Loans and Leases

Loans and leases outstanding include the following as of the dates indicated:



	June 30, 2012		December 31, 2011		June 30, 2011
Covered loans	$	1,999,351	$	2,362,152	$	2,399,738
Noncovered loans and leases:
Commercial:
Construction and land development	329,151		381,163		407,134
Commercial mortgage	5,149,696		5,104,993		4,861,457
Other commercial real estate	162,579		144,771		148,977
Commercial and industrial	1,722,761		1,764,407		1,805,812
Lease financing	320,703		312,869		303,104
Other	140,738		158,369		170,758
Total commercial loans	7,825,628		7,866,572		7,697,242
Non-commercial:
Residential mortgage	809,230		784,118		825,610
Revolving mortgage	2,268,210		2,296,306		2,303,687
Construction and land development	127,726		137,271		145,445
Consumer	431,664		497,370		556,870
Total non-commercial loans	3,636,830		3,715,065		3,831,612
Total noncovered loans and leases	11,462,458		11,581,637		11,528,854
Total loans and leases	$	13,461,809	$	13,943,789	$	13,928,592



	June 30, 2012						December 31, 2011						June 30, 2011
	Impaired at acquisition date		All other covered loans		Total		Impaired at acquisition date		All other covered loans		Total		Impaired at acquisition date		All other covered loans		Total
Covered loans:
Commercial:
Construction and land development	$	86,056	$	186,389	$	272,445	$	117,603	$	221,270	$	338,873	$	83,844	$	254,806	$	338,650
Commercial mortgage	121,580		1,021,097		1,142,677		138,465		1,122,124		1,260,589		120,916		1,186,859		1,307,775
Other commercial real estate	29,199		86,588		115,787		33,370		125,024		158,394		35,347		138,259		173,606
Commercial and industrial	4,771		61,671		66,442		27,802		85,640		113,442		7,990		117,502		125,492
Lease financing	—		—		—		—		57		57		6		218		224
Other	—		1,228		1,228		—		1,330		1,330		—		1,675		1,675
Total commercial loans	241,606		1,356,973		1,598,579		317,240		1,555,445		1,872,685		248,103		1,699,319		1,947,422
Non-commercial:
Residential mortgage	55,585		266,468		322,053		46,130		281,438		327,568		19,635		334,398		354,033
Revolving mortgage	8,286		28,824		37,110		15,350		36,202		51,552		483		11,450		11,933
Construction and land development	31,767		7,527		39,294		78,108		27,428		105,536		42,056		40,121		82,177
Consumer	404		1,911		2,315		1,477		3,334		4,811		122		4,051		4,173
Total non-commercial loans	96,042		304,730		400,772		141,065		348,402		489,467		62,296		390,020		452,316
Total covered loans	$	337,648	$	1,661,703	$	1,999,351	$	458,305	$	1,903,847	$	2,362,152	$	310,399	$	2,089,339	$	2,399,738

At June 30, 2012, $2,451,827 in noncovered loans were pledged to secure debt obligations, compared to $2,492,644 at December 31, 2011 and $2,346,460 at June 30, 2011.

Description of segment and class risks

Each portfolio segment and the classes within those segments are subject to risks that could have an adverse impact on the credit quality of the loan and lease portfolio. Management has identified the most significant risks as described below which are generally similar among the segments and classes. While the list is not exhaustive, it provides a description of the risks that management has determined are the most significant.

Commercial loans and leases

Each commercial loan or lease is centrally underwritten based primarily upon the customer’s ability to generate the required cash flow to service the debt in accordance with the contractual terms and conditions of the loan agreement. A complete understanding of the borrower’s businesses including the experience and background of the principals is obtained prior to approval. To the extent that the loan or lease is secured by collateral, which is true for the majority of commercial loans and leases, the likely value of the collateral and what level of strength the collateral brings to the transaction is evaluated. To the extent that the principals or other parties provide personal guarantees, the relative financial strength and liquidity of each guarantor is assessed. Common risks to each class of commercial loans include general economic conditions within the markets BancShares serves, as well as risks that are specific to each transaction including demand for products and services, personal events such as disability or change in marital status, and reductions in the value of collateral. Due to the concentration of loans in the medical, dental, and related fields, BancShares is susceptible to risks that legislative and governmental actions will fundamentally alter the economic structure of the medical care industry in the United States.

In addition to these common risks for the majority of commercial loans and leases, additional risks are inherent in certain classes of commercial loans and leases.

Commercial construction and land development

Commercial construction and land development loans are highly dependent on the supply and demand for commercial real estate in the markets served by BancShares as well as the demand for newly constructed residential homes and lots that customers are developing. Continuing deterioration in demand could result in significant decreases in the underlying collateral values and make repayment of the outstanding loans more difficult for customers.

Commercial mortgage, commercial and industrial and lease financing

Commercial mortgage and commercial and industrial loans and lease financing are primarily dependent on the ability of borrowers to achieve business results consistent with those projected at loan origination resulting in cash flow sufficient to service the debt. To the extent that a customer’s business results are significantly unfavorable versus the original projections, the ability for the loan to be serviced on a basis consistent with the contractual terms may be at risk. While these loans and leases are generally secured by real property, personal property, or business assets such as inventory or accounts receivable, it is possible that the liquidation of the collateral will not fully satisfy the obligation.

Other commercial real estate

Other commercial real estate loans consist primarily of loans secured by multifamily housing and agricultural loans. The primary risk associated with multifamily loans is the ability of the income-producing property that collateralizes the loan to produce adequate cash flow to service the debt. High unemployment or generally weak economic conditions may result in customers having to provide rental rate concessions to achieve adequate occupancy rates. The performance of agricultural loans is highly dependent on favorable weather, reasonable costs for seed and fertilizer, and the ability to successfully market the product at a profitable margin. The demand for these products is also dependent on macroeconomic conditions that are beyond the control of the borrower.

Non-commercial loans

Each non-commercial loan is centrally underwritten using automated credit scoring and analysis tools. These credit scoring tools take into account factors such as payment history, credit utilization, length of credit history, types of credit currently in use, and recent credit inquiries. To the extent that the loan is secured by collateral, the likely value of that collateral is evaluated. Common risks to each class of non-commercial loans include risks that are not specific to individual transactions such as general economic conditions within the markets BancShares serves, particularly unemployment and potential declines in real estate values. Personal events such as disability or change in marital status also add risk to non-commercial loans.

In addition to these common risks for the majority of non-commercial loans, additional risks are inherent in certain classes of non-commercial loans.

Revolving mortgage

Revolving mortgage loans are often secured by second liens on residential real estate, thereby making such loans particularly susceptible to declining collateral values. A substantial decline in collateral value could render a second lien position to be effectively unsecured. Additional risks include lien perfection inaccuracies and disputes with first lienholders that may further weaken the collateral position. Further, the open-end structure of these loans creates the risk that customers may draw on the lines in excess of the collateral value if there have been significant declines since origination.

Consumer

The consumer loan portfolio includes loans secured by personal property such as automobiles, marketable securities, other titled recreational vehicles including boats and motorcycles, as well as unsecured consumer debt. The value of underlying collateral within this class is especially volatile due to potential rapid depreciation in values since date of loan origination in excess of principal repayment.

Residential mortgage and non-commercial construction and land development

Residential mortgage and non-commercial construction and land development loans are made to individuals and are typically secured by 1-4 family residential property, undeveloped land, and partially developed land in anticipation of pending construction of a personal residence. Significant and rapid declines in real estate values can result in residential mortgage loan borrowers having debt levels in excess of the current market value of the collateral. Such a decline in values has led to unprecedented levels of foreclosures and losses within the banking industry. Non-commercial construction and land development projects can experience delays in completion and cost overruns that exceed the borrower’s financial ability to complete the project. Such cost overruns can routinely result in foreclosure of partially completed and unmarketable collateral.

Covered loans

The risks associated with covered loans are generally consistent with the risks identified for commercial and non-commercial loans and the classes of loans within those segments. An additional risk with respect to covered loans relates to the FDIC loss share agreements, specifically the ability to receive timely and full reimbursement from the FDIC for losses and related expenses that are believed to be covered by the loss share agreements. Further, these loans were underwritten by other institutions with weaker lending standards. Therefore, there is a significant risk that the loans are not adequately supported by the paying capacity of the borrower or the values of underlying collateral at the time of origination.

Credit quality indicators

Loans and leases are monitored for credit quality on a recurring basis. The credit quality indicators used are dependent on the portfolio segment to which the loan relates. Commercial loans and leases, non-commercial loans and leases, and covered loans have different credit quality indicators as a result of the methods used to monitor each of these loan segments.

The credit quality indicators for commercial loans and leases and all covered loans and leases are developed through review of individual borrowers on an ongoing basis. Each borrower is evaluated at least annually with more frequent evaluation of more severely criticized loans or leases. The indicators represent the rating for loans or leases as of the date presented based on the most recent assessment performed. These credit quality indicators are defined as follows:

Pass – A pass rated asset is not adversely classified because it does not display any of the characteristics for adverse classification.

Special mention – A special mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, such potential weaknesses may result in deterioration of the repayment prospects or collateral position at some future date. Special mention assets are not adversely classified and do not warrant adverse classification.

Substandard – A substandard asset is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Assets classified as substandard generally have a well-defined weakness, or weaknesses, that jeopardize the liquidation of the debt. These assets are characterized by the distinct possibility of loss if the deficiencies are not corrected.

Doubtful – An asset classified doubtful has all the weaknesses inherent in an asset classified substandard with the added characteristic that the weaknesses make collection or liquidation in full highly questionable and improbable on the basis of currently existing facts, conditions, and values.

Loss – Assets classified loss are considered uncollectible and of such little value that their continuing to be carried as an asset is not warranted. This classification is not necessarily equivalent to no potential for recovery or salvage value, but rather that it is not appropriate to defer a full write-off even though partial recovery may be effected in the future.

Ungraded – Ungraded loans represent loans that are not included in the individual credit grading process due to their relatively small balances or borrower type. The majority of noncovered, ungraded loans at June 30, 2012 relate to business credit cards and tobacco buyout loans classified as commercial and industrial loans. Business credit card loans with an outstanding balance of $75,198 at June 30, 2012 are subject to automatic charge off when they become 120 days past due in the same manner as unsecured consumer lines of credit. Tobacco buyout loans with an outstanding balance of $42,090 at June 30, 2012 are secured by assignments of receivables made pursuant to the Fair and Equitable Tobacco Reform Act of 2004. The credit risk associated with these loans is considered low as the payments that began in 2005 and continue through 2014 are to be made by the Commodity Credit Corporation which is part of the United States Department of Agriculture.

The credit quality indicators for noncovered, non-commercial loans are based on the delinquency status of the borrower. As the borrower becomes more delinquent, the likelihood of loss increases.

The composition of the loans and leases outstanding at June 30, 2012 and December 31, 2011 and June 30, 2011 by credit quality indicator is provided below:



	Commercial noncovered loans and leases
Grade:	Construction and Land Development		Commercial Mortgage		Other Commercial Real Estate		Commercial and Industrial		Lease Financing		Other		Total Commercial Loans Not Covered by Loss Share
June 30, 2012
Pass	$	289,974	$	4,775,558	$	149,977	$	1,545,409	$	315,119	$	139,722	$	7,215,759
Special mention	10,353		221,194		6,220		23,323		2,740		257		264,087
Substandard	27,266		136,390		5,821		25,525		1,867		742		197,611
Doubtful	1,232		12,202		265		2,915		517		—		17,131
Ungraded	326		4,352		296		125,589		460		17		131,040
Total	$	329,151	$	5,149,696	$	162,579	$	1,722,761	$	320,703	$	140,738	$	7,825,628
December 31, 2011
Pass	$	332,742	$	4,749,254	$	130,586	$	1,556,651	$	306,225	$	157,089	$	7,232,547
Special mention	18,973		220,235		5,821		36,951		4,537		1,271		287,788
Substandard	28,793		129,391		7,794		28,240		2,107		—		196,325
Doubtful	17		1,164		377		643		—		—		2,201
Ungraded	638		4,949		193		141,922		—		9		147,711
Total	$	381,163	$	5,104,993	$	144,771	$	1,764,407	$	312,869	$	158,369	$	7,866,572
June 30, 2011
Pass	$	362,202	$	4,505,768	$	134,686	$	1,590,496	$	294,134	$	170,133	$	7,057,419
Special mention	11,923		229,564		8,352		38,466		5,619		602		294,526
Substandard	32,494		116,267		5,398		27,881		3,124		—		185,164
Doubtful	515		6,435		401		804		182		—		8,337
Ungraded	—		3,423		140		148,165		45		23		151,796
Total	$	407,134	$	4,861,457	$	148,977	$	1,805,812	$	303,104	$	170,758	$	7,697,242



	Non-commercial noncovered loans and leases
	Residential Mortgage		Revolving Mortgage		Construction and Land Development		Consumer		Total Non-commercial Noncovered Loans
June 30, 2012
Current	$	781,632	$	2,251,428	$	125,096	$	427,223	$	3,585,379
30-59 days past due	12,601		10,131		1,352		1,993		26,077
60-89 days past due	3,659		2,460		447		975		7,541
90 days or greater past due	11,338		4,191		831		1,473		17,833
Total	$	809,230	$	2,268,210	$	127,726	$	431,664	$	3,636,830
December 31, 2011
Current	$	757,113	$	2,286,511	$	135,774	491,142		$	3,670,540
30-59 days past due	11,790		3,437		798		3,514		19,539
60-89 days past due	2,686		2,042		127		1,271		6,126
90 days or greater past due	12,529		4,316		572		1,443		18,860
Total	$	784,118	$	2,296,306	$	137,271	$	497,370	$	3,715,065
June 30, 2011
Current	$	806,439	$	2,291,153	$	143,376	$	551,606	$	3,792,574
30-59 days past due	3,376		3,500		381		2,633		9,890
60-89 days past due	2,897		1,732		1,120		1,128		6,877
90 days or greater past due	12,898		7,302		568		1,503		22,271
Total	$	825,610	$	2,303,687	$	145,445	$	556,870	$	3,831,612



	Covered loans
Grade:	Construction and Land Development - Commercial		Commercial Mortgage		Other Commercial Real Estate		Commercial and Industrial		Lease Financing		Residential Mortgage		Revolving Mortgage		Construction and Land Development Non-commercial		Consumer and Other		Total Covered Loans
June 30, 2012
Pass	$	20,662	$	358,287	$	36,459	$	25,280	$	—	$	187,317	$	28,528	$	137	$	1,629	$	658,299
Special mention	79,987		331,659		23,293		16,969		—		16,602		1,748		2,428		267		472,953
Substandard	73,179		372,528		46,465		15,630		—		79,239		6,834		30,190		709		624,774
Doubtful	95,354		77,679		9,570		8,449		—		15,702		—		6,539		553		213,846
Ungraded	3,263		2,524		—		114		—		23,193		—		—		385		29,479
Total	$	272,445	$	1,142,677	$	115,787	$	66,442	$	—	$	322,053	$	37,110	$	39,294	$	3,543	$	1,999,351
December 31, 2011
Pass	$	29,321	$	397,526	$	49,259	$	36,409	$	57	$	189,794	$	34,164	$	4,958	$	2,393	$	743,881
Special mention	92,758		348,482		33,754		32,257		—		25,464		3,566		13,394		942		550,617
Substandard	125,158		427,996		58,351		21,914		—		70,582		9,863		72,349		1,096		787,309
Doubtful	87,936		84,871		17,030		22,862		—		13,833		3,959		14,835		982		246,308
Ungraded	3,700		1,714		—		—		—		27,895		—		—		728		34,037
Total	$	338,873	$	1,260,589	$	158,394	$	113,442	$	57	$	327,568	$	51,552	$	105,536	$	6,141	$	2,362,152
June 30, 2011
Pass	$	57,074	$	561,871	$	60,738	$	51,519	$	218	$	266,349	$	11,307	$	5,883	$	3,987	$	1,018,946
Special mention	99,051		304,731		41,616		46,944		—		25,153		143		21,654		251		539,543
Substandard	91,247		377,263		47,081		20,832		—		45,439		483		42,395		144		624,884
Doubtful	89,761		63,775		24,171		6,197		6		8,648		—		12,245		872		205,675
Ungraded	1,517		135		—		—		—		8,444		—		—		594		10,690
Total	$	338,650	$	1,307,775	$	173,606	$	125,492	$	224	$	354,033	$	11,933	$	82,177	$	5,848	$	2,399,738

The aging of the outstanding loans and leases, by class, at June 30, 2012, December 31, 2011 and June 30, 2011 (excluding loans and leases acquired with deteriorated credit quality) is provided in the table below. The calculation of days past due begins on the day after payment is due and includes all days through which all required interest or principal have not been paid. Loans and leases 30 days or less past due are considered current due to certain grace periods that allow borrowers to make payments within a stated period after the due date and still remain in compliance with the loan agreement.



	30-59 Days Past Due		60-89 Days Past Due		90 Days or Greater		Total Past Due		Current		Total Loans and Leases
June 30, 2012
Noncovered loans and leases:
Construction and land development - commercial	$	1,430	$	463	$	8,663	$	10,556	$	318,595	$	329,151
Commercial mortgage	15,830		5,171		16,832		37,833		5,111,863		5,149,696
Other commercial real estate	284		68		551		903		161,676		162,579
Commercial and industrial	2,528		882		2,153		5,563		1,717,198		1,722,761
Lease financing	305		4		530		839		319,864		320,703
Other	100		—		—		100		140,638		140,738
Residential mortgage	12,601		3,659		11,338		27,598		781,632		809,230
Revolving mortgage	10,131		2,460		4,191		16,782		2,251,428		2,268,210
Construction and land development - non-commercial	1,352		447		831		2,630		125,096		127,726
Consumer	1,993		975		1,473		4,441		427,223		431,664
Total noncovered loans and leases	$	46,554	$	14,129	$	46,562	$	107,245	$	11,355,213	$	11,462,458
December 31, 2011
Noncovered loans and leases:
Construction and land development - commercial	$	2,623	$	1,494	$	2,177	$	6,294	$	374,869	$	381,163
Commercial mortgage	18,308		4,438		15,626		38,372		5,066,621		5,104,993
Other commercial real estate	657		147		561		1,365		143,406		144,771
Commercial and industrial	5,235		1,230		1,438		7,903		1,756,504		1,764,407
Lease financing	637		212		620		1,469		311,400		312,869
Other	—		—		—		—		158,369		158,369
Residential mortgage	11,790		2,686		12,529		27,005		757,113		784,118
Revolving mortgage	3,437		2,042		4,316		9,795		2,286,511		2,296,306
Construction and land development - non-commercial	798		127		572		1,497		135,774		137,271
Consumer	3,514		1,271		1,443		6,228		491,142		497,370
Total noncovered loans and leases	$	46,999	$	13,647	$	39,282	$	99,928	$	11,481,709	$	11,581,637
June 30, 2011
Noncovered loans and leases:
Construction and land development - commercial	$	876	$	763	$	3,150	$	4,789	$	402,345	$	407,134
Commercial mortgage	12,985		5,580		21,467		40,032		4,821,425		4,861,457
Other commercial real estate	270		54		586		910		148,067		148,977
Commercial and industrial	3,102		909		2,402		6,413		1,799,399		1,805,812
Lease financing	337		82		359		778		302,326		303,104
Other	—		—		—		—		170,758		170,758
Residential mortgage	3,376		2,897		12,898		19,171		806,439		825,610
Revolving mortgage	3,500		1,732		7,302		12,534		2,291,153		2,303,687
Construction and land development - non-commercial	381		1,120		568		2,069		143,376		145,445
Consumer	2,633		1,128		1,503		5,264		551,606		556,870
Total noncovered loans and leases	$	27,460	$	14,265	$	50,235	$	91,960	$	11,436,894	$	11,528,854

The recorded investment, by class, in loans and leases on nonaccrual status and loans and leases greater than 90 days past due and still accruing at June 30, 2012, December 31, 2011, and June 30, 2011 (excluding loans and leases acquired with deteriorated credit quality) is as follows:



	June 30, 2012				December 31, 2011				June 30, 2011
	Nonaccrual loans and leases		Loans and leases > 90 days and accruing		Nonaccrual loans and leases		Loans and leases > 90 days and accruing		Nonaccrual loans and leases		Loans and leases > 90 days and accruing
Noncovered loans and leases:
Construction and land development - commercial	$	8,602	$	449	$	15,102	$	313	$	24,675	$	78
Commercial mortgage	38,044		3,279		23,748		3,107		30,960		2,757
Commercial and industrial	9,166		323		1,864		320		2,408		588
Lease financing	651		13		200		554		605		28
Other commercial real estate	578		186		1,170		—		847		1
Construction and land development - non-commercial	741		535		—		572		49		519
Residential mortgage	11,232		2,807		10,657		4,227		13,897		2,462
Revolving mortgage	—		4,182		—		4,306		—		7,282
Consumer	392		1,133		—		1,441		—		1,493
Total noncovered loans and leases	$	69,406	$	12,907	$	52,741	$	14,840	$	73,441	$	15,208

Acquired Loans

When the fair values of covered loans were established, certain loans were identified as impaired. The following table provides changes in the carrying value of acquired loans during the six months ended June 30, 2012 and 2011:



	2012						2011
	Impaired at acquisition date			All other acquired loans			Impaired as acquisition date			All other acquired loans
Balance, January 1	$	458,305		$	1,903,847		$	330,705		$	1,676,747
Fair value of acquired loans covered by loss share agreements	—			—			99,344			660,007
Reductions for repayments, foreclosures and changes in fair value	(120,657		)	(242,144		)	(119,650		)	(247,415		)
Balance, June 30	$	337,648		$	1,661,703		$	310,399		$	2,089,339
Outstanding principal balance at June 30	$	1,156,145		$	2,293,228		$	1,100,257		$	2,937,273

Analyses of the timing and amounts of cash flows were prepared at the acquisition dates for all acquired loans deemed impaired at acquisition (except loans acquired in the Venture Bank (VB) and Temecula Valley Bank (TVB) transactions) and those analyses are used to determine the amount of accretable yield recognized on those loans. Subsequent changes in cash flow estimates result in changes to the amount of accretable yield to be recognized. The timing of cash flows for nonperforming loans acquired in the VB and TVB transactions were not estimated due to relative unfamiliarity with the markets in which the collateral was located, inexperience with the type of borrowers, and general uncertainty of the time required for disposition of the assets. These factors were alleviated to a large degree in later transactions where prior experience provided the ability to make reasonable estimates as to the timing of future cash flows.

The cost recovery method is being applied for the nonperforming loans acquired from the TVB and VB transactions unless cash flow estimates in the later periods indicated subsequent improvement that would lead to the recognition of accretable yield. The cost recovery method is also being applied to loans from other transactions where the timing of the cash flows is no longer reasonably estimable due to subsequent nonperformance by the borrower or uncertainty in the ultimate disposition of the asset. The remaining carrying value of loans on the cost recovery method was $166,138 at June 30, 2012, $200,819 at December 31, 2011 and $249,724 at June 30, 2011.

The following table documents changes to the amount of accretable yield for the first six months of 2012 and 2011. For acquired loans, improved cash flow estimates and receipt of unscheduled loan payments result in the reclassification of nonaccretable difference to accretable yield.



	2012			2011
Balance, January 1	$	276,690		$	164,586
Additions	—			53,426
Accretion	(125,791		)	(122,755		)
Reclassifications from nonaccretable difference	186,908			60,452
Balance, June 30	$	337,807		$	155,709