoenas of financial records; and
Electronic Funds Transfer Act and Regulation E, governing automatic deposits to, and withdrawals from, deposit accounts and customers’ rights and liabilities arising from the use of automated teller machines and other electronic banking services.
In addition, the Bank may be subject to certain state laws and regulations designed to protect consumers.
Many of the foregoing laws and regulations are subject to change resulting from the provisions in the Dodd-Frank Act, which in many cases calls for revisions to implementing regulations. In addition, oversight responsibilities of these and other consumer protection laws and regulations will, in large measure, transfer from the Bank’s primary regulators to the CFPB, which will have supervisory authority over the Bank if, as anticipated, the Bank’s assets exceed $10 billion after the completion of the HVB Merger. We cannot predict the effect that being regulated by the CFPB, or any new or revised regulations that may result from its establishment, will have on our businesses.

Consumer Financial Protection Bureau
Created under the Dodd-Frank Act, and given extensive implementation and enforcement powers over all banks with over $10 billion in assets, which the Bank expects to reach with the HVB Merger, the CFPB has broad rulemaking authority for a wide range of consumer financial laws that apply to all banks including, among other things, the authority to prohibit “unfair, deceptive, or abusive” acts and practices. Abusive acts or practices are defined as those that (1) materially interfere with a consumer’s ability to understand a term or condition of a consumer financial product or service, or (2) take unreasonable advantage of a consumer’s (a) lack of financial savvy, (b) inability to protect himself in the selection or use of consumer financial products or services, or (c) reasonable reliance on a covered entity to act in the consumer’s interests. The CFPB has the authority to investigate possible violations of federal consumer financial law, hold hearings and commence civil litigation. The CFPB can issue cease-and-desist orders against banks and other entities that violate consumer financial laws. The CFPB may also institute a civil action against an entity in violation of federal consumer financial law in order to impose a civil penalty or an injunction.


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ITEM 1A. Risk Factors

Changes in laws, government regulation and monetary policy may have a material effect on our results of operations
Financial institutions are the subject of significant legislative and regulatory laws, rules and regulations and may be subject to further additional legislation, rulemaking or regulation in the future, none of which is within our control. Significant new laws, rules or regulations or changes in, or repeals of, existing laws, rules or regulations, including, but not limited to, those with respect to federal and state taxation, may cause our results of operations to differ materially. In addition, the costs and burden of compliance have significantly increased and could adversely affect our ability to operate profitably. Further, federal monetary policy significantly affects credit conditions for the Bank, as well as for our borrowers, particularly as implemented through the Federal Reserve System, primarily through open market operations in U.S. government securities, the discount rate for bank borrowings and reserve requirements. A material change in any of these conditions could have a material impact on the Bank or our borrowers, and therefore on our results of operations.

Recent legislative and regulatory initiatives to support the financial services industry have been coupled with numerous restrictions and requirements that could detrimentally affect our business.
The Dodd-Frank Act and the rules and regulations promulgated thereunder have and continue to significantly impact the United States bank regulatory structure and affect the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies.

The Dodd-Frank Act broadens the base for FDIC insurance assessments. The FDIC insures deposits at FDIC-insured financial institutions, including the Bank. The FDIC charges insured financial institutions premiums to maintain the DIF at a specific level. In addition, the Dodd-Frank Act increased the minimum target DIF ratio from 1.15% of estimated insured deposits to 1.35% of estimated insured deposits and the FDIC must seek to achieve the 1.35% ratio by September 30, 2020. The FDIC has issued regulations to implement these provisions of the Dodd-Frank Act. It has, in addition, established a higher reserve ratio of 2% as a long-term goal beyond what is required by statute, although there is no implementation deadline for the 2% ratio. The FDIC may increase the assessment rates or impose additional special assessments in the future to keep the DIF at the statutory target level. The Bank’s FDIC insurance premiums increased substantially beginning in 2009, and we continue to expect to pay high premiums in the future. Any increase in our FDIC premiums could have a materially adverse effect on the Bank’s financial condition, results of operations and its ability to pay dividends.

Additionally, on December 10, 2013, five financial regulatory agencies, including the Bank’s primary federal regulator, the OCC, adopted final rules implementing a provision of the Dodd-Frank Act, commonly referred to as the Volcker Rule. The Volcker Rule prohibits banking entities from, among other things, engaging in short-term proprietary trading of securities, derivatives, commodity futures and options on these instruments for their own account; or owning, sponsoring, or having certain relationships with hedge funds or private equity funds, referred to as “covered funds.” The Volcker Rule also requires covered banking entities to implement certain compliance programs, policies and procedures. The complexity and rigor of such programs is determined based on the asset size of the covered company. Upon completion of the HVB Merger, we will be subject to heightened compliance requirements as a covered banking entity with over $10 billion in assets. The rules were effective April 1, 2014, but the conformance period has been extended from its statutory end date of July 21, 2014 until July 21, 2015. We are currently evaluating the Volcker Rule. If we are required to divest any securities in our portfolio, hire additional compliance or personnel, design and implement additional internal controls or incur other significant expenses as a result of the Volcker Rule, it could result in impairments that could materially adversely affect our financial condition, results of operations and our ability to pay dividends or repurchase shares.

The Dodd-Frank Act also significantly impacts the various consumer protection laws, rules and regulations applicable to financial institutions. First, it rolls back the federal preemption of state consumer protection laws that was enjoyed by national banks by (1) requiring that a state consumer financial law prevent or significantly interfere with the exercise of a national bank’s powers before it can be preempted, (2) mandating that any preemption decision be made on a case by case basis rather than a blanket rule, and (3) ending the applicability of preemption to subsidiaries and affiliates of national banks. As a result, we may now be subject to state consumer protection laws in each state where we do business, and those laws may be interpreted and enforced differently in each state. In addition, the Dodd-Frank Act created the CFPB, which has assumed responsibility for supervising financial institutions which have assets of $10 billion or more for their compliance with the principal federal consumer protection laws, such as the Truth in Lending Act, the Equal Credit Opportunity Act, the Real Estate Settlement Procedures Act and the Truth in Savings Act, among others (institutions which have assets of $10 billion or less will continue to be supervised in this area by their primary federal regulators) . While the Bank currently has less than $10 billion in assets, after the completion of the HVB Merger we believe that the Bank’s total assets will exceed $10 billion, thus making it subject to the CFPB’s supervision. Thus, in addition to a variety of new consumer protection laws, rules and regulations that we may be subject to, the Bank may also be subject to a new agency with evolving regulations and practices.


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The scope and impact of many of the Dodd-Frank Act provisions, including the authority provided to the CFPB, will continue to be determined over time as rules and regulations are issued and become effective. As a result, we cannot predict the ultimate impact of the Dodd-Frank Act on us at this time, including the extent to which it could increase costs or limit our ability to pursue business opportunities in an efficient manner, or otherwise adversely affect our business, financial condition, results of operations and our ability to pay dividends or repurchase shares. However, it is expected that at a minimum they will increase our operating and compliance costs. Compliance with these requirements may necessitate that we hire additional compliance or other personnel, design and implement additional internal controls, or incur other significant expenses, any of which could have a material adverse effect on our business, financial condition or results of operations and our ability to pay dividends or repurchase shares.

We are subject to extensive regulatory oversight.
We and our subsidiaries are subject to extensive supervision and regulation. The Company is supervised and regulated by the Federal Reserve and the Bank is supervised and regulated by the OCC. The application of laws, rules and regulations may vary as administered by the Federal Reserve and the OCC. In addition, the Company is subject to consolidated capital requirements and must serve as a source of strength to the Bank. 

As a result, we are limited in the manner in which we conduct our business, undertake new investments and activities and obtain financing. This regulatory structure is designed primarily for the protection of the DIF and our depositors, as well as other consumers and not to benefit our shareholders. This 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 capital levels, the timing and amount of dividend payments, the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes, all of which can have a material adverse effect on our financial condition, results of operations and our ability to pay dividends or repurchase shares. Our regulators have also intensified their focus on bank lending criteria and controls, and on the USA PATRIOT Act’s anti-money laundering and Bank Secrecy Act compliance requirements. There is also increased scrutiny of our compliance with the rules enforced by the Office of Foreign Assets Control. In order to comply with laws, rules, regulations, guidelines and examination procedures in the anti-money laundering area, we have been required to adopt new policies and procedures and to install new systems. We cannot be certain that the policies, procedures and systems we have in place to ensure compliance are without error and there is no assurance that in every instance we are in full compliance with these requirements.

Our failure to comply with applicable laws, rules and regulations could result in a range of sanctions, legal proceedings and enforcement actions, including the imposition of civil monetary penalties, formal agreements and cease and desist orders. In addition, the OCC and the FDIC have specific authority to take “prompt corrective action,” depending on our capital levels. For example, currently, we are considered “well-capitalized” for prompt corrective action purposes. If we are designated by the OCC as “adequately capitalized,” we would become subject to additional restrictions and limitations, such as the Bank’s ability to take brokered deposits becoming limited. If we were to be designated by the OCC in one of the lower capital levels (such as “undercapitalized,” “significantly undercapitalized” or “critically undercapitalized”) we would be required to raise additional capital and also would be subject to progressively more severe restrictions on our operations, management and capital distributions; replacement of senior executive officers and directors; and, if we became “critically undercapitalized,” to the appointment of a conservator or receiver.

In addition, and as mentioned above in “Risk Factors - Recent legislative and regulatory initiatives to support the financial services industry have been coupled with numerous restrictions and requirements that could detrimentally affect our business,” the Dodd-Frank Act and its implementing regulations impose various additional requirements on bank holding companies with $10 billion or more in total assets, including compliance with portions of the Federal Reserve’s enhanced prudential oversight requirements and annual stress testing requirements. Compliance with the annual stress testing requirements, part of which must be publicly disclosed, may also be misinterpreted by the market generally or our customers and, as a result, may adversely affect our stock price or our ability to retain our customers or effectively compete for new business opportunities. To ensure compliance with these heightened requirements when effective, our regulators may require us to fully comply with these requirements or take actions to prepare for compliance even before the completion of the HVB Merger, when our or the Bank’s total assets could equal or exceed $10 billion. As a result, we may incur compliance-related costs before we might otherwise be required. Our regulators may also consider our preparation for compliance with these regulatory requirements when examining our operations generally or considering any request for regulatory approval we may make, even requests for approvals on unrelated matters.

New capital rules that were recently issued generally require insured depository institutions and their holding companies to hold more capital. The impact of the new rules on our financial condition and operations is uncertain but could be materially adverse.
In 2013, the Federal Reserve, the FDIC and the OCC adopted final rules for the Basel III capital framework. These rules substantially amend the regulatory risk-based capital rules applicable to us. The rules phase in over time beginning in 2015 and will become fully effective in 2019. The rules apply to the Company as well as to the Bank. Beginning in 2015, our minimum capital requirements will be

14


(i) a common Tier 1 equity ratio of 4.5%, (ii) a Tier 1 capital (common Tier 1 capital plus Additional Tier 1 capital) of 6% and (iii) a total capital ratio of 8% (the current requirement). Beginning in 2016, a capital conservation buffer will phase in over three years, ultimately resulting in a requirement of 2.5% on top of the common Tier 1, Tier 1 and total capital requirements, resulting in a required common Tier 1 equity ratio of 7%, a Tier 1 ratio of 8.5%, and a total capital ratio of 10.5%. Failure to satisfy any of these three capital requirements will result in limits on paying dividends, engaging in share repurchases and paying discretionary bonuses. These limitations will establish a maximum percentage of eligible retained income that could be utilized for such actions.

General economic conditions in our market area could adversely affect us.
We are affected by the general economic conditions in the local markets in which we operate. When the recession began in 2008, the market experienced a significant downturn in which we saw falling home prices, rising foreclosures and an increased level of commercial and consumer delinquencies. Although economic conditions have improved, many businesses and individuals are still experiencing difficulty as a result of the recent economic downturn and protracted recovery. If economic conditions do not continue to improve, we could experience further adverse consequences, including a decline in demand for our products and services and an increase in problem assets, foreclosures and loan losses. Future economic conditions in our market will depend on factors outside of our control such as political and market conditions, broad trends in industry and finance, legislative and regulatory changes, changes in government, military and fiscal policies and inflation, any of which could negatively affect our performance and financial condition.

An inadequate allowance for loan losses would negatively impact our results of operations.
We are exposed to the risk that our customers will be unable to repay their loans according to their terms and that any collateral securing the payment of their loans will not be sufficient to avoid losses. Credit losses are inherent in the lending business and could have a material adverse effect on our operating results. Volatility and deterioration in the broader economy may also increase our risk of credit losses. The determination of an appropriate level of allowance for loan losses is an inherently uncertain process and is based on numerous assumptions. The amount of future losses is susceptible to changes in economic, operating and other conditions, including changes in interest rates, that may be beyond our control, and charge-offs may exceed current estimates. We evaluate the collectability of our loan portfolio and provide an allowance for loan losses that we believe is adequate based upon such factors as, including, but not limited to: the risk characteristics of various classifications of loans; previous loan loss experience; specific loans that have loss potential; delinquency trends; the estimated fair market value of the collateral; current economic conditions; the views of our regulators; and geographic and industry loan concentrations. If any of our evaluations are incorrect and/or borrower defaults result in losses exceeding our allowance for loan losses, our results of operations could be significantly and adversely affected. We cannot assure you that our allowance will be adequate to cover probable loan losses inherent in our portfolio.

The need to account for assets at market prices may adversely affect our results of operations.
We report certain assets, including investments and securities, at fair value. Generally, for assets that are reported at fair value we use quoted market prices or valuation models that utilize market data inputs to estimate fair value. Because we carry these assets on our books at their fair value, we may incur losses even if the assets in question present minimal credit risk. We may be required to recognize other-than-temporary impairments in future periods with respect to securities in our portfolio. The amount and timing of any impairment recognized will depend on the severity and duration of the decline in fair value of the securities and our estimation of the anticipated recovery period.

Changes in the value of goodwill and intangible assets could reduce our earnings.
The Company accounts for goodwill and other intangible assets in accordance with GAAP (as defined below), which, in general, requires that goodwill not be amortized, but rather that it be tested for impairment at least annually at the reporting unit level using the two step approach. Testing for impairment of goodwill and intangible assets is performed annually and involves the identification of reporting units and the estimation of fair values. The estimation of fair values involves a high degree of judgment and subjectivity in the assumptions used. As of September 30, 2014, the fair value of Sterling Bancorp shares exceeds the recorded book value. Changes in the local and national economy, the federal and state legislative and regulatory environments for financial institutions, the stock market, interest rates and other external factors (such as natural disasters or significant world events) may occur from time to time, often with great unpredictability, and may materially impact the fair value of publicly traded financial institutions and could result in an impairment charge at a future date.

Commercial real estate, commercial & industrial and ADC loans expose us to increased risk and earnings volatility.
We consider our commercial real estate loans, commercial & industrial loans and ADC loans to be higher risk categories in our loan portfolio. These loans are particularly sensitive to economic conditions. At September 30, 2014, our portfolio of commercial real estate loans, including multi-family loans, totaled $1.8 billion, or 38.1% of total loans, our portfolio of commercial & industrial loans totaled $2.1 billion, or 43.7% of total loans, and our portfolio of ADC loans totaled $92.1 million, or 1.9% of total loans. We plan to continue to emphasize the origination of these types of loans, other than ADC loans, which we now make only on an exception basis.

15


Commercial real estate loans generally involve a higher degree of credit risk than residential loans because they typically have larger balances and are more affected by adverse conditions in the economy. Because payments on loans secured by commercial real estate often depend on the successful operation and management of the businesses which hold the loans, repayment of such loans may be affected by factors outside the borrower’s control, such as adverse conditions in the real estate market or the economy or changes in government regulation. In the case of commercial & industrial loans, although we strive to maintain high credit standards and limit exposure to any one borrower, the collateral for these loans often consists of accounts receivable, inventory and equipment. This type of collateral typically does not yield substantial recovery in the event we need to foreclose on it and may rapidly deteriorate, disappear, or be misdirected in advance of foreclosure. This adds to the potential that our charge-offs will be more volatile than we have experienced in the past, which could significantly negatively affect our earnings in any quarter. In addition, some of our ADC loans pose higher risk levels than the levels expected at origination, as projects may stall or sell at prices lower than expected. We continue to seek pay downs on loans with or without sales activity. While this portfolio may cause us to incur additional bad debt expense even if losses are not realized, such loans only comprise 1.9% of our loan portfolio.

In addition, many of our borrowers also have more than one commercial real estate, commercial business or ADC loan outstanding with us. Consequently, an adverse development with respect to one loan or one credit relationship may expose us to significantly greater risk of loss.

Our continuing concentration of loans in our primary market area may increase our risk.
Our success depends primarily on the general economic conditions in the counties in which we conduct most of our business. Most of our loans and deposits are generated from customers primarily in the New York City metropolitan region and in Rockland and Orange Counties in New York. We also have a presence in Ulster, Sullivan, Westchester and Putnam Counties in New York and in Bergen County, New Jersey. Our expansion into New York City and continued growth in Westchester County and Bergen County has helped us diversify our geographic concentration with respect to our lending activities. Deterioration in economic conditions in our market area would adversely affect our results of operations and financial condition.

Changes in market interest rates could adversely affect our financial condition and results of operations.
Our financial condition and results of operations are significantly affected by changes in market interest rates. Our results of operations substantially depend on our net interest income, which is the difference between the interest income that we earn on our interest-earning assets and the interest expense that we pay on our interest-bearing liabilities. In recent years, our balance sheet has become more asset sensitive because our assets mature or re-price at a faster pace than our liabilities. If interest rates were to continue at existing levels or decline, net interest income would be adversely affected as asset yields would be expected to decline at faster rates than deposit or borrowing costs. A decline in net interest income may also occur, offsetting a portion or all gains in net interest income from assets re-pricing and increases in volume, if competitive market pressures limit our ability to maintain or lag deposit costs. Wholesale funding costs may also increase at a faster pace than asset re-pricing. As of September 30, 2014, we have $200.0 million in structured advances with the FHLB at an average cost of 4.23%. If interest rates were to approach or exceed this level, the FHLB may call those borrowings and offer replacement borrowings at current market rates which would be higher.

We also are subject to reinvestment risk associated with changes in interest rates. Changes in interest rates may affect the average life of loans and securities. Decreases in interest rates often result in increased prepayments of loans and securities, as borrowers refinance their loans to reduce borrowings costs. Under these circumstances, we are subject to reinvestment risk to the extent that we are unable to reinvest the cash received from such prepayments in loans or other investments that have interest rates that are comparable to the interest rates on existing loans and securities. Additionally, increases in interest rates may decrease loan demand and/or may make it more difficult for borrowers to repay adjustable rate loans.

Changes in interest rates also affect the value of our interest earning assets and in particular our securities portfolio. Generally, the value of our securities fluctuates inversely with changes in interest rates. At September 30, 2014, our available for sale securities portfolio totaled $1.1 billion. Unrealized losses on securities available for sale, net of tax, amounted to $2.8 million and are reported as part of other comprehensive income (loss), included as a separate component of stockholders’ equity. Further decreases in the fair value of securities available for sale could have an adverse effect on stockholders’ equity.

Our ability to pay dividends is subject to regulatory limitations and other limitations which may affect our ability to pay dividends to our stockholders or to repurchase our common stock.
Sterling Bancorp is a separate legal entity from its subsidiary, Sterling National Bank, and does not have significant operations of its own. The availability of dividends from the Bank is limited by various statutes and regulations. It is possible, depending upon the financial condition of the Bank and other factors, that the Bank’s regulators could assert that payment of dividends or other payments may result in an unsafe or unsound practice. In addition, under the Dodd-Frank Act, Sterling Bancorp is subjected to consolidated capital requirements

16


and must serve as a source of strength to the Bank. If the Bank is unable to pay dividends to Sterling Bancorp or Sterling Bancorp is required to retain capital or contribute capital to the Bank, we may not be able to pay dividends on our common stock or to repurchase shares of common stock.

A breach of information security could negatively affect our earnings.
Increasingly, we depend upon data processing, communication and information exchange on a variety of computing platforms and networks, and over the Internet from both internal sources and external, third-party vendors. While to date we have not been subject to material cyber-attacks or other cyber incidents, we cannot guarantee all our systems are free from vulnerability to attack, despite safeguards we and our vendors have instituted. In addition, disruptions to our vendors’ systems may arise from events that are wholly or partially beyond our and our vendors’ control (including, for example, computer viruses or electrical or telecommunications outages). If information security is breached, despite the controls we and our third-party vendors have instituted, information can be lost or misappropriated, resulting in financial losses or costs to us or damages to others. These costs or losses could materially exceed the amount of insurance coverage, if any, which would adversely affect our earnings. In addition, our reputation could be damaged which could result in loss of customers, greater difficulty in attracting new customers, or an adverse effect on the value of our common stock.

We are subject to competition from both banks and non-bank companies.
The financial services industry, including commercial banking, is highly competitive, and we encounter strong competition for deposits, loans and other financial services in our market area. Our principal competitors include commercial banks, savings banks and savings and loan associations, mutual funds, money market funds, finance companies, trust companies, insurers, leasing companies, credit unions, mortgage companies, real estate investment trusts (REITs), private issuers of debt obligations, venture capital firms, and suppliers of other investment alternatives, such as securities firms. Many of our non-bank competitors are not subject to the same degree of regulation as we are and have advantages over us in providing certain services. Many of our competitors are significantly larger than we are and have greater access to capital and other resources. Also, our ability to compete effectively is dependent on our ability to adapt successfully to technological changes within the banking and financial services industry.

Various factors may make takeover attempts more difficult to achieve.
Our Board of Directors (the “Board”) has no current intention to sell control of Sterling Bancorp. Provisions of our certificate of incorporation and bylaws, federal regulations, Delaware law and various other factors may make it more difficult for companies or persons to acquire control of Sterling Bancorp without the consent of our Board. A shareholder may want a takeover attempt to succeed because, for example, a potential acquirer could offer a premium over the then prevailing market price of our common stock. The factors that may discourage takeover attempts or make them more difficult include:

(a) Certificate of Incorporation and statutory provisions.
Provisions of the certificate of incorporation and bylaws of Sterling Bancorp and Delaware law may make it more difficult and expensive to pursue a takeover attempt that our Board opposes. These provisions also would make it more difficult to remove our current Board, or to elect new directors. These provisions also include limitations on voting rights of beneficial owners of more than 10% of our common stock, super majority voting requirements for certain business combinations, and plurality voting. Our bylaws also contain provisions regarding the timing and content of stockholder proposals and nominations and qualification for service on the Board.

(b) Required change in control payments and issuance of stock options and recognition and retention plan shares.
We have entered into employment agreements with executive officers, which require payments to be made to them in the event their employment is terminated following a change in control of Sterling Bancorp or Sterling National Bank. We have issued stock grants and stock options in accordance with the 2004 Provident Bancorp Inc. Stock Incentive Plan and the Sterling Bancorp 2014 Stock Incentive Plan. In the event of a change in control, the vesting of stock and option grants would accelerate. In 2006, we adopted the Provident Bank & Affiliates Transition Benefit Plan. The plan calls for severance payments ranging from 12 weeks to one year for employees not covered by separate agreements if they are terminated in connection with a change in control of the Company.

Our ability to make opportunistic acquisitions is subject to significant risks, including the risk that regulators will not provide the requisite approvals.
We may make opportunistic whole or partial acquisitions of other banks, branches, financial institutions, or related businesses from time to time that we expect may further our business strategy, including through participation in FDIC-assisted acquisitions or assumption of deposits from troubled institutions. Any possible acquisition will be subject to regulatory approval, and there can be no assurance that we will be able to obtain such approval in a timely manner or at all. Even if we obtain regulatory approval, these acquisitions could involve numerous risks, including lower than expected performance or higher than expected costs, difficulties related to integration, difficulties and costs associated with consolidation and streamlining inefficiencies, diversion of management’s attention from other business activities, changes in relationships with customers, and the potential loss of key employees. In addition, we may not be successful

17


in identifying acquisition candidates, integrating acquired institutions, or preventing deposit erosion or loan quality deterioration at acquired institutions. Competition for acquisitions can be highly competitive, and we may not be able to acquire other institutions on attractive terms. There can be no assurance that we will be successful in completing or will even pursue future acquisitions, or if such transactions are completed, that we will be successful in integrating acquired businesses into operations. Our ability to grow may be limited if we choose not to pursue or are unable to successfully make acquisitions in the future.

Moreover, as noted previously, Hudson Valley and the Company have entered into a definitive agreement to merge the two companies. The HVB Merger will be subject to regulatory approval and the approval of both companies’ shareholders, and there can be no assurance that such approvals will be obtained in a timely manner or at all. Even if the approvals are obtained, the success of the HVB Merger, including anticipated benefits and cost savings, will depend, in part, on the Company’s ability to successfully combine and integrate the businesses of the predecessor companies in a manner that permits growth opportunities and does not result in the loss of key employees, the disruption of either company’s ongoing businesses, including existing customer relationships, or inconsistencies in standards, controls, procedures and policies that adversely affect the combined company’s ability to maintain relationships with clients, customers, depositors and employees or to achieve the anticipated benefits and cost savings of the HVB Merger. Such integration will likely require the consolidation of financial centers in overlapping market areas to reduce redundancy and promote efficiency. As was the case with the Merger in the first quarter of fiscal 2014, consolidation of overlapping financial centers following the HVB Merger may result in restructuring charges, charges for asset write-downs and severance costs that we may not recoup until a date in the future, if at all. If the Company experiences difficulties with the integration process, the anticipated benefits of the HVB Merger may not be realized fully or at all, or may take longer to realize than expected.

Our results of operations, financial condition or liquidity may be adversely impacted by issues arising from certain industry deficiencies in foreclosure practices, including delays and challenges in the foreclosure process.
Over the past few years, foreclosure time lines have increased due to, among other reasons, delays associated with the significant increase in the number of foreclosure cases as a result of the economic downturn, federal and state legal and regulatory actions, including additional consumer protection initiatives related to the foreclosure process and voluntary and, in some cases, mandatory programs intended to permit or require lenders to consider loan modifications or other alternatives to foreclosure. Residential mortgages in particular may present us with foreclosure process issues. Residential mortgages, for example, are 12% of our total loan portfolio, but constitute 32.1% of our non-accrual loans. Collateral for many of our residential loans is located within the State of New York, where there may continue to be foreclosure process and timeline issues. Further increases in the foreclosure time-line may have an adverse effect on collateral values and our ability to minimize our losses.

The Company depends on its executive officers and key personnel to continue the implementation of its long-term business strategy and could be harmed by the loss of their services.
The Company believes that its continued growth and future success will depend in large part on the skills of its management team and its ability to motivate and retain these individuals and other key personnel. In particular, the Company relies on the leadership of its Chief Executive Officer, Jack Kopnisky. The loss of service of Mr. Kopnisky or one or more of the Company’s other executive officers or key personnel could reduce the Company’s ability to successfully implement its long-term business strategy, its business could suffer and the value of the Company’s common stock could be materially adversely affected. Leadership changes will occur from time to time and the Company cannot predict whether significant resignations will occur or whether the Company will be able to recruit additional qualified personnel. The Company believes its management team possesses valuable knowledge about the banking industry and the Company’s markets and that their knowledge and relationships would be very difficult to replicate. Although the Chief Executive Officer, Chief Financial Officer and other executive officers have entered into employment agreements with the Company, it is possible that they may not complete the term of their employment agreements or renew them upon expiration. The Company’s success also depends on the experience of its branch managers and lending officers and on their relationships with the customers and communities they serve. The loss of these key personnel could negatively impact the Company’s banking operations. The loss of key personnel, or the inability to recruit and retain qualified personnel in the future, could have an adverse effect on the Company’s business, financial condition or operating results.

ITEM 1B.
Unresolved Staff Comments

Not Applicable.

18



ITEM 2.
Properties

We maintain our executive offices, commercial lending division and wealth management and back office operations departments at a leased facility located at 400 Rella Boulevard, Montebello, New York consisting of 48,623 square feet. At September 30, 2014, we conducted our business through 32 full-service financial centers which serve the New York Metro Market and the New York Suburban Market. Of these financial centers, seven are located in Orange County, New York and nine in Rockland County, New York. We operate five offices in Ulster, Sullivan, Westchester and Putnam Counties in New York, seven offices in New York City, three offices in Long Island and 1 office in Bergen County, New Jersey. Additionally, 12 of our financial centers are owned and 20 are leased.

In addition to our financial center network and corporate headquarters, we lease four additional properties which are used for general corporate purposes and 26 other real estate owned properties located in Putnam, Orange, Rockland, Sullivan and Ulster counties. See Note 5. “Premises and Equipment, net” to the consolidated financial statements for further detail on our premises and equipment.
Item 3. Legal Proceedings
Note 16. “Commitments and Contingencies - Litigation” to the consolidated financial statements contained in Item 8. hereof is incorporated herein by reference. The Company does not anticipate that the aggregate liability arising out of litigation pending against the Company and its subsidiaries will be material to its consolidated financial statements.
ITEM 4.
Mine Safety Disclosures
Not Applicable.

19


PART II

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

Common Stock Market Prices and Dividends
The Company’s common stock is traded on the New York Stock Exchange (“NYSE”) under the symbol “STL”. The following table sets forth the high and low intra-day sales prices per share of Sterling Bancorp common stock and the cash dividends declared per share for the past two fiscal years.
 
Quarter ended
High
 
Low
 
Cash dividends
declared
September 30, 2014
$
13.34

 
$
11.60

 
$
0.07

June 30, 2014
13.00

 
10.84

 
0.07

March 31, 2014
13.34

 
11.73

 
0.07

December 31, 2013
13.52

 
10.71

 

September 30, 2013
11.32

 
9.36

 
0.12

June 30, 2013
9.55

 
8.69

 
0.06

March 31, 2013
9.71

 
8.59

 
0.06

December 31, 2012
9.83

 
8.62

 
0.06


As of September 30, 2014, there were 83,628,267 shares of the Company’s common stock outstanding held by 5,471 holders of record (excluding the number of persons or entities holding stock in street name through various brokerage firms). The closing price per share of common stock on September 30, 2014, the last trading day of the Company’s fiscal year, was $12.79.
The Board is committed to continuing to pay regular cash dividends; however, there can be no assurance as to future dividends because they are dependent upon the Company’s future earnings, capital requirements and financial condition. In connection with the Merger, the Company accelerated the dividend that would have been regularly declared in the quarter ended December 31, 2013 to the quarter ended September 30, 2013. Therefore, the Company declared cash dividends of $0.12 per share in the quarter ended September 30, 2013 and did not declare a dividend in the quarter ended December 31, 2013.
See the section captioned “Regulation” included in Item 1. “Business”, the section captioned “Capital and Liquidity” included in Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and Note 14. “Stockholders’ Equity” to the consolidated financial statements all of which are included elsewhere in this report, for additional information regarding our common stock and our ability to pay dividends.

20


Performance Graph
Set forth below is a stock performance graph comparing the cumulative total shareholder return on Sterling Bancorp common stock with (a) the cumulative total return on the S&P 500 Composite Index and (b) the SNL Mid-Atlantic Bank Index, measured as of the last trading day of each year shown. The graph assumes an investment of $100 on September 30, 2009 and reinvestment of dividends on the date of payment without commissions. The performance graph represents past performance and should not be considered to be an indication of future stock performance.
 
Performance at September 30,
Index
2009
 
2010
 
2011
 
2012
 
2013
 
2014
Sterling Bancorp
100.00

 
90.20

 
64.30

 
107.17

 
127.21

 
152.93

S&P 500 Index
100.00

 
110.16

 
111.42

 
145.07

 
173.13

 
207.30

SNL Mid-Atlantic Bank Index
100.00

 
89.97

 
71.02

 
94.54

 
127.03

 
145.65

This stock performance graph shall not be deemed incorporated by reference by any general statement incorporating by reference this Form 10-K under the Securities Act, or the Securities Exchange Act of 1934, as amended, except to the extent that Sterling Bancorp specifically incorporates this information by reference, and shall not otherwise be deemed filed under such Acts.





21


Issuer Purchases of Equity Securities
The following table reports information regarding purchases of the Company’s common stock during the fourth fiscal quarter of 2014 and the stock repurchase plan approved by the Board:  

 
Total Number
of shares
(or units)
purchased 
 
Average
price paid
per share
(or unit)
 
Total number of
shares (or units)
purchased as part
of publicly
announced plans
or programs (1)
 
Maximum number
(or approximate
dollar value) of
shares (or units)
that may yet be
purchased under the
plans or programs (1)
Period (2014)
 
 
 
 
 
 
 
July 1 — July 31

 
$

 

 
776,713

August 1 — August 31

 

 

 
776,713

September 1 — September 30

 

 

 
776,713

Total

 
$

 

 
 
 
1 
The Company announced its fifth repurchase program on December 17, 2009 authorizing the repurchase of 2,000,000 shares of which 776,713 remain available for repurchase.

22


ITEM 6.
Selected Financial Data

The following summary data is based in part on the consolidated financial statements and accompanying notes, and other schedules appearing elsewhere in this Form 10-K. Comparability of the selected financial data at or for the year ended September 30, 2014 to earlier periods is affected by the Merger. See discussion of the Merger in Item 1. “Business”, in Item 7. “Management’s Discussion and Analysis, and in Note 2. “Acquisitions” in the consolidated financial statements. Historical data is also based in part on, and should be read in conjunction with, prior filings with the SEC. Additional information is provided in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements and related notes included as Item 7 and Item 8 of this Report, respectively.

23


 
At or for the year ended September 30,
 
2014
 
2013
 
2012
 
2011
 
2010
 
(Dollars in thousands)
Selected financial condition data:
 
 
 
 
 
 
 
 
 
Period end:
 
 
 
 
 
 
 
 
 
Total assets
$
7,337,387

 
$
4,049,172

 
$
4,022,982

 
$
3,137,402

 
$
3,021,025

Loans, net (1)
4,719,826

 
2,384,021

 
2,091,190

 
1,675,882

 
1,670,698

Securities available for sale
1,110,813

 
954,393

 
1,010,872

 
739,844

 
901,012

Securities held to maturity
579,075

 
253,999

 
142,376

 
110,040

 
33,848

Deposits
5,298,654

 
2,962,294

 
3,111,151

 
2,296,695

 
2,142,702

Borrowings
939,069

 
560,986

 
345,176

 
323,522

 
363,751

Stockholdersequity
961,138

 
482,866

 
491,122

 
431,134

 
430,955

Average:
 
 
 
 
 
 
 
 
 
Total assets
$
6,757,094

 
$
3,815,609

 
$
3,195,299

 
$
2,949,251

 
$
2,913,560

Loans, net (1)
4,120,749

 
2,216,871

 
1,806,136

 
1,665,360

 
1,656,016

Securities available for sale
1,175,618

 
950,628

 
801,792

 
880,624

 
836,130

Securities held to maturity
517,270

 
172,642

 
165,722

 
28,787

 
42,903

Deposits
4,921,930

 
2,856,640

 
2,366,263

 
2,082,727

 
1,978,380

Borrowings
814,409

 
446,916

 
356,296

 
422,816

 
488,330

Stockholders’ equity
906,134

 
489,412

 
447,065

 
427,290

 
425,408

Selected income statement data:
 
 
 
 
 
 
 
 
 
Interest and dividend income
$
246,906

 
$
132,061

 
$
115,037

 
$
112,614

 
$
119,774

Interest expense
28,918

 
19,894

 
18,573

 
21,324

 
26,440

Net interest income
217,988

 
112,167

 
96,464

 
91,290

 
93,334

Provision for loan losses
19,100

 
12,150

 
10,612

 
16,584

 
10,000

Net interest income after provision for loan losses
198,888

 
100,017

 
85,852

 
74,706

 
83,334

Non-interest income
47,370

 
27,692

 
32,152

 
29,951

 
27,201

Non-interest expense
208,428

 
91,041

 
91,957

 
90,111

 
83,170

Income before income tax expense
37,830

 
36,668

 
26,047

 
14,546

 
27,365

Income tax expense
10,152

 
11,414

 
6,159

 
2,807

 
6,873

Net income
$
27,678

 
$
25,254

 
$
19,888

 
$
11,739

 
$
20,492

Per share data:


 
 
 
 
 
 
 
 
Basic earnings per share
$
0.34

 
$
0.58

 
$
0.52

 
$
0.31

 
$
0.54

Diluted earnings per share
0.34

 
0.58

 
0.52

 
0.31

 
0.54

Dividends declared per share
0.21

 
0.30

 
0.24

 
0.24

 
0.24

Dividend payout ratio
61.8
%
 
51.7
%
 
45.2
%
 
77.4
%
 
44.4
%
Book value per share
$
11.49

 
$
10.89

 
$
11.12

 
$
11.39

 
$
11.26

Common shares outstanding:
 
 
 
 
 
 
 
 
 
Weighted average shares basic
80,268,970
 
43,734,425
 
38,227,653

 
37,452,596
 
37,161,180
Weighted average shares diluted
80,534,043
 
43,783,053
 
38,248,046

 
37,453,542
 
38,185,122
_________________________
See legend on the following page.

24


 
At or for the year ended September 30,
 
2014
 
2013
 
2012
 
2011
 
2010
 
(Dollars in Thousands)
Performance ratios:
 
 
 
 
 
 
 
 
 
Return on assets (ratio of net income to average total assets)
0.41
%
 
0.63
%
 
0.62
%
 
0.40
%
 
0.70
%
Return on equity (ratio of net income to average equity)
3.1

 
5.2

 
4.5

 
2.8

 
4.8

Net interest margin (2)
3.74

 
3.37

 
3.51

 
3.65

 
3.78

Core operating efficiency ratio(3) 
59.4

 
63.7

 
69.7

 
72.1

 
69.1

Capital ratios (Company):(4)
 
 
 
 
 
 
 
 
 
Equity to total assets at end of period
13.10
%
 
11.90
%
 
12.21
%
 
13.74
%
 
14.27
%
Average equity to average assets
13.41

 
12.82

 
13.99

 
14.49

 
14.60

Tier 1 leverage ratio
8.12

 

 

 

 

Tier 1 risk-based capital ratio
10.33

 

 

 

 

Total risk-based capital ratio
11.10

 

 

 

 

Regulatory capital ratios (Bank):
 
 
 
 
 
 
 
 
 
Tier 1 leverage ratio
9.34
%
 
9.33
%
 
7.56
%
 
8.14
%
 
8.43
%
Tier 1 risk-based capital ratio
11.94

 
13.18

 
12.16

 
11.85

 
12.09

Total risk-based capital ratio
12.71

 
14.24

 
13.36

 
13.03

 
13.34

Asset quality data and ratios:
 
 
 
 
 
 
 
 
 
Allowance for loan losses
$
40,612

 
$
28,877

 
$
28,282

 
$
27,917

 
$
30,843

Non-performing loans
50,963

 
26,906

 
39,814

 
40,567

 
26,840

Non-performing assets
58,543

 
32,928

 
46,217

 
45,958

 
30,731

Net charge-offs
7,365

 
11,555

 
10,247

 
19,510

 
9,207

Non-performing assets to total assets
0.80
%
 
0.81
%
 
1.15
%
 
1.46
%
 
1.02
%
Non-performing loans to total loans (1)
1.07

 
1.12

 
1.88

 
2.38

 
1.58

Allowance for loan losses to non-performing loans
80

 
107

 
71

 
69

 
115

Allowance for loan losses to total loans
0.85

 
1.20

 
1.47

 
1.64

 
1.81

Net charge-offs to average loans
0.24

 
0.52

 
0.56

 
1.17

 
0.56

 
 
 
 
 
 
 
 
 
 
_________________________
(1)
Excludes loans held for sale.

(2)
The net interest margin represents net interest income as a percent of average interest-earning assets for the period. Net interest income is commonly presented on a tax-equivalent basis. This is to the extent that some component of the institution’s net interest income will be exempt from taxation (e.g., was received as a result of its holdings of state or municipal obligations), an amount equal to the tax benefit derived from that component is added back to the net interest income total. This adjustment is considered helpful in comparing one financial institution’s net interest income (pre-tax) to that of another institution, as each will have a different proportion of tax-exempt items in their portfolios.

(3)
The core operating efficiency ratio is a non-GAAP measure and is reconciled on page 27.
(4)
Prior to the Merger, the Company was a unitary savings and loan holding company and as a result was not required to maintain or report regulatory capital ratios. The Company became a bank holding company in connection with the Merger and has maintained and reported regulatory capital ratios since December 31, 2013.



25


The following tables show the reconciliation of the core operating efficiency ratio, core net income and core earnings per share which are non-GAAP financial measures:
 
For the year ended September 30,
 
2014
 
2013
 
2012
 
2011
 
2010
 
(Dollars in Thousands)
Net interest income
$
217,988

 
$
112,167

 
$
96,464

 
$
91,290

 
$
93,334

Non-interest income
47,370

 
27,692

 
32,152

 
29,951

 
27,201

Total net revenues
265,358

 
139,859

 
128,616

 
121,241

 
120,535

Tax equivalent adjustment on securities interest income
5,628

 
3,060

 
3,498

 
4,007

 
4,186

Net (gain) on sale of securities
(641
)
 
(7,391
)
 
(10,452
)
 
(10,011
)
 
(8,157
)
Other than temporary loss on securities

 
32

 
47

 
278

 

Other (other gains and fair value loss on interest rate caps)
(93
)
 
77

 
(12
)
 
197

 
1,160

Core total revenues
270,252

 
135,637

 
121,697

 
115,712

 
117,724

Non-interest expense
208,428

 
91,041

 
91,957

 
90,111

 
83,170

Merger-related expense
(9,455
)
 
(2,772
)
 
(5,925
)
 
(255
)
 

Charge for asset write-downs, banking systems conversion, retention and severance
(26,590
)
 
(564
)
 

 
(3,201
)
 

Gain on sale of financial center and redemption of TRUPs
1,637

 

 

 

 

Amortization of intangible assets
(9,408
)
 
(1,296
)
 
(1,245
)
 
(1,426
)
 
(1,849
)
Charge on benefit plan settlement
(4,095
)
 

 

 
(1,772
)
 

Core non-interest expense
$
160,517

 
$
86,409

 
$
84,787

 
$
83,457

 
$
81,321

Core operating efficiency ratio
59.4
%
 
63.7
%
 
69.7
%
 
72.1
%
 
69.1
%
 
For the year ended September 30,
 
2014
 
2013
 
2012
 
2011
 
2010
 
(Dollars in Thousands)
Income before income tax expense
$
37,830

 
$
36,668

 
$
26,047

 
$
14,546

 
$
27,365

Income tax expense
10,152

 
11,414

 
6,159

 
2,807

 
6,873

Net income
27,678

 
25,254

 
19,888

 
11,739

 
20,492

 
 
 
 
 
 
 
 
 
 
Net (gain) on sale of securities
(641
)
 
(7,391
)
 
(10,452
)
 
(10,011
)
 
(8,157
)
Gain on sale of financial center and redemption of TRUPs
(1,637
)
 

 

 

 

Merger-related expense
9,455

 
2,772

 
5,925

 
255

 

Charge for asset write-downs, banking systems conversion, retention and severance
26,591

 
564

 

 
3,201

 

Charge on benefit plan settlement
4,095

 

 

 
1,772

 

Amortization of non-compete agreements
5,489

 

 

 

 

Total charges (gains)
43,352

 
(4,055
)
 
(4,527
)
 
(4,783
)
 
(8,157
)
Income tax (benefit)
(13,188
)
 
1,245

 
1,070

 
923

 
2,049

Total non-core charges (gains) net of taxes
30,164

 
(2,778
)
 
(3,457
)
 
(3,860
)
 
(6,108
)
Core net income
$
57,842

 
$
22,476

 
$
16,431

 
$
7,879

 
$
14,384

Weighted average diluted shares
80,534,043

 
43,783,053

 
38,248,046

 
37,453.542

 
38,185,122

Diluted EPS as reported
$
0.34

 
$
0.58

 
$
0.52

 
$
0.31

 
$
0.54

Core diluted EPS (excluding total charges)
0.72

 
0.51

 
0.43

 
0.21

 
0.38

The Company believes the non-GAAP information shown above provides useful information to investors to assess the Company’s core operating performance.

26



ITEM 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements
We make statements in this Report, and we may from time to time make other statements, regarding our outlook or expectations for earnings, revenues, expenses and/or other financial, business or strategic matters regarding or affecting Sterling Bancorp that are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, as amended. Forward-looking statements are typically identified by words such as “believe,” “expect,” “anticipate,” “intend,” “outlook,” “target,” “estimate,” “forecast,” “project” by future conditional verbs such as “will,” “should,” “would,” “could” or “may,” or by variations of such words or by similar expressions. These statements are not historical facts, but instead represent our current expectations, plans or forecasts and are based on the beliefs and assumptions of the management and the information available to management at the time that these disclosures were prepared.

Forward-looking statements are subject to numerous assumptions, risks (both known and unknown) and uncertainties, and other factors which change over time. Forward-looking statements speak only as of the date they are made. We do not assume any duty and do not undertake to update our forward-looking statements. Because forward-looking statements are subject to assumptions, risks, uncertainties, and other factors actual results or future events could differ, possibly materially, from those that we anticipated in our forward-looking statements and future results could differ materially from our historical performance.

The following factors, among others, could cause our future results to differ materially from the plans, objectives, goals, expectations, anticipations, estimates and intentions expressed in the forward-looking statements:

our Company’s ability to successfully implement growth, expense reduction and other strategic initiatives and to integrate and fully realize cost savings and other benefits we estimate in connection with acquisitions generally;
continued implementation of our team based business strategy, including customer acceptance of our products and services and the perceived overall value, pricing and quality of them, compared to our competitors;
the possibility that the benefits anticipated from the HVB Merger will not be fully realized, the possibility the HVB Merger may not close, and other risks in connection with the proposed transaction and integration of HVB;
legislative and regulatory changes such as the Dodd-Frank Act and its implementing regulations that adversely affect our business, including changes in regulatory policies and principles or the interpretation of regulatory capital or other rules;
adverse publicity, regulatory actions or litigation with respect to us or other well-known companies and the financial services industry in general and a failure to satisfy regulatory standards;
the effects of and changes in monetary and fiscal policies of the Board of Governors of the Federal Reserve System and the U.S. Government;
our ability to make accurate assumptions and judgments about an appropriate level of allowance for loan losses and the collectability of our loan portfolio, including changes in the level and trend of loan delinquencies and write-offs that may lead to increased losses and non-performing assets in our loan portfolio, result in our allowance for loan losses not being adequate to cover actual losses, and require us to materially increase our reserves;
our use of estimates in determining fair value of certain of our assets, which estimates may prove to be incorrect and result in significant declines in valuation;
changes in the levels of general interest rates, and the relative differences between short and long term interest rates, deposit interest rates, our net interest margin and funding sources;
changes in other economic, competitive, governmental, regulatory, and technological factors affecting our markets, operations, pricing, products, services and fees; and
our success at managing the risks involved in the foregoing and managing our business.

Additional factors that may affect our results are discussed in this Report on Form 10-K under “Item 1A, Risk Factors” and elsewhere in this Report or in other filings with the SEC. These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. You should read such statements carefully.

Critical Accounting Policies
Our accounting and reporting policies are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and conform to general practices within the banking industry. Accounting policies considered critical to our financial results include the allowance for loan losses, accounting for goodwill and other intangible assets, accounting for deferred income taxes and the recognition of interest income.

27


Allowance for Loan Losses. The methodology for determining the allowance for loan losses is considered by the Company to be a critical accounting policy due to the high degree of judgment involved, the subjectivity of the assumptions utilized and the potential for changes in the economic environment that could result in changes to the amount of the allowance for loan losses considered necessary. We evaluate our loans at least quarterly, review their risk components, the carrying value of loans as a part of that evaluation and the allowance is adjusted accordingly. While management uses the best information available to make evaluations, future adjustments to the allowance may be necessary if conditions differ substantially from the information used in making the evaluations. In addition, as an integral part of their examination process, our regulatory agencies periodically review the allowance for loan losses. Such agencies may require us to recognize additions to the allowance based on their judgments of information available to them at the time of their examination.
See Note 1. “Basis of Financial Statement Presentation and Summary of Significant Accounting Policies” to our notes to the consolidated financial statements for a discussion of the risk components. We consistently review the risk components to identify any changes in trends.
Business Combinations. The Company accounts for business combinations under the purchase method of accounting. The application of this method of accounting requires the use of significant estimates and assumptions in the determination of the fair value of assets acquired and liabilities assumed in order to properly allocate purchase price consideration between assets that are amortized, accreted or depreciated from those that are recorded as goodwill. Our estimates of the fair values of assets acquired and liabilities assumed are based upon assumptions that we believe to be reasonable, and whenever necessary, include assistance from independent third-party appraisal and valuation firms.
Goodwill, Trade Names and Other Intangible Assets. The Company accounts for goodwill, trade names and other intangible assets in accordance with GAAP, which, in general, requires that goodwill and trade names not be amortized, but rather that they be tested for impairment at least annually. The Company assesses qualitative factors to determine whether it is more likely than not (i.e., a likelihood of more than 50 percent) that the fair value of a reporting unit is less than its carrying amount. In evaluating whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount, the Company assesses relevant events and circumstances (e.g., macroeconomic conditions, industry and market considerations, overall financial performance and other relevant Company-specific events). If, after assessing the totality of events or circumstances such as those described above, the Company determines that it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then the first and second steps of the goodwill impairment test are unnecessary. Testing for impairment of goodwill, trade names and other intangible assets is performed annually and involves the identification of reporting units and the estimation of fair values. The estimation of fair values involves a high degree of judgment and subjectivity in the assumptions used. Changes in the local and national economy, the federal and state legislative and regulatory environments for financial institutions, the stock market, interest rates and other external factors (such as natural disasters or significant world events) may occur from time to time, often with great unpredictability, and may materially impact the fair value of publicly traded financial institutions and could result in an impairment charge at a future date.
We also use judgment in the valuation of other intangible assets. A core deposit base intangible asset has been recorded for core deposits (defined as checking, money market and savings deposits) that were acquired in acquisitions that were accounted for as purchase business combinations. The core deposit base intangible asset has been recorded using the assumption that the acquired deposits provide a more favorable source of funding than more expensive wholesale borrowings. An intangible asset has been recorded for the present value of the difference between the expected interest to be incurred on these deposits and interest expense that would be expected if these deposits were replaced by wholesale borrowings, over the expected lives of the core deposits. If we find these deposits have a shorter life than was estimated, we will write down the asset by expensing the amount that is impaired.

Deferred Income Taxes. We use the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. If current available information raises doubt as to the realization of the deferred tax assets, a valuation allowance is established. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. We exercise significant judgment in evaluating the amount and timing of recognition of the resulting tax liabilities and assets, including projections of future taxable income. These judgments and estimates are reviewed on a continual basis as regulatory and business factors change.
Interest income. Interest income on loans, securities and other interest-earning assets is accrued monthly unless the Company considers the collection of interest to be doubtful. Loans are placed on non-accrual status upon the earlier of (i) when payments are contractually past due 90 days or more, or (ii) when we have determined that the borrower is unlikely to meet contractual principal or interest obligations, unless the assets are well secured and in the process of collection. At such time, unpaid interest is reversed by charging interest income for interest in the current fiscal year or the allowance for loan losses with respect to prior year income. Interest payments received on non-accrual loans (including impaired loans) are not recognized as income unless future collections are reasonably assured. Loans are returned to accrual status when collectability is no longer considered doubtful. Loans the Company acquired in mergers are initially

28


recorded at fair value which involves estimating the amount and timing of principal and interest cash flows initially expected to be collected on the loans and discounting those cash flows at an appropriate market rate of interest. The Company continues to evaluate reasonableness of expectations for the timing and amount of cash to be collected. Subsequent decreases in expected cash flows may result in changes in the amortization or accretion of fair market value adjustments, and in some cases may result in the loan being considered impaired.

General
The following discussion and analysis presents the more significant factors affecting the Company’s financial condition as of September 30, 2014 and 2013 and results of operations for each of the years in the three-year period ended September 30, 2014. The Merger was effective October 31, 2013, which significantly impacts comparisons to earlier periods. The Merger and the acquisition of Gotham Bank of New York were accounted for as purchase transactions, and accordingly, their related results of operations are included from the date of acquisition. The MD&A should be read in conjunction with the consolidated financial statements, notes to consolidated financial statements and other information contained in this report.

On October 31, 2013, we completed the Merger of Legacy Sterling and Legacy Provident. This acquisition was consistent with our strategy of expanding in the greater New York metropolitan region and focusing on commercial banking. We believe the Merger has created a larger, more a more profitable company by combining Legacy Provident’s differentiated team-based distribution channels with Legacy Sterling’s diverse commercial and consumer lending product capabilities. The Merger has allowed us to accelerate loan growth, improve our ability to gather low cost core deposits and generate substantial cost savings and revenue enhancement opportunities.

The Merger has significantly diversified our business. Legacy Sterling was predominately a commercial & industrial lender which has complemented our loan portfolio, which was substantially collateralized by real estate. Further, Legacy Sterling provides us greater non-interest income revenue streams. On a combined basis, we anticipate greater than 20% of our total revenues will consist of non-interest income over time.

Results of Operations
In fiscal 2014, the Company reported net income of $27.7 million, or $0.34 per diluted common share, compared to net income of $25.3 million, or $0.58 per diluted common share, in fiscal 2013 and $19.9 million, or $0.52 per diluted common share in fiscal 2012. In connection with the Merger, the Company issued 39.1 million common shares, which increased weighted average diluted shares outstanding from 43.8 million in fiscal 2013 to 80.5 million in fiscal 2014.

The table below summarizes the Company’s results of operations on a tax-equivalent basis. Tax equivalent adjustments are the result of increasing income from tax-free securities by an amount equal to the taxes that would be paid if the income were fully taxable based on a 35% federal tax rate, thus making tax-exempt yields comparable to taxable asset yields.

Selected income statement data, net interest margin, return on average assets, return on average common equity and dividends per common share for the comparable periods follows:

29


 
For the fiscal year ended September 30,
 
2014
 
2013
 
2012
 
(Dollars in Thousands)
Tax equivalent net interest income
$
223,616

 
$
115,227

 
$
99,962

Less tax equivalent adjustment
(5,628
)
 
(3,060
)
 
(3,498
)
Net interest income
217,988

 
112,167

 
96,464

Provision for loan losses
19,100

 
12,150

 
10,612

Non-interest income
47,370

 
27,692

 
32,152

Non-interest expense
208,428

 
91,041

 
91,957

Income before income tax expense
37,830

 
36,668

 
26,047

Income tax expense
10,152

 
11,414

 
6,159

Net income
$
27,678

 
$
25,254

 
$
19,888

 
 
 
 
 
 
Earnings per common share - basic
$
0.34

 
$
0.58

 
$
0.52

Earnings per common share - diluted
0.34

 
0.58

 
0.52

Dividends per common share
0.21

 
0.30

 
0.24

Return on assets
0.41
%
 
0.63
%
 
0.62
%
Return on common equity
3.1

 
5.2

 
4.5

Average equity to average assets
13.4

 
12.8

 
14.0


Net income increased $2.4 million in fiscal 2014 compared to fiscal 2013. Results in fiscal 2014 were positively impacted by the Merger and organic growth generated through our commercial banking teams. This resulted in a $108.4 million increase in tax equivalent net interest income and a $19.7 million increase in non-interest income between the periods. Results in fiscal 2014 were also impacted by merger-related expenses associated with the Merger, and charges for asset write-downs, the settlement of benefit plan obligations, costs associated with our banking systems conversion and other charges, which totaled $45.6 million. Excluding the impact of these items, net income was $57.8 million, and diluted earnings per share were $0.72 in fiscal 2014. Please refer to Item 6. “Selected Financial Data” for a reconciliation of this non-GAAP financial measure.

Details of the changes in the various components of net income are further discussed below.

Net Interest Income is the the difference between interest income on earning assets, such as loans and securities, and interest expense on liabilities, such as deposits and borrowings, which are used to fund those assets. Net interest income is the Company’s largest source of revenue, representing 82.1% of total revenue in fiscal 2014. Net interest margin is the ratio of taxable equivalent net interest income to average earning assets for the period. The level of interest rates and the volume and mix of earning assets and interest bearing liabilities impact net interest income and net interest margin.
 
The Company is primarily funded by core deposits, with non-interest bearing demand deposits being a significant source of funding. This lower cost funding base has had a positive impact on the Company’s net interest income and net interest margin and is expected to do so in a rising interest rate environment.
 

30


The following table sets forth average balance sheets, average yields and costs, and certain other information for the years indicated. All average balances are daily average balances. Non-accrual loans were included in the computation of average balances, but have been reflected in the table as loans carrying a zero yield. The yields set forth below include the effect of deferred fees, discounts and premiums that are amortized or accreted to interest income or expense.
 
For the year ended September 30,
 
2014
 
2013
 
2012
 
Average
balance
 
Interest
 
Yield/Rate
 
Average
balance
 
Interest
 
Yield/Rate
 
Average
balance
 
Interest
 
Yield/Rate
 
(Dollars in thousands)
Interest earning assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Loans (1)
$
4,120,749

 
$
202,982

 
4.93
%
 
$
2,216,871

 
$
107,810

 
4.86
%
 
$
1,806,136

 
$
91,010

 
5.04
%
Securities taxable
1,371,703

 
30,067

 
2.19
%
 
948,884

 
17,509

 
1.85
%
 
778,994

 
16,537

 
2.12
%
Securities tax exempt
321,185

 
16,081

 
5.01
%
 
174,386

 
8,742

 
5.01
%
 
188,520

 
9,996

 
5.30
%
Interest earning deposits
109,626

 
292

 
0.27
%
 
59,375

 
193

 
0.33
%
 
51,351

 
127

 
0.25
%
FRB and FHLB Stock
56,104

 
3,112

 
5.55
%
 
23,905

 
867

 
3.63
%
 
18,901

 
865

 
4.58
%
Total interest earnings assets
5,979,367

 
252,534

 
4.22
%
 
3,423,421

 
135,121

 
3.95
%
 
2,843,902

 
118,535

 
4.17
%
Non-interest earning assets
777,727

 
 
 
 
 
392,188

 
 
 
 
 
351,397

 
 
 
 
Total assets
$
6,757,094

 
 
 
 
 
$
3,815,609

 
 
 
 
 
$
3,195,299

 
 
 
 
Interest bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Demand deposits
$
706,160

 
$
571

 
0.08
%
 
$
466,110

 
$
391

 
0.08
%
 
$
399,819

 
$
483

 
0.12
%
Savings deposits (2)
622,414

 
876

 
0.14
%
 
572,246

 
973

 
0.17
%
 
485,624

 
393

 
0.08
%
Money market deposits
1,458,852

 
5,096

 
0.35
%
 
819,442

 
2,436

 
0.30
%
 
671,325

 
2,194

 
0.33
%
Certificates of deposit
554,396

 
2,421

 
0.44
%
 
352,469

 
2,123

 
0.60
%
 
289,230

 
2,511

 
0.87
%
Senior notes(3)
98,202

 
4,401

 
5.98
%
 
24,478

 
1,431

 
5.85
%
 
19,136

 
753

 
3.93
%
Other borrowings
716,207

 
15,553

 
2.17
%
 
422,438

 
12,540

 
2.97
%
 
337,160

 
12,239

 
3.65
%
Total interest bearing liabilities
4,156,231

 
28,918

 
0.70
%
 
2,657,183

 
19,894

 
0.75
%
 
2,202,294

 
18,573

 
0.84
%
Non-interest bearing deposits
1,580,108

 
 
 
 
 
646,373

 
 
 
 
 
520,265

 
 
 
 
Other non-interest bearing liabilities
114,621

 
 
 
 
 
22,641

 
 
 
 
 
25,675

 
 
 
 
Total liabilities
5,850,960

 
 
 
 
 
3,326,197

 
 
 
 
 
2,748,234

 
 
 
 
Stockholders’ equity
906,134

 
 
 
 
 
489,412

 
 
 
 
 
447,065

 
 
 
 
Total liabilities and Stockholders’ equity
$
6,757,094

 
 
 
 
 
$
3,815,609

 
 
 
 
 
$
3,195,299

 
 
 
 
Net interest rate spread (4)
 
 
 
 
3.52
%
 
 
 
 
 
3.20
%
 
 
 
 
 
3.33
%
Net interest earning assets (5)
$
1,823,136

 
 
 
 
 
$
766,238

 
 
 
 
 
$
641,608

 
 
 
 
Net interest margin
 
 
223,616

 
3.74
%
 
 
 
115,227

 
3.37
%
 
 
 
99,962

 
3.51
%
Less tax equivalent adjustment
 
 
(5,628
)
 
 
 
 
 
(3,060
)
 
 
 
 
 
(3,498
)
 
 
Net interest income
 
 
$
217,988

 
 
 
 
 
$
112,167

 
 
 
 
 
$
96,464

 
 
Ratio of interest earning assets to interest bearing liabilities
 
 
143.9
%
 
 
 
 
 
128.8
%
 

 
 
 
129.1
%
 
 
 
(1)
Includes the effect of net deferred loan origination fees and costs, allowance for loan losses, and non-accrual loans. Includes prepayment fees and late charges.
(2)
Includes club accounts and interest bearing mortgage escrow balances.
(3)
Senior notes for fiscal 2014 and 2013 represent the notes issued July 2, 2013, as described in Note 8. “Borrowings and Senior Notes” in the consolidated financial statements. The balance of senior notes shown in fiscal 2012 represents FDIC insured senior unsecured debt that was repaid in February 2012.
(4)
Net interest rate spread represents the difference between the tax equivalent yield on average interest earning assets and the cost of average interest bearing liabilities.
(5)
Net interest earning assets represents total interest earning assets less total interest bearing liabilities.


31


The following table presents the dollar amount of changes in interest income (on a fully tax equivalent basis) and interest expense for the major categories of our interest earning assets and interest bearing liabilities. Information is provided for each category of interest earning assets and interest bearing liabilities with respect to (i) changes attributable to changes in volume (i.e., changes in average balances multiplied by the prior period average rate) and (ii) changes attributable to rate (i.e., changes in average rate multiplied by prior period average balances). For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to the change due to volume and the change due to rate.

 
2014 vs. 2013
 
2013 vs. 2012
 
Increase (Decrease)
due to
 
Total
increase
 
Increase (Decrease)
due to
 
Total
increase
 
Volume
 
Rate
 
(decrease)
 
Volume
 
Rate
 
(decrease)
 
(Dollars in thousands)
Interest earning assets:
 
 
 
 
 
 
 
 
 
 
 
Loans
$
95,915

 
$
(743
)
 
$
95,172

 
$
20,489

 
$
(3,689
)
 
$
16,800

Securities taxable
8,891

 
3,667

 
12,558

 
3,269

 
(2,297
)
 
972

Securities tax exempt
7,339

 

 
7,339

 
(725
)
 
(529
)
 
(1,254
)
Interest earning deposits
141

 
(42
)
 
99

 
22

 
44

 
66

FRB and FHLB Stock
1,612

 
633

 
2,245

 
180

 
(178
)
 
2

Total interest earning assets
113,898

 
3,515

 
117,413

 
23,235

 
(6,649
)
 
16,586

Interest bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
NOW deposits
180

 

 
180

 
76

 
(168
)
 
(92
)
Savings deposits
82

 
(179
)
 
(97
)
 
79

 
501

 
580

Money market deposits
2,192

 
468

 
2,660

 
456

 
(214
)
 
242

Certificates of deposit
973

 
(675
)
 
298

 
485

 
(873
)
 
(388
)
Senior notes
3,378

 
(408
)
 
2,970

 
247

 
431

 
678

Other borrowings
6,508

 
(3,495
)
 
3,013

 
2,764

 
(2,463
)
 
301

Total interest bearing liabilities
13,313

 
(4,289
)
 
9,024

 
4,107

 
(2,786
)
 
1,321

Less tax equivalent adjustment
2,568

 

 
2,568

 
(245
)
 
(193
)
 
(438
)
Change in net interest income
$
98,017

 
$
7,804

 
$
105,821

 
$
19,373

 
$
(3,670
)
 
$
15,703


Tax equivalent net interest income in fiscal 2014 increased $108.4 million, or 94.1%, compared to fiscal 2013. The increase was the result of an increase in average balances in interest earning assets due to the Merger and organic growth generated by our commercial banking teams. The average volume of interest earning assets increased $2.6 billion, or 74.7% in fiscal 2014 relative to the prior year. In addition, net interest margin increased 37 basis points to 3.74% in fiscal 2014 from 3.37% in fiscal 2013. The increase in net interest margin was mainly due to an increase in the yield on interest earning assets which was 4.22% in fiscal 2014 compared to 3.95% in fiscal 2013. The increase was principally the result of higher yielding loans acquired in the Merger and a rebalancing of earning assets from investment securities to higher yielding loans. For the fiscal year ended September 30, 2014, our securities to earning assets ratio was 28.3% versus 32.8% at September 30, 2013.

Tax equivalent net interest income increased $15.3 million in fiscal 2013 compared to the prior year. The increase was due to an increase in average loan balances of $410.7 million to $2.2 billion, which increased interest income by $20.5 million. This was partially offset by an 18 basis points decline in the yield on loans to 4.86% in fiscal 2013 as compared to 5.04% in fiscal 2012 which reduced interest income on loans by $3.7 million. The increase in loan volume was due to organic growth generated by our commercial banking teams and our successful retention of Gotham Bank clients and interest earning assets; the decline in loan yields reflects mainly the repayment of loans originated in prior periods that were replaced with new loan originations at lower rates of interest in the current market environment.

The balance of average loans outstanding increased $1.9 billion, or 85.9% in fiscal 2014. In connection with the Merger, we acquired $1.7 billion of loans on October 31, 2013 and increased average loans outstanding during the year through organic growth. Loans accounted for 68.9% of average interest earning assets in fiscal 2014 compared to 64.8% in fiscal 2013 and 63.5% in fiscal 2012. The average yield on loans was 4.93% in fiscal 2014 compared to 4.86% in fiscal 2013 and 5.04% in fiscal 2012.


32


Tax equivalent interest income on securities increased $19.9 million, or 75.8% in fiscal 2014, which was mainly the result of an increase of $569.6 million, or 50.7% in the average balance of securities over the period. In connection with the Merger, we acquired $607.9 million of securities on October 31, 2013. The tax equivalent yield on securities was 2.73% in fiscal 2014 compared to 2.34% in fiscal 2013 and 2.74% in fiscal 2012. The increase in tax equivalent yield in fiscal 2014 was mainly due to the proportion of tax exempt securities which comprised 19.0% of average securities in fiscal 2014 compared to 15.5% in fiscal 2013 and a rebalancing of the securities portfolio due to the Merger, which increased the yield on taxable securities in fiscal 2014 to 2.19% compared to 1.85% in fiscal 2013. The 40 basis point decline in the tax equivalent yield on securities between fiscal 2012 and 2013 was due to overall declines in market rates of interest.

Average deposits increased $2.1 billion, or 72.3% in fiscal 2014 and were $4.9 billion compared to $2.9 billion in fiscal 2013 and $2.4 billion in fiscal 2012. The increase in the average balance of deposits was mainly due to the Merger, as we assumed $2.3 billion in deposits on October 31, 2013. Average interest bearing deposits increased $1.1 billion, or 51.2%, in fiscal 2014 and $364.3 million, or 19.7%, in fiscal 2013 compared to fiscal 2012. Average non-interest bearing deposits increased $933.7 million and were $1.6 billion in fiscal 2014 compared to $646.4 million in fiscal 2013 and $520.3 million in fiscal 2012. The average cost of interest bearing deposits was 0.27% in fiscal 2014 and 2013 and was 0.30% in fiscal 2012. The cost of deposits reflects the current low interest rate environment.

Average borrowings increased $367.5 million, or 82.2% in fiscal 2014 and were $814.4 million compared to $446.9 million in fiscal 2013 and $356.3 million in fiscal 2012. The increase in average borrowings in fiscal 2014 was required to fund loan growth and included the $100.0 million of senior notes issued in connection with the Merger. Average borrowings also included $25.7 million of subordinated debentures which were redeemed in June 2014. The average cost of borrowings was 2.45% for fiscal 2014 compared to 3.13% in fiscal 2013 and 3.65% in fiscal 2012. The decline in the average cost of borrowings between the periods was mainly due to an increase in short-term FHLB borrowings as a percentage of total average borrowings.

Provision for Loan Losses. The provision for loan losses is determined by the Company as the amount to be added to the allowance for loan losses after net charge-offs have been deducted to bring the allowance to a level that is the Company’s best estimate of probable incurred credit losses inherent in the outstanding loan portfolio. The provision for loan losses totaled $19.1 million in fiscal 2014 compared to $12.2 million in fiscal 2013 and $10.6 million in fiscal 2012. See the section captioned “Loans - Provision for Loan Losses” elsewhere in this discussion for further analysis of the provision for loan losses.

Non-interest income. The components of non-interest income were as follows:
 
For the year ended September 30,
 
2014
 
2013
 
2012
 
(Dollars in Thousands)
Accounts receivable management / factoring commissions and other related fees
$
13,146

 
$

 
$

Mortgage banking income
8,086

 
1,979

 
1,897

Deposit fees and service charges
15,595

 
10,964

 
11,377

Net gain on sale of securities
641

 
7,391

 
10,452

Bank owned life insurance
3,080

 
1,998

 
2,050

Investment management fees
2,209

 
2,413

 
3,143

Other
4,613

 
2,947

 
3,233

Total non-interest income
$
47,370

 
$
27,692

 
$
32,152



33


Non-interest income was $47.4 million in fiscal 2014, compared to $27.7 million in fiscal 2013 and $32.2 million in fiscal 2012. Included in non-interest income is net gain on sale of securities which was $641 thousand in fiscal 2014, compared to $7.4 million in fiscal 2013 and $10.5 million in fiscal 2012. Net gain on sale of securities is impacted significantly by changes in market interest rates and strategies we use to manage liquidity and interest rate risk. Excluding net gain on sale of securities, non-interest income was $46.7 million in fiscal 2014 compared to $20.3 million in fiscal 2013 and $21.7 million in fiscal 2012. The main driver of growth between fiscal 2013 and fiscal 2014 were fees generated in accounts receivable management and mortgage banking income as a result of the Merger. Our goal is to grow non-interest income excluding securities gains to over 20% of net interest income plus non-interest income excluding securities gains. This ratio was 17.7% in fiscal 2014 compared to 15.3% in fiscal 2013 and 18.4% in fiscal 2012.

Accounts receivable management / factoring commissions and other related fees represents fees generated in our factoring and payroll finance businesses. In factoring, we receive a nonrefundable factoring fee, which is generally a percentage of the factored receivables or sales volume and is designed to compensate us for the bookkeeping and collection services provided and, if applicable, the credit review of the client’s customer and assumption of customer credit risk. In payroll finance, we provide outsourcing support services for clients in the temporary staffing industry. We generate fee income in exchange for providing full back-office, payroll, tax and accounting services to independently-owned temporary staffing companies. Accounts receivable management / factoring commissions and other related fees totaled $13.1 million in fiscal 2014.

Mortgage banking income represents mortgage banking and brokerage business conducted through loan production offices located principally in New York City and through our financial centers. The Merger substantially increased our mortgage banking volume; mortgage banking revenue was $8.1 million in fiscal 2014 compared to $2.0 million in fiscal 2013 and $1.9 million in fiscal 2012.

Deposit fees and service charges increased by $5.6 million to $15.6 million in fiscal 2014, as the average balance of deposits increased by $2.1 billion over average balances in fiscal 2013. The decline in deposit fees and service charges of $413 thousand in fiscal 2013 compared to fiscal 2012 was mainly caused by a change in the composition of our deposits, as deposits gathered by our commercial banking teams are generally higher balance deposits but typically generate lower levels of fees and service charges than retail deposits.

Bank owned life insurance(“BOLI”) income represents the change in the cash surrender value of life insurance policies owned by the Bank. BOLI income increased by $1.1 million and was $3.1 million in fiscal 2014, as we acquired Legacy Sterling’s BOLI balances in connection with the Merger. The decrease in BOLI income between fiscal 2013 and fiscal 2012 was due to a decline in the interest crediting rate we receive from the insurance carriers given the current low interest rate environment.

Investment management fees principally represent fees from the sale of mutual funds and annuities and were $2.2 million in fiscal 2014 compared to $2.4 million in fiscal 2013 and $3.1 million in fiscal 2012. In fiscal 2012, we sold the assets of our former subsidiary that was active in the investment management business. We commenced a new wealth management initiative in fiscal 2013 focused on partnering with a third-party vendor to deliver wealth management products through our financial centers and commercial banking teams.

Other non-interest income principally includes loan servicing revenues, miscellaneous loan fees earned, letter of credit fees, and safe deposit box rentals. Other non-interest income increased by $1.7 million to $4.6 million in fiscal 2014 as a result of the Merger.


34


Non-interest expense. The components of non-interest expense were as follows:

 
For the fiscal year ended September 30,
 
2014
 
2013
 
2012
 
(Dollars in Thousands)
Compensation and employee benefits
$
94,310

 
$
47,833

 
$
46,038

Stock-based compensation plans
3,703

 
2,239

 
1,187

Occupancy and office operations
27,726

 
14,953

 
14,457

Amortization of intangible assets
9,408

 
1,296

 
1,245

FDIC insurance and regulatory assessments
6,146

 
3,010

 
3,096

Other real estate owned expense
(237
)
 
1,562

 
1,618

Merger-related expense
9,455

 
2,772

 
5,925

Other
57,917

 
17,376

 
18,391

Total non-interest expense
$
208,428

 
$
91,041

 
$
91,957


Non-interest expense in fiscal 2014 increased $117.4 million to $208.4 million compared to $91.0 million fiscal 2013 and $92.0 million in fiscal 2012. The changes in the various components of non-interest expense between fiscal 2014 and fiscal 2013 were mainly the result of the Merger, which significantly increased the Company’s personnel, facilities and operating expense base. The decline in non-interest expense between fiscal 2012 and fiscal 2013 is mainly due to lower merger-related expenses. Merger-related expenses in fiscal 2012 of $5.9 million included expenses related to due diligence, restructuring costs and other charges in connection with the acquisition of Gotham Bank in August 2012.

Compensation and employee benefits in fiscal 2014 increased $46.5 million, or 97.2% to $94.3 million compared to $47.8 million in the prior year. At September 30, 2014, we had 21 commercial banking teams, as compared to September 30, 2013 and 2012 when we had 16 commercial banking teams. Our full-time equivalent employees were 836 at September 30, 2014 compared to 477 at September 30, 2013 and 493 at September 30, 2012. The increase in personnel in fiscal 2014 was due to the Merger. The decline in personnel between fiscal 2012 and fiscal 2013 was the result of operational efficiencies generated by the acquisition of Gotham Bank and the consolidation of several financial centers.

Included in compensation and employee benefits expense are expenses associated with the Company’s defined benefit pension plan and ESOP plan. During fiscal 2014, we merged the Legacy Provident defined benefit pension plan and the Legacy Sterling defined benefit pension plan and settled $44.8 million of the merged plan benefit obligations through the purchase of annuities for certain retirees. We also terminated the Company’s ESOP plan in fiscal 2014. Compensation and employee benefits expense in fiscal 2014 included a charge of $3.9 million on the purchase of the annuities referenced above.

Stock-based compensation plans were $3.7 million in fiscal 2014 compared to $2.2 million in fiscal 2013 and $1.2 million in fiscal 2012. The increase in fiscal 2014 was mainly due to an increase in personnel due to the Merger. The increase between fiscal 2012 and fiscal 2013 was mainly due to a shift in our compensation plans which increased the proportion of stock-based compensation to total compensation for key personnel and the number of key personnel receiving stock-based compensation.

For additional information related to the Company’s employee benefit plans and stock-based compensation, see Note 11. “Employee Benefit Plans and Stock-Based Compensation Plans” in the consolidated financial statements included elsewhere in this Report.

Occupancy and office operations increased $12.8 million to $27.7 million in fiscal 2014 compared to $15.0 million in fiscal 2013 and $14.5 million in fiscal 2012. The increase between fiscal 2013 and fiscal 2014 was due to an increase in financial centers and other locations acquired in the Merger. As discussed below, we moved certain financial center locations to other real estate owned and are actively marketing these properties and other leased locations with the objective of reducing our occupancy and office operations expense over time.


35


Amortization of intangible assets mainly includes amortization of core deposit intangible assets and non-compete agreements. Amortization of intangible assets increased $8.1 million to $9.4 million in fiscal 2014 compared to $1.3 million in fiscal 2013 and $1.2 million in fiscal 2012. The increase in fiscal 2014 was a result of core deposit intangibles and non-compete agreement intangibles recorded in connection with the Merger. Amortization of intangible assets is expected to be $6.1 million in fiscal 2015. See Note 6. “Goodwill and Other Intangible Assets” in the consolidated financial statements included elsewhere in this Report.

FDIC insurance and regulatory assessments expense increased $3.1 million and was $6.1 million in fiscal 2014 compared to $3.0 million in fiscal 2013 and $3.1 million in fiscal 2012. The increase in deposit insurance and regulatory fees in fiscal 2014 was due to the Merger as these assessments are mainly based on the average balance of total assets on a quarterly basis. The decline during fiscal 2013 relative to fiscal 2012 was mainly due to a change in the deposit insurance assessment base.

Other real estate owned expense (“OREO”) includes maintenance costs, taxes, insurance, write-downs (subsequent to any write-down at the time of foreclosure or transfer to OREO), and gains and losses from the disposition of OREO. OREO includes real estate assets foreclosed and financial center locations that are held for sale. OREO expense declined $1.8 million in fiscal 2014 compared to fiscal 2013 and declined $56 thousand in fiscal 2013 compared to fiscal 2012. The net benefit of $237 thousand in fiscal 2014 was due to a $925 thousand gain on the sale of a financial center location that was acquired in the Merger.

Merger-related expense was $9.5 million in fiscal 2014, $2.8 million in fiscal 2013 and $5.9 million in fiscal 2012. Merger-related expense in fiscal 2013 included due diligence costs and financial advisor fees only, which were incurred due to the Merger. Merger-related expense in fiscal 2014 and fiscal 2012 included due diligence, restructuring costs and other charges incurred in connection with the Merger and the acquisition of Gotham Bank, respectively.

Other non-interest expense for fiscal 2014 increased $40.5 million to $57.9 million compared to $17.4 million in fiscal 2013 and $18.4 million in fiscal 2012. Included in other non-interest expense for fiscal 2014 were charges of $26.6 million that included asset write-downs to consolidate our financial center and other locations, retention and severance payments and charges incurred on the conversion of our banking systems. Excluding these charges, other non-interest expense was $31.3 million in fiscal 2014 compared to $17.4 million in fiscal 2013 and $18.4 million in fiscal 2012. Other non-interest expense mainly includes professional fees, data processing, insurance, communications, advertising, supplies, loan processing and postage. The increase in fiscal 2014 compared to fiscal 2013 was principally due to the Merger.

Income Tax expense was $10.2 million for fiscal 2014, compared to $11.4 million for fiscal 2013, and $6.2 million for fiscal 2012. This represented an effective tax rate of 26.8%, 31.1%, and 23.6%, respectively. The effective income tax rates differed from the 35% federal statutory rate during the periods primarily due to the effect of tax exempt income from securities and BOLI income. The effective tax rate in fiscal 2014 was the result of a higher proportion of income being tax exempt given the Merger-related expenses and other charges detailed above. The higher effective tax rate recognized in fiscal 2013 was mainly the result of Merger-related expenses incurred that were fully non-tax deductible and a higher proportion of taxable vs. non-taxable income versus fiscal 2012.

Sources and Uses of Funds
The following table illustrates the mix of the Company’s funding sources and the assets in which those funds are invested as a percentage of the Company’s total assets for the period indicated. Average assets totaled $6.8 billion in fiscal 2014 compared to $3.8 billion in fiscal 2013 and $3.2 billion in fiscal 2012.

36


 
For the fiscal year ended September 30,
 
2014
 
2013
 
2012
Sources of Funds:
 
 
 
 
 
Non-interest bearing deposits
23.4
%
 
17.0
%
 
16.3
%
Interest bearing deposits
49.5

 
57.9

 
57.8

FHLB and other borrowings
10.4

 
11.1

 
10.5

Subordinated debentures
0.2

 

 

Senior notes
1.4