NOTE E - ALLOWANCE FOR LOAN AND LEASE LOSSES (ALLL)

During the third quarter of 2018, BancShares (“the Company”) enhanced its allowance for loan and lease losses (“ALLL”) methodology. Specifically, the Company updated its credit quality indicators used in the ALLL estimation to aggregate credit quality by borrower classification code and add a facility risk rating which provides additional granularity of risks by collateral type. The enhancement to the ALLL is part of the Company’s planned transition to a dual risk grading process which will be implemented during the fourth quarter of 2018. Significant growth in the Company’s loan portfolios, both organically and through acquisitions, is prompting the need to enhance the credit grading process and provide additional granularity in assessing credit risks. This change in estimate resulted in an immaterial impact to the financial statements, which is reflected in the Allowance for loan and lease losses and Provision for loan and lease losses.

The following tables present the activity in the ALLL for non-PCI loan and lease losses by loan class for the three and nine months ended September 30, 2018 and September 30, 2017:



	Three months ended September 30, 2018
(Dollars in thousands)	Construction and land development - commercial			Commercial mortgage			Other commercial real estate			Commercial and industrial			Lease financing			Other			Residential mortgage			Revolving mortgage			Construction and land development - non- commercial			Consumer			Total
Non-PCI Loans
Allowance for loan and lease losses:
Balance at July 1	$	23,664		$	44,465		$	3,823		$	57,330		$	3,981		$	4,691		$	17,802		$	21,886		$	4,027		$	30,773		$	212,442
Provision	8,702			(2,870		)	(1,219		)	(9,271		)	4,011			(2,404		)	(1,828		)	465			(1,203		)	7,971			2,354
Charge-offs	(35		)	(606		)	—			(1,256		)	(850		)	(56		)	(360		)	(759		)	—			(5,525		)	(9,447		)
Recoveries	136			99			1			494			3			117			128			712			—			1,249			2,939
Balance at September 30	$	32,467		$	41,088		$	2,605		$	47,297		$	7,145		$	2,348		$	15,742		$	22,304		$	2,824		$	34,468		$	208,288

	Three months ended September 30, 2017
(Dollars in thousands)	Construction and land development - commercial			Commercial mortgage			Other commercial real estate			Commercial and industrial			Lease financing			Other			Residential mortgage			Revolving mortgage			Construction and land development - non- commercial			Consumer			Total
Balance at July 1	$	33,559		$	49,746		$	3,612		$	51,068		$	6,404		$	3,302		$	15,843		$	22,465		$	1,503		$	27,800		$	215,302
Provision	(5,150		)	(71		)	891			5,621			884			58			531			842			92			4,785			8,483
Charge-offs	(9		)	(39		)	—			(1,275		)	(687		)	(666		)	(604		)	(218		)	—			(4,996		)	(8,494		)
Recoveries	56			1,446			8			433			3			123			92			228			—			1,203			3,592
Balance at September 30	$	28,456		$	51,082		$	4,511		$	55,847		$	6,604		$	2,817		$	15,862		$	23,317		$	1,595		$	28,792		$	218,883

	Nine months ended September 30, 2018
(Dollars in thousands)	Construction and land development - commercial			Commercial mortgage			Other commercial real estate			Commercial and industrial			Lease financing			Other			Residential mortgage			Revolving mortgage			Construction and land development - non- commercial			Consumer			Total
Balance at January 1	$	24,470		$	45,005		$	4,571		$	53,697		$	6,127		$	4,689		$	15,706		$	22,436		$	3,962		$	31,204		$	211,867
Provision	7,788			(3,369		)	(2,044		)	(4,026		)	3,119			(2,403		)	1,176			1,220			(1,046		)	15,468			15,883
Charge-offs	(43		)	(1,111		)	(69		)	(4,725		)	(2,149		)	(98		)	(1,455		)	(2,778		)	(219		)	(16,092		)	(28,739		)
Recoveries	252			563			147			2,351			48			160			315			1,426			127			3,888			9,277
Balance at September 30	$	32,467		$	41,088		$	2,605		$	47,297		$	7,145		$	2,348		$	15,742		$	22,304		$	2,824		$	34,468		$	208,288

	Nine months ended September 30, 2017
(Dollars in thousands)	Construction and land development - commercial			Commercial mortgage			Other commercial real estate			Commercial and industrial			Lease financing			Other			Residential mortgage			Revolving mortgage			Construction and land development - non- commercial			Consumer			Total
Balance at January 1	$	28,877		$	48,278		$	3,269		$	50,225		$	5,907		$	3,127		$	14,447		$	21,013		$	1,596		$	28,287		$	205,026
Provision	(242		)	574			1,228			10,181			1,645			299			2,037			2,446			(1		)	11,144			29,311
Charge-offs	(499		)	(311		)	(5		)	(7,649		)	(957		)	(853		)	(1,076		)	(1,323		)	—			(14,015		)	(26,688		)
Recoveries	320			2,541			19			3,090			9			244			454			1,181			—			3,376			11,234
Balance at September 30	$	28,456		$	51,082		$	4,511		$	55,847		$	6,604		$	2,817		$	15,862		$	23,317		$	1,595		$	28,792		$	218,883

The following tables present the allowance for non-PCI loan and lease losses and the recorded investment in loans, by loan class, based on impairment method as of September 30, 2018 and December 31, 2017:



	September 30, 2018
(Dollars in thousands)	Construction and land development - commercial		Commercial mortgage		Other commercial real estate		Commercial and industrial		Lease financing		Other		Residential mortgage		Revolving mortgage		Construction and land development - non-commercial		Consumer		Total
Allowance for loan and lease losses:
ALLL for loans and leases individually evaluated for impairment	$	296	$	2,983	$	46	$	1,133	$	135	$	18	$	2,791	$	2,759	$	501	$	763	$	11,425
ALLL for loans and leases collectively evaluated for impairment	32,171		38,105		2,559		46,164		7,010		2,330		12,951		19,545		2,323		33,705		196,863
Total allowance for loan and lease losses	$	32,467	$	41,088	$	2,605	$	47,297	$	7,145	$	2,348	$	15,742	$	22,304	$	2,824	$	34,468	$	208,288

Loans and leases:
Loans and leases individually evaluated for impairment	$	2,175	$	63,412	$	929	$	9,048	$	1,042	$	241	$	42,617	$	28,089	$	4,236	$	2,887	$	154,676
Loans and leases collectively evaluated for impairment	677,028		10,422,960		470,603		3,180,289		615,909		296,747		4,030,618		2,542,007		237,200		1,620,292		24,093,653
Total loan and leases	$	679,203	$	10,486,372	$	471,532	$	3,189,337	$	616,951	$	296,988	$	4,073,235	$	2,570,096	$	241,436	$	1,623,179	$	24,248,329

	December 31, 2017
(Dollars in thousands)	Construction and land development - commercial		Commercial mortgage		Other commercial real estate		Commercial and industrial		Lease financing		Other		Residential mortgage		Revolving mortgage		Construction and land development - non-commercial		Consumer		Total
Allowance for loan and lease losses:
ALLL for loans and leases individually evaluated for impairment	$	185	$	3,648	$	209	$	665	$	397	$	—	$	2,733	$	1,085	$	68	$	738	$	9,728
ALLL for loans and leases collectively evaluated for impairment	24,285		41,357		4,362		53,032		5,730		4,689		12,973		21,351		3,894		30,466		202,139
Total allowance for loan and lease losses	$	24,470	$	45,005	$	4,571	$	53,697	$	6,127	$	4,689	$	15,706	$	22,436	$	3,962	$	31,204	$	211,867

Loans and leases:
Loans and leases individually evaluated for impairment	$	788	$	73,655	$	1,857	$	7,974	$	1,914	$	521	$	37,842	$	23,770	$	4,551	$	2,774	$	155,646
Loans and leases collectively evaluated for impairment	668,427		9,655,367		471,576		2,722,433		892,887		301,655		3,485,944		2,677,755		243,738		1,558,399		22,678,181
Total loan and leases	$	669,215	$	9,729,022	$	473,433	$	2,730,407	$	894,801	$	302,176	$	3,523,786	$	2,701,525	$	248,289	$	1,561,173	$	22,833,827

The following tables show the activity in the allowance for PCI loan losses for the three and nine months ended September 30, 2018 and September 30, 2017.



(Dollars in thousands)	Three months ended September 30, 2018			Three months ended September 30, 2017
PCI Loans
Allowance for loan and lease losses:
Balance at July 1	$	12,423		$	13,496
Provision	(1,514		)	(537		)
Charge-offs	—			—
Recoveries	—			—
Balance at September 30	$	10,909		$	12,959

	Nine months ended September 30, 2018			Nine months ended September 30, 2017
Balance at January 1	$	10,026		$	13,769
Provision	1,000			(810		)
Charge-offs	(117		)	—
Recoveries	—			—
Balance at September 30	$	10,909		$	12,959

The following table shows the ending balances of PCI loans and related allowance as of September 30, 2018 and December 31, 2017:



(Dollars in thousands)	September 30, 2018		December 31, 2017
ALLL for loans acquired with deteriorated credit quality	$	10,909	$	10,026
Loans acquired with deteriorated credit quality	638,018		762,998

As of September 30, 2018 and December 31, 2017, $190.8 million and $279.8 million, respectively, in PCI loans experienced an adverse change in expected cash flows since the date of acquisition.

The following tables provide information on non-PCI impaired loans and leases individually evaluated as of September 30, 2018 and December 31, 2017.



	September 30, 2018
(Dollars in thousands)	With a recorded allowance		With no recorded allowance		Total		Unpaid principal balance		Related allowance recorded
Non-PCI impaired loans and leases:
Construction and land development - commercial	$	2,175	$	—	$	2,175	$	2,600	$	296
Commercial mortgage	34,860		28,552		63,412		70,501		2,983
Other commercial real estate	199		730		929		1,104		46
Commercial and industrial	6,573		2,475		9,048		14,050		1,133
Lease financing	755		287		1,042		1,894		135
Other	241		—		241		246		18
Residential mortgage	40,128		2,489		42,617		45,528		2,791
Revolving mortgage	24,953		3,136		28,089		30,463		2,759
Construction and land development - noncommercial	4,236		—		4,236		4,527		501
Consumer	2,799		88		2,887		3,198		763
Total non-PCI impaired loans and leases	$	116,919	$	37,757	$	154,676	$	174,111	$	11,425

	December 31, 2017
(Dollars in thousands)	With a recorded allowance		With no recorded allowance		Total		Unpaid principal balance		Related allowance recorded
Non-PCI impaired loans and leases:
Construction and land development - commercial	$	788	$	—	$	788	$	1,110	$	185
Commercial mortgage	39,135		34,520		73,655		78,936		3,648
Other commercial real estate	1,351		506		1,857		2,267		209
Commercial and industrial	6,326		1,648		7,974		10,475		665
Lease financing	1,890		24		1,914		2,571		397
Other	—		521		521		521		—
Residential mortgage	19,135		18,707		37,842		39,946		2,733
Revolving mortgage	5,875		17,895		23,770		25,941		1,085
Construction and land development - noncommercial	592		3,959		4,551		5,224		68
Consumer	2,107		667		2,774		3,043		738
Total non-PCI impaired loans and leases	$	77,199	$	78,447	$	155,646	$	170,034	$	9,728

Non-PCI impaired loans less than $500,000 that are collectively evaluated were $43.8 million and $49.1 million at September 30, 2018 and December 31, 2017, respectively.

The following tables show the average non-PCI impaired loan balance and the interest income recognized by loan class for the three and nine months ended September 30, 2018 and September 30, 2017:



	Three months ended September 30, 2018				Three months ended September 30, 2017
(Dollars in thousands)	Average balance		Interest income recognized		Average balance		Interest income recognized
Non-PCI impaired loans and leases:
Construction and land development - commercial	$	2,101	$	27	$	754	$	8
Commercial mortgage	63,752		583		73,099		653
Other commercial real estate	950		10		1,720		8
Commercial and industrial	8,278		83		9,501		96
Lease financing	1,032		9		1,752		12
Other	205		1		557		8
Residential mortgage	42,601		330		31,290		228
Revolving mortgage	27,503		234		18,066		150
Construction and land development - noncommercial	3,190		42		3,676		35
Consumer	2,769		31		2,233		27
Total non-PCI impaired loans and leases	$	152,381	$	1,350	$	142,648	$	1,225

	Nine months ended September 30, 2018				Nine months ended September 30, 2017
(Dollars in thousands)	Average balance		Interest income recognized		Average balance		Interest income recognized
Non-PCI impaired loans and leases:
Construction and land development - commercial	$	1,580	$	55	$	926	$	31
Commercial mortgage	68,043		1,953		74,177		1,946
Other commercial real estate	1,336		33		1,610		25
Commercial and industrial	7,796		235		10,396		298
Lease financing	1,704		34		1,744		40
Other	90		1		396		15
Residential mortgage	41,124		903		33,673		753
Revolving mortgage	26,228		657		11,506		269
Construction and land development - noncommercial	3,607		134		3,155		101
Consumer	2,644		87		2,062		74
Total non-PCI impaired loans and leases	$	154,152	$	4,092	$	139,645	$	3,552

Troubled Debt Restructurings

BancShares accounts for certain loan modifications or restructurings as troubled debt restructurings (TDRs). In general, the modification or restructuring of a loan is considered a TDR if, for economic reasons or legal reasons related to a borrower's financial difficulties, a concession is granted to the borrower that creditors would not otherwise consider. Concessions may relate to the contractual interest rate, maturity date, payment structure or other actions. The majority of TDRs are included in the special mention, substandard or doubtful credit quality indicators, which results in more elevated loss expectations when projecting the expected cash flows that are used to determine the allowance for loan losses associated with these loans. The lower the credit quality indicator, the lower the estimated expected cash flows and the greater the allowance recorded. All TDRs are individually evaluated for impairment through review of collateral values or analysis of cash flows at least annually.

The following table provides a summary of total TDRs by accrual status. Total TDRs included $18.4 million of PCI TDRs at both September 30, 2018 and December 31, 2017.



	September 30, 2018						December 31, 2017
(Dollars in thousands)	Accruing		Nonaccruing		Total		Accruing		Nonaccruing		Total
Commercial loans
Construction and land development - commercial	$	2,020	$	330	$	2,350	$	4,089	$	483	$	4,572
Commercial mortgage	55,362		12,302		67,664		62,358		15,863		78,221
Other commercial real estate	899		30		929		1,012		788		1,800
Commercial and industrial	7,762		1,557		9,319		7,598		910		8,508
Lease financing	628		319		947		722		1,048		1,770
Other	119		123		242		521		—		521
Total commercial TDRs	66,790		14,661		81,451		76,300		19,092		95,392
Noncommercial
Residential mortgage	38,169		8,723		46,892		34,067		9,475		43,542
Revolving mortgage	20,577		7,340		27,917		17,673		5,180		22,853
Construction and land development - noncommercial	2,673		151		2,824		—		—		—
Consumer and other	2,402		485		2,887		2,351		423		2,774
Total noncommercial TDRs	63,821		16,699		80,520		54,091		15,078		69,169
Total TDRs	$	130,611	$	31,360	$	161,971	$	130,391	$	34,170	$	164,561

The following table provides the types of TDRs made during the three and nine months ended September 30, 2018 and September 30, 2017, as well as a summary of loans that were modified as a TDR during the twelve month periods ended September 30, 2018 and September 30, 2017 that subsequently defaulted during the three and nine months ended September 30, 2018 and September 30, 2017. BancShares defines payment default as movement of the TDR to nonaccrual status, which is generally 90 days past due for TDRs, foreclosure or charge-off, whichever occurs first.



	Three months ended September 30, 2018						Three months ended September 30, 2017
	All restructurings			Restructurings with payment default			All restructurings			Restructurings with payment default
(Dollars in thousands)	Number of Loans	Recorded investment at period end		Number of Loans	Recorded investment at period end		Number of Loans	Recorded investment at period end		Number of Loans	Recorded investment at period end
Loans and leases
Interest only	1	$	300	—	$	—	3	$	696	—	$	—
Loan term extension	9	2,565		2	327		6	156		—	—
Below market interest rate	56	7,109		32	2,832		63	6,859		27	1,956
Discharged from bankruptcy	38	1,833		16	607		43	5,469		40	2,315
Total restructurings	104	$	11,807	50	$	3,766	115	$	13,180	67	$	4,271



	Nine months ended September 30, 2018						Nine months ended September 30, 2017
	All restructurings			Restructurings with payment default			All restructurings			Restructurings with payment default
(Dollars in thousands)	Number of Loans	Recorded investment at period end		Number of Loans	Recorded investment at period end		Number of Loans	Recorded investment at period end		Number of Loans	Recorded investment at period end
Loans and leases
Interest only	3	$	1,136	2	$	836	6	$	1,180	1	$	328
Loan term extension	32	4,414		9	943		31	2,787		1	31
Below market interest rate	211	24,245		82	6,098		238	19,526		75	5,332
Discharged from bankruptcy	139	7,360		69	3,595		151	9,681		78	4,802
Total restructurings	385	$	37,155	162	$	11,472	426	$	33,174	155	$	10,493

For the three and nine months ended September 30, 2018 and September 30, 2017, the pre-modification and post-modification outstanding recorded investments of loans modified as TDRs were not materially different.