10-Q 1 form10q.htm INDEPENDENT BANK CORP 10-Q 6-30-2014
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED June 30, 2014

Commission file number   0-7818

INDEPENDENT BANK CORPORATION
(Exact name of registrant as specified in its charter)

Michigan
 
38-2032782
(State or jurisdiction of Incorporation or Organization)
 
(I.R.S. Employer Identification Number)

230 West Main Street, P.O. Box 491, Ionia, Michigan  48846
(Address of principal executive offices)

(616) 527-5820
(Registrant's telephone number, including area code)

NONE
Former name, address and fiscal year, if changed since last report.

Indicate by check mark whether the registrant (1) has filed all documents and reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.      YES  x       NO ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
YES x       NO ¨

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, non-accelerated filer or smaller reporting company.

Large accelerated filer ¨  Accelerated filer ¨  Non-accelerated filer ¨  Smaller reporting company x

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
YES ¨       NO  x

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

Common stock, no par value
 
22,942,101
Class
 
Outstanding at August 4, 2014
 
INDEPENDENT BANK CORPORATION AND SUBSIDIARIES

INDEX

 
 
Number(s)
PART I -
Financial Information
 
Item 1.
3
 
4
 
5
 
6
 
7
 
8-65
Item 2.
66-93
Item 3.
94
Item 4.
94
 
 
 
PART II -
Other Information
 
Item 1A
95
Item 2.
95
Item 6.
96

1
FORWARD-LOOKING STATEMENTS

Discussions and statements in this report that are not statements of historical fact, including statements that include terms such as “will,” “may,” “should,” “believe,” “expect,” “forecast,” “anticipate,” “estimate,” “project,” “intend,” “likely,” “optimistic” and “plan” and statements about future or projected financial and operating results, plans, projections, objectives, expectations, and intentions, are forward-looking statements. Forward-looking statements include, but are not limited to, descriptions of plans and objectives for future operations, products or services; projections of our future revenue, earnings or other measures of economic performance; forecasts of credit losses and other asset quality trends; statements about our business and growth strategies; and expectations about economic and market conditions and trends.  These forward-looking statements express our current expectations, forecasts of future events, or long-term goals.  They are based on assumptions, estimates, and forecasts that, although believed to be reasonable, may turn out to be incorrect.   Actual results could differ materially from those discussed in the forward-looking statements for a variety of reasons, including:

· economic, market, operational, liquidity, credit, and interest rate risks associated with our business;
· economic conditions generally and in the financial services industry, particularly economic conditions within Michigan and the regional and local real estate markets in which our bank operates;
· the failure of assumptions underlying the establishment of, and provisions made to, our allowance for loan losses;
· the failure of assumptions underlying our estimate of probable incurred losses from vehicle service contract payment plan counterparty contingencies, including our assumptions regarding future cancellations of vehicle service contracts, the value to us of collateral that may be available to recover funds due from our counterparties, and our ability to enforce the contractual obligations of our counterparties to pay amounts owing to us;
· increased competition in the financial services industry, either nationally or regionally;
· our ability to achieve loan and deposit growth;
· volatility and direction of market interest rates;
· the continued services of our management team; and
· implementation of new legislation, which may have significant effects on us and the financial services industry.

This list provides examples of factors that could affect the results described by forward-looking statements contained in this report, but the list is not intended to be all inclusive.  The risk factors disclosed in Part I – Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2013, as updated by any new or modified risk factors disclosed in Part II – Item 1A of any subsequently filed Quarterly Report on Form 10-Q, include all known risks that our management believes could materially affect the results described by forward-looking statements in this report.  However, those risks may not be the only risks we face.  Our results of operations, cash flows, financial position, and prospects could also be materially and adversely affected by additional factors that are not presently known to us, that we currently consider to be immaterial, or that develop after the date of this report.  We cannot assure you that our future results will meet expectations. While we believe the forward-looking statements in this report are reasonable, you should not place undue reliance on any forward-looking statement. In addition, these statements speak only as of the date made. We do not undertake, and expressly disclaim, any obligation to update or alter any statements, whether as a result of new information, future events, or otherwise, except as required by applicable law.
2
Part I - Item 1.

INDEPENDENT BANK CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Financial Condition

 
  
June 30,
    
December 31,
  
 
  
2014
    
2013
  
 
  
(unaudited)
  
 
  
(In thousands, except share
  
 
  
amounts)
  
Assets
  
Cash and due from banks
  
$
58,599
    
$
48,156
  
Interest bearing deposits and repurchase agreement
    
46,938
      
70,925
  
Cash and Cash Equivalents
    
105,537
      
119,081
  
Interest bearing deposits - time
    
15,340
      
17,999
  
Trading securities
    
609
      
498
  
Securities available for sale
    
518,126
      
462,481
  
Federal Home Loan Bank and Federal Reserve Bank stock, at cost
    
23,414
      
23,419
  
Loans held for sale, carried at fair value
    
23,199
      
20,390
  
Loans
                
Commercial
    
654,248
      
635,234
  
Mortgage
    
472,202
      
486,633
  
Installment
    
201,206
      
192,065
  
Payment plan receivables
    
49,838
      
60,638
  
Total Loans
    
1,377,494
      
1,374,570
  
Allowance for loan losses
    
(28,197
)
    
(32,325
)
Net Loans
    
1,349,297
      
1,342,245
  
Other real estate and repossessed assets
    
18,121
      
18,282
  
Property and equipment, net
    
46,842
      
48,594
  
Bank-owned life insurance
    
52,913
      
52,253
  
Deferred tax assets, net
    
52,676
      
57,550
  
Capitalized mortgage loan servicing rights
    
12,796
      
13,710
  
Vehicle service contract counterparty receivables, net
    
7,104
      
7,716
  
Other intangibles
    
2,895
      
3,163
  
Accrued income and other assets
    
20,995
      
22,562
  
Total Assets
  
$
2,249,864
    
$
2,209,943
  
 
                
Liabilities and Shareholders' Equity
  
Deposits
                
Non-interest bearing
  
$
548,090
    
$
518,658
  
Savings and interest-bearing checking
    
937,031
      
910,352
  
Reciprocal
    
63,183
      
83,527
  
Retail time
    
346,534
      
358,800
  
Brokered time
    
13,233
      
13,469
  
Total Deposits
    
1,908,071
      
1,884,806
  
Other borrowings
    
26,614
      
17,188
  
Subordinated debentures
    
40,723
      
40,723
  
Vehicle service contract counterparty payables
    
3,088
      
4,089
  
Accrued expenses and other liabilities
    
28,407
      
31,556
  
Total Liabilities
    
2,006,903
      
1,978,362
  
 
                
Shareholders’ Equity
                
Preferred stock, no par value, 200,000 shares authorized;  none issued or outstanding
    
-
      
-
  
Common stock, no par value, 500,000,000 shares authorized; issued and outstanding: 22,931,769 shares at June 30, 2014 and 22,819,136 shares at December 31, 2013
    
351,791
      
351,173
  
Accumulated deficit
    
(102,532
)
    
(110,347
)
Accumulated other comprehensive loss
    
(6,298
)
    
(9,245
)
Total Shareholders’ Equity
    
242,961
      
231,581
  
Total Liabilities and Shareholders’ Equity
  
$
2,249,864
    
$
2,209,943
  
 
See notes to interim condensed consolidated financial statements (unaudited)
3
INDEPENDENT BANK CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Operations

 
  
Three months ended June 30,
    
Six months ended June 30,
  
 
  
2014
    
2013
    
2014
    
2013
  
 
  
(unaudited)
    
(unaudited)
  
Interest Income
  
(In thousands)
  
Interest and fees on loans
  
$
18,146
    
$
20,303
    
$
36,361
    
$
41,013
  
Interest on securities
                                
Taxable
    
1,596
      
993
      
2,979
      
1,663
  
Tax-exempt
    
287
      
242
      
549
      
480
  
Other investments
    
328
      
324
      
751
      
656
  
Total Interest Income
    
20,357
      
21,862
      
40,640
      
43,812
  
Interest Expense
                                
Deposits
    
1,260
      
1,463
      
2,553
      
2,992
  
Other borrowings
    
559
      
876
      
1,071
      
1,741
  
Total Interest Expense
    
1,819
      
2,339
      
3,624
      
4,733
  
Net Interest Income
    
18,538
      
19,523
      
37,016
      
39,079
  
Provision for loan losses
    
(1,845
)
    
(2,107
)
    
(1,417
)
    
(2,798
)
Net Interest Income After Provision for Loan Losses
    
20,383
      
21,630
      
38,433
      
41,877
  
Non-interest Income
                                
Service charges on deposit accounts
    
3,532
      
3,583
      
6,587
      
6,989
  
Interchange income
    
2,067
      
1,933
      
4,008
      
3,690
  
Net gains (losses) on assets
                                
Mortgage loans
    
1,505
      
3,208
      
2,649
      
6,845
  
Securities
    
54
      
107
      
166
      
191
  
Other than temporary impairment loss on securities
                                
Total impairment loss
    
-
      
(26
)
    
-
      
(26
)
Loss recognized in other comprehensive loss
    
-
      
-
      
-
      
-
  
Net impairment loss recognized in earnings
    
-
      
(26
)
    
-
      
(26
)
Mortgage loan servicing
    
193
      
1,654
      
457
      
2,276
  
Title insurance fees
    
217
      
368
      
491
      
852
  
Decrease (increase) in fair value of U.S. Treasury warrant
    
-
      
20
      
-
      
(1,025
)
Other
    
2,508
      
2,164
      
4,673
      
4,287
  
Total Non-interest Income
    
10,076
      
13,011
      
19,031
      
24,079
  
Non-Interest Expense
                                
Compensation and employee benefits
    
11,818
      
11,715
      
23,056
      
23,022
  
Occupancy, net
    
2,153
      
2,147
      
4,636
      
4,571
  
Data processing
    
1,777
      
2,042
      
3,863
      
3,958
  
Loan and collection
    
1,427
      
1,702
      
2,892
      
3,928
  
Furniture, fixtures and equipment
    
1,053
      
1,088
      
2,122
      
2,120
  
Communications
    
711
      
730
      
1,500
      
1,510
  
Advertising
    
601
      
659
      
1,120
      
1,229
  
FDIC deposit insurance
    
422
      
711
      
839
      
1,341
  
Legal and professional
    
420
      
664
      
821
      
1,356
  
Interchange expense
    
342
      
418
      
744
      
828
  
Credit card and bank service fees
    
245
      
331
      
508
      
665
  
Vehicle service contract counterparty contingencies
    
73
      
3,127
      
141
      
3,254
  
Costs related to unfunded lending commitments
    
5
      
48
      
15
      
29
  
Provision for loss reimbursement on sold loans
    
15
      
356
      
(466
)
    
1,019
  
Net (gains) losses on other real estate and repossessed assets
    
(38
)
    
320
      
(125
)
    
972
  
Other
    
1,536
      
1,684
      
3,294
      
3,413
  
Total Non-interest Expense
    
22,560
      
27,742
      
44,960
      
53,215
  
Income Before Income Tax
    
7,899
      
6,899
      
12,504
      
12,741
  
Income tax expense (benefit)
    
1,847
      
(56,489
)
    
3,314
      
(56,454
)
Net Income
  
$
6,052
    
$
63,388
    
$
9,190
    
$
69,195
  
Preferred stock dividends and discount accretion
    
-
      
(1,157
)
    
-
      
(2,252
)
Net Income Applicable to Common Stock
  
$
6,052
    
$
62,231
    
$
9,190
    
$
66,943
  
Net Income Per Common Share
                                
Basic
  
$
0.26
    
$
6.56
    
$
0.40
    
$
7.14
  
Diluted
  
$
0.26
    
$
2.64
    
$
0.39
    
$
2.90
  
Dividends Per Common Share
                                
Declared
  
$
0.06
    
$
-
    
$
0.06
    
$
-
  
Paid
  
$
0.06
    
$
-
    
$
0.06
    
$
-
  

See notes to interim condensed consolidated financial statements (unaudited)
4
INDEPENDENT BANK CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Comprehensive Income

 
  
Three months ended
    
Six months ended
  
 
  
June 30,
    
June 30,
  
 
  
2014
    
2013
    
2014
    
2013
  
 
  
(unaudited)
    
(unaudited)
  
 
  
(In thousands)
    
(In thousands)
  
 
  
   
   
   
 
Net income
  
$
6,052
    
$
63,388
    
$
9,190
    
$
69,195
  
Other comprehensive income, before tax
                                
Available for sale securities
                                
Unrealized gain (loss) arising during period
    
1,759
      
(2,463
)
    
4,009
      
(1,489
)
Change in unrealized losses for which a portion of other than temporary impairment has been recognized in earnings
    
219
      
258
      
338
      
291
  
Reclassification adjustment for other than temporary impairment included in earnings
    
-
      
26
      
-
      
26
  
Reclassification adjustments for gains included in earnings
    
(2
)
    
(15
)
    
(2
)
    
(8
)
Unrealized gains (losses) recognized in other comprehensive income on available for sale securities
    
1,976
      
(2,194
)
    
4,345
      
(1,180
)
Income tax expense (benefit)
    
691
      
(413
)
    
1,521
      
(413
)
Unrealized gains (losses) recognized in other comprehensive income on available for sale securities, net of tax
    
1,285
      
(1,781
)
    
2,824
      
(767
)
Derivative instruments
                                
Unrealized loss arising during period
    
-
      
(35
)
    
-
      
(38
)
Reclassification adjustment for expense recognized in earnings
    
-
      
114
      
-
      
208
  
Reclassification adjustment for accretion on settled derivatives
    
95
      
-
      
190
      
-
  
Unrealized gains recognized in other comprehensive income on derivative instruments
    
95
      
79
      
190
      
170
  
Income tax expense (benefit)
    
34
      
(1,385
)
    
67
      
(1,385
)
Unrealized gains recognized in other comprehensive income on derivative instruments, net of tax
    
61
      
1,464
      
123
      
1,555
  
Other comprehensive income (loss)
    
1,346
      
(317
)
    
2,947
      
788
  
Comprehensive income
  
$
7,398
    
$
63,071
    
$
12,137
    
$
69,983
  

See notes to interim condensed consolidated financial statements (unaudited)
5
INDEPENDENT BANK CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows

 
  
Six months ended June 30,
  
 
  
2014
    
2013
  
 
  
(unaudited - In thousands)
  
Net Income
  
$
9,190
    
$
69,195
  
Adjustments to Reconcile Net Income to Net Cash from Operating Activities
                
Proceeds from sales of loans held for sale
    
96,384
      
249,123
  
Disbursements for loans held for sale
    
(96,544
)
    
(230,320
)
Provision for loan losses
    
(1,417
)
    
(2,798
)
Deferred federal income tax expense (benefit)
    
4,874
      
(58,066
)
Deferred loan fees
    
(526
)
    
(86
)
Depreciation, amortization of intangible assets and premiums and accretion of discounts on securities and loans
    
1,019
      
(1,735
)
Net gains on mortgage loans
    
(2,649
)
    
(6,845
)
Net gains on securities
    
(166
)
    
(191
)
Securities impairment recognized in earnings
    
-
      
26
  
Net (gains) losses on other real estate and repossessed assets
    
(125
)
    
972
  
Vehicle service contract counterparty contingencies
    
141
      
3,254
  
Share based compensation
    
581
      
427
  
Decrease in accrued income and other assets
    
511
      
12,210
  
Increase (decrease) in accrued expenses and other liabilities
    
(3,115
)
    
1,228
  
Total Adjustments
    
(1,032
)
    
(32,801
)
Net Cash From Operating Activities
    
8,158
      
36,394
  
Cash Flow used in Investing Activities
                
Proceeds from the sale of securities available for sale
    
5,126
      
2,940
  
Proceeds from the maturity of securities available for sale
    
39,579
      
23,750
  
Principal payments received on securities available for sale
    
38,891
      
14,697
  
Purchases of securities available for sale
    
(136,127
)
    
(185,450
)
Purchases of interest bearing deposits
    
-
      
(8,488
)
Proceeds from the maturity of interest bearing deposits
    
2,593
      
-
  
Purchase of Federal Reserve Bank Stock
    
-
      
(658
)
Redemption of Federal Reserve Bank Stock
    
5
      
-
  
Net (increase) decrease in portfolio loans (loans originated, net of principal payments)
    
(3,712
)
    
24,938
  
Net proceeds from the sale of watch, substandard and non-performing loans
    
-
      
6,721
  
Net cash from branch sale
    
-
      
3,292
  
Proceeds from the collection of vehicle service contract counterparty receivables
    
327
      
560
  
Proceeds from the sale of other real estate and repossessed assets
    
2,870
      
9,821
  
Proceeds from the sale of property and equipment
    
-
      
3
  
Capital expenditures
    
(1,606
)
    
(3,881
)
Net Cash used in Investing Activities
    
(52,054
)
    
(111,755
)
Cash Flow from Financing Activities
                
Net increase in total deposits
    
23,265
      
36,552
  
Net increase in other borrowings
    
13,799
      
-
  
Proceeds from Federal Home Loan Bank advances
    
-
      
100
  
Payments of Federal Home Loan Bank advances
    
(4,373
)
    
(222
)
Net decrease in vehicle service contract counterparty payables
    
(1,001
)
    
(1,433
)
Dividends paid
    
(1,375
)
    
-
  
Proceeds from issuance of common stock
    
37
      
957
  
Net Cash from Financing Activities
    
30,352
      
35,954
  
Net decrease in Cash and Cash Equivalents
    
(13,544
)
    
(39,407
)
Cash and Cash Equivalents at Beginning of Period
    
119,081
      
179,782
  
Cash and Cash Equivalents at End of Period
  
$
105,537
    
$
140,375
  
Cash paid during the period for
                
Interest
  
$
3,659
    
$
3,617
  
Income taxes
    
5
      
76
  
Transfers to other real estate and repossessed assets
    
2,584
      
2,450
  
Transfer of payment plan receivables to vehicle service contract counterparty receivables
    
297
      
418
  
Purchase of securities available for sale not yet settled
    
-
      
3,211
  

See notes to interim condensed consolidated financial statements (unaudited)
6
INDEPENDENT BANK CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Shareholders' Equity

 
  
Six months ended
  
 
  
June 30,
  
 
  
2014
    
2013
  
 
  
(unaudited)
  
 
  
(In thousands)
  
 
  
   
 
Balance at beginning of period
  
$
231,581
    
$
134,975
  
Net income
    
9,190
      
69,195
  
Cash dividends declared
    
(1,375
)
    
-
  
Issuance of common stock
    
37
      
1,966
  
Share based compensation
    
581
      
427
  
Common stock warrant
    
-
      
1,484
  
Net change in accumulated other comprehensive loss, net of related tax effect
    
2,947
      
788
  
Balance at end of period
  
$
242,961
    
$
208,835
  

See notes to interim condensed consolidated financial statements (unaudited)
7
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

1. Preparation of Financial Statements

The condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and note disclosures normally included in annual financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) have been condensed or omitted pursuant to those rules and regulations, although we believe that the disclosures made are adequate to make the information not misleading.  The unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes for the year ended December 31, 2013 included in our Annual Report on Form 10-K.

In our opinion, the accompanying unaudited condensed consolidated financial statements contain all the adjustments necessary to present fairly our consolidated financial condition as of June 30, 2014 and December 31, 2013, and the results of operations for the three and six-month periods ended June 30, 2014 and 2013.  The results of operations for the three and six-month periods ended June 30, 2014, are not necessarily indicative of the results to be expected for the full year.  Certain reclassifications have been made in the prior period financial statements to conform to the current period presentation.  Our critical accounting policies include the assessment for other than temporary impairment (“OTTI”) on investment securities,  the determination of the allowance for loan losses, the determination of vehicle service contract counterparty contingencies, the valuation of originated mortgage loan servicing rights and the valuation of deferred tax assets.  Refer to our 2013 Annual Report on Form 10-K for a disclosure of our accounting policies.

2.
New Accounting Standards

In July, 2013, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2013-11, “Income Taxes (Topic 740), Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists”.  This ASU amends existing guidance so that an unrecognized tax benefit, or a portion thereof, be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, except to the extent that a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available at the reporting date to settle any additional income taxes that would result from disallowance of a tax position, or the tax law does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, then the unrecognized tax benefit should be presented as a liability.  This amended guidance became effective for us on January 1, 2014 and did not have a material impact on our consolidated operating results or financial condition.

In May, 2014 the FASB issued ASU 2014-09, “Revenue from Contracts with Customers (Topic 606)”. This ASU supersedes and replaces nearly all existing revenue recognition guidance, including industry-specific guidance, establishes a new control-based revenue recognition model, changes the basis for deciding when revenue is recognized over time or at a point in time, provides new and more detailed guidance on specific topics and expands and improves disclosures about revenue. In addition, this ASU specifies the accounting for some costs to obtain or fulfill a contract with a customer.  This amended guidance is effective for us on January 1, 2017 and is not expected to have a material impact on our consolidated operating results or financial condition.
8
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

3.
Securities

Securities available for sale consist of the following:

 
  
Amortized
    
Unrealized
    
 
 
  
Cost
    
Gains
    
Losses
    
Fair Value
  
 
  
(In thousands)
  
June 30, 2014
  
   
   
   
 
U.S. agency
  
$
31,495
    
$
170
    
$
85
    
$
31,580
  
U.S. agency residential mortgage-backed
    
248,930
      
1,402
      
465
      
249,867
  
U.S. agency commercial mortgage-backed
    
17,731
      
71
      
44
      
17,758
  
Private label residential mortgage-backed
    
6,802
      
173
      
345
      
6,630
  
Other asset backed
    
37,530
      
58
      
58
      
37,530
  
Obligations of states and political subdivisions
    
153,488
      
945
      
2,088
      
152,345
  
Corporate
    
19,824
      
116
      
19
      
19,921
  
Trust preferred
    
2,906
      
-
      
411
      
2,495
  
Total
  
$
518,706
    
$
2,935
    
$
3,515
    
$
518,126
  
 
                                
December 31, 2013
                                
U.S. agency
  
$
32,106
    
$
44
    
$
342
    
$
31,808
  
U.S. agency residential mortgage-backed
    
202,649
      
1,343
      
532
      
203,460
  
Private label residential mortgage-backed
    
7,294
      
112
      
618
      
6,788
  
Other asset backed
    
45,369
      
10
      
194
      
45,185
  
Obligations of states and political subdivisions
    
157,966
      
496
      
4,784
      
153,678
  
Corporate
    
19,120
      
43
      
26
      
19,137
  
Trust preferred
    
2,902
      
-
      
477
      
2,425
  
Total
  
$
467,406
    
$
2,048
    
$
6,973
    
$
462,481
  

9
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

Our investments’ gross unrealized losses and fair values aggregated by investment type and length of time that individual securities have been at a continuous unrealized loss position follows:

 
  
Less Than Twelve Months
    
Twelve Months or More
    
Total
  
 
  
   
Unrealized
    
   
Unrealized
    
   
Unrealized
  
 
  
Fair Value
    
Losses
    
Fair Value
    
Losses
    
Fair Value
    
Losses
  
 
  
(In thousands)
  
 
  
   
   
   
   
   
 
June 30, 2014
  
   
   
   
   
   
 
U.S. agency
  
$
6,079
    
$
10
    
$
8,044
    
$
75
    
$
14,123
    
$
85
  
U.S. agency residential mortgage-backed
    
91,491
      
318
      
20,514
      
147
      
112,005
      
465
  
U.S. agency commercial mortgage-backed
    
10,624
      
44
      
-
      
-
      
10,624
      
44
  
Private label residential mortgage-backed
    
-
      
-
      
4,491
      
345
      
4,491
      
345
  
Other asset backed
    
18,345
      
58
      
-
      
-
      
18,345
      
58
  
Obligations of states and political subdivisions
    
51,974
      
1,070
      
26,541
      
1,018
      
78,515
      
2,088
  
Corporate
    
2,740
      
19
      
-
      
-
      
2,740
      
19
  
Trust preferred
    
-
      
-
      
2,495
      
411
      
2,495
      
411
  
Total
  
$
181,253
    
$
1,519
    
$
62,085
    
$
1,996
    
$
243,338
    
$
3,515
  
 
                                                
December 31, 2013
                                                
U.S. agency
  
$
16,715
    
$
342
    
$
-
    
$
-
    
$
16,715
    
$
342
  
U.S. agency residential mortgage-backed
    
78,256
      
532
      
-
      
-
      
78,256
      
532
  
Private label residential mortgage-backed
    
407
      
6
      
4,602
      
612
      
5,009
      
618
  
Other asset backed
    
33,862
      
194
      
-
      
-
      
33,862
      
194
  
Obligations of states and political subdivisions
    
103,942
      
4,645
      
4,805
      
139
      
108,747
      
4,784
  
Corporate
    
7,105
      
26
      
-
      
-
      
7,105
      
26
  
Trust preferred
    
-
      
-
      
2,425
      
477
      
2,425
      
477
  
Total
  
$
240,287
    
$
5,745
    
$
11,832
    
$
1,228
    
$
252,119
    
$
6,973
  

Our portfolio of available-for-sale securities is reviewed quarterly for impairment in value. In performing this review management considers (1) the length of time and extent that fair value has been less than cost, (2) the financial condition and near term prospects of the issuer, (3) the impact of changes in market interest rates on the market value of the security and (4) an assessment of whether we intend to sell, or it is more likely than not that we will be required to sell a security in an unrealized loss position before recovery of its amortized cost basis. For securities that do not meet the aforementioned recovery criteria, the amount of impairment recognized in earnings is limited to the amount related to credit losses, while impairment related to other factors is recognized in other comprehensive income or loss.
10
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

U.S. agency, U.S. agency residential mortgage-backed securities and U.S. agency commercial mortgage backed securities — at June 30, 2014 we had eight U.S. agency, 56 U.S. agency residential mortgage-backed securities and 11 U.S. agency commercial mortgage-backed whose fair market value is less than amortized cost. The unrealized losses are largely attributed to rises in term interest rates and widening spreads to Treasury bonds. As management does not intend to liquidate these securities and it is more likely than not that we will not be required to sell these securities prior to recovery of these unrealized losses, no declines are deemed to be other than temporary.

Private label residential mortgage backed securities — at June 30, 2014 we had five of this type of security, four of which had a fair value less than amortized cost. Two of the four issues are rated by a major rating agency as investment grade while the other two are below investment grade. Two of these bonds have impairment in excess of 10% and all four of these holdings have been impaired for more than 12 months.

The unrealized losses are largely attributable to credit spread widening on these securities since their acquisition.  The underlying loans within these securities include Jumbo (68%) and Alt A (32%) at June 30, 2014.

 
  
June 30, 2014
    
December 31, 2013
  
 
  
   
Net
    
   
Net
  
 
  
Fair
    
Unrealized
    
Fair
    
Unrealized
  
 
  
Value
    
Gain (Loss)
    
Value
    
Loss
  
 
  
(In thousands)
  
 
  
 
    
   
   
 
Private label residential mortgage-backed
  
   
   
   
 
Jumbo
  
$
4,520
    
$
(211
)
  
$
4,687
    
$
(441
)
Alt-A
    
2,110
      
39
      
2,101
      
(65
)

All of these securities are receiving principal and interest payments. Most of these transactions are pass-through structures, receiving pro rata principal and interest payments from a dedicated collateral pool for loans that are performing. The nonreceipt of interest cash flows is not expected and thus not presently considered in our discounted cash flow methodology discussed below.

All private label residential mortgage-backed securities are reviewed for OTTI utilizing a cash flow projection. The cash flow analysis forecasts cash flow from the underlying loans in each transaction and then applies these cash flows to the bonds in the securitization. The cash flows from the underlying loans consider contractual payment terms (scheduled amortization), prepayments, defaults and severity of loss given default. The analysis uses dynamic assumptions for prepayments, defaults and loss severity. Near term prepayment assumptions are based on recently observed prepayment rates. More weight is given to longer term historic performance (12 months). In some cases, recently observed prepayment rates are lower than historic norms due to a minimal amount of new jumbo loan issuances. This loan market is heavily dependent upon securitization for funding, and new securitization transactions have been minimal. Our model projections anticipate that prepayment rates gradually revert to historical levels. For seasoned ARM transactions, normalized prepayment rates range from 10% to 25% CPR. For fixed rate collateral (one transaction), the prepayment speeds are projected to remain stable.
11
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

Default assumptions are largely based on the volume of existing real estate owned, pending foreclosures and severe delinquencies. Other considerations include the quality of loan underwriting, recent default experience, realized loss performance and the volume of less severe delinquencies. Default levels generally are projected to remain elevated or increase for a period of time sufficient to address the level of distressed loans in the transaction. Our projections expect defaults to then decline, generally beginning in year three. Current loss severity assumptions are based on recent observations when meaningful data is available. Loss severity is expected to remain elevated for the next 12 months. Severity is expected to decline after this period due to improving overall economic conditions, improving real estate prices and a reduced inventory of foreclosed properties on the market. Except for three securities discussed in further detail below (all three are currently below investment grade), our cash flow analysis forecasts complete recovery of our cost basis for each reviewed security.

At June 30, 2014 three below investment grade private label residential mortgage-backed securities had credit related OTTI and are summarized as follows:

 
  
   
Super
    
Senior
    
 
 
  
Senior
    
Senior
    
Support
    
 
 
  
Security
    
Security
    
Security
    
Total
  
 
  
(In thousands)
  
 
  
   
   
   
 
As of June 30, 2014
  
   
   
   
 
Fair value
  
$
2,459
    
$
1,722
    
$
42
    
$
4,223
  
Amortized cost
    
2,548
      
1,592
      
-
      
4,140
  
Non-credit unrealized loss
    
89
      
-
      
-
      
89
  
Unrealized gain
    
-
      
130
      
42
      
172
  
Cumulative credit related OTTI
    
748
      
457
      
380
      
1,585
  
 
                                
Credit related OTTI recognized in our Condensed Consolidated Statements of Operations
                                
For the three months ended June 30,
                                
2014
  
$
-
    
$
-
    
$
-
    
$
-
  
2013
    
26
      
-
      
-
      
26
  
For the six months ended June 30,
                                
2014
    
-
      
-
      
-
      
-
  
2013
    
26
      
-
      
-
      
26
  

Each of these securities is receiving principal and interest payments similar to principal reductions in the underlying collateral.  Two of these securities have unrealized gains and one has an unrealized loss at June 30, 2014.  Prior to the second quarter of 2013 all three of these securities had an unrealized loss.  The original amortized cost for each of these securities has been permanently adjusted downward for previously recorded credit related OTTI.  The unrealized loss (based on original amortized cost) for two of these securities is now less than previously recorded credit related OTTI amounts.  The remaining non-credit related unrealized loss in the senior security is attributed to other factors and is reflected in other comprehensive income during those same periods.

As management does not intend to liquidate these securities and it is more likely than not that we will not be required to sell these securities prior to recovery of these unrealized losses, no other declines discussed above are deemed to be other than temporary.
12
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

Other asset backed — at June 30, 2014 we had 15 other asset backed securities whose fair value is less than amortized cost. The unrealized losses are primarily due to widening discount margins.  As management does not intend to liquidate these securities and it is more likely than not that we will not be required to sell these securities prior to recovery of these unrealized losses, no declines are deemed to be other than temporary.

Obligations of states and political subdivisions — at June 30, 2014 we had 97 municipal securities whose fair value is less than amortized cost.  The unrealized losses are primarily due to increases in interest rates since the securities acquisition.  As management does not intend to liquidate these securities and it is more likely than not that we will not be required to sell these securities prior to recovery of these unrealized losses, no declines are deemed to be other than temporary.

Corporate — at June 30, 2014 we had three corporate securities whose fair value is less than amortized cost. The unrealized losses are primarily due to credit spread widening.  As management does not intend to liquidate these securities and it is more likely than not that we will not be required to sell these securities prior to recovery of these unrealized losses, no declines are deemed to be other than temporary.

Trust preferred securities — at June 30, 2014 we had three trust preferred securities whose fair value is less than amortized cost. All of our trust preferred securities are single issue securities issued by a trust subsidiary of a bank holding company. The pricing of trust preferred securities over the past several years has suffered from credit spread widening fueled by uncertainty regarding potential losses of financial companies and repricing of risk related to these hybrid capital securities.

One of the three securities is rated by two major rating agencies as investment grade, while one (a Bank of America issuance) is rated below investment grade by two major rating agencies and the other one is non-rated. The non-rated issue is a relatively small bank and was never rated. The issuer of this non-rated trust preferred security, which had a total amortized cost of $1.0 million and total fair value of $0.8 million as of June 30, 2014, continues to have satisfactory credit metrics and make interest payments.

The following table breaks out our trust preferred securities in further detail as of June 30, 2014 and December 31, 2013:

 
  
June 30, 2014
    
December 31, 2013
  
 
  
   
Net
    
   
Net
  
 
  
Fair
    
Unrealized
    
Fair
    
Unrealized
  
 
  
Value
    
Loss
    
Value
    
Loss
  
 
  
(In thousands)
  
 
  
   
   
   
 
Trust preferred securities
  
   
   
   
 
Rated issues
  
$
1,693
    
$
(213
)
  
$
1,600
    
$
(302
)
Unrated issues
    
802
      
(198
)
    
825
      
(175
)
 
As management does not intend to liquidate these securities and it is more likely than not that we will not be required to sell these securities prior to recovery of these unrealized losses, no declines are deemed to be other than temporary.

We recorded no credit related OTTI charges in earnings on securities available for sale during the three and six month periods ended June 30, 2014.  We recorded $0.026 million of credit related OTTI charges during both the three and six month periods ended June 30, 2013 (see discussion above).
13
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

A roll forward of credit losses recognized in earnings on securities available for sale for the three and six month periods ending June 30, follows:

 
  
Three months ended
    
Six months ended
  
 
  
June 30,
    
June 30,
  
 
  
2014
    
2013
    
2014
    
2013
  
 
  
(In thousands)
  
Balance at beginning of period
  
$
1,835
    
$
1,809
    
$
1,835
    
$
1,809
  
Additions to credit losses on securities for which no previous OTTI was recognized
    
-
      
-
      
-
      
-
  
Increases to credit losses on securities for which OTTI was previously recognized
    
-
      
26
      
-
      
26
  
Balance at end of period
  
$
1,835
    
$
1,835
    
$
1,835
    
$
1,835
  

The amortized cost and fair value of securities available for sale at June 30, 2014, by contractual maturity, follow:

 
  
Amortized
    
Fair
  
 
  
Cost
    
Value
  
 
  
(In thousands)
  
Maturing within one year
  
$
18,937
    
$
18,994
  
Maturing after one year but within five years
    
72,390
      
72,741
  
Maturing after five years but within ten years
    
43,186
      
43,415
  
Maturing after ten years
    
73,200
      
71,191
  
 
    
207,713
      
206,341
  
U.S. agency residential mortgage-backed
    
248,930
      
249,867
  
U.S. agency commercial mortgage-backed
    
17,731
      
17,758
  
Private label residential mortgage-backed
    
6,802
      
6,630
  
Other asset backed
    
37,530
      
37,530
  
Total
  
$
518,706
    
$
518,126
  

The actual maturity may differ from the contractual maturity because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.

Gains and losses realized on the sale of securities available for sale are determined using the specific identification method and are recognized on a trade-date basis.  A summary of proceeds from the sale of securities available for sale and gains and losses for the six month periods ending June 30, follows:

 
  
   
Realized
  
 
  
Proceeds
    
Gains (1)
    
Losses (2)
  
 
  
(In thousands)
  
2014
  
$
5,126
    
$
2
    
$
-
  
2013
    
2,940
      
15
      
7
  

(1) Gains in 2014 exclude $0.053 million of unrealized gain related to a U.S. Treasury short position.
(2) Losses in 2013 exclude $0.026 million of credit related OTTI recognized in earnings.
 
During 2014 and 2013 our trading securities consisted of various preferred stocks.  During the first six months of 2014 and 2013 we recognized gains on trading securities of $0.111 million and $0.183 million, respectively that are included in net gains (losses) on securities in the Condensed Consolidated Statements of Operations.  Both of these amounts relate to gains recognized on trading securities still held at each respective period end.
14
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

4.
Loans

Our assessment of the allowance for loan losses is based on an evaluation of the loan portfolio, recent loss experience, current economic conditions and other pertinent factors.

An analysis of the allowance for loan losses by portfolio segment for the three months ended June 30, follows:

 
  
   
   
   
Payment
    
   
 
 
  
   
   
   
Plan
    
   
 
 
  
Commercial
    
Mortgage
    
Installment
    
Receivables
    
Unallocated
    
Total
  
 
  
(In thousands)
  
2014
  
   
   
   
   
   
 
Balance at beginning of period
  
$
5,763
    
$
17,000
    
$
2,061
    
$
87
    
$
5,526
    
$
30,437
  
Additions (deductions)
                                                
Provision for loan losses
    
(1,070
)
    
(579
)
    
(76
)
    
(6
)
    
(114
)
    
(1,845
)
Recoveries credited to allowance
    
2,138
      
400
      
352
      
1
      
-
      
2,891
  
Loans charged against the allowance
    
(1,656
)
    
(1,279
)
    
(349
)
    
(2
)
    
-
      
(3,286
)
Balance at end of period
  
$
5,175
    
$
15,542
    
$
1,988
    
$
80
    
$
5,412
    
$
28,197
  
 
                                                
2013
                                                
Balance at beginning of period
  
$
10,058
    
$
20,163
    
$
3,162
    
$
129
    
$
7,253
    
$
40,765
  
Additions (deductions)
                                                
Provision for loan losses
    
(1,404
)
    
(349
)
    
141
      
(12
)
    
(483
)
    
(2,107
)
Recoveries credited to allowance
    
3,181
      
450
      
306
      
21
      
-
      
3,958
  
Loans charged against the allowance
    
(3,599
)
    
(1,605
)
    
(613
)
    
(13
)
    
-
      
(5,830
)
Balance at end of period
  
$
8,236
    
$
18,659
    
$
2,996
    
$
125
    
$
6,770
    
$
36,786
  

15
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

An analysis of the allowance for loan losses by portfolio segment for the six months ended June 30, follows:

 
  
   
   
   
Payment
    
   
 
 
  
   
   
   
Plan
    
   
 
 
  
Commercial
    
Mortgage
    
Installment
    
Receivables
    
Unallocated
    
Total
  
 
  
(In thousands)
  
2014
  
   
   
   
   
   
 
Balance at beginning of period
  
$
6,827
    
$
17,195
    
$
2,246
    
$
97
    
$
5,960
    
$
32,325
  
Additions (deductions)
                                                
Provision for loan losses
    
(563
)
    
(386
)
    
100
      
(20
)
    
(548
)
    
(1,417
)
Recoveries credited to allowance
    
2,493
      
858
      
603
      
5
      
-
      
3,959
  
Loans charged against the allowance
    
(3,582
)
    
(2,125
)
    
(961
)
    
(2
)
    
-
      
(6,670
)
Balance at end of period
  
$
5,175
    
$
15,542
    
$
1,988
    
$
80
    
$
5,412
    
$
28,197
  
 
                                                
2013
                                                
Balance at beginning of period
  
$
11,402
    
$
21,447
    
$
3,378
    
$
144
    
$
7,904
    
$
44,275
  
Additions (deductions)
                                                
Provision for loan losses
    
(1,676
)
    
(488
)
    
516
      
(16
)
    
(1,134
)
    
(2,798
)
Recoveries credited to allowance
    
3,717
      
1,072
      
592
      
28
      
-
      
5,409
  
Loans charged against the allowance
    
(5,207
)
    
(3,372
)
    
(1,490
)
    
(31
)
    
-
      
(10,100
)
Balance at end of period
  
$
8,236
    
$
18,659
    
$
2,996
    
$
125
    
$
6,770
    
$
36,786
  

16
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

Allowance for loan losses and recorded investment in loans by portfolio segment follows:

 
  
   
   
   
Payment
    
   
 
 
  
   
   
   
Plan
    
   
 
 
  
Commercial
    
Mortgage
    
Installment
    
Receivables
    
Unallocated
    
Total
  
 
  
(In thousands)
  
June 30, 2014
  
   
   
   
   
   
 
Allowance for loan losses:
  
   
   
   
   
   
 
Individually evaluated for impairment
  
$
2,482
    
$
10,029
    
$
718
    
$
-
    
$
-
    
$
13,229
  
Collectively evaluated for impairment
    
2,693
      
5,513
      
1,270
      
80
      
5,412
      
14,968
  
Total ending allowance balance
  
$
5,175
    
$
15,542
    
$
1,988
    
$
80
    
$
5,412
    
$
28,197
  
 
                                                
Loans
                                                
Individually evaluated for impairment
  
$
36,764
    
$
75,899
    
$
6,960
    
$
-
            
$
119,623
  
Collectively evaluated for impairment
    
618,953
      
398,512
      
194,902
      
49,838
              
1,262,205
  
Total loans recorded investment
    
655,717
      
474,411
      
201,862
      
49,838
              
1,381,828
  
Accrued interest included in recorded investment
    
1,469
      
2,209
      
656
      
-
              
4,334
  
Total loans
  
$
654,248
    
$
472,202
    
$
201,206
    
$
49,838
            
$
1,377,494
  
 
                                                
December 31, 2013
                                                
Allowance for loan losses:
                                                
Individually evaluated for impairment
  
$
3,878
    
$
10,488
    
$
792
    
$
-
    
$
-
    
$
15,158
  
Collectively evaluated for impairment
    
2,949
      
6,707
      
1,454
      
97
      
5,960
      
17,167
  
Total ending allowance balance
  
$
6,827
    
$
17,195
    
$
2,246
    
$
97
    
$
5,960
    
$
32,325
  
 
                                                
Loans
                                                
Individually evaluated for impairment
  
$
40,623
    
$
78,022
    
$
7,068
    
$
-
            
$
125,713
  
Collectively evaluated for impairment
    
596,235
      
410,887
      
185,676
      
60,638
              
1,253,436
  
Total loans recorded investment
    
636,858
      
488,909
      
192,744
      
60,638
              
1,379,149
  
Accrued interest included in recorded investment
    
1,624
      
2,276
      
679
      
-
              
4,579
  
Total loans
  
$
635,234
    
$
486,633
    
$
192,065
    
$
60,638
            
$
1,374,570
  

17
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

Loans on non-accrual status and past due more than 90 days (“Non-performing Loans”) follow:

 
  
90+ and
    
   
Total Non-
  
 
  
Still
    
Non-
    
Performing
  
 
  
Accruing
    
Accrual
    
Loans
  
 
  
(In thousands)
  
June 30, 2014
  
   
   
 
Commercial
  
   
   
 
Income producing - real estate
  
$
-
    
$
1,454
    
$
1,454
  
Land, land development and construction - real estate
    
-
      
687
      
687
  
Commercial and industrial
    
126
      
2,842
      
2,968
  
Mortgage
    
 
                  
1-4 family
    
-
      
6,373
      
6,373
  
Resort lending
    
-
      
2,838
      
2,838
  
Home equity - 1st lien
    
-
      
392
      
392
  
Home equity - 2nd lien
    
-
      
917
      
917
  
Installment
                        
Home equity - 1st lien
    
-
      
730
      
730
  
Home equity - 2nd lien
    
-
      
586
      
586
  
Loans not secured by real estate
    
-
      
387
      
387
  
Other
    
-
      
2
      
2
  
Payment plan receivables
                        
Full refund
    
-
      
8
      
8
  
Partial refund
    
-
      
-
      
-
  
Other
    
-
      
3
      
3
  
Total recorded investment
  
$
126
    
$
17,219
    
$
17,345
  
Accrued interest included in recorded investment
  
$
2
    
$
-
    
$
2
  
December 31, 2013
                        
Commercial
                        
Income producing - real estate
  
$
-
    
$
1,899
    
$
1,899
  
Land, land development and construction - real estate
    
-
      
1,036
      
1,036
  
Commercial and industrial
    
-
      
2,434
      
2,434
  
Mortgage
                        
1-4 family
    
-
      
6,594
      
6,594
  
Resort lending
    
-
      
2,668
      
2,668
  
Home equity - 1st lien
    
-
      
415
      
415
  
Home equity - 2nd lien
    
-
      
689
      
689
  
Installment
                        
Home equity - 1st lien
    
-
      
938
      
938
  
Home equity - 2nd lien
    
-
      
571
      
571
  
Loans not secured by real estate
    
-
      
638
      
638
  
Other
    
-
      
-
      
-
  
Payment plan receivables
                        
Full refund
    
-
      
20
      
20
  
Partial refund
    
-
      
3
      
3
  
Other
    
-
      
-
      
-
  
Total recorded investment
  
$
-
    
$
17,905
    
$
17,905
  
Accrued interest included in recorded investment
  
$
-
    
$
-
    
$
-
  

18
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)

An aging analysis of loans by class follows:

 
  
Loans Past Due
    
Loans not
    
Total
  
 
  
30-59 days
    
60-89 days
    
90+ days
    
Total
    
Past Due
    
Loans
  
 
  
(In thousands)
  
June 30, 2014
  
   
   
   
   
   
 
Commercial
  
   
   
   
   
   
 
Income producing - real estate
  
$
77
    
$
-
    
$
1,051
    
$
1,128
    
$
241,402
    
$
242,530
  
Land, land development and construction - real estate
    
41
      
-
      
241
      
282
      
33,758
      
34,040
  
Commercial and industrial
    
617
      
413
      
2,354
      
3,384
      
375,763
      
379,147
  
Mortgage
                                                
1-4 family
    
3,314
      
1,023
      
6,373
      
10,710
      
265,569
      
276,279
  
Resort lending
    
607
      
677
      
2,838
      
4,122
      
133,432
      
137,554
  
Home equity - 1st lien
    
173
      
-
      
392
      
565
      
18,798
      
19,363
  
Home equity - 2nd lien
    
396
      
61
      
917