EX-13 3 exhibit13.htm EXHIBIT 13 Exhibit 13
Selected Financial Data                                     Exhibit 13
Table One
Five-Year Financial Summary
(in thousands, except per share data)
 
2013
2012
2011
2010
2009
Summary of Operations
 
 
 
 
 
Total interest income
$
138,539

$
112,212

$
112,888

$
121,916

$
132,036

Total interest expense
13,301

14,450

20,758

27,628

36,603

Net interest income
125,238

97,762

92,130

94,288

95,433

Provision for loan losses
6,848

6,375

4,600

7,093

6,994

Total other income
58,006

55,257

54,860

48,939

51,983

Total other expenses
102,906

87,401

81,141

78,721

77,244

Income before income taxes
73,490

59,243

61,249

57,413

63,178

Income tax expense
25,275

20,298

20,571

18,453

20,533

Net income available to common  shareholders
48,215

38,945

40,678

38,960

42,645

 
 
 
 
 
 
Per Share Data
 
 
 
 
 
Net income basic
$
3.07

$
2.63

$
2.68

$
2.48

$
2.69

Net income diluted
3.04

2.61

2.67

2.47

2.68

Cash dividends declared
1.48

1.40

1.37

1.36

1.36

Book value per share
24.61

22.47

21.05

20.31

19.45

 
 
 
 
 
 
Selected Average Balances
 
 
 
 
 
Total loans
$
2,523,755

$
2,041,876

$
1,899,388

$
1,820,588

$
1,797,115

Securities
360,860

409,431

454,513

507,915

501,475

Interest-earning assets
2,905,783

2,489,072

2,391,484

2,348,258

2,304,053

Deposits
2,821,573

2,338,891

2,221,414

2,190,324

2,136,949

Long-term debt
16,495

16,495

16,495

16,876

18,286

Shareholders’ equity
373,102

325,073

316,161

316,030

294,583

Total assets
3,378,351

2,837,234

2,701,720

2,654,497

2,608,750

 
 
 
 
 
 
Selected Year-End Balances
 
 
 
 
 
Net loans
$
2,585,622

$
2,127,560

$
1,953,694

$
1,846,776

$
1,773,893

Securities
370,120

402,039

396,175

453,585

513,931

Interest-earning assets
2,986,194

2,574,684

2,374,804

2,334,921

2,309,884

Deposits
2,785,133

2,409,316

2,221,268

2,171,375

2,163,722

Long-term debt
16,495

16,495

16,495

16,495

16,959

Shareholders’ equity
387,623

333,274

311,134

314,861

308,902

Total assets
3,368,238

2,917,466

2,777,109

2,637,295

2,622,620

 
 
 
 
 
 
Performance Ratios
 
 
 
 
 
Return on average assets
1.43
%
1.37
%
1.51
%
1.47
%
1.63
%
Return on average equity
12.92

11.98

12.87

12.33

14.48

Return on average tangible common equity
16.20

14.74

15.66

15.02

17.95

Net interest margin
4.33

3.96

3.89

4.06

4.18

Efficiency ratio
55.82

57.16

55.87

52.93

49.99

Dividend payout ratio
48.21

53.23

51.12

54.84

50.56

 
 
 
 
 
 
Asset Quality
 
 
 
 
 
Net charge-offs to average loans
0.20
%
0.34
%
0.18
%
0.41
%
0.59
%
Provision for loan losses to average loans
0.27

0.31

0.24

0.39

0.39


1


Allowance for loan losses to nonperforming loans
90.25

96.59

87.76

156.39

132.02

Allowance for loan losses to total loans
0.79

0.88

0.98

0.98

1.03

 
 
 
 
 
 
Consolidated Capital Ratios
 
 
 
 
 
Total
13.84
%
13.85
%
14.07
%
14.81
%
14.44
%
Tier I Risk-based
13.00

12.97

13.12

13.88

13.46

Tier I Leverage
9.80

9.82

10.18

10.54

10.10

Average equity to average assets
11.04

11.46

11.70

11.91

11.29

Tangible equity to tangible assets (end of period)
9.49

9.40

9.37

10.01

9.82

 
 
 
 
 
 
Full-time equivalent employees
923

843

795

805

809



2


TWO-YEAR SUMMARY OF
COMMON STOCK PRICES AND DIVIDENDS

 
Cash Dividends
Per Share
 
Market
Low
 
High
2013
 
 
 
 
 
Fourth Quarter
$
0.37

 
$
41.87

 
$
49.21

Third Quarter
0.37

 
40.04

 
46.13

Second Quarter
0.37

 
36.87

 
40.43

First Quarter
0.37

 
36.07

 
40.05

 
 
 
 
 
 
2012
 
 
 
 
 
Fourth Quarter
$
0.35

 
$
31.78

 
$
36.45

Third Quarter
0.35

 
32.37

 
36.43

Second Quarter
0.35

 
30.96

 
35.62

First Quarter
0.35

 
32.59

 
37.16


*As more fully discussed under the caption Liquidity in Management’s Discussion and Analysis and in Note Nineteen of the Notes to Consolidated Financial Statements, the Company’s ability to pay dividends to its shareholders is dependent upon the ability of City National to pay dividends to City Holding (“Parent Company”).
 
The Company’s common stock trades on the NASDAQ Global Select Market under the symbol CHCO. The above table sets forth the cash dividends paid per share and information regarding the market prices per share of the Company’s common stock for the periods indicated. The price ranges are based on transactions as reported on the NASDAQ stock market. At March 3, 2014, there were 2,938 shareholders of record.


3


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
CITY HOLDING COMPANY
 
City Holding Company (the “Company”), a West Virginia corporation headquartered in Charleston, West Virginia, is a financial holding company and a bank holding company that provides diversified financial products and services to consumers and local businesses. Through its network of 82 banking offices in West Virginia (57), Virginia (14), Kentucky (8) and Ohio (3), the Company provides credit, deposit, trust and investment management, and insurance products and services to its customers. In addition to its branch network, the Company’s delivery channels include ATMs, check cards, interactive voice response systems, and internet technology. The Company’s business activities are currently limited to one reportable business segment, which is community banking. The Company has approximately 7% of the deposit market in West Virginia and is the third largest bank headquartered in West Virginia based on deposit share. In the Company’s key markets, the Company’s primary subsidiary, City National Bank of West Virginia (“City National”), generally ranks in the top three relative to deposit market share and the top two relative to branch share.

On January 10, 2013, the Company acquired Community Financial Corporation and its wholly owned subsidiary, Community Bank (collectively, "Community"). As a result of this acquisition, the Company acquired eight branches along the I-81 corridor in western Virginia and two branches in Virginia Beach, Virginia. On May 31, 2012, the Company acquired Virginia Savings Bancorp, Inc. and its wholly owned subsidiary, Virginia Savings Bank (collectively, "Virginia Savings"). As a result of this acquisition, the Company acquired five branches which expanded its footprint into Virginia.
 
CRITICAL ACCOUNTING POLICIES
 
The accounting policies of the Company conform to U.S. generally accepted accounting principles and require management to make estimates and develop assumptions that affect the amounts reported in the financial statements and related footnotes. These estimates and assumptions are based on information available to management as of the date of the financial statements. Actual results could differ significantly from management’s estimates. As this information changes, management’s estimates and assumptions used to prepare the Company’s financial statements and related disclosures may also change. The most significant accounting policies followed by the Company are presented in Note One of the Notes to Consolidated Financial Statements included herein. Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions, and estimates underlying those amounts, management has identified the determination of the allowance for loan losses, income taxes, other-than-temporary impairment on investment securities and purchased credit-impaired loans to be the accounting areas that require the most subjective or complex judgments and, as such, could be most subject to revision as new information becomes available.   The Company’s business activities are currently limited to one reportable business segment, which is community banking. 

Pages 16-19 of this Annual Report to Shareholders provide management’s analysis of the Company’s allowance for loan losses and related provision. The allowance for loan losses is maintained at a level that represents management’s best estimate of probable losses in the loan portfolio. Management’s determination of the appropriateness of the allowance for loan losses is based upon an evaluation of individual credits in the loan portfolio, historical loan loss experience, current economic conditions, and other relevant factors. This determination is inherently subjective, as it requires material estimates including the amounts and timing of future cash flows expected to be received on impaired loans that may be susceptible to significant change. The allowance for loan losses related to loans considered to be impaired is generally evaluated based on the discounted cash flows using the impaired loan’s initial effective interest rate or the fair value of the collateral for certain collateral dependent loans. 

Page 10 of this Annual Report to Shareholders provides management’s analysis of the Company’s income taxes.  The Company is subject to federal and state income taxes in the jurisdictions in which it conducts business.  In computing the provision for income taxes, management must make judgments regarding interpretation of laws in those jurisdictions.  Because the application of tax laws and regulations for many types of transactions is susceptible to varying interpretations, amounts reported in the financial statements could be changed at a later date upon final determinations by taxing authorities.  On a quarterly basis, the Company estimates its annual effective tax rate for the year and uses that rate to provide for income taxes on a year-to-date basis.  The amount of unrecognized tax benefits could change over the next twelve months as a result of various factors.  However, management cannot currently estimate the range of possible change.   

The Company is currently open to audit under the statute of limitations by the Internal Revenue Service for the years ended December 31, 2010 through 2012. The Company and its subsidiary’s state income tax returns are open to audit under the statute of limitations for the years ended December 31, 2009 through 2012. 

4



On a quarterly basis, the Company performs a review of investment securities to determine if any unrealized losses are other-than-temporarily impaired.  Management considers the following, amongst other things, in its determination of the nature of the unrealized losses, (i) the length of time and the extent to which the fair value has been less than cost; (ii) the financial condition, capital strength, and near–term (12 months) prospects of the issuer, including any specific events which may influence the operations of the issuer such as changes in technology that may impair the earnings potential of the investment or the discontinuance of a segment of the business that may affect the future earnings potential; (iii) the historical volatility in the market value of the investment and/or the liquidity or illiquidity of the investment; (iv) adverse conditions specifically related to the security, an industry, or a geographic area; or (v) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.  The Company continues to actively monitor the fair values of these investments along with the financial strength of the issuers behind these securities, as well as its entire investment portfolio.  Based on the market information available, the Company believes that the recent declines in fair value are temporary and that the Company does not have the intent to sell any of the securities classified as available for sale and believes it is more likely than not that the Company will not have to sell any such securities before a recovery of cost.  The Company cannot guarantee that such securities will recover and if additional information becomes available in the future to suggest that the losses are other-than-temporary, the Company may need to record additional impairment charges in future periods.

The Company values purchased credit-impaired loans at fair value in accordance with ASC Topic 310-30. In determining the estimated fair value, management considers several factors, such as estimated future credit losses, estimated prepayments, remaining lives of the acquired loans, estimated value of the underlying collateral and the net present value of the cash flows expected to be received. For these loans, the expected cash flows that exceed the fair value of the loan represent the accretable yield, which is recognized as interest income on a level-yield basis over the expected cash flow periods of the loans. The non-accretable difference represents the difference between the contractually required principal and interest payments and the cash flows expected to be collected based upon management's estimation. Subsequent decreases in the expected cash flows will require the Company to evaluate the need for additions to the Company's allowance for loan losses. Subsequent increases in the expected cash flows will result in a reversal of the provision for loan losses to the extent of prior charges with a corresponding adjustment to the accretable yield, which will result in the recognition of additional interest income over the remaining lives of the loans.

 
FAIR VALUE MEASUREMENTS
 
The Company determines the fair value of its financial instruments based on the fair value hierarchy established in FASB ASC Topic 820, whereby the fair value of certain assets and liabilities is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. ASC Topic 820 establishes a three-level hierarchy for disclosure of assets and liabilities recorded at fair value. The hierarchy classification is based on whether the inputs in the methodology for determining fair value are observable or unobservable. Observable inputs reflect market-based information obtained from independent sources (Level 1 or Level 2), while unobservable inputs reflect management’s estimate of market data (Level 3). Assets and liabilities that are actively traded and have quoted prices or observable market data require a minimal amount of subjectivity concerning fair value. Management’s judgment is necessary to estimate fair value when quoted prices or observable market data are not available.

            At December 31, 2013, approximately 10.6% of total assets, or $356 million, consisted of financial instruments recorded at fair value. Of this total, approximately 98.9% or $352 million of these financial instruments used valuation methodologies involving observable market data, collectively Level 1 and Level 2 measurements, to determine fair value. Approximately 1.1% or $4 million of these financial instruments were valued using unobservable market information or Level 3 measurements. The financial instruments valued using unobservable market information were pooled trust preferred investment securities classified as available-for-sale. At December 31, 2013, approximately $4 million of derivative liabilities were recorded at fair value using methodologies involving observable market data. The Company does not believe that any changes in the unobservable inputs used to value the financial instruments mentioned above would have a material impact on the Company’s results of operations, liquidity, or capital resources. See Note Twenty of the Notes to Consolidated Financial Statements for additional information regarding ASC Topic 820 and its impact on the Company’s financial statements.

FINANCIAL SUMMARY
 
The Company’s financial performance over the previous three years is summarized in the following table:

5


 
2013
2012
2011
 
 
 
 
Net income (in thousands)
$
48,215

$
38,945

$
40,678

Earnings per share, basic
$
3.07

$
2.63

$
2.68

Earnings per share, diluted
$
3.04

$
2.61

$
2.67

ROA*
1.43
%
1.37
%
1.51
%
ROE*
12.92
%
11.98
%
12.87
%
ROATCE*
16.20
%
14.74
%
15.66
%

*ROA (Return on Average Assets) is a measure of the effectiveness of asset utilization. ROE (Return on Average Equity) is a measure of the return on shareholders’ investment. ROATCE (Return on Average Tangible Common Equity) is a measure of the return on shareholders’ equity less intangible assets.

            The Company’s tax equivalent net interest income increased $27.4 million, or 27.8%, from $98.5 million in 2012 to $125.9 million in 2013.  This increase is due primarily to loan growth from the acquisition of Community as of January 9, 2013 and accretion of the fair value adjustments related to the acquisitions of Virginia Savings and Community. The Company’s reported net interest margin increased from 3.96% for the year ended December 31, 2012 to 4.33% for the year ended December 31, 2013 (see Net Interest Income).  The Company’s provision for loan losses increased $0.5 million from $6.4 million in 2012 to $6.8 million in 2013 (see Allowance and Provision for Loan Losses).
 
BALANCE SHEET ANALYSIS
 
Selected balance sheet fluctuations are summarized in the following table (in millions):
 
December 31,
 
 
 
2013
2012
$ Change
% Change
 
 
 
 
 
Gross loans
$
2,606.2

$
2,146.4

$
459.8

21.4
 %
Investment securities
370.1

402.0

(31.9
)
(7.9
)
Premises and equipment, net
82.5

72.7

9.8

13.5

Goodwill and other intangible assets
75.1

65.1

10.0

15.4

 
 
 
 
 
Total deposits
2,785.1

2,409.3

375.8

15.6

Short-term borrowings
137.8

114.6

23.2

20.2

Long-term debt
16.5

16.5



Total shareholders' equity
387.6

333.3

54.3

16.3


Gross loans increased $460 million, or 21.4%, from December 31, 2012 to $2.61 billion at December 31, 2013, primarily due to the Company’s acquisition of Community ($372 million).  Excluding the Community acquisition, loans increased $88 million (4.1%) from December 31, 2012 to December 31, 2013.  Increases in residential real estate loans of $59 million (5.8%), commercial real estate loans of $33 million (4.0%) and commercial and industrial ("C&I") loans of $10 million (9.2%) were partially offset by a decrease in consumer loans ($14 million). The majority of this decrease is attributable to the Company's decision to strategically reduce the portfolio of indirect auto loans with unsatisfactory credit quality metrics associated with the Community acquisition.

Investment securities decreased $32 million, or 7.9%, from $402 million at December 31, 2012, to $370 million at December 31, 2013.

Premises and equipment, net increased $10 million, or 13.5%, from $73 million at December 31, 2012 to $83 million at December 31, 2013.  The increase was primarily attributable to the acquisition of Community ($9 million).

Goodwill and other intangible assets increased $10 million as a result of the Community acquisition.  In connection with this acquisition, the Company recorded a core deposit intangible of $2.7 million and goodwill of $8.3 million




Total deposits increased $376 million, or 15.6%, from $2.41 billion at December 31, 2012 to $2.79 billion at December 31, 2013, primarily due to the Community acquisition ($383 million).

Short-term borrowings increased $23 million, or 20.2%, from December 31, 2012 to December 31, 2013. All of the Company's short-term borrowings are customer repurchase agreements.

Long-term debt balances remained flat at $16.5 million

Shareholders' equity increased $54.3 million from December 31, 2012 to December 31, 2013 (see Capital Resources).
 
TABLE TWO
AVERAGE BALANCE SHEETS AND NET INTEREST INCOME
(In thousands)
 
 
2013
 
2012
 
2011
 
Average Balance
Interest
Yield/
Rate
 
Average Balance
Interest
Yield/
Rate
 
Average Balance
Interest
Yield/
Rate
Assets
 
 
 
 
 
 
 
 
 
 
 
Loan portfolio(1):
 
 
 
 
 
 
 
 
 
 
 
Residential real estate(2),(3)
$
1,304,741

55,165

4.23
%
 
$
1,114,653

49,000

4.40
%
 
$
1,040,460

48,948

4.70
%
 Commercial, financial, and agriculture(4),(5)
1,154,637

62,679

5.43

 
880,502

40,815

4.64

 
812,401

37,955

4.67

Installment loans to individuals(6),(7)
64,377

6,219

9.66

 
46,721

3,311

7.09

 
46,167

3,375

7.31

Previously securitized loans(8)

2,531


 

3,306


 
360

3,136

871.11

     Total loans
2,523,755

126,594

5.02

 
2,041,876

96,432

4.72

 
1,899,388

93,414

4.92

Securities:
 
 
 
 
 
 
 
 
 
 
 
   Taxable
330,225

10,697

3.24

 
371,092

14,285

3.85

 
408,472

17,729

4.34

   Tax-exempt(9)
30,635

1,885

6.15

 
38,339

2,218

5.79

 
46,041

2,611

5.67

     Total securities
360,860

12,582

3.49

 
409,431

16,503

4.03

 
454,513

20,340

4.48

Deposits in depository institutions
8,116



 
7,258



 
7,655



Federal funds sold
13,052

22

0.17

 
30,507

53

0.17

 
29,928

48

0.16

     Total interest-earning assets
2,905,783

139,198

4.79

 
2,489,072

112,988

4.54

 
2,391,484

113,802

4.76

Cash and due from banks
154,983

 
 
 
74,193

 
 
 
58,247

 
 
Bank premises and equipment
82,168

 
 
 
69,772

 
 
 
64,678

 
 
Other assets
255,544

 
 
 
223,783

 
 
 
206,724

 
 
   Less: allowance for loan losses
(20,127
)
 
 
 
(19,586
)
 
 
 
(19,413
)
 
 
Total assets
$
3,378,351

 
 
 
$
2,837,234

 
 
 
$
2,701,720

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing demand deposits
$
603,844

712

0.12
%
 
$
534,211

697

0.13
%
 
$
493,433

895

0.18
%
   Savings deposits
599,574

864

0.14

 
479,760

759

0.16

 
420,212

1,023

0.24

   Time deposits(10)
1,103,945

10,782

0.98

 
909,951

12,021

1.32

 
927,789

17,876

1.93

   Short-term borrowings
127,679

325

0.25

 
121,780

312

0.26

 
123,569

325

0.26

   Long-term debt
16,495

618

3.75

 
16,495

661

4.01

 
16,495

639

3.87

     Total interest-bearing liabilities
2,451,537

13,301

0.54

 
2,062,197

14,450

0.70

 
1,981,498

20,758

1.05

Noninterest-bearing demand deposits
514,210

 
 
 
414,969

 
 
 
379,980

 
 
Other liabilities
39,502

 
 
 
34,995

 
 
 
24,081

 
 
Stockholders’ equity
373,102

 
 
 
325,073

 
 
 
316,161

 
 
Total liabilities and stockholders’ equity
$
3,378,351

 
 
 
$
2,837,234

 
 
 
$
2,701,720

 
 
Net interest income
 
125,897

 
 
 
98,538

 
 
 
93,044

 
Net yield on earning assets
 
 
4.33
%
 
 
 
3.96
%
 
 
 
3.89
%
 
1.For purposes of this table, non-accruing loans have been included in average balances and loan fees, which are immaterial, have been included in interest income.
2.Includes the Company's residential real estate and home equity-junior lien loan categories.
3.For 2013, interest income on residential real estate loans includes $0.8 million and $1.0 million of accretion related to the fair value adjustments due to the acquisitions of Community and Virginia Savings. For 2012, interest income includes $0.7

7


million of accretion related to the fair value adjustments due to the acquisition of Virginia Savings. For 2011, interest income includes $0.6 million from interest rate floors.
4.Includes the Company’s commercial and industrial and commercial real estate loan categories.
5.For 2013, interest income on commercial, financial and agricultural loans includes $7.9 million and $2.4 million of accretion related to the fair value adjustments due to the acquisitions of Community and Virginia Savings. For 2012, interest income includes $1.6 million of accretion related to the fair value adjustments due to the acquisition of Virginia Savings. For 2011, interest income includes $0.5 million from interest rate floors.
6.Includes the Company’s consumer and DDA overdrafts loan categories.
7.For 2013, interest income on installment loans to individuals includes $1.2 million and $0.1 million of accretion related to the fair value adjustments due to the acquisitions of Community and Virginia Savings. For 2012, interest income includes $0.1 million of accretion related to the fair value adjustments due to the acquisition of Virginia Savings.
8.Effective January 1, 2012, the carrying value of the Company's previously securitized loans was reduced to $0.
9.Computed on a fully federal tax-equivalent basis assuming a tax rate of approximately 35%.
10.For 2013, interest expense on time deposits includes $0.7 million and $0.5 million of accretion related to the fair value adjustments due to the acquisitions of Community and Virginia Savings. For 2012, interest expense includes $0.2 million of accretion related to the fair value adjustments due to the acquisition of Virginia Savings.

NET INTEREST INCOME
2013 vs. 2012

The Company’s tax equivalent net interest income increased $27.4 million, or 27.8%, from $98.5 million in 2012 to $125.9 million in 2013. This increase is due primarily to loan growth from the acquisition of Community as of January 9, 2013 and accretion of the fair value adjustments related to the acquisitions of Community and Virginia Savings.  In addition, the average rate paid on interest bearing deposits decreased from 0.70% during 2012 to 0.54% during 2013, which was largely attributable to the average rate paid on time deposits declining from 1.32% during 2012 to 0.98% during 2013

The Company’s reported net interest margin increased from 3.96% for the year ended December 31, 2012 to 4.33% for the year ended December 31, 2013.  Excluding the positive impact of accretion relating to the Company's acquisitions, the net interest margin decreased slightly from 3.85% in 2012 and 3.83% for the year ended December 31, 2013.

Excluding the impact of the Community acquisition, average interest-earning assets increased $85 million from 2012 to 2013, as increases attributable to residential real estate ($85 million) and commercial loans ($67 million) were partially offset by a decrease in investment securities ($49 million) and federal funds sold ($17 million).   Excluding the impact of the Community acquisition, average interest-bearing liabilities increased $90 million from 2012 due to increases in savings deposits ($47 million), interest-bearing demand deposits ($23 million) and time deposits ($15 million).

The following table presents the actual and forecasted accretion related to the fair value adjustments on net interest income recorded as a result of the Community and Virginia Savings acquisitions (in thousands).  The amounts in the table below require management to make significant assumptions based on estimated future default, prepayment and discount rates.  Actual performance could be significantly different from that assumed, which could result in the actual results being materially different than those estimated below.

 
Virginia Savings
Community
 
 
Year Ended
Loan
Accretion
Certificates of Deposit
Loan
Accretion
Certificates of Deposit
Total
 
 
 
 
 
 
2012
$
2,415

$
179

$

$

$
2,594

2013
3,512

542

9,907

682

14,643

2014
922

536

4,104

250

5,812

2015
564

518

3,040

160

4,282

2016
325

497

1,477

44

2,343

 
2012 vs. 2011
 
The Company's tax equivalent net interest income increased $5.5 million, or 5.9%, from $93.0 million in 2011 to $98.5 million in 2012. This increase is due primarily to the acquisition of Virginia Savings as of May 31, 2012, an increase in loan balances outstanding and a decline in the average rate paid on interest bearing deposits. The acquisition of Virginia Savings increased the Company's net interest income by $4.5 million, which included $2.6 million of accretion related to the fair value

8


adjustments recorded as a result of the acquisition. Excluding the Virginia Savings acquisition, the average balance of loans outstanding increased $71 million, or 3.73%, from the year ended December 31, 2011. The average rate paid on interest bearing deposits decreased from 1.07% during 2011 to 0.70% during 2012 and was largely attributable to the average rate paid on time deposits declining from 1.93% during 2011 to 1.32% during 2012. These increases were partially offset by a decrease in investment income as approximately $38 million of higher yielding trust preferred securities were called during the third quarter of 2012.

The Company's reported net interest margin increased from 3.89% for the year ended December 31, 2011 to 3.96% for the year ended December 31, 2012. Excluding the favorable impact of the accretion from the fair value adjustments, the net interest margin for the year ended December 31, 2012 would have been 3.85%.

Average interest-earning assets increased $98 million from 2011 to 2012, as increases attributable to residential real estate ($74 million) and commercial loans ($68 million) were partially offset by a decrease in investment securities ($45 million). Average interest-bearing liabilities increased $81 million from 2011 as increases in savings deposits ($60 million) and interest-bearing demand deposits ($41 million) were partially offset by a decrease in time deposits ($18 million).

TABLE THREE
RATE/VOLUME ANALYSIS OF CHANGES IN INTEREST INCOME AND INTEREST EXPENSE
(In thousands)
 
2013 vs. 2012
Increase (Decrease)
Due to Change In:
2012 vs. 2011
Increase (Decrease)
Due to Change In:
 
Volume
Rate
Net
Volume
Rate
Net
Interest-earning assets:
 
 
 
 
 
 
Loan portfolio
 
 
 
 
 
 
   Residential real estate
$
8,356

$
(2,191
)
$
6,165

$
3,490

$
(3,438
)
$
52

   Commercial, financial, and agriculture
12,707

9,157

21,864

3,182

(322
)
2,860

   Installment loans to individuals
1,251

1,657

2,908

40

(104
)
(64
)
   Previously securitized loans

(775
)
(775
)
(3,136
)
3,306

170

     Total loans
22,314

7,848

30,162

3,576

(558
)
3,018

Securities:
 
 
 
 
 
 
   Taxable
(1,573
)
(2,015
)
(3,588
)
(1,622
)
(1,822
)
(3,444
)
   Tax-exempt(1)
(446
)
113

(333
)
(437
)
44

(393
)
     Total securities
(2,019
)
(1,902
)
(3,921
)
(2,059
)
(1,778
)
(3,837
)
Federal funds sold
(30
)
(1
)
(31
)
1

4

5

Total interest-earning assets
$
20,265

$
5,945

$
26,210

$
1,518

$
(2,332
)
$
(814
)
 
 
 
 
 
 
 
Interest-bearing liabilities:
 
 
 
 
 
 
Interest-bearing demand deposits
$
91

$
(76
)
$
15

$
74

$
(272
)
$
(198
)
   Savings deposits
190

(85
)
105

145

(409
)
(264
)
   Time deposits
2,563

(3,802
)
(1,239
)
(344
)
(5,511
)
(5,855
)
   Short-term borrowings
15

(2
)
13

(5
)
(8
)
(13
)
   Long-term debt

(43
)
(43
)

22

22

     Total interest-bearing liabilities
$
2,859

$
(4,008
)
$
(1,149
)
$
(130
)
$
(6,178
)
$
(6,308
)
Net Interest Income
$
17,406

$
9,953

$
27,359

$
1,648

$
3,846

$
5,494


1.
Fully federal taxable equivalent using a tax rate of approximately 35%.

NON-INTEREST INCOME AND NON-INTEREST EXPENSE
2013 vs. 2012

Selected income statement fluctuations are summarized in the following table (in millions):


9


 
For the year ended December 31,
 
 
 
2013
2012
$ Change
% Change
Net investment security gains
$
0.8

$
1.0

$
(0.2
)
(20.0
)%
Non-interest income, excluding net investment securities gains
57.2

54.3

2.9

5.3

Non-interest expense
102.9

87.4

15.5

17.7


During the year ended December 31, 2013, the Company realized investment gains of $0.8 million associated with the calls of trust preferred securities and from the sale of certain equity positions related to community banks and bank holding companies.

Exclusive of net investment securities gains and losses, non-interest income increased $2.9 million to $57.2 million for the year ended December 31, 2013 as compared to $54.3 million for the year ended December 31, 2012.  Service charges increased $1.2 million, or 4.5%, to $27.6 million and bankcard revenues increased $1.1 million, or 9.0%, to $13.5 million for the year ended December 31, 2013. These increases were primarily due to the acquisition of Community.

During 2013, the Company recognized $5.5 million of acquisition and integration expenses associated with the completed acquisition of Community. In comparison, during 2012, the Company recorded $4.7 million of acquisition and integration expenses associated with the completed acquisition of Virginia Savings and the impending acquisition of Community. Excluding these expenses, non-interest expenses increased $14.7 million from $82.7 million for the year ended December 31, 2012 to $97.4 million for the year ended December 31, 2013. Salaries and employee benefits increased $7.9 million due primarily to additional employees associated with the acquisition of Community. Normal annual salary increases, increased pension costs and increased incentive compensation accruals also contributed to the increase in salaries and employee benefits. In addition, other expenses increased $2.0 million, occupancy and equipment expenses increased $1.7 million and depreciation expense increased $1.2 million. These increases were primarily attributable to the acquisition of Community and were in line with the Company's expectations. These increases were partially offset by a decrease in repossessed asset losses as a result of losses recognized in 2012.
 
2012 vs. 2011

Selected income statement fluctuations are summarized in the following table (in millions):
 
For the year ended December 31,
 
 
 
2012
2011
$ Change
% Change
Net investment security gains
$
1.0

$
2.5

$
(1.5
)
(60.0
)%
Non-interest income, excluding net investment securities gains
54.3

52.4

1.9

3.6

Non-interest expense
87.4

81.1

6.3

7.8


During the year ended December 31, 2012, the Company realized investment gains of $1.2 million from the sale of certain equity positions related to community banks and bank holding companies. In addition, the Company also recognized gains of $0.3 million associated with the calls of trust preferred securities. These gains were partially offset by $0.6 million in credit-related net investment impairment losses. The charges deemed to be other-than-temporary were related to pooled bank trust preferred securities with a remaining carrying value of $3.5 million at December 31, 2012. The credit-related net impairment charges related to the pooled bank trust preferred securities were based on the Company's quarterly reviews of its investment securities for indications of losses considered to be other-than-temporary.

Exclusive of net investment securities gains and losses, non-interest income increased $1.9 million to $54.3 million for the year ended December 31, 2012 as compared to $52.4 million for the year ended December 31, 2011. Bankcard revenue increased $1.3 million, of 11.3%, to $12.4 million for the year ended December 31, 2012. This increase was primarily due to increased transaction volumes. In addition, trust and investment management fee income increased $0.7 million, or 21.5%, to $3.8 million due to core growth as Virginia Savings did not offer these services. Other income increased $0.6 million, or 30.8%, to $2.7 million due largely to an increase in mortgage related lending activity.

During 2012, the Company recognized $4.7 million of acquisition and integration expenses associated with the completed acquisition of Virginia Savings and the upcoming acquisition of Community. In comparison, during 2011, the Company recorded a $3.0 million litigation reserve accrual (which was subsequently paid in 2012). Excluding these expenses, non-interest expenses increased $4.6 million from $78.1 million for the year ended December 31, 2011 to $82.7 million for the

10


year ended December 31, 2012. Included in this increase are expenses of $1.8 million related to the operation of the acquired Virginia Savings facilities. Salaries and employee benefits increased $2.8 million due primarily to additional employees associated with the acquisition of Virginia Savings ($1.0 million) and increased health insurance costs ($1.0 million). Repossessed asset losses increased $1.1 million due to the decline in estimated fair values of several residential properties located in the eastern panhandle of West Virginia and at the Greenbrier Resort located in southern West Virginia. The Company continually reevaluates the estimated fair value of properties that it has repossessed by obtaining updated appraisals on at least an annual basis. In addition, other expenses increased $0.8 million, advertising expenses increased $0.6 million and bankcard expenses increased $0.4 million. These increases were partially offset by a decrease in FDIC insurance expense of $1.0 million due to a change in the assessment base methodology during the third quarter of 2011.
 
INCOME TAXES
 
The Company recorded income tax expense of $25.3 million, $20.3 million and $20.6 million in 2013, 2012 and 2011, respectively. The Company’s effective tax rates for 2013, 2012 and 2011 were 34.4%, 34.3% and 33.6%, respectively. A reconciliation of the effective tax rate to the statutory rate is included in Note Fourteen of the Notes to Consolidated Financial Statements.

            Deferred income taxes reflect the net tax effects of temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The Company’s net deferred tax assets increased from $32.7 million at December 31, 2012 to $42.2 million at December 31, 2013. The components of the Company’s net deferred tax assets are disclosed in Note Fourteen of the Notes to Consolidated Financial Statements. Realization of the most significant net deferred tax assets is primarily dependent on future events taking place that will reverse the current deferred tax assets. For example, realization of the deferred tax asset attributable to other-than-temporary impairment losses on securities, which have already been recognized in the Company’s financial statements, would be realized if the impaired securities were deemed to be “worthless” by the Internal Revenue Service ("IRS") or if the securities were sold and recognized for tax purposes.  The deferred tax asset and/or liability associated with unrealized securities losses is the tax impact of the unrealized gains and/or losses on the Company’s available for sale security portfolio.  At December 31, 2013 and 2012, the Company had a deferred tax asset of $1.2 million and a deferred tax liability of $2.1 million, respectively, associated with unrealized securities losses and gains.  The impact of the Company’s unrealized gains and/or losses is noted in the Company’s Consolidated Statements of Changes in Shareholders’ Equity as an adjustment to Accumulated Other Comprehensive Income (Loss). The deferred tax liability at December 31, 2013 would be realized if the unrealized gains and/or losses on the Company’s securities were realized from sales or maturities of the related securities.  At December 31, 2013 and 2012, the Company had a deferred tax asset of $9.5 million and $9.8 million, respectively, associated with other-than-temporarily impaired securities.  The deferred tax asset at December 31, 2013 would be realized if the Company’s other-than-temporarily impaired securities were sold, or were deemed by the IRS to be “worthless.”  The deferred tax asset associated with the allowance for loan losses increased slightly from $7.1 million at December 31, 2012 to $7.6 million at December 31, 2013. The deferred tax asset associated with the allowance for loan losses is expected to be realized as additional loan charge-offs, which have already been provided for within the Company’s financial statements, are recognized for tax purposes.  The deferred tax asset associated with the Company’s previously securitized loans is expected to be realized as the Company recognizes income for financial statement purposes from these loans in future periods. The deferred tax asset associated with these loans decreased from $5.9 million at December 31, 2012 to $5.2 million at December 31, 2013.  The deferred tax asset associated with the Company's intangible assets increased to $8.1 million at December 31, 2013, primarily due to the acquisition of Community. The Company believes that it is more likely than not that each of the net deferred tax assets will be realized and that no valuation allowance is necessary as of December 31, 2013 or 2012.
 
RISK MANAGEMENT

Market risk is the risk of loss due to adverse changes in current and future cash flows, fair values, earnings or capital due to adverse movements in interest rates and other factors, including foreign exchange rates and commodity prices. Because the Company has no significant foreign exchange activities and holds no commodities, interest rate risk represents the primary risk factor affecting the Company’s balance sheet and net interest margin. Significant changes in interest rates by the Federal Reserve could result in similar changes in LIBOR interest rates, prime rates, and other benchmark interest rates that could affect the estimated fair value of the Company’s investment securities portfolio, interest paid on the Company’s short-term and long-term borrowings, interest earned on the Company’s loan portfolio and interest paid on its deposit accounts.

 The Company’s Asset and Liability Committee (“ALCO”) has been delegated the responsibility of managing the Company’s interest-sensitive balance sheet accounts to maximize earnings while managing interest rate risk. ALCO, comprised of various members of executive and senior management, is also responsible for establishing policies to monitor and limit the Company’s exposure to interest rate risk and to manage the Company’s liquidity position. ALCO satisfies its responsibilities through monthly meetings during which product pricing issues, liquidity measures, and interest sensitivity positions are monitored.


11


In order to measure and manage its interest rate risk, the Company uses an asset/liability management and simulation software model to periodically update the interest sensitivity position of the Company’s balance sheet. The model is also used to perform analyses that measure the impact on net interest income and capital as a result of various changes in the interest rate environment. Such analyses quantify the effects of various interest rate scenarios on projected net interest income.

The Company’s policy objective is to avoid negative fluctuations in net income or the economic value of equity of more than 15% within a 12-month period, assuming an immediate parallel increase or decrease of 400 basis points. The Company measures the long-term risk associated with sustained increases and decreases in rates through analysis of the impact to changes in rates on the economic value of equity.  Due to the current Federal Funds target rate of 25 basis points, the Company has chosen not to reflect a decrease of 25 basis points from current rates in its analysis.

During the fourth quarter of 2012, the Company revised its sensistivity analysis to consider the impact of rising interest rates on its deposit balance mix.  Prior to interest rates declining in 2007, the Company's deposit account composition included more balances as a percentage of total deposit balances in higher yielding deposit accounts, primarily time deposits.  As interest rates have fallen over the last five years, and as the higher yielding time deposits have matured, these balances have shifted to lower yielding transactional deposit accounts such as demand deposits and savings accounts.  The Company revised its interest rate sensitivity model at December 31, 2012 to reflect its belief that as interest rates increase, transactional deposit balances will begin to shift back to higher yielding time deposits and the benefit to rising interest rates for the Company will be reduced from our previous models which had not reflected this modification.

The following table summarizes the sensitivity of the Company’s net income to various interest rate scenarios. The results of the sensitivity analyses presented below differ from the results used internally by ALCO in that, in the analyses below, interest rates are assumed to have an immediate and sustained parallel shock. The Company recognizes that rates are volatile, but rarely move with immediate and parallel effects. Internally, the Company considers a variety of interest rate scenarios that are deemed to be possible while considering the level of risk it is willing to assume in “worst-case” scenarios such as shown by the following:
Immediate Basis Point Change in Interest Rates
Implied Federal Funds Rate Associated with Change in Interest Rates
Estimated Increase (Decrease) in Net Income Over 12 Months
Estimated Increase (Decrease) in Economic Value of Equity
December 31, 2013
 
 
 
+400
4.25
%
+3.3
 %
-6.4
 %
+300
3.25

+4.3

-2.0

+200
2.25

+3.3

+0.6

+100
1.25

+0.6

+0.4

 
 
 
 
December 31, 2012
 
 
 
+400
4.25
%
+4.2
 %
+4.8
 %
+300
3.25

+3.8

+5.4

+200
2.25

+2.5

+3.9

+100
1.25

-0.3

+1.6


These estimates are highly dependent upon assumptions made by management, including, but not limited to, assumptions regarding the manner in which interest-bearing demand deposit and savings deposit accounts reprice in different interest rate scenarios, changes in the composition of deposit balances, pricing behavior of competitors, prepayments of loans and deposits under alternative rate environments, and new business volumes and pricing. As a result, there can be no assurance that the estimates above will be achieved in the event that interest rates increase during 2014 and beyond.  The estimates above do not necessarily imply that the Company will experience increases in net income if market interest rates rise.  The table above indicates how the Company’s net income and the economic value of equity behave relative to an increase or decrease in rates compared to what would otherwise occur if rates remain stable.

Based upon the estimates above, the Company believes that its net income is positively correlated with increasing rates as compared to the level of net income the Company would expect if interest rates remain flat.
 
LIQUIDITY

The Company evaluates the adequacy of liquidity at both the Parent Company level and at the banking subsidiary level. At the Parent Company level, the principal source of cash is dividends from its banking subsidiary, City National Bank. Dividends paid by City National Bank to the Parent Company are subject to certain legal and regulatory limitations. Generally, any dividends

12


in amounts that exceed the earnings retained by City National Bank in the current year plus retained net profits for the preceding two years must be approved by regulatory authorities. At December 31, 2013, City National Bank could pay dividends up to $5.2 million without prior regulatory permission.

During 2013, the Parent Company used cash obtained from the dividends received primarily to: (1) pay common dividends to shareholders, (2) remit interest payments on the Company’s junior subordinated debentures and (3) fund the acquisition of Community.  Additional information concerning sources and uses of cash by the Parent Company is reflected in Note Twenty One of the Notes to Consolidated Financial Statements.

Over the next 12 months, the Parent Company has an obligation to remit interest payments approximating $0.6 million on the junior subordinated debentures held by City Holding Capital Trust III. Additionally, The Parent Company anticipates continuing the payment of dividends, which are expected to approximate $23.3 million on an annualized basis for 2014 based on common shareholders of record at December 31, 2013 and a dividend rate of $1.48 for 2014.  However, interest payments on the debentures can be deferred for up to five years under certain circumstances and dividends to shareholders can, if necessary, be suspended.  In addition to these anticipated cash needs, the Parent Company has operating expenses and other contractual obligations, which are estimated to require $0.7 million of additional cash over the next 12 months. As of December 31, 2013, the Parent Company reported a cash balance of $28.4 million and management believes that the Parent Company’s available cash balance, together with cash dividends from City National Bank will be adequate to satisfy its funding and cash needs over the next twelve months.

Excluding the interest and dividend payments discussed above, the Parent Company has no significant commitments or obligations in years after 2014 other than the repayment of its $16.5 million obligation under the debentures held by City Holding Capital Trust III. However, this obligation does not mature until June 2038, or earlier at the option of the Parent Company. It is expected that the Parent Company will be able to obtain the necessary cash, either through dividends obtained from City National Bank or the issuance of other debt, to fully repay the debentures at their maturity.

City National Bank manages its liquidity position in an effort to effectively and economically satisfy the funding needs of its customers and to accommodate the scheduled repayment of borrowings. Funds are available to City National Bank from a number of sources, including depository relationships, sales and maturities within the investment securities portfolio, and borrowings from the FHLB and other financial institutions. As of December 31, 2013, City National Bank’s assets are significantly funded by deposits and capital. Additionally, City National Bank maintains borrowing facilities with the FHLB and other financial institutions that are accessed as necessary to fund operations and to provide contingency funding mechanisms. As of December 31, 2013, City National Bank has the capacity to borrow an additional $1.4 billion from the FHLB and other financial institutions under existing borrowing facilities. City National Bank maintains a contingency funding plan, incorporating these borrowing facilities, to address liquidity needs in the event of an institution-specific or systemic financial industry crisis. Also, although it has no current intention to do so, City National could liquidate its unpledged securities, if necessary, to provide an additional funding source.  City National Bank also segregates certain mortgage loans, mortgage-backed securities, and other investment securities in a separate subsidiary so that it can separately monitor the asset quality of these primarily mortgage-related assets, which could be used to raise cash through securitization transactions or obtain additional equity or debt financing if necessary.

 The Company manages its asset and liability mix to balance its desire to maximize net interest income against its desire to minimize risks associated with capitalization, interest rate volatility, and liquidity. With respect to liquidity, the Company has chosen a conservative posture and believes that its liquidity position is strong. As illustrated in the Consolidated Statements of Cash Flows, the Company generated $75.9 million of cash from operating activities during 2013, primarily from interest income received on loans and investments, net of interest expense paid on deposits and borrowings.

The Company has obligations to extend credit, but these obligations are primarily associated with existing home equity loans that have predictable borrowing patterns across the portfolio. The Company has investment security balances with carrying values that totaled $370.1 million at December 31, 2013, and that greatly exceeded the Company’s non-deposit sources of borrowing which totaled $154.3 million.

The Company’s net loan to asset ratio is 76.8% as of December 31, 2013 and deposit balances fund 82.7% of total assets as compared to 64.7% for its peers. Further, the Company’s deposit mix has a very high proportion of transaction and savings accounts that fund 50.7% of the Company’s total assets.  And, the Company uses time deposits over $100,000 to fund 11.7% of total assets compared to its peers, which fund 8.9% of total assets with such deposits. And, as described under the caption Certificates of Deposit, the Company’s large CDs are primarily small retail depositors rather than public and institutional deposits.
 



13


INVESTMENTS
 
The Company’s investment portfolio decreased from $402 million at December 31, 2012 to $370 million at December 31, 2013.

The investment portfolio is structured to provide flexibility in managing liquidity needs and interest rate risk, while providing acceptable rates of return.

The majority of the Company’s investment securities continue to be mortgage-backed securities. The mortgage-backed securities in which the Company has invested are predominantly underwritten to the standards of, and guaranteed by government-sponsored agencies such as FNMA and FHLMC.

The Company's municipal bond portfolio of $41.5 million as of December 31, 2013 has an average tax equivalent yield of 5.75% with an average maturity of 6.4 years. The average dollar amount of each security is $0.4 million. The portfolio has 24% rated "A" or better, 10% rated "BBB" and the remaining portfolio is unrated, as the issuances represented small issuances of special revenue bonds. Additional credit support has been purchased for 27% of the portfolio, while 73% has no additional credit support. Management does underwrite 100% of the portfolio on an annual basis, using the same guidelines that are used to underwrite its commercial loans. Revenue bonds were 94% of the portfolio, while the remaining 6% were general obligation bonds. Geographically, the portfolio supports the Company's footprint, with 70% of the portfolio being from municipalities throughout West Virginia, and the remainder from communities in Ohio, Indiana and Kentucky.

TABLE FOUR
INVESTMENT PORTFOLIO

The carrying value of the Company's securities are presented in the following table (in thousands):

 
Carrying Values as of December 31,
 
2013
2012
2011
Securities available-for-sale:
 
 
 
    U.S. Treasuries and U.S. government agencies
$
2,365

$
3,888

$
6,041

    Obligations of states and political subdivisions
41,548

48,929

56,802

Mortgage-backed securities:
 
 
 
     U.S. government agencies
278,108

286,482

227,613

     Private label
2,197

3,272

5,156

Trust preferred securities
13,156

12,645

45,157

Corporate securities
9,128

15,947

14,398

     Total Debt Securities available-for-sale
346,502

371,163

355,167

Marketable equity  securities
4,673

4,185

3,853

Investment funds
1,485

1,774

1,763

      Total Securities Available-for-Sale
352,660

377,122

360,783

Securities held-to-maturity:
 
 
 
    Trust preferred securities
4,117

13,454

23,458

      Total Securities Held-to-Maturity
4,117

13,454

23,458

Other investment securities:
 
 
 
   Non-marketable equity securities
13,343

11,463

11,934

       Total Other Investment Securities
13,343

11,463

11,934

 
 
 
 
Total Securities
$
370,120

$
402,039

$
396,175


Included in non-marketable equity securities in the table above at December 31, 2013 are $5.3 million of Federal Home Loan Bank stock and $8.1 million of Federal Reserve Bank stock. At December 31, 2013, there were no securities of any non-governmental issuers whose aggregate carrying or market value exceeded 10% of shareholders’ equity.

The weighted average yield of the Company's investment portfolio is presented in the following table (dollars in thousands):

14


 
Within
After One But
After Five But
After
 
One Year
Within Five Years
Within Ten Years
Ten Years
 
Amount
Yield
Amount
Yield
Amount
Yield
Amount
Yield
Securities available-for-sale:
 
 
 
 
 
 
 
 
    Obligations of states and political subdivisions
$
2,681

2.90
%
$
17,164

5.69
%
$
12,292

5.97
%
$
9,411

7.50
%
    U.S. Treasuries and U.S. government agencies


2,359

2.57

6

1.26



Mortgage-backed securities:
 
 
 
 
 
 
 
 
     U.S. government agencies
81

1.76

6,524

3.81

15,804

2.91

255,699

2.72

     Private label


706

4.51



1,491

2.55

Trust preferred securities






13,156

5.52

Corporate securities
1,911

2.13



4,102

5.55

3,115

5.55

     Total Debt Securities available-for-sale
4,673

2.56

26,753

4.80

32,204

4.42

282,872

3.04

Securities held-to-maturity:
 
 
 
 
 
 
 
 
    Trust preferred securities






4,117

9.34

      Total Securities Held-to-Maturity






4,117

9.34

 
 
 
 
 
 
 
 
 
      Total  debt securities
$
4,673

2.56
%
$
26,753

4.80
%
$
32,204

4.42
%
$
286,989

3.13
%
  
Weighted-average yields on tax-exempt obligations of states and political subdivisions have been computed on a taxable-equivalent basis using the federal statutory tax rate of 35%.  Average yields on investments available-for-sale are computed based on amortized cost. Mortgage-backed securities have been allocated to their respective maturity groupings based on their contractual maturity.
 
LOANS
TABLE FIVE
LOAN PORTFOLIO

The composition of the Company’s loan portfolio as of the dates indicated follows (in thousands):
 
2013
2012
2011
2010
2009
 
 
 
 
 
 
Residential real estate
$
1,207,150

$
1,031,435

$
929,788

$
882,780

$
851,659

Home equity – junior liens
143,390

143,110

141,797

143,761

142,771

Commercial and industrial
164,484

108,739

130,899

134,612

137,093

Commercial real estate
1,040,866

821,970

732,146

661,758

614,959

Consumer
46,402

36,564

35,845

38,424

41,684

DDA overdrafts
3,905

4,551

2,628

2,876

2,555

Previously securitzed loans



789

1,713

Gross loans
$
2,606,197

$
2,146,369

$
1,973,103

$
1,865,000

$
1,792,434


Loan balances increased $460 million from December 31, 2012 to December 31, 2013, with the acquisition of Community contributing $372 million.  Excluding the Community acquisition, residential real estate loans increased $59 million, or 5.8%, from $1.03 billion at December 31, 2012 to $1.09 billion at December 31, 2013.   Residential real estate loans represent loans to consumers for the purchase or refinance of a residence. These loans primarily consist of: (i) single-family 1, 3, 5 and 10 year adjustable rate mortgages with terms that amortize the loans over periods from 15-30 years and (ii) home equity loans secured by first liens.  The Company’s mortgage products do not include sub-prime, interest only, or option adjustable rate mortgage products.  The Company’s home equity loans are underwritten differently than 1-4 family residential mortgages with typically less documentation but lower loan-to-value ratios.  Home equity loans consist of lines of credit, short-term fixed amortizing loans and non-purchase adjustable rate loans.  At December 31, 2013, $17 million of the residential real estate loans were for properties under construction.


15


Junior lien home equity loans remained flat at $143 million during 2013.  The Company's junior lien home equity loans are underwritten differently than 1-4 family residential mortgages, with typically less documentation but lower loan-to-value ratios and include both home equity loans and lines-of-credit. This type of lending, which is secured by a junior lien on the borrower's residence, allows customers to borrow against the equity in their home. Real estate market values as of the time the loan or line is granted directly affect the amount of credit extended. Junior lien home equity loans consist of lines-of-credit, short-term fixed amortizing loans and non-purchase adjustable rate loans.

The C&I portfolio consists of loans to corporate borrowers primarily in small to mid-size industrial and commercial companies, as well as automobile dealers, service, retail and wholesale merchants. Collateral securing these loans includes equipment, machinery, inventory, receivables and vehicles. C&I loans are considered to contain a higher level of risk than other loan types, although care is taken to minimize these risks. Numerous risk factors impact this portfolio, including industry specific risks such as economy, new technology, labor rates and cyclicality, as well as customer specific factors, such as cash flow, financial structure, operating controls and asset quality. C&I loans increased $10 million, or 9.2%, from $109 million at December 31, 2012 to $119 million at December 31, 2013.

Commercial real estate loans consist of commercial mortgages, which generally are secured by nonresidential and multi-family residential properties, including hotel/motel and apartment lending. Commercial real estate loans are to many of the same customers and carry similar industry risks as the commercial and industrial loans ("C&I"). Excluding the Community acquisition, commercial real estate loans increased $33 million, or 4.0%, from $822 million at December 31, 2012 to $855 million at December 31, 2013.  At December 31, 2013, $24 million of the commercial real estate loans were for commercial properties under construction. 

Consumer loans are secured by automobiles, boats, recreational vehicles and other personal property. The Company monitors the risk associated with these types of loans by monitoring such factors as portfolio growth, lending policies and economic conditions. Underwriting standards are continually evaluated and modified based upon these factors. Excluding the Community acquisition, consumer loans decreased $14 million during 2013.  The majority of this decrease is attributable to the Company's decision to strategically reduce the portfolio of indirect automobile loans with unsatisfactory credit quality metrics associated with the Community acquisition. The consumer loan portfolio primarily consists of new and used automobile loans, personal loans secured by cash and cash equivalents, unsecured revolving credit products, and other similar types of credit facilities.
 
The Company categorizes commercial loans by industry according to the Standard Industry Classification System (SIC) to monitor the portfolio for possible concentrations in one or more industries. As of December 31, 2013, the Company did not have an industry classification that exceeded 10% of total loans.

The following table shows the scheduled maturity of loans outstanding as of December 31, 2013 (in thousands):

 
Within One Year
After One But Within Five Years
After Five Years
Total
 
 
 
 
 
Residential real estate
$
184,861

$
514,999

$
507,290

$
1,207,150

Home equity – junior liens
31,465

70,166

41,759

143,390

Commercial and industrial
83,729

77,025

3,730

164,484

Commercial real estate
333,608

508,114

199,144

1,040,866

Consumer
27,118

22,644

545

50,307

Total loans
$
660,781

$
1,192,948

$
752,468

$
2,606,197

 
 
 
 
 
 
 
 
 
 
Loans maturing after one year with interest rates that are:
 
 
 
 
Fixed until maturity
 
$
430,268

 
 
Variable or adjustable
 
1,515,148

 
 
Total
 
$
1,945,416

 
 

ALLOWANCE AND PROVISION FOR LOAN LOSSES


16


Management systematically monitors the loan portfolio and the appropriateness of the allowance for loan losses (“ALLL”) on a quarterly basis to provide for probable losses incurred in the portfolio. Management assesses the risk in each loan type based on historical trends, the general economic environment of its local markets, individual loan performance, and other relevant factors. Individual credits are selected throughout the year for detailed loan reviews, which are utilized by management to assess the risk in the portfolio and the appropriateness of the allowance. Due to the nature of commercial lending, evaluation of the appropriateness of the allowance as it relates to these loan types is often based more upon specific credit review, with consideration given to the potential impairment of certain credits and historical loss rates, adjusted for general economic conditions and other inherent risk factors. Conversely, due to the homogeneous nature of the real estate and installment portfolios, the portions of the allowance allocated to those portfolios are primarily based on prior loss history of each portfolio, adjusted for general economic conditions and other inherent risk factors.

In evaluating the appropriateness of the allowance for loan losses, management considers both quantitative and qualitative factors. Quantitative factors include actual repayment characteristics and loan performance, cash flow analyses, and estimated fair values of underlying collateral. Qualitative factors generally include overall trends within the portfolio, composition of the portfolio, changes in pricing or underwriting, seasoning of the portfolio, and general economic conditions.

The allowance not specifically allocated to individual credits is generally determined by analyzing potential exposure and other qualitative factors that could negatively impact the appropriateness of the allowance.  Loans not individually evaluated for impairment are grouped by pools with similar risk characteristics and the related historical loss rates are adjusted to reflect current inherent risk factors, such as unemployment, overall economic conditions, concentrations of credit, loan growth, classified and impaired loan trends, staffing, adherence to lending policies, and loss trends.

Determination of the allowance for loan losses is subjective in nature and requires management to periodically reassess the validity of its assumptions. Differences between actual losses and estimated losses are assessed such that management can timely modify its evaluation model to ensure that adequate provision has been made for risk in the total loan portfolio.

As a result of the Company’s quarterly analysis of the appropriateness of the ALLL, the Company recorded a provision for loan losses of $6.8 million, $6.4 million and $4.6 million for the years ended December 31, 2013, 2012 and 2011, respectively. Changes in the allowance for loan losses is based on the Company’s detailed systematic methodology and are directionally consistent with changes in the composition and quality of the Company’s loan portfolio.  The Company believes its methodology for determining its ALLL adequately provides for probable losses incurred in the loan portfolio and produces a provision and allowance for loan losses that is directionally consistent with changes in asset quality and loss experience. 
 
The provision for loan losses recorded during 2013 reflects difficulties encountered by certain commercial borrowers of the Company during the year, the downgrade of their related credits and management’s assessment of the impact of these difficulties on the ultimate collectability of the loans. In addition, the Company re-estimated the expected cash flows from its purchased credit impaired loans, which resulted in a $0.6 million addition to the ALLL. The Company had net charge-offs of $5.1 million for the year ended December 31, 2013 compared to $7.0 million for the year ended December 31, 2012.  Net charge-offs on residential real estate, commercial real estate and commercial and industrial loans were $1.9 million, $1.4 million and $1.0 million, respectively, for the year ended December 31, 2013.  Net charge-offs in the prior year were primarily related to two specific borrowers and related impaired credits that had been appropriately considered in establishing the allowance for loan losses in the prior year.

The Company’s ratio of non-performing assets to total loans and other real estate owned decreased from 1.28% at December 31, 2012 to 1.20% at December 31, 2013.  Excluded from this ratio are purchased credit-impaired loans in which the Company estimated cash flows and estimated a credit mark. These loans are considered performing loans provided that the loan is performing in accordance with the estimated expectations. Such loans would be considered non-performing loans if the loan's performance deteriorates below the initial expectations. Total past due loans increased from $13.0 million, or 0.60% of loans outstanding, at December 31, 2012 to $19.5 million, or 0.75% of loans outstanding, at December 31, 2013. Acquired past due loans represent approximately 64% of the total past due loans.

The allowance allocated to the commercial real estate loan portfolio increased $0.3 million, or 3.2%, from $10.4 million at December 31, 2012 to $10.8 million at December 31, 2013.

The allowance related to the commercial and industrial loan portfolio increased from $0.5 million at December 31, 2012 to $1.1 million at December 31, 2013. The increase is primarily attributable to the growth in the portfolio, as well as an increase in the historical loss rate associated with this portfolio.


17


The allowance allocated to the residential real estate portfolio increased $0.8 million from $5.2 million at December 31, 2012 to $6.1 million at December 31, 2013. The increase is primarily attributable to the growth in the portfolio, as well as an increase in the historical loss rate associated with this portfolio.

The allowance allocated to the home equity, consumer and overdraft loan portfolios at December 31, 2013 did not significantly change from December 31, 2012.

Based on the Company’s analysis of the appropriateness of the allowance for loan losses and in consideration of the known factors utilized in computing the allowance, management believes that the allowance for loan losses as of December 31, 2013, is adequate to provide for probable losses inherent in the Company’s loan portfolio. Future provisions for loan losses will be dependent upon trends in loan balances including the composition of the loan portfolio, changes in loan quality and loss experience trends, and recoveries of previously charged-off loans, among other factors.

TABLE SIX
ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES

An analysis of changes in the allowance for loan losses follows (in thousands):

 
2013
2012
2011
2010
2009
 
 
 
 
 
 
 
 
 
 
 
 
Balance at beginning of period
$
18,809

$
19,409

$
18,224

$
18,541

$
22,164

 
 
 
 
 
 
Charge-offs:
 
 
 
 
 
Commercial and industrial
1,040

226

522

73

530

Commercial real estate
2,187

4,604

1,989

3,304

7,219

Residential real estate
2,181

1,030

1,367

1,607

1,195

Home equity
295

1,355

1,089

930

721

Consumer
454

190

164

86

265

DDA overdrafts
1,483

1,522

1,712

3,638

2,886

Total charge-offs
7,640

8,927

6,843

9,638

12,816

 
 
 
 
 
 
Recoveries:
 
 
 
 
 
Commercial and industrial
84

32

23

27

102

Commercial real estate
785

289

1,981

415

133

Residential real estate
234

22

29

74

102

Home equity

18

7

26

20

Consumer
327

135

136

129

222

DDA overdrafts
1,128

1,456

1,252

1,557

1,620

Total recoveries
2,558

1,952

3,428

2,228

2,199

Net charge-offs
5,082

6,975

3,415

7,410

10,617

Provision for loan losses
6,251

6,375

4,600

7,093

6,994

Provision for acquired loans
597





Balance at end of period
$
20,575

$
18,809

$
19,409

$
18,224

$
18,541

 
 
 
 
 
 
As a Percent of Average Total Loans:
 
 
 
 
 
Net charge-offs
0.20
%
0.34
%
0.18
%
0.41
%
0.59
%
Provision for loan losses
0.27
%
0.31
%
0.24
%
0.39
%
0.39
%
As a Percent of Non-Performing Loans:
 
 
 
 
 
Allowance for loan losses
90.25
%
96.59
%
87.76
%
156.39
%
132.02
%


18


TABLE SEVEN
NON-ACCRUAL, PAST-DUE AND RESTRUCTURED LOANS

Nonperforming assets at December 31 follows (in thousands):

 
2013
2012
2011
2010
2009
Non-accrual loans
$
22,361

$
19,194

$
21,951

$
10,817

$
13,583

Accruing loans past due 90 days or more
436

280

166

782

382

Previously securitized loans past due 90 days or more



54

79

Total non-performing loans
$
22,797

$
19,474

$
22,117

$
11,653

$
14,044

 
On non-accrual and impaired loans, approximately $0.6 million, $1.0 million, and $0.8 million of interest income would have been recognized during 2013, 2012 and 2011, respectively, if such loans had been current in accordance with their original terms.  There were no commitments to provide additional funds on non-accrual, impaired, or other potential problem loans at December 31, 2013 and 2012.  

Interest on loans is accrued and credited to operations based upon the principal amount outstanding.  The accrual of interest income is generally discontinued when a loan becomes 90 days past due as to principal or interest unless the loan is well collateralized and in the process of collection.  When interest accruals are discontinued, interest credited to income in the current year that is unpaid and deemed uncollectible is charged to operations.  Prior-year interest accruals that are unpaid and deemed uncollectible are charged to the allowance for loan losses, provided that such amounts were specifically reserved.
 
Information pertaining to impaired loans is included in the following table (in thousands):

 
2013
2012
Impaired loans with a valuation allowance
$
3,416

$

Impaired loans with no valuation allowance
9,178

10,679

Total impaired loans
$
12,594

$
10,679

 
 
 
Allowance for loan losses allocated to impaired loans
$
880

$


The impaired loans with a valuation allowance were comprised of two commercial borrowing relationships that were evaluated during the year and determined that an allowance was necessary.

During the third quarter of 2012, regulatory guidance was clarified to require loans to be accounted for as collateral-dependent loans when borrowers have filed Chapter 7 bankruptcy, the debt has been discharged by the bankruptcy court and the borrower has not reaffirmed the debt.  The filing of bankruptcy is deemed to be evidence that the borrower is in financial difficulty and the discharge of the debt by the bankruptcy court is deemed to be a concession granted to the borrower.  The impact on the allowance for loan losses of this reclassification was insignificant. Prior to the this reclassification, the Company’s TDRs were insignificant. Since the time of this change, TDRs have increased from $21.5 million at September 30, 2012 to $25.1 million at December 31, 2013. More than 90% of these loans are current with principal and interest payments.

The following table sets forth the Company’s TDRs at December 31, 2013 and 2012 (in thousands):


19


 
Accruing
Non-Accruing
Total
December 31, 2013
 
 
 
Commercial and industrial
$
88


$
88

Commercial real estate
1,783


1,783

Residential real estate
18,651

1,693

20,344

Home equity
2,859

14

2,873

Consumer



 
$
23,381

$
1,707

$
25,088

 
 
 
 
December 31, 2012
 
 
 
Commercial and industrial
$
101


$
101

Commercial real estate
734


734

Residential real estate
18,826

162

18,988

Home equity
3,325

418

3,743

Consumer
142


142

 
$
23,128

$
580

$
23,708


TABLE EIGHT
ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES

The allocation of the allowance for loan losses and the percent of loans in each category to total loans is shown in the table below (dollars in thousands):
 
2013
2012
2011
2010
2009
 
Amount
Percent of Loans in Each Category to Total Loans
Amount
Percent of Loans in Each Category to Total Loans
Amount
Percent of Loans in Each Category to Total Loans
Amount
Percent of Loans in Each Category to Total Loans
Amount
Percent of Loans in Each Category to Total Loans
 
 
 
 
 
 
 
 
 
 
 
Commercial and industrial
$
1,139

6
%
$
498

5
%
$
590

7
%
$
1,864

7
%
$
2,069

8
%
Commercial real estate
10,775

40
%
10,440

38
%
11,666

37
%
8,488

35
%
8,961

34
%
Residential real estate
6,057

46
%
5,229

48
%
4,839

47
%
5,337

48
%
4,233

48
%
Home equity - junior liens
1,672

6
%
1,699

7
%
1,525

7
%
1,452

8
%
1,282

8
%
Consumer
77

2
%
81

2
%
88

2
%
95

2
%
191

2
%
DDA overdrafts
855

%
862

%
701

%
988

%
1,805

%
Allowance for Loan Losses
$
20,575

100
%
$
18,809

100
%
$
19,409

100
%
$
18,224

100
%
$
18,541

100
%

PREVIOUSLY SECURITIZED LOANS

As of December 31, 2013, the carrying value of the remaining previously securitized loans was zero, while the actual contractual balances of these loans were $6.2 million. The Company accounted for the difference between the carrying value and the total expected cash flows of previously securitized loans as an adjustment of the yield earned on these loans over their remaining lives. The discount was accreted to income over the period during which payments were probable of collection and were reasonably estimable. During the years ended December 31, 2013, 2012 and 2011, the Company recognized $2.5 million, $3.3 million and $3.1 million, respectively, of interest income on its previously securitized loans.
  
GOODWILL
 
The Company evaluates the recoverability of goodwill and indefinite lived intangible assets annually as of November 30th, or more frequently if events or changes in circumstances warrant, such as a material adverse change in the business. Goodwill is considered to be impaired when the carrying value of a reporting unit exceeds its estimated fair value. Indefinite-lived intangible assets are considered impaired if their carrying value exceeds their estimated fair value. As described in Note One of the Notes

20


to Consolidated Financial Statements, the Company conducts its business activities through one reportable business segment – community banking. Fair values are estimated by reviewing the Company’s stock price as it compares to book value and the Company’s reported earnings.  In addition, the impact of future earnings and activities are considered in the Company’s analysis.  The Company had $71.4 million and $63.0 million of goodwill at December 31, 2013 and 2012, respectively, and no impairment was required to be recognized in 2013 or 2012 as the fair value of the Company continues to exceed its book value.
 
CERTIFICATES OF DEPOSIT
 
Scheduled maturities of time certificates of deposit of $100,000 or more outstanding at December 31, 2013, are summarized in Table Nine (in thousands). The Company has time certificates of deposit of $100,000 or more totaling $393.5 million.  These deposits are primarily small retail depositors of the bank as demonstrated by the average balance of time certificates of deposit of $100,000 or more being less than $150,000.

TABLE NINE
MATURITY DISTRIBUTION OF CERTIFICATES OF DEPOSIT OF $100,000 OR MORE
 
Amounts
Percentage
 
 
 
Three months or less
$
71,031

18
%
Over three months through six months
54,996

14
%
Over six months through twelve months
81,620

21
%
Over twelve months
185,817

47
%
Total
$
393,464

100
%

CONTRACTUAL OBLIGATIONS
 
The Company has various financial obligations that may require future cash payments according to the terms of the obligations. Demand, both noninterest- and interest-bearing, and savings deposits are, generally, payable immediately upon demand at the request of the customer. Therefore, the contractual maturity of these obligations is presented in the following table as “less than one year.” Time deposits, typically CDs, are customer deposits that are evidenced by an agreement between the Company and the customer that specify stated maturity dates and early withdrawals by the customer are subject to penalties assessed by the Company. Short-term borrowings and long-term debt represent borrowings of the Company and have stated maturity dates. The Company is not a party to any material capital or operating leases as of December 31, 2013.

TABLE TEN
CONTRACTUAL OBLIGATIONS

The composition of the Company's contractual obligations as of December 31, 2013 is presented in the following table (in thousands):
 
Contractual Maturity in
 
Less than One Year
Between One and Three Years
Between Three and Five Years
Greater than Five Years
Total
 
 
 
 
 
 
Noninterest-bearing demand deposits
$
493,228

$

$

$

$
493,228

Interest-bearing demand deposits(1)
601,553




601,553

Savings deposits(1)
612,781




612,781

Time deposits(1)
617,676

327,831

150,648

56

1,096,211

Short-term borrowings(1)
138,150




138,150

Long-term debt(1)
619

1,238

1,238

28,875

31,970

Total Contractual Obligations
$
2,464,007

$
329,069

$
151,886

$
28,931

$
2,973,893

 
(1)
Includes interest on both fixed- and variable-rate obligations. The interest associated with variable-rate obligations is based upon interest rates in effect at December 31, 2013. The contractual amounts to be paid on variable-rate obligations are affected by market interest rates that could materially affect the contractual amounts to be paid.

The Company’s liability for uncertain tax positions at December 31, 2013 was $4.7 million pursuant to ASC Topic 740.  This liability represents an estimate of tax positions that the Company has taken in its tax returns that may ultimately not be sustained upon examination by tax authorities.  As the ultimate amount and timing of any future cash settlements cannot be predicted with reasonable reliability, this estimated liability has been excluded from the contractual obligations table.
 
OFF–BALANCE SHEET ARRANGEMENTS
 
As disclosed in Note Seventeen of the Notes to Consolidated Financial Statements, the Company has also entered into agreements to extend credit or provide conditional payments pursuant to standby and commercial letters of credit. While the outstanding commitment obligation is not recorded in the Company’s financial statements, the estimated fair value, which is not material to the Company’s financial statements, of the standby letters of credit is recorded in the Company’s Consolidated Balance Sheets as of December 31, 2013 and 2012.  As a result of the Company’s off-balance sheet arrangements for 2013 and 2012, no material revenue, expenses, or cash flows were recognized.  In addition, the Company had no other indebtedness or retained interests nor entered into agreements to extend credit or provide conditional payments pursuant to standby and commercial letters of credit. While the outstanding commitment obligation is not recorded in the Company’s financial statements, the estimated fair value, which is not material to the Company’s financial statements, of the standby letters of credit is recorded in the Company’s Consolidated Balance Sheets as of December 31, 2013 and 2012.
 
CAPITAL RESOURCES
 
During 2013, Shareholders’ Equity increased $54 million, or 16.3%, from $333 million at December 31, 2012 to $388 million at December 31, 2013.  This increase was primarily due to net income of $48 million and the acquisition of Community of $29 million, partially offset by dividends declared of $24 million.




During July 2011, the Board of Directors authorized the Company to buy back up to 1,000,000 shares of its common shares in open market transactions at prices that are accretive to the earnings per share of continuing shareholders.  No time limit was placed on the duration of the share repurchase program. As of December 31, 2013, the Company may repurchase an additional 454,000 shares from time to time depending on market conditions under the authorization.

Regulatory guidelines require the Company to maintain a minimum total capital to risk-adjusted assets ratio of 8.0%, with at least one-half of capital consisting of tangible common stockholders’ equity and a minimum Tier I leverage ratio of 4.0%. Similarly, City National Bank is also required to maintain minimum capital levels as set forth by various regulatory agencies. Under capital adequacy guidelines, City National Bank is required to maintain minimum total capital, Tier I capital, and leverage ratios of 8.0%, 4.0%, and 4.0%, respectively. To be classified as “well capitalized,” City National Bank must maintain total capital, Tier I capital, and leverage ratios of 10.0%, 6.0%, and 5.0%, respectively.
 
The Company’s regulatory capital ratios for both City Holding and City National Bank are illustrated in the following table:

 
 
 
Actual
 
 
 
December 31,
 
Minimum
Capitalized
2013
2012
City Holding:
 
 
 
 
Total
8.0
%
10.0
%
13.8
%
13.9
%
Tier I Risk-based
4.0
%
6.0
%
13.0
%
13.0
%
Tier I Leverage
4.0
%
5.0
%
9.8
%
9.8
%
City National Bank:
 
 
 
 
Total
8.0
%
10.0
%
12.2
%
12.4
%
Tier I Risk-based
4.0
%
6.0
%
11.4
%
11.5
%
Tier I Leverage
4.0
%
5.0
%
8.6
%
8.7
%

As of December 31, 2013, management believes that City Holding Company, and its banking subsidiary, City National Bank, were “well capitalized.”  City Holding is subject to regulatory capital requirements administered by the Federal Reserve, while City National Bank is subject to regulatory capital requirements administered by the Office of the Comptroller of the Currency (“OCC”) and the Federal Deposit Insurance Corporation (“FDIC”).  Regulatory agencies can initiate certain mandatory actions if either City Holding or City National Bank fails to meet the minimum capital requirements, as shown above.  As of December 31, 2013, management believes that City Holding and City National Bank meet all capital adequacy requirements.
 
LEGAL ISSUES
 
The Company is engaged in various legal actions that it deems to be in the ordinary course of business. As these legal actions are resolved, the Company could realize positive and/or negative impact to its financial performance in the period in which these legal actions are ultimately decided. There can be no assurance that current actions will have immaterial results, either positive or negative, or that no material actions may be presented in the future.

RECENT ACCOUNTING PROCOUNCEMENTS AND DEVELOPMENTS
 
Note One, “Recent Accounting Pronouncements,” of the Notes to Consolidated Financial Statements discusses recently issued new accounting pronouncements and their expected impact on the Company’s consolidated financial statements.
 
REPORT ON MANAGEMENT’S ASSESSMENT OF INTERNAL CONTROL OVER FINANCIAL REPORTING

The management of City Holding Company is responsible for the preparation, integrity, and fair presentation of the consolidated financial statements included in this annual report.  The consolidated financial statements of City Holding Company have been prepared in accordance with U.S. generally accepted accounting principles and, necessarily include some amounts that are based on the best estimates and judgments of management.

The management of City Holding Company is responsible for establishing and maintaining adequate internal control over financial reporting that is designed to produce reliable financial statements in conformity with U.S. generally accepted accounting principles.  The system of internal control over financial reporting is evaluated for effectiveness by management and



tested for reliability through a program of internal audits with actions taken to correct potential deficiencies as they are identified.  Because of inherent limitations in any internal control system, no matter how well designed, misstatements due to error or fraud may occur and not be detected, including the possibility of the circumvention or overriding of controls.  Accordingly, even an effective internal control system can provide only reasonable assurance with respect to financial statement preparation.  Further, because of changes in conditions, internal control effectiveness may vary over time.

Management assessed the effectiveness of the Company's internal control over financial reporting as of December 31, 2013 based upon the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control - Integrated Framework (1992 Framework). Based on our assessment, management believes that, as of December 31, 2013, the Company's system of internal control over financial reporting is effective based on those criteria.  Ernst & Young, LLP, the Company’s independent registered public accounting firm, has issued an attestation report on the effectiveness of internal control over financial reporting. This report appears on page 24.

March 7, 2014

s/ Charles R. Hageboeck
 
/s/ David L. Bumgarner
 
Charles R. Hageboeck
 
David L. Bumgarner
 
President & Chief Executive Officer
 
Chief Financial Officer
 


23


REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM ON EFFECTIVENESS OF INTERNAL CONTROL OVER FINANCIAL REPORTING

Audit Committee of the Board of Directors and the
Shareholders of City Holding Company
 
We have audited City Holding Company’s internal control over financial reporting as of December 31, 2013, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (1992 framework) (the COSO criteria). City Holding Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Report on Management’s Assessment of Internal Control Over Financial Reporting. Our responsibility is to express an opinion on City Holding Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, City Holding Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2013, based on the COSO criteria.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets as of December 31, 2013 and 2012, and the related consolidated statements of income, comprehensive income, changes in shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2013 of City Holding Company and our report dated March 7, 2014 expressed an unqualified opinion thereon.
 

 
 
/s/ Ernst & Young LLP
Charleston, West Virginia
 
March 7, 2014
 


24


REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM ON CONSOLIDATED FINANCIAL STATEMENTS

Audit Committee of the Board of Directors and the
Shareholders of City Holding Company
 
We have audited the accompanying consolidated balance sheets of City Holding Company and subsidiaries as of December 31, 2013 and 2012, and the related consolidated statements of income, comprehensive income, changes in shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2013.  These financial statements are the responsibility of City Holding Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
 
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements.  An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
 
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of City Holding Company and subsidiaries at December 31, 2013 and 2012, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2013, in conformity with U.S. generally accepted accounting principles.
 
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), City Holding Company's internal control over financial reporting as of December 31, 2013, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (1992 framework) and our report dated March 7, 2014 expressed an unqualified opinion thereon.
 
 
/s/ Ernst & Young LLP
Charleston, West Virginia
 
March 7, 2014
 



25


PART I, ITEM 1 – FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
CITY HOLDING COMPANY AND SUBSIDIARIES
(in thousands)
 
December 31, 2013
December 31, 2012
Assets
 
 
Cash and due from banks
$
75,999

$
58,718

Interest-bearing deposits in depository institutions
9,877

16,276

Federal funds sold

10,000

          Cash and Cash Equivalents
85,876

84,994

 
 
 
Investment securities available for sale, at fair value
352,660

377,122

Investment securities held-to-maturity, at amortized cost (approximate fair value at December 31, 2013 and 2012 - $5,335 and $13,861, respectively)
4,117

13,454

Other securities
13,343

11,463

          Total Investment Securities
370,120

402,039

 
 
 
Gross loans
2,606,197

2,146,369

Allowance for loan losses
(20,575
)
(18,809
)
          Net Loans
2,585,622

2,127,560

 
 
 
Bank owned life insurance
92,047

81,901

Premises and equipment, net
82,548

72,728

Accrued interest receivable
6,866

6,692

Net deferred tax asset
42,165

32,737

Goodwill and other intangible assets
75,142

65,057

Other assets
27,852

43,758

          Total Assets
$
3,368,238

$
2,917,466

Liabilities
 
 
Deposits:
 
 
Noninterest-bearing
$
493,228

$
429,969

Interest-bearing:
 
 
Demand deposits
601,527

553,132

Savings deposits
612,772

506,869

Time deposits
1,077,606

919,346

          Total Deposits
2,785,133

2,409,316

 
 
 
Short-term borrowings:
 
 
Customer repurchase agreements
137,798

114,646

Long-term debt
16,495

16,495

Other liabilities
41,189

43,735

          Total Liabilities
2,980,615

2,584,192

 
 
 
Shareholders’ Equity
 
 
Preferred stock, par value $25 per share: 500,000 shares authorized; none issued


Common stock, par value $2.50 per share: 50,000,000 shares authorized; 18,499,282 shares issued at December 31, 2013 and December 31, 2012, less 2,748,922 and 3,665,999, shares in treasury, respectively
46,249

46,249

 
 
 

26


Capital surplus
107,596

103,524

Retained earnings
333,970

309,270

Cost of common stock in treasury
(95,202
)
(124,347
)
Accumulated other comprehensive income (loss):
 
 
Unrealized (loss) gain on securities available-for-sale