10-Q 1 form10q.htm  
 UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q

              (mark one)
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2016
or
TRANSITION REPORT PURSUANT TO SECTION 13 OF 15(d)
OF THE SECURITIES AND EXCHANGE ACT OF 1934
For the transition period from ____ to ____
Commission File Number: 000-31225

, Inc.
(Exact name of registrant as specified in its charter)

Tennessee
  
62-1812853
(State or other jurisdiction of incorporation or organization)
  
(I.R.S. Employer Identification No.)

150 Third Avenue South, Suite 900, Nashville, Tennessee
  
 
37201
(Address of principal executive offices)
  
(Zip Code)

(615) 744-3700
 (Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year, if changes since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes 
No 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for shorter period that the registrant was required to submit and post such files).
Yes 
No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of "large accelerated filer", "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.  (Check one):
Large Accelerated Filer
Accelerated Filer
 
Non-accelerated Filer 
(do not check if you are a smaller reporting company)
Smaller reporting company 
  
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes 
No
As of  August 2, 2016 there were 46,140,190 shares of common stock, $1.00 par value per share, issued and outstanding.


Pinnacle Financial Partners, Inc.
Report on Form 10-Q
June 30, 2016

TABLE OF CONTENTS
Page No.
   
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 64
 65

2


FORWARD-LOOKING STATEMENTS

Certain of the statements in this Quarterly Report on Form 10-Q  may constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. The words "expect," "anticipate," "goal," "objective," "intend," "plan," "believe," "should," "hope," "pursue," "seek," "estimate" and similar expressions are intended to identify such forward-looking statements, but other statements not based on historical information may also be considered forward-looking. All forward-looking statements are subject to risks, uncertainties and other factors that may cause the actual results, performance or achievements of Pinnacle Financial to differ materially from any results expressed or implied by such forward-looking statements. Such risks include, without limitation, (i) deterioration in the financial condition of borrowers resulting in significant increases in loan losses and provisions for those losses; (ii) continuation of the historically low short-term interest rate environment; (iii) the inability of Pinnacle Financial, or entities in which it has significant investments, like Bankers Healthcare Group (BHG), to maintain the historical growth rate of its, or such entities', loan portfolio; (iv) changes in loan underwriting, credit review or loss reserve policies associated with economic conditions, examination conclusions, or regulatory developments; (v) effectiveness of Pinnacle Financial's asset management activities in improving, resolving or liquidating lower-quality assets; (vi) increased competition with other financial institutions; (vii) greater than anticipated adverse conditions in the national or local economies including the Nashville-Davidson-Murfreesboro-Franklin MSA, the Knoxville MSA, the Chattanooga, TN-GA MSA and the Memphis, TN-MS-AR MSA, particularly in commercial and residential real estate markets; (viii) rapid fluctuations or unanticipated changes in interest rates on loans or deposits; (ix) the results of regulatory examinations; (x) the ability to retain large, uninsured deposits; (xi) a merger or acquisition; (xii) risks of expansion into new geographic or product markets; (xiii) any matter that would cause Pinnacle Financial to conclude that there was impairment of any asset, including intangible assets; (xiv) reduced ability to attract additional financial advisors (or failure of such advisors to cause their clients to switch to Pinnacle Financial), to retain financial advisors or otherwise to attract customers from other financial institutions; (xv) further deterioration in the valuation of other real estate owned and increased expenses associated therewith; (xvi) inability to comply with regulatory capital requirements, including those resulting from changes to capital calculation methodologies and required capital maintenance levels; (xvii) risks associated with litigation, including the applicability of insurance coverage; (xviii) the risk that the cost savings and any revenue synergies from Pinnacle Financial's and Pinnacle Bank's recent mergers may not be realized or take longer than anticipated to be realized; (xix) disruption from the Avenue Financial Holdings, Inc. (Avenue) merger with customers, suppliers or employee relationships; (xx) the risk of successful integration of the businesses Pinnacle Financial recently acquired with Pinnacle Financial's; (xxi) the amount of the costs, fees, expenses and charges related to the Avenue merger; (xxii) risk of adverse reaction of Pinnacle Bank's and Avenue's customers to the Avenue merger; (xxiii) the risk that the integration of the operations of the companies Pinnacle Financial recently acquired with Pinnacle Financial's will be materially delayed or will be more costly or difficult than expected; (xxix) approval of the declaration of any dividend by Pinnacle Financial's board of directors; (xxx) the vulnerability of our network and online banking portals to unauthorized access, computer viruses, phishing schemes, spam attacks, human error, natural disasters, power loss and other security breaches; (xxxi) the possibility of increased compliance costs or modifications to our business plan or the business plan of entities in which we have made an investment as a result of increased regulatory oversight, including oversight of companies in which Pinnacle Financial has significant investments, and the development of additional banking products for our corporate and consumer clients; (xxxii) the risks associated with our being a minority investor in BHG, including the risk that the owners of a majority of the membership interests in BHG decide to sell the company if not prohibited from doing so by the terms of our agreement with them; (xxxiii) the possibility that the incremental cost and/or decreased revenues associated with exceeding $10 billion in assets will exceed current estimates; and (xxxiv) changes in state and federal legislation, regulations or policies applicable to banks and other financial service providers (like BHG), including regulatory or legislative developments. A more detailed description of these and other risks is contained herein and in Pinnacle Financial's most recent annual report on Form 10-K filed with the Securities and Exchange Commission on February 29, 2016. Many of such factors are beyond Pinnacle Financial's ability to control or predict, and readers are cautioned not to put undue reliance on such forward-looking statements. Pinnacle Financial disclaims any obligation to update or revise any forward-looking statements contained in this report, whether as a result of new information, future events or otherwise.
3


Item 1. Part I. Financial Information

PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
   
June 30, 2016
    
December 31, 2015
  
ASSETS
            
Cash and noninterest-bearing due from banks
  
$
77,817,212
    
$
75,078,807
  
Interest-bearing due from banks
    
390,839,578
      
219,202,464
  
Federal funds sold and other
    
3,124,302
      
26,670,062
  
Cash and cash equivalents
    
471,781,092
      
320,951,333
  
                 
Securities available-for-sale, at fair value
    
1,109,221,784
      
935,064,745
  
Securities held-to-maturity (fair value of $29,092,450 and $31,585,303 at
                
June 30, 2016 and December 31, 2015, respectively)
    
28,511,599
      
31,376,840
  
Consumer mortgage loans held-for-sale
    
53,118,706
      
47,930,253
  
Commercial mortgage loans held-for-sale
    
9,322,783
      
-
  
                 
Loans
    
7,091,401,512
      
6,543,235,381
  
Less allowance for loan losses
    
(61,411,537
)
    
(65,432,354
)
Loans, net
    
7,029,989,975
      
6,477,803,027
  
                 
Premises and equipment, net
    
78,800,120
      
77,923,607
  
Equity method investment
    
195,891,508
      
88,880,014
  
Accrued interest receivable
    
23,432,495
      
21,574,096
  
Goodwill
    
427,573,930
      
432,232,255
  
Core deposits and other intangible assets
    
8,820,668
      
10,540,497
  
Other real estate owned
    
5,005,642
      
5,083,218
  
Other assets
    
294,197,558
      
265,183,799
  
Total assets
  
$
9,735,667,860
    
$
8,714,543,684
  
                 
LIABILITIES AND STOCKHOLDERS' EQUITY
                
Deposits:
                
Noninterest-bearing
  
$
2,013,847,185
    
$
1,889,865,113
  
Interest-bearing
    
1,316,653,111
      
1,389,548,175
  
Savings and money market accounts
    
3,237,003,521
      
3,001,950,725
  
Time
    
725,322,534
      
690,049,795
  
Total deposits
    
7,292,826,351
      
6,971,413,808
  
Securities sold under agreements to repurchase
    
73,316,880
      
79,084,298
  
Federal Home Loan Bank advances
    
783,240,425
      
300,305,226
  
Subordinated debt and other borrowings
    
229,713,860
      
141,605,504
  
Accrued interest payable
    
4,067,352
      
2,593,209
  
Other liabilities
    
90,349,182
      
63,930,339
  
Total liabilities
    
8,473,514,050
      
7,558,932,384
  
Stockholders' equity:
                
Preferred stock, no par value, 10,000,000 shares authorized;
                
no shares issued and outstanding
    
-
      
-
  
Common stock, par value $1.00; 90,000,000 shares authorized;
                
42,184,120 and 40,906,064 shares issued and outstanding
                
at June 30, 2016 and December 31, 2015, respectively
    
42,184,120
      
40,906,064
  
Additional paid-in capital
    
889,468,015
      
839,617,050
  
Retained earnings
    
325,608,051
      
278,573,408
  
Accumulated other comprehensive income (loss), net of taxes
    
4,893,624
      
(3,485,222
)
Total stockholders' equity
    
1,262,153,810
      
1,155,611,300
  
Total liabilities and stockholders' equity
  
$
9,735,667,860
    
$
8,714,543,684
  

See accompanying notes to consolidated financial statements (unaudited).
4


PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)

   
Three months ended
    
Six months ended
  
   
June 30, 2016
    
June 30, 2015
    
June 30, 2016
    
June 30, 2015
  
Interest income:
                        
Loans, including fees
  
$
77,043,106
    
$
50,325,643
    
$
151,447,310
    
$
99,792,349
  
Securities:
                                
Taxable
    
4,571,876
      
3,460,243
      
9,038,710
      
6,904,842
  
Tax-exempt
    
1,443,017
      
1,400,479
      
2,936,774
      
2,883,786
  
Federal funds sold and other
    
703,706
      
316,286
      
1,313,293
      
600,264
  
Total interest income
    
83,761,705
      
55,502,651
      
164,736,087
      
110,181,241
  
                                 
Interest expense:
                                
Deposits
    
5,073,567
      
2,592,476
      
9,989,130
      
5,023,218
  
Securities sold under agreements to repurchase
    
39,532
      
29,371
      
87,582
      
60,288
  
Federal Home Loan Bank advances and other borrowings
    
3,605,320
      
1,050,119
      
5,713,412
      
1,998,671
  
Total interest expense
    
8,718,419
      
3,671,966
      
15,790,124
      
7,082,177
  
Net interest income
    
75,043,286
      
51,830,685
      
148,945,963
      
103,099,064
  
Provision for loan losses
    
5,280,101
      
1,186,116
      
9,173,671
      
1,501,207
  
Net interest income after provision for loan losses
    
69,763,185
      
50,644,569
      
139,772,292
      
101,597,857
  
                                 
Noninterest income:
                                
Service charges on deposit accounts
    
3,430,391
      
3,075,655
      
6,873,075
      
5,988,204
  
Investment services
    
2,499,719
      
2,399,054
      
4,845,319
      
4,658,494
  
Insurance sales commissions
    
1,192,827
      
1,105,783
      
2,898,686
      
2,618,401
  
Gain on mortgage loans sold, net
    
4,221,301
      
1,652,111
      
7,788,852
      
3,593,365
  
Investment gains on sales, net
    
-
      
556,014
      
-
      
562,017
  
Trust fees
    
1,491,955
      
1,230,415
      
3,072,567
      
2,542,400
  
Income from equity method investment
    
9,644,310
      
4,266,154
      
14,791,834
      
7,467,456
  
Other noninterest income
    
10,232,433
      
5,733,592
      
18,298,313
      
11,081,743
  
Total noninterest income
    
32,712,936
      
20,018,778
      
58,568,646
      
38,512,080
  
                                 
Noninterest expense:
                                
Salaries and employee benefits
    
34,254,147
      
23,774,558
      
66,771,003
      
47,305,418
  
Equipment and occupancy
    
8,312,272
      
5,877,971
      
16,442,736
      
11,924,194
  
Other real estate expense (benefit), net
    
222,473
      
(114,567
)
    
334,745
      
280,721
  
Marketing and other business development
    
1,537,843
      
1,186,165
      
2,801,204
      
2,145,915
  
Postage and supplies
    
1,049,842
      
731,219
      
2,006,929
      
1,380,470
  
Amortization of intangibles
    
846,615
      
227,413
      
1,719,830
      
454,827
  
Merger related expense
    
980,182
      
59,053
      
2,809,654
      
59,053
  
Other noninterest expense
    
8,727,393
      
5,005,513
      
17,108,362
      
10,027,749
  
Total noninterest expense
    
55,930,767
      
36,747,325
      
109,994,463
      
73,578,347
  
Income before income taxes
    
46,545,354
      
33,916,022
      
88,346,475
      
66,531,590
  
Income tax expense
    
15,758,582
      
11,252,191
      
29,594,439
      
22,025,048
  
Net income
  
$
30,786,772
    
$
22,663,831
    
$
58,752,036
    
$
44,506,542
  
Per share information:
                                
Basic net income per common share
  
$
0.75
    
$
0.65
    
$
1.44
    
$
1.27
  
Diluted net income per common share
  
$
0.73
    
$
0.64
    
$
1.42
    
$
1.25
  
Weighted average shares outstanding:
                                
Basic
    
41,274,450
      
35,128,856
      
40,678,669
      
35,085,271
  
Diluted
    
41,974,483
      
35,554,683
      
41,411,248
      
35,477,098
  

See accompanying notes to consolidated financial statements (unaudited).
5


PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)

   
Three months ended
June 30,
    
Six months ended
June 30,
  
   
2016
    
2015
    
2016
    
2015
  
Net income
  
$
30,786,772
    
$
22,663,831
    
$
58,752,036
    
$
44,506,542
  
Other comprehensive income (loss), net of tax:
                                
Change in fair value on available-for-sale securities, net of tax
    
3,211,042
      
(4,952,934
)
    
9,642,510
      
(3,009,581
)
Change in fair value of cash flow hedges, net of tax
    
(339,961
)
    
(31,598
)
    
(1,263,664
)
    
(584,425
)
    Net gain on sale of investment securities reclassified from other comprehensive income into net income, net of tax
    
-
      
(337,890
)
    
-
      
(341,537
)
Total other comprehensive income (loss), net of tax
    
2,871,081
      
(5,322,422
)
    
8,378,846
      
(3,935,543
)
Total comprehensive income
  
$
33,657,853
    
$
17,341,409
    
$
67,130,882
    
$
40,570,999
  
                                 

See accompanying notes to consolidated financial statements (unaudited).
6


PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(Unaudited)

   
Common Stock
    
Additional Paid-in
Capital
    
Retained Earnings
    
Accumulated Other Comp.
Income, net
    
Total Stockholders' Equity
  
   
Shares
    
Amount
                  
                                     
Balance at December 31, 2014
    
35,732,483
    
$
35,732,483
    
$
561,431,449
    
$
201,371,081
    
$
4,158,368
    
$
802,693,381
  
Exercise of employee common stock
                                                
options and related tax benefits
    
152,544
      
152,544
      
4,144,437
      
-
      
-
      
4,296,981
  
Common dividends paid
    
-
      
-
      
-
      
(8,633,757
)
    
-
      
(8,633,757
)
Issuance of restricted common shares,
                                                
net of forfeitures
    
150,259
      
150,259
      
(150,259
)
    
-
      
-
      
-
  
Restricted shares withheld for taxes and related tax benefit
    
(57,299
)
    
(57,299
)
    
(841,791
)
    
-
      
-
      
(899,090
)
Compensation expense for restricted shares
    
-
      
-
      
3,361,547
      
-
      
-
      
3,361,547
  
Net income
    
-
      
-
      
-
      
44,506,542
      
-
      
44,506,542
  
Other comprehensive loss
    
-
      
-
      
-
      
-
      
(3,935,543
)
    
(3,935,543
)
Balance at June 30, 2015
    
35,977,987
    
$
35,977,987
    
$
567,945,383
    
$
237,243,866
    
$
222,825
    
$
841,390,061
  
                                                 
Balance at December 31, 2015
    
40,906,064
    
$
40,906,064
    
$
839,617,050
    
$
278,573,408
    
$
(3,485,222
)
  
$
1,155,611,300
  
Exercise of employee common stock
                                                
options and related tax benefits
    
332,094
      
332,094
      
6,798,402
      
-
      
-
      
7,130,496
  
Common dividends paid
    
-
      
-
      
-
      
(11,717,393
)
            
(11,717,393
)
Issuance of restricted common shares,
                                                
net of forfeitures
    
141,331
      
141,331
      
(141,331
)
    
-
      
-
      
-
  
Common stock issued in conjunction with Bankers Healthcare Group investment, net of issuance costs
    
860,470
      
860,470
      
38,827,126
      
-
      
-
      
39,687,596
  
Restricted shares withheld for taxes and related tax benefit
    
(55,839
)
    
(55,839
)
    
(878,179
)
    
-
      
-
      
(934,018
)
Compensation expense for restricted shares
    
-
      
-
      
5,244,947
      
-
      
-
      
5,244,947
  
Net income
    
-
      
-
      
-
      
58,752,036
      
-
      
58,752,036
  
Other comprehensive income
    
-
      
-
      
-
      
-
      
8,378,846
      
8,378,846
  
Balance at June 30, 2016
    
42,184,120
    
$
42,184,120
    
$
889,468,015
    
$
325,608,051
    
$
4,893,624
    
$
1,262,153,810
  

See accompanying notes to consolidated financial statements (unaudited).
7
 
PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
   
Six months ended
June 30,
  
   
2016
    
2015
  
Operating activities:
            
Net income
  
$
58,752,036
    
$
44,506,542
  
Adjustments to reconcile net income to net cash provided by operating activities:
                
Net amortization/accretion of premium/discount on securities
    
2,940,923
      
2,436,636
  
Depreciation, amortization, and accretion
    
1,220,878
      
4,318,556
  
Provision for loan losses
    
9,173,671
      
1,501,207
  
Gain on mortgage loans sold, net
    
(7,788,852
)
    
(3,593,365
)
Gain on sale of investment securities
    
-
      
(562,017
)
Stock-based compensation expense
    
5,244,947
      
3,361,547
  
Deferred tax expense
    
1,750,526
      
613,022
  
Losses on dispositions of other real estate and other investments
    
218,568
      
241,254
  
Income from equity method investment
    
(14,791,834
)
    
(7,467,456
)
Excess tax benefit from stock compensation
    
(2,422,226
)
    
(1,398,876
)
Gain on other loans sold, net
    
(548,560
)
    
-
  
Other loans held for sale:
                
Loans originated
    
(30,854,000
)
    
-
  
Loans sold
    
22,079,777
      
-
  
Mortgage loans held for sale:
                
Loans originated
    
(195,638,601
)
    
(222,301,417
)
Loans sold
    
198,239,000
      
208,391,000
  
Decrease (increase) in other assets
    
(18,585,336
)
    
5,668,214
  
Increase (decrease) in other liabilities
    
30,286,044
      
(6,601,764
)
Net cash provided by operating activities
    
59,276,961
      
29,113,083
  
                 
Investing activities:
                
Activities in securities available-for-sale:
                
Purchases
    
(265,495,464
)
    
(180,352,200
)
Sales
    
-
      
33,290,733
  
Maturities, prepayments and calls
    
104,509,440
      
65,886,600
  
Activities in securities held-to-maturity:
                
Purchases
    
(560,000
)
    
(1,550,995
)
Maturities, prepayments and calls
    
3,170,000
      
5,935,000
  
Increase in loans, net
    
(559,866,109
)
    
(247,698,663
)
Purchases of software, premises and equipment
    
(6,700,278
)
    
(6,455,257
)
Proceeds from sales of software, premises and equipment
    
1,949,036
      
654,069
  
Proceeds from sale of other real estate
    
2,323,953
      
-
  
Increase in equity method investment
    
(74,100,000
)
    
(75,425,530
)
Dividends received from equity method investment
    
21,824,256
      
-
  
Increase in other investments
    
(16,944,435
)
    
(720,972
)
Net cash used in investing activities
    
(789,889,601
)
    
(406,437,215
)
                 
Financing activities:
                
Net increase in deposits
    
321,819,132
      
211,006,014
  
Net decrease in securities sold under agreements to repurchase
    
(5,767,418
)
    
(32,446,182
)
Advances from Federal Home Loan Bank:
                
Issuances
    
1,528,000,000
      
1,740,000,000
  
Payments/maturities
    
(1,045,064,801
)
    
(1,490,108,767
)
Increase in other borrowings
    
87,976,401
      
37,750,000
  
Exercise of common stock options and stock appreciation rights,
                
net of repurchase of restricted shares
    
3,774,252
      
3,397,891
  
Excess tax benefit from stock compensation
    
2,422,226
      
1,398,876
  
Common stock dividends paid
    
(11,717,393
)
    
(8,633,757
)
Net cash provided by financing activities
    
881,442,399
      
462,364,075
  
Net decrease in cash and cash equivalents
    
150,829,759
      
85,039,943
  
Cash and cash equivalents, beginning of period
    
320,951,333
      
187,907,510
  
Cash and cash equivalents, end of period
  
$
471,781,092
    
$
272,947,453
  
See accompanying notes to consolidated financial statements (unaudited).
8

 
PINNACLE FINANCIAL PARTNERS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1. Summary of Significant Accounting Policies

Nature of Business — Pinnacle Financial Partners, Inc. (Pinnacle Financial) is a bank holding company whose primary business is conducted by its wholly-owned subsidiary, Pinnacle Bank. Pinnacle Bank is a commercial bank headquartered in Nashville, Tennessee. Pinnacle Financial completed its acquisitions of CapitalMark Bank & Trust (CapitalMark), Magna Bank (Magna) and Avenue Financial Holdings, Inc. (Avenue) on July 31, 2015, September 1, 2015, and July 1, 2016, respectively. Pinnacle Financial and Pinnacle Bank also collectively hold a 49% interest in Bankers Healthcare Group, LLC (BHG),  a full-service commercial loan provider to healthcare and other professional practices. Pinnacle Bank provides a full range of banking services, including investment, mortgage, insurance services, and comprehensive wealth management services, in its primary market areas of the Nashville-Davidson-Murfreesboro-Franklin, Tennessee, Knoxville, Tennessee, Chattanooga, Tennessee-Georgia and Memphis, Tennessee-Mississippi-Arkansas Metropolitan Statistical Areas.

Basis of Presentation — The accompanying unaudited consolidated financial statements have been prepared in accordance with instructions to Form 10-Q and therefore do not include all information and footnotes necessary for a fair presentation of financial position, results of operations, and cash flows in conformity with U.S. generally accepted accounting principles (U.S. GAAP).  All adjustments consisting of normally recurring accruals that, in the opinion of management, are necessary for a fair presentation of the financial position and results of operations for the periods covered by the report have been included.  The accompanying unaudited consolidated financial statements should be read in conjunction with the Pinnacle Financial consolidated financial statements and related notes appearing in the 2015 Annual Report previously filed on Form 10-K.

These consolidated financial statements include the accounts of Pinnacle Financial and its wholly-owned subsidiaries. PNFP Statutory Trust I, PNFP Statutory Trust II, PNFP Statutory Trust III and PNFP Statutory Trust IV are affiliates of Pinnacle Financial and are included in these consolidated financial statements pursuant to the equity method of accounting. Significant intercompany transactions and accounts are eliminated in consolidation.

Use of Estimates — The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities as of the balance sheet date and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term include the determination of the allowance for loan losses, determination of impairment of intangible assets, including goodwill, the valuation of deferred tax assets, and our investment portfolio, including other-than-temporary impairment. These financial statements should be read in conjunction with Pinnacle Financial's Annual Report on Form 10-K for the year ended December 31, 2015. There have been no significant changes to Pinnacle Financial's significant accounting policies as disclosed in Pinnacle Financial's Annual Report on Form 10-K for the year ended December 31, 2015.
 
Cash Flow Information — Supplemental cash flow information addressing certain cash and noncash transactions for each of the six months ended June 30, 2016 and June 30, 2015 was as follows:

   
For the six months ended
  
   
June 30, 2016
    
June 30, 2015
  
Cash Transactions:
            
Interest paid
  
$
14,722,572
    
$
7,099,390
  
Income taxes paid, net
    
22,364,686
      
17,847,500
  
Noncash Transactions:
                
Loans charged-off to the allowance for loan losses
    
16,372,819
      
6,098,606
  
Loans foreclosed upon and transferred to other real estate owned
    
2,464,945
      
252,896
  
Loans foreclosed upon and transferred to other assets
    
1,673,946
      
3,478,159
  
9
 
Income Per Common Share — Basic net income per common share (EPS) is computed by dividing net income by the weighted average common shares outstanding for the period. Diluted EPS reflects the dilution that could occur if securities or other contracts to issue common stock were exercised or converted. The difference between basic and diluted weighted average shares outstanding is attributable to common stock options, common stock appreciation rights, restricted share awards, and restricted share unit awards. The dilutive effect of outstanding options, common stock appreciation rights, restricted share awards, and restricted share unit awards is reflected in diluted EPS by application of the treasury stock method.
The following is a summary of the basic and diluted net income per share calculations for the three and six months ended June 30, 2016 and 2015:

   
Three months ended
June 30,
    
Six months ended
June 30,
  
   
2016
    
2015
    
2016
    
2015
  
Basic net income per share calculation:
                        
Numerator - Net income
  
$
30,786,772
    
$
22,663,831
    
$
58,752,036
    
$
44,506,542
  
                                 
Denominator - Average common shares outstanding
    
41,274,450
      
35,128,856
      
40,678,669
      
35,085,271
  
Basic net income per share
  
$
0.75
    
$
0.65
    
$
1.44
    
$
1.27
  
                                 
Diluted net income per share calculation:
                                
Numerator – Net income
  
$
30,786,772
    
$
22,663,831
    
$
58,752,036
    
$
44,506,542
  
                                 
Denominator - Average common shares outstanding
    
41,274,450
      
35,128,856
      
40,678,669
      
35,085,271
  
Dilutive shares (1) 
    
700,033
      
425,827
      
732,579
      
391,827
  
Average diluted common shares outstanding
    
41,974,483
      
35,554,683
      
41,411,248
      
35,477,098
  
Diluted net income per share
  
$
0.73
    
$
0.64
    
$
1.42
    
$
1.25
  
 
(1)
Approximately 518,152 restricted share units are not included in the weighted-average shares outstanding as they are deemed to be contingently issuable. Additionally, for the periods ending June 30, 2016 and 2015, there were no share based awards excluded from the diluted earnings per share computation because they were deemed anti-dilutive.
 
Mortgage Servicing Rights — In conjunction with the acquisition of Magna, Pinnacle Bank acquired a residential mortgage servicing portfolio which was recorded at fair value upon acquisition.  The residential mortgage servicing portfolio was recorded at $6.4 million as of December 31, 2015, net of related amortization.  During the first quarter of 2016 in conjunction with a decision to exit the residential servicing line of business, Pinnacle Bank sold the mortgage servicing rights associated with the $830 million Fannie Mae portion of the residential servicing portfolio for $6.6 million, net of associated costs to sell.  Approximately $241,000 was recorded as income in the first quarter of 2016 as a result of the sale.
 
Recently Adopted Accounting Pronouncements — In April 2015, the Financial Accounting Standards Board (FASB) issued ASU 2015-03 Simplifying the Presentation of Debt Issuance Costs requiring that debt issuance costs related to a debt liability be presented in the balance sheet as a direct reduction from the carrying amount of the related debt liability. The guidance became effective on January 1, 2016.  As a result of the adoption of this standard, Pinnacle Financial reclassified approximately $870,000 of deferred financing costs from Other Assets to Subordinated Debt and Other Borrowings in the consolidated balance sheet as of December 31, 2015.

Subsequent Events — ASC 855, Subsequent Events, establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued. Pinnacle Financial evaluated all events or transactions that occurred after June 30, 2016 through the date of the issued financial statements.

Merger with Avenue Financial Holdings, Inc. (Avenue)
 
On January 28, 2016, Pinnacle Financial entered into an Agreement and Plan of Merger (the Merger Agreement) by and between Pinnacle Financial and Avenue, a publicly traded bank holding company,  pursuant to which Avenue would merge with and into Pinnacle Financial, with Pinnacle Financial continuing as the surviving corporation (the Avenue Merger). On July 1, 2016, Avenue merged with Pinnacle Financial. On that same day, Pinnacle Bank and Avenue Bank merged, with Pinnacle Bank continuing as the surviving bank.
 
Pursuant to the terms of the Merger Agreement, each holder of Avenue common stock issued and outstanding, subject to certain exceptions, received 0.36 shares of Pinnacle Financial's common stock and an amount in cash equal to $2.00 for each share of Avenue common stock owned by them at the effective time of the Avenue Merger.

10
Cash was paid in lieu of any fractional shares of Pinnacle Financial common stock that would otherwise be issued in the Avenue Merger based on the average closing price of Pinnacle Financial's common stock for the ten (10) trading days ending on the business day immediately preceding the closing date of the Avenue Merger. Additionally, any outstanding options to purchase shares of common stock of Avenue that were not vested were accelerated prior to, but conditioned on the occurrence of, the closing of the Avenue Merger and all options that were not exercised prior to the closing were cancelled and the holders of any such options received an amount in cash equal to the product of (x) the excess, if any, of $20.00 over the exercise price of each such option and (y) the number of shares of Avenue common stock subject to each such option.

As of the consummation of the Avenue Merger, Avenue had 10,445,349 shares of common stock issued and outstanding (including shares of restricted stock) and 101,389 outstanding stock options. As a result, Pinnacle Financial has issued approximately 3.76 million shares of its common stock and paid approximately $20.9 million in cash (including payments related to fractional shares) to the Avenue shareholders and approximately $1.0 million to holders of options to purchase shares of Avenue common stock that were not exercised prior to the consummation of the Avenue Merger.

In addition, upon consummation of the Avenue Merger, Pinnacle Financial assumed Avenue's obligations under its outstanding $20.0 million subordinated notes issued in December 2014 that mature in December 2024. These notes bear interest at a rate of 6.75% per annum until January 1, 2020 and may not be repaid prior to such date. Beginning on January 1, 2020, if not redeemed on such date, these notes will bear interest at a floating rate equal to the three-month LIBOR determined on the determination date of the applicable interest period plus 4.95%. The subordinated notes will be recorded at fair value in connection with purchase accounting and as a result, interest expense will reflect rates that would have been realized if Pinnacle Financial had issued the instruments as of the acquisition date.

Note 2. Acquisitions

Investment - Bankers Healthcare Group, LLC. On February 1, 2015, Pinnacle Bank acquired a 30% interest in Bankers Healthcare Group (BHG) for $75 million in cash. On March 1, 2016, Pinnacle Bank and Pinnacle Financial increased their investment in BHG by a combined 19% for a total investment in BHG of 49%. The additional 19% interest was acquired pursuant to a Membership Interest Purchase Agreement dated March 1, 2016 (Purchase Agreement). Pinnacle Financial and Pinnacle Bank acquired, pursuant to the Purchase Agreement, 8.55% and an additional 10.45%, respectively, of the outstanding membership interests in BHG in exchange for an amount of cash equal to $74.1 million (with $11.4 million paid by Pinnacle Financial and $62.7 million paid by Pinnacle Bank) and 860,470 shares of Pinnacle Financial common stock.

The 860,470 shares of Pinnacle Financial common stock issued at the closing of the investment were issued in a private placement exempt from registration under Section 4(2) of the Securities Act of 1933, as amended (Securities Act), and Rule 506 of Regulation D promulgated under the Securities Act. Subsequent to the placement of the 860,470 shares, Pinnacle Financial filed a registration statement on Form S-3 with the SEC covering the resale of such shares as a secondary offering to be made on a continuous basis pursuant to Rule 415 of the Securities Act.

At the closing of the investment, Pinnacle Financial, Pinnacle Bank and the other members of BHG entered into an Amended and Restated Limited Liability Company Agreement of BHG that provides for, among other things, the following terms: (i) the inability of any member of BHG to transfer its ownership interest in BHG without the consent of the other members of BHG for five years, other than transfers to family members, trusts or affiliates of the transferring member, in connection with the acquisition of Pinnacle Financial or Pinnacle Bank or as a result of a change in applicable law that forces Pinnacle Financial and/or Pinnacle Bank to divest their ownership interests in BHG; (ii) the inability of the board of managers of BHG (of which Pinnacle Financial and Pinnacle Bank shall have the right to designate two of the five members (the Pinnacle Managers)) to approve a sale of BHG without the consent of one of the Pinnacle Managers for four years; (iii) co-sale rights for Pinnacle Financial and Pinnacle Bank in the event the other members of BHG decide to sell all or a portion of their ownership interests after the above-described five-year limitation; and (iv) a right of first refusal for BHG and the other members of BHG in the event that Pinnacle Financial and/or Pinnacle Bank decide to sell all or a portion of their ownership interests after the above-described five-year limitation, except in connection with a transfer of their ownership interests to an affiliate or in connection with the acquisition of Pinnacle Financial or Pinnacle Bank.

Pinnacle Financial accounts for this investment pursuant to the equity method for unconsolidated subsidiaries and will recognize its interest in BHG's profits and losses in noninterest income with corresponding adjustments to the BHG investment account. Additionally, Pinnacle Financial will not recognize any goodwill or other intangible asset associated with the transaction, however, it will recognize accretion income and amortization expense associated with certain amounts related to the fair value of net assets acquired including the amortizing intangible assets acquired related to BHG's customer list and data processing capabilities, pursuant to the equity method investment.

11
Acquisition - CapitalMark Bank & Trust. On July 31, 2015, Pinnacle Financial consummated its merger with CapitalMark Bank & Trust (CapitalMark). Pursuant to the terms of the Agreement and Plan of Merger dated as of April 7, 2015 by and among Pinnacle Financial, Pinnacle Bank, and CapitalMark (the CapitalMark Merger Agreement), CapitalMark merged with and into Pinnacle Bank, with Pinnacle Bank continuing as the surviving corporation (the CapitalMark Merger).

The following summarizes the consideration paid and presents the allocation of purchase price to net assets acquired (dollars in thousands):
   
Number of Shares
    
Amount
  
Equity consideration:
            
Common stock issued
    
3,306,184
    
$
175,525
  
Fair value of stock options assumed
            
30,430
  
Total equity consideration
          
$
205,955
  
                 
Non-equity consideration - Cash
            
19,675
  
Total consideration paid
          
$
225,630
  
                 
Allocation of total consideration paid:
                
Fair value of net assets assumed including estimated identifiable intangible assets
          
$
73,186
  
Goodwill
            
152,444
  
           
$
225,630
  

  Acquisition -  Magna Bank. On September 1, 2015, Pinnacle Financial consummated its previously announced acquisition of Magna Bank ("Magna"). Pursuant to the terms of the Agreement and Plan of Merger dated as of April 28, 2015 by and among Pinnacle Financial, Pinnacle Bank and Magna (the Magna Merger Agreement), Magna merged with and into Pinnacle Bank, with Pinnacle Bank continuing as the surviving corporation (the Magna Merger).

The following summarizes the consideration paid and presents a preliminary allocation of purchase price to net assets acquired (dollars in thousands):
   
Number of Shares
    
Amount
  
Equity consideration:
            
Common stock issued
    
1,371,717
    
$
63,538
  
Total equity consideration
          
$
63,538
  
                 
Non-equity consideration:
                
Cash paid to redeem common stock
          
$
19,453
  
Cash paid to exchange outstanding stock options
            
847
  
Total consideration paid
          
$
83,838
  
                 
Allocation of total consideration paid:
                
Fair value of net assets assumed including estimated identifiable intangible assets
          
$
50,514
  
Goodwill
            
33,324
  
           
$
83,838
  

12
Pinnacle Financial accounted for the aforementioned completed mergers under the acquisition method in accordance with ASC Topic 805. Accordingly, the purchase price is allocated to the fair value of the assets acquired and liabilities assumed as of the date of merger. Upon receipt of final fair value estimates, which must be within one year of the merger dates, Pinnacle Financial will make any final adjustments to the purchase price allocation and prospectively adjust any goodwill recorded. Material adjustments to merger date estimated fair values would be recorded in the period in which the merger occurred, and as a result, previously reported results are subject to change. Information regarding Pinnacle Financial's loan discount and related deferred tax asset, core deposit intangible asset and related deferred tax liability, as well as income taxes payable and the related deferred tax balances recorded in the mergers, may be adjusted as Pinnacle Financial refines its estimates. Determining the fair value of assets and liabilities, particularly illiquid assets and liabilities, is a complicated process involving significant judgment regarding estimates and assumptions used to calculate estimated fair value. Fair value adjustments based on updated estimates could materially affect the goodwill recorded on the merger. Pinnacle Financial may incur losses on the acquired loans that are materially different from losses Pinnacle Financial originally projected.
The acquired assets and liabilities, as well as the adjustments to record the assets and liabilities at their estimated fair values, are presented in the following tables (in thousands):
CapitalMark
   
As of July 31, 2015
  
   
CapitalMark Historical Cost Basis
    
 Fair Value Adjustments
      
As Recorded by Pinnacle Financial
  
Assets
                    
Cash and cash equivalents
  
$
28,021
    
$
-
      
$
28,021
  
Investment securities(1)
    
150,799
      
(399
)
      
150,400
  
Loans(2)
    
880,115
      
(22,600
)
(6) 
    
857,515
  
Mortgage loans held for sale
    
1,791
      
-
        
1,791
  
Other real estate owned
    
1,728
      
-
        
1,728
  
Core deposit intangible(3)
    
-
      
6,193
        
6,193
  
Other assets(6)(7)
    
43,526
      
6,046
        
49,572
  
Total Assets
  
$
1,105,980
    
$
(10,760
)
    
$
1,095,220
  
                           
Liabilities
                          
Interest-bearing deposits(4)
  
$
758,492
    
$
891
      
$
759,383
  
Non-interest bearing deposits
    
193,798
      
-
        
193,798
  
Borrowings(5)
    
32,874
      
228
        
33,102
  
Other liabilities
    
35,751
      
-
        
35,751
  
Total Liabilities
  
$
1,020,915
    
$
1,119
      
$
1,022,034
  
Net Assets Acquired
  
$
85,065
    
$
(11,879
)
    
$
73,186
  
Explanation of certain fair value adjustments:
(1)
The amount represents the adjustment of the book value of CapitalMark's investment securities to their estimated fair value on the date of acquisition.
(2)
The amount represents the adjustment of the net book value of CapitalMark's loans to their estimated fair value based on current interest rates and expected cash flows, which includes estimates of expected credit losses inherent in the portfolio.
(3)
The amount represents the fair value of the core deposit intangible asset representing the intangible value of the deposit base created in the acquisition.
(4)
The adjustment is necessary because the weighted average interest rate of CapitalMark's deposits exceeded the cost of similar funding at the time of acquisition. The fair value adjustment will be amortized to reduce future interest expense over the life of the portfolio.
(5)
The adjustment is necessary because the weighted average interest rate of CapitalMark's FHLB advances exceeded the cost of similar funding at the time of acquisition. The fair value adjustment will be amortized to reduce future interest expense over the life of the portfolio.
(6)
During 2016, an additional adjustment of $400,000 to goodwill was made to reduce the value of an acquired investment to zero after determining the investment was worthless. Further a reduction in the loan fair value adjustment was recorded upon the receipt of the final loan mark valuation in the amount of $206,000. 
 
13
(7)
The amount represents the deferred tax asset recognized on the fair value adjustment of CapitalMark's acquired assets and assumed liabilities as well as the fair value adjustment on premises and equipment, and was increased by $6.3 million during the second quarter of 2016 as a result of the completion of the 2015 tax return.
 
Magna
   
As of September 1, 2015
  
   
Magna Historical Cost Basis
    
Preliminary Fair Value Adjustments
        
As Recorded by Pinnacle Financial
  
Assets
                      
Cash and cash equivalents
  
$
17,832
    
$
-
        
$
17,832
  
Investment securities(1)
    
60,018
      
(280
)
        
59,738
  
Loans(2)
    
453,108
      
(10,760
)
  
(8) 
    
442,348
  
Mortgage loans held for sale
    
18,886
      
-
          
18,886
  
Other real estate owned(3)
    
1,471
      
139
          
1,610
  
Core deposit intangible(4)
    
-
      
3,170
          
3,170
  
Other assets(5)
    
31,057
      
3,976
          
35,033
  
Total Assets
  
$
582,372
    
$
(3,755
)
      
$
578,617
  
                             
Liabilities
                            
Interest-bearing deposits(6)
  
$
402,535
    
$
1,268
        
$
403,803
  
Non-interest bearing deposits
    
48,851
      
-
          
48,851
  
Borrowings(7)
    
46,900
      
506
          
47,406
  
Other liabilities
    
28,043
      
-
          
28,043
  
Total Liabilities
  
$
526,329
    
$
1,774
        
$
528,103
  
Net Assets Acquired
  
$
56,043
    
$
(5,529
)
      
$
50,514
  
Explanation of certain fair value adjustments:
(1)
The amount represents the adjustment of the book value of Magna's investment securities to their estimated fair value on the date of acquisition.
(2)
The amount represents the adjustment of the net book value of Magna's loans to their estimated fair value based on current interest rates and expected cash flows, which includes estimates of expected credit losses inherent in the portfolio.
(3)
The amount represents the adjustment to the book value of Magna's OREO to fair value on the date of acquisition.
(4)
The amount represents the fair value of the core deposit intangible asset representing the intangible value of the deposit base created in the acquisition.
(5)
The amount represents the deferred tax asset recognized on the fair value adjustment of Magna's acquired assets and assumed liabilities as well as the fair value adjustment for the mortgage servicing right and property and equipment. The value of the deferred tax asset was decreased by $1.9 million as a result of the completion of the 2015 tax return.
(6)
The adjustment is necessary because the weighted average interest rate of Magna's deposits exceeded the cost of similar funding at the time of acquisition. The fair value adjustment will be amortized to reduce future interest expense over the life of the portfolio.
(7)
The adjustment is necessary because the weighted average interest rate of Magna's FHLB advances exceeded the cost of similar funding at the time of acquisition. The fair value adjustment will be amortized to reduce future interest expense over the life of the portfolio.
(8)
A reduction in the loan fair value adjustment was recorded upon receipt of the final loan mark valuation in the amount of $426,000.

Note 3. Equity method investment

Upon Pinnacle Bank's initial investment in BHG, Pinnacle Financial and Pinnacle Bank accounted for this investment pursuant to the equity method for unconsolidated subsidiaries and recognized its interest in BHG's profits and losses in noninterest income with corresponding adjustments to the BHG investment account.  Because BHG has been determined to be a voting interest entity of which Pinnacle Financial and Pinnacle Bank controls less than a majority of the board seats following the closing of the additional investment in March 2016, this investment does not require consolidation and will continue to be accounted for pursuant to the equity method of accounting.

14
The equity method of accounting requires that acquired assets and liabilities are recorded at fair value and embedded goodwill and intangibles are identified, tested for impairment and accreted/amortized over their useful life within the equity method investment line of the balance sheet. Accretion income and amortization expense associated with acquired assets is netted within income from equity method investments. At June 30, 2016, Pinnacle Financial has recorded estimated embedded goodwill of $139.1 million and technology, trade name and customer relationship intangibles, net of related amortization, of $15.4 million compared to $50.6 million and $6.1 million, respectively, as of December 31, 2015. Pinnacle Financial has not yet completed the purchase accounting for the subsequent investment in BHG and the estimates of equity embedded goodwill and intangible assets are considered preliminary as of June 30, 2016. Amortization expense of $575,000 and $953,000 was included for the three and six months ended June 30, 2016 compared to $600,000 and $1.0 million for the same periods in the prior year. Accretion income of $303,000 and $1.2 million was included in the three and six months ended June 30, 2016. No accretion income was recorded in 2015. During the three and six months ended June 30, 2016, respectively, Pinnacle Financial and Pinnacle Bank received dividends from BHG of $16.5 million and $21.8 million in the aggregate. No dividends were received during the six months ended June 30, 2015. Earnings from BHG are included in Pinnacle Financial's consolidated tax return. Profits from intercompany transactions are eliminated. As part of ongoing business transacted with BHG, Pinnacle Bank purchased loans totaling $2.2 million during the year ended December 31, 2015. No loans were purchased for the period ended June 30, 2016.
 
A summary of BHG's financial position as of June 30, 2016 and December 31, 2015 and results of operations as of and for the three and six months ended June 30, 2016 and 2015, were as follows (in thousands):

Banker's Healthcare Group
            
($ in thousands)
            
   
As of
  
   
June 30, 2016
    
December 31, 2015
  
             
Assets
  
$
186,535
      
220,578
  
                 
Liabilities
    
127,852
      
137,147
  
Membership interests
    
58,683
      
83,431
  
Total liabilities and membership
  
$
186,535
      
220,578
  

   
For the three months ended June 30,
    
For the six months ended June 30,
  
   
2016
    
2015
    
2016
    
2015
  
                         
Revenues
  
$
39,330
    
$
34,649
    
$
70,618
    
$
61,694
  
Net income, pre-tax
  
$
21,439
    
$
21,592
    
$
33,593
    
$
35,976
  
 
Note 4.  Securities
The amortized cost and fair value of securities available-for-sale and held-to-maturity at June 30, 2016 and December 31, 2015 are summarized as follows (in thousands):

 
Amortized
Cost
    
Gross
Unrealized
Gains
    
Gross
Unrealized
Losses
    
Fair
Value
  
June 30, 2016:
                        
Securities available-for-sale:
                        
U.S. Treasury securities
  
$
-
    
$
-
    
$
-
    
$
-
  
U.S. government agency securities
    
97,458
      
69
      
1,080
      
96,447
  
Mortgage-backed agency securities
    
758,714
      
14,042
      
806
      
771,950
  
State and municipal securities
    
159,890
      
9,200
      
13
      
169,077
  
Asset-backed securities
    
68,404
      
2
      
1,062
      
67,344
  
Corporate notes and other
    
4,273
      
136
      
6
      
4,403
  
   
$
1,088,739
    
$
23,449
    
$
2,967
    
$
1,109,221
  
Securities held-to-maturity:
                                
State and municipal securities
  
$
28,512
    
$
581
    
$
-
    
$
29,093
  
   
$
28,512
    
$
581
    
$
-
    
$
29,093
  
 
15
 
Amortized
Cost
    
Gross
Unrealized
Gains
    
 Gross
Unrealized
Losses
    
 Fair
Value
  
December 31, 2015:
                        
Securities available-for-sale:
                        
U.S. Treasury securities
  
$
-
    
$
-
    
$
-
    
$
-
  
U.S. government agency securities
    
131,499
      
3
      
3,309
      
128,193
  
Mortgage-backed agency securities
    
581,998
      
5,948
      
5,030
      
582,916
  
State and municipal securities
    
158,072
      
7,094
      
124
      
165,042
  
Asset-backed securities
    
49,598
      
8
      
805
      
48,801
  
Corporate notes and other
    
9,541
      
589
      
17
      
10,113
  
   
$
930,708
    
$
13,642
      
9,285
    
$
935,065
  
Securities held-to-maturity:
                                
State and municipal securities
  
$
31,377
    
$
257
    
$
48
    
$
31,586
  
   
$
31,377
    
$
257
    
$
48
    
$
31,586
  
 
At June 30, 2016, approximately $825.2 million of securities within Pinnacle Financial's investment portfolio were pledged to secure either public funds and other deposits or securities sold under agreements to repurchase. At June 30, 2016, repurchase agreements comprised of secured borrowings totaled $73.3 million and were secured by $73.3 million of pledged U.S. government agency securities, municipal securities, asset backed securities, and corporate debentures. As the fair value of securities pledged to secure repurchase agreements may decline, Pinnacle Financial regularly evaluates its need to pledge additional securities to remain adequately secured.

The amortized cost and fair value of debt securities as of June 30, 2016 by contractual maturity are shown below. Actual maturities may differ from contractual maturities of mortgage- and asset-backed securities since the mortgages and assets underlying the securities may be called or prepaid with or without penalty. Therefore, these securities are not included in the maturity categories in the following summary (in thousands):

   
Available-for-sale
    
Held-to-maturity
  
June 30, 2016:
  
Amortized
Cost
    
Fair
Value
    
Amortized Cost
    
Fair
Value
  
Due in one year or less
  
$
3,295
    
$
3,311
    
$
1,237
    
$
1,239
  
Due in one year to five years
    
30,553
      
32,539
      
9,522
      
9,624
  
Due in five years to ten years
    
164,910
      
170,595
      
11,296
      
11,621
  
Due after ten years
    
62,863
      
63,482
      
6,457
      
6,609
  
Mortgage-backed securities
    
758,714
      
771,950
      
-
      
-
  
Asset-backed securities
    
68,404
      
67,344
      
-
      
-
  
   
$
1,088,739
    
$
1,109,221
    
$
28,512
    
$
29,093
  

16
At June 30, 2016 and December 31, 2015, the following investments had unrealized losses. The table below classifies these investments according to the term of the unrealized losses of less than twelve months or twelve months or longer (in thousands):

   
Investments with an Unrealized Loss of
less than 12 months
    
Investments with an
Unrealized Loss of
12 months or longer
    
Total Investments
with an
Unrealized Loss
  
   
Fair Value
    
Unrealized Losses
    
Fair Value
    
Unrealized Losses
    
Fair Value
    
Unrealized
Losses
  
At June 30, 2016
                                    
                                     
U.S. Treasury securities
  
$
-
    
$
-
    
$
-
    
$
-
    
$
-
    
$
-
  
U.S. government agency securities
    
8,841
      
509
      
12,116
      
571
      
20,957
      
1,080
  
Mortgage-backed securities
    
67,682
      
279
      
41,087
      
527
      
108,769
      
806
  
State and municipal securities
    
2,607
      
12
      
412
      
1
      
3,019
      
13
  
Asset-backed securities
    
38,787
      
409
      
25,554
      
653
      
64,341
      
1,062
  
Corporate notes
    
997
      
6
      
-
      
-
      
997
      
6
  
Total temporarily-impaired securities
  
$
118,914
    
$
1,215
    
$
79,169
    
$
1,752
    
$
198,083
    
$
2,967
  
                                                 
At December 31, 2015
                                                
                                                 
U.S. Treasury securities
  
$
-
    
$
-
    
$
-
    
$
-
    
$
-
    
$
-
  
U.S. government agency securities
    
61,903
      
1,702
      
65,538
      
1,607
      
127,441
      
3,309
  
Mortgage-backed securities
    
338,230
      
2,789
      
103,003
      
2,241
      
441,233
      
5,030
  
State and municipal securities
    
6,509
      
38
      
6,135
      
134
      
12,644
      
172
  
Asset-backed securities
    
41,466
      
798
      
3,539
      
7
      
45,005
      
805
  
Corporate notes
    
2,554
      
17
      
-
      
-
      
2,554
      
17
  
Total temporarily-impaired securities
  
$
450,662
    
$
5,344
    
$
178,215
    
$
3,989
    
$
628,877
    
$
9,333
  


The applicable dates for determining when securities are in an unrealized loss position are June 30, 2016 and December 31, 2015. As such, it is possible that a security had a market value that exceeded its amortized cost on other days during the past twelve-month periods ended June 30, 2016 and December 31, 2015, but is in the "Investments with an Unrealized Loss of less than 12 months" category above.

As shown in the tables above, at June 30, 2016, Pinnacle Financial had approximately $3.0 million in unrealized losses on $198.1 million of securities. The unrealized losses associated with these investment securities are driven by changes in interest rates and the unrealized loss is recorded as a component of equity.  These securities will continue to be monitored as a part of Pinnacle Financial's ongoing impairment analysis, but are expected to perform even if the rating agencies reduce the credit rating of the bond issuers. Management evaluates the financial performance of the issuers on a quarterly basis to determine if it is probable that the issuers can make all contractual principal and interest payments. If a shortfall in future cash flows is identified, a credit loss will be deemed to have occurred and will be recognized as a charge to earnings and a new cost basis for the security will be established.

Because Pinnacle Financial currently does not intend to sell those securities that have an unrealized loss at June 30, 2016, and it is not more-likely-than-not that Pinnacle Financial will be required to sell the securities before recovery of their amortized cost bases, which may be maturity, Pinnacle Financial does not consider these securities to be other-than-temporarily impaired at June 30, 2016.

Periodically, available-for-sale securities may be sold or the composition of the portfolio realigned to improve yields, quality or marketability, or to implement changes in investment or asset/liability strategy, including maintaining collateral requirements and raising funds for liquidity purposes. Additionally, if an available-for-sale security loses its investment grade or tax-exempt status, the underlying credit support is terminated or collection otherwise becomes uncertain based on factors known to management, Pinnacle Financial will consider selling the security, but will review each security on a case-by-case basis as these factors become known.

17
The carrying values of Pinnacle Financial's investment securities could decline in the future if the financial condition of issuers deteriorates and management determines it is probable that Pinnacle Financial will not recover the entire amortized cost bases of the securities.  As a result, there is a risk that other-than-temporary impairment charges may occur in the future. Additionally, there is a risk that other-than-temporary impairment charges may occur in the future if management's intention to hold these securities to maturity and/or recovery changes. 

Note 5. Loans and Allowance for Loan Losses

For financial reporting purposes, Pinnacle Financial classifies its loan portfolio based on the underlying collateral utilized to secure each loan. This classification is consistent with those utilized in the Quarterly Report of Condition and Income filed with the Federal Deposit Insurance Corporation (FDIC).

Pinnacle Financial uses five loan categories: commercial real estate mortgage, consumer real estate mortgage, construction and land development, commercial and industrial, and consumer and other.
·
Commercial real-estate mortgage loans. Commercial real-estate mortgage loans are categorized as such based on investor exposures where repayment is largely dependent upon the operation, refinance, or sale of the underlying real estate. Commercial real-estate mortgage also includes owner occupied commercial real estate which shares a similar risk profile to Pinnacle Financial's commercial and industrial products.
·
Consumer real-estate mortgage loans. Consumer real-estate mortgage consists primarily of loans secured by 1-4 residential properties including home equity lines of credit.
·
Construction and land development loans. Construction and land development loans include loans where the repayment is dependent on the successful operation of the related real estate project. Construction and land development loans include 1-4 family construction projects and commercial construction endeavors such as warehouses, apartments, office and retail space and land acquisition and development.
·
Commercial and industrial loans. Commercial and industrial loans include loans to business enterprises issued for commercial, industrial and/or other professional purposes.
·
Consumer and other loans. Consumer and other loans include all loans issued to individuals not included in the consumer real-estate mortgage classification. Examples of consumer and other loans are automobile loans, credit cards and loans to finance education, among others.

Commercial loans receive risk ratings assigned by a financial advisor and approved by a senior credit officer subject to validation by Pinnacle Financial's independent loan review department.  Risk ratings are categorized as pass, special mention, substandard, substandard-nonaccrual or doubtful-nonaccrual.  Pinnacle Financial believes that its categories follow those used by Pinnacle Bank's primary regulators.  At June 30, 2016, approximately 77.10% of Pinnacle Financial's loan portfolio was analyzed as a commercial loan type with a specifically assigned risk rating in the allowance for loan loss assessment.  Consumer loans and small business loans are generally not assigned an individual risk rating but are evaluated as either accrual or nonaccrual based on the performance of the individual loans.  However, certain consumer real-estate mortgage loans and certain consumer and other loans receive a specific risk rating due to the loan proceeds being used for commercial purposes even though the collateral may be of a consumer loan nature.

Risk ratings are subject to continual review by a financial advisor and a senior credit officer. At least annually, Pinnacle Financial's credit procedures require that every risk rated loan of $500,000 or more be subject to a formal credit risk review process by the assigned financial advisor. Each loan's risk rating is also subject to review by Pinnacle Financial's independent loan review department, which reviews a substantial portion of Pinnacle Financial's risk rated portfolio annually. Included in the coverage are independent loan reviews of loans in targeted higher-risk portfolio segments such as certain commercial and industrial loans, land loans and/or loan types in certain geographies.

The following table presents Pinnacle Financial's loan balances by primary loan classification and the amount within each risk rating category. Pass rated loans include all credits other than those included in special mention, substandard, substandard-nonaccrual and doubtful-nonaccrual which are defined as follows:
Special mention loans have potential weaknesses that deserve management's close attention.  If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in Pinnacle Financial's credit position at some future date.
Substandard loans are inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any.  Assets so classified must have a well-defined weakness or weaknesses that jeopardize collection of the debt.  Substandard loans are characterized by the distinct possibility that Pinnacle Financial will sustain some loss if the deficiencies are not corrected.
Substandard-nonaccrual loans are substandard loans that have been placed on nonaccrual status.
18
Doubtful-nonaccrual loans have all the characteristics of substandard-nonaccrual loans with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable.

The following table outlines the amount of each loan classification categorized into each risk rating category as of June 30, 2016 and December 31, 2015 (in thousands):

   
Commercial real estate - mortgage
  
Consumer real estate - mortgage
  
Construction and land development
  
Commercial and
 industrial
  
Consumer
and other
  
Total
  
June 30, 2016
                          
Accruing loans
                          
        Pass
  
$
2,423,496
  
$
1,046,149
  
$
798,597
  
$
2,402,831
  
$
244,199
  
$
6,915,272
  
        Special Mention
    
13,781
    
1,869
    
3,896
    
14,835
    
-
    
34,381
  
        Substandard (1)
    
24,538
    
10,134
    
7,073
    
56,291
    
67
    
98,103
  
        Total
    
2,461,815
    
1,058,152
    
809,566
    
2,473,957
    
244,266
    
7,047,756
  
Impaired loans
                                      
        Nonaccrual loans(2)
                                      
                Substandard-nonaccrual
    
5,184
    
7,016
    
7,112
    
11,827
    
2,556
    
33,695
  
                Doubtful-nonaccrual
    
-
    
-
    
-
    
90
    
-
    
90
  
        Total nonaccrual loans
    
5,184
    
7,016
    
7,112
    
11,917
    
2,556
    
33,785
  
        Troubled debt restructurings(3)
                                      
                Pass
    
220
    
1,377
    
3
    
335
    
44
    
1,979
  
                Special Mention
    
-
    
245
    
-
    
-
    
-
    
245
  
                Substandard
    
-
    
1,830
    
-
    
5,807
    
-
    
7,637
  
         Total troubled debt restructurings
    
220
    
3,452
    
3
    
6,142
    
44
    
9,861
  
Total impaired loans
    
5,404
    
10,468
    
7,115
    
18,059
    
2,600
    
43,646
  
Total loans
  
$
2,467,219
  
$
1,068,620
  
$
816,681
  
$
2,492,016
  
$
246,866
  
$
7,091,402
  
   
 
  
 
  
 
  
 
  
 
  
 
  
December 31, 2015
                          
Accruing loans
                          
        Pass
  
$
2,217,639
  
$
1,020,239
  
$
732,662
  
$
2,143,006
  
$
239,874
  
$
6,353,420
  
        Special Mention
    
18,162
    
1,894
    
1,133
    
26,037
    
118
    
47,344
  
        Substandard (1)
    
33,638
    
11,346
    
6,295
    
53,671
    
74
    
105,024
  
        Total
    
2,269,439
    
1,033,479
    
740,090
    
2,222,714
    
240,066
    
6,505,788
  
Impaired loans
                                      
        Nonaccrual loans(2)
                                      
                Substandard-nonaccrual
    
5,819
    
9,344
    
7,607
    
1,591
    
4,902
    
29,263
  
                Doubtful-nonaccrual
    
2
    
2
    
-
    
92
    
-
    
96
  
        Total nonaccrual loans
    
5,821
    
9,346
    
7,607
    
1,683
    
4,902
    
29,359
  
        Troubled debt restructurings(3)
                                      
                Pass
    
223
    
409
    
-
    
553
    
28
    
1,213
  
                Special Mention
    
-
    
422
    
-
    
-
    
-
    
422
  
                Substandard
    
-
    
2,861
    
-
    
3,592
    
-
    
6,453
  
         Total troubled debt restructurings
    
223
    
3,692
    
-
    
4,145
    
28
    
8,088
  
Total impaired loans
    
6,044
    
13,038
    
7,607
    
5,828
    
4,930
    
37,447
  
Total loans
  
$
2,275,483
  
$
1,046,517
  
$
747,697
  
$
2,228,542
  
$
244,996
  
$
6,543,235
  

(1)
Potential problem loans represent those loans with a well-defined weakness and where information about possible credit problems of borrowers has caused management to have doubts about the borrower's ability to comply with present repayment terms. This definition is believed to be substantially consistent with the standards established by Pinnacle Bank's primary regulators for loans classified as substandard, excluding the impact of nonaccrual loans and troubled debt restructurings. Potential problem loans, which are not included in nonaccrual loans, amounted to approximately $98.1 million at June 30, 2016, compared to $105.0 million at December 31, 2015.
(2)
Included in nonaccrual loans at June 30, 2016 and December 31, 2015 are $9.8 million and $12.1 million, respectively, in purchase credit impaired loans acquired with deteriorated credit quality.
(3)
Troubled debt restructurings are presented as an impaired loan; however, they continue to accrue interest at contractual rates.

19
At June 30, 2016 and December 31, 2015, all loans classified as nonaccrual were deemed to be impaired. The principal balances of these nonaccrual loans amounted to $33.8 million and $29.4 million at June 30, 2016 and December 31, 2015, respectively, and are included in the tables above.  For the six months ended June 30, 2016, the average balance of nonaccrual loans was $36.6 million compared to $17.3 million for the same period in 2015. Pinnacle Financial's policy is that the discontinuation of the accrual of interest income will occur when (1) there is a significant deterioration in the financial condition of the borrower and full repayment of principal and interest is not expected or (2) the principal or interest is more than 90 days past due, unless the loan is both well secured and in the process of collection. As such, at the date the above mentioned loans were placed on nonaccrual status, Pinnacle Financial reversed all previously accrued interest income against current year earnings. Pinnacle Financial's policy is that once a loan is placed on nonaccrual status each subsequent payment is reviewed on a case-by-case basis to determine if the payment should be applied to interest or principal pursuant to regulatory guidelines. Pinnacle Financial recognized approximately $41,000 and $88,000, respectively, in interest income from cash payments received on nonaccrual loans during the three and six months ended June 30, 2016, compared to $99,000 and $183,000 during the three and six months ended June 30, 2015. Had these nonaccruing loans been on accruing status, interest income would have been higher by $676,000 and $398,000 for the six months ended June 30, 2016 and 2015, respectively.

The following table details the recorded investment, unpaid principal balance and related allowance of Pinnacle Financial's nonaccrual loans at June 30, 2016 and December 31, 2015 by loan classification (in thousands):

   
At June 30, 2016
    
At December 31, 2015
  
   
Recorded investment
    
Unpaid principal balances(1)
    
Related allowance(2)
     Recorded investment    
Unpaid principal balances (1)
    
Related allowance(2)
  
Collateral dependent nonaccrual loans:
                                    
    Commercial real estate – mortgage
  
$
3,848
    
$
4,571
    
$
-
    
$
4,411
     $ 5,659     $ -  
    Consumer real estate – mortgage
    
4,059
      
4,585
      
-
       5,596       6,242       -  
    Construction and land development
    
7,055
      
7,797
      
-
       7,531       7,883       -  
    Commercial and industrial
    
11,408
      
13,319
      
-
       1,420       3,151       -  
    Consumer and other
    
382
      
406
      
-
       -       -       -  
Total
  
$
26,752
    
$
30,678
    
$
-
    
$
18,958
     $ 22,935     $ -  
                                                 
Cash flow dependent nonaccrual loans:
                                                
    Commercial real estate – mortgage
  
$
1,336
    
$
1,344
    
$
172
    
$
1,410
     $ 1,661     $ 20  
    Consumer real estate – mortgage
    
2,957
      
2,914
      
249
       3,750       4,098       616  
    Construction and land development
    
56
      
63
      
224
       76       125       12  
    Commercial and industrial
    
510
      
515
      
701
       263       281       19  
    Consumer and other
    
2,174
      
2,429
      
134
       4,902       5,341