0000350852-13-000041.txt : 20130314 0000350852-13-000041.hdr.sgml : 20130314 20130314173135 ACCESSION NUMBER: 0000350852-13-000041 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 14 CONFORMED PERIOD OF REPORT: 20121231 FILED AS OF DATE: 20130314 DATE AS OF CHANGE: 20130314 FILER: COMPANY DATA: COMPANY CONFORMED NAME: COMMUNITY TRUST BANCORP INC /KY/ CENTRAL INDEX KEY: 0000350852 STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022] IRS NUMBER: 610979818 STATE OF INCORPORATION: KY FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-31220 FILM NUMBER: 13691442 BUSINESS ADDRESS: STREET 1: 346 NORTH MAYO TRAIL STREET 2: P.O. BOX 2947 CITY: PIKEVILLE STATE: KY ZIP: 41502-2947 BUSINESS PHONE: (606)433-4643 MAIL ADDRESS: STREET 1: 346 NORTH MAYO TRAIL STREET 2: P.O. BOX 2947 CITY: PIKEVILLE STATE: KY ZIP: 41502-2947 FORMER COMPANY: FORMER CONFORMED NAME: COMMUNITY TRUST BANCORP INC/ DATE OF NAME CHANGE: 19971124 10-K 1 ctbi10k2012.htm CTBI DECEMBER 31, 2012 FORM 10-K ctbi10k2012.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
FORM 10-K
 
[X]
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
 
For the fiscal year ended December 31, 2012
 
Or
[   ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
 
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
(Registrant’s telephone number)
 
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, $5.00 par value
(Title of Class)
 
Securities registered pursuant to Section 12(g) of the Act:
None
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
 
Yes
   No ü
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
 
Yes
   No ü
 
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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [   ]
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See 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
 
Based upon the closing price of the Common Shares of the Registrant on the NASDAQ-Stock Market LLC – Global Select Market, the aggregate market value of voting stock held by non-affiliates of the Registrant as of June 30, 2012 was $493.3 million.  For the purpose of the foregoing calculation only, all directors and executive officers of the Registrant have been deemed affiliates.  The number of shares outstanding of the Registrant’s Common Stock as of February 28, 2013 was 15,640,590.
 



 
TABLE OF CONTENTS

 
   
 
   
 
 
 
 
 
 
 
 
   
 
 
 
 
 
 
 
 
 
 
 
   
 
 
 
 
 
 
   
 
 
   
 
   
 

 
 
 

 
Portions of the following documents are incorporated by reference into the Form 10-K part indicated:
 
Document
Form 10-K
(1)  Proxy statement for the annual meeting of shareholders to be held April 23, 2013
Part III
 

 
 
 

 
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. Community Trust Bancorp, Inc.’s (“CTBI”) 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.
 
 
 
 
 
Community Trust Bancorp, Inc. (“CTBI”) is a bank holding company registered with the Board of Governors of the Federal Reserve System pursuant to Section 5(a) of the Bank Holding Company Act of 1956, as amended.  CTBI was incorporated August 12, 1980, under the laws of the Commonwealth of Kentucky for the purpose of becoming a bank holding company.  Currently, CTBI owns all the capital stock of one commercial bank and one trust company, serving small and mid-sized communities in eastern, northeastern, central, and south central Kentucky, southern West Virginia, and northeastern Tennessee.  The commercial bank is Community Trust Bank, Inc., Pikeville, Kentucky and the trust company is Community Trust and Investment Company, Lexington, Kentucky.
 
At December 31, 2012, CTBI had total consolidated assets of $3.6 billion and total consolidated deposits, including repurchase agreements, of $3.1 billion, making it the largest bank holding company headquartered in the Commonwealth of Kentucky.
 
Through its subsidiaries, CTBI engages in a wide range of commercial and personal banking and trust and wealth management activities, which include accepting time and demand deposits; making secured and unsecured loans to corporations, individuals and others; providing cash management services to corporate and individual customers; issuing letters of credit; renting safe deposit boxes; and providing funds transfer services.  The lending activities of our Bank include making commercial, construction, mortgage, and personal loans.  Lease-financing, lines of credit, revolving lines of credit, term loans, and other specialized loans, including asset-based financing, are also available.  Our corporate subsidiaries act as trustees of personal trusts, as executors of estates, as trustees for employee benefit trusts, as registrars, transfer agents, and paying agents for bond and stock issues, as depositories for securities, and as providers of full service brokerage services.
 
COMPETITION
 
CTBI’s subsidiaries face substantial competition for deposit, credit, trust, wealth management, and brokerage relationships in the communities we serve.  Competing providers include state banks, national banks, thrifts, trust companies, insurance companies, mortgage banking operations, credit unions, finance companies, brokerage companies, and other financial and non-financial companies which may offer products functionally equivalent to those offered by our subsidiaries.  Many of these providers offer services within and outside the market areas served by our subsidiaries.  We strive to offer competitively priced products along with quality customer service to build customer relationships in the communities we serve.
 
The United States and global markets, as well as general economic conditions, have been disruptive and volatile.  Some financial institutions have failed and others have been forced to seek acquisition partners.  Larger financial institutions could strengthen their competitive position as a result of ongoing consolidation within the financial services industry.
 
Since July 1989, banking legislation in Kentucky places no limits on the number of banks or bank holding companies that a bank holding company may acquire.  Interstate acquisitions are allowed where reciprocity exists between the laws of Kentucky and the home state of the bank or bank holding company to be acquired.  Bank holding companies continue to be limited to control of less than 15% of deposits held by banks in the states where they do business (exclusive of inter-bank and foreign deposits).
 
The Gramm-Leach-Bliley Act of 1999 (the “GLB Act”) has expanded the permissible activities of a bank holding company.  The GLB Act allows qualifying bank holding companies to elect to be treated as financial holding companies.  A financial holding company may engage in activities that are financial in nature or are incidental or complementary to financial activities.  We have not yet elected to be treated as a financial holding company.  The GLB Act also eliminated restrictions imposed by the Glass-Steagall Financial Services Law, adopted in the 1930s, which prevented banking, insurance, and securities firms from fully entering each other’s business.  This legislation has resulted in further consolidation in the financial services industry.  In addition, removal of these restrictions has increased the number of entities providing banking services and thereby created additional competition.
 
No material portion of our business is seasonal.  We are not dependent upon any one customer or a few customers, and the loss of any one or a few customers would not have a material adverse effect on us.  See note 18 to the consolidated financial statements for additional information regarding concentrations of credit.
 
We do not engage in any operations in foreign countries.
 
EMPLOYEES
 
As of December 31, 2012, CTBI and subsidiaries had 1,035 full-time equivalent employees.  Our employees are provided with a variety of employee benefits.  A retirement plan, an employee stock ownership plan, group life insurance, major medical insurance, a cafeteria plan, and management and employee incentive compensation plans are available to all eligible personnel.
 
SUPERVISION AND REGULATION
 
General
 
We, as a registered bank holding company, are restricted to those activities permissible under the Bank Holding Company Act of 1956, as amended, and are subject to actions of the Board of Governors of the Federal Reserve System thereunder.  We are required to file an annual report with the Federal Reserve Board and are subject to an annual examination by the Board.
 
Community Trust Bank, Inc. (“CTB”) is a state-chartered bank subject to state and federal banking laws and regulations and periodic examination by the Kentucky Department of Financial Institutions and the restrictions, including dividend restrictions, thereunder.  Our Bank is also a member of the Federal Reserve System and is subject to certain restrictions imposed by and to examination and supervision under the Federal Reserve Act.  Community Trust and Investment Company is also regulated by the Kentucky Department of Financial Institutions and the Federal Reserve.
 
Deposits of our Bank are insured by the Federal Deposit Insurance Corporation (FDIC), which subjects banks to regulation and examination under the provisions of the Federal Deposit Insurance Act.
 
The operations of CTBI and our subsidiaries are also affected by other banking legislation and policies and practices of various regulatory authorities.  Such legislation and policies include statutory maximum rates on some loans, reserve requirements, domestic monetary and fiscal policy, and limitations on the kinds of services that may be offered.
 
CTBI’s annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports are available free of charge on our website at www.ctbi.com as soon as reasonably practicable after such materials are electronically filed with or furnished to the Securities and Exchange Commission.  CTBI’s Code of Business Conduct and Ethics is also available on our website.  Copies of our annual report will be made available free of charge upon written request.
 
The Dodd-Frank Wall Street Reform and Consumer Protection Act
 
On July 21, 2010, President Obama signed the Dodd-Frank Act into law.  This law has significantly changed the bank regulatory structure and affected the lending, deposit, investment, trading, and operating activities of financial institutions and their holding companies.  The Dodd-Frank Act has required various federal agencies to adopt a broad range of implementing rules and regulations and to prepare numerous studies and reports for Congress.  The federal agencies have been given significant discretion in drafting the implementing rules and regulations, and consequently, many of the details and much of the impact of the Dodd-Frank Act are still unknown.
 
Certain provisions of the Dodd-Frank Act that are relevant to us:
 
·  
Broadened the base for FDIC insurance assessments, eliminated the ceiling and increased the size of the floor of the Deposit Insurance Fund, and offset the impact of the minimum floor on institutions with less than $10 billion in assets. Assessments are now based on the average consolidated total assets less tangible equity capital of a financial institution.
 
·  
Removed the federal prohibition on payment of interest on demand deposits, thereby permitting businesses to have interest bearing checking accounts.
 
·  
Require capital regulations which call for higher levels of capital.  The same leverage and risk based capital requirements that apply to depository institutions now apply to holding companies.  New issuances of trust preferred securities are no longer eligible to qualify as Tier 1 capital.  However, CTBI’s currently outstanding trust preferred securities are grandfathered and are still considered in Tier 1 capital under the regulations. Under Dodd-Frank, and previously under Federal Reserve policy, we are required to act as a source of financial strength for our bank subsidiary and to commit sufficient resources to support it.
 
·  
Created an agency, the Consumer Financial Protection Bureau (Bureau), responsible for the implementation of federal consumer protection laws.  The Bureau has broad rule-making authority for a wide range of consumer protection laws that apply to all banks, including the authority to prohibit “unfair, deceptive or abusive” acts and practices.  The term “abusive” is relatively new and untested, and we cannot predict how it will be interpreted and enforced.  Although insured depository institutions with assets of $10 billion or less (such as CTB) will continue to be supervised and examined by their primary federal regulators, rather than the Bureau, with respect to compliance with federal consumer protection laws, any change in regulatory environment may have a negative impact on all financial institutions. In February 2012, the Bureau announced that it was launching an inquiry into industry checking account overdraft programs to determine how these practices are impacting consumers.  The full reach and the impact of the Bureau’s inquiries and rulemaking powers on the operations of financial institutions are currently unknown.
 
·  
Permanently increased the maximum amount of deposit insurance for banks, savings institutions and credit unions to $250,000 per depositor, retroactive to January 1, 2008, with noninterest bearing transaction accounts and IOLTA accounts having unlimited deposit insurance through December 31, 2012.  Effective January 1, 2013, money in noninterest-bearing transaction accounts (including IOLTA/IOLA) no longer receive unlimited deposit insurance coverage from the FDIC, but will  be FDIC-insured up to the legal maximum of $250,000 for each ownership category.
 
·  
Increased the authority of the Federal Reserve Board to examine CTBI and its non-bank subsidiaries and gave the Federal Reserve Board the authority to establish rules regarding interchange fees charged for electronic debit transactions by payment card issuers having assets over $10 billion and to enforce a statutory requirement that such fees be reasonable and proportional to the actual cost of a transaction to the issuer.  Under the final rule, the maximum permissible interchange fee that an issuer may receive for an electronic debit transaction is the sum of 21 cents per transaction and 5 basis points multiplied by the value of the transaction.
 
·  
Restrict proprietary trading by banks, bank holding companies and others, and their acquisition and retention of ownership interests in and sponsorship of hedge funds and private equity funds, subject to an exception allowing a bank to organize and offer hedge funds and private equity funds to customers if certain conditions are met, including, among others, a requirement that the bank limit its ownership interest in any single fund to 3%, and its aggregate investment in all funds to 3%, of Tier 1 capital, with no director or employee of the bank holding an ownership interest in the fund unless he or she provides services directly to the funds.
 
·  
Require publicly traded companies to give stockholders a non-binding vote on executive compensation and so-called “golden parachute” payments in mergers and acquisitions. The legislation also directs the federal banking regulators to issue rules prohibiting incentive compensation that encourages inappropriate risks.
 
·  
Imposed restrictions related to mortgage lending, such as minimum underwriting standards, requiring certain loan provision qualifications, limitations on mortgage terms, and additional disclosures to mortgage borrowers and prohibits certain yield-spread compensation to mortgage originators.  Proposed new rules under this requirement have been issued for comment.
 
·  
Permits banks to establish de novo interstate branches at a location where a bank based in that state could establish a branch, and requires banks and bank holding companies to be well-capitalized and well-managed in order to acquire banks outside their home state.
 
           With the appointment of a director for the Consumer Financial Protection Bureau (“CFPB”) in January 2012, the CFPB began to exercise its full authority under the Dodd-Frank Act.  For example, the CFPB completed its first public enforcement actions regarding unfair, deceptive, or abusive practices in connection with marketing, sales, and operations of certain add-on products offered in connection with credit cards.  Furthermore, in 2012 the CFPB issued its first major regulation, which covers remittance transfers (international wire transfers) by consumers, which should take effect later in 2013.
 
In mid-January 2013, the CFPB issued eight final regulations governing consumer mortgage lending.  The first of these rules was issued on January 10, 2013, and included the ability to repay and qualified mortgage rule.  This rule will impose additional requirements, including rules designed to require lenders to ensure borrowers’ ability to repay their mortgage.  The same day, the CFPB also finalized a rule on escrow accounts for high-cost mortgages and a rule expanding the scope of the high-cost mortgage provision in the Truth in Lending Act.  On January 17, 2013, the CFPB issued its final rules implementing provisions of the Dodd-Frank Act that relate to mortgage servicing, which will take effect on January 10, 2014.  On January 18, 2013, the CFPB issued a final appraisal rule under the Equal Credit Opportunity Act and six agencies including the CFPB, the Federal Reserve Board, the Office of the Comptroller of the Currency, the FDIC, the National Credit Union Administration, and the Federal Housing Finance Agency issued an interagency rule on appraisals for higher-priced mortgage loans.  A final rule on loan originator compensation was released on January 20, 2013, and the industry expects a final rule on integrated mortgage disclosures within the next year.  Management does not expect these new rules to have a material impact on CTBI.
 
Basel III Proposal
 
In the summer of 2012, our primary federal regulators published two notices of proposed rulemaking (the “2012 Capital Proposals”) that would substantially revise the risk-based capital requirements applicable to bank holding companies and depository institutions, including CTBI and CTB, compared to the current U.S. risk-based capital rules, which are based on the international capital accords of the Basel Committee on Banking Supervision (the “Basel Committee”) which are generally referred to as “Basel I.”
 
One of the 2012 Capital Proposals (the “Basel III Proposal”) addresses the components of capital and other issues affecting the numerator in banking institutions’ regulatory capital ratios, and would implement the Basel Committee’s December 2010 framework, known as “Basel III,” for strengthening international capital standards. The other proposal (the “Standardized Approach Proposal”) addresses risk weights and other issues affecting the denominator in banking institutions’ regulatory capital ratios, and would replace the existing Basel I-derived risk weighting approach with a more risk-sensitive approach based, in part, on the standardized approach in the Basel Committee’s 2004 “Basel II” capital accords. Although the Basel III Proposal was proposed to come into effect on January 1, 2013, the federal banking agencies jointly announced on November 9, 2012 that they do not expect any of the proposed rules to become effective on that date. As proposed, the Standardized Approach Proposal would come into effect on January 1, 2015.
 
The federal banking agencies have not proposed rules implementing the final liquidity framework of Basel III, and have not determined to what extent they will apply to U.S. banks that are not large, internationally active banks.
 
It is management’s belief that, as of December 31, 2012, CTBI and CTB would meet all capital adequacy requirements under the Basel III and Standardized Approach Proposals on a fully phased-in basis if such requirements were currently effective. The regulations ultimately applicable to financial institutions may be substantially different from the Basel III final framework as published in December 2010 and the proposed rules issued in June 2012. Management will continue to monitor these and any future proposals submitted by our regulators.
 
 
 
An investment in our common stock is subject to risks inherent to our business.  The material risks and uncertainties that management believes affect us are described below.  Before making an investment decision, you should carefully consider the risks and uncertainties described below, together with all of the other information included or incorporated by reference herein.  The risks and uncertainties described below are not the only ones facing us.  Additional risks and uncertainties that management is not aware of or focused on or that management currently deems immaterial may also impair our business operations.  This report is qualified in its entirety by these risk factors.  See also, “Cautionary Statement Regarding Forward-Looking Statements.”  If any of the following risks actually occur, our financial condition and results of operations could be materially and adversely affected.  If this were to happen, the value of our common stock could decline significantly, and you could lose all or part of your investment.
 
Economic Risk
CTBI may continue to be adversely affected by current economic and market conditions.
 
The national and global economic downturn has resulted in unprecedented levels of financial market volatility and has in general adversely impacted the market value of financial institutions, limited access to capital, and had an adverse effect on the financial condition or results of operations of banking companies in general, including CTBI.  In some cases, the markets have produced downward pressure on stock prices and credit capacity for certain issuers without regard to those issuers’ underlying financial strength.  From early 2008 to the middle of 2010, we experienced significant challenges, credit quality deteriorated, and net income and results of operations were adversely impacted.  While there has been some improvement in economic conditions in our markets starting in the second half of 2010 and continuing through 2012, we believe that we will continue to experience a challenging environment in 2013.  We are part of the financial system and a lack of confidence in the financial sector, increased volatility in the financial markets, and reduced business activity could materially and adversely impact our business, financial condition, and results of operations.  In addition, the possible duration and severity of the adverse economic cycle is unknown and may exacerbate financial service providers’, including CTBI’s, exposure to credit risk.  Actions by Congress, Treasury, the FDIC, and other governmental agencies and regulators have been implemented and continue to be developed and implemented to address economic stabilization, yet the efficacy of these programs in stabilizing the economy and the banking system is still uncertain.  There can be no assurance that these actions will not have an adverse effect on the financial position or results of operations of financial service providers including CTBI.
 
Economy of Our Markets
Our business may continue to be adversely affected by ongoing weaknesses in the local economies on which we depend.
 
Our loan portfolio is concentrated primarily in eastern, northeastern, central, and south central Kentucky, southern West Virginia, and northeastern Tennessee.  Our profits depend on providing products and services to clients in these local regions.  Although some of these regions have experienced decreases in unemployment and improved real estate values, unemployment rates remain high and real estate values remain depressed.  Recent economic conditions in the coal and natural gas industry are resulting in increased unemployment in the markets where coal is a major contributor to the economy.  Further increases in unemployment, decreases in real estate values, or increases in interest rates could weaken the local economies in which we operate.  These economic indicators typically affect certain industries, such as real estate and financial services, more significantly.  A continuation of high levels of unemployment and depressed real estate asset values in the markets we serve would likely prolong the economic recovery period in our market area.  Weakness in our market area could depress our earnings and consequently our financial condition because:
·  
Clients may not want, need, or qualify for our products and services;
·  
Borrowers may not be able to repay their loans;
·  
The value of the collateral securing our loans to borrowers may decline; and
·  
The quality of our loan portfolio may decline.

Interest Rate Risk
Changes in interest rates could adversely affect our earnings and financial condition.
 
Our earnings and financial condition are dependent to a large degree upon net interest income, which is the difference between interest earned from loans and investments and interest paid on deposits and borrowings.  The narrowing of interest-rate spreads, meaning the difference between the interest rates earned on loans and investments and the interest rates paid on deposits and borrowings, could adversely affect our earnings and financial condition.  Interest rates are highly sensitive to many factors, including:
·  
The rate of inflation;
·  
The rate of economic growth;
·  
Employment levels;
·  
Monetary policies; and
·  
Instability in domestic and foreign financial markets.
 
Changes in market interest rates will also affect the level of voluntary prepayments on our loans and the receipt of payments on our mortgage-backed securities resulting in the receipt of proceeds that may be reinvested at a lower rate than the loan or mortgage-backed security being prepaid.
 
We originate residential loans for sale and for our portfolio. The origination of loans for sale is designed to meet client financing needs and earn fee income. The origination of loans for sale is highly dependent upon the local real estate market and the level and trend of interest rates.  Increasing interest rates may reduce the origination of loans for sale and consequently the fee income we earn.  While our commercial banking, construction, and income property business lines remain a significant portion of our activities, high interest rates may reduce our mortgage-banking activities and thereby our income.  In contrast, decreasing interest rates have the effect of causing clients to refinance mortgage loans faster than anticipated.  This causes the value of assets related to the servicing rights on loans sold to be lower than originally anticipated.  If this happens, we may need to write down our servicing assets faster, which would accelerate our expense and lower our earnings.
 
We consider interest rate risk one of our most significant market risks. Interest rate risk is the exposure to adverse changes in net interest income due to changes in interest rates.  Consistency of our net interest revenue is largely dependent upon the effective management of interest rate risk.  We employ a variety of measurement techniques to identify and manage our interest rate risk including the use of an earnings simulation model to analyze net interest income sensitivity to changing interest rates.  The model is based on actual cash flows and repricing characteristics for on and off-balance sheet instruments and incorporates market-based assumptions regarding the effect of changing interest rates on the prepayment rates of certain financial assets and liabilities.  Assumptions based on the historical behavior of deposit rates and balances in relation to changes in interest rates are also incorporated into the model.  These assumptions are inherently uncertain, and as a result, the model cannot precisely measure net interest income or precisely predict the impact of fluctuations in interest rates on net interest income.  Actual results will differ from simulated results due to timing, magnitude, and frequency of interest rate changes as well as changes in market conditions and management strategies.
 
Liquidity Risk
CTBI is subject to liquidity risk.
 
CTBI requires liquidity to meet its deposit and debt obligations as they come due and to fund loan demands.  CTBI’s access to funding sources in amounts adequate to finance its activities or on terms that are acceptable to it could be impaired by factors that affect it specifically or the financial services industry or economy in general.  Factors that could reduce its access to liquidity sources include a downturn in the market, difficult credit markets, or adverse regulatory actions against CTBI.  CTBI’s access to deposits may also be affected by the liquidity needs of its depositors.  In particular, a substantial majority of CTBI’s liabilities are demand, savings, interest checking, and money market deposits, which are payable on demand or upon several days’ notice, while by comparison, a substantial portion of its assets are loans, which cannot be called or sold in the same time frame.  Although CTBI historically has been able to replace maturing deposits and advances as necessary, it might not be able to replace such funds in the future, especially if a large number of its depositors sought to withdraw their accounts, regardless of the reason.  A failure to maintain adequate liquidity could have a material adverse effect on our financial condition and results of operations.
 
Banking Reform
Our business may be adversely affected by “banking reform” legislation.
 
On July 21, 2010, President Obama signed the Dodd-Frank Act into law.  This law has significantly changed the bank regulatory structure and affected the lending, deposit, investment, trading, and operating activities of financial institutions and their holding companies.  The Dodd-Frank Act has required various federal agencies to adopt a broad range of implementing rules and regulations, and to prepare numerous studies and reports for Congress.  The federal agencies have been given significant discretion in drafting the implementing rules and regulations, and consequently, many of the details and much of the impact of the Dodd-Frank Act are still unknown.  This legislation includes, among other things: (i) changes in the manner in which the FDIC deposit insurance assessments are computed and an increase in the minimum designated reserve ratio for the Deposit Insurance Fund; (ii) authorization of interest-bearing demand deposits; (iii) requirements for capital regulations applicable to banks and bank holding companies which call for higher levels of capital; (iv) creation of the Consumer Financial Protection Bureau, responsible for implementation of federal consumer protection laws which affect banks and bank holding companies; (v) a permanent increase in the maximum amount of deposit insurance for banks; (vi) a prohibition of certain proprietary trading and equity investment activities by banks; (vii) restrictions related to mortgage lending; (viii) allowance of de novo interstate branching; and (ix) additional corporate governance provisions relating to non-binding shareholder votes on executive compensation and rules prohibiting incentive compensation that encourages inappropriate risks.
 
Many aspects of the Dodd-Frank Act are subject to rulemaking and take effect over several years, making it difficult to anticipate the overall financial impact on CTBI. However, compliance with this law and its implementing regulations will result in additional operating costs that could have a material adverse effect on our financial condition and results of operations.
 
In the summer of 2012, our primary federal regulators published two notices of proposed rulemaking that would substantially revise the risk-based capital requirements applicable to bank holding companies and depository institutions, including CTBI and CTB, compared to the current U.S. risk-based capital rules.  One of the proposals addresses the components of capital and other issues affecting the numerator in banking institutions’ regulatory capital ratios, and the other addresses risk weights and other issues affecting the denominator in banking institutions’ regulatory capital ratios, and would replace the existing approach with a more risk-sensitive approach.  The federal banking agencies have not proposed rules implementing the final liquidity framework of Basel III, and have not determined to what extent they will apply to U.S. banks that are not large, internationally active banks.
 
In November 2012, the federal banking agencies announced that they did not expect any of the proposed rules to become effective on January 1, 2013 as originally proposed.  The regulations ultimately applicable to financial institutions may be substantially different from the Basel III final framework as published in December 2010 and the proposed rules issued in June 2012. Management will continue to monitor these and any future proposals submitted by our regulators.
 
Government Policies and Oversight
Our business may be adversely affected by changes in government policies and oversight.
 
The earnings of banks and bank holding companies such as ours are affected by the policies of regulatory authorities, including the Federal Reserve Board, which regulates the money supply.  Among the methods employed by the Federal Reserve Board are open market operations in U.S. Government securities, changes in the discount rate on member bank borrowings, and changes in reserve requirements against member bank deposits.  These methods are used in varying combinations to influence overall growth and distribution of bank loans, investments and deposits, and their use may also affect interest rates charged on loans or paid on deposits.  The monetary policies of the Federal Reserve Board have had a significant effect on the operating results of commercial and savings banks in the past and are expected to continue to do so in the future.
 
Many states and municipalities are experiencing financial stress due to the economy.  As a result, various levels of government have sought to increase their tax revenues through increased tax levies, which could have an adverse impact on our results of operations.
 
Federal banking regulators are increasing regulatory scrutiny, and additional limitations (including those contained in the Dodd-Frank Act) on financial institutions have been proposed or adopted by regulators and by Congress.  The banking industry is highly regulated and changes in federal and state banking regulations as well as policies and administration guidelines may affect our practices, growth prospects, and earnings.  In particular, there is no assurance that recent governmental actions designed to stabilize the economy and banking system will not adversely affect the financial position or results of operations of CTBI.
 
We are involved from time to time in examinations, reviews, and investigations (both formal and informal) by governmental and regulatory authorities regarding our business.  These matters could result in adverse judgments, settlements, fines, penalties, injunctions, and other relief.
 
Credit Risk
Our earnings and reputation may be adversely affected if we fail to effectively manage our credit risk.
 
Originating and underwriting loans are integral to the success of our business.  This business requires us to take “credit risk,” which is the risk of losing principal and interest income because borrowers fail to repay loans.  Collateral values and the ability of borrowers to repay their loans may be affected at any time by factors such as:
·  
The length and severity of downturns in the local economies in which we operate or the national economy;
·  
The length and severity of downturns in one or more of the business sectors in which our customers operate, particularly the automobile, hotel/motel, coal, and residential development industries; or
·  
A rapid increase in interest rates.
 
Our loan portfolio includes loans with a higher risk of loss.
 
We originate commercial real estate loans, construction and development loans, consumer loans, and residential mortgage loans, primarily within our market area.  Commercial real estate, commercial, and construction and development loans tend to involve larger loan balances to a single borrower or groups of related borrowers and are most susceptible to a risk of loss during a downturn in the business cycle.  These loans also have historically had a greater credit risk than other loans for the following reasons:
 
·  
Commercial Real Estate Loans.  Repayment is dependent on income being generated in amounts sufficient to cover operating expenses and debt service.  As of December 31, 2012, commercial real estate loans, including multi-family loans, comprised approximately 36% of our total loan portfolio.
 
·  
Other Commercial Loans.  Repayment is generally dependent upon the successful operation of the borrower’s business.  In addition, the collateral securing the loans may depreciate over time, be difficult to appraise, be illiquid, or fluctuate in value based on the success of the business.  As of December 31, 2012, other commercial loans comprised approximately 15% of our total loan portfolio.
 
·  
Construction and Development Loans.  The risk of loss is largely dependent on our initial estimate of whether the property’s value at completion equals or exceeds the cost of property construction and the availability of take-out financing.  During the construction phase, a number of factors can result in delays or cost overruns.  If our estimate is inaccurate or if actual construction costs exceed estimates, the value of the property securing our loan may be insufficient to ensure full repayment when completed through a permanent loan, sale of the property, or by seizure of collateral.  As of December 31, 2012, construction and development loans comprised approximately 7% of our total loan portfolio.
 
Consumer loans may carry a higher degree of repayment risk than residential mortgage loans, particularly when the consumer loan is unsecured.  Repayment of a consumer loan typically depends on the borrower’s financial stability, and it is more likely to be affected adversely by job loss, illness, or personal bankruptcy.  Economic conditions in the coal and natural gas industry are resulting in increases in unemployment in many of our market areas, which is likely to impact the repayment risk associated with our consumer loans.  In addition, federal and state bankruptcy, insolvency, and other laws may limit the amount we can recover when a consumer client defaults.  As of December 31, 2012, consumer loans comprised approximately 16% of our total loan portfolio.
 
A significant part of our lending business is focused on small to medium-sized business which may be impacted more severely during periods of economic weakness.
 
A significant portion of our commercial loan portfolio is tied to small to medium-sized businesses in our markets.  During periods of economic weakness, small to medium-sized businesses may be impacted more severely than larger businesses.  As a result, the ability of smaller businesses to repay their loans may deteriorate, particularly if economic challenges persist over a period of time, and such deterioration would adversely impact our results of operations and financial condition.
 
A large percentage of our loan portfolio is secured by real estate, in particular commercial real estate.  Continued weakness in the real estate market or other segments of our loan portfolio would lead to additional losses, which could have a material adverse effect on our business, financial condition, and results of operations.
 
As of December 31, 2012, approximately 69% of our loan portfolio is secured by real estate, 36% of which is commercial real estate.  High levels of commercial and consumer delinquencies or further declines in real estate market values could require increased net charge-offs and increases in the allowance for loan and lease losses, which could have a material adverse effect on our business, financial condition, and results of operations and prospects.
 
While we have seen a decline in our level of other real estate owned, it still remains above our historical norm, primarily as a result of foreclosures.  To the extent that we continue to hold a higher level of real estate owned, related real estate expense would likely increase.
 
During the recent economic downturn, we experienced an increase in nonperforming real estate loans.  As a result, we have experienced, and we continue to experience, an increase in the level of foreclosed properties.  Foreclosed real estate expense consists of maintenance costs, taxes, valuation adjustments to appraisal values, and gains or losses on disposition.  The amount that we may realize after a default is dependent upon factors outside of our control, including but not limited to: (i) general and local economic conditions; (ii) neighborhood values; (iii) interest rates; (iv) real estate tax rates; (v) operating expenses of the properties; (vi) environmental remediation liabilities; (vii) ability to obtain and maintain occupancy of the properties; (viii) zoning laws; (ix) governmental rules, regulations, and fiscal policies; (x) potential vandalism; and (xi) acts of God.  Expenditures associated with the ownership of real estate, such as real estate taxes, insurance, and maintenance costs, may adversely affect income from the real estate.  The cost of operating real property may exceed the income earned from the property, and we may need to advance funds in order to protect our investment in the property, or we may be required to dispose of the property at a loss.  If our levels of other real estate owned increase or are sustained and local real estate values decline, our foreclosed real estate expense will increase, which would adversely impact our results of operations.

Environmental Liability Risk
We are subject to environmental liability risk associated with lending activity.
 
A significant portion of our loan portfolio is secured by real property.  During the ordinary course of business, we may foreclose on and take title to properties securing loans.  In doing so, there is a risk that hazardous or toxic substances could be found on these properties.  If hazardous or toxic substances are found, we may be liable for remediation costs, as well as for personal injury and property damage.  Environmental laws may require us to incur substantial expenses and may materially reduce the affected property’s value or limit our ability to use or sell the affected property.  In addition, future laws or more stringent interpretations or enforcement policies with respect to existing laws may increase our exposure to environmental liability.  Although we have policies and procedures to perform an environmental review before initiating any foreclosure action on real property, these reviews may not be sufficient to detect all potential environmental hazards.  The remediation costs and any other financial liabilities associated with an environmental hazard could have a material adverse effect on our financial condition and results of operations.
 
Competition
Strong competition within our market area may reduce our ability to attract and retain deposits and originate loans.
 
We face competition both in originating loans and in attracting deposits. Competition in the financial services industry is intense.  We compete for clients by offering excellent service and competitive rates on our loans and deposit products.  The type of institutions we compete with include commercial banks, savings institutions, mortgage banking firms, credit unions, finance companies, mutual funds, insurance companies and brokerage and investment banking firms.  Competition arises from institutions located within and outside our market areas.  As a result of their size and ability to achieve economies of scale, certain of our competitors offer a broader range of products and services than we offer.  The recent economic crisis is likely to result in increased consolidation in the financial industry and larger financial institutions may strengthen their competitive positions.  In addition, to stay competitive in our markets we may need to adjust the interest rates on our products to match the rates offered by our competitors, which could adversely affect our net interest margin.  As a result, our profitability depends upon our continued ability to successfully compete in our market areas while achieving our investment objectives.
 
Acquisition Risk
We may have difficulty in the future continuing to grow through acquisitions.
 
We may experience difficulty in making acquisitions on acceptable terms due to the decreasing number of suitable acquisition targets, competition for attractive acquisitions, and certain limitations on interstate acquisitions.
 
Any future acquisitions or mergers by CTBI or its banking subsidiary are subject to approval by the appropriate federal and state banking regulators.  The banking regulators evaluate a number of criteria in making their approval decisions, such as:
·  
Safety and soundness guidelines;
·  
Compliance with all laws including the USA Patriot Act, the International Money Laundering Abatement and Anti-Terrorist Financing Act, the Sarbanes-Oxley Act and the related rules and regulations promulgated under such Act or the Exchange Act, the Equal Credit Opportunity Act, the Fair Housing Act, the Community Reinvestment Act, the Home Mortgage Disclosure Act, and all other applicable fair lending laws and other laws relating to discriminatory business practices; and
·  
Anti-competitive concerns with the proposed transaction.
 
If the banking regulators or a commenter on our regulatory application raise concerns about any of these criteria at the time a regulatory application is filed, the banking regulators may deny, delay, or condition their approval of a proposed transaction.
 
We have grown, and intend to continue to grow, through acquisitions of banks and other financial institutions.  After these acquisitions, we may experience adverse changes in results of operations of acquired entities, unforeseen liabilities, asset quality problems of acquired entities, loss of key personnel, loss of clients because of change of identity, difficulties in integrating data processing and operational procedures, and deterioration in local economic conditions.  These various acquisition risks can be heightened in larger transactions.
 
Integration Risk
We may not be able to achieve the expected integration and cost savings from our ongoing bank acquisition activities.
 
We have a long history of acquiring financial institutions and we expect this acquisition activity to continue in the future.  Difficulties may arise in the integration of the business and operations of the financial institutions that agree to merge with and into CTBI and, as a result, we may not be able to achieve the cost savings and synergies that we expect will result from the merger activities.  Achieving cost savings is dependent on consolidating certain operational and functional areas, eliminating duplicative positions and terminating certain agreements for outside services.  Additional operational savings are dependent upon the integration of the banking businesses of the acquired financial institution with that of CTBI, including the conversion of the acquired entity’s core operating systems, data systems and products to those of CTBI and the standardization of business practices.  Complications or difficulties in the conversion of the core operating systems, data systems, and products of these other banks to those of CTBI may result in the loss of clients, damage to our reputation within the financial services industry, operational problems, one-time costs currently not anticipated by us, and/or reduced cost savings resulting from the merger activities.
 
Operational Risk
An extended disruption of vital infrastructure or a security breach could negatively impact our business, results of operations, and financial condition.
 
Our operations depend upon, among other things, our infrastructure, including equipment and facilities.  Extended disruption of vital infrastructure by fire, power loss, natural disaster, telecommunications failure, computer hacking or viruses, terrorist activity or the domestic and foreign response to such activity, or other events outside of our control could have a material adverse impact on the financial services industry as a whole and on our business, results of operations, cash flows, and financial condition in particular.  Our business recovery plan may not work as intended or may not prevent significant interruption of our operations.  The occurrence of any failures, interruptions, or security breaches of our information systems could damage our reputation, result in the loss of customer business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability, any of which could have an adverse effect on our financial condition and results of operation.
 
Market Risk
Community Trust Bancorp, Inc.'s stock price is volatile.
 
Our stock price has been volatile in the past, and several factors could cause the price to fluctuate substantially in the future.  These factors include:
·  
Actual or anticipated variations in earnings;
·  
Changes in analysts' recommendations or projections;
·  
CTBI's announcements of developments related to our businesses;
·  
Operating and stock performance of other companies deemed to be peers;
·  
New technology used or services offered by traditional and non-traditional competitors;
·  
News reports of trends, concerns, and other issues related to the financial services industry; and
·  
Additional governmental policies and enforcement of current laws.
 
Our stock price may fluctuate significantly in the future, and these fluctuations may be unrelated to CTBI's performance.  The financial crisis has impacted investor confidence in the financial institutions sector.  General market price declines or market volatility in the future could adversely affect the price of our common stock, and the current market price may not be indicative of future market prices.
 
Technology Risk
CTBI continually encounters technological change.
 
The financial services industry is continually undergoing rapid technological change with frequent introductions of new technology-driven products and services.  The effective use of technology increases efficiency and enables financial institutions to better serve customers and to reduce costs.  Our future success depends, in part, upon our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands, as well as to create additional efficiencies in our operations.  Many of our competitors have substantially greater resources to invest in technological improvements.  We may not be able to effectively implement new technology-driven products and services or be successful in marketing these products and services to our customers.  Failure to successfully keep pace with technological change affecting the financial services industry could have a material adverse impact on our business and, in turn, our financial condition and results of operations.
 
Counterparty Risk
The soundness of other financial institutions could adversely affect CTBI.
 
Our ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institutions.  Financial services companies are interrelated as a result of trading, clearing, counterparty, or other relationships.  We have exposure to many different industries and counterparties, and we routinely execute transactions with counterparties in the financial services industry, including brokers and dealers, commercial banks, investment banks, mutual and hedge funds, and other institutional counterparties. As a result, defaults by, or even rumors or questions about, one or more financial services companies, or the financial services industry generally, have led to market-wide liquidity problems and could lead to losses or defaults by us or by other institutions.  Many of these transactions expose us to credit risk in the event of default of our counterparty or client.  In addition, our credit risk may be exacerbated when the collateral held by us cannot be realized or is liquidated at prices not sufficient to recover the full amount of the loan or derivative exposure due us.  There is no assurance that any such losses would not materially and adversely affect our businesses, financial condition, or results of operations.
 
 
 
None.

 
 
 

 
The following tables set forth certain statistical information relating to CTBI and subsidiaries on a consolidated basis and should be read together with our consolidated financial statements.
 
Consolidated Average Balance Sheets and Taxable Equivalent Income/Expense and Yields/Rates
 
   
2012
   
2011
   
2010
 
(in thousands)
 
Average
Balances
   
Interest
   
Average
Rate
   
Average
Balances
   
Interest
   
Average
Rate
   
Average
Balances
   
Interest
   
Average
Rate
 
Earning assets:
                                                     
Loans (1)(2)(3)
  $ 2,549,459     $ 138,172       5.42 %   $ 2,580,351     $ 145,178       5.63 %   $ 2,461,225     $ 142,519       5.79 %
Loans held for sale
    1,434       198       13.81       749       112       14.95       1,040       111       10.67  
Securities:
                                                                       
U.S. Treasury and agencies
    480,562       10,292       2.14       350,612       8,992       2.56       249,835       7,983       3.20  
Tax exempt state and political subdivisions (3)
    69,773       3,191       4.57       51,565       2,634       5.11       43,128       2,456       5.69  
Other securities
    54,664       1,717       3.14       30,492       1,141       3.74       36,927       951       2.58  
Federal Reserve Bank and Federal Home Loan Bank stock
    30,557       1,433       4.69       30,412       1,374       4.52       29,183       1,351       4.63  
Federal funds sold
    3,372       11       0.33       31,000       84       0.27       89,598       234       0.26  
Interest bearing deposits
    155,233       379       0.24       132,269       315       0.24       37,989       85       0.22  
Other investments
    10,229       91       0.89       12,342       87       0.70       11,190       77       0.69  
Investment in unconsolidated subsidiaries
    1,851       72       3.89       1,856       120       6.47       1,856       120       6.47  
Total earning assets
    3,357,134     $ 155,556       4.63 %     3,221,648     $ 160,037       4.97 %     2,961,971     $ 155,887       5.26 %
Allowance for loan and lease losses
    (33,781 )                     (35,808 )                     (35,741 )                
      3,323,353                       3,185,840                       2,926,230                  
Nonearning assets:
                                                                       
Cash and due from banks
    62,807                       70,239                       66,740                  
Premises and equipment, net
    54,962                       55,445                       49,468                  
Other assets
    200,538                       194,379                       177,649                  
Total assets
  $ 3,641,660                     $ 3,505,903                     $ 3,220,087                  
 
 
 
 
 
 
     2012     2011      2010  
 (in thousands)    Average Balances     Interest    
Average
Rate
    Average Balances     Interest       Average Rate       Average Balances       Interest     Average Rate    
Interest bearing liabilities:
                                                                       
Deposits:
                                                                       
Savings and demand deposits
  $ 878,825     $ 2,894       0.33 %   $ 777,639     $ 2,824       0.36 %   $ 668,255     $ 3,074       0.46 %
Time deposits
    1,445,018       15,017       1.04       1,460,627       18,458       1.26       1,392,510       26,078       1.87  
Repurchase agreements and  federal funds purchased
    222,872       1,240       0.56       219,040       1,625       0.74       198,880       2,027       1.02  
Advances from Federal Home Loan Bank
    2,439       34       1.39       21,670       99       0.46       20,286       79       0.39  
Long-term debt
    61,341       2,403       3.92       61,341       3,999       6.52       61,341       3,999       6.52  
Total interest bearing liabilities
    2,610,495     $ 21,588       0.83 %     2,540,317     $ 27,005       1.06 %     2,341,272     $ 35,257       1.51 %
                                                                         
Noninterest bearing liabilities:
                                                                       
Demand deposits
    604,736                       573,067                       514,196                  
Other liabilities
    37,052                       36,746                       30,974                  
Total liabilities
    3,252,283                       3,150,130                       2,886,442                  
                                                                         
Shareholders’ equity
    389,377                       355,773                       333,645                  
Total liabilities and shareholders’ equity
  $ 3,641,660                     $ 3,505,903                     $ 3,220,087                  
                                                                         
Net interest income, tax equivalent
          $ 133,968                     $ 133,032                     $ 120,630          
Less tax equivalent interest income
            1,834                       1,577                       1,376          
Net interest income
          $ 132,134                     $ 131,455                     $ 119,254          
Net interest spread
                    3.80 %                     3.91 %                     3.75 %
Benefit of interest free funding
                    0.19                       0.22                       0.32  
Net interest margin
                    3.99 %                     4.13 %                     4.07 %
 
(1) Interest includes fees on loans of $1,954, $1,889, and $1,766 in 2012, 2011, and 2010, respectively.
(2) Loan balances include deferred loan origination costs and principal balances on nonaccrual loans.
(3) Tax exempt income on securities and loans is reported on a fully taxable equivalent basis using a 35% rate.
 
 
 
 
 
 
Net Interest Differential
 
The following table illustrates the approximate effect of volume and rate changes on net interest differentials between 2012 and 2011 and also between 2011 and 2010.
 
   
Total Change
   
Change Due to
   
Total Change
   
Change Due to
 
(in thousands)
   2012/2011    
Volume
   
Rate
     2011/2010    
Volume
   
Rate
 
Interest income:
                                       
Loans
  $ (7,006 )   $ (1,754 )   $ (5,252 )   $ 2,659     $ 6,775     $ (4,116 )
Loans held for sale
    86       95       (9 )     1       (26 )     27  
U.S. Treasury and agencies
    1,300       2,952       (1,652 )     1,009       2,793       (1,784 )
Tax exempt state and political subdivisions
    557       855       (298 )     178       448       (270 )
Other securities
    576       784       (208 )     190       (145 )     335  
Federal Reserve Bank and Federal Home Loan Bank stock
    59       7       52       23       56       (33 )
Federal funds sold
    (73 )     (62 )     (11 )     (150 )     (148 )     (2 )
Interest bearing deposits
    64       56       8       230       224       6  
Other investments
    4       (13 )     17       10       8       2  
Investment in unconsolidated subsidiaries
    (48 )     0       (48 )     0       0       0  
Total interest income
    (4,481 )     2,920       (7,401 )     4,150       9,985       (5,835 )
                                                 
Interest expense:
                                               
Savings and demand deposits
    70       348       (278 )     (250 )     457       (707 )
Time deposits
    (3,441 )     (199 )     (3,242 )     (7,620 )     1,221       (8,841 )
Repurchase agreements and federal funds purchased
    (385 )     28       (413 )     (402 )     190       (592 )
Advances from Federal Home Loan Bank
    (65 )     (33 )     (32 )     20       6       14  
Long-term debt
    (1,596 )     0       (1,596 )     0       0       0  
Total interest expense
    (5,417 )     144       (5,561 )     (8,252 )     1,874       (10,126 )
                                                 
Net interest income
  $ 936     $ 2,776     $ (1,840 )   $ 12,402     $ 8,111     $ 4,291  
 
For purposes of the above table, changes which are due to both rate and volume are allocated based on a percentage basis, using the absolute values of rate and volume variance as a basis for percentages.  Income is stated at a fully taxable equivalent basis, assuming a 35% tax rate.
 
Investment Portfolio
 
The maturity distribution and weighted average interest rates of securities at December 31, 2012 are as follows:
 
Available-for-sale
 
   
Estimated Maturity at December 31, 2012
 
   
Within 1 Year
   
1-5 Years
   
5-10 Years
   
After 10 Years
   
Total Fair Value
   
Amortized Cost
 
(in thousands)
 
Amount
   
Yield
   
Amount
   
Yield
   
Amount
   
Yield
   
Amount
   
Yield
   
Amount
   
Yield
   
Amount
 
U.S. Treasury, government agencies, and government sponsored agency mortgage-backed securities
  $ 517       0.99 %   $ 22,504       2.71 %   $ 97,933       2.14 %   $ 323,542       2.39 %   $ 444,496       2.35 %   $ 430,871  
State and political subdivisions
    5,968       5.17       15,501       3.53       53,826       4.03       37,926       4.52       113,221       4.18       107,987  
Other securities
    0       0.00       45,626       3.38       0       0.00       0       0.00       45,626       3.38       45,000  
Total
  $ 6,485       4.84 %   $ 83,631       3.23 %   $ 151,759       2.81 %   $ 361,468       2.61 %   $ 603,343       2.77 %   $ 583,858  
 
Held-to-maturity
 
   
Estimated Maturity at December 31, 2012
 
   
Within 1 Year
   
1-5 Years
   
5-10 Years
   
After 10 Years
   
Total
Amortized Cost
   
Fair
Value
 
(in thousands)
 
Amount
   
Yield
   
Amount
   
Yield
   
Amount
   
Yield
   
Amount
   
Yield
   
Amount
   
Yield
   
Amount
 
U.S. Treasury, government agencies, and government sponsored agency mortgage-backed securities
  $ 0       0.00 %   $ 0       0.00 %   $ 0       0.00 %   $ 480       2.48 %   $ 480       2.48 %   $ 476  
State and political subdivisions
    0       0.00       0       0.00       1,182       4.30       0       0.00       1,182       4.30       1,183  
Total
  $ 0       0.00 %   $ 0       0.00 %   $ 1,182       4.30 %   $ 480       2.48 %   $ 1,662       3.78 %   $ 1,659  
 
Total Securities
 
   
Estimated Maturity at December 31, 2012
 
   
Within 1 Year
   
1-5 Years
   
5-10 Years
   
After 10 Years
   
Total
Book Value
   
Fair
Value
 
(in thousands)
 
Amount
   
Yield
   
Amount
   
Yield
   
Amount
   
Yield
   
Amount
   
Yield
   
Amount
   
Yield
   
Amount
 
Total
  $ 6,485       4.84 %   $ 83,631       3.23 %   $ 152,941       2.82 %   $ 361,948       2.61 %   $ 605,005       2.77 %   $ 605,002  
 
The calculations of the weighted average interest rates for each maturity category are based upon yield weighted by the respective costs of the securities.  The weighted average rates on state and political subdivisions are computed on a taxable equivalent basis using a 35% tax rate.
 
Excluding those holdings of the investment portfolio in U.S. Treasury securities, government agencies, and government sponsored agency mortgage-backed securities, there were no securities of any one issuer that exceeded 10% of our shareholders’ equity at December 31, 2012.
 
The book values of securities available-for-sale and securities held-to-maturity as of December 31, 2012 and 2011 are presented in note 3 to the consolidated financial statements.
 
The book value of securities at December 31, 2010 is presented below:
 
(in thousands)
 
Available-for-Sale
   
Held-to-Maturity
 
U.S. Treasury and government agencies
  $ 29,154     $ 480  
State and political subdivisions
    52,017       1,182  
U.S. government sponsored agency mortgage-backed securities
    230,905       0  
Total debt securities
    312,076       1,662  
Marketable equity securities
    20,582       0  
Total securities
  $ 332,658     $ 1,662  

Loan Portfolio

(in thousands)
 
2012
   
2011
   
2010
   
2009
   
2008
 
Commercial:
                             
Construction
  $ 119,447     $ 120,577     $ 135,091     $ 141,440     $ 156,425  
Secured by real estate
    807,213       798,887       807,049       707,500       663,663  
Equipment lease financing
    9,246       9,706       14,151       20,048       12,343  
Commercial other
    376,348       374,597       388,746       373,829       365,685  
Total commercial
    1,312,254       1,303,767       1,345,037       1,242,817       1,198,116  
                                         
Residential:
                                       
Real estate construction
    55,041       53,534       56,910       51,311       56,298  
Real estate mortgage
    696,928       650,075       623,851       528,592       524,827  
Home equity
    82,292       84,841       85,103       82,135       84,567  
Total residential
    834,261       788,450       765,864       662,038       665,692  
                                         
Consumer:
                                       
Consumer direct
    122,581       123,949       126,046       115,555       117,186  
Consumer indirect
    281,477       340,382       368,233       415,350       367,657  
Total consumer
    404,058       464,331       494,279       530,905       484,843  
                                         
Total loans
  $ 2,550,573     $ 2,556,548     $ 2,605,180     $ 2,435,760     $ 2,348,651  
                                         
Percent of total year-end loans
                                       
Commercial:
                                       
Construction
    4.68 %     4.72 %     5.19 %     5.80 %     6.65 %
Secured by real estate
    31.65       31.25       30.98       29.05       28.26  
Equipment lease financing
    0.36       0.38       0.54       0.82       0.53  
Commercial other
    14.76       14.65       14.92       15.35       15.57  
Total commercial
    51.45       51.00       51.63       51.02       51.01  
                                         
Residential:
                                       
Real estate construction
    2.16       2.09       2.18       2.11       2.40  
Real estate mortgage
    27.32       25.43       23.95       21.70       22.35  
Home equity
    3.23       3.32       3.27       3.37       3.60  
Total residential
    32.71       30.84       29.40       27.18       28.35  
                                         
Consumer:
                                       
Consumer direct
    4.80       4.85       4.84       4.74       4.99  
Consumer indirect
    11.04       13.31       14.13       17.06       15.65  
Total consumer
    15.84       18.16       18.97       21.80       20.64  
                                         
Total loans
    100.00 %     100.00 %     100.00 %     100.00 %     100.00 %
 
The total loans above are net of deferred loan fees and costs.
 
 
 
The following table shows the amounts of loans (excluding residential mortgages of 1-4 family residences, consumer loans and lease financing) which, based on the remaining scheduled repayments of principal are due in the periods indicated.  Also, the amounts are classified according to sensitivity to changes in interest rates (fixed, variable).
 
   
Maturity at December 31, 2012
 
(in thousands)
 
Within One Year
   
After One but Within Five Years
   
After Five Years
   
Total
 
Commercial secured by real estate and commercial other
  $ 236,194     $ 232,935     $ 714,432     $ 1,183,561  
Commercial and real estate construction
    92,995       22,136       59,357       174,488  
    $ 329,189     $ 255,071     $ 773,789     $ 1,358,049  
                                 
Rate sensitivity:
                               
Fixed rate
  $ 69,997     $ 49,044     $ 103,689     $ 222,730  
Adjustable rate
    259,192       206,027       670,100       1,135,319  
    $ 329,189     $ 255,071     $ 773,789     $ 1,358,049  
 
Nonperforming Assets
 
(in thousands)
 
2012
   
2011
   
2010
   
2009
   
2008
 
Nonaccrual loans
  $ 16,791     $ 25,753     $ 45,021     $ 32,247     $ 40,945  
90 days or more past due and still accruing interest
    19,215       11,515       17,014       9,067       11,245  
Total nonperforming loans
    36,006       37,268       62,035       41,314       52,190  
                                         
Other repossessed assets
    5       58       129       276       239  
Foreclosed properties
    46,986       56,545       42,935       37,333       10,425  
Total nonperforming assets
  $ 82,997     $ 93,871     $ 105,099     $ 78,923     $ 62,854  
                                         
Nonperforming assets to total loans and foreclosed properties
    3.20 %     3.59 %     3.97 %     3.19 %     2.66 %
Allowance to nonperforming loans
    92.33 %     89.01 %     56.10 %     79.01 %     59.06 %
 
Nonaccrual and Past Due Loans
 
(in thousands)
 
Nonaccrual loans
   
As a % of Loan Balances by Category
   
Accruing Loans Past Due 90 Days or More
   
As a % of Loan Balances by Category
   
Balances
 
December 31, 2012
                             
Commercial construction
  $ 5,955       4.99 %   $ 3,778       3.16 %   $ 119,447  
Commercial secured by real estate
    5,572       0.69       5,943       0.74       807,213  
Equipment lease financing
    0       0.00       0       0.00       9,246  
Commercial other
    1,655       0.44       3,867       1.03       376,348  
Real estate construction
    315       0.57       196       0.36       55,041  
Real estate mortgage
    3,153       0.45       4,511       0.65       696,928  
Home equity
    141       0.17       441       0.54       82,292  
Consumer direct
    0       0.00       98       0.08       122,581  
Consumer indirect
    0       0.00       381       0.14       281,477  
Total
  $ 16,791       0.66 %   $ 19,215       0.75 %   $ 2,550,573  
                                         
December 31, 2011
                                       
Commercial construction
  $ 7,029       5.83 %   $ 3,292       2.73 %   $ 120,577  
Commercial secured by real estate
    9,810       1.23       3,969       0.50       798,887  
Equipment lease financing
    0       0.00       0       0.00       9,706  
Commercial other
    3,914       1.04       619       0.17       374,597  
Real estate construction
    607       1.13       16       0.03       53,534  
Real estate mortgage
    4,204       0.65       2,719       0.42       650,075  
Home equity
    189       0.22       346       0.41       84,841  
Consumer direct
    0       0.00       71       0.06       123,949  
Consumer indirect
    0       0.00       483       0.14       340,382  
Total
  $ 25,753       1.01 %   $ 11,515       0.45 %   $ 2,556,548  
 
Discussion of the Nonaccrual Policy
 
The accrual of interest income on loans 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 the collection of interest is doubtful.  Cash payments received on nonaccrual loans generally are applied against principal, and interest income is only recorded once principal recovery is reasonably assured.  Any loans greater than 90 days past due must be well secured and in the process of collection to continue accruing interest.  See note 1 for further discussion on our nonaccrual policy.
 
Potential Problem Loans
 
Interest accrual is discontinued when we believe, 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.
 
Foreign Outstandings
 
None
 
Loan Concentrations
 
We had no concentration of loans exceeding 10% of total loans at December 31, 2012.  See note 18 to the consolidated financial statements for further information.
 
Analysis of the Allowance for Loan and Lease Losses
 
 (in thousands)
 
2012
   
2011
   
2010
   
2009
   
2008
 
Allowance for loan and lease losses, beginning of year
  $ 33,171     $ 34,805     $ 32,643     $ 30,821     $ 28,054  
Loans charged off:
                                       
Commercial construction
    1,034       2,510       1,695       3,435       1,491  
Commercial secured by real estate
    2,035       4,018       3,826       3,192       914  
Commercial other
    3,233       4,092       5,184       4,342       2,080  
Real estate construction
    189       319       22       330       125  
Real estate mortgage
    1,123       1,589       684       858       458  
Home equity
    248       171       358       223       288  
Consumer direct
    1,245       961       1,256       1,892       1,891  
Consumer indirect
    3,483       3,874       4,611       4,587       4,051  
Total charge-offs
    12,590       17,534       17,636       18,859       11,298  
                                         
Recoveries of loans previously charged off:
                                       
Commercial construction
    35       30       6       204       25  
Commercial secured by real estate
    303       140       163       415       177  
Commercial other
    764       441       688       350       534  
Real estate construction
    28       26       19       7       5  
Real estate mortgage
    151       82       99       132       50  
Home equity
    11       16       23       18       10  
Consumer direct
    538       452       635       792       654  
Consumer indirect
    1,384       1,451       1,681       1,295       1,158  
Total recoveries
    3,214       2,638       3,314       3,213       2,613  
                                         
Net charge-offs:
                                       
Commercial construction
    999       2,480       1,689       3,231       1,466  
Commercial secured by real estate
    1,732       3,878       3,663       2,777       737  
Commercial other
    2,469       3,651       4,496       3,992       1,546  
Real estate construction
    161       293       3       323       120  
Real estate mortgage
    972       1,507       585       726       408  
Home equity
    237       155       335       205       278  
Consumer direct
    707       509       621       1,100       1,237  
Consumer indirect
    2,099       2,423       2,930       3,292       2,893  
Total net charge-offs
    9,376       14,896       14,322       15,646       8,685