Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

x      QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended: June 30, 2012

 

o         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from              to             

 

Commission File Number: 000-51584

 

 

BERKSHIRE HILLS BANCORP, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

04-3510455

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

 

 

 

24 North Street, Pittsfield, Massachusetts

 

01201

(Address of principal executive offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code: (413) 443-5601

 

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

 

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

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.  (Check one)

 

Large Accelerated Filer o

 

Accelerated Filer x

 

 

 

Non-Accelerated Filer o

 

Smaller Reporting Company o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act) Yes o  No x

 

The Registrant had 22,208,105 shares of common stock, par value $0.01 per share, outstanding as of August 3, 2012.

 

 

 



Table of Contents

 

BERKSHIRE HILLS BANCORP, INC.

FORM 10-Q

 

INDEX

 

 

 

Page

 

 

 

PART I.

FINANCIAL INFORMATION

 

 

 

 

Item 1.

Consolidated Financial Statements (unaudited)

 

 

 

 

 

Consolidated Balance Sheets as of June 30, 2012 and December 31, 2011

4

 

 

 

 

Consolidated Statements of Income for the Three and Six Months Ended June 30, 2012 and 2011

5

 

 

 

 

Consolidated Statements of Comprehensive Income for the Six Months Ended June 30, 2012 and 2011

6

 

 

 

 

Consolidated Statements of Changes in Stockholders’ Equity for the Six Months Ended June 30, 2012 and 2011

7

 

 

 

 

Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2012 and 2011

8

 

 

 

 

Notes to Consolidated Financial Statements

9

 

Note 1

Basis of Presentation

9

 

Note 2

Recent Accounting Pronouncements

9

 

Note 3

Acquisitions

11

 

Note 4

Trading Account Security

15

 

Note 5

Securities Available for Sale and Held to Maturity

16

 

Note 6

Loans

20

 

Note 7

Deposits

36

 

Note 8

Stockholders’ Equity

37

 

Note 9

Earnings per Share

38

 

Note 10

Stock-Based Compensation Plans

38

 

Note 11

Operating Segments

39

 

Note 12

Derivative Financial Instruments and Hedging Activities

40

 

Note 13

Fair Value Measurements

44

 

Note 14

Net Interest Income after Provision for Loan Losses

50

 

Note 15

Subsequent Events

50

 

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

50

 

 

 

 

Selected Financial Data

55

 

 

 

 

Average Balances and Average Yields/Rates

57

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

65

 

 

 

Item 4.

Controls and Procedures

66

 

 

 

PART II.

OTHER INFORMATION

 

 

 

 

Item 1.

Legal Proceedings

67

 

2



Table of Contents

 

Item 1A.

Risk Factors

67

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

68

 

 

 

Item 3.

Defaults Upon Senior Securities

68

 

 

 

Item 4.

Mine Safety Disclosures

68

 

 

 

Item 5.

Other Information

68

 

 

 

Item 6.

Exhibits

68

 

 

 

Signatures

 

70

 

3



Table of Contents

 

PART I

ITEM 1.  CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

BERKSHIRE HILLS BANCORP, INC.

CONSOLIDATED BALANCE SHEETS

 

 

 

June 30,

 

December 31,

 

(In thousands, except share data)

 

2012

 

2011

 

Assets

 

 

 

 

 

Cash and due from banks

 

$

44,696

 

$

46,713

 

Short-term investments

 

21,790

 

28,646

 

Total cash and cash equivalents

 

66,486

 

75,359

 

 

 

 

 

 

 

Trading security

 

17,365

 

17,395

 

Securities available for sale, at fair value

 

471,368

 

419,756

 

Securities held to maturity (fair values of $43,285 and $60,395)

 

41,822

 

58,912

 

Federal Home Loan Bank stock and other restricted securities

 

37,174

 

37,118

 

Total securities

 

567,729

 

533,181

 

 

 

 

 

 

 

Loans held for sale

 

59,280

 

1,455

 

 

 

 

 

 

 

Residential mortgages

 

1,193,447

 

1,020,435

 

Commercial mortgages

 

1,281,058

 

1,156,241

 

Commercial business loans

 

519,684

 

410,292

 

Consumer loans

 

371,430

 

369,602

 

Total loans

 

3,365,619

 

2,956,570

 

Less: Allowance for loan losses

 

(32,868

)

(32,444

)

Net loans

 

3,332,751

 

2,924,126

 

 

 

 

 

 

 

Premises and equipment, net

 

68,569

 

60,139

 

Other real estate owned

 

827

 

1,900

 

Goodwill

 

220,360

 

202,391

 

Other intangible assets

 

19,505

 

20,973

 

Cash surrender value of bank-owned life insurance policies

 

76,290

 

75,009

 

Other assets

 

95,926

 

91,309

 

Assets from discontinued operations

 

 

5,362

 

Total assets

 

$

4,507,723

 

$

3,991,204

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

Demand deposits

 

$

535,472

 

$

447,414

 

NOW deposits

 

298,236

 

272,204

 

Money market deposits

 

1,158,562

 

1,055,306

 

Savings deposits

 

371,668

 

350,517

 

Time deposits

 

1,045,767

 

975,734

 

Total deposits

 

3,409,705

 

3,101,175

 

Short-term debt

 

239,030

 

10,000

 

Long-term Federal Home Loan Bank advances

 

213,497

 

211,938

 

Junior subordinated debentures

 

15,464

 

15,464

 

Total borrowings

 

467,991

 

237,402

 

Other liabilities

 

46,757

 

43,758

 

Liabilities from discontinued operations

 

 

55,504

 

Total liabilities

 

3,924,453

 

3,437,839

 

 

 

 

 

 

 

Stockholders’ equity

 

 

 

 

 

Common stock ($.01 par value; 50,000,000 shares authorized and 23,824,972 shares issued and 22,169,157 shares outstanding in 2012; 22,860,368 shares issued and 21,147,736 shares outstanding in 2011)

 

238

 

229

 

Additional paid-in capital

 

516,183

 

494,304

 

Unearned compensation

 

(3,200

)

(2,790

)

Retained earnings

 

115,871

 

109,477

 

Accumulated other comprehensive loss

 

(4,336

)

(4,885

)

Treasury stock, at cost (1,655,815 shares in 2012 and 1,712,632 shares in 2011)

 

(41,486

)

(42,970

)

Total stockholders’ equity

 

583,270

 

553,365

 

Total liabilities and stockholders’ equity

 

$

4,507,723

 

$

3,991,204

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

4



Table of Contents

 

BERKSHIRE HILLS BANCORP, INC.

CONSOLIDATED STATEMENTS OF INCOME

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

(In thousands, except per share data)

 

2012

 

2011

 

2012

 

2011

 

Interest and dividend income

 

 

 

 

 

 

 

 

 

Loans

 

$

38,787

 

$

28,607

 

$

73,838

 

$

53,213

 

Securities and other

 

3,869

 

3,446

 

7,490

 

6,753

 

Total interest and dividend income

 

42,656

 

32,053

 

81,328

 

59,966

 

Interest expense

 

 

 

 

 

 

 

 

 

Deposits

 

5,482

 

5,768

 

10,984

 

11,483

 

Borrowings and junior subordinated debentures

 

2,121

 

2,084

 

4,146

 

4,136

 

Total interest expense

 

7,603

 

7,852

 

15,130

 

15,619

 

Net interest income

 

35,053

 

24,201

 

66,198

 

44,347

 

Non-interest income

 

 

 

 

 

 

 

 

 

Loan related fees

 

3,524

 

780

 

4,897

 

1,371

 

Deposit related fees

 

3,963

 

3,366

 

7,463

 

5,907

 

Insurance commissions and fees

 

2,768

 

2,782

 

5,514

 

6,512

 

Wealth management fees

 

1,757

 

1,389

 

3,657

 

2,581

 

Total fee income

 

12,012

 

8,317

 

21,531

 

16,371

 

Other

 

269

 

(277

)

510

 

(197

)

Gain on borrowings

 

 

124

 

42

 

124

 

Gain on sale of securities, net

 

7

 

6

 

7

 

6

 

Total non-interest income

 

12,288

 

8,170

 

22,090

 

16,304

 

Total net revenue

 

47,341

 

32,371

 

88,288

 

60,651

 

Provision for loan losses

 

2,250

 

1,500

 

4,250

 

3,100

 

Non-interest expense

 

 

 

 

 

 

 

 

 

Compensation and benefits

 

15,638

 

12,027

 

29,227

 

23,178

 

Occupancy and equipment

 

4,490

 

3,546

 

8,885

 

6,981

 

Technology and communications

 

2,258

 

1,531

 

4,216

 

2,997

 

Marketing and promotion

 

778

 

341

 

1,129

 

622

 

Professional services

 

1,493

 

1,216

 

2,858

 

2,148

 

FDIC premiums and assessments

 

870

 

741

 

1,551

 

1,768

 

Other real estate owned and foreclosures

 

(6

)

700

 

173

 

1,309

 

Amortization of intangible assets

 

1,357

 

935

 

2,668

 

1,651

 

Merger, acquisition and conversion related expenses

 

4,085

 

5,451

 

8,308

 

7,159

 

Other

 

3,221

 

2,135

 

5,363

 

3,999

 

Total non-interest expense

 

34,184

 

28,623

 

64,378

 

51,812

 

 

 

 

 

 

 

 

 

 

 

Income from continuing operations before income taxes

 

10,907

 

2,248

 

19,660

 

5,739

 

Income tax expense

 

2,921

 

371

 

5,193

 

1,027

 

Net income from continuing operations

 

7,986

 

1,877

 

14,467

 

4,712

 

Loss from discontinued operations before income taxes (including gain on disposal of $63)

 

 

 

(261

)

 

Income tax expense

 

 

 

376

 

 

Net loss from discontinued operations

 

 

 

(637

)

 

Net income

 

$

7,986

 

$

1,877

 

$

13,830

 

$

4,712

 

 

 

 

 

 

 

 

 

 

 

Basic and diluted earnings per share:

 

 

 

 

 

 

 

 

 

Continuing operations

 

$

0.37

 

$

0.11

 

$

0.68

 

$

0.31

 

Discontinued operations

 

 

 

(0.03

)

 

Total basic and diluted earnings per share

 

$

0.37

 

$

0.11

 

$

0.65

 

$

0.31

 

 

 

 

 

 

 

 

 

 

 

Weighted average common shares outstanding:

 

 

 

 

 

 

 

 

 

Basic

 

21,742

 

16,580

 

21,349

 

15,269

 

Diluted

 

21,806

 

16,601

 

21,434

 

15,299

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

5



Table of Contents

 

BERKSHIRE HILLS BANCORP, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

(In thousands)

 

2012

 

2011

 

2012

 

2011

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

7,986

 

$

1,877

 

$

13,830

 

$

4,712

 

Other comprehensive income

 

 

 

 

 

 

 

 

 

Changes in unrealized gainson securities available-for-sale

 

1,394

 

878

 

2,687

 

1,894

 

Changes in unrealized (losses) gains on derivative hedges

 

(2,488

)

(816

)

(2,204

)

436

 

Changes in unrealized gains on terminated swaps

 

235

 

235

 

471

 

471

 

Changes in unrealized losses on pension

 

(257

)

 

(257

)

 

Income taxes related to other comprehensive income

 

672

 

(103

)

(148

)

(1,085

)

Total other comprehensive (loss) income

 

(444

)

194

 

549

 

1,716

 

Total comprehensive income

 

$

7,542

 

$

2,071

 

$

14,379

 

$

6,428

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

6



Table of Contents

 

BERKSHIRE HILLS BANCORP, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated

 

 

 

 

 

 

 

 

 

 

 

Additional

 

 

 

 

 

other 

 

 

 

 

 

 

 

Common stock

 

paid-in

 

Unearned

 

Retained

 

comprehensive

 

Treasury

 

 

 

(In thousands)

 

Shares

 

Amount

 

capital

 

compensation

 

earnings

 

loss

 

stock

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at December 31, 2010

 

14,076

 

$

158

 

$

337,537

 

$

(1,776

)

$

103,972

 

$

(6,410

)

$

(44,834

)

$

388,647

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

4,712

 

 

 

4,712

 

Other comprehensive income

 

 

 

 

 

 

1,716

 

 

1,716

 

Total comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

6,428

 

Acquisition of Rome Bancorp, Inc.

 

2,661

 

27

 

55,463

 

 

 

 

 

55,490

 

Rome ESOP loan repayment

 

(44

)

 

 

 

 

 

(943

)

(943

)

Cash dividends declared ($0.32 per share)

 

 

 

 

 

(4,930

)

 

 

(4,930

)

Forfeited shares

 

(21

)

 

33

 

426

 

 

 

(459

)

 

Exercise of stock options

 

13

 

 

 

 

(112

)

 

326

 

214

 

Restricted stock grants

 

59

 

 

(242

)

(1,261

)

 

 

1,503

 

 

Stock-based compensation

 

 

 

2

 

471

 

 

 

 

473

 

Net tax expense related to stock-based compensation

 

 

 

66

 

 

 

 

 

66

 

Other, net

 

(23

)

 

 

 

 

 

(475

)

(475

)

Balance at June 30, 2011

 

16,721

 

$

185

 

$

392,859

 

$

(2,140

)

$

103,642

 

$

(4,694

)

$

(44,882

)

$

444,970

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at December 31, 2011

 

21,148

 

$

229

 

$

494,304

 

$

(2,790

)

$

109,477

 

$

(4,885

)

$

(42,970

)

$

553,365

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

 

 

 

 

13,830

 

 

 

13,830

 

Other comprehensive income

 

 

 

 

 

 

549

 

 

549

 

Total comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

14,379

 

Acquisition of The Connecticut Bank and Trust Company

 

965

 

9

 

21,981

 

 

 

 

 

21,990

 

Cash dividends declared ($0.34 per share)

 

 

 

 

 

(7,372

)

 

 

(7,372

)

Forfeited shares

 

(8

)

 

11

 

169

 

 

 

(180

)

 

Exercise of stock options

 

13

 

 

 

 

(64

)

 

335

 

271

 

Restricted stock grants

 

64

 

 

(148

)

(1,476

)

 

 

1,624

 

 

Stock-based compensation

 

 

 

 

897

 

 

 

 

897

 

Net tax benefit related to stock-based compensation

 

 

 

35

 

 

 

 

 

35

 

Other, net

 

(13

)

 

 

 

 

 

(295

)

(295

)

Balance at June 30, 2012

 

22,169

 

$

238

 

$

516,183

 

$

(3,200

)

$

115,871

 

$

(4,336

)

$

(41,486

)

$

583,270

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

7



Table of Contents

 

BERKSHIRE HILLS BANCORP, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

 

 

 

Six Months Ended June 30,

 

(In thousands)

 

2012

 

2011

 

Cash flows from operating activities:

 

 

 

 

 

Net income

 

$

13,830

 

$

4,712

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Provision for loan losses

 

4,250

 

3,100

 

Net amortization of securities

 

986

 

595

 

Change in unamortized net loan costs and premiums

 

(461

)

475

 

Premises depreciation and amortization expense

 

2,921

 

2,159

 

Write down of other real estate owned

 

 

1,200

 

Stock-based compensation expense

 

895

 

473

 

(Accretion)/Amortization of purchase accounting entries

 

(3,541

)

(468

)

Amortization of other intangibles

 

2,668

 

1,651

 

Excess tax loss from stock-based payment arrangements

 

(35

)

 

Income from cash surrender value of bank-owned life insurance policies

 

(1,281

)

(872

)

Gain on sales of securities, net

 

(48

)

(253

)

Net (increase) decrease in loans held for sale

 

(9,561

)

1,043

 

Loss on disposition of assets

 

1,527

 

 

Loss on sale of other real estate

 

28

 

104

 

Net change in other

 

3,925

 

2,792

 

Net cash provided by operating activities

 

16,103

 

16,711

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Net decrease in trading security

 

240

 

130

 

Proceeds from sales of securities available for sale

 

32,440

 

3,525

 

Proceeds from maturities, calls and prepayments of securities available for sale

 

47,006

 

70,196

 

Purchases of securities available for sale

 

(89,843

)

(68,360

)

Proceeds from maturities, calls and prepayments of securities held to maturity

 

25,775

 

6,058

 

Purchases of securities held to maturity

 

(8,685

)

(4,683

)

Net change in loans

 

(200,668

)

(55,391

)

Net cash used for Divestiture

 

(48,890

)

 

Proceeds from sale of Federal Home Loan Bank stock

 

1,861

 

3,571

 

Proceeds from sale of other real estate

 

1,872

 

382

 

Acquisitions, net of cash paid

 

(58,150

)

10,849

 

Purchase of premises and equipment, net

 

(11,604

)

(2,907

)

Net cash (used) by investing activities

 

(308,646

)

(36,630

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Net increase in deposits

 

98,609

 

51,984

 

Proceeds from Federal Home Loan Bank advances and other borrowings

 

231,595

 

105,480

 

Repayments of Federal Home Loan Bank advances and other borrowings

 

(39,891

)

(135,118

)

Net proceeds from reissuance of treasury stock

 

271

 

214

 

Excess tax loss from stock based payment arrangements

 

35

 

66

 

Common stock cash dividends paid

 

(7,372

)

(4,930

)

Net cash provided by financing activities

 

283,247

 

17,696

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

(9,296

)

(2,223

)

Cash and cash equivalents at beginning of period

 

75,782

 

44,140

 

Cash and cash equivalents at end of period

 

$

66,486

 

$

41,917

 

 

 

 

 

 

 

Supplemental cash flow information:

 

 

 

 

 

Interest paid on deposits

 

10,984

 

11,536

 

Interest paid on borrowed funds

 

4,146

 

4,045

 

Income taxes (refunded) paid, net

 

(965

)

55

 

Acquisition of non-cash assets and liabilities:

 

 

 

 

 

Assets acquired

 

342,786

 

322,305

 

Liabilities assumed

 

(253,155

)

(259,524

)

Rome stock owned by the Company

 

 

668

 

Other non-cash changes:

 

 

 

 

 

Other net comprehensive income

 

549

 

1,716

 

Real estate owned acquired in settlement of loans

 

(320

)

 

 

The accompanying notes are an integral part of these consolidated financial statements.

Note: The Consolidated Statements of Cash Flows for the six months ended June 30, 2012 and the cash and cash equivalents at beginning of period includes the cash flows from activities associated with discontinued operations.

 

8



Table of Contents

 

NOTE 1.                BASIS OF PRESENTATION

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) and contain all adjustments, consisting solely of normal, recurring adjustments, necessary for a fair statement of results for such periods.

 

In addition, these interim financial statements have been prepared in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X, and accordingly, certain information and footnote disclosures normally included in financial statements prepared according to U.S. GAAP have been omitted.

 

The results for any interim period are not necessarily indicative of results for the full year.  These consolidated financial statements should be read in conjunction with the audited financial statements and note disclosures for Berkshire Hills Bancorp, Inc. (the “Company”) previously filed with the Securities and Exchange Commission in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011.

 

Election of the use of the Fair Value Option

 

In connection with the Company’s purchase of Greenpark Mortgage Corporation (“Greenpark”) as described in Note 3, the Company elected the applicable accounting guidance for the fair value option as it relates to loans held for sale (“HFS”).  This election allows for a more effective matching of the fair value changes that flow through earnings from the interest rate lock commitment (“IRLC”) stage to the funded HFS loan stage, and forward commitments used to economically hedge the changes in fair value of the IRLC and HFS loans.  The election was applied on a prospective basis starting with all HFS loans originated after April 30, 2012.  See Note 13 for the HFS loans fair value recorded in the Company’s Consolidated Balance Sheet and unrealized gain recorded in the Company’s Consolidated Statement of Income as of and for the period ended June 30, 2012.

 

Out of Period Adjustments

 

For the three months and six months ended June 30, 2012, the Company recorded a correction of an immaterial error relating to prior years that increased net income by $0.5 million and $0.7 million, respectively. The correction represents a prior period tax related over-accrual.  While these adjustments were noteworthy for the quarter, after evaluating the quantitative and qualitative aspects of these adjustments, the Company concluded that its prior period financial statements were not materially misstated and, therefore, no restatement was required.

 

NOTE 2.                RECENT ACCOUNTING PRONOUNCEMENTS

 

ASU No. 2011-04, “Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs.”  In May 2011, the FASB issued ASU 2011-04 to provide a consistent definition of fair value and common requirements for the measurement of and disclosure about fair value between U.S. GAAP and International Financial Reporting Standards (“IFRS”). The changes to U.S. GAAP as a result of ASU No. 2011-04 are as follows: (1) The concepts of highest and best use and valuation premise are only relevant when measuring the fair value of nonfinancial assets; (2) U.S. GAAP currently prohibits application of a blockage factor in valuing financial instruments with quoted prices in active markets. ASU No. 2011-04 extends that prohibition to all fair value measurements; (3) An exception is provided to the basic fair value measurement principles for an entity that holds a group of financial assets and financial liabilities with offsetting positions in market risks or counterparty credit risk that are managed on the basis of the entity’s net exposure to either of those risks. This exception allows the entity, if certain criteria are met, to measure the fair value of the net asset or liability position in a manner consistent with how market participants would price the net risk position; (4) The fair value measurement of instruments classified within an entity’s shareholders’ equity is aligned with the guidance for liabilities; and (5) Disclosure requirements have been enhanced for Level 3 fair value measurements to disclose quantitative information about unobservable inputs and assumptions used, to describe the valuation processes used by the entity, and to qualitatively describe the sensitivity of fair value measurements to changes in unobservable inputs and the interrelationships between those inputs. In addition, entities must report the level in the fair value hierarchy of items that are not measured at fair value in the statement of condition but whose fair value must be disclosed. The Company adopted the provisions of ASU No. 2011-04 effective January 1, 2012.

 

9



Table of Contents

 

The fair value measurement provisions of ASU No. 2011-04 had no impact on the Company’s financial statements.  The required disclosures are incorporated in Note 14 to the Company’s financial statements.

 

ASU 2011-05, “Comprehensive Income (Topic 220) - Presentation of Comprehensive Income.” ASU 2011-05 amends Topic 220, “Comprehensive Income,” to require that all non-owner changes in stockholders’ equity be presented in either a single continuous statement of comprehensive income or in two separate but consecutive statements. Additionally, ASU 2011-05 requires entities to present, on the face of the financial statements, reclassification adjustments for items that are reclassified from other comprehensive income to net income in the statement or statements where the components of net income and the components of other comprehensive income are presented. The option to present components of other comprehensive income as part of the statement of changes in stockholders’ equity was eliminated. ASU 2011-05 is effective for annual and interim periods beginning after December 15, 2011; however, certain provisions related to the presentation of reclassification adjustments have been deferred by ASU 2011-12 “Comprehensive Income (Topic 220) - Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05,” as further discussed below.  The Company adopted the new guidance by reporting the components of comprehensive income in two separate but consecutive statements.

 

ASU No. 2011-08, “Testing Goodwill for Impairment”. In September 2011, the FASB issued ASU 2011-08 which will allow an entity to first assess qualitative factors to determine whether it is necessary to perform the two-step quantitative goodwill impairment test. Under these amendments, an entity would not be required to calculate the fair value of a reporting unit unless the entity determines, based on a qualitative assessment, that it is more likely than not that its fair value is less than its carrying amount . The guidance is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011, with early adoption permitted.  In July 2012, the FASB issued ASU 2012-02 that amends ASU 2011-08 to simplify how entities test indefinite-lived intangible assets other than goodwill for impairment.  After an assessment of certain qualitative factors, if it is determined to be more likely than not that an indefinite-lived asset is impaired, entities must perform the quantitative impairment test.  Otherwise, the quantitative test is optional.  ASU 2012-02 is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption permitted.  The adoption of this guidance is not expected to have a significant impact on the Company’s financial statements.

 

ASU 2011-11, “Balance Sheet (Topic 210) - “Disclosures about Offsetting Assets and Liabilities.” ASU 2011-11 amends Topic 210, “Balance Sheet,” to require an entity to disclose both gross and net information about financial instruments, such as sales and repurchase agreements and reverse sale and repurchase agreements and securities borrowing/lending arrangements, and derivative instruments that are eligible for offset in the statement of financial position and/or subject to a master netting arrangement or similar agreement. ASU 2011-11 is effective for annual and interim periods beginning on January 1, 2013, and is limited to matters of presentation with no impact expected on the Company’s financial statements.

 

ASU 2011-12 “Comprehensive Income (Topic 220) - Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05.” ASU 2011-12 defers changes in ASU No. 2011-05 that relate to the presentation of reclassification adjustments to allow the FASB time to redeliberate whether to require presentation of such adjustments on the face of the financial statements to show the effects of reclassifications out of accumulated other comprehensive income on the components of net income and other comprehensive income. ASU 2011-12 allows entities to continue to report reclassifications out of accumulated other comprehensive income consistent with the presentation requirements in effect before ASU No. 2011-05. All other requirements in ASU No. 2011-05 are not affected by ASU No. 2011-12. ASU 2011-12 is effective for annual and interim periods beginning after December 15, 2011. The required disclosures required are incorporated in Note 8 and do not have a significant impact on the Company’s financial statements.

 

10



Table of Contents

 

NOTE 3.                ACQUISITIONS

 

The Connecticut Bank and Trust Company

 

On April 20, 2012, the Company acquired all of the outstanding common shares of The Connecticut Bank and Trust Company (“CBT”). CBT operated eight banking offices serving the Greater Hartford area and was merged with and into Berkshire Bank, a wholly owned subsidiary of the Company.  This business combination is an extension of the Berkshire franchise and the goodwill recognized results from the expected synergies and earnings accretion from this combination, including future cost savings related to CBT’s operations.    The combination was negotiated between the companies and was approved unanimously by their boards of directors.

 

CBT shareholders received 965 thousand shares of the Company common stock and $9.0 million in cash.  On the acquisition date, CBT had 3.617 million outstanding common shares.  Through a cash/share election procedure, the Company paid $8.25 per share for 30% of the outstanding common shares.  For 70% of the outstanding shares, the Company exchanged its stock in a ratio of 0.381 shares of the Company’s common stock for each share of CBT stock.  The 965 thousand shares of Company common stock issued in this exchange were valued at $22.80 per share based on its closing price on April 19, 2012.  Berkshire paid $0.2 million in cash consideration to settle all outstanding CBT options.  The Company issued no new Berkshire options in connection with the merger.

 

As of April 20, 2012, CBT had assets with a carrying value of approximately $268.8 million, including loans outstanding with a carrying value of approximately $215.8 million, as well as deposits with a carrying value of approximately $209.7 million. The results of CBT’s operations are included in the Consolidated Statement of Income from the date of acquisition. As part of the acquisition, the Company repurchased and retired from the United States Department of Treasury (“Treasury”) each share of Fixed Rate Non-Cumulative Perpetual Preferred Stock, Series A, of CBT stock issued and outstanding for $5.4 million and the outstanding warrant issued to the Treasury to purchase CBT common stock for $0.8 million.

 

The assets and liabilities in the CBT acquisition were recorded at their fair value based on management’s best estimate using information available at the date of acquisition.  Consideration paid, and fair values of CBT’s assets acquired and liabilities assumed as of April 20, 2012 are summarized in the following table:

 

Consideration Paid:

 

 

 

Berkshire Hills Bancorp common stock issued to CBT common stockholders

 

$

21,992

 

Cash consideration paid to CBT common shareholders

 

8,952

 

Repurchase of CBT’s preferred stock and warrant

 

6,290

 

Cash consideration paid for CBT employee stock options

 

150

 

Total consideration paid

 

$

37,384

 

 

Recognized Amounts of Identifiable Assets Aquired and
(Liabilities Assumed), At Fair Value:

 

As Acquired

 

Fair Value
Adjustments

 

As Recorded at
Acquisition

 

Cash and short term investments

 

$

10,568

 

$

 

$

10,567

 

Investment securities

 

41,428

 

(46

)(a)

41,382

 

Loans

 

215,773

 

(6,181

)(b)

209,592

 

Premises and equipment

 

1,393

 

 

1,393

 

Core deposit intangibles

 

 

 

1,200

(c)

1,200

 

Other intangibles

 

 

(238

)(d)

(238

)

Other assets

 

3,081

 

7,795

(e)

10,877

 

Deposits

 

(209,707

)

(428

)(f)

(210,135

)

Borrowings

 

(35,865

)

(3,020

)(g)

(38,885

)

Other liabilities

 

(1,978

)

(209

)(h)

(2,187

)

Total identifiable net assets

 

$

24,693

 

$

(1,127

)

$

23,566

 

 

 

 

 

 

 

 

 

Goodwill

 

 

 

 

 

$

13,818

 

 

11



Table of Contents

 


Explanation of Certain Fair Value Adjustments

(a)          The adjustment represents the write down of the book value of investments to their estimated fair value based on fair values on the date of acquisition.

(b)         The adjustment represents the write down of the book value of loans to their estimated fair value based on current interest rates and expected cash flows, which includes an estimate of expected loan loss inherent in the portfolio.  Loans that met the criteria and are being accounted for in accordance with ASC 310-30 had a carrying amount of $15.3 million.  Non-impaired loans not accounted for under 310-30 had a carrying value of $194.2 million.

(c)          The adjustment represents the value of the core deposit base assumed in the acquisition.  The core deposit asset was recorded as an identifiable intangible asset and will be amortized over the average life of the deposit base.

(d)         The adjustment represents an intangible liability related to assumed leases, which was recorded as an identifiable intangible and will be amortized over the remaining life of the leases.

(e)          This amount primarily consists of adjustments in the net deferred tax assets resulting from the fair value adjustments related to the acquired assets and liabilities, identifiable intangibles, and other deferred tax items including recognition of a $4.8 million deferred tax asset related to operating losses, which CBT had a full valuation allowance against.

(f)            The adjustment is necessary because the weighted average interest rate of deposits exceeded the cost of similar funding at the time of acquisition.

(g)         The adjustment represents a write up of the book value of borrowings to their estimated fair value calculated based on interest rates of similar borrowings available on the date of acquisition.

(h)         The adjustment represents a write up of the book value of other liabilities to their estimated fair value at the acquisition date.

 

Except for collateral dependent loans with deteriorated credit quality, the fair values for loans acquired from CBT were estimated using cash flow projections based on the remaining maturity and repricing terms.  Cash flows were adjusted by estimating future credit losses and the rate of prepayments.  Projected monthly cash flows were then discounted to present value using a risk-adjusted market rate for similar loans.  To estimate the fair value of collateral dependent loans with deteriorated credit quality, we analyzed the value of the underlying collateral of the loans, assuming the fair values of the loans were derived from the eventual sale of the collateral.  We discounted those values using market derived rates of return, with consideration given to the period of time and costs associated with the foreclosure and disposition of the collateral.  There was no carryover of CBT’s allowance for credit losses associated with the loans that were acquired as the loans were initially recorded at fair value.

 

Information about the acquired loan portfolio subject to ASC 310-30 as of April 20, 2012 is as follows (in thousands):

 

 

 

ASC 310-30 Loans

 

Contractually required principal and interest at acquisition

 

$

23,726

 

Contractual cash flows not expected to be collected (nonaccretable discount)

 

(5,563

)

Expected cash flows at acquisition

 

18,163

 

Interest component of expected cash flows (accretable discount)

 

(2,816

)

Fair value of acquired loans

 

$

15,347

 

 

The core deposit intangible asset recognized as part of the CBT merger is being amortized over its estimated useful life of approximately eight years utilizing an accelerated method.  Other intangibles consist of leasehold intangible liabilities, which are amortized over the life of each respective lease using a straight-line method.

 

The goodwill, which is not amortized for book purposes, was assigned to our banking segment and is not deductible for tax purposes.

 

The fair value of savings and transaction deposit accounts acquired from CBT was assumed to approximate the carrying value as these accounts have no stated maturity and are payable on demand.  The fair value of time deposits was estimated by discounting the contractual future cash flows using market rates offered for time deposits of similar remaining maturities.  The fair value of borrowed funds was estimated by discounting the future cash flows using market rates for similar borrowings.

 

12



Table of Contents

 

Direct merger and acquisition integration-related costs related to the CBT acquisition were expensed as incurred and totaled $2.7 million for the first six months of 2012, and none in 2011.

 

Greenpark Mortgage Corporation

 

On April 30, 2012, Berkshire Bank acquired the operations, and purchased certain assets and assumed certain limited liabilities of Greenpark Mortgage Corporation (“Greenpark”), as contemplated by the Asset Purchase Agreement dated February 2, 2012, by and between Berkshire Bank and Greenpark.  The purchase of Greenpark’s operations increases the Company’s consumer lending capabilities, and expands the Company’s geographical footprint into eastern Massachusetts along with broadening its sources of fee-based income.

 

The purchase price for Greenpark’s operations was $4.0 million, but additional consideration of $0.1 million was paid for certain prepaid assets.  $46.5 million was paid to retire outstanding bank loans, recently originated loans, along with $2.8 million in premiums on those loans representing the sellers’ income on those loans had they been sold prior to April 30, 2012.  Additionally, a $1.1 million liability was recorded for contingent consideration representing the fair value of earn-out payments to the sellers of Greenpark over a five year period of time after the purchase date.  While the earn-out payments are based on production of loan originations, which can vary from year to year, management calculated an expected range of $0.2 million to $0.3 million in annual payments using the Black Scholes model to estimate the fair value of the contingent liability.  Direct acquisition and integration costs of Greenpark’s operations were expensed as incurred, and totaled $0.3 million during the first six months of 2012.  The results of Greenpark’s operations are included in the Consolidated Statements of Income from the date of acquisition.

 

The assets and liabilities in the Greenpark transaction were recorded at their fair value based on management’s best estimate using information available at the date of purchase.  The Greenpark transaction is an asset purchase for legal purposes, which limits the Company’s exposure to the assumption of liabilities as defined in the purchase agreement, and to any potential unknown liabilities that result from operations that occur subsequent to the purchase date.  The transaction is also considered an asset purchase for tax purposes, which results in a step-up in tax basis of assets acquired and liabilities assumed along with tax deductible goodwill.  For book purposes, the Company will account for the transaction as a business combination in accordance with applicable accounting guidance, as it represents an acquisition of a business with a distinct set of inputs and processes to produce outputs.  The goodwill, representing the excess of consideration paid over the net fair value of assets and liabilities acquired, is not amortized for book purposes, and is assigned to our banking segment.

 

The assets and liabilities in the Greenpark transaction were recorded at their fair value based on management’s best estimate using information available at the date of acquisition.  Consideration paid, and fair values of Greenpark’s assets acquired and liabilities assumed, are summarized in the following table:

 

Consideration Paid:

 

 

 

Cash purchase price

 

$

4,000

 

Cash paid for certain prepaid assets

 

58

 

Payoff of Greenpark’s lines of credit

 

46,496

 

Premiums paid for loans, and loan commitments

 

2,770

 

Contingent purchase price

 

1,087

 

Total consideration paid

 

54,411

 

 

 

 

 

Recognized Amounts of Identifiable Assets Aquired and (Liabilities Assumed), At Fair Value:

 

 

 

Loans held for sale

 

48,408

(a)

Other assets

 

2,621

(b)

Premises and equipment

 

98

(c)

Other liabilities

 

(862

)(d)

Total identifiable net assets

 

50,265

 

 

 

 

 

Goodwill

 

$

4,146

 

 

13



Table of Contents

 


Explanation of Certain Fair Values

(a)          Includes a portion of the cash consideration paid for premiums as described above, which adjusts the loans to fair value.

(b)         Represents the fair value of the acquired derivative associated with commitments to originate loans at a specified locked-rate (“interest rate lock commitments”).

(c)          Represents the fair value of certain acquired office equipment.

(d)         Consists of forward contracts acquired at fair value, which serves to hedge the movements in fair value of the interest rate lock commitments.

 

The adjustment of loans from Greenpark’s carrying value of $46.5 million to fair value of $48.4 million represents a portion of the cash consideration paid for premiums as described above.

 

The following table presents selected unaudited pro forma financial information reflecting the CBT and Greenpark transactions assuming they were completed as of January 1, 2011.   The unaudited pro forma financial information is presented for illustrative purposes only and is not necessarily indicative of the financial results of the combined companies had these acquisitions actually been completed at the beginning of the periods presented, nor does it indicate future results for any other interim or full-year period.   Pro forma basic and diluted earnings per common share were calculated using Berkshire’s actual weighted-average shares outstanding for the periods presented, plus the incremental shares issued, assuming the CBT and Greenpark transactions occurred at the beginning of the periods presented.    The unaudited pro forma information is based on the actual financial statements of Berkshire for the periods shown, and on the actual financial statements of CBT and Greenpark for the 2011 period shown and in 2012 until the date of acquisition, at which time their operations became included in Berkshire’s financial statements.

 

The unaudited pro forma information, for the six months ended June 30, 2012 and 2011, set forth below reflects adjustments related to (a) purchase accounting fair value adjustments; (b) amortization of core deposit and other intangibles; and (c) adjustments to interest income and expense due to investment sales and additional borrowings as a result of the CBT and Greenpark transactions.  Direct merger and acquisition integration-related costs incurred by the Company during 2012 are reversed, as those expenses are assumed to have occurred prior to 2011.  Furthermore, the unaudited pro forma information does not reflect management’s estimate of any revenue-enhancing opportunities or anticipated cost savings.

 

Information in the following table is shown in thousands, except earnings per share:

 

 

 

Pro Forma

 

 

 

Six months ended June 30,

 

 

 

2012

 

2011

 

 

 

 

 

 

 

Net interest income

 

$

69,958

 

$

50,753

 

Non-interest income

 

30,892

 

25,421

 

Net income

 

13,984

 

6,451

 

 

 

 

 

 

 

Pro forma earnings per share from continuing operations:

 

 

 

 

 

Basic

 

$

0.68

 

$

0.40

 

Diluted

 

$

0.68

 

$

0.40

 

 

On May 31, 2012, the Company entered into a merger agreement with Beacon Federal Bancorp, Inc. (“Beacon Federal”), the parent company of Beacon Federal (“Beacon Bank”), pursuant to which Beacon Federal will merge with and into the Company in a transaction to be accounted for as a business combination. It is expected that Beacon Bank will also merge with and into Berkshire Bank.  Located in East Syracuse, New York, Beacon Federal had $1 billion in total assets at March 31, 2012 (unaudited) and, through Beacon Bank, operates 7 banking offices providing a range of banking services in New York, Massachusetts, and Tennessee.

 

Under the terms of this merger agreement, 50% of the outstanding shares of Beacon Federal common stock will be converted into the right to receive 0.9200 of a share of Company common stock and the remaining 50% of outstanding shares of Beacon Federal common stock will be exchanged for $20.50 in cash.

 

14



Table of Contents

 

The transaction is subject to closing conditions, including the receipt of regulatory approvals and approval by the shareholders of Beacon Federal. The merger is currently expected to be completed in the fourth quarter of 2012.  If the merger is not consummated under specified circumstances, Beacon Federal has agreed to pay the Company a termination fee of $5.28 million.

 

The Company incurred $0.4 million of merger and acquisition expenses related to the Beacon Federal merger for the six months ended June 30, 2012.

 

NOTE 4.                TRADING ACCOUNT SECURITY

 

The Company holds a tax advantaged economic development bond that is being accounted for at fair value. The security had an amortized cost of $13.9 million and $14.1 million, and a fair value of $17.4 million and $17.4 million, at June 30, 2012 and December 31, 2011, respectively. As discussed further in Note 13 - Derivative Financial Instruments and Hedging Activities, the Company has entered into a swap contract to swap-out the fixed rate of the security in exchange for a variable rate. The Company does not purchase securities with the intent of selling them in the near term, and there are no other securities in the trading portfolio at June 30, 2012.

 

15



Table of Contents

 

NOTE 5. SECURITIES AVAILABLE FOR SALE AND HELD TO MATURITY

 

The following is a summary of securities available for sale and held to maturity:

 

(In thousands)

 

Amortized Cost

 

Gross
Unrealized
Gains

 

Gross
Unrealized
Losses

 

Fair Value

 

June 30, 2012

 

 

 

 

 

 

 

 

 

Securities available for sale

 

 

 

 

 

 

 

 

 

Debt securities:

 

 

 

 

 

 

 

 

 

Municipal bonds and obligations

 

$

73,801

 

$

5,136

 

$

(29

)

$

78,908

 

Government guaranteed residential mortgage-backed securities

 

43,225

 

826

 

 

44,051

 

Government-sponsored residential mortgage-backed securities

 

287,191

 

2,773

 

(329

)

289,635

 

Corporate bonds

 

9,997

 

 

(431

)

9,566

 

Trust preferred securities

 

20,008

 

701

 

(2,239

)

18,470

 

Other bonds and obligations

 

738

 

1

 

 

739

 

Total debt securities

 

434,960

 

9,437

 

(3,028

)

441,369

 

Equity securities:

 

 

 

 

 

 

 

 

 

Marketable equity securities

 

27,422

 

2,954

 

(377

)

29,999

 

Total securities available for sale

 

462,382

 

12,391

 

(3,405

)

471,368

 

 

 

 

 

 

 

 

 

 

 

Securities held to maturity

 

 

 

 

 

 

 

 

 

Municipal bonds and obligations

 

7,400

 

 

 

7,400

 

Government-sponsored residential mortgage-backed securities

 

77

 

7

 

 

84

 

Tax advantaged economic development bonds

 

33,732

 

1,456

 

 

35,188

 

Other bonds and obligations

 

613

 

 

 

613

 

Total securities held to maturity

 

41,822

 

1,463

 

 

43,285

 

 

 

 

 

 

 

 

 

 

 

Total Securities

 

$

504,204

 

$

13,854

 

$

(3,405

)

$

514,653

 

 

 

 

 

 

 

 

 

 

 

December 31, 2011

 

 

 

 

 

 

 

 

 

Securities available for sale

 

 

 

 

 

 

 

 

 

Debt securities:

 

 

 

 

 

 

 

 

 

Municipal bonds and obligations

 

$

73,436

 

$

4,418

 

$

 

$

77,854

 

Government guaranteed residential mortgage-backed securities

 

44,051

 

1,045

 

 

45,096

 

Government-sponsored residential mortgage-backed securities

 

245,033

 

2,990

 

(412

)

247,611

 

Corporate bonds

 

9,996

 

 

(269

)

9,727

 

Trust preferred securities

 

20,064

 

343

 

(2,592

)

17,815

 

Other bonds and obligations

 

642

 

2

 

 

644

 

Total debt securities

 

393,222

 

8,798

 

(3,273

)

398,747

 

Equity securities:

 

 

 

 

 

 

 

 

 

Marketable equity securities

 

20,236

 

1,555

 

(782

)

21,009

 

Total securities available for sale

 

413,458

 

10,353

 

(4,055

)

419,756

 

 

 

 

 

 

 

 

 

 

 

Securities held to maturity

 

 

 

 

 

 

 

 

 

Municipal bonds and obligations

 

10,349

 

 

 

10,349

 

Government-sponsored residential mortgage-backed securities

 

79

 

4

 

 

83

 

Tax advantaged economic development bonds

 

47,869

 

1,479

 

 

49,348

 

Other bonds and obligations

 

615

 

 

 

615

 

Total securities held to maturity

 

58,912

 

1,483

 

 

60,395

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

472,370

 

$

11,836

 

$

(4,055

)

$

480,151

 

 

16



Table of Contents

 

The amortized cost and estimated fair value of available for sale (“AFS”) and held to maturity (“HTM”) securities, segregated by contractual maturity at June 30, 2012 are presented below.  Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations.  Mortgage-backed securities are shown in total, as their maturities are highly variable.  Equity securities have no maturity and are also shown in total.

 

 

 

Available for sale

 

Held to maturity

 

 

 

Amortized

 

Fair

 

Amortized

 

Fair

 

(In thousands)

 

Cost

 

Value

 

Cost

 

Value

 

 

 

 

 

 

 

 

 

 

 

Within 1 year

 

$

 

$

 

$

3,677

 

$

3,677

 

Over 1 year to 5 years

 

9,949

 

9,733

 

3,725

 

3,790

 

Over 5 years to 10 years

 

15,518

 

16,087

 

16,033

 

17,103

 

Over 10 years

 

79,077

 

81,863

 

18,310

 

18,631

 

Total bonds and obligations

 

104,544

 

107,683

 

41,745

 

43,201

 

Marketable equity securities

 

27,422

 

29,999

 

 

 

Residential mortgage-backed securities

 

330,416

 

333,686

 

77

 

84

 

Total

 

$

462,382

 

$

471,368

 

$

41,822

 

$

43,285

 

 

17



Table of Contents

 

Securities with unrealized losses, segregated by the duration of their continuous unrealized loss positions, are summarized as follows:

 

 

 

Less Than Twelve Months

 

Over Twelve Months

 

Total

 

 

 

Gross

 

 

 

Gross

 

 

 

Gross

 

 

 

 

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

Unrealized

 

Fair

 

(In thousands)

 

Losses

 

Value

 

Losses

 

Value

 

Losses

 

Value

 

June 30, 2012

 

 

 

 

 

 

 

 

 

 

 

 

 

Securities available for sale

 

 

 

 

 

 

 

 

 

 

 

 

 

Debt securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

Municipal bonds and obligations

 

$

29

 

$

2,325

 

$

 

$

 

$

29

 

$

2,325

 

Government-guaranteed residential mortgage-backed securities

 

24

 

10,165

 

 

 

24

 

10,165

 

Government-sponsored residential mortgage-backed securities

 

274

 

88,650

 

31

 

5,866

 

305

 

94,516

 

Corporate bonds

 

 

 

431

 

9,566

 

431

 

9,566

 

Trust preferred securities

 

 

 

2,239

 

3,395

 

2,239

 

3,395

 

Total debt securities

 

327

 

101,140

 

2,701

 

18,827

 

3,028

 

119,967

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Marketable equity securities

 

143

 

7,484

 

234

 

1,765

 

377

 

9,249

 

Total securities available for sale

 

470

 

108,624

 

2,935

 

20,592

 

3,405

 

129,216

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Securities held to maturity

 

 

 

 

 

 

 

 

 

 

 

 

 

Tax advantaged economic development bonds

 

 

 

 

 

 

 

Total securities held to maturity

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

470

 

$

108,624

 

$

2,935

 

$

20,592

 

$

3,405

 

$

129,216

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Securities available for sale

 

 

 

 

 

 

 

 

 

 

 

 

 

Debt securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

Government guaranteed residential mortgage-backed securities

 

$

1

 

$

48

 

$

 

$

 

$

1

 

$

48

 

Government-sponsored residential mortgage-backed securities

 

375

 

76,278

 

36

 

5,766

 

411

 

82,044

 

Corporate bonds

 

224

 

6,776

 

45

 

2,951

 

269

 

9,727

 

Trust preferred securities

 

20

 

2,541

 

2,572

 

3,065

 

2,592

 

5,606

 

Total debt securities

 

620

 

85,643

 

2,653

 

11,782

 

3,273

 

97,425

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Marketable equity securities

 

782

 

6,229

 

 

 

782

 

6,229

 

Total securities available for sale

 

$

1,402

 

$

91,872

 

$

2,653

 

$

11,782

 

$

4,055

 

$

103,654

 

 

Debt Securities

 

The Company expects to recover its amortized cost basis on all debt securities in its AFS and HTM portfolios. Furthermore, the Company does not intend to sell nor does it anticipate that it will be required to sell any of its securities in an unrealized loss position as of June 30, 2012, prior to this recovery. The Company’s ability and intent to hold these securities until recovery is supported by the Company’s strong capital and liquidity positions as well as its historically low portfolio turnover. The following summarizes, by investment security type, the basis for the conclusion that the debt securities in an unrealized loss position within the Company’s AFS and HTM portfolios were not other-than-temporarily impaired at June 30, 2012:

 

AFS municipal bonds and obligations

 

At June 30, 2012, 3 out of a total of 128 securities in the Company’s portfolio of AFS municipal bonds and obligations were in unrealized loss positions. The aggregate unrealized losses represented 1% of the amortized cost of the securities in unrealized loss positions. The Company has the intent to hold these securities until recovery. There were no material underlying credit downgrades during the past quarter. All securities are considered performing.

 

18



Table of Contents

 

AFS residential mortgage-backed securities

 

At June 30, 2012, 18 out of a total of 167 securities in the Company’s portfolios of AFS residential mortgage-backed were in unrealized loss positions. Aggregate unrealized losses represented less than 1% of the amortized cost of securities in unrealized loss positions within the AFS portfolio. The Federal National Mortgage Association (“FNMA”), Federal Home Loan Mortgage Corporation (“FHLMC”) and Government National Mortgage Association (“GNMA”) guarantee the contractual cash flows of all of the Company’s residential mortgage-backed securities. The securities are investment grade rated and there were no material underlying credit downgrades during the past quarter. All securities are considered performing.

 

AFS corporate bonds

 

At June 30, 2012, all securities in the Company’s portfolio of AFS corporate bonds were in an unrealized loss position. The aggregate unrealized loss represented 4% of the amortized cost of the securities. 2 of the securities were downgraded by Moody’s in the past quarter, but all 3 remain investment grade rated and the market value of the securities supports the Company’s amortized value. The securities are considered performing.

 

AFS trust preferred securities

 

At June 30, 2012, 3 out of a total of 6 securities in the Company’s portfolio of AFS trust preferred securities were in unrealized loss positions. Aggregate unrealized losses represented 40% of the amortized cost of securities in unrealized loss positions. The Company’s evaluation of the present value of expected cash flows on these securities supports its conclusions about the recoverability of the securities’ amortized cost bases.  3 of the securities in the AFS trust preferred portfolio were downgraded by Moody’s during the past quarter and 4 of the 6 securities contain at least one below investment grade ratings.  Berkshire reviews the financial strength of all of the single issue trust issuers and has concluded that the amortized cost remains supported by the market value of these securities and they are considered performing.

 

At June 30, 2012, $2.0 million of the total unrealized losses was attributable to a $2.6 million investment in a Mezzanine Class B tranche of a $360 million pooled trust preferred security issued by banking and insurance entities. The Company evaluated the security, with a Level 3 fair value of $0.6 million, for potential other-than-temporary-impairment (“OTTI”) at June 30, 2012 and determined that OTTI was not evident based on both the Company’s ability and intent to hold the security until the recovery of its remaining amortized cost and the protection from credit loss afforded by $33 million in excess subordination above current and projected losses. The security is considered performing.

 

Marketable Equity Securities

 

In evaluating its marketable equity securities portfolio for OTTI, the Company considers its ability and intent to hold an equity security to recovery of its cost basis.  In addition, various other factors are considered, including the length of time and the extent to which the fair value has been less than cost, and the financial condition and near term prospects of the issuer. Any OTTI is recognized immediately through earnings.

 

At June 30, 2012, 6 out of a total of 22 securities in the Company’s portfolio of marketable equity securities were in an unrealized loss position. The unrealized loss represented 4% of the amortized cost of the securities. The Company has the ability and intent to hold the securities until a recovery of their cost bases and does not consider the securities other-than-temporarily impaired at June 30, 2012. As new information becomes available in future periods, changes to the Company’s assumptions may be warranted and could lead to a different conclusion regarding the OTTI of these securities.

 

19



Table of Contents

 

NOTE 6. LOANS

 

Total loans include loans from business activities and loans acquired from business combinations. Loans from business combinations are those loans acquired from the acquisitions of The Connecticut Bank and Trust Company, Legacy Bancorp, Inc., and Rome Bancorp, Inc. The following is a summary of total loans:

 

 

 

June 30, 2012

 

(In thousands)

 

Loans from Business
Activities

 

Loans Acquired from
Business Combinations

 

Total

 

 

 

 

 

 

 

 

 

Residential mortgages

 

 

 

 

 

 

 

1-4 family

 

$

850,734

 

$

306,554

 

$

1,157,288

 

Construction

 

28,059

 

8,100

 

36,159

 

Total residential mortgages

 

878,793

 

314,654

 

1,193,447

 

 

 

 

 

 

 

 

 

Commercial mortgages:

 

 

 

 

 

 

 

Construction

 

146,649

 

14,155

 

160,804

 

Single and multi-family

 

71,861

 

32,475

 

104,336

 

Commercial real estate

 

747,877

 

268,041

 

1,015,918

 

Total commercial mortgages

 

966,387

 

314,671

 

1,281,058

 

 

 

 

 

 

 

 

 

Commercial business loans:

 

 

 

 

 

 

 

Asset based lending

 

177,763

 

2,495

 

180,258

 

Other commercial business loans

 

244,176

 

95,250

 

339,426

 

Total commercial business loans

 

421,939

 

97,745

 

519,684

 

 

 

 

 

 

 

 

 

Total commercial loans

 

1,388,326

 

412,416

 

1,800,742

 

 

 

 

 

 

 

 

 

Consumer loans:

 

 

 

 

 

 

 

Home equity

 

226,680

 

75,840

 

302,520

 

Other

 

37,712

 

31,198

 

68,910

 

Total consumer loans

 

264,392

 

107,038

 

371,430

 

 

 

 

 

 

 

 

 

Total loans

 

$

2,531,511

 

$

834,108

 

$

3,365,619

 

 

20



Table of Contents

 

 

 

December 31, 2011

 

(In thousands)

 

Loans from Business Activities

 

Loans Acquired from
Business Combinations

 

Total

 

 

 

 

 

 

 

 

 

Residential mortgages:

 

 

 

 

 

 

 

1-4 family

 

$

649,467

 

$

329,407

 

$

978,874

 

Construction

 

32,191

 

9,370

 

41,561

 

Total residential mortgages

 

681,658

 

338,777

 

1,020,435

 

 

 

 

 

 

 

 

 

Commercial mortgages:

 

 

 

 

 

 

 

Construction

 

117,492

 

6,726

 

124,218

 

Single and multi-family

 

89,401

 

16,398

 

105,799

 

Commercial real estate

 

746,545

 

179,679

 

926,224

 

Total commercial mortgages

 

953,438

 

202,803

 

1,156,241

 

 

 

 

 

 

 

 

 

Commercial business loans:

 

 

 

 

 

 

 

Asset based lending

 

151,065

 

2,206

 

153,271

 

Other commercial business loans

 

210,701

 

46,320

 

257,021

 

Total commercial business loans

 

361,766

 

48,526

 

410,292

 

 

 

 

 

 

 

 

 

Total commercial loans

 

1,315,204

 

251,329

 

1,566,533

 

 

 

 

 

 

 

 

 

Consumer loans:

 

 

 

 

 

 

 

Home equity

 

226,369

 

71,827

 

298,196

 

Other

 

39,020

 

32,386

 

71,406

 

Total consumer loans

 

265,389

 

104,213

 

369,602

 

 

 

 

 

 

 

 

 

Total loans

 

$

2,262,251

 

$

694,319

 

$

2,956,570

 

 

The carrying amount of the acquired loans at June 30, 2012 totaled $834.1 million.  These loans consisted of loans determined to be impaired at the time of acquisition, which are accounted for in accordance with ASC Topic 310-30, with a carrying amount of $30.5 million and loans that were considered not impaired at the acquisition date with a carrying amount of $803.6 million.

 

The following table summarizes activity in the accretable yield for the acquired loan portfolio that falls under the purview of ASC 310-30, Accounting for Certain Loans or Debt Securities Acquired in a Transfer.

 

(In thousands)

 

2012

 

Three months ended June 30, 2012

 

 

 

Balance at beginning of period

 

$

668

 

Acquisitions

 

2,816

 

Sales

 

 

Reclassification from nonaccretable difference for loans with improved cash flows

 

 

Changes in expected cash flows that do not affect nonaccretable difference

 

 

Accretion

 

(930

)

Balance at end of period

 

$

2,554

 

 

(In thousands)

 

2012

 

Six months ended June 30, 2012

 

 

 

Balance at beginning of period

 

$

1,277

 

Acquisitions

 

2,816

 

Sales

 

 

Reclassification from nonaccretable difference for loans with improved cash flows

 

 

Changes in expected cash flows that do not affect nonaccretable difference

 

 

Accretion

 

(1,539

)

Balance at end of period

 

$

2,554

 

 

21



Table of Contents

 

The following is a summary of past due loans at June 30, 2012 and December 31, 2011:

 

Loans from Business Activities

 

(in thousands)

 

30-59 Days
Past Due

 

60-89 Days
Past Due

 

Greater
Than 90
Days Past
Due

 

Total Past
Due

 

Current

 

Total Loans

 

Past Due >
90 days and
Accruing

 

June 30, 2012

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential mortgages:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family

 

$

2,340

 

$

465

 

$

11,599

 

$

14,404

 

$

836,330

 

$

850,734

 

$

4,622

 

Construction

 

465

 

 

 

465

 

27,594

 

28,059

 

 

Total

 

2,805

 

465

 

11,599

 

14,869

 

863,924

 

878,793

 

4,622

 

Commercial mortgages:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Construction

 

350

 

 

5,811

 

6,161

 

140,488

 

146,649

 

 

Single and multi-family

 

251

 

66

 

704

 

1,021

 

70,840

 

71,861

 

309

 

Commercial real estate

 

1,097

 

504

 

8,704

 

10,305

 

737,572

 

747,877

 

 

Total

 

1,698

 

570

 

15,219

 

17,487

 

948,900

 

966,387

 

309

 

Commercial business loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Asset based lending

 

 

 

 

 

177,763

 

177,763

 

 

Other commercial business loans

 

487

 

26

 

1,986

 

2,499

 

241,677

 

244,176

 

969

 

Total

 

487

 

26

 

1,986

 

2,499

 

419,440

 

421,939

 

969

 

Consumer loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Home equity

 

760

 

81

 

1,318

 

2,159

 

224,521

 

226,680

 

376

 

Other

 

445

 

160

 

76

 

681

 

37,031

 

37,712

 

28

 

Total

 

1,205

 

241

 

1,394

 

2,840

 

261,552

 

264,392

 

404

 

Total

 

$

6,195

 

$

1,302

 

$

30,198

 

$

37,695

 

$

2,493,816

 

$

2,531,511

 

$

6,304

 

 

Loans Acquired from Business Combinations

 

(in thousands)

 

30-59 Days
Past Due

 

60-89 Days
Past Due

 

Greater
Than 90
Days Past
Due

 

Total Past
Due

 

Current

 

Total Loans

 

Past Due >
90 days and
Accruing

 

June 30, 2012

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential mortgages:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family

 

$

1,895

 

$

115

 

$

2,373

 

$

4,383

 

$

302,171

 

$

306,554

 

$

825

 

Construction

 

 

 

 

 

8,100

 

8,100

 

 

Total

 

1,895

 

115

 

2,373

 

4,383

 

310,271

 

314,654

 

825

 

Commercial mortgages:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Construction

 

 

199

 

1,616

 

1,815

 

12,340

 

14,155

 

1,616

 

Single and multi-family

 

571

 

593

 

322

 

1,486

 

30,989

 

32,475

 

322

 

Commercial real estate

 

747

 

1,120

 

4,483

 

6,350

 

261,691

 

268,041

 

4,057

 

Total

 

1,318

 

1,912

 

6,421

 

9,651

 

305,020

 

314,671

 

5,995

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial business loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Asset based lending

 

 

 

 

 

2,495

 

2,495

 

 

Other commercial business loans

 

503

 

112

 

3,804

 

4,419

 

90,831

 

95,250

 

3,774

 

Total

 

503

 

112

 

3,804

 

4,419

 

93,326

 

97,745

 

3,774

 

Consumer loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Home equity

 

95

 

 

78

 

173

 

75,667

 

75,840

 

 

Other

 

242

 

38

 

298

 

578

 

30,620

 

31,198

 

157

 

Total

 

337

 

38

 

376

 

751

 

106,287

 

107,038

 

157

 

Total

 

$

4,053

 

$

2,177

 

$

12,974

 

$

19,204

 

$

814,904

 

$

834,108

 

$

10,751

 

 

22



Table of Contents

 

Loans from Business Activities

 

(in thousands)

 

30-59 Days Past
Due

 

60-89 Days
Past Due

 

Greater
Than 90
Days Past
Due

 

Total Past
Due

 

Current

 

Total Loans

 

Past Due >
90 days
and
Accruing

 

December 31, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential mortgages:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family

 

$

2,045

 

$

877

 

$

11,479

 

$

14,401

 

$

635,066

 

$

649,467

 

$

5,123

 

Construction

 

 

 

 

 

32,191

 

32,191

 

 

Total

 

2,045

 

877

 

11,479

 

14,401

 

667,257

 

681,658

 

5,123

 

Commercial mortgages:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Construction

 

 

 

8,650

 

8,650

 

108,842

 

117,492

 

 

Single and multi-family

 

70

 

 

676

 

746

 

88,655

 

89,401

 

314

 

Commercial real estate

 

746

 

8,019

 

5,258

 

14,023

 

732,522

 

746,545

 

 

Total

 

816

 

8,019

 

14,584

 

23,419

 

930,019

 

953,438

 

314

 

Commercial business loans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Asset based lending

 

 

 

 

 

151,065

 

151,065

 

 

Other commercial business loans

 

369

 

781

 

1,156

 

2,306

 

208,395

 

210,701

 

178

 

Total

 

369

 

781

 

1,156

 

2,306

 

359,460

 

361,766

 

178

 

Consumer loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Home equity

 

430

 

257

 

1,692

 

2,379

 

223,990

 

226,369

 

 

Other

 

311

 

148

 

148

 

607

 

38,413

 

39,020

 

100

 

Total

 

741

 

405

 

1,840

 

2,986

 

262,403

 

265,389

 

100

 

Total

 

$

3,971

 

$

10,082

 

$

29,059

 

$

43,112

 

$

2,219,139

 

$

2,262,251

 

$

5,715

 

 

Loans Acquired from Business Combinations

 

(in thousands)

 

30-59 Days Past
Due

 

60-89 Days
Past Due

 

Greater
Than 90
Days Past
Due

 

Total Past
Due

 

Current

 

Total Loans

 

Past Due >
90 days
and
Accruing

 

December 31, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential mortgages:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1-4 family

 

$

663

 

$

242

 

$

1,450

 

$

2,355

 

$

327,052

 

$

329,407

 

$

796

 

Construction

 

 

 

165

 

165

 

9,205

 

9,370

 

165

 

Total

 

663

 

242

 

1,615

 

2,520

 

336,257

 

338,777

 

961

 

Commercial mortgages:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Construction

 

 

 

606

 

606

 

6,120

 

6,726

 

606

 

Single and multi-family

 

 

 

703

 

703

 

15,695

 

16,398

 

703

 

Commercial real estate

 

68

 

102

 

1,923

 

2,093

 

177,586

 

179,679

 

1,913

 

Total

 

68

 

102

 

3,232

 

3,402

 

199,401

 

202,803

 

3,222

 

Commercial business loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Asset based lending

 

 

 

 

 

2,206

 

2,206

 

 

Other commercial business loans

 

349

 

235

 

258

 

842

 

45,478

 

46,320

 

245

 

Total

 

349

 

235

 

258

 

842

 

47,684

 

48,526

 

245

 

Consumer loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Home equity

 

284

 

 

75

 

359

 

71,468

 

71,827

 

 

Other

 

239

 

69

 

179

 

487

 

31,899

 

32,386

 

41

 

Total

 

523

 

69

 

254

 

846

 

103,367

 

104,213

 

41

 

Total

 

$

1,603

 

$

648

 

$

5,359

 

$

7,610

 

$

686,709

 

$

694,319

 

$

4,469

 

 

23



Table of Contents

 

Activity in the allowance for loan losses for the six months ended June 30, 2012 and December 31, 2011 was as follows:

 

Loans from Business Activities

 

(In thousands)

 

Residential
mortgages

 

Commercial
mortgages

 

Commercial
business

 

Consumer

 

Unallocated

 

Total

 

June 30, 2012

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at beginning of year

 

$

3,150

 

$

22,095

 

$

4,540

 

$

2,203

 

$

(90

)

$

31,898

 

Charged-off loans

 

1,340

 

1,499

 

27

 

1,158

 

 

4,024

 

Recoveries on charged-off loans

 

72

 

5

 

23

 

99

 

 

199

 

Provision for loan losses

 

4,237

 

236

 

(217

)

(285

)

(92

)

3,879

 

Balance at end of period

 

$

6,119

 

$

20,837

 

$

4,319

 

$

859

 

$

(182

)

$

31,952

 

Individually evaluated for impairment

 

692

 

2,114

 

142

 

 

 

2,948

 

Collectively evaluated for impairment

 

5,427

 

18,723

 

4,177

 

859

 

(182

)

29,004

 

Total

 

$

6,119

 

$

20,837

 

$

4,319

 

$

859

 

$

(182

)

$

31,952

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans receivable:

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at end of period

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated for impairment

 

6,536

 

33,205

 

492

 

577

 

 

 

40,810

 

Collectively evaluated for impairment

 

872,257

 

933,182

 

421,447

 

263,815

 

 

 

2,490,701

 

Total

 

$

878,793

 

$

966,387

 

$

421,939

 

$

264,392

 

 

 

$

2,531,511

 

 

Loans Acquired from Business Combinations

 

(In thousands)

 

Residential
mortgages

 

Commercial
mortgages

 

Commercial
business

 

Consumer

 

Unallocated

 

Total

 

June 30, 2012

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at beginning of year

 

$

281

 

$

158

 

$

38

 

$

87

 

$

(18

)

$

546

 

Charged-off loans

 

 

 

 

 

 

 

Recoveries on charged-off loans

 

 

 

 

 

 

 

Provision for loan losses

 

58

 

158

 

61

 

29

 

64

 

370

 

Balance at end of period

 

$

339

 

$

316

 

$

99

 

$

116

 

$

46

 

$

916

 

Individually evaluated for impairment

 

 

 

 

 

 

 

Collectively evaluated for impairment

 

339

 

316

 

99

 

116

 

46

 

916

 

Total

 

$

339

 

$

316

 

$

99

 

$

116

 

$

46

 

$

916

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans receivable:

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at end of Period

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated for impairment

 

859

 

410

 

 

38

 

 

 

1,307

 

Collectively evaluated for impairment

 

313,795

 

314,261

 

97,745

 

107,000

 

 

 

832,801

 

Total

 

$

314,654

 

$

314,671

 

$

97,745

 

$

107,038

 

 

 

$

834,108

 

 

24



Table of Contents

 

Loans from Business Activities

 

(In thousands)

 

Residential
mortgages

 

Commercial
mortgages

 

Commercial
business

 

Consumer

 

Unallocated

 

Total

 

December 31, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at beginning of year

 

$

3,077

 

$

19,461

 

$

6,038

 

$

2,099

 

$

1,223

 

$

31,898

 

Charged-off loans

 

1,322

 

4,047

 

1,443

 

884

 

 

7,696

 

Recoveries on charged-off loans

 

231

 

189

 

109

 

150

 

 

679

 

Provision for loan losses

 

1,164

 

6,492

 

(164

)

838

 

(1,313

)

7,017

 

Balance at end of year

 

$

3,150

 

$

22,095

 

$

4,540

 

$

2,203

 

$

(90

)

$

31,898

 

Individually evaluated for impairment

 

449

 

1,722

 

116

 

488

 

 

2,775

 

Collectively evaluated for impairment

 

2,701

 

20,373

 

4,424

 

1,715

 

(90

)

29,123

 

Total

 

$

3,150

 

$

22,095

 

$

4,540

 

$

2,203

 

$

(90

)

$

31,898

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans receivable:

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at end of year

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated for impairment

 

5,655

 

34,074

 

564

 

1,190

 

 

 

41,483

 

Collectively evaluated for impairment

 

676,003

 

919,364

 

361,202

 

264,199

 

 

 

2,220,768

 

Total

 

$

681,658

 

$

953,438

 

$

361,766

 

$

265,389

 

 

 

$

2,262,251

 

 

Loans Acquired from Business Combinations

 

(In thousands)

 

Residential
mortgages

 

Commercial
mortgages

 

Commercial
business

 

Consumer

 

Unallocated

 

Total

 

December 31, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at beginning of year

 

$

 

$

 

$

 

$

 

$

 

$

 

Charged-off loans

 

 

 

 

 

 

 

Recoveries on charged-off loans

 

 

 

 

 

 

 

Provision for loan losses

 

281

 

158

 

38

 

87

 

(18

)

546

 

Balance at end of year

 

$

281

 

$

158

 

$

38

 

$

87

 

$

(18

)

$

546

 

Individually evaluated for impairment

 

 

 

 

 

 

 

Collectively evaluated for impairment

 

281

 

158

 

38

 

87

 

(18

)

546

 

Total

 

$

281

 

$

158

 

$

38

 

$

87

 

$

(18

)

$

546

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans receivable:

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at end of year

 

 

 

 

 

 

 

 

 

 

 

 

 

Individually evaluated for impairment

 

 

 

 

 

 

 

 

Collectively evaluated for impairment

 

338,777

 

202,803

 

48,526

 

104,213

 

 

 

694,319

 

Total

 

$

338,777

 

$

202,803

 

$

48,526

 

$

104,213

 

 

 

$

694,319

 

 

25



Table of Contents

 

The following is a summary of impaired loans at June 30, 2012:

 

Loans from Business Activities

 

 

 

At June 30, 2012

 

(In thousands)

 

Recorded Investment

 

Unpaid Principal
Balance

 

Related Allowance

 

With no related allowance:

 

 

 

 

 

 

 

Residential mortgages - 1-4 family

 

$

2,102

 

$

2,102

 

$

 

Commercial mortgages - single and multifamily

 

164

 

164

 

 

Commercial mortgages - real estate

 

4,748

 

4,748

 

 

Consumer - home equity

 

578

 

578

 

 

 

 

 

 

 

 

 

 

With an allowance recorded:

 

 

 

 

 

 

 

Residential mortgages - 1-4 family

 

$

2,586

 

$

3,278

 

$

692

 

Commercial mortgages - construction

 

4,673

 

5,812

 

1,139

 

Commercial mortgages - single and multifamily

 

124

 

231

 

107

 

Commercial mortgages - real estate

 

2,524

 

3,392

 

868

 

Other commercial business loans

 

11

 

153

 

142

 

Consumer - home equity

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

Residential mortgages

 

$

4,688

 

$

5,380

 

$

692

 

Commercial mortgages

 

12,233

 

14,347

 

2,114

 

Commercial business

 

11

 

153

 

142

 

Consumer

 

578

 

578

 

 

Total impaired loans

 

$

17,510

 

$

20,458

 

$

2,948

 

 

Loans Acquired from Business Combinations

 

 

 

At June 30, 2012

 

(In thousands)

 

Recorded Investment

 

Unpaid Principal
Balance

 

Related Allowance

 

With no related allowance:

 

 

 

 

 

 

 

Residential mortgages - 1-4 family

 

$

859

 

$

859

 

$

 

Commercial mortgages - real estate

 

410

 

410

 

 

Consumer - home equity

 

38

 

38

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

Residential mortgages

 

$

859

 

$

859

 

$

 

Commercial mortgages

 

410

 

410

 

 

Consumer

 

38

 

38

 

 

Total impaired loans

 

$

1,307

 

$

1,307

 

$

 

 

26



Table of Contents

 

The following is a summary of impaired loans at December 31, 2011:

 

Loans from Business Activities

 

 

 

At December 31, 2011

 

(In thousands)

 

Recorded Investment

 

Unpaid Principal
Balance

 

Related Allowance

 

With no related allowance:

 

 

 

 

 

 

 

Residential mortgages - 1-4 family

 

$

2,546

 

$

2,546

 

$

 

Commercial mortgages - single and multifamily

 

326

 

326

 

 

Commercial mortgages - real estate

 

2,751

 

2,751

 

 

Consumer - home equity

 

308

 

308

 

 

 

 

 

 

 

 

 

 

With an allowance recorded:

 

 

 

 

 

 

 

Residential mortgages - 1-4 family

 

$

1,853

 

$

2,302

 

$

449

 

Commercial mortgages - construction

 

7,559

 

8,650

 

1,091

 

Commercial mortgages - real estate

 

1,373

 

2,004

 

631

 

Other commercial business loans

 

13

 

129

 

116

 

Consumer - home equity

 

357

 

845

 

488

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

Residential mortgages

 

$

4,399

 

$

4,848

 

$

449

 

Commercial mortgages

 

12,009

 

13,731

 

1,722

 

Commercial business

 

13

 

129

 

116

 

Consumer

 

665

 

1,153

 

488

 

Total impaired loans

 

$

17,086

 

$

19,861

 

$

2,775

 

 

Loans Acquired from Business Combinations

 

 

 

At December 31, 2011

 

(In thousands)

 

Recorded Investment

 

Unpaid Principal
Balance

 

Related Allowance

 

With no related allowance:

 

 

 

 

 

 

 

Residential mortgages - 1-4 family

 

$

247

 

$

247

 

$

 

Consumer - home equity

 

37

 

37

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

Residential mortgages

 

$

247

 

$

247

 

$

 

Consumer

 

37

 

37

 

 

Total impaired loans

 

$

284

 

$

284

 

$

 

 

27



Table of Contents

 

The following is a summary of the average recorded investment and interest income recognized on impaired loans as of June 30, 2012 and June 30, 2011:

 

Loans from Business Activities

 

 

 

Six Months Ended June 30, 2012

 

Six Months Ended June, 2011

 

(in thousands)

 

Average Recorded
Investment

 

Cash Basis
Interest Income
Recognized

 

Average Recorded
Investment

 

Cash Basis
Interest Income
Recognized

 

With no related allowance:

 

 

 

 

 

 

 

 

 

Residential mortgages - 1-4 family

 

$

2,098

 

$

21

 

$

930

 

$

11

 

Residential mortgages - construction

 

 

 

53

 

 

Commercial-construction

 

 

 

157

 

 

Commercial mortgages - single and multifamily

 

299

 

 

107

 

 

Commercial mortgages - real estate

 

3,022

 

26

 

7,994

 

84

 

Commercial business loans

 

 

 

46

 

 

Consumer-home equity

 

166

 

1

 

361

 

2

 

 

 

 

 

 

 

 

 

 

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

Residential mortgages - 1-4 family

 

$

3,569

 

$

22

 

$

633

 

$

3

 

Residential mortgages - construction

 

 

 

32

 

 

Commercial-construction

 

6,757

 

 

2,335

 

 

Commercial mortgages - single and multifamily

 

73

 

 

548

 

3

 

Commercial mortgages - real estate

 

2,381

 

22

 

2,484

 

8

 

Commercial business loans

 

145

 

3

 

357

 

1

 

Consumer-home equity

 

704

 

 

30

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

Residential mortgages

 

$

5,667

 

$

43

 

$

1,648

 

$

14

 

Commercial mortgages

 

12,532

 

48

 

13,625

 

95

 

Commercial business loans

 

145

 

3

 

403

 

1

 

Consumer loans

 

870

 

1

 

391

 

2

 

Total impaired loans

 

$

19,214

 

$

95

 

$

16,067

 

$

112

 

 

28



Table of Contents

 

Loans Acquired from Business Combinations

 

 

 

Six Months Ended June 30, 2012

 

Six Months Ended June, 2011

 

(in thousands)

 

Average Recorded
Investment

 

Cash Basis
Interest Income
Recognized

 

Average Recorded
Investment

 

Cash Basis
Interest Income
Recognized

 

With no related allowance:

 

 

 

 

 

 

 

 

 

Residential mortgages - 1-4 family

 

$

526

 

$

 

$

 

$

 

Residential mortgages - construction

 

 

 

 

 

Commercial-construction

 

 

 

 

 

Commercial mortgages - single and multifamily

 

 

 

 

 

Commercial mortgages - real estate

 

274

 

10

 

 

 

Commercial business loans

 

 

 

 

 

Consumer-home equity

 

38

 

 

 

 

 

 

 

 

 

 

 

 

 

 

With an allowance recorded:

 

 

 

 

 

 

 

 

 

Residential mortgages - 1-4 family

 

$

 

$

 

$

 

$

 

Residential mortgages - construction

 

 

 

 

 

Commercial-construction

 

 

 

 

 

Commercial mortgages - single and multifamily

 

 

 

 

 

Commercial mortgages - real estate

 

 

 

 

 

Commercial business loans

 

 

 

 

 

Consumer-home equity

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

Residential mortgages

 

$

526

 

$

 

$

 

$

 

Commercial mortgages

 

274

 

10

 

 

 

Commercial business loans

 

 

 

 

 

Consumer loans

 

38

 

 

 

 

Total impaired loans

 

$

838

 

$

10

 

$

 

$

 

 

29



Table of Contents

 

The following is summary information pertaining to non-accrual loans at June 30, 2012 and December 31, 2011:

 

 

 

June 30, 2012

 

(In thousands)

 

Loans from Business
Activities

 

Loans Acquired from
Business Combinations

 

Total

 

Residential mortgages:

 

 

 

 

 

 

 

1-4 family

 

$

6,977

 

$

1,548

 

$

8,525

 

Total

 

6,977

 

1,548

 

8,525

 

 

 

 

 

 

 

 

 

Commercial mortgages:

 

 

 

 

 

 

 

Construction

 

5,811

 

 

5,811

 

Single and multi-family

 

395

 

 

395

 

Other

 

8,704

 

426

 

9,130

 

Total

 

14,910

 

426

 

15,336

 

 

 

 

 

 

 

 

 

Commercial business loans:

 

 

 

 

 

 

 

Other commercial business loans

 

1,017

 

30

 

1,047

 

Total

 

1,017

 

30

 

1,047

 

 

 

 

 

 

 

 

 

Consumer loans:

 

 

 

 

 

 

 

Home equity

 

942

 

78

 

1,020

 

Other

 

48

 

141

 

189

 

Total

 

990

 

219

 

1,209

 

 

 

 

 

 

 

 

 

Total non-accrual loans

 

$

23,894

 

$

2,223

 

$

26,117

 

 

 

 

December 31, 2011

 

(In thousands)

 

Loans from Business Activities

 

Loans Acquired from
Business Combinations

 

Total

 

Residential mortgages:

 

 

 

 

 

 

 

1-4 family

 

$

6,356

 

$

654

 

$

7,010

 

Total

 

6,356

 

654

 

7,010

 

 

 

 

 

 

 

 

 

Commercial mortgages:

 

 

 

 

 

 

 

Construction

 

8,650

 

 

8,650

 

Single and multi-family

 

362

 

 

362

 

Other

 

5,259

 

9

 

5,268

 

Total

 

14,271

 

9

 

14,280

 

 

 

 

 

 

 

 

 

Commercial business loans:

 

 

 

 

 

 

 

Other commercial business loans

 

977

 

13

 

990

 

Total

 

977

 

13

 

990

 

 

 

 

 

 

 

 

 

Consumer loans:

 

 

 

 

 

 

 

Home equity

 

1,692

 

75

 

1,767

 

Other

 

48

 

139

 

187

 

Total

 

1,740

 

214

 

1,954

 

 

 

 

 

 

 

 

 

Total non-accrual loans

 

$

23,344

 

$

890

 

$

24,234

 

 

Credit Quality Information

 

The Bank utilizes a twelve grade internal loan rating system for each of its commercial real estate, construction and commercial loans as follows:

 

1                                         Substantially Risk Free

 

Borrowers in this category are of unquestioned credit standing and are at the pinnacle of credit quality. Credits in this category are generally cash secured with strong management depth and experience and exhibit a superior track record.

 

30



Table of Contents

 

2                                         Minimal Risk

 

A relationship which provides an adequate return on investment to the Company, has been stable during the last three years and has a superior financial condition as determined by a comparison with the industry.  In addition, management must be of unquestionable character and have strong abilities as measured by its long-term financial performance.

 

3                                         Moderate Risk

 

A relationship which does not appear to possess more than the normal degree of credit risk.  Overall, the borrower’s financial statements compare favorably with the industry.  A strong secondary repayment source exists and the loan is performing as agreed.

 

4                                         Better than Average Risk

 

A relationship which possesses most of the characteristics found in the Moderate Risk category and ranges from definitely sound to those with minor risk characteristics. Operates in a reasonably stable industry that may be moderately affected by the business cycle and moderately open to changes. Has a satisfactory track record and the loan is performing as agreed.

 

5                                         Average Risk

 

A relationship which possesses most of the characteristics found in the Better than Average Risk category but may have recently experienced a loss year often as a result of its operation in a cyclical industry. The relationship has smaller margins of debt service coverage with some elements of reduced strength. Good secondary repayment source exists and the loan is performing as agreed.  Start-up businesses and construction loans will generally be assigned to this category as well.

 

6                                         Acceptable Risk

 

 Borrowers in this category may be more highly leveraged than their industry peers and experience moderate losses relative to net worth.  Trends and performance, e.g. Sales and earnings, leverage, among other factors may be negative.  Management’s ability may be questionable, or perhaps untested.  The industry may be experiencing either temporary or long term pressures.  Collateral values are seen as more important in assessing risk than in higher quality loans.  Failure to meet required line clean-up periods or other terms and conditions, including some slow payments may also predicate this grade.

 

7              Special Mention

 

A classification assigned to all relationships for credits with potential weaknesses which present a higher than normal credit risk, but not to the point of requiring a Substandard loan classification.  No loss of principal or interest is anticipated. However, these credits are followed closely, and if necessary, remedial plans to reduce the Company’s risk exposure are established.

 

8              Substandard — Performing

 

A classification assigned to a credit that is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any.  Loans so classified must have a well-defined weakness or weaknesses that jeopardize the liquation of the debt.  They are characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected.  Substandard loans will be evaluated on at least a quarterly basis to determine if an additional allocation of the Company’s allowance for loan loss is warranted.

 

31



Table of Contents

 

9              Substandard — Non-Performing

 

A classification given to Substandard credits which have deteriorated to the point that management has placed the accounts on non-accrual status due to delinquency exceeding 90 days or where the Company has determined that collection of principal and interest in full is unlikely.

 

10           Doubtful

 

Loans classified as doubtful have all the weaknesses inherent in those classified Substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently known facts, highly questionable and improbable.  Collection in excess of 50% of the balance owed is not expected.

 

11           Loss

 

Loans classified Loss are considered uncollectible and of such little value that their continuance as bankable assets is not warranted.  This classification does not mean that the loan has absolutely no recovery or salvage value but rather it is not practical or desirable to defer writing off this basically worthless asset even though partial recovery may be possible in the future.

 

100         Small Business Express

 

Grade established for all small business credits deemed pass rated or better.

 

The Company risk rates its residential mortgages, including 1-4 family and residential construction loans, based on a three rating system: Pass, Special Mention and Substandard.  Loans that are current within 59 days are rated Pass.  Residential mortgages that are 60-89 days delinquent are rated Special Mention. Loans delinquent for 90 days or greater are rated Substandard and generally placed on non-accrual status.  Home equity loans are risk rated based on the same rating system as the Company’s residential mortgages.

 

Ratings for other consumer loans, including auto loans, are rated based on a two rating system. Loans that are current within 119 days are rated Performing while loans delinquent for 120 days or more are rated Non-performing. Other consumer loans are placed on non-accrual at such time as they become Non-performing.

 

Acquired Loans Credit Quality Analysis

 

Upon acquiring a loan portfolio, our Internal Loan Review function undertakes the same process of assigning risk ratings as historical loans, which may differ from the risk rating policy of the predecessor company.  Loans which are rated Substandard or worse according to the rating process outlined below are deemed to be credit impaired loans accounted for under ASC 310-30, regardless of whether they are classified as performing or non-performing.

 

The Bank utilizes a twelve grade internal loan rating system for each of its acquired commercial real estate, construction and commercial loans as outlined in the Credit Quality Information section of this Note.  The Company risk rates its residential mortgages, including 1-4 family and residential construction loans, based on a three rating system: Pass, Special Mention and Substandard.  Residential mortgages that are current within 59 days are rated Pass.  Residential mortgages that are 60 — 89 days delinquent are rated Special Mention.  Residential mortgages delinquent for 90 days or greater are rated Substandard.  Home equity loans are risk rated based on the same rating system as the Company’s residential mortgages.  Other consumer loans are rated based on a two rating system.  Other consumer loans that are current within 119 days are rated Performing while loans delinquent for 120 days or more are rated Non-performing. Non-performing other consumer loans are deemed to be credit impaired loans accounted for under ASC 310-30.

 

The Company subjects loans that do not meet the ASC 310-30 criteria to ASC 450-20 by collectively evaluating these loans for an allowance for loan loss.  The Company applies a methodology similar to the methodology prescribed for originated loans, which includes the application of environmental factors to each category of loans.

 

32



Table of Contents

 

The methodology to collectively evaluate the acquired loans outside the scope of ASC 310-30 includes the application of a number of environmental factors that reflect management’s best estimate of the level of incremental credit losses that might be recognized given current conditions.  This is reviewed as part of the allowance for loan loss adequacy analysis.  As the loan portfolio matures and environmental factors change, the loan portfolio will be reassessed each quarter to determine an appropriate reserve allowance.

 

A decrease in the expected cash flows in subsequent periods requires the establishment of an allowance for loan losses at that time for ASC 310-30 loans. At June 30, 2012, there had not been such a decrease and therefore there was no allowance for losses on acquired loans under Subtopic ASC 310-30.

 

The Company presented several tables within this footnote of historical loans and acquired loans in order to distinguish the credit performance of the newly acquired loans.

 

33



Table of Contents

 

The following table presents the Company’s loans by risk rating at June 30, 2012 and December 31, 2011:

 

Loans from Business Activities

 

Residential Mortgages

Credit Risk Profile by Internally Assigned Grade

 

 

 

1-4 family

 

Construction

 

Total residential mortgages

 

(In thousands)

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

Grade:

 

 

 

 

 

 

 

 

 

 

 

 

 

Pass

 

$

838,669

 

$

637,110

 

$

28,059

 

$

32,191

 

$

866,728

 

$

669,301

 

Special mention

 

465

 

877

 

 

 

465

 

877

 

Substandard

 

11,600

 

11,480

 

 

 

11,600

 

11,480

 

Total

 

$

850,734

 

$

649,467

 

$

28,059

 

$

32,191

 

$

878,793

 

$

681,658

 

 

Commercial Mortgages

Credit Risk Profile by Creditworthiness Category

 

 

 

Construction

 

Single and multi-family

 

Real estate

 

Total commercial mortgages

 

(In thousands)

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

Grade:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Pass

 

$

130,149

 

$

91,452

 

$

68,591

 

$

85,153

 

$

671,189

 

$

674,814

 

$

869,929

 

$

851,419

 

Special mention

 

850

 

5,939

 

427

 

435

 

18,124

 

16,459

 

19,401

 

22,833

 

Substandard

 

15,650

 

17,262

 

2,843

 

3,813

 

58,459

 

55,156

 

76,952

 

76,231

 

Doubtful

 

 

2,839

 

 

 

105

 

116

 

105

 

2,955

 

Total

 

$

146,649

 

$

117,492

 

$

71,861

 

$

89,401

 

$

747,877

 

$

746,545

 

$

966,387

 

$

953,438

 

 

Commercial Business Loans

Credit Risk Profile by Creditworthiness Category

 

 

 

Asset based lending

 

Other

 

Total commercial business loans

 

(In thousands)

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

Grade:

 

 

 

 

 

 

 

 

 

 

 

 

 

Pass

 

$

176,460

 

$

149,741

 

$

229,728

 

$

200,246

 

$

406,188

 

$

349,987

 

Special mention

 

 

 

4,815

 

607

 

4,815

 

607

 

Substandard

 

1,303

 

1,324

 

9,539

 

9,753

 

10,842

 

11,077

 

Doubtful

 

 

 

94

 

95

 

94

 

95

 

Total

 

$

177,763

 

$

151,065

 

$

244,176

 

$

210,701

 

$

421,939

 

$

361,766

 

 

Consumer Loans

Credit Risk Profile Based on Payment Activity

 

 

 

Home equity

 

Other

 

Total consumer loans

 

(In thousands)

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

Performing

 

$

225,738

 

$

224,677

 

$

37,663

 

$

38,972

 

$

263,401

 

$

263,649

 

Nonperforming

 

942

 

1,692

 

49

 

48

 

991

 

1,740

 

Total

 

$

226,680

 

$

226,369

 

$

37,712

 

$

39,020

 

$

264,392

 

$

265,389

 

 

34



Table of Contents

 

Loans Acquired from Business Combinations

 

Residential Mortgages

Credit Risk Profile by Internally Assigned Grade

 

 

 

1-4 family

 

Construction

 

Total residential mortgages

 

(In thousands)

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

Grade:

 

 

 

 

 

 

 

 

 

 

 

 

 

Pass

 

$

304,066

 

$

327,715

 

$

8,100

 

$

9,205

 

$

312,166

 

$

336,920

 

Special mention

 

115

 

242

 

 

 

115

 

242

 

Substandard

 

2,373

 

1,450

 

 

165

 

2,373

 

1,615

 

Total

 

$

306,554

 

$

329,407

 

$

8,100

 

$

9,370

 

$

314,654

 

$

338,777

 

 

Commercial Mortgages

Credit Risk Profile by Creditworthiness Category

 

 

 

Construction

 

Single and multi-family

 

Real estate

 

Total commercial mortgages

 

(In thousands)

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

Grade:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Pass

 

$

12,212

 

$

3,548

 

$

24,706

 

$

14,802

 

$

230,625

 

$

161,218

 

$

267,543

 

$

179,568

 

Special mention

 

256

 

2,160

 

4,356

 

272

 

14,671

 

8,071

 

19,283

 

10,503

 

Substandard

 

1,687

 

1,018

 

3,413

 

1,324

 

22,745

 

10,390

 

27,845

 

12,732

 

Total

 

$

14,155

 

$

6,726

 

$

32,475

 

$

16,398

 

$

268,041

 

$

179,679

 

$

314,671

 

$

202,803

 

 

Commercial Business Loans

Credit Risk Profile by Creditworthiness Category

 

 

 

Asset based lending

 

Other

 

Total commercial business loans

 

(In thousands)

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

Grade:

 

 

 

 

 

 

 

 

 

 

 

 

 

Pass

 

$

2,495

 

$

2,206

 

$

80,560

 

$

39,578

 

$

83,055

 

$

41,784

 

Special mention

 

 

 

9,061

 

3,810

 

9,061

 

3,810

 

Substandard

 

 

 

5,629

 

2,932

 

5,629

 

2,932

 

Total

 

$

2,495

 

$

2,206

 

$

95,250

 

$

46,320

 

$

97,745

 

$

48,526

 

 

Consumer Loans

Credit Risk Profile Based on Payment Activity

 

 

 

Home equity

 

Other

 

Total consumer loans

 

(In thousands)

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

June 30, 2012

 

Dec. 31, 2011

 

Performing

 

$

75,762

 

$

71,752

 

$

31,057

 

$

32,248

 

$

106,819

 

$

104,000

 

Nonperforming

 

78

 

75

 

141

 

138

 

219

 

213

 

Total

 

$

75,840

 

$

71,827

 

$

31,198

 

$

32,386

 

$

107,038

 

$

104,213

 

 

The Company’s loan portfolio also includes certain loans that have been modified in a Troubled Debt Restructuring (TDR), where economic concessions have been granted to borrowers who have experienced or are expected to experience financial difficulties. These concessions typically result from the Company’s loss mitigation activities and could include reductions in the interest rate, payment extensions, forgiveness of principal, forbearance or other actions. Certain TDRs are classified as nonperforming at the time of restructure and may only be returned to performing status after considering the borrower’s sustained repayment performance for a reasonable period, generally six months.

 

35



Table of Contents

 

The following tables include the recorded investment and number of modifications identified during the six months ended June 30, 2012. The Company reports the recorded investment in the loans prior to a modification and also the recorded investment in the loans after the loans were restructured.

 

 

 

Modifications by Class

 

 

 

Six months ending June 30, 2012

 

 

 

Number of
Modifications

 

Pre-Modification
Outstanding Recorded
Investment

 

Post-Modification
Outstanding Recorded
Investment

 

Troubled Debt Restructurings

 

 

 

 

 

 

 

Commercial - Other

 

2

 

$

1,923

 

$

1,923

 

Commercial business- Other

 

1

 

50

 

50

 

 

 

3

 

$

1,973

 

$

1,973

 

 

As of June 30, 2012, there were no loans that were restructured within the last twelve months that have subsequently defaulted.

 

The following table presents the Company’s TDR activity for the six months ended June 30, 2012 and 2011:

 

 

 

June 30,

 

(In thousands)

 

2012

 

2011

 

Balance at beginning of the period

 

$

1,263

 

$

7,829

 

Principal Payments

 

(4

)

(71

)

TDR Status Change (1)

 

(1,125

)

(7,041

)

Other Reductions (2)

 

 

(189

)

Newly Identified TDRs

 

1,973

 

 

Balance at end of the period

 

$

2,107

 

$

528

 

 


(1)          TDR Status change classification represents TDR loans with a specified interest rate equal to or greater than the rate that the Company was willing to accept at the time of the restructuring for a new loan with comparable risk and the loan was on current payment status and not impaired based on the terms specified by the restructuring agreement.

(2)          Other Reductions classification consists of transfer to other real estate owned and charge-offs to loans.

 

The evaluation of certain loans individually for specific impairment includes loans that were previously classified as TDRs or continue to be classified as TDRs.

 

NOTE 7.                DEPOSITS

 

A summary of time deposits is as follows:

 

(In thousands)

 

June 30, 2012

 

December 31, 2011 (1)

 

Time less than $100,000

 

$

511,155

 

$

511,592

 

Time $100,000 or more

 

534,612

 

491,046

 

Total time deposits

 

$

1,045,767

 

$

1,002,638

 

 


(1) Amounts include balances associated with discontinued operations.

 

36



Table of Contents

 

NOTE 8.                STOCKHOLDERS’ EQUITY

 

The Bank’s actual and required capital ratios were as follows:

 

 

 

 

 

 

 

FDIC Minimum

 

 

 

June 30, 2012

 

December 31, 2011

 

to be Well Capitalized

 

 

 

 

 

 

 

 

 

Total capital to risk weighted assets

 

10.3

%

11.3

%

10.0

%

 

 

 

 

 

 

 

 

Tier 1 capital to risk weighted assets

 

9.3

 

10.2

 

6.0

 

 

 

 

 

 

 

 

 

Tier 1 capital to average assets

 

8.0

 

8.4

 

5.0

 

 

At each date shown, Berkshire Bank met the conditions to be classified as “well capitalized” under the regulatory framework for prompt corrective action.  To be categorized as well capitalized, an institution must maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the table above.

 

Accumulated other comprehensive income

 

Components of accumulated other comprehensive loss are as follows:

 

(In thousands)

 

June 30, 2012

 

December 31, 2011

 

Net unrealized holding gain (loss) on AFS securities

 

$

8,985

 

$

6,298

 

Net loss on effective cash flow hedging derivatives

 

(11,087

)

(8,882

)

Net loss on terminated swap

 

(4,650

)

(5,121

)

Net unrealized holding gain (loss) on pension plans

 

(932

)

(676

)

Tax effects

 

3,348

 

3,496

 

Accumulated other comprehensive loss

 

$

(4,336

)

$

(4,885

)

 

The Company’s accumulated other comprehensive loss totaled $4.3 million at June 30, 2012.  Of this loss, $15.7 million was attributable to accumulated losses on cash flow hedges, net of deferred tax benefits of $6.6 million, $9.0 million was attributable to accumulated gains on available-for-sale securities, net of deferred tax expenses of $3.3 million, and $0.9 million was attributable to accumulated losses on pensions.

 

The Company’s accumulated other comprehensive loss totaled $4.9 million at December 31, 2011.  Of this loss, $14.0 million was attributable to accumulated losses on cash flow hedges, net of deferred tax benefits of $5.8 million, $6.3 million was attributable to accumulated gains on available-for-sale securities, net of deferred tax expenses of $2.3 million, and $0.7 million was attributable to accumulated losses on pensions.

 

37



Table of Contents

 

NOTE 9. EARNINGS PER SHARE

 

Earnings per share have been computed based on the following (average diluted shares outstanding are calculated using the treasury stock method):

 

 

 

Three Months Ended June 30,

 

Six Months Ended June 30,

 

(In thousands, except per share data)

 

2012

 

2011

 

2012

 

2011

 

 

 

 

 

 

 

 

 

 

 

Net income from continuing operations

 

$

7,986

 

$

1,877

 

$

14,467

 

$

4,712

 

Loss from discontinued operations before income taxes (including gain on disposal of $63)

 

 

 

(261

)

 

Income tax expense

 

 

 

376

 

 

Net loss from discontinued operations

 

 

 

(637

)

 

Net income

 

$

7,986

 

$

1,877

 

$

13,830

 

$

4,712

 

 

 

 

 

 

 

 

 

 

 

Average number of common shares issued

 

23,623

 

18,509

 

23,242

 

17,187

 

Less: average number of treasury shares

 

1,660

 

1,779

 

1,672

 

1,762

 

Less: average number of unvested stock award shares

 

221

 

150

 

221

 

156

 

Average number of basic common shares outstanding

 

21,742

 

16,580

 

21,349

 

15,269

 

Plus: dilutive effect of unvested stock award shares

 

41

 

21

 

51

 

(126

)

Plus: dilutive effect of stock options outstanding

 

23

 

 

34

 

156

 

Average number of diluted common shares outstanding

 

21,806

 

16,601

 

21,434

 

15,299

 

 

 

 

 

 

 

 

 

 

 

Basic and diluted earnings per share:

 

 

 

 

 

 

 

 

 

Continuing operations

 

$

0.37

 

$

0.11

 

$

0.68

 

$

0.31

 

Discontinued operations

 

 

 

(0.03

)

 

Total basic and diluted earnings per share

 

$

0.37

 

$

0.11

 

$

0.65

 

$

0.31

 

 

For the quarter ended June 30, 2012, 181 thousand shares of restricted stock and 373 thousand options were anti-dilutive and therefore excluded from the earnings per share calculations. For the quarter ended June 30, 2011, 129 thousand shares of restricted stock and 127 thousand options were anti-dilutive and therefore excluded from the earnings per share calculations.

 

NOTE 10. STOCK-BASED COMPENSATION PLANS

 

A combined summary of activity in the Company’s stock award and stock option plans for the six months ended June 30, 2012 is presented in the following table:

 

 

 

Non-vested Stock

 

 

 

 

 

 

 

Awards Outstanding

 

Stock Options Outstanding

 

 

 

 

 

Weighted-

 

 

 

Weighted-

 

 

 

 

 

Average

 

 

 

Average

 

 

 

Number of

 

Grant Date

 

Number of

 

Exercise

 

(Shares in thousands)

 

Shares

 

Fair Value

 

Shares

 

Price

 

Balance, December 31, 2011

 

216

 

$

19.88

 

409

 

$

25.68

 

Granted

 

64

 

24.95

 

 

 

Stock options exercised

 

 

 

(13

)

20.88

 

Stock awards vested

 

(50

)

18.51

 

 

 

Forfeited

 

(8

)

21.38

 

 

 

Expired

 

 

 

(10

)

23.44

 

Balance, June 30, 2012

 

222

 

$

21.61

 

386

 

$

25.79

 

Exercisable options, June 30, 2012

 

 

 

 

 

386

 

$

25.79

 

 

38



Table of Contents

 

During the six months ended June 30, 2012 and 2011, proceeds from stock option exercises totaled $271 thousand and $12 thousand, respectively. During the six months ended June 30, 2012, there were 50 thousand shares issued in connection with vested stock awards.  During the six months ended June 30, 2011, there were 61 thousand shares issued in connection with vested stock awards.  All of these shares were issued from available treasury stock.  Stock-based compensation expense totaled $1.6 million and $473 thousand during the six months ended June 30, 2012 and 2011, respectively. Stock-based compensation expense is recognized ratably over the requisite service period for all awards.

 

NOTE 11. OPERATING SEGMENTS

 

The Company has two reportable operating segments, Banking and Insurance, which are delineated by the consolidated subsidiaries of Berkshire Hills Bancorp, Inc.  Banking includes the activities of the Bank and its subsidiaries, which provide retail and commercial banking, along with wealth management and investment services.  Insurance includes the activities of BIG, which provides retail and commercial insurance services.  The only other consolidated financial activity of the Company is the Parent, which consists of the transactions of Berkshire Hills Bancorp, Inc. Management fees for corporate services provided by the Bank to BIG and the Parent are eliminated.

 

The accounting policies of each reportable segment are the same as those of the Company.  The Insurance segment and the Parent reimburse the Bank for administrative services provided to them.  Income tax expense for the individual segments is calculated based on the activity of the segments, and the Parent records the tax expense or benefit necessary to reconcile to the consolidated total.  The Parent does not allocate capital costs.  Average assets include securities available-for-sale based on amortized cost.

 

39



Table of Contents

 

A summary of the Company’s operating segments was as follows:

 

(In thousands) 

 

Banking

 

Insurance

 

Parent

 

Eliminations

 

Total Consolidated

 

Three months ended June 30, 2012

 

 

 

 

 

 

 

 

 

 

 

Net interest income (expense)

 

$

35,239

 

$

 

$

(186

)

$

 

$

35,053

 

Provision for loan losses

 

2,250

 

 

 

 

2,250

 

Non-interest income

 

9,520

 

2,768

 

8968

 

(8968

)

12,288

 

Non-interest expense

 

30,835

 

2,094

 

1,254

 

1

 

34,184

 

Income (loss) before income taxes

 

11,674

 

674

 

7528

 

(8969

)

10,907

 

Income tax expense (benefit)

 

3,108

 

271

 

(458

)

 

2,921

 

Net income

 

$

8,566

 

$

403

 

$

7986

 

$

(8969

)

$

7,986

 

 

 

 

 

 

 

 

 

 

 

 

 

Average assets (in millions)

 

$

4,319

 

$

30

 

$

508

 

$

(506

)

$

4,351

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended June 30, 2011

 

 

 

 

 

 

 

 

 

 

 

Net interest income (expense)

 

$

24,410

 

$

 

$

(209

)

$

 

$

24,201

 

Provision for loan losses

 

1,500

 

 

 

 

1,500

 

Non-interest income

 

5,389

 

2,781

 

(629

)

629

 

8,170

 

Non-interest expense

 

23,778

 

2,194

 

2,650

 

1

 

28,623

 

Income (loss) before income taxes

 

4,521

 

587

 

(3,488

)

628

 

2,248

 

Income tax expense (benefit)

 

1,296

 

240

 

(1,165

)

 

371

 

Net income

 

$

3,225

 

$

347

 

$

(2,323

)

$

628

 

$

1,877

 

 

 

 

 

 

 

 

 

 

 

 

 

Average assets (in millions)

 

$

3,167

 

$

34

 

$

405

 

$

(392

)

$

3,214

 

 

 

 

 

 

 

 

 

 

 

 

 

Six months ended June 30, 2012

 

 

 

 

 

 

 

 

 

 

 

Net interest income (expense)

 

$

66,590

 

$

 

$

(392

)

$

 

$

66,198

 

Provision for loan losses

 

4,250

 

 

 

 

4,250

 

Non-interest income

 

16,577

 

5,513

 

15,253

 

(15,253

)

22,090

 

Non-interest expense

 

58,452

 

4,307

 

1,618

 

1

 

64,378

 

Income (loss) before income taxes

 

20,465

 

1,206

 

13,243

 

(15,254

)

19,660

 

Income tax expense (benefit)

 

5,296

 

485

 

(587

)

(1

)

5,193

 

Net income from continuing operations

 

15,169

 

721

 

13,830

 

(15,253

)

14,467

 

Income from discontinued operations berofre income taxes (including gain on disposal of $63)

 

(261

)

 

 

 

(261

)

Income tax expense

 

376

 

 

 

 

376

 

Net loss from discontinued operations

 

(637

)

 

 

 

(637

)

Net income

 

$

14,532

 

$

721

 

$

13,830

 

$

(15,253

)

$

13,830

 

 

 

 

 

 

 

 

 

 

 

 

 

Average assets (in millions)

 

$

4,137

 

$

30

 

$

501

 

$

(498

)

$

4,170

 

 

 

 

 

 

 

 

 

 

 

 

 

Six months ended June 30, 2011

 

 

 

 

 

 

 

 

 

 

 

Net interest income (expense)

 

$

44,764

 

$

 

$

(416

)

$

(1

)

$

44,347

 

Provision for loan losses

 

3,100

 

 

 

 

3,100

 

Non-interest income

 

9,792

 

6,512

 

3,515

 

(3,515

)

16,304

 

Non-interest expense

 

42,731

 

4,449

 

4,632

 

 

51,812

 

Income (loss) before income taxes

 

8,725

 

2,063

 

(1,533

)

(3,516

)

5,739

 

Income tax expense (benefit)

 

2,246

 

844

 

(2,063

)

 

1,027

 

Net income

 

6,479

 

1,219

 

530

 

(3,516

)

4,712

 

 

 

 

 

 

 

 

 

 

 

 

 

Average assets (in millions)

 

$

3,005

 

$

33

 

$

380

 

$

(372

)

$

3,046

 

 

NOTE 12. DERIVATIVE FINANCIAL INSTRUMENTS AND HEDGING ACTIVITIES

 

As of June 30, 2012, the Company held derivatives with a total notional amount of $1 billion.  That amount included $280.0 million in interest rate swap derivatives that were designated as cash flow hedges for accounting purposes.  The Company also had economic hedges and non-hedging derivatives totaling $515.6 million and $215.3 million, respectively, which are not designated as accounting hedges.  Economic hedges included interest rate swaps totaling $348.2 million, and $170.5 million in forward commitment contracts.

 

As part of the Company’s risk management strategy, the Company enters into interest rate swap agreements to mitigate the interest rate risk inherent in certain of the Company’s assets and liabilities. Interest rate swap agreements involve the risk of dealing with both Bank customers and institutional derivative counterparties and

 

40



Table of Contents

 

their ability to meet contractual terms. The agreements are entered into with counterparties that meet established credit standards and contain master netting and collateral provisions protecting the at-risk party. The derivatives program is overseen by the Risk Management Committee of the Company’s Board of Directors. Based on adherence to the Company’s credit standards and the presence of the netting and collateral provisions, the Company believes that the credit risk inherent in these contracts was not significant at June 30, 2012.

 

The Company pledged collateral to derivative counterparties in the form of cash totaling $6.2 million and securities with an amortized cost of $30.6 million and a fair value of $31.3 million as of June 30, 2012. The Company does not typically require its Commercial customers to post cash or securities collateral on its program of back-to-back economic hedges. However certain language is written into the ISDA and loan documents where, in default situations, the Bank is allowed to access collateral supporting the loan relationship to recover any losses suffered on the derivative asset or liability. The Company may need to post additional collateral in the future in proportion to potential increases in unrealized loss positions.

 

Information about interest rate swap agreements and non-hedging derivative assets and liabilities at June 30, 2012, follows:

 

 

 

 

 

Weighted

 

 

 

 

 

Estimated

 

 

 

Notional

 

Average

 

Weighted Average Rate

 

Fair Value

 

 

 

Amount

 

Maturity

 

Received

 

Paid

 

Asset (Liability)

 

 

 

(In thousands)

 

(In years)

 

 

 

 

 

(In thousands)

 

Cash flow hedges:

 

 

 

 

 

 

 

 

 

 

 

Interest rate swaps on FHLBB borrowings

 

$

105,000

 

1.3

 

0.38

%

3.20

%

$

(5,020

)

Forward-starting interest rate swaps on FHLBB borrowings

 

160,000

 

4.4

 

 

2.56

%

(5,313

)

Interest rate swaps on junior subordinated debentures

 

15,000

 

1.9

 

2.32

%

5.54

%

(899

)

Total cash flow hedges

 

280,000

 

 

 

 

 

 

 

(11,232

)

 

 

 

 

 

 

 

 

 

 

 

 

Economic hedges:

 

 

 

 

 

 

 

 

 

 

 

Interest rate swap on tax advantaged economic development bond

 

13,856

 

17.4

 

0.61

%

5.09

%

(3,719

)

Interest rate swaps on loans with commercial loan customers

 

165,602

 

5.3

 

2.56

%

5.73

%

(15,429

)

Reverse interest rate swaps on loans with commercial loan customers

 

165,602

 

5.3

 

5.73

%

2.56

%

14,919

 

Forward commitments

 

170,500

 

0.2

 

 

 

 

 

(1,446

)

Total economic hedges

 

515,560

 

 

 

 

 

 

 

(5,675

)

 

 

 

 

 

 

 

 

 

 

 

 

Non-hedging derivatives:

 

 

 

 

 

 

 

 

 

 

 

Interest rate lock commitments

 

215,330

 

0.2

 

 

 

 

 

4,028

 

Total non-hedging derivatives

 

215,330

 

 

 

 

 

 

 

4,028

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,010,890

 

 

 

 

 

 

 

$

(12,879

)

 

Information about interest rate swap agreements and non-hedging derivative assets and liabilities at December 31, 2011, follows:

 

 

 

 

 

Weighted

 

 

 

 

 

Estimated

 

 

 

Notional

 

Average

 

Weighted Average Rate

 

Fair Value

 

 

 

Amount

 

Maturity

 

Received

 

Paid

 

Asset (Liability)

 

 

 

(In thousands)

 

(In years)

 

 

 

 

 

(In thousands)

 

Cash flow hedges:

 

 

 

 

 

 

 

 

 

 

 

Interest rate swaps on FHLBB borrowings

 

$

105,000

 

1.7

 

0.49

%

4.00

%

$

(5,888

)

Forward-starting interest rate swaps on FHLBB borrowings

 

80,000

 

3.5

 

 

2.56

%

(2,064

)

Interest rate swaps on junior subordinated debentures

 

15,000

 

2.4

 

2.35

%

5.54

%

(1,055

)

Total cash flow hedges

 

200,000

 

 

 

 

 

 

 

(9,007

)

 

 

 

 

 

 

 

 

 

 

 

 

Economic hedges:

 

 

 

 

 

 

 

 

 

 

 

Interest rate swap on tax advantaged economic development bond

 

14,096

 

17.9

 

0.64

%

5.09

%

(3,505

)

Interest rate swaps on loans with commercial loan customers

 

160,389

 

5.6

 

2.73

%

5.77

%

(14,351

)

Reverse interest rate swaps on loans with commercial loan customers

 

160,389

 

5.6

 

5.77

%

2.73

%

13,871

 

Forward commitments

 

21,538

 

0.2

 

 

 

 

 

55

 

Total economic hedges

 

356,412

 

 

 

 

 

 

 

(3,930

)

 

 

 

 

 

 

 

 

 

 

 

 

Non-hedging derivatives:

 

 

 

 

 

 

 

 

 

 

 

Interest rate lock commitments

 

21,538

 

0.2

 

 

 

 

 

(66

)

Total non-hedging derivatives

 

21,538

 

 

 

 

 

 

 

(66

)

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

577,950

 

 

 

 

 

 

 

$

(13,003

)

 

41



Table of Contents

 

Cash flow hedges

 

The effective portion of unrealized changes in the fair value of derivatives accounted for as cash flow hedges is reported in other comprehensive income and subsequently reclassified to earnings in the same period or periods during which the hedged forecasted transaction affects earnings. Each quarter, the Company assesses the effectiveness of each hedging relationship by comparing the changes in cash flows of the derivative hedging instrument with the changes in cash flows of the designated hedged item or transaction. The ineffective portion of changes in the fair value of the derivatives is recognized directly in earnings.

 

The Company has entered into several interest rate swaps with an aggregate notional amount of $105.0 million to convert the LIBOR based floating interest rates on a $105.0 million portfolio of FHLBB advances to fixed rates, with the objective of fixing the Company’s monthly interest expense on these borrowings.

 

The Company has also entered into fifteen forward-starting interest rate swaps with a combined notional value of $160.0 million, including $70.0 million of swaps which were entered into in the first quarter of 2012 and which have durations exceeding one year. Of the fifteen forward starting swaps two are set to become effective in the third quarter of 2012, with durations of five years and four years, respectively. In 2013 four of the forward starting swaps take effect, two of which have a duration of one year, one with a duration of four years, and the other with a duration of five years. 2014 will bring on seven of the remaining nine forward starting swaps; of these one has a duration of three years, four have durations of four years, and the final two have durations of five years.  The last two forward starting swaps will become effective in 2015, one of which has a duration of four years and the other which has a duration of seven years. This hedge strategy converts the LIBOR based rate of interest on certain FHLB advances to fixed interest rates, thereby protecting the Company from floating interest rate variability.

 

The Company has entered into an interest rate swap with a notional value of $15.0 million to convert the floating rate of interest on its junior subordinated debentures to a fixed rate of interest. The purpose of the hedge was to protect the Company from the risk of variability arising from the floating rate interest on the debentures.

 

Amounts included in the Consolidated Statements of Income and in the other comprehensive income section of the Consolidated Statements of Changes in Stockholders’ Equity related to interest rate derivatives designated as hedges of cash flows, were as follows:

 

 

 

Three Months Ended June 30,

 

Six Months Ended June 30,

 

(In thousands)

 

2012

 

2011

 

2012

 

2011

 

 

 

 

 

 

 

 

 

 

 

Interest rate swaps on FHLBB borrowings:

 

 

 

 

 

 

 

 

 

Unrealized (loss) gain recognized in accumulated other comprehensive loss

 

$

(2,585

)

$

(666

)

$

(2,360

)

$

433

 

 

 

 

 

 

 

 

 

 

 

Reclassification of unrealized loss from accumulated other comprehensive loss to non-interest income for hedge ineffectiveness

 

10

 

10

 

20

 

20

 

 

 

 

 

 

 

 

 

 

 

Reclassification of realized gain from accumulated other comprehensive loss to other non-interest income for termination of swaps

 

235

 

235

 

471

 

470

 

 

 

 

 

 

 

 

 

 

 

Reclassification of unrealized deferred tax benefit from accumulated other comprehensive loss to tax expense for terminated swaps

 

(31

)

(98

)

(129

)

(196

)

 

 

 

 

 

 

 

 

 

 

Net tax benefit (expense) on items recognized in accumulated other

 

1,171

 

255

 

1,007

 

(196

)

 

 

 

 

 

 

 

 

 

 

Interest rate swaps on junior subordinated debentures:

 

 

 

 

 

 

 

 

 

Unrealized gain (loss) recognized in accumulated other comprehensive loss

 

97

 

(151

)

156

 

3

 

 

 

 

 

 

 

 

 

 

 

Net tax (expense) benefit on items recognized in accumulated other

 

(19

)

62

 

(61

)

(2

)

Other comprehensive income recorded in accumulated other comprehensive loss, net of reclassification adjustments and tax effects

 

$

(1,122

)

$

(353

)

$

(896

)

$

532

 

 

 

 

 

 

 

 

 

 

 

Net interest expense recognized in interest expense on hedged FHLBB borrowings

 

$

1,123

 

$

1,218

 

$

2,206

 

$

2,424

 

Net interest expense recognized in interest expense on junior subordinated debentures

 

$

97

 

$

129

 

$

215

 

$

256

 

 

42



Table of Contents

 

Hedge ineffectiveness on interest rate swaps designated as cash flow hedges was immaterial to the Company’s financial statements during the six months ended June 30, 2012 and 2011.  The Company does not anticipate material events or transactions within the next twelve months that are likely to result in a reclassification of unrealized gains or losses from accumulated other comprehensive loss to earnings.

 

Amounts reported in accumulated other comprehensive loss related to derivatives will be reclassified to interest expense as interest payments are made on the Company’s variable-rate liabilities. During the next twelve months, the Company estimates that $5.1 million will be reclassified as an increase to interest expense.

 

Economic hedges

 

The Company has an interest rate swap with a $13.9 million notional amount to swap out the fixed rate of interest on an economic development bond bearing a fixed rate of 5.09%, currently within the Company’s trading portfolio under the fair value option, in exchange for a LIBOR-based floating rate. The intent of the economic hedge is to improve the Company’s asset sensitivity to changing interest rates in anticipation of favorable average floating rates of interest over the 21-year life of the bond.  The fair value changes of the economic development bond are mostly offset by fair value changes of the related interest rate swap.

 

The Company also offers certain derivative products directly to qualified commercial borrowers.  The Company economically hedges derivative transactions executed with commercial borrowers by entering into mirror-image, offsetting derivatives with third-party financial institutions.  The transaction allows the Company’s customer to convert a variable-rate loan to a fixed rate loan. Because the Company acts as an intermediary for its customer, changes in the fair value of the underlying derivative contracts mostly offset each other in earnings. Credit valuation adjustments arising from the difference in credit worthiness of the commercial loan and financial institution counterparties totaled $471 thousand as of June 30, 2012.  The interest income and expense on these mirror image swaps exactly offset each other.

 

The Company utilizes forward commitments to sell mortgage backed bonds as economic hedges against the potential decreases in the values of the interest rate lock commitments which are discussed below under Non-hedging derivatives. The forward commitments are free-standing derivatives, which are carried at fair value with changes recorded in non-interest income in the Company’s Consolidated Statements of Income.

 

Non-hedging derivatives

 

The Company enters into interest rate lock commitments (IRLCs) for residential mortgage loans, which commit the Company to lend funds to a potential borrower at a specific interest rate and within a specified period of time.  IRLCs that relate to the origination of mortgage loans that will be held for sale are considered derivative financial instruments under applicable accounting guidance.  Outstanding IRLCs expose the Company to the risk that the price of the mortgage loans underlying the commitments may decline due to increases in mortgage interest rates from inception of the rate lock to the funding of the loan.  The IRLCs are free-standing derivatives which are carried at fair value with changes recorded in noninterest income in the Company’s consolidated statements of income.  Changes in the fair value of IRLCs subsequent to inception are based on changes in the fair value of the underlying loan resulting from the fulfillment of the commitment and changes in the probability that the loan will fund within the terms of the commitment, which is affected primarily by changes in interest rates and the passage of time.

 

43



Table of Contents

 

Amounts included in the Consolidated Statements of Income related to economic hedges and non-hedging derivatives were as follows:

 

 

 

Three Months Ended June 30,

 

Six Months Ended June 30,

 

(In thousands)

 

2012

 

2011

 

2012

 

2011

 

 

 

 

 

 

 

 

 

 

 

Economic hedges

 

 

 

 

 

 

 

 

 

Interest rate swap on industrial revenue bond:

 

 

 

 

 

 

 

 

 

Net interest expense recognized in interest and dividend income on securities

 

$

(157

)

$

(164

)

$

(315

)

$

(325

)

 

 

 

 

 

 

 

 

 

 

Unrealized gain recognized in other non-interest income

 

(654

)

(359

)

(1,094

)

(69

)

 

 

 

 

 

 

 

 

 

 

Interest rate swaps on loans with commercial loan customers:

 

 

 

 

 

 

 

 

 

Unrealized gain recognized in other non-interest income

 

2,149

 

2,511

 

3,260

 

940

 

 

 

 

 

 

 

 

 

 

 

Reverse interest rate swaps on loans with commercial loan customers:

 

 

 

 

 

 

 

 

 

Unrealized loss recognized in other non-interest income

 

(2,149

)

(2,511

)

(3,260

)

(940

)

 

 

 

 

 

 

 

 

 

 

Favorable (unfavorable) change in credit valuation adjustment recognized in other non-interest income

 

$

(113

)

$

(225

)

$

9

 

$

(183

)

 

 

 

 

 

 

 

 

 

 

Forward Commitments:

 

 

 

 

 

 

 

 

 

Unrealized gain recognized in other non-interest income

 

$

(2,131

)

$

 

$

(2,131

)

$

 

 

 

 

 

 

 

 

 

 

 

Non-hedging derivatives

 

 

 

 

 

 

 

 

 

Interest rate lock commitments:

 

 

 

 

 

 

 

 

 

Unrealized gain (loss) recognized in other non-interest income

 

$

4,337

 

$

(23

)

$

4,337

 

$

(36

)

 

NOTE 13. FAIR VALUE MEASUREMENTS

 

A description of the valuation methodologies used for assets and liabilities measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below. These valuation methodologies were applied to all of the Company’s financial assets and financial liabilities that are carried at fair value.

 

Recurring fair value measurements

 

The following table summarizes assets and financial liabilities measured at fair value on a recurring basis as of June 30, 2012 and December 31, 2011, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value. There were no transfers between levels during the six months ended June 30, 2012.

 

44



Table of Contents

 

 

 

June 30, 2012

 

 

 

Level 1

 

Level 2

 

Level 3

 

Total

 

(In thousands)

 

Inputs

 

Inputs

 

Inputs

 

Fair Value

 

 

 

 

 

 

 

 

 

 

 

Trading account security

 

$

 

$

 

$

17,365

 

$

17,365

 

Available-for-sale securities:

 

 

 

 

 

 

 

 

 

Municipal bonds and obligations

 

 

78,908

 

 

78,908

 

Governmentguaranteed residential mortgage-backed securities

 

 

44,051

 

 

44,051

 

Government-sponsored residential mortgage-backed securities

 

 

289,635

 

 

289,635

 

Corporate bonds

 

 

9,566

 

 

9,566

 

Trust preferred securities

 

 

17,857

 

613

 

18,470

 

Other bonds and obligations

 

 

739

 

 

739

 

Marketable equity securities

 

29,999

 

 

 

29,999

 

Loans held for sale

 

 

59,280

 

 

59,280

 

Derivative assets

 

 

14,919

 

4,028

 

18,947

 

Derivative liabilities

 

1,446

 

30,380

 

 

31,826

 

 

 

 

December 31, 2011

 

 

 

Level 1

 

Level 2

 

Level 3

 

Total

 

(In thousands)

 

Inputs

 

Inputs

 

Inputs

 

Fair Value

 

 

 

 

 

 

 

 

 

 

 

Trading account security

 

$

 

$

 

$

17,395

 

$

17,395

 

Available-for-sale securities:

 

 

 

 

 

 

 

 

 

Municipal bonds and obligations

 

 

77,854

 

 

77,854

 

Government guaranteed residential mortgage-backed securities

 

 

45,096

 

 

45,096

 

Government-sponsored residential mortgage-backed securities

 

 

247,611

 

 

247,611

 

Corporate bonds

 

 

9,727

 

 

9,727

 

Trust preferred securities

 

 

17,271

 

544

 

17,815

 

Other bonds and obligations

 

 

644

 

 

644

 

Marketable equity securities

 

21,009

 

 

 

21,009

 

Derivative assets

 

 

13,926

 

 

13,926

 

Derivative liabilities

 

 

26,864

 

66

 

26,930

 

 

Trading Security at Fair Value. The Company holds one security designated as a trading security. It is a tax advantaged economic development bond issued to the Company by a local nonprofit which provides wellness and health programs. The determination of the fair value for this security is determined based on a discounted cash flow methodology. Certain inputs to the fair value calculation are unobservable and there is little to no market activity in the security; therefore, the security meets the definition of a Level 3 security.  The discount rate used in the valuation of the security is sensitive to movements in the 3-month LIBOR rate.

 

Securities Available for Sale. AFS securities classified as Level 1 consist of publicly-traded equity securities for which the fair values can be obtained through quoted market prices in active exchange markets. AFS securities classified as Level 2 include most of the Company’s debt securities. The pricing on Level 2 was primarily sourced from third party pricing services, overseen by management, and is based on models that consider standard input factors such as dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and condition, among other things. The Company holds one pooled trust preferred security. The security’s fair value is based on unobservable issuer-provided financial information and discounted cash flow models derived from the underlying structured pool and therefore is classified as Level 3.

 

Loans held for sale. The Company elected the fair value option for all loans held for sale (HFS) originated on or after May 1, 2012.  Loans HFS are classified as Level 2 as the fair value is based on input factors such as quoted prices for similar loans in active markets.

 

45



Table of Contents

 

 

 

 

 

 

 

Aggregate Fair Value

 

June 30, 2012

 

Aggregate

 

Aggregate

 

Less Aggregate

 

(In thousands)

 

Fair Value

 

Unpaid Principal

 

Unpaid Principal

 

Loans Held for Sale

 

$

59,280

 

$

57,973

 

$

1,307

 

 

Derivative Assets and Liabilities.

 

Interest Rate Swap.  The valuation of the Company’s interest rate swaps is obtained from a third-party pricing service and is determined using a discounted cash flow analysis on the expected cash flows of each derivative. The pricing analysis is based on observable inputs for the contractual terms of the derivatives, including the period to maturity and interest rate curves.

 

The Company incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements.  In adjusting the fair value of its derivative contracts for the effect of nonperformance risk, the Company has considered the impact of netting and any applicable credit enhancements, such as collateral postings.

 

Although the Company has determined that the majority of the inputs used to value its interest rate derivatives fall within Level 2 of the fair value hierarchy, the credit valuation adjustments associated with its derivatives utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by itself and its counterparties.  However, as of June 30, 2012, the Company has assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative positions and has determined that the credit valuation adjustments are not significant to the overall valuation of its derivatives. As a result, the Company has determined that its derivative valuations in their entirety are classified in Level 2 of the fair value hierarchy.

 

Interest Rate Lock Commitments. The Company enters into interest rate lock commitments (IRLCs) for residential mortgage loans, which commit the Company to lend funds to a potential borrower at a specific interest rate and within a specified period of time.  The estimated fair value of commitments to originate residential mortgage loans for sale is based on quoted prices for similar loans in active markets. However, this value is adjusted by a factor which considers the likelihood that the loan in a lock position will ultimately close, and by the non-refundable costs of originating the loan.  The closing ratio is derived from the Bank’s internal data and is adjusted using significant management judgment.  The costs to originate are primarily based on the Company’s internal commission rates that are not observable. As such, IRLCs are classified as Level 3 measurements.

 

Forward Commitments. The Company utilizes forward commitments as economic hedges against the potential decreases in the values of the IRLCs.  The forward commitments are classified as Level 1 and consist of publicly-traded debt securities for which identical fair values can be obtained through quoted market prices in active exchange markets.

 

46



Table of Contents

 

The table below presents the changes in Level 3 assets that were measured at fair value on a recurring basis at June 30, 2012 and 2011.

 

 

 

Assets

 

 

 

Trading

 

Securities

 

Interest Rate

 

 

 

Account

 

Available

 

Lock

 

(In thousands)

 

Security

 

for Sale

 

Commitments

 

 

 

 

 

 

 

 

 

Balance as of December 31, 2011

 

$

17,395

 

$

544

 

$

 

 

 

 

 

 

 

 

 

Unrealized gain recognized in other non-interest income

 

(428

)

 

 

Unrealized loss included in accumulated other comprehensive loss

 

 

 

 

 

Paydown of trading account security

 

(120

)

 

 

Balance as of March 31, 2012

 

$

16,847

 

$

544

 

$

 

 

 

 

 

 

 

 

 

Greenpark Acquisition

 

 

 

2,126

 

Unrealized (loss) gain recognized in other non-interest income

 

638

 

 

4,337

 

Unrealized loss included in accumulated other comprehensive loss

 

 

69

 

 

Paydown of trading account security

 

(120

)

 

 

Transfers to held for sale loans

 

 

 

(2,435

)

Balance as of June 30, 2012

 

$

17,365

 

$

613

 

$

4,028

 

 

 

 

 

 

 

 

 

Unrealized gains (losses) relating to instruments still held at June 30, 2012

 

$

3,509

 

$

(1,988

)

$

4,337

 

 

 

 

Assets

 

 

 

Trading

 

Securities

 

 

 

Account

 

Available

 

(In thousands)

 

Security

 

for Sale

 

 

 

 

 

 

 

Balance as of December 31, 2010

 

$

16,155

 

$

1,695

 

 

 

 

 

 

 

Unrealized (loss) gain recognized in other non-interest income

 

(257

)

 

Unrealized loss included in accumulated other comprehensive loss

 

 

498

 

Paydown of trading account security

 

(117

)

 

Balance as of March 31, 2011

 

$

15,781

 

$

2,193

 

 

 

 

 

 

 

Unrealized (loss) gain recognized in other non-interest income

 

357

 

 

Unrealized loss included in accumulated other comprehensive loss

 

 

112

 

Paydown of trading account security

 

(113

)

 

Transfer out of Level 3

 

 

(1,624

)

Balance as of June 30, 2011

 

$

16,025

 

$

681

 

 

 

 

 

 

 

Unrealized gains (losses) relating to instruments still held at June 30, 2011

 

$

1,694

 

$

(1,918

)

 

Quantitative information about the significant unobservable inputs within Level 3 recurring assets are as follows:

 

 

 

Fair Value

 

 

 

 

 

Significant Unobservable

 

(In thousands)

 

June 30, 2012

 

Valuation Techniques

 

Unobservable Inputs

 

Input Value

 

Assets

 

 

 

 

 

 

 

 

 

Trading Account Security

 

$

17,365

 

Discounted Cash Flow

 

Discount Rate

 

2.08

%

 

 

 

 

 

 

 

 

 

 

Interest Rate Lock Commitment

 

4,028

 

Historical Trend

 

Closing Ratio

 

10.00

%

 

 

 

 

Pricing Model

 

Origination Costs

 

34.00

%

 

 

 

 

 

 

 

 

 

 

Total Assets

 

$

21,393

 

 

 

 

 

 

 

 

47



Table of Contents

 

Non-recurring fair value measurements

 

The Company is required, on a non-recurring basis, to adjust the carrying value or provide valuation allowances for certain assets using fair value measurements in accordance with GAAP. The following is a summary of applicable non-recurring fair value measurements. There are no liabilities measured at fair value on a non-recurring basis.

 

 

 

June 30, 2012

 

December 31, 2011

 

Six months ended
June 30, 2012

 

 

 

Level 3

 

Level 3

 

Total

 

(In thousands)

 

Inputs

 

Inputs

 

Losses

 

Assets

 

 

 

 

 

 

 

Impaired loans

 

$

9,918

 

$

11,155

 

$

2,531

 

Capitalized mortgage servicing rights

 

2,786

 

3,067

 

290

 

Other real estate owned

 

827

 

1,900

 

 

 

 

 

 

 

 

 

 

Total Assets

 

$

13,531

 

$

16,122

 

$

2,821

 

 

Quantitative information about the significant unobservable inputs within Level 3 non-recurring assets are, as follows:

 

 

 

Fair Value

 

 

 

 

 

Range (Weighted

 

(in thousands)

 

June 30, 2012

 

Valuation Techniques

 

Unobservable Inputs

 

Average) (a)

 

Assets

 

 

 

 

 

 

 

 

 

Impaired loans

 

$

9,918

 

Fair value of collateral

 

Loss severity

 

3.26% to 56.08% (20.8%)

 

 

 

 

 

 

 

Appraised value

 

$71.0 to $3,450.0 $(2,279.8)

 

 

 

 

 

 

 

 

 

 

 

Capitaized mortgage servicing rights

 

2,786

 

Discounted cash flow

 

Constant prepayment rate (CPR)

 

13.58% to 22.49% (16.25%)

 

 

 

 

 

 

 

Discount rate

 

11.00% to 15.50% (11.21%)

 

 

 

 

 

 

 

 

 

 

 

Other real estate owned

 

827

 

Fair value of collateral

 

Appraised value

 

$0 to $320.0 $(218.9)

 

 

 

 

 

 

 

 

 

 

 

Total Assets

 

$

13,531

 

 

 

 

 

 

 

 


(a)    Where dollar amounts are disclosed, the amounts represent the lowest and highest fair value of the respective assets in the population except for adjustments for market/property conditions, which represents the range of adjustments to individuals properties.

 

There were no Level 1 or Level 2 nonrecurring fair value measurements for the periods ended June 30, 2012 and December 31, 2011.

 

Impaired Loans. Loans are generally not recorded at fair value on a recurring basis. Periodically, the Company records non-recurring adjustments to the carrying value of loans based on fair value measurements for partial charge-offs of the uncollectible portions of those loans. Non-recurring adjustments can also include certain impairment amounts for collateral-dependent loans calculated when establishing the allowance for credit losses. Such amounts are generally based on the fair value of the underlying collateral supporting the loan and, as a result, the carrying value of the loan less the calculated valuation amount does not necessarily represent the fair value of the loan.  Real estate collateral is typically valued using appraisals or other indications of value based on recent comparable sales of similar properties or assumptions generally observable in the marketplace.  However, the choice of observable data is subject to significant judgment, and there are often adjustments based on judgment in order to make observable data comparable and to consider the impact of time, the condition of properties, interest rates, and other market factors on current values.  Additionally, commercial real estate appraisals frequently involve discounting of projected cash flows, which relies inherently on unobservable data.  Therefore, real estate collateral related nonrecurring fair value measurement adjustments have generally been classified as Level 3. Estimates of fair value used for other collateral supporting commercial loans generally are based on assumptions not observable in the marketplace and therefore such valuations have been classified as Level 3.

 

Capitalized mortgage loan servicing rights.   A loan servicing right asset represents the amount by which the present value of the estimated future net cash flows to be received from servicing loans are expected to more than adequately compensate the Company for performing the servicing. The fair value of servicing rights is estimated using a present value cash flow model. The most important assumptions used in the valuation model are the anticipated rate of the loan prepayments and discount rates. Adjustments are only recorded when the discounted

 

48



Table of Contents

 

cash flows derived from the valuation model are less than the carrying value of the asset. Although some assumptions in determining fair value are based on standards used by market participants, some are based on unobservable inputs and therefore are classified in Level 3 of the valuation hierarchy.

 

Other real estate owned (“OREO”). OREO results from the foreclosure process on residential or commercial loans issued by the Bank. Upon assuming the real estate, the Company records the property at the fair value of the asset less the estimated sales costs. Thereafter, OREO properties are recorded at the lower of cost or fair value. OREO fair values are primarily determined based on Level 3 data including sales comparables and appraisals.

 

Summary of estimated fair values of financial instruments

 

The estimated fair values, and related carrying amounts, of the Company’s financial instruments follow. Certain financial instruments and all non-financial instruments are excluded from disclosure requirements. Accordingly, the aggregate fair value amounts presented herein may not necessarily represent the underlying fair value of the Company.

 

 

 

June 30, 2012

 

December 31, 2011

 

 

 

Carrying

 

Fair

 

 

 

 

 

 

 

Carrying

 

Fair

 

(In thousands)

 

Amount

 

Value

 

Level 1

 

Level 2

 

Level 3

 

Amount

 

Value

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financial Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

66,486

 

$

66,486

 

$

66,486

 

$

 

$

 

$

75,359

 

$

75,359

 

Trading security

 

17,365

 

17,365

 

 

 

17,365

 

17,395

 

17,395

 

Securities available for sale

 

471,368

 

471,368

 

29,999

 

440,756

 

613

 

419,756

 

419,756

 

Securities held to maturity

 

41,822

 

43,285

 

 

 

43,285

 

58,912

 

60,395

 

Restricted equity securities

 

37,174

 

37,174

 

 

37,174

 

 

37,118

 

37,118

 

Net loans

 

3,332,751

 

3,425,000

 

 

 

3,425,000

 

2,924,126

 

2,990,173

 

Loans held for sale

 

59,280

 

59,280

 

 

59,280

 

 

1,455

 

1,455

 

Accrued interest receivable

 

12,462

 

12,462

 

 

12,462

 

 

11,350

 

11,350

 

Cash surrender value of bank-owned life insurance policies

 

76,290

 

76,290

 

 

76,290

 

 

75,009

 

75,009

 

Derivative assets

 

18,947

 

18,947

 

 

14,919

 

4,028

 

13,926

 

13,926

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financial Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total deposits

 

$

3,409,705

 

$

3,419,918

 

$

 

$

3,419,918

 

$

 

$

3,101,175

 

$

3,104,204

 

Short-term debt

 

239,030

 

239,030

 

 

239,030

 

 

10,000

 

10,000

 

Long-term Federal Home Loan Bank advances

 

213,479

 

221,879

 

 

221,879

 

 

211,938

 

215,008

 

Junior subordinated debentures

 

15,464

 

12,934

 

 

12,934

 

 

15,464

 

11,436

 

Derivative liabilities

 

31,826

 

31,826

 

1,446

 

30,380

 

 

26,930

 

26,930

 

 

Other than as discussed above, the following methods and assumptions were used by management to estimate the fair value of significant classes of financial instruments for which it is practicable to estimate that value.

 

Cash and cash equivalents. Carrying value is assumed to represent fair value for cash and cash equivalents that have original maturities of ninety days or less.

 

Restricted equity securities. Carrying value approximates fair value based on the redemption provisions of the issuers.

 

Cash surrender value of life insurance policies. Carrying value approximates fair value.

 

Loans, net. The carrying value of the loans in the loan portfolio is based on the cash flows of the loans discounted over their respective loan origination rates. The origination rates are adjusted for substandard and special mention loans to factor the impact of declines in the loan’s credit standing. The fair value of the loans is estimated by discounting future cash flows using the current interest rates at which similar loans with similar terms would be made to borrowers of similar credit quality.

 

Accrued interest receivable. Carrying value approximates fair value.

 

49



Table of Contents

 

Deposits. The fair value of demand, non-interest bearing checking, savings and money market deposits is determined as the amount payable on demand at the reporting date. The fair value of time deposits is estimated by discounting the estimated future cash flows using market rates offered for deposits of similar remaining maturities.

 

Borrowed funds. The fair value of borrowed funds is estimated by discounting the future cash flows using market rates for similar borrowings.  Such funds include all categories of debt and debentures in the table above.

 

Junior subordinated debentures. The Company utilizes a pricing service along with internal models to estimate the valuation of its junior subordinated debentures. The junior subordinated debentures re-price every ninety days.

 

Off-balance-sheet financial instruments. Off-balance-sheet financial instruments include standby letters of credit and other financial guarantees and commitments considered immaterial to the Company’s financial statements.

 

NOTE 14. NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES

 

Presented below is net interest income after provision for loan losses for the three and six months ended June 30, 2012 and 2011, respectively.

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30,

 

June 30,

 

(In thousands)

 

2012

 

2011

 

2012

 

2011

 

Net interest income

 

$

35,053

 

$

24,201

 

$

66,198

 

$

44,347

 

Provision for loan losses

 

2,250

 

1,500

 

4,250

 

3,100

 

Net interest income after provision for loan losses

 

$

32,803

 

$

22,701

 

$

61,948

 

$

41,247

 

 

NOTE 15. SUBSEQUENT EVENTS

 

The Company has evaluated subsequent events through August 9, 2012, the date the financial statements were issued, noting no events requiring disclosure.

 

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

OVERVIEW

 

Management’s discussion and analysis of financial condition and results of operations is intended to assist in understanding the financial condition and results of operations of the Company. The following discussion and analysis should be read in conjunction with the Company’s consolidated financial statements and the notes thereto appearing in Part I, Item 1 of this document and with the Company’s consolidated financial statements and the notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in the 2011 Annual Report on Form 10-K. In the following discussion, income statement comparisons are against the same period of the previous year and balance sheet comparisons are against the previous fiscal year-end, unless otherwise noted. Operating results discussed herein are not necessarily indicative of the results for the year 2012 or any future period. In management’s discussion and analysis of financial condition and results of operations, certain reclassifications have been made to make prior periods comparable. Tax-equivalent adjustments are the result of increasing income from tax-advantaged securities by an amount equal to the taxes that would be paid if the income were fully taxable based on a 40.2% marginal effective income tax rate.

 

Berkshire Hills Bancorp (the “Company” or “Berkshire”) is headquartered in Pittsfield, Massachusetts. It had $4.5 billion in assets at June 30, 2012 and is the parent of Berkshire Bank — America’s Most Exciting BankSM (the “Bank”).  Berkshire completed the acquisition of CBT — The Connecticut Bank and Trust Company on April

 

50



Table of Contents

 

20, 2012.  Including the CBT operations, Berkshire provides personal and business banking, insurance, and wealth management services through 68 full service branch offices in western Massachusetts, northeastern New York, north central Connecticut, and southern Vermont.  Berkshire also operates 10 additional lending offices for commercial and residential mortgage originations in central and eastern Massachusetts.    Berkshire Bank provides 100% deposit insurance protection on all deposit accounts, regardless of amount, based on a combination of FDIC insurance and membership in the Depositors Insurance Fund (DIF). For more information, visit www.berkshirebank.com or call 800-773-5601.

 

Berkshire is a regional financial services company that seeks to distinguish itself based on the following attributes:

 

·                  Strong growth from organic, de novo, product and acquisition strategies

·                  Positive operating leverage elevating long term profitability

·                  Solid capital, core funding and risk management culture

·                  Experienced executive team focused on earnings and stockholder value

·                  Distinctive brand and culture as America’s Most Exciting BankSM

·                  Diversified integrated financial service revenues

·                  Positioned to be regional consolidator in attractive markets

 

FORWARD-LOOKING STATEMENTS

 

Certain statements contained in this document that are not historical facts may constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (referred to as the Securities Act), and Section 21E of the Securities Exchange Act of 1934, as amended (referred to as the Securities Exchange Act), and are intended to be covered by the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.  One can identify these statements from the use of the words “may,” “will,” “should,” “could,” “would,” “plan,” “potential,” “estimate,” “project,” “believe,” “intend,” “anticipate,” “expect,” “target” and similar expressions.  These forward-looking statements are subject to significant risks, assumptions and uncertainties, including among other things, changes in general economic and business conditions.

 

Additional factors that could cause results to differ materially from those described in the forward-looking statements can be found in the Registration Statement on Form S-4 that includes a Proxy Statement/Prospectus filed by Berkshire Hills Bancorp with the SEC on July 3, 2012 related to the acquisition of Beacon Federal Bancorp.  This document contains forward-looking statements about the merger of Berkshire Hills Bancorp and Beacon.  Certain factors that could cause actual results to differ materially from expected results include difficulties in achieving cost savings from the merger or in achieving such cost savings within the expected time frame, difficulties in integrating Berkshire Hills Bancorp and Beacon, increased competitive pressures, changes in the interest rate environment, changes in general economic conditions, legislative and regulatory changes that adversely affect the business in which Berkshire Hills Bancorp and Beacon are engaged, changes in the securities markets and other risks and uncertainties disclosed from time to time in documents that Berkshire Hills Bancorp files with the Securities and Exchange Commission.

 

Other factors that could cause results to differ materially from those described in the forward-looking statements can be found in the definitive Proxy Statement/Prospectus filed by Berkshire Hills Bancorp with the SEC on February 27, 2012 for the acquisition of The Connecticut Bank and Trust Company (“CBT”). This document contains forward-looking statements about the merger of Berkshire Hills Bancorp and CBT.  Certain factors that could cause actual results to differ materially from expected results include difficulties in achieving cost savings from the merger or in achieving such cost savings within the expected time frame, difficulties in integrating Berkshire Hills Bancorp and CBT, increased competitive pressures, changes in the interest rate environment, changes in general economic conditions, legislative and regulatory changes that adversely affect the business in which Berkshire Hills Bancorp and CBT are engaged, changes in the securities markets and other risks and uncertainties disclosed from time to time in documents that Berkshire Hills Bancorp files with the Securities and Exchange Commission.

 

Because of these and other uncertainties, Berkshire’s actual results, performance or achievements, or industry results, may be materially different from the results indicated by these forward-looking statements. In addition, Berkshire’s past results of operations do not necessarily indicate Berkshire’s combined future results.  You should

 

51



Table of Contents

 

not place undue reliance on any of the forward-looking statements, which speak only as of the dates on which they were made.  Berkshire is not undertaking an obligation to update these forward-looking statements, even though its situation may change in the future, except as required under federal securities law. Berkshire qualifies all of its forward-looking statements by these cautionary statements.

 

GENERAL

 

This discussion is intended to assist in understanding the financial condition and results of operations of the Company. This discussion should be read in conjunction with the consolidated financial statements and accompanying notes contained in this report.

 

APPLICATION OF CRITICAL ACCOUNTING POLICIES AND ACCOUNTING ESTIMATES, AND NEW ACCOUNTING PRONOUNCEMENTS

 

The Company’s significant accounting policies are described in Note 1 to the consolidated financial statements in this Form 10-Q and in the most recent Form 10-K.   Please see those policies in conjunction with this discussion. The accounting and reporting policies followed by the Company conform, in all material respects, to accounting principles generally accepted in the United States and to general practices within the financial services industry. The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. While the Company bases estimates on historical experience, current information and other factors deemed to be relevant, actual results could differ from those estimates.

 

The SEC defines “critical accounting policies” as those that require application of management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in future periods. Please see those policies in conjunction with this discussion. Management believes that the following policies would be considered critical under the SEC’s definition:

 

Allowance for Loan Losses. The allowance for loan losses is the Company’s estimate of probable credit losses that are inherent in the loan portfolio at the financial statement date. Management uses historical information, as well as current economic data, to assess the adequacy of the allowance for loan losses as it is affected by changing economic conditions and various external factors, which may impact the portfolio in ways currently unforeseen. Although management believes that it uses appropriate available information to establish the allowance for loan losses, future additions to the allowance may be necessary if certain future events occur that cause actual results to differ from the assumptions used in making the evaluation. Conditions in the local economy and real estate values could require the Company to increase provisions for loan losses, which would negatively impact earnings.

 

Acquired Loans. Due to recent bank acquisitions, the Company added a significant accounting policy related to acquired loans. Loans that the Company acquired are initially recorded at fair value with no carryover of the related allowance for credit losses. Determining the fair value of the loans involves estimating the amount and timing of principal and interest cash flows initially expected to be collected on the loans and discounting those cash flows at an appropriate market rate of interest. Going forward, the Company continues to evaluate reasonableness of expectations for the timing and the amount of cash to be collected. Subsequent decreases in expected cash flows may result in changes in the amortization or accretion of fair market value adjustments, and in some cases may result in the loan being considered impaired.  For collateral dependent loans with deteriorated credit quality, the Company estimates the fair value of the underlying collateral of the loans.  These values are discounted using market derived rates of return, with consideration given to the period of time and costs associated with the foreclosure and disposition of the collateral.

 

Income Taxes. Significant management judgment is required in determining income tax expense and deferred tax assets and liabilities. The Company uses the asset and liability method of accounting for income taxes in which deferred tax assets and liabilities are established for the temporary differences between the financial reporting basis and the tax basis of the Company’s assets and liabilities. The realization of the net deferred tax asset generally depends upon future levels of taxable income and the existence of prior years’ taxable income, to which “carry back” refund claims could be made. A valuation allowance is maintained for deferred tax assets that

 

52



Table of Contents

 

management estimates are more likely than not to be unrealizable based on available evidence at the time the estimate is made. In determining the valuation allowance, the Company uses historical and forecasted future operating results, based upon approved business plans, including a review of the eligible carry-forward periods, tax planning opportunities and other relevant considerations. These underlying assumptions can change from period to period. For example, tax law changes or variances in future projected operating performance could result in a change in the valuation allowance. Should actual factors and conditions differ materially from those considered by management, the actual realization of the net deferred tax asset could differ materially from the amounts recorded in the financial statements. If the Company is not able to realize all or part of its net deferred tax asset in the future, an adjustment to the deferred tax asset valuation allowance would be charged to income tax expense in the period such determination was made.

 

Goodwill and Identifiable Intangible Assets. Goodwill and identifiable intangible assets are recorded as a result of business acquisitions and combinations. These assets are evaluated for impairment annually or whenever events or changes in circumstances indicate the carrying value of these assets may not be recoverable. When these assets are evaluated for impairment, if the carrying amount exceeds fair value, an impairment charge is recorded to income. The fair value is based on observable market prices, when practicable. Other valuation techniques may be used when market prices are unavailable, including estimated discounted cash flows and market multiples analyses. These types of analyses contain uncertainties because they require management to make assumptions and to apply judgment to estimate industry economic factors and the profitability of future business strategies. In the event of future changes in fair value, the Company may be exposed to an impairment charge that could be material.

 

Determination of Other-Than-Temporary Impairment of Securities. The Company evaluates debt and equity securities within the Company’s available for sale and held to maturity portfolios for other-than-temporary impairment (“OTTI”), at least quarterly. If the fair value of a debt security is below the amortized cost basis of the security, OTTI is required to be recognized if any of the following are met: (1) the Company intends to sell the security; (2) it is “more likely than not” that the Company will be required to sell the security before recovery of its amortized cost basis; or (3) for debt securities, the present value of expected cash flows is not sufficient to recover the entire amortized cost basis. For all impaired debt securities that the Company intends to sell, or more likely than not will be required to sell, the full amount of the depreciation is recognized as OTTI through earnings. Credit-related OTTI for all other impaired debt securities is recognized through earnings. Noncredit related OTTI for such debt securities is recognized in other comprehensive income, net of applicable taxes. In evaluating its marketable equity securities portfolios for OTTI, the Company considers its intent and ability to hold an equity security to recovery of its cost basis in addition to various other factors, including the length of time and the extent to which the fair value has been less than cost and the financial condition and near term prospects of the issuer.  Any OTTI on marketable equity securities is recognized immediately through earnings. Should actual factors and conditions differ materially from those expected by management, the actual realization of gains or losses on investment securities could differ materially from the amounts recorded in the financial statements.

 

Fair Value of Financial Instruments. The Company uses fair value measurements to record fair value adjustments to certain financial instruments and to determine fair value disclosures. Trading assets, securities available for sale, and derivative instruments are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis, or to establish a loss allowance or write-down based on the fair value of impaired assets. Further, the notes to financial statements include information about the extent to which fair value is used to measure assets and liabilities, the valuation methodologies used and its impact to earnings.  For financial instruments not recorded at fair value, the notes to financial statements disclose the estimate of their fair value. Due to the judgments and uncertainties involved in the estimation process, the estimates could result in materially different results under different assumptions and conditions.

 

For additional information regarding critical accounting policies, refer to Note 1 — Summary of Significant Accounting Policies in the notes to consolidated financial statements and the sections captioned “Critical Accounting Policies” and “Loan Loss Allowance” in Management’s Discussion and Analysis of Financial Condition and Results of Operations included in the 2011 Form 10-K. There have been no significant changes in the Company’s application of critical accounting policies since year-end 2011. Please refer to the note on Recent Accounting Pronouncements in Note 2 to the consolidated financial statements of this report for a detailed

 

53



Table of Contents

 

discussion of new accounting pronouncements.  Please also see Note 1 in the consolidated financial statements for Election of the Use of the Fair Value Option.

 

54



Table of Contents

 

SELECTED FINANCIAL DATA

 

The following summary data is based in part on the consolidated financial statements and accompanying notes, and other information appearing elsewhere in this Form 10-Q.

 

 

 

At or for the Three Months Ended

 

At or for the Six Months Ended

 

 

 

June 30,

 

June 30,

 

 

 

2012

 

2011

 

2012

 

2011

 

 

 

 

 

 

 

 

 

 

 

PER COMMON SHARE DATA

 

 

 

 

 

 

 

 

 

Net earnings, diluted

 

$

0.37

 

$

0.11

 

$

0.65

 

$

0.31

 

Total common book value

 

26.31

 

26.61

 

26.31

 

26.61

 

Dividends

 

0.17

 

0.16

 

0.34

 

0.32

 

Common stock price:

 

 

 

 

 

 

 

 

 

High

 

23.49

 

22.85

 

24.49

 

22.92

 

Low

 

20.15

 

20.45

 

20.15

 

20.45

 

Close

 

22.00

 

22.39

 

22.00

 

22.39

 

 

 

 

 

 

 

 

 

 

 

PERFORMANCE RATIOS (1)

 

 

 

 

 

 

 

 

 

Return on average assets

 

0.73

%

0.23

%

0.66

%

0.31

%

Return on average common equity

 

5.58

 

1.67

 

4.90

 

2.28

 

Net interest margin, fully taxable equivalent

 

3.70

 

3.52

 

3.66

 

3.41

 

Fee income/Net interest and fee income

 

25.52

 

25.58

 

24.54

 

26.96

 

 

 

 

 

 

 

 

 

 

 

ASSET QUALITY RATIOS

 

 

 

 

 

 

 

 

 

Net charge-offs (current period annualized)/average loans

 

0.25

%

0.24

%

0.24

%

0.27

%

Allowance for loan losses/total loans

 

0.98

 

1.30

 

0.98

 

1.30

 

 

 

 

 

 

 

 

 

 

 

CAPITAL RATIOS

 

 

 

 

 

 

 

 

 

Stockholders’ equity to total assets

 

12.94

%

13.80

%

12.94

%

13.80

%

 

 

 

 

 

 

 

 

 

 

FINANCIAL DATA: (In millions)

 

 

 

 

 

 

 

 

 

Total assets

 

$

4,508

 

$

3,226

 

$

4,508

 

$

3,226

 

Total loans

 

3,366

 

2,452

 

3,366

 

2,452

 

Allowance for loan losses

 

33

 

32

 

33

 

32

 

Other earning assets

 

649

 

411

 

649

 

411

 

Total intangible assets

 

240

 

193

 

240

 

193

 

Total deposits

 

3,410

 

2,486

 

3,410

 

2,486

 

Total borrowings and debentures

 

468

 

261

 

468

 

261

 

Total common stockholders’ equity

 

583

 

445

 

583

 

445

 

 

 

 

 

 

 

 

 

 

 

FOR THE PERIOD: (In thousands)

 

 

 

 

 

 

 

 

 

Net interest income

 

$

35,053

 

$

24,201

 

$

66,198

 

$

44,347

 

Provision for loan losses

 

2,250

 

1,500

 

4,250

 

3,100

 

Non-interest income

 

12,288

 

8,170

 

22,090

 

16,304

 

Non-interest expense

 

34,184

 

28,623

 

64,378

 

51,812

 

Net income

 

7,986

 

1,877

 

13,830

 

4,712

 

 


(1) All performance ratios are annualized and are based on average balance sheet amounts, where applicable.

 

55



Table of Contents

 

Note: Generally accepted accounting principles require that loans acquired in a business combination be recorded at fair value, whereas loans from business activities are recorded at cost. The fair value of loans acquired in a business combination includes expected loan losses, and there is no loan loss allowance recorded for these loans at the time of acquisition. Accordingly, the ratio of the loan loss allowance to total loans is reduced as a result of the existence of such loans, and this measure is not directly comparable to prior periods. Similarly, net loan charge-offs are normally reduced for loans acquired in a business combination since these loans are recorded net of expected loan losses. Therefore, the ratio of net loan charge-offs to average loans is reduced as a result of the existence of such loans, and this measure is not directly comparable to prior periods. Other institutions may have loans acquired in a business combination, and therefore there may be no direct comparability of these ratios between and among other institutions.

 

56



Table of Contents

 

AVERAGE BALANCES AND AVERAGE YIELDS/RATES

 

The following table presents average balances and an analysis of average rates and yields on an annualized fully taxable equivalent basis for the periods included.

 

 

 

Three Months Ended June 30,

 

Six Months Ended June 30,

 

 

 

2012

 

2011

 

2012

 

2011

 

($ In millions)

 

Average
Balance

 

Yield/Rate
(FTE basis)

 

Average
Balance

 

Yield/Rate
(FTE basis)

 

Average
Balance

 

Yield/Rate
(FTE basis)

 

Average
Balance

 

Yield/Rate
(FTE basis)

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Residential mortgages

 

$

1,167

 

4.64

%

$

802

 

4.97

%

$

1,112

 

4.64

%

$

727

 

5.01

%

Commercial loans

 

1,742

 

5.00

 

1,308

 

4.78

 

1654

 

4.95

 

1,261

 

4.71

 

Consumer loans

 

375

 

3.93

 

311

 

3.97

 

371

 

3.96

 

296

 

3.80

 

Total loans

 

3,284

 

4.75

 

2,421

 

4.74

 

3,137

 

4.73

 

2,284

 

4.70

 

Securities

 

549

 

3.30

 

406

 

4.07

 

537

 

3.29

 

405

 

4.04

 

Short-term investments and loans held for sale

 

47

 

0.06

 

5

 

0.19

 

31

 

0.06

 

8

 

0.16

 

Total earning assets

 

3,880

 

4.49

 

2,831

 

4.64

 

3,705

 

4.49

 

2,697

 

4.58

 

Other assets

 

472

 

 

 

383

 

 

 

466

 

 

 

349

 

 

 

Total assets

 

$

4,352

 

 

 

$

3,214

 

 

 

$

4,171

 

 

 

$

3,046

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities and stockholders’ equity

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deposits:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOW

 

$

297

 

0.30

%

$

230

 

0.31

%

$

285

 

0.28

%

$

223

 

0.32

%

Money market

 

1,136

 

0.49

 

778

 

0.69

 

1,111

 

0.52

 

762

 

0.72

 

Savings

 

370

 

0.18

 

317

 

0.26

 

365

 

0.19

 

276

 

0.28

 

Time

 

1,039

 

1.44

 

810

 

2.00

 

1,011

 

1.47

 

774

 

2.09

 

Total interest-bearing deposits

 

2,842

 

0.78

 

2,135

 

1.08

 

2,772

 

0.80

 

2,035

 

1.14

 

Borrowings and debentures

 

399

 

2.14

 

270

 

3.10

 

328

 

2.65

 

250

 

3.36

 

Total interest-bearing liabilities

 

3,241

 

0.95

 

2,405

 

1.31

 

3,100

 

0.98

 

2,285

 

1.38

 

Non-interest-bearing demand deposits

 

499

 

 

 

334

 

 

 

469

 

 

 

314

 

 

 

Other liabilities

 

39

 

 

 

25

 

 

 

39

 

 

 

26

 

 

 

Total liabilities

 

3,779

 

 

 

2,764

 

 

 

3,608

 

 

 

2,625

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

573

 

 

 

450

 

 

 

563

 

 

 

421

 

 

 

Total liabilities and stockholders’ equity

 

$

4,352

 

 

 

$

3,214

 

 

 

$

4,171

 

 

 

$

3,046

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net interest spread

 

 

 

3.54

%

 

 

3.33

%

 

 

3.50

%

 

 

3.20

%

Net interest margin

 

 

 

3.70

 

 

 

3.52

 

 

 

3.66

 

 

 

3.41

 

Cost of funds

 

 

 

0.82

 

 

 

1.15

 

 

 

0.86

 

 

 

1.22

 

Cost of deposits

 

 

 

0.66

 

 

 

0.94

 

 

 

0.68

 

 

 

0.99

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Supplementary data

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total deposits (In millions)

 

$

3,341

 

 

 

$

2,469

 

 

 

$

3,241

 

 

 

$

2,349

 

 

 

Fully taxable equivalent income adj. (In thousands)

 

$

638

 

 

 

$

675

 

 

 

$

1,307

 

 

 

$

1,354

 

 

 

 


(1)          The average balances of loans include nonaccrual loans, loans held for sale, and deferred fees and costs.

 

(2)          The average balance for securities available for sale is based on amortized cost. The average balance of equity also reflects this adjustment.

 

(3)          The above schedule includes yields associated with discontinued operations, although the related income is excluded from income from continuing operations on the income statement. The above schedule includes balances associated with discontinued operations.

 

57



Table of Contents

 

SUMMARY

 

During the second quarter and first half of 2012, Berkshire recorded significant growth in loans, deposits, revenues, and earnings as a result of its initiatives to build its franchise.  There was general improvement of profitability, and measures of capital, asset quality, and liquidity remained favorable.  Most lines of business produced larger business volumes and improved pricing spreads.  Improvement has been focused in areas where Berkshire has been investing for growth, including commercial banking and regional expansion in Central/Eastern New York and Central/Eastern Massachusetts.

 

First half 2012 highlights were as follows (revenue and earnings growth is compared to the first half of 2011; loan and deposit growth is compared to year-end 2011):

 

·                  46% revenue growth,

·                  194% increase in net income

·                  110% increase in earnings per share

·                  14% loan growth

·                  10% deposit growth

·                  3.66% net interest margin

·                  0.60% non-performing assets/total assets

·                  0.24% annualized net loan charge-offs/average loans

 

During the most recent quarter, Berkshire completed the acquisition of CBT - The Connecticut Bank and Trust Company on April 20, 2012.  Berkshire has added 8 Connecticut branch offices, increasing its full service banking offices to 68, including new offices opened in the New York region in 2012.  Berkshire also completed the acquisition of the operations of Greenpark Mortgage on April 30, 2012.  The Greenpark acquisition has added eight new lending offices in Central/Eastern Massachusetts.  These acquisitions were completed on time and on plan.  They increase Berkshire’s footprint, add new opportunities for cross sales across Berkshire’s business lines, and improve the diversity of revenue sources.

 

COMPARISON OF FINANCIAL CONDITION AT JUNE 30, 2012 AND DECEMBER 31, 2011

 

Summary:  Berkshire maintained positive growth momentum from business development in targeted business lines, while managing other balances in connection with the acquisitions of CBT and Greenpark.  Total assets increased by 13% to $4.5 billion from $4.0 billion, including approximately $0.3 billion related to CBT and $0.1 billion related to Greenpark.  Total equity increased by $30 million, primarily due to $22 million in common stock issued for CBT merger consideration.  Total intangible assets increased by $17 million primarily due to merger related goodwill and core deposit intangibles.  Most major categories of assets, liabilities, and equity increased as a result of the business combinations.  Including the acquired balances, overall measures of asset quality, capital, and liquidity remained favorable.  Assets and liabilities from discontinued operations at year-end 2011 were related to four former Legacy New York branches which were divested in January 2012.

 

Securities:  Total investment securities increased by $35 million (6%) to $568 million due to $41 million added from CBT.  To conform with Berkshire’s investment objectives, a significant portion of the CBT investment portfolio was sold around the time of the merger.  Held to maturity securities decreased due to runoff related to refinancing by a limited number of issuers.  Securities purchases consisted mainly of structured U.S. agency collateralized mortgage obligations with targeted average lives in the 2 — 5 year range.  Berkshire also continues to invest in dividend yielding equity securities of local financial institutions.  The yield on investment securities improved to 3.30% in the second quarter of 2012 compared to 3.26% in the final quarter of 2011.  Berkshire continues to maintain a high quality, relatively short duration investment portfolio, and to focus on loan growth as the primary use of funds from deposit growth and the primary source of interest income. The average life of the available for sale debt securities portfolio was estimated at 3.7 years at midyear, compared to 4.2 years at the start of the year.

 

The unrealized gain on investment securities remained unchanged at 2% of amortized cost.  The Company did not record any material losses or write-downs of investment securities in the first half of the year and none of the Company’s investment securities was other-than-temporarily impaired at mid-year. Losses on securities with unrealized

 

58



Table of Contents

 

losses declined to $3 million from $4 million.  Included in this total was one pooled trust preferred security with a cost of $2.6 million and an unrealized loss of $2.0 million at midyear, which was down slightly from $2.1 million at year-end 2011.  Interest payments have been suspended on this security, but it is classified as performing based on the Company’s financial analysis, and the impairment is viewed as temporary.  This security is described more fully in the notes to the consolidated financial statements.  There were several downgrades of corporate bonds and single issuer trust preferred securities during the most recent quarter, due primarily to changes in the ratings environment for large financial institutions.

 

Loans.  Total loans increased by $409 million (14%) in the first half of the year, including $210 million in acquired CBT loans and $173 million in residential mortgage portfolio growth.  An ongoing focus of Berkshire’s lending program is the growth of commercial loans, with an emphasis on commercial business loans where the Company believes it has the strongest competitive advantage and which are expected to result in strong relationships and use of a variety of Berkshire’s products and services.  The total increase in commercial loans was $234 million, including $187 million in balances acquired with CBT.  Excluding these CBT loans, the net increase in commercial loans from business activities was $47 million, or 6% on an annualized basis.  This growth included a $27 million increase in the asset based lending portfolio.

 

Commercial loan growth in the first half of the year included contributions from Berkshire’s new Central/Eastern Massachusetts commercial banking team located in Westborough, together with the contributions of its asset based lending team located in Woburn and its New York commercial lending team based in Albany.  In conjunction with its second quarter acquisition of The Connecticut Bank & Trust Company, Berkshire expects to develop its commercial lending footprint in the Worcester, Springfield, Hartford triangle, as well as continuing to enhance its commercial presence in eastern Massachusetts.  Berkshire continues to take commercial market share from national competitors as a result of the capabilities and responsiveness of the commercial banking teams that it has recruited in recent years.  Berkshire is adhering to strong underwriting and pricing disciplines as it captures larger market share with high grade loan originations in all of its commercial lending areas.  Berkshire has also enhanced its small business lending program, including servicing smaller relationships through its branch network, and these relationships are expected to contribute more to future loan growth.

 

The $173 million increase in the residential mortgage portfolio included $7 million in acquired CBT mortgages, and a $166 million (16%) increase in balances from business activities.  This increase consisted of fixed rate mortgages which were originated in the first half of the year in the strong refinancing market that developed due to low interest rates and some firming of local real estate markets.  The increase included mortgages which were purchased from Greenpark Mortgage prior to its acquisition date, together with mortgage originations by Greenpark mortgage after the acquisition date.  The increase was net of certain mortgages sold in the first half of the year.   Berkshire utilized forward starting interest rate swaps to maintain an overall asset sensitive interest rate risk profile as measured by the sensitivity of net interest income.  Berkshire, and its new Greenpark Mortgage division, originates conforming and jumbo residential mortgages.  The Company expects to increase secondary market sales of newly originated mortgages in the second half of the year, with less portfolio growth as a consequence.  For mortgages targeted for sale, the Company hedges its interest rate risk on rate locked mortgage applications through the use of derivatives contracts, supplemented by best efforts forward mortgage sales.

 

The acquired CBT loans had a carrying value $215.8 million and a fair value of $209.6 million.  The resulting $6.2 million fair value discount equated to 2.9% of the carrying value.  In the two calendar quarters prior to the acquisition, CBT’s net loan charge-offs totaled $2.9 million (1.3% of the carrying value at acquisition date).  The nonaccretable portion of the $6.2 million discount totaled $5.6 million, which equated to 23% of the $23.7 million carrying value of the related loans.  The acquired CBT loans were concentrated in commercial loans, with a fair value of $187 million, and consisting primarily of small business loans in the Greater Hartford area.

 

The loan yield was 4.75% in the most recent quarter, and included the 0.07% benefit of yield accretion on a loan prepayment.  Excluding this benefit, the yield was 4.68% in the most recent quarter, compared to 4.74% in the fourth quarter of 2011.  This decline in yield reflects the impact of the lower interest rate environment on loan prepayments and originations.  The yield on loans in the most recent quarter included the benefit of acquired CBT commercial loans with higher than normal credit risk, which are assigned higher yields reflecting market yield requirements for these assets. The overall yield on the CBT loan portfolio was established at 6.0% based on the initial yield requirements as of the merger date.

 

59



Table of Contents

 

Asset Quality.   Acquired loans are recorded at fair value and are categorized as performing regardless of their payment status.  Therefore, some overall portfolio measures of asset performance are not comparable between periods or among institutions as a result of recent business combinations.

 

The level of non-performing assets was $27 million at midyear, a slight increase compared to $26 million at the start of the year.  The write-down and resolution of a commercial foreclosed property and a commercial real estate loan were offset by a new non-performing commercial real estate loan and an increase in non-accruing residential mortgages.  As noted above, all acquired CBT loans were classified as performing.  As a result, the ratio of non-performing assets to total assets decreased to 0.60% of total assets from 0.65% at year-end 2011.  The largest nonperforming asset at midyear was approximately $3 million.

 

Accruing loans over 90 days past due increased to 0.51% of total loans at midyear compared to 0.34% at the start of the year, primarily due to the addition of past due CBT loans which are classified as accruing under accounting principles for business combinations.  Loans delinquent 30-89 days decreased to 0.41% of total loans from 0.55%.  Foreclosed assets and troubled debt restructurings remained insignificant through midyear.  Net loan charge-offs remained comparatively low at 0.24% of average loans in the first half of 2012.

 

Classified loans are loans rated substandard or lower in the Company’s internal risk rating system.  The ratio of classified loans/total loans remained unchanged at 4.1%, and the increase in classified loans was primarily related to acquired CBT commercial loans.  Classified loans include non-accruing loans, which were unchanged at 0.8% of total loans.  The remaining loans, measuring 3.3% of total loans, represent potential problem loans which could become non-performing based on known risks.  Included in these loans are acquired loans with credit impairment at acquisition date.  These loans were recorded at fair value at acquisition date and are generally being maintained as performing loans.  The acquired classified loans were 1.1% of total loans at midyear, compared to 0.6% at the start of the year.  Special mention loans are loans with higher than normal credit risk which do not warrant classification.  These loans increased to 1.6% of total loans from 1.3%, primarily due to acquired CBT commercial loans.

 

Loan Loss Allowance. The determination of the allowance for loan losses is a critical accounting estimate.  The Company considers the allowance for loan losses appropriate to cover probable losses which can be reasonably estimated and which are inherent in the loan portfolio as of the balance sheet date. Under accounting standards for business combinations, acquired loans are recorded at fair value with no loan loss allowance on the date of acquisition. A loan loss allowance is recorded by the Company for the emergence of new probable and estimable losses relating to acquired loans which were not impaired as of the acquisition date. Because of the accounting for acquired loans, some measures of the loan loss allowance are not comparable to periods prior to the acquisition date.  The ratio of the allowance to non-performing loans was 126% at midyear, and the allowance measured 4.3X annualized first half net loan charge-offs.

 

The total amount of the loan loss allowance increased to $32.9 million from $32.4 million.  The allowance related to loans from business activities was flat at $32 million, and the ratio of this allowance to loans from business activities decreased to 1.26% from 1.41%.  The majority of the growth in this portfolio was in residential mortgage loans, which have lower inherent losses than other loan categories.  The allowance related to impaired loans from business activities was little changed, totaling $2.9 million at midyear.  The $0.5 million increase in the total allowance was related to the allowance for acquired loans and primarily reflected the emergence of new inherent losses in non-impaired loans due to the passage of time for loans acquired in bank mergers in 2011.

 

Other Assets. Loans held for sale increased to $59 million from $1 million due to the acquisition of the Greenpark Mortgage operations.  For loans held for sale, Berkshire enters into mandatory delivery or best efforts sale contracts with institutional secondary market purchasers.  Total goodwill increased by $18 million including $14 million recorded for the CBT acquisition and $4 million recorded for the Greenpark acquisition. The net deferred tax asset totaled $40.7 million at midyear, compared to $39.7 million at year end 2011.

 

Deposits and Borrowings.  Total deposits increased by $309 million (10%) to $3.41 billion during the first half of the year, including $210 million in acquired CBT balances.  Excluding the acquired balances, total deposits from business activities increased by $98 million at a 6% annualized rate.  Non-maturity deposits from business activities increased at a 9% annualized rate, with increases in all major account categories.  Berkshire continues to

 

60



Table of Contents

 

promote lower cost relationship oriented accounts in all of its markets, along with commercial deposits associated with its increased originations of commercial business loans and small business loans.  Berkshire has also benefited from ongoing de novo branch expansion in its Albany, New York region.  Time deposits from business activities were flat during the first half of the year, as the Company allowed higher cost maturing time account balances to roll off in the second quarter.  The acquired CBT deposits included non-maturity accounts totaling $139 million and time deposits totaling $72 million serviced  by CBT’s eight branches in the Hartford region.

 

The cost of deposits decreased to 0.66% in the most recent quarter from 0.73% in the fourth quarter of 2011, reflecting reductions in all major categories of interest bearing accounts.  Deposit costs reflect Berkshire’s pricing disciplines in the current low interest rate environment, along with the impact of the acquired deposit balances.  The cost of time deposits was 1.44% in the most recent quarter., compared to 1.52% in the fourth quarter of 2011.  Time accounts maturing in the second half of 2012 total approximately $335 million and have an average cost of approximately 1%.  Berkshire anticipates that the cost of these deposits will decrease when they are renewed.  The initial cost established for the CBT time deposits based on the fair value analysis on the merger date was 0.63%.

 

Total borrowings increased by $230 million (97%) to $468 million, including $39 million in acquired CBT borrowings, $59 million related to the Greenpark mortgage loans held for sale, and $132 million which was combined with deposit growth to fund the $199 million increase in loans from business activities.  The new borrowings all consisted of low cost overnight FHLBB advances as of June 30, 2012.  Including these lower cost funds, the cost of borrowings decreased to 2.14% in the most recent quarter from 3.35% in the fourth quarter of 2011. Berkshire had approximately $440 million in additional borrowing capacity with the FHLBB at midyear.  Despite the increase in borrowings, Berkshire’s loan/deposit ratio remained below 100%, measuring 99% at midyear.

 

Derivative Financial Instruments and Hedging Activities.  The total notional value of derivatives increased by $433 million (75%) to $1.011 billion at midyear from $578 million at the start of the year.    The increase was primarily related to a $343 million increase in derivatives related to mortgage banking activities, together with an $80 million increase in forward starting cash flow hedges related to asset liability management and the increase in the residential mortgage portfolio.

 

Due to the acquisition of the Greenpark Mortgage operations, Berkshire significantly increased its residential mortgage originations and hedging activities.  As a result, interest rate lock commitments for applications in process and intended for sale increased to $215 million and were 79% hedged by derivative financial instruments consisting of forward sales of mortgage backed securities totaling $170 million.  For these loans, at the loan closing the Bank expects to enter into mandatory sales commitments to established institutional non-government secondary market purchasers and to terminate the offsetting financial derivative hedge at that time.  The remaining $45 million balance of rate locked commitments included an estimated amount related to expected fallout, with the balance covered by best efforts forward mortgage sales to secondary market purchasers.  The sale contracts to secondary market purchasers are not recorded as derivatives.

 

As noted above, the Company funded its $173 million net increase in residential mortgages with deposits and overnight borrowings.  In order to hedge some of the interest rate risk related to the borrowings, the Company entered into forward starting hedges totaling $80 million.  On average, the forward starting interest rate swaps begin in 1.5 years and have an average life of 4.4 years once swaps are started.   The fair value unrealized loss on cash flow hedges increased by $2 million to $11 million during the first half of the year due to the decrease in interest rates.  This unrealized loss was offset by unrealized gains in the fair value of loans due to the interest rate environment.

 

Stockholders’ Equity.  Total stockholders’ equity increased by $30 million (5%), including $22 million in common stock issued as CBT merger consideration.  Berkshire issued 965 thousand shares for the CBT acquisition at an average value of $22.80 based on the closing price of Berkshire’s stock prior to the acquisition.  For the first half of 2012, net income of $14 million funded cash stock dividends to our shareholders of $7 million and contributed to a $6 million increase in retained earnings.  During the first half of the year, 64 thousand restricted stock grants were recorded for $1.5 million, primarily pursuant to the Company’s equity compensation plan, with most vesting on an annual step basis over three years based on time and performance criteria.

 

61



Table of Contents

 

The ratio of tangible equity/ tangible assets decreased to 8.0% from 8.8% during the first half of the year.  Tangible equity is a non-GAAP financial measure commonly used by investors and it excludes goodwill and intangible assets, which increased by $17 million to $240 million due to the CBT and Greenpark goodwill.  The increase in intangibles mostly offset the increase in equity from the CBT merger consideration, and the ratio of tangible equity/tangible assets decreased due to the 13% increase in total assets.   Tangible book value per share was $15.49 at midyear compared to $15.60 at the start of the year.  Retained earnings mostly offset the estimated dilutive impact of business combinations for CBT and Greenpark.  Total book value per share was $26.31 at midyear, compared to $26.17 at the start of the year.  Berkshire Bank’s risk based capital ratio measured 10.3% at midyear, compared to 11.3% at the start of the year.  This reflected the business combinations, the growth in loans from business activities, and adjustments to certain risk weighting factors. The ratio of equity/assets decreased to 12.9% from 13.9% due to the asset growth.

 

COMPARISON OF OPERATING RESULTS FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2012 AND 2011

 

Summary:  Berkshire’s results included Rome operations acquired on April 1, 2011, Legacy operations acquired on July 21, 2011, CBT operations acquired on April 20, 2012, and Greenpark Mortgage operations acquired on April 30, 2012.  As a result, most categories of revenue and expense increased due to these acquisitions.  Earnings per share were affected by the issuance of additional Berkshire common shares related to these acquisitions.  All references to revenue and expense in this discussion exclude discontinued operations of Legacy branches, which were divested in the fourth quarter of 2011 and the first quarter of 2012.

 

Berkshire’s second quarter net income was $8.0 million ($0.37 per share) in 2012, compared to $1.9 million ($0.11 per share) in 2011.  For the first half of the year, net income totaled $13.8 million ($0.65 per share) in 2012, compared to $4.7 million ($0.31 per share) in 2011.  Results in all periods included merger and conversion related charges.  Most profitability measurements before these charges improved including the benefit of the business combinations and positive operating leverage related to higher revenues from business activities and disciplined expense management.  The return on assets increased to 0.73% in the most recent quarter, after 0.20% in net charges related to the after-tax impact of merger and conversion related items.  In this quarter, the return on equity was 5.6%, after the 1.6% impact of the above-mentioned net charges.  Berkshire believes that its results show good progress towards its objectives to produce a return on assets exceeding 1% and a return on equity exceeding 10%.  Including the benefit of the pending Beacon acquisition before year-end 2012, Berkshire plans to make further progress towards achieving these profitability objectives.  The Company has maintained an asset sensitive net interest income profile, as management has chosen to sacrifice current yield to protect earnings in the event of future rate increases.  The Company is also absorbing the costs of ongoing branch and business expansion in its cost of operations.

 

Revenue.  Second quarter total net revenue increased by 46% to $47 million in 2012 compared to 2011.  For the first half of the year, net revenue increased by 46% to $88 million.  This included the benefit of organic growth as well as the business combinations.  Revenue per share increased by 11% for the second quarter and by 4% for the first half of the year.  Annualized revenue per share reached $8.68 in the most recent quarter.  Most of the revenue growth was recorded in net interest income, since the acquired banks had a lower proportion of fee income sources.  Non-interest income measured 26% of total net revenue in the most recent quarter.  Berkshire targets to increase the ratio of fee income to total net revenue to 30% or higher as a result of additional cross sales in new markets along with further wallet share growth in existing markets.  Additionally, the acquisition of Greenpark is targeted to increase the percentage of total annual revenue provided by fee income.

 

Net Interest Income.  Second quarter net interest income increased by 45% to $35 million in 2012 compared to 2011.  For the first half of the year, net interest income increased by 49% to $66 million.  This included the benefit of organic growth as well as the business combinations.  Average earning assets increased by 37% in the second quarter and first half of 2012 compared to 2011.  The net interest margin improved to 3.70% from 3.52% in the second quarter and to 3.66% from 3.41% in the first half of 2012 compared to 2011.  The improvement in the margin resulted from slight increases in loan yields together with significant reductions in funding costs.  Acquired bank loans and deposits are marked to fair value based on market interest rates at the time of the completion of the merger.  Additionally, acquired loans with higher than normal credit risk are assigned higher asset yields based on market expectations for such loans, and all non-performing acquired loans are classified as accruing based on the imputed asset yields.  The benefit of these loan yields has offset the loan

 

62



Table of Contents

 

yield compression generally being experienced in the industry due to the low interest rate environment.  This environment has also contributed to the reduction in funding costs.  Berkshire maintains a close focus on its loan and deposit pricing disciplines to lessen the potential for margin compression.  Berkshire has also balanced its portfolio growth and funding sources to support the net interest margin and to support the ongoing organic growth in market share as it continues to pursue strategic growth in its regional markets.  Of note, the acquired loan portfolios are recorded at a net discount to the contractual loan balance due to the impact of loans with higher than normal risk, and this discount is accreted into interest income over the expected lives of the related loans.  Net interest income from accretion on acquired loans was $0.5 million in the first quarter of 2012 and was net of charges related to accelerated prepayments of premium residential mortgages.  Net interest income from accretion on acquired loans in the second quarter of 2012 was $1.2 million and included a $0.6 million credit related to the early prepayment of one discounted acquired commercial mortgage.  Volatility in prepayment patterns and in the workout of acquired problem assets can introduce up to five or more basis points of volatility in the net interest margin from quarter to quarter.  Berkshire maintains an asset sensitive interest rate risk profile so that any future rate increases from the current low rate environment are expected to benefit net interest income.

 

Non-Interest Income.  Non-interest income increased by 50% to $12.3 million in the second quarter and by 35% to $22.1 million in the second half of 2012 compared to 2011.  This included the benefit of organic growth as well as the business combinations.   Second quarter non-interest income included a $2.2 million increase in loan related revenue due to the contribution of the new Greenpark operations, which are stated net of direct costs of loan originations.  Loan fees also included higher secondary market income related to other residential mortgage sales.  Second quarter deposit related fees increased by 18% from year-to-year, primarily due to a 35% increase in average balances.  The second quarter ratio of annualized deposit fees to average deposits decreased to 0.47% from 0.55% due primarily to the lower fee services offered by the acquired banks.  Six month insurance fees decreased due to a change in Berkshire’s arrangements with its insurance carriers.  Beginning in 2012, Berkshire has renegotiated its compensation arrangements with insurance carriers to substantially reduce the reliance on seasonal contingency income without reducing expected total yearly income.  In previous years, Berkshire has had significant seasonality in its insurance revenues in the first two quarters of the year.  Berkshire is experiencing some improvement in business volume and pricing conditions in its insurance business lines.   Berkshire has also produced new business development in its wealth management business at an annualized rate in excess of 10% in 2012.  Included in other non-interest income for the first half of 2012 is a $1.3 million credit for income on bank owned life insurance policies.  Additionally, the Company records a loss on investment tax credit limited partnership interests which is offset by a credit to income tax expense representing the net tax benefit of these investments in renewable energy, low income housing, and other tax credit partnerships.

 

Loan Loss Provision.  The provision for loan losses is a charge to earnings in an amount sufficient to maintain the allowance for loan losses at a level deemed adequate by the Company as an estimate of the probable and estimable loan losses inherent in the portfolio as of period-end.  The level of the allowance is a critical accounting estimate, which is subject to uncertainty.  The level of the allowance was included in the discussion of financial condition.  The loan loss provision increased in 2012 compared to 2011 due primarily to the impact on the allowance of growth in the balance of loans from business activities, along with general reserves recorded on acquired loans based on inherent losses emerging after acquisition date.  The provision exceeded the level of net loan charge-offs, resulting in an increase in the total allowance for loan losses.

 

Non-Interest Expense.  Non-interest expense increased in 2012 primarily due to the impact of the business combinations, together with costs related to organic growth.  Non-interest expense included merger and conversion related expenses in both 2012 and 2011.  These charges included costs related to the business combinations and systems conversions costs related to the core systems conversion planned for later in 2012.  Total annualized non-interest expense measured 3.14% of average assets in the most recent quarter, compared to 3.56% in the second quarter of 2011.  Excluding merger and conversion related expenses, the total measured 2.77% compared to 2.88% for these periods, respectively.  The Company believes that this demonstrates the improvement in its ongoing efficiency as a result of its growth and disciplined expense management.  Of note, non-interest expense also includes noncash charges for the amortization of intangible assets, which increased as a result of the bank acquisitions, and which measured 0.12% of average assets in both of the above periods.  Full time equivalent staff totaled 904 at June 30, 2012, including 51 positions added as a result of the CBT acquisition and 94 positions added as a result of the acquisition of the Greenpark operations.  The Company had 760 full time equivalent positions at the start of the year, before these acquisitions.  Excluding the CBT and Greenpark staff, the

 

63



Table of Contents

 

rest of the staff totaled 759 positions at midyear, decreasing by one position despite the continuing  organic and de novo expansion of the Company.

 

Income from Continuing and Discontinued Operations.  Income from continuing operations was identical to net income for all periods except the first half of 2012 as a result of the sale of four former Legacy branches in January.  The $0.6 million net loss from discontinued operations included the costs of completing the sale, and a $0.4 million charge to income tax expense due to the non-deductibility of the goodwill associated with these branches.

 

Income from continuing operations was net of income tax expense.  The effective tax rate for this income in the second quarter was 27% in 2012 and 17% in 2011.  For the first half of the year, the rate was 26% in 2012 and 18% in 2011.  The tax rate for the year 2011 was 25% and is expected to be approximately 32% for the remainder of 2012.  The increase in rate is primarily due to the higher level of pretax income and the lower proportionate benefit of tax advantaged income from investments and bank owned life insurance.  The lower rates in the first half of 2011 were calculated before the effects of the Legacy merger, which had the impact of increasing pretax income and reducing the proportionate benefit of tax advantaged items.

 

Results of Segment and Parent Operations.  Berkshire Hills Bancorp (“the Parent”) has two subsidiary operating segments — banking and insurance.  Results in the banking segment generally followed the levels and trends of consolidated results, which have been previously discussed.  In the insurance segment, first half revenues decreased from year-to-year as a result of the reduction in seasonal contingency income resulting from the renegotiation of contracts with insurance carriers.  Seasonal insurance earnings were similarly reduced.  Parent non-interest expense included merger related charges in both years.  Most of the parent’s revenues are non-taxable revenues from subsidiaries, and the Parent therefore receives a tax benefit related to the taxable loss generated by its expenses.

 

Total Comprehensive Income. Total comprehensive income includes net income together with other net comprehensive income.  Total comprehensive income was within 10% of net income for all periods reported except for the first half of 2011.  In most periods, interest rate related changes in the fair value of securities were generally offset by changes in the fair value of derivative hedges.  In the first half of 2011, due to changes in the first quarter, unrealized gains on available for sale securities were the primary contributor to other net comprehensive income totaling $1.7 million, which brought total comprehensive income to $6.4 million, compared to net income of $4.7 million.  Unrealized gains were recorded on several categories of instruments, including available for sale securities, due to a decrease in interest rates during that period.

 

Liquidity and Cash Flows.  Net proceeds from FHLBB borrowings were the primary source of funds in the first half of 2012.  The primary use of funds was net loan growth.  Deposit growth is expected to be the primary source of funds in the second half of the year, and net loan growth is expected to continue to be the primary use of funds.  FHLBB borrowings will continue to be a significant source of liquidity for daily operations and borrowings targeted for specific asset/liability purposes.  The Company also uses interest rate swaps in managing its funds sources and uses.   At the end of the most recent quarter, the Company had approximately $440 million in borrowing availability with the Federal Home Loan Bank.  Berkshire plans to acquire Beacon Federal Bancorp in the fourth quarter, and plans to issue at least $50 million in debt in conjunction with this merger.  Additionally, Berkshire plans to divest two Tennessee branches to be acquired as part of the Beacon business combination, and to receive cash proceeds from this divestiture.

 

Berkshire Hills Bancorp had a cash balance totaling $9 million as of June 30, 2012.  The primary long run routine sources of funds for the Parent are expected to be dividends from Berkshire Bank and Berkshire Insurance Group, as well as cash from the exercise of stock options.  The Parent also has a $10 million revolving line of credit provided by a correspondent bank.  The primary uses of funds by the parent include the payment of cash dividends on common stock and debt service, including debt service related to the planned debt financing for the Beacon acquisition. The Parent had a $16 million cash balance at the start of the year, which was used to pay the $9 million in cash consideration for the CBT acquisition.

 

Capital Resources. Please see the “Stockholders’ Equity” section of the Comparison of Financial Condition for a discussion of stockholders’ equity together with the “Stockholders’ Equity” note to the consolidated financial statements.   At June 30, 2012, Berkshire Bank continued to be classified as “Well Capitalized.” Additional

 

64



Table of Contents

 

information about regulatory capital is contained in the notes to the consolidated financial statements and in the 2011 Form 10-K.

 

As discussed in the 2011 Form 10-K and in Item 1A of this Form, there are financial system reforms which became federal law in July 2010 and which constitute the most significant regulatory and systemic reform since the 1930s.  It cannot be determined at this time what the full effects of the reforms will be.  Some of the reforms are intended to increase required capital levels in the banking system.

 

The Company issued 965 thousand shares of common stock as partial consideration for the shares of The Connecticut Bank and Trust Company on April 20, 2012.  The Company plans to issue common stock as consideration for 50% of the Beacon shares.  Additionally, the debt that the Company plans to issue for 40% of the Beacon shares is expected to qualify as Tier 2 capital in accordance with regulatory guidelines.

 

As a Savings and Loan Holding Company, the Company is not required to meet specific required capital ratio requirements under current federal regulations, although such requirements will become effective in the future.

 

Off-Balance Sheet Arrangements and Contractual Obligations. In the normal course of operations, Berkshire engages in a variety of financial transactions that, in accordance with generally accepted accounting principles are not recorded in the Company’s financial statements.  These transactions involve, to varying degrees, elements of credit, interest rate and liquidity risk. Such transactions are used primarily to manage customers’ requests for funding and take the form of loan commitments and lines of credit. A further presentation of the Company’s off-balance sheet arrangements is presented in the Company’s 2011 Form 10-K and information relating to payments due under contractual obligations is presented in the 2011 Form 10-K.  On May 30, 2012, Berkshire and Beacon entered into a merger agreement and Berkshire expects to complete the acquisition of Beacon before the end of the year and to merge Beacon Federal bank into Berkshire Bank.

 

In acquiring the operations of Greenpark Mortgage, Berkshire established these operations as a division of the bank and continued to operate this business line with the same management, team, and procedures.  These include the Greenpark procedures for rate locking and committing to the origination of residential mortgages, the forward sale of mortgage backed securities through approved brokers to hedge interest rate risk in the mortgage pipeline, and the use of mandatory and best efforts contracts with established institutional buyers for the sale of the originated mortgages on a servicing released basis.

 

Fair Value Measurements. The Company records fair value measurements of certain assets and liabilities, as described in the related note in the financial statements.  There were no significant changes in the fair value measurement methodologies during the first half of the year, except that the introduction of Greenpark related loans held for sale and derivatives expanded the scope of instruments requiring measurement.  Acquired CBT and Greenpark assets and liabilities were recorded at fair value as of the acquisition dates and there were no significant changes in these values during the quarter.  Due to continuing low interest rates, the fair value of fixed rate assets and liabilities generally increased in the first half of the year, as did prepayment rates of instruments with prepayment options.  The fair value of Berkshire’s loans included a $92 million premium to carrying value at midyear, compared to a $66 million premium at the start of the year.  This improvement reflected the improved credit profile of the loan portfolio, along with the impact of lower medium term interest rates and market pricing spreads for loans. Of note, loans acquired in bank acquisitions were recorded at fair value at the time of acquisition, whereas the carrying value of historical loans is based on cost. Due primarily to the premium value of loans, the combined impact of the fair value estimates reflected an overall improvement in the economic value of equity related to these instruments, based solely on the measures utilized for the purpose of this analysis.

 

ITEM 3.     QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

There have been no material changes to the way that the Company measures market risk nor in the Company’s net market risk position during the first half of 2012.  For further discussion about the Company’s Quantitative and Qualitative Aspects of Market Risk, please review Item 7A of the Report 10-K filed for the fiscal year ended December 31, 2011.

 

65



Table of Contents

 

As discussed in Item 2, Berkshire has a targeted position to maintain a moderately asset sensitive interest rate risk profile, as measured by the sensitivity of net interest income to market interest rate changes.  During the first half of the year, the primary balance sheet changes from business activities were growth in fixed rate residential mortgages and growth in overnight FHLBB borrowings.  The Company also increased its use of forward starting interest rate swaps on FHLBB borrowings.  The acquisitions of CBT and the Greenpark operations also affected the balance sheet but did not significantly change the overall measures of interest rate sensitivity.  The net impact of these changes was a modest reduction in the Company’s asset sensitive net interest income sensitivity.  The Company estimates that its asset sensitivity has decreased by approximately a third as a result of the changes in the first half of the year.

 

Berkshire maintains a discipline to avoid undue risks to net interest income and to the economic value of equity which would result from taking on excessive fixed rate assets in the current environment.  The Company’s interest rate risk modeling indicates that the net interest margin could decline in the future based on the existing balance sheet and if interest rates do not change.  The Company strives to seek a balance in protecting against the risks of upward interest rate movements, while also attempting to minimize margin erosion in the current low rate environment.  Management believes that net interest income might increase by more than the modeled amount in the possible situation of rising interest rates. Management might decide to retain more, longer duration assets, after interest rates increase, and this would contribute additional income in the case of a parallel shift in the yield curve. Also, the Company has experienced certain market floors on deposit pricing in the current near zero short-term interest rate environment. In the case of rising rates, deposits might not increase in rate as quickly as they are modeled since they are presently above other comparable market rates in some cases. Additionally, in some scenarios, the Company’s fee income might also increase as a result of improved economic and market conditions that might be related to higher market interest rates.

 

Berkshire has entered into an agreement to acquire Beacon Federal Bancorp and plans to issue equity and debt instruments to finance this acquisition.  The assets and liabilities of Beacon will be recorded at fair value as of the acquisition date, which is expected to be prior to year-end 2012.  Berkshire will have the ability to adjust Beacon’s asset liability structure as of that date and it is expected that Berkshire will be able to maintain its targeted interest rate sensitivity to maintain its targeted profile.

 

ITEM 4.  CONTROLS AND PROCEDURES

 

a)     Disclosure controls and procedures.

 

The principal executive officers, including the principal financial officer, based on their evaluation of disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of the end of the period covered by this Quarterly Report on Form 10-Q, have concluded that the Company’s disclosure controls and procedures are effective for ensuring that information required to be disclosed in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms. Disclosure controls and procedures, include, without limitation, controls and procedures designed to ensure that information required to be disclosed in filed or submitted reports is accumulated and communicated to the Company’s management, including its principal executive officer and principal financial officer as appropriate, to allow timely decisions regarding required disclosure.

 

(b)   Changes in internal control over financial reporting.

 

There were no changes in the Company’s internal control over financial reporting that occurred during the last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

66



Table of Contents

 

PART II

 

ITEM 1.     LEGAL PROCEEDINGS

 

As of June 30, 2012, neither the Company nor the Bank was involved in any pending legal proceedings believed by management to be material to the Company’s financial condition or results of operations. Periodically, there have been various claims and lawsuits involving the Bank, such as claims to enforce liens, condemnation proceedings on properties in which the Bank holds security interests, claims involving the making and servicing of real property loans and other issues incident to the Bank’s business. However, neither the Company nor the Bank is a party to any pending legal proceedings that it believes, in the aggregate, would have a material adverse effect on the financial condition or operations of the Company.

 

ITEM 1A.  RISK FACTORS

 

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2011, which could materially affect our business, financial condition or future results. The risks described in our Annual Report on Form 10-K are not the only risks that we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial, could adversely affect our business, financial condition and/or operating results. Additionally, the Company has reported risk factors in the stock registration and proxy/prospectus forms filed with the SEC related to the CBT and Beacon acquisitions.  While the CBT and Greenpark mergers have been completed, the Company continues to recognize the risks related to integration and management of the acquired operations which were previously identified in the subject SEC filings. Additionally, the Company continues to be engaged in a process for the conversion of its core processing system in 2012.  The planned changes expose the Bank to new risks with new systems and new vendors. The Bank is working closely with third parties to manage the related operating and financial risks.

 

Additional risk factors which have been identified in the first half of 2012 include the following:

 

Failure to Complete the Pending Merger with Beacon Federal Bancorp Could Negatively Impact Our Stock Price and Future Business and Financial Results.

 

If this merger is not completed, our ongoing business may be adversely affected. In addition, we may experience negative reactions from the financial markets and from customers and employees. We also could be subject to litigation related to any failure to complete the merger or to enforcement proceedings commenced against us to perform certain obligations under the merger agreement. If the merger is not completed, we cannot assure our stockholders that the risks described above will not materialize and will not materially affect our business, financial results and stock price. The Beacon merger is expected to be financed with the issuance of subordinated debt.  If this issuance is not completed due to market conditions or regulatory factors or changes in Berkshire’s condition, there could be an impact on Berkshire’s ability to achieve the financial and other targets related to the merger agreement.  Please see the additional discussion of Beacon merger related risk factors in the Form S-4 filed with the SEC July 3, 2012.

 

Derivatives and Counterparty Risks Have Increased Due to the acquired Greenpark Mortgage Operations.

 

The total notional amount of derivative financial instruments increased 75% to $1.0 billion in the first half of 2012, largely due to the acquisition of the Greenpark Mortgage operations.  The increase includes customer interest rate lock commitments on applications for mortgages that Berkshire intends to sell, and forward sales of securities intended to hedge the interest rate risk of these rate lock commitments until the loans are closed and sold.  These activities involve new derivative instruments and new broker/dealer counterparties, as well as the utilization of a new vendor which manages the hedging position.  Additionally, the Greenpark division sells closed loans on a servicing released basis under mandatory and best efforts contracts to institutional secondary market purchasers, which are new counterparties for Berkshire.  Berkshire could experience losses if there are

 

67



Table of Contents

 

failures in the controls or accounting for these activities or if there are performance failures by any of these new counterparties.  The risk of loss is increased if interest rates change suddenly and the intended hedging objectives are not achieved as a result of market or counterparty behaviors.

 

Proposed New Federal Bank Capital Rules May Affect the Company’s Future Condition and Performance.

 

On June 12, 2012, the Office of the Comptroller of the Currency (OCC), Board of Governors of the Federal Reserve System (Board), and the Federal Deposit Insurance Corporation (FDIC) announced that they are seeking comment on three notices of proposed rulemaking (NPRs) that would revise and replace the agencies’ current capital rules as these federal agencies move forward with implementing capital requirements consistent with agreements reached by the Basel Committee on Banking Supervision (Basel III).  The agencies plan to issue final rules by the end of 2012.  The proposed rules are currently preliminary and the Company will be assessing the potential impact of the proposed and final rules.  Please see the further discussion of bank regulation and capital rules in Items I and IA in the Company’s most recent filing on Form 10-K.

 

ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

(a)                  No Company unregistered securities were sold by the Company during the quarter ended June 30, 2012.

(b)                 Not applicable.

(c)                  The following table provides certain information with regard to shares repurchased by the Company in the second quarter of 2012.

 

 

 

 

 

 

 

Total number of shares

 

Maximum number of

 

 

 

 

 

 

 

purchased as part of

 

shares that may yet

 

 

 

Total number of

 

Average price

 

publicly announced

 

be purchased under

 

Period 

 

shares purchased

 

paid per share

 

plans or programs

 

the plans or programs

 

April 1-30, 2012 (1)

 

1,213

 

$

22.92

 

 

97,993

 

May 1-31, 2012

 

 

 

 

97,993

 

June 1-30, 2012

 

 

 

 

97,993

 

Total

 

1,213

 

$

22.92

 

 

97,993

 

 


(1) Shares represent common stock withheld by the Company to satisfy tax withholding requirements on the vesting of shares under the Company’s benefit plans.

 

On December 14, 2007, the Company authorized the purchase of up to 300,000 additional shares, from time to time, subject to market conditions. The repurchase plan will continue until it is completed or terminated by the Board of Directors.  The Company has no plans that it has elected to terminate prior to expiration or under which it does not intend to make further purchases.

 

ITEM 3.  DEFAULTS UPON SENIOR SECURITIES

 

None.

 

ITEM 4.  MINE SAFETY DISCLOSURES

 

Not applicable.

 

ITEM 5.  OTHER INFORMATION

 

None.

 

ITEM 6.  EXHIBITS

 

2.1                                 Agreement and Plan of Merger, dated as of May 31, 2012, by and between Berkshire Hills Bancorp, Inc. and Beacon Federal Bancorp, Inc. (1)

3.1           Certificate of Incorporation of Berkshire Hills Bancorp, Inc. (2)

3.2           Bylaws of Berkshire Hills Bancorp, Inc., as amended and restated(3)

4.1                                 Form of Common Stock Certificate of Berkshire Hills Bancorp, Inc. (2)

10.1                           Amended and Restated Employment Agreement by and among Berkshire Bank, Berkshire Hills Bancorp, Inc. and Michael P. Daly (4)

10.2                           Amended and Restated Three Year Change in Control Agreement by and among Berkshire Bank, Berkshire Hills Bancorp, Inc. and Kevin P. Riley (4)

 

68



Table of Contents

 

10.3                           Amended and Restated Three Year Change in Control Agreement by and among Berkshire Bank, Berkshire Hills Bancorp, Inc. and Sean A. Gray(6)

10.4                           Amended and Restated Three Year Change in Control Agreement by and among Berkshire Bank, Berkshire Hills Bancorp, Inc. and Richard M. Marotta (5)

10.5                           Amended and Restated Three Year Change in Control Agreement by and among Berkshire Bank, Berkshire Hills Bancorp, Inc. and Linda A. Johnston (6)

10.6                           Amended and Restated Supplemental Executive Retirement Agreement between Berkshire Bank and Michael P. Daly (7)

10.7                           Berkshire Hills Bancorp, Inc. 2011 Equity Incentive Plan (8)

10.8                           Form of Berkshire Bank Employee Severance Compensation Plan (3)

10.9                           Three Year Change in Control Agreement by and among Berkshire Bank, Berkshire Hills Bancorp, Inc. and Patrick J. Sullivan, dated as of December 21, 2010 (9)

10.10                     Settlement Agreement by and among Berkshire Hills Bancorp, Inc., Legacy Bancorp, Inc., Legacy Banks and Patrick J. Sullivan, dated as of December 21, 2010 (9)

10.11                     Severance Agreement by and among Berkshire Bank, Berkshire Hills Bancorp, Inc. and Patrick J. Sullivan, dated as of December 21, 2010 (9)

10.12                     Amended and Restated Settlement Agreement by and among Berkshire Hills Bancorp, Inc., Legacy Bancorp, Inc., Legacy Banks and J. Williar Dunlaevy, dated as of April 6, 2011 (9)

10.13                    Non-Competition and Consulting Agreement by and among Berkshire Hills Bancorp, Inc., Berkshire Bank and J. Williar Dunlaevy, dated as of April 6, 2011 (9)

10.14                     Legacy Bancorp, Inc. Amended and Restated 2006 Equity Incentive Plan (10)

10.15                     Form of Split Dollar Agreement entered into with Michael P. Daly, Kevin P. Riley, Sean A. Gray, Richard M. Marotta and Linda A. Johnston (11)

10.16                     Endorsement Agreement between Geno Auriemma and Berkshire Bank, dated as of May 17, 2012

11.0                           Statement re: Computation of Per Share Earnings is incorporated herein by reference to Part I, Item I, “Consolidated Financial Statements (unaudited)”

31.1                           Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31.2                           Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32.1                           Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

32.2                           Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

101                              Interactive data files pursuant to Rule 405 of Regulation S-T:  (i) the Consolidated Statements of Condition, (ii) the Consolidated Statements of Income, (iii) the Consolidated Statements of Comprehensive Income, (iv) the Consolidated Statements of Changes in Stockholders’ Equity, (v) the Consolidated Statements of Cash Flows, and (vi) the Notes to Consolidated Financial Statements (12)

 


(1)               Incorporated by reference from the Exhibits to the Form 8-K filed on June 1, 2012.

(2)               Incorporated herein by reference from the Exhibits to Form S-1, Registration Statement and amendments thereto, initially filed on March 10, 2000, Registration No. 333-32146.

(3)              Incorporated herein by reference from the Exhibits to the Form 8-K as filed on May 16, 2012.

(4)                Incorporated herein by reference from the Exhibits to the Form 8-K as filed on January 6, 2009.

(5)                Incorporated herein by reference from the Exhibits to the Form 10-K as filed on March 16, 2010.

(6)                Incorporated herein by reference from the Exhibits to the Form 10-K as filed on March 16, 2011.

(7)                Incorporated herein by reference from the Exhibits to Form 10-K as filed on March 16, 2009.

(8)     Incorporated herein by reference from the Appendix to the Proxy Statement as filed on March 24, 2011.

(9)                Incorporated herein by reference from the Exhibits to the Registration Statement on Form S-4 as filed on April 20, 2011, Registration No. 333-173404.

(10)   Incorporated herein by reference from the Exhibits to the Form 8-K filed by Legacy Bancorp, Inc. on December 22, 2010.

(11)          Incorporated herein by reference from the Exhibit to the Form 8-K as filed on January 19, 2011.

(12)         As provided in Rule 406T of Regulation S-T, this information is furnished and not field for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934.

 

69



Table of Contents

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

BERKSHIRE HILLS BANCORP, INC.

 

 

Dated: August 9, 2012

By:

/s/ Michael P. Daly

 

 

Michael P. Daly

 

 

President and Chief Executive Officer

 

 

 

 

 

 

Dated: August 9, 2012

By:

/s/ Kevin P. Riley

 

 

Kevin P. Riley

 

 

Executive Vice President and Chief Financial Officer

 

70