10-Q 1 ctbi10q0912.htm CTBI SEPTEMBER 30, 2012 FORM 10-Q ctbi10q0912.htm

 



 
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549

FORM 10-Q

[X]
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended September 30, 2012
   
 
Or
   
[   ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from _____________ to _____________
   

Commission file number 0-11129

COMMUNITY TRUST BANCORP, INC.
(Exact name of registrant as specified in its charter)

Kentucky
61-0979818
(State or other jurisdiction of incorporation or organization)
IRS Employer Identification No.
   
346 North Mayo Trail
Pikeville, Kentucky
(address of principal executive offices)
41501
(Zip Code)

(606) 432-1414
(Registrants telephone number)

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  ü
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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files.)

Yes  ü
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 definition of “accelerated filer, large accelerated filer, and smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer
Accelerated filer  ü
Non-accelerated filer
Smaller reporting company
   
(Do not check if a 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 ü

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practical date.

Common stock – 15,612,366 shares outstanding at October 31, 2012

 
 

 


CAUTIONARY STATEMENT
REGARDING FORWARD LOOKING STATEMENTS
 
Certain of the statements contained herein that are not historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act. CTBI’s actual results may differ materially from those included in the forward-looking statements. Forward-looking statements are typically identified by words or phrases such as “believe,” “expect,” “anticipate,” “intend,” “estimate,” “may increase,” “may fluctuate,” and similar expressions or future or conditional verbs such as “will,” “should,” “would,” and “could.” These forward-looking statements involve risks and uncertainties including, but not limited to, economic conditions, portfolio growth, the credit performance of the portfolios, including bankruptcies, and seasonal factors; changes in general economic conditions including the performance of financial markets, prevailing inflation and interest rates, realized gains from sales of investments, gains from asset sales, and losses on commercial lending activities; results of various investment activities; the effects of competitors’ pricing policies, changes in laws and regulations, competition, and demographic changes on target market populations’ savings and financial planning needs; industry changes in information technology systems on which we are highly dependent; failure of acquisitions to produce revenue enhancements or cost savings at levels or within the time frames originally anticipated or unforeseen integration difficulties; the adoption by CTBI of a Federal Financial Institutions Examination Council (FFIEC) policy that provides guidance on the reporting of delinquent consumer loans and the timing of associated credit charge-offs for financial institution subsidiaries; and the resolution of legal  proceedings and related matters.  In addition, the banking industry in general is subject to various monetary and fiscal policies and regulations, which include those determined by the Federal Reserve Board, the Federal Deposit Insurance Corporation, and state regulators, whose policies and regulations could affect CTBI’s results.  These statements are representative only on the date hereof, and CTBI undertakes no obligation to update any forward-looking statements made.


PART I - FINANCIAL INFORMATION

Item 1. Condensed Consolidated Financial Statements
 
The accompanying information has not been audited by our independent registered public accountants; however, in the opinion of management such information reflects all adjustments necessary for a fair presentation of the results for the interim period.  All such adjustments are of a normal and recurring nature.
 
The accompanying condensed consolidated financial statements are presented in accordance with the requirements of Form 10-Q and consequently do not include all of the disclosures normally required by accounting principles generally accepted in the United States of America or those normally made in the Registrant’s annual report on Form 10-K.  Accordingly, the reader of the Form 10-Q should refer to the Registrant’s Form 10-K for the year ended December 31, 2011 for further information in this regard.


 
 

 

Community Trust Bancorp, Inc.
Condensed Consolidated Balance Sheets

(dollars in thousands)
 
(unaudited)
September 30
2012
   
December 31
2011
 
Assets:
           
Cash and due from banks
  $ 59,480     $ 69,723  
Interest bearing deposits
    135,630       166,057  
Federal funds sold
    7,431       2,701  
Cash and cash equivalents
    202,541       238,481  
                 
Certificates of deposit in other banks
    8,758       11,875  
Securities available-for-sale at fair value (amortized cost of $598,878 and $511,731, respectively)
    621,230       527,398  
Securities held-to-maturity at amortized cost (fair value of $1,664 and $1,661, respectively)
    1,662       1,662  
Loans held for sale
    771       536  
                 
Loans
    2,551,537       2,556,548  
Allowance for loan losses
    (33,189 )     (33,171 )
Net loans
    2,518,348       2,523,377  
                 
Premises and equipment, net
    55,068       54,297  
Federal Home Loan Bank stock
    25,673       25,673  
Federal Reserve Bank stock
    4,885       4,883  
Goodwill
    65,490       65,490  
Core deposit intangible (net of accumulated amortization of $7,659 and $7,499, respectively)
    957       1,117  
Bank owned life insurance
    44,546       43,483  
Mortgage servicing rights
    2,281       2,282  
Other real estate owned
    56,103       56,965  
Other assets
    33,218       33,660  
Total assets
  $ 3,641,531     $ 3,591,179  
                 
Liabilities and shareholders’ equity:
               
Deposits
               
Noninterest bearing
  $ 599,984     $ 584,735  
Interest bearing
    2,311,860       2,293,624  
Total deposits
    2,911,844       2,878,359  
                 
Repurchase agreements
    218,511       217,177  
Federal funds purchased and other short-term borrowings
    8,821       13,104  
Advances from Federal Home Loan Bank
    1,472       21,609  
Long-term debt
    61,341       61,341  
Other liabilities
    43,445       32,723  
Total liabilities
    3,245,434       3,224,313  
                 
Shareholders’ equity:
               
Preferred stock, 300,000 shares authorized and unissued
    -       -  
Common stock, $5 par value, shares authorized 25,000,000; shares outstanding 2012 – 15,604,383; 2011 – 15,429,992
    78,023       77,151  
Capital surplus
    160,266       156,101  
Retained earnings
    143,279       123,431  
Accumulated other comprehensive income, net of tax
    14,529       10,183  
Total shareholders’ equity
    396,097       366,866  
                 
Total liabilities and shareholders’ equity
  $ 3,641,531     $ 3,591,179  
 
See notes to condensed consolidated financial statements.

 
 
 

 

Community Trust Bancorp, Inc.
Condensed Consolidated Statements of Income and Other Comprehensive Income
(unaudited)

   
Three Months Ended
   
Nine Months Ended
 
   
September 30
   
September 30
 
(in thousands except per share data)
 
2012
   
2011
   
2012
   
2011
 
Interest income:
                       
Interest and fees on loans, including loans held for sale
  $ 34,298     $ 36,180     $ 103,628     $ 109,048  
Interest and dividends on securities
                               
Taxable
    3,148       2,598       9,001       7,631  
Tax exempt
    534       455       1,525       1,263  
Interest and dividends on Federal Reserve Bank and Federal Home Loan Bank stock
    345       329       1,054       1,042  
Other, including interest on federal funds sold
    125       146       423       425  
Total interest income
    38,450       39,708       115,631       119,409  
                                 
Interest expense:
                               
Interest on deposits
    4,777       5,193       14,178       16,534  
Interest on repurchase agreements and other short-term borrowings
    294       397       953       1,251  
Interest on advances from Federal Home Loan Bank
    8       23       27       77  
Interest on long-term debt
    325       1,000       2,102       3,000  
Total interest expense
    5,404       6,613       17,260       20,862  
                                 
Net interest income
    33,046       33,095       98,371       98,547  
Provision for loan losses
    2,919       2,515       6,504       10,222  
Net interest income after provision for loan losses
    30,127       30,580       91,867       88,325  
                                 
Noninterest income:
                               
Service charges on deposit accounts
    6,038       6,681       17,865       18,999  
Gains on sales of loans, net
    660       438       1,982       1,166  
Trust income
    1,734       1,597       5,169       4,790  
Loan related fees
    631       250       2,528       1,609  
Bank owned life insurance
    462       433       1,321       1,269  
Securities gains
    0       0       819       0  
Other noninterest income
    1,313       1,543       4,330       4,440  
Total noninterest income
    10,838       10,942       34,014       32,273  
                                 
Noninterest expense:
                               
Officer salaries and employee benefits
    3,048       2,087       7,727       6,597  
Other salaries and employee benefits
    10,237       10,153       30,773       30,444  
Occupancy, net
    1,969       2,013       5,681       6,043  
Equipment
    957       1,008       2,870       2,781  
Data processing
    1,644       1,550       4,771       4,992  
Bank franchise tax
    1,130       1,120       3,413       3,403  
Legal fees
    522       631       1,619       2,131  
Professional fees
    411       285       1,056       970  
FDIC insurance
    643       591       1,913       2,554  
Other real estate owned provision and expense
    1,123       1,465       2,672       4,497  
Other noninterest expense
    4,129       4,924       13,216       15,108  
Total noninterest expense
    25,813       25,827       75,711       79,520  
                                 
Income before income taxes
    15,152       15,695       50,170       41,078  
Income taxes
    4,943       5,030       15,860       12,139  
Net income
    10,209       10,665       34,310       28,939  
                                 
Other comprehensive income:
                               
Unrealized holding gains on securities available-for-sale:
                               
Unrealized holding gains arising during the period
    3,337       4,093       7,505       9,702  
Less: Reclassification adjustments for realized gains included in net income
    0       0       (819 )     0  
Tax expense
    1,168       1,432       2,340       3,395  
Other comprehensive income, net of tax
    2,169       2,661       4,346       6,307  
Comprehensive income
  $ 12,378     $ 13,326     $ 38,656     $ 35,246  
                                 
Basic earnings per share
  $ 0.66     $ 0.70     $ 2.22     $ 1.89  
Diluted earnings per share
  $ 0.66     $ 0.70     $ 2.21     $ 1.89  
                                 
Weighted average shares outstanding-basic
    15,491       15,318       15,450       15,307  
Weighted average shares outstanding-diluted
    15,555       15,339       15,501       15,331  
                                 
Dividends declared per share
  $ 0.315     $ 0.310     $ 0.935     $ 0.920  
 
See notes to condensed consolidated financial statements.

 
 
 

 

Community Trust Bancorp, Inc.
Condensed Consolidated Statements of Cash Flows
(unaudited)

   
Nine Months Ended
 
   
September 30
 
(in thousands)
 
2012
   
2011
 
Cash flows from operating activities:
           
Net income
  $ 34,310     $ 28,939  
Adjustments to reconcile net income to net cash provided by operating activities:
               
Depreciation and amortization
    3,212       3,123  
Deferred taxes
    (2,340 )     (3,373 )
Stock-based compensation
    443       499  
Excess tax benefits of stock-based compensation
    495       (32 )
Provision for loan losses
    6,504       10,222  
Write-downs of other real estate owned and other repossessed assets
    899       2,890  
Gains on sale of mortgage loans held for sale
    (1,982 )     (1,166 )
Gains on sales of securities
    (819 )     0  
Losses on sale of assets, net
    101       80  
Proceeds from sale of mortgage loans held for sale
    89,015       53,986  
Funding of mortgage loans held for sale
    (87,268 )     (53,191 )
Amortization of securities premiums and discounts, net
    4,143       2,430  
Change in cash surrender value of bank owned life insurance
    (1,063 )     (1,051 )
Death benefits received on bank owned life insurance
    0       79  
Mortgage servicing rights:
               
Fair value adjustments
    511       1,139  
New servicing assets created
    (510 )     (378 )
Changes in:
               
Other assets
    456       508  
Other liabilities
    11,088       27,492  
Net cash provided by operating activities
    57,195       72,196  
                 
Cash flows from investing activities:
               
Certificates of deposit in other banks:
               
Maturity of certificates of deposit
    3,117       1,483  
Securities available-for-sale (AFS):
               
Purchase of AFS securities
    (216,143 )     (188,002 )
Proceeds from prepayments and maturities of AFS securities
    113,648       70,341  
    Proceeds from the sales of AFS securities
    12,025       0  
Change in loans, net
    (9,118 )     (2,666 )
Purchase of premises and equipment
    (3,823 )     (2,806 )
Proceeds from sale of premises and equipment
    103       39  
Additional investment in Federal Reserve Bank stock
    (2 )     (449 )
Proceeds from sale of other real estate and other repossessed assets
    7,915       6,437  
Additional investment in other real estate and other repossessed assets
    (527 )     (254 )
Additional investment in bank owned life insurance
    0       (2,458 )
Net cash used in investing activities
    (92,805 )     (118,335 )
                 
Cash flows from financing activities:
               
Change in deposits, net
    33,485       102,705  
Change in repurchase agreements, federal funds purchased, and other short-term borrowings, net
    (2,949 )     47,390  
Advances from Federal Home Loan Bank
    0       571  
Payments on advances from Federal Home Loan Bank
    (20,137 )     (151 )
Issuance of common stock
    4,099       1,009  
Excess tax benefits of stock-based compensation
    (495 )     32  
Dividends paid
    (14,333 )     (13,994 )
Net cash provided by (used in) financing activities
    (330 )     137,562  
Net increase (decrease) in cash and cash equivalents
    (35,940 )     91,423  
Cash and cash equivalents at beginning of period
    238,481       158,983  
Cash and cash equivalents at end of period
  $ 202,541     $ 250,406  
                 
Supplemental disclosures:
               
Income taxes paid
  $ 11,325     $ 8,380  
Interest paid
    14,303       18,841  
Non-cash activities:
               
Loans to facilitate the sale of other real estate and other repossessed assets
    2,897       1,375  
Common stock dividends accrued, paid in subsequent quarter
    4,882       4,749  
Real estate acquired in settlement of loans
    10,540       25,551  

See notes to condensed consolidated financial statements.

 
 
 

 

Community Trust Bancorp, Inc.
Notes to Condensed Consolidated Financial Statements (unaudited)


Note 1 - Summary of Significant Accounting Policies
 
In the opinion of management, the unaudited condensed consolidated financial statements include all adjustments (which consist of normal recurring accruals) necessary, to present fairly the condensed consolidated financial position as of September 30, 2012, the results of operations for the three and nine months ended September 30, 2012 and 2011, and the cash flows for the nine months ended September 30, 2012 and 2011.  In accordance with accounting principles generally accepted in the United States of America for interim financial information, these statements do not include certain information and footnote disclosures required by accounting principles generally accepted in the United States of America for complete annual financial statements.  The results of operations for the three and nine months ended September 30, 2012 and 2011, and the cash flows for the nine months ended September 30, 2012 and 2011, are not necessarily indicative of the results to be expected for the full year.  The condensed consolidated balance sheet as of December 31, 2011 has been derived from the audited consolidated financial statements of Community Trust Bancorp, Inc. (“CTBI”) for that period.  For further information, refer to the consolidated financial statements and footnotes thereto for the year ended December 31, 2011, included in our annual report on Form 10-K.
 
Principles of Consolidation – The unaudited condensed consolidated financial statements include the accounts of CTBI and its separate and distinct, wholly owned subsidiaries Community Trust Bank, Inc. (the “Bank”) and Community Trust and Investment Company.  All significant intercompany transactions have been eliminated in consolidation.
 
Reclassifications – Certain reclassifications considered to be immaterial have been made in the prior year condensed consolidated financial statements to conform to current year classifications.  These reclassifications had no effect on net income.

New Accounting Standards

Ø Reconsideration of Effective Control for Repurchase Agreements – In April 2011, the FASB issued ASU 2011-03, Reconsideration of Effective Control for Repurchase Agreements.  The main objective in developing this ASU was to improve the accounting for repurchase agreements and other agreements that both entitle and obligate a transferor to repurchase or redeem financial assets before their maturity.  The amendments in this ASU remove from the assessment of effective control (1) the criterion requiring the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms, even in the event of default by the transferee, and (2) the collateral maintenance implementation guidance related to that criterion.  Other criteria applicable to the assessment of effective control were not changed by the amendments in this Update.  The guidance in this Update is effective for the first interim or annual period beginning on or after December 15, 2011.  The guidance should be applied prospectively to transactions or modifications of existing transactions that occur on or after the effective date.  The adoption of ASU No. 2011-03 did not have a material impact on CTBI’s consolidated financial statements.

Ø Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs – In May 2011, the FASB issued ASU No. 2011-04, Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs.  The amendments in this ASU generally represent clarifications of Topic 820, but also include some instances where a particular principle or requirement for measuring fair value or disclosing information about fair value measurements has changed.  This ASU results in common principles and requirements for measuring fair value and for disclosing information about fair value measurements in accordance with U.S. GAAP and IFRSs.

The amendments in this ASU are to be applied prospectively.  For public entities, the amendments are effective during interim and annual periods beginning after December 15, 2011.  The adoption of this ASU did not have a material effect on our financial position or results of operations.

Ø Amendments to Topic 220, Comprehensive Income – In June 2011, the FASB issued ASU No. 2011-05, Amendments to Topic 220, Comprehensive Income.  Under the amendments in this ASU, an entity has the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In both choices, an entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income.  This ASU eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders' equity.  The amendments in this ASU do not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income.
 
The amendments in this ASU should be applied retrospectively.  For public entities, the amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011.  The amendments do not require any transition disclosures.  In October 2011, the FASB decided that the specific requirement to present items that are reclassified from other comprehensive income to net income alongside their respective components of net income and other comprehensive income will be deferred.  Therefore, those requirements will not be effective for public entities for fiscal years and interim periods within those years beginning after December 15, 2011.  The adoption of ASU 2011-05 did not have a material impact on our consolidated financial statements.
 
In December 2011, the FASB issued ASU No. 2011-12, Comprehensive Income (Topic 220): Deferral of the Effective Date for Amendments to the Presentation of Reclassification of Items Out of Accumulated Other Comprehensive Income in ASU No. 2011-05.  The amendments in this ASU supersede certain pending paragraphs in ASU No. 2011-05 to effectively defer only those changes that relate to the presentation of reclassification adjustments out of accumulated other comprehensive income.  The amendments will be temporary to allow the FASB time to redeliberate the presentation requirements for reclassifications out of accumulated other comprehensive income for annual and interim financial statements for public, private, and non-profit entities.

Testing Goodwill for Impairment – In September 2011, the FASB issued ASU No. 2011-08, Intangibles-Goodwill and Other (Topic 350): Testing Goodwill for Impairment.  The amendments in this ASU will allow an entity to first assess qualitative factors to determine whether it is necessary to perform the two-step quantitative goodwill impairment test.  Under these amendments, an entity would not be required to calculate the fair value of a reporting unit unless the entity determines, based on a qualitative assessment, that it is more likely than not that its fair value is less than its carrying amount.  The amendments include a number of events and circumstances for an entity to consider in conducting the qualitative assessment.  ASU 2011-08 is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011.  Adoption of this ASU did not have a material effect on our consolidated financial statements.
 
In July 2012, the FASB issued ASU 2012-02, Intangibles-Goodwill and Other (Topic 350): Testing Goodwill for Impairment.  Under these amendments, an entity would not be required to calculate the fair value of an indefinite-lived intangible asset unless the entity determines, based on qualitative assessment, that it is not more likely than not that the indefinite-lived intangible asset is impaired.  The amendments include a number of events and circumstances for an entity to consider in conducting the qualitative assessment.  ASU 2012-02 is effective for annual and interim indefinite-lived intangible asset impairment tests performed for fiscal years beginning after September 15, 2012.  Early adoption is permitted.  CTBI will adopt this ASU by the date required and does not anticipate that it will have a material effect on our consolidated financial statements.

 
 

 
 
Critical Accounting Policies and Estimates
 
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires the appropriate application of certain accounting policies, many of which require us to make estimates and assumptions about future events and their impact on amounts reported in our consolidated financial statements and related notes.  Since future events and their impact cannot be determined with certainty, the actual results will inevitably differ from our estimates.  Such differences could be material to the consolidated financial statements.
 
We believe the application of accounting policies and the estimates required therein are reasonable.  These accounting policies and estimates are constantly reevaluated, and adjustments are made when facts and circumstances dictate a change.  Historically, we have found our application of accounting policies to be appropriate, and actual results have not differed materially from those determined using necessary estimates.

Our accounting policies are described above.  We have identified the following critical accounting policies:
 
Investments  Management determines the classification of securities at purchase.  We classify securities into held-to-maturity, trading, or available-for-sale categories.  Held-to-maturity securities are those which we have the positive intent and ability to hold to maturity and are reported at amortized cost.  In accordance with Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) 320, Investment Securities, investments in debt securities that are not classified as held-to-maturity and equity securities that have readily determinable fair values shall be classified in one of the following categories and measured at fair value in the statement of financial position:
 
a. Trading securities. Securities that are bought and held principally for the purpose of selling them in the near term (thus held for only a short period of time) shall be classified as trading securities. Trading generally reflects active and frequent buying and selling, and trading securities are generally used with the objective of generating profits on short-term differences in price.
 
b. Available-for-sale securities. Investments not classified as trading securities (nor as held-to-maturity securities) shall be classified as available-for-sale securities.
 
We do not have any securities that are classified as trading securities.  Available-for-sale securities are reported at fair value, with unrealized gains and losses included as a separate component of shareholders’ equity, net of tax.  If declines in fair value are other than temporary, the carrying value of the securities is written down to fair value as a realized loss with a charge to income for the portion attributable to credit losses and a charge to other comprehensive income for the portion that is not credit related.
 
Gains or losses on disposition of securities are computed by specific identification for all securities except for shares in mutual funds, which are computed by average cost.  Interest and dividend income, adjusted by amortization of purchase premium or discount, is included in earnings.
 
When the fair value of a security is below its amortized cost, and depending on the length of time the condition exists and the extent the fair market value is below amortized cost, additional analysis is performed to determine whether an other than temporary impairment condition exists.  Available-for-sale and held-to-maturity securities are analyzed quarterly for possible other than temporary impairment.  The analysis considers (i) whether we have the intent to sell our securities prior to recovery and/or maturity and (ii) whether it is more likely than not that we will not have to sell our securities prior to recovery and/or maturity.  Often, the information available to conduct these assessments is limited and rapidly changing, making estimates of fair value subject to judgment.  If actual information or conditions are different than estimated, the extent of the impairment of the security may be different than previously estimated, which could have a material effect on the CTBI’s results of operations and financial condition.
 
Loans  Loans with the ability and the intent to be held until maturity and/or payoff are reported at the carrying value of unpaid principal reduced by unearned interest, an allowance for loan and lease losses, and unamortized deferred fees or costs.  Income is recorded on the level yield basis.  Interest accrual is discontinued when management believes, after considering economic and business conditions, collateral value, and collection efforts, that the borrower’s financial condition is such that collection of interest is doubtful.  Any loan greater than 90 days past due must be well secured and in the process of collection to continue accruing interest.  Cash payments received on nonaccrual loans generally are applied against principal, and interest income is only recorded once principal recovery is reasonably assured.  Loans are not reclassified as accruing until principal and interest payments remain current for a period of time, generally six months, and future payments appear reasonably certain.  Included in certain loan categories of impaired loans are troubled debt restructurings that were classified as impaired.  A restructuring of a debt constitutes a troubled debt restructuring if the creditor for economic or legal reasons related to the debtor’s financial difficulties grants a concession to the debtor that it would not otherwise consider.

Loan origination and commitment fees and certain direct loan origination costs are deferred and the net amount amortized over the estimated life of the related loans, leases, or commitments as a yield adjustment.
 
 
 

 
 
Allowance for Loan and Lease Losses  We maintain an allowance for loan and lease losses (“ALLL”) at a level that is appropriate to cover estimated credit losses on individually evaluated loans determined to be impaired, as well as estimated credit losses inherent in the remainder of the loan and lease portfolio.  Since arriving at an appropriate ALLL involves a high degree of management judgment, we use an ongoing quarterly analysis to develop a range of estimated losses.  In accordance with accounting principles generally accepted in the United States, we use our best estimate within the range of potential credit loss to determine the appropriate ALLL.  Credit losses are charged and recoveries are credited to the ALLL.
 
We utilize an internal risk grading system for commercial credits.  Those larger commercial credits that exhibit probable or observed credit weaknesses are subject to individual review.  The borrower’s cash flow, adequacy of collateral coverage, and other options available to CTBI, including legal remedies, are evaluated.  The review of individual loans includes those loans that are impaired as defined by ASC 310-35, Impairment of a Loan.  We evaluate the collectability of both principal and interest when assessing the need for loss provision.  Historical loss rates are analyzed and applied to other commercial loans not subject to specific allocations.  The ALLL allocation for this pool of commercial loans is established based on the historical average, maximum, minimum, and median loss ratios.
 
A loan is considered impaired when, based on current information and events, it is probable that CTBI will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement.  Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due.  Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired.  Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed.  Impairment is measured on a loan-by-loan basis for commercial and construction loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral dependent.

Homogenous loans, such as consumer installment, residential mortgages, and home equity lines are not individually risk graded.  The associated ALLL for these loans is measured under ASC 450, Contingencies.
 
When any secured commercial loan is considered uncollectable, whether past due or not, a current assessment of the value of the underlying collateral is made.  If the balance of the loan exceeds the fair value of the collateral, the loan is placed on non-accrual and the loan is charged down to the value of the collateral less estimated cost to sell or a specific reserve equal to the difference between book value of the loan and the fair value assigned to the collateral is created until such time as the loan is foreclosed.  When the foreclosed collateral has been legally assigned to CTBI, a charge off is taken, if necessary, in order that the remaining balance reflects the fair value estimated less costs to sell of the collateral then transferred to other real estate owned or other repossessed assets.  When any unsecured commercial loan is considered uncollectable the loan is charged off no later than at 90 days past due.
 
All closed-end consumer loans (excluding conventional 1-4 family residential loans and installment and revolving loans secured by real estate) are charged off no later than 120 days (5 monthly payments) delinquent.  If a loan is considered uncollectable, it is charged off earlier than 120 days delinquent.  For conventional 1-4 family residential loans and installment and revolving loans secured by real estate, when a loan is 90 days past due, a current assessment of the value of the real estate is made.  If the balance of the loan exceeds the fair value of the property, the loan is placed on nonaccrual and foreclosure proceedings are initiated.  When the foreclosed property has been legally assigned to CTBI, a charge-off is taken with the remaining balance, reflecting the fair value less estimated costs to sell, transferred to other real estate owned.
 
Historical loss rates for loans are adjusted for significant factors that, in management’s judgment, reflect the impact of any current conditions on loss recognition.  We generally review the historical loss rates over eight quarters and four quarters on a rolling average basis.  Factors that we consider include delinquency trends, current economic conditions and trends, strength of supervision and administration of the loan portfolio, levels of underperforming loans, level of recoveries to prior year’s charge-offs, trend in loan losses, industry concentrations and their relative strengths, amount of unsecured loans and underwriting exceptions.  Based upon management’s judgment, “best case,” “worst case,” and “most likely” scenarios are determined.  The total of each of these weighted factors is then applied against the applicable portion of the portfolio and the ALLL is adjusted accordingly to approximate the most likely scenario.  Management continually reevaluates the other subjective factors included in its ALLL analysis.  During the most recent analysis, management increased several of these subjective factors including trends in past dues, trends in losses, and current economic and regulatory conditions impacting business and individual customers in our geographic markets.  The cumulative effect of all of the changes increased the amount calculated for our “most likely” scenario by $3.2 million at September 30, 2012.
 
Other Real Estate Owned – When foreclosed properties are acquired, appraisals are obtained and the properties are booked at the current market value less expected sales costs.  Additionally, periodic updated appraisals are obtained on unsold foreclosed properties.  When an updated appraisal reflects a market value below the current book value, a charge is booked to current earnings to reduce the property to its new market value less expected sales costs.  Our policy for determining the frequency of periodic reviews is based upon consideration of the specific properties and the known or perceived market fluctuations in a particular market and is typically between 12 and 18 months.  All revenues and expenses related to the carrying of other real estate owned are recognized by a charge to income.

Note 2 – Stock-Based Compensation
 
CTBI’s compensation expense related to stock option grants was $59 thousand and $72 thousand for the nine months ended September 30, 2012 and 2011, respectively.  Restricted stock expense for the first nine months of 2012 and 2011 was $475 thousand and $517 thousand, respectively, including $91 thousand and $90 thousand, respectively, in dividends paid for each quarter.  As of September 30, 2012, there was a total of $26 thousand of unrecognized compensation expense related to unvested stock option awards that will be recognized as expense as the awards vest over a weighted average period of 0.5 years and a total of $1.3 million of unrecognized compensation expense related to restricted stock grants that will be recognized as expense as the awards vest over a weighted average period of 1.5 years.
 
There were no shares of restricted stock granted during the three months ended September 30, 2012 and 2011, and 331 shares and 45,452 shares granted during the nine months ended September 30, 2012 and 2011, respectively.  The restrictions on the restricted stock for 2012 and 2011 will lapse over four years and at the end of five years, respectively.  However, in the event of a change in control of CTBI or the death of the participant, the restrictions will lapse.  In the event of the disability of the participant, the restrictions will lapse on a pro rata basis. The Compensation Committee of the Board of Directors will have discretion to review and revise restrictions applicable to a participant’s restricted stock in the event of the participant’s retirement.  There were no options granted to purchase shares of CTBI common stock during the nine months ended September 30, 2012 or 2011.

 
 

 
 
Note 3 – Securities
 
Securities are classified into held-to-maturity and available-for-sale categories.  Held-to-maturity (HTM) securities are those that CTBI has the positive intent and ability to hold to maturity and are reported at amortized cost.  Available-for-sale (AFS) securities are those that CTBI may decide to sell if needed for liquidity, asset-liability management or other reasons.  Available-for-sale securities are reported at fair value, with unrealized gains or losses included as a separate component of equity, net of tax.

The amortized cost and fair value of securities at September 30, 2012 are summarized as follows:

Available-for-Sale

(in thousands)
 
Amortized Cost
   
Gross Unrealized Gains
   
Gross Unrealized Losses
   
Fair Value
 
U.S. Treasury and government agencies
  $ 26,139     $ 516     $ 0     $ 26,655  
State and political subdivisions
    99,766       5,627       (29 )     105,364  
U.S. government sponsored agency mortgage-backed securities
    437,391       15,472       (132 )     452,731  
Total debt securities
    563,296       21,615       (161 )     584,750  
Marketable equity securities
    35,582       1,101       (203 )     36,480  
Total available-for-sale securities
  $ 598,878     $ 22,716     $ (364 )   $ 621,230  

Held-to-Maturity

(in thousands)
 
Amortized Cost
   
Gross Unrealized Gains
   
Gross Unrealized Losses
   
Fair Value
 
U.S. Treasury and government agencies
  $ 480     $ 1     $ 0     $ 481  
State and political subdivisions
    1,182       1       0       1,183  
Total held-to-maturity securities
  $ 1,662     $ 2     $ 0     $ 1,664  

The amortized cost and fair value of securities as of December 31, 2011 are summarized as follows:

Available-for-Sale

(in thousands)
 
Amortized Cost
   
Gross Unrealized Gains
   
Gross Unrealized Losses
   
Fair Value
 
U.S. Treasury and government agencies
  $ 32,077     $ 1,171     $ 0     $ 33,248  
State and political subdivisions
    68,358       3,816       (30 )     72,144  
U.S. government sponsored agency mortgage-backed securities
    390,714       10,186       (57 )     400,843  
Total debt securities
    491,149       15,173       (87 )     506,235  
Marketable equity securities
    20,582       718       (137 )     21,163  
Total available-for-sale securities
  $ 511,731     $ 15,891     $ (224 )   $ 527,398  

Held-to-Maturity

(in thousands)
 
Amortized Cost
   
Gross Unrealized Gains
   
Gross Unrealized Losses
   
Fair Value
 
U.S. Treasury and government agencies
  $ 480     $ 0     $ (1 )   $ 479  
State and political subdivisions
    1,182       0       0       1,182  
Total held-to-maturity securities
  $ 1,662     $ 0     $ (1 )   $ 1,661  
 
 
 

 
 
The amortized cost and fair value of securities at September 30, 2012 by contractual maturity are shown below.  Expected maturities will differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.

   
Available-for-Sale
   
Held-to-Maturity
 
(in thousands)
 
Amortized Cost
   
Fair Value
   
Amortized Cost
   
Fair Value
 
Due in one year or less
  $ 6,598     $ 6,688     $ 0     $ 0  
Due after one through five years
    21,375       22,377       0       0  
Due after five through ten years
    64,291       67,275       1,662       1,664  
Due after ten years
    33,641       35,679       0       0  
U.S. government sponsored agency mortgage-backed securities
    437,391       452,731       0       0  
Total debt securities
    563,296       584,750       1,662       1,664  
Marketable equity securities
    35,582       36,480       0       0  
Total securities
  $ 598,878     $ 621,230     $ 1,662     $ 1,664  
 
As of September 30, 2012, there was a combined gain of $819 thousand due to the sale of two agency securities.  A pre-tax gain of $885 thousand and a pre-tax loss of $66 thousand were realized as of September 30, 2012.  There were no gains or losses during the nine months ended September 30, 2011.

The amortized cost of securities pledged as collateral, to secure public deposits and for other purposes, was $233.7 million at September 30, 2012 and $198.6 million at December 31, 2011.

The amortized cost of securities sold under agreements to repurchase amounted to $238.8 million at September 30, 2012 and $217.2 million at December 31, 2011.
 
Certain investments in debt and marketable equity securities are reported in the financial statements at amounts less than their historical costs.  CTBI evaluates its investment portfolio on a quarterly basis for impairment.  The analysis performed as of September 30, 2012 indicates that all impairment is considered temporary, market driven, and not credit-related. The percentage of total investments with unrealized losses as of September 30, 2012 was 3.4% compared to 4.8% as of December 31, 2011.  The following tables provide the amortized cost, gross unrealized losses, and fair market value, aggregated by investment category and length of time the individual securities have been in a continuous unrealized loss position as of September 30, 2012 that are not deemed to be other-than-temporarily impaired.

Available-for-Sale

(in thousands)
 
Amortized Cost
   
Gross Unrealized Losses
   
Fair Value
 
Less Than 12 Months
                 
State and political subdivisions
  $ 4,615     $ (29 )   $ 4,586  
U.S. government sponsored agency mortgage-backed securities
    16,617       (132 )     16,485  
Total debt securities
    21,232       (161 )     21,071  
Total <12 months temporarily impaired AFS securities
    21,232       (161 )     21,071  
                         
12 Months or More
                       
Marketable equity securities
    329       (203)       126  
Total ≥12 months temporarily impaired AFS securities
    329       (203)       126  
                         
Total
                       
State and political subdivisions
    4,615       (29 )     4,586  
U.S. government sponsored agency mortgage-backed securities
    16,617       (132 )     16,485  
Total debt securities
    21,232       (161 )     21,071  
Marketable equity securities
    329       (203 )     126  
Total temporarily impaired AFS securities
  $ 21,561     $ (364 )   $ 21,197  

As of September 30, 2012, there were no held-to-maturity securities with unrealized losses.
 
 
 

 
 
The analysis performed as of December 31, 2011 indicated that all impairment was considered temporary, market driven, and not credit-related.  The following tables provide the amortized cost, gross unrealized losses, and fair market value, aggregated by investment category and length of time the individual securities have been in a continuous unrealized loss position as of December 31, 2011 that are not deemed to be other-than-temporarily impaired.

Available-for-Sale

(in thousands)
 
Amortized Cost
   
Gross Unrealized Losses
   
Fair Value
 
Less Than 12 Months
                 
State and political subdivisions
  $ 6,173     $ (25 )   $ 6,148  
U.S. government sponsored agency mortgage-backed securities
    17,900       (57 )     17,843  
Total debt securities
    24,073       (82 )     23,991  
Total <12 months temporarily impaired AFS securities
    24,073       (82 )     23,991  
                         
12 Months or More
                       
State and political subdivisions
    613       (5 )     608  
Total debt securities
    613       (5 )     608  
Marketable equity securities
    329       (137 )     192  
Total ≥12 months temporarily impaired AFS securities
    942       (142 )     800  
                         
Total
                       
State and political subdivisions
    6,786       (30 )     6,756  
U.S. government sponsored agency mortgage-backed securities
    17,900       (57 )     17,843  
Total debt securities
    24,686       (87 )     24,599  
Marketable equity securities
    329       (137 )     192  
Total temporarily impaired AFS securities
  $ 25,015     $ (224 )   $ 24,791  

Held-to-Maturity

(in thousands)
 
Amortized Cost
   
Gross Unrealized Losses
   
Fair Value
 
Less Than 12 Months
                 
U.S. Treasury and government agencies
  $ 480     $ (1 )   $ 479  
Total temporarily impaired HTM securities
  $ 480     $ (1 )   $ 479  

Note 4 – Loans

Major classifications of loans, net of unearned income and deferred loan origination costs, are summarized as follows:

 
(in thousands)
 
September 30
2012
   
December 31
2011
 
Commercial construction
  $ 115,091     $ 120,577  
Commercial secured by real estate
    820,925       798,887  
Equipment lease financing
    10,167       9,706  
Commercial other
    379,308       374,597  
Real estate construction
    54,431       53,534  
Real estate mortgage
    664,329       650,075  
Home equity
    82,724       84,841  
Consumer direct
    126,005       123,949  
Consumer indirect
    298,557       340,382  
Total loans
  $ 2,551,537     $ 2,556,548  
 
CTBI has segregated and evaluates its loan portfolio through nine portfolio segments. The nine segments are commercial construction, commercial secured by real estate, equipment lease financing, commercial other, real estate construction, real estate mortgage, home equity, consumer direct, and consumer indirect.  CTBI serves customers in small and mid-sized communities in eastern, northeastern, central, and south central Kentucky, southern West Virginia, and northeastern Tennessee.  Therefore, CTBI’s exposure to credit risk is significantly affected by changes in these communities.
 
 
 

 
 
Commercial construction loans are for the purpose of erecting or rehabilitating buildings or other structures for commercial purposes, including any infrastructure necessary for development.   Included in this category are improved property, land development, and tract development loans.  The terms of these loans are generally short-term with permanent financing upon completion.
 
Commercial real estate loans include loans secured by nonfarm, nonresidential properties, 1-4 family/ multi-family properties, farmland, and other commercial real estate.  These loans are originated based on the borrower’s ability to service the debt and secondarily based on the fair value of the underlying collateral.

Equipment lease financing loans are fixed, variable, and tax exempt leases for commercial purposes.
 
Commercial other loans consist of commercial check loans, agricultural loans, receivable financing, floorplans, loans to financial institutions, loans for purchasing or carrying securities, and other commercial purpose loans.  Commercial loans are underwritten based on the borrower’s ability to service debt from the business’s underlying cash flows.  As a general practice, we obtain collateral such as real estate, equipment, or other assets, although such loans may be uncollateralized but guaranteed.

Real estate construction loans are typically for owner-occupied properties.  The terms of these loans are generally short-term with permanent financing upon completion.
 
Residential real estate loans are a mixture of fixed rate and adjustable rate first and second lien residential mortgage loans.  As a policy, CTBI holds adjustable rate loans and sells the majority of its fixed rate first lien mortgage loans into the secondary market.  Changes in interest rates or market conditions may impact a borrower’s ability to meet contractual principal and interest payments.  Residential real estate loans are secured by real property.

Home equity lines are revolving adjustable rate credit lines secured by real property.

Consumer direct loans are fixed rate products comprised of unsecured loans, consumer revolving credit lines, deposit secured loans, and all other consumer purpose loans.
 
Consumer indirect loans are fixed rate loans secured by automobiles, trucks, vans, and recreational vehicles originated at the selling dealership underwritten and purchased by CTBI’s indirect lending department.  Both new and used products are financed.  Only dealers who have executed dealer agreements with CTBI participate in the indirect lending program.
 
Not included in the loan balances above were loans held for sale in the amount of $0.8 million at September 30, 2012 and $0.5 million at December 31, 2011.  The amount of capitalized fees and costs under ASC 310-20, included in the above loan totals were $0.6 million and $0.7 million at September 30, 2012 and December 31, 2011, respectively.
 
CTBI acquired loans through the acquisition of First National Bank of LaFollette in the fourth quarter 2010.  At acquisition, the transferred loans with evidence of deterioration of credit quality since origination were not significant; therefore, none of the loans acquired were accounted for under the guidance in ASC 310-30.
 
Credit discounts representing principal losses expected over the life of the loans are a component of the initial fair value for purchased loans acquired that are not deemed impaired at acquisition.  Accordingly, an allowance for credit losses related to these loans is not carried over and recorded at the acquisition date.  Subsequent to the acquisition date, the methods used to estimate the required allowance for credit losses for these loans is similar to originated loans; however, CTBI records a provision for loan losses only when the required allowance exceeds any remaining credit discounts.  During the third quarter, the credit portion of the purchase accounting allocation was exhausted leaving only the premium paid for market rate adjustments to be amortized over the life of the remaining loans.  The carrying amounts of those loans included in the balance sheet are $74.0 million and $88.5 million at September 30, 2012 and December 31, 2011, respectively.  Provision expense charged to income during the quarter as a result of this change was $0.6 million.
 
Changes in accretable yield for the nine months ended September 30, 2012 and the year ended December 31, 2011 are as follows:

 (in thousands)
 
September 30
2012
   
December 31
2011
 
Beginning balance
  $ 720     $ 2,995  
Accretion
    (580 )     (1,067 )
Disposals
    (140 )     (1,208 )
Ending balance
  $ 0     $ 720  

Refer to note 1 to the condensed consolidated financial statements for further information regarding our nonaccrual policy.  Nonaccrual loans segregated by class of loans were as follows:

 (in thousands)
 
September 30
2012
   
December 31
2011
 
Commercial:
           
Commercial construction
  $ 7,200     $ 7,029  
Commercial secured by real estate
    5,741       9,810  
Commercial other
    1,823       3,914  
                 
Residential:
               
Real estate construction
    315       607  
Real estate mortgage
    2,762       4,204  
Home equity
    257       189  
Total nonaccrual loans
  $ 18,098     $ 25,753  

 
 

 
 
The following tables present CTBI’s loan portfolio aging analysis, segregated by class, as of September 30, 2012 and December 31, 2011:

   
September 30, 2012
 
(in thousands)
 
30-59 Days Past Due
   
60-89 Days Past Due
   
90+ Days Past Due
   
Total Past Due
   
Current
   
Total Loans
   
90+ and Accruing*
 
Commercial:
                                         
Commercial construction
  $ 761     $ 0     $ 8,187     $ 8,948     $ 106,143     $ 115,091     $ 1,125  
Commercial secured by real estate
    3,954       2,197       11,363       17,514       803,411       820,925       5,741  
Equipment lease financing
    0       0       0       0       10,167       10,167       0  
Commercial other
    1,798       194       5,368       7,360       371,948       379,308       3,977  
Residential:
                                                       
Real estate construction
    212       75       607       894       53,537       54,431       292  
Real estate mortgage
    1,914       4,186       5,877       11,977       652,352       664,329       3,932  
Home equity
    1,270       175       584       2,029       80,695       82,724       353  
Consumer:
                                                       
Consumer direct
    1,710       342       109       2,161       123,844       126,005       109  
Consumer indirect
    2,542       676       400       3,618       294,939       298,557       399  
Total
  $ 14,161     $ 7,845     $ 32,495     $ 54,501     $ 2,497,036     $ 2,551,537     $ 15,928  

   
December 31, 2011
 
(in thousands)
 
30-59 Days Past Due
   
60-89 Days Past Due
   
90+ Days Past Due
   
Total Past Due
   
Current
   
Total Loans
   
90+ and Accruing*
 
Commercial:
                                         
Commercial construction
  $ 362     $ 33     $ 10,171     $ 10,566     $ 110,011     $ 120,577     $ 3,292  
Commercial secured by real estate
    4,566       2,978       11,998       19,542       779,345       798,887       3,969  
Equipment lease financing
    0       0       0       0       9,706       9,706       0  
Commercial other
    2,286       688       2,504       5,478       369,119       374,597       619  
Residential:
                                                       
Real estate construction
    305       91       622       1,018       52,516       53,534       16  
Real estate mortgage
    2,067       4,974       6,547       13,588       636,487       650,075       2,719  
Home equity
    968       312       482       1,762       83,079       84,841       346  
Consumer:
                                                       
Consumer direct
    1,723       171       71       1,965       121,984       123,949       71  
Consumer indirect
    2,684       755       483       3,922       336,460       340,382       483  
Total
  $ 14,961     $ 10,002     $ 32,878     $ 57,841     $ 2,498,707     $ 2,556,548     $ 11,515  

*90+ and Accruing are also included in 90+ Days Past Due column.

Credit Quality Indicators:
 
CTBI categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors.  CTBI also considers the fair value of the underlying collateral and the strength and willingness of the guarantor(s).  CTBI analyzes commercial loans individually by classifying the loans as to credit risk.  Loans classified as loss, doubtful, substandard, or special mention are reviewed quarterly by CTBI for further deterioration or improvement to determine if appropriately classified and valued if deemed impaired.  All other commercial loan reviews are completed every 12 to 18 months.  In addition, during the renewal process of any loan, as well as if a loan becomes past due or if other information becomes available, CTBI will evaluate the loan grade.  CTBI uses the following definitions for risk ratings:

Ø  
Pass grades include investment grade, low risk, moderate risk, and acceptable risk loans.  The loans range from loans that have no chance of resulting in a loss to loans that have a limited chance of resulting in a loss.  Customers in this grade have excellent to fair credit ratings.  The cash flows are adequate to meet required debt repayments.

Ø  
Watch graded loans are loans that warrant extra management attention but are not currently criticized.  Loans on the watch list may be potential troubled credits or may warrant “watch” status for a reason not directly related to the asset quality of the credit.  The watch grade is a management tool to identify credits which may be candidates for future classification or may temporarily warrant extra management monitoring.

Ø  
Other assets especially mentioned (OAEM) reflects loans that are currently protected but are potentially weak.  These loans constitute an undue and unwarranted credit risk but not to the point of justifying a classification of substandard.  The credit risk may be relatively minor yet constitute an unwarranted risk in light of circumstances surrounding a specific asset. Loans in this grade display potential weaknesses which may, if unchecked or uncorrected, inadequately protect CTBI’s credit position at some future date.  The loans may be adversely affected by economic or market conditions.

Ø  
Substandard grading indicates that the loan is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged.  These loans have a well-defined weakness or weaknesses that jeopardize the orderly liquidation of the debt with the distinct possibility that CTBI will sustain some loss if the deficiencies are not corrected.

Ø  
Doubtful graded loans have the weaknesses inherent in the substandard grading 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 probability of loss is extremely high, but because of certain important and reasonably specific pending factors which may work to CTBI’s advantage or strengthen the asset(s), its classification as an estimated loss is deferred until its more exact status may be determined.  Pending factors include proposed merger, acquisition, or liquidation procedures, capital injection, perfecting liens on additional collateral, and refinancing plans.

Ø  
A loss grading applies to loans that are considered uncollectible and of such little value that their continuance as bankable assets is not warranted.  This classification does not mean that the asset has absolutely no recovery value, but rather it is not practical or desirable to defer writing off the asset.  Losses must be taken in the period in which they surface as uncollectible, or in the case of collateral-dependent loans, a specific reserve in the amount of the expected loss is applied to the loan until the collateral is liquidated or we have taken possession and moved it into other real estate owned.

 
 

 
 
The following tables present the credit risk profile of CTBI’s commercial loan portfolio based on rating category and payment activity, segregated by class of loans, as of September 30, 2012 and December 31, 2011:

 (in thousands)
 
Commercial Construction
   
Commercial Secured by Real Estate
   
Commercial Other
   
Equipment Leases
   
Total
 
September 30, 2012
                             
Pass
  $ 86,482     $ 672,486     $ 321,901     $ 10,167     $ 1,091,036  
Watch
    13,041       80,318       40,005       0       133,364  
OAEM
    1,067       19,798       4,093       0       24,958  
Substandard
    7,301       42,792       11,884       0       61,977  
Doubtful
    7,200       5,531       1,425       0       14,156  
Total
  $ 115,091     $ 820,925     $ 379,308     $ 10,167     $ 1,325,491  
                                         
December 31, 2011
                                       
Pass
  $ 85,886     $ 643,312     $ 323,471     $ 9,706     $ 1,062,375  
Watch
    17,721       78,611       38,185       0       134,517  
OAEM
    1,379       21,087       1,668       0       24,134  
Substandard
    8,783       46,238       7,364       0       62,385  
Doubtful
    6,808       9,639       3,909       0       20,356  
Total
  $ 120,577     $ 798,887     $ 374,597     $ 9,706     $ 1,303,767  
 
The following tables present the credit risk profile of the CTBI’s residential real estate and consumer loan portfolios based on performing or nonperforming status, segregated by class, as of September 30, 2012 and December 31, 2011:

(in thousands)
 
Real Estate Construction
   
Real Estate Mortgage
   
Home Equity
   
Consumer Direct
   
Consumer
Indirect
   
Total
 
September 30, 2012
                                   
Performing
  $ 53,824     $ 657,635     $ 82,114     $ 125,896     $ 298,158     $ 1,217,627  
Nonperforming (1)
    607       6,694       610       109       399       8,419  
Total
  $ 54,431     $ 664,329     $ 82,724     $ 126,005     $ 298,557     $ 1,226,046  
                                                 
December 31, 2011
                                               
Performing
  $ 52,911     $ 643,152     $ 84,306     $ 123,878     $ 339,899     $ 1,244,146  
Nonperforming (1)
    623       6,923       535       71       483       8,635  
Total
  $ 53,534     $ 650,075     $ 84,841     $ 123,949     $ 340,382     $ 1,252,781  

(1)  A loan is considered nonperforming if it is 90 days or more past due or on nonaccrual.
 
A loan is considered impaired, in accordance with the impairment accounting guidance (ASC 310-10-35-16), when based on current information and events, it is probable CTBI will be unable to collect all amounts due from the borrower in accordance with the contractual terms of the loan.  Impaired loans include nonperforming commercial loans but also include loans modified in troubled debt restructurings where concessions have been granted to borrowers experiencing financial difficulties.  These concessions could include a reduction in the interest rate on the loan, payment extensions, forgiveness of principal, forbearance, or other actions intended to maximize collection.

The following table presents impaired loans, the average investment in impaired loans, and interest income recognized on impaired loans for the periods ended September 30, 2012, December 31, 2011, and September 30, 2011:

   
September 30, 2012
 
(in thousands)
 
Recorded Balance
   
Unpaid Contractual Principal Balance
   
Specific Allowance
 
Loans without a specific valuation allowance:
                 
Commercial construction
  $ 3,032     $ 3,032     $ 0  
Commercial secured by real estate
    34,099       34,586       0  
Commercial other
    11,643       13,819       0  
Real estate mortgage
    666       667       0  
                         
Loans with a specific valuation allowance:
                       
Commercial construction
    7,070       8,298       2,321  
Commercial secured by real estate
    3,406       3,530       938  
Commercial other
    975       2,295       315  
                         
Totals:
                       
Commercial
    60,225       65,560       3,574  
Residential
    666       667       0  
Total
  $ 60,891     $ 66,227     $ 3,574  
 
 
 

 
 
   
Three Months Ended
   
Nine Months Ended
 
   
September 30, 2012
   
September 30, 2012
 
(in thousands)
 
Average Investment in Impaired Loans
   
*Interest Income Recognized
   
Average Investment in Impaired Loans
   
*Interest Income Recognized
 
Loans without a specific valuation allowance:
                       
Commercial construction
  $ 3,034     $ 32     $ 4,072     $ 90  
Commercial secured by real estate
    34,229       291       35,566       976  
Commercial other
    11,756       108       10,348       167  
Real estate mortgage
    668       10       409       18  
                                 
Loans with a specific valuation allowance:
                               
Commercial construction
    7,355       0       6,881       0  
Commercial secured by real estate
    3,436       0       3,293       0  
Commercial other
    977       0       1,582       0  
                                 
Commercial
    60,787       431       61,742       1,233  
Residential
    668       10       409       18  
Total
  $ 61,455     $ 441     $ 62,151     $ 1,251  

   
December 31, 2011
 
(in thousands)
 
Recorded Balance
   
Unpaid Contractual Principal Balance
   
Specific Allowance
   
Average Investment in Impaired Loans
   
*Interest Income Recognized
 
Loans without a specific valuation allowance:
                             
Commercial construction
  $ 4,778     $ 4,778     $ 0     $ 8,992     $ 252  
Commercial secured by real estate
    27,811       29,765       0       31,480       1,543  
Commercial other
    1,770       2,501       0       3,392       143  
Real estate construction
    27       27       0       19       1  
Real estate mortgage
    82       82       0       84       5  
  Consumer direct
    93       93       0       82       9  
  Consumer indirect
    112       112       0       99       12  
                                         
Loans with a specific valuation allowance:
                                       
Commercial construction
    5,794       6,643       2,203       7,681       0  
Commercial secured by real estate
    3,525       3,669       1,156       4,747       23  
Commercial other
    3,432       6,022       1,310       5,071       22  
                                         
Totals:
                                       
Commercial
    47,110       53,378       4,669       61,363       1,983  
Residential
    109       109       0       103       6  
Consumer
    205