form10_q.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q
 
(Mark One)
  x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended     September 30, 2009

OR
 
 
 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  0-6233
 
 
(Exact name of registrant as specified in its charter)

INDIANA
  
35-1068133
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)

100 North Michigan Street
South Bend, Indiana
46601
(Address of principal executive offices) (Zip Code)

(574) 235-2000
(Registrant’s telephone number, including area code)

Not Applicable
(Former name, former address and former fiscal year, if changed since last report.)

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. xYes o No

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

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 definitions 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 (Do not check if a smaller reporting company) 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). o Yes  x No

Number of shares of common stock outstanding as of October 16, 2009 – 24,141,456 shares

 
-1-

 


TABLE OF CONTENTS


PART I.  FINANCIAL INFORMATION
 
   
Page
Item 1.
Financial Statements (Unaudited)
 
 
3
 
4
 
5
 
6
 
7
Item 2.
21
Item 3.
30
Item 4.
31
     
PART II.  OTHER INFORMATION
 
     
Item 1.
31
Item 1A.
31
Item 2.
31
Item 3.
31
Item 4.
32
Item 5.
32
Item 6.
32
     
33
     
CERTIFICATIONS
 
 
  Exhibit 31.2  
  Exhibit 32.1  
  Exhibit 32.2  

-2-


1st SOURCE CORPORATION
           
           
(Unaudited - Dollars in thousands, except share amounts)
           
   
September 30,
   
December 31,
 
   
2009
   
2008
 
ASSETS
           
Cash and due from banks
  $ 56,408     $ 119,771  
Federal funds sold and
               
   interest bearing deposits with other banks
    65,307       6,951  
Investment securities available-for-sale
               
     (amortized cost of $871,266 and $715,380
               
     at September 30, 2009 and December 31, 2008, respectively)
    886,777       724,754  
Other investments
    21,012       18,612  
Trading account securities
    117       100  
Mortgages held for sale
    39,364       46,686  
Loans and leases - net of unearned discount
               
   Commercial and agricultural loans
    567,476       643,440  
   Auto, light truck and environmental equipment
    313,808       353,838  
   Medium and heavy duty truck
    219,762       243,375  
   Aircraft financing
    633,552       632,121  
   Construction equipment financing
    326,858       375,983  
   Loans secured by real estate
    917,754       918,749  
   Consumer loans
    114,820       130,706  
Total loans and leases
    3,094,030       3,298,212  
   Reserve for loan and lease losses
    (85,504 )     (79,776 )
Net loans and leases
    3,008,526       3,218,436  
Equipment owned under operating leases, net
    91,538       83,062  
Net premises and equipment
    38,552       40,491  
Goodwill and intangible assets
    90,669       91,691  
Accrued income and other assets
    114,890       113,620  
Total assets
  $ 4,413,160     $ 4,464,174  
                 
LIABILITIES
               
Deposits:
               
  Noninterest bearing
  $ 425,742     $ 416,960  
  Interest bearing
    3,060,972       3,097,582  
Total deposits
    3,486,714       3,514,542  
Federal funds purchased and securities
               
  sold under agreements to repurchase
    129,707       272,529  
Other short-term borrowings
    25,272       23,646  
Long-term debt and mandatorily redeemable securities
    20,046       29,832  
Subordinated notes
    89,692       89,692  
Accrued expenses and other liabilities
    87,399       80,269  
Total liabilities
    3,838,830       4,010,510  
                 
SHAREHOLDERS' EQUITY
               
Preferred stock; no par value
               
     Authorized 10,000,000 shares; issued 111,000 at September 30, 2009
               
     and none at December 31, 2008
    104,612       -  
Common stock; no par value
               
     Authorized 40,000,000 shares; issued 25,894,879 at September 30, 2009
               
     and 25,895,505 at December 31, 2008, less unearned shares
               
     (251,373 at September 30, 2009 and 251,999 at December 31, 2008)
    350,266       342,982  
Retained earnings
    141,758       136,877  
Cost of common stock in treasury (1,502,050 shares at September 30, 2009, and
               
     1,532,576 shares at December 31, 2008)
    (31,943 )     (32,019 )
Accumulated other comprehensive income
    9,637       5,824  
Total shareholders' equity
    574,330       453,664  
Total liabilities and shareholders' equity
  $ 4,413,160     $ 4,464,174  
                 
The accompanying notes are a part of the consolidated financial statements.
               

-3-



1st SOURCE CORPORATION
                       
                       
(Unaudited - Dollars in thousands, except per share amounts)
                       
   
Three Months Ended
   
Nine Months Ended
 
   
September 30,
   
September 30,
 
   
2009
   
2008
   
2009
   
2008
 
Interest income:
                       
Loans and leases
  $ 43,436     $ 50,979     $ 132,507     $ 154,590  
Investment securities, taxable
    4,357       4,896       12,600       17,288  
Investment securities, tax-exempt
    1,651       1,873       5,046       5,904  
Other
    297       317       894       986  
Total interest income
    49,741       58,065       151,047       178,768  
                                 
Interest expense:
                               
Deposits
    15,460       20,347       49,662       67,116  
Short-term borrowings
    265       2,255       909       6,434  
Subordinated notes
    1,648       1,648       4,942       5,067  
Long-term debt and mandatorily redeemable securities
    322       418       853       1,333  
Total interest expense
    17,695       24,668       56,366       79,950  
                                 
Net interest income
    32,046       33,397       94,681       98,818  
Provision for loan and lease losses
    6,469       3,571       22,741       9,603  
Net interest income after provision for
                               
loan and lease losses
    25,577       29,826       71,940       89,215  
                                 
Noninterest income:
                               
Trust fees
    3,782       4,939       11,473       14,155  
Service charges on deposit accounts
    5,402       5,761       15,367       16,633  
Mortgage banking income
    965       959       6,874       3,493  
Insurance commissions
    1,022       1,084       3,614       4,122  
Equipment rental income
    6,347       6,285       18,896       17,794  
Other income
    2,022       2,168       6,613       6,836  
Investment securities and other investment gains (losses)
    716       (8,816 )     673       (9,259 )
Total noninterest income
    20,256       12,380       63,510       53,774  
                                 
Noninterest expense:
                               
Salaries and employee benefits
    18,425       19,297       55,340       58,996  
Net occupancy expense
    2,221       2,332       7,095       7,289  
Furniture and equipment expense
    3,241       3,694       10,487       11,555  
Depreciation - leased equipment
    5,021       5,041       15,065       14,266  
Professional fees
    1,020       2,773       2,897       6,453  
Supplies and communication
    1,473       1,812       4,468       5,163  
FDIC and other insurance
    1,582       713       6,851       1,396  
Other expense
    3,587       2,655       10,356       9,495  
Total noninterest expense
    36,570       38,317       112,559       114,613  
                                 
Income before income taxes
    9,263       3,889       22,891       28,376  
Income tax expense (benefit)
    2,530       (583 )     3,624       7,305  
                                 
Net income
    6,733       4,472       19,267       21,071  
Preferred stock dividends and discount accretion
    (1,701 )     -       (4,710 )     -  
Net income available to common shareholders
  $ 5,032     $ 4,472     $ 14,557     $ 21,071  
                                 
Per common share
                               
Basic net income per common share
  $ 0.21     $ 0.19     $ 0.60     $ 0.87  
Diluted net income per common share
  $ 0.21     $ 0.18     $ 0.60     $ 0.86  
Dividends
  $ 0.15     $ 0.14     $ 0.43     $ 0.42  
Basic weighted average common shares outstanding
    24,164,884       24,109,960       24,166,887       24,104,015  
Diluted weighted average common shares outstanding
    24,212,042       24,381,657       24,215,542       24,374,811  
                                 
The accompanying notes are a part of the consolidated financial statements.
                               

-4-



                                   
                               
(Unaudited - Dollars in thousands, except per share amounts)
                               
                                     
                                 
Net
 
                                 
Unrealized
 
                                 
Appreciation
 
                           
Cost of
   
(Depreciation)
 
                           
Common
   
of Securities
 
         
Preferred
   
Common
   
Retained
   
Stock
   
Available-
 
   
Total
   
Stock
   
Stock
   
Earnings
   
in Treasury
   
For-Sale
 
Balance at January 1, 2008
  $ 430,504     $ -     $ 342,840     $ 117,373     $ (32,231 )   $ 2,522  
Comprehensive Income, net of tax:
                                               
Net Income
    21,071       -       -       21,071       -       -  
Change in unrealized appreciation
                                               
of available-for-sale securities, net of tax
    (900 )     -       -       -       -       (900 )
Total Comprehensive Income
    20,171       -       -       -       -       -  
Issuance of 18,820 common shares
                                               
under stock based compensation awards,
                                               
 including related tax effects
    342       -       -       130       212       -  
Stock-based compensation
    139       -       139                          
Common stock dividend ($0.42 per share)
    (10,146 )     -       -       (10,146 )     -       -  
Balance at September 30, 2008
  $ 441,010     $ -     $ 342,979     $ 128,428     $ (32,019 )   $ 1,622  
                                                 
Balance at January 1, 2009
  $ 453,664     $ -     $ 342,982     $ 136,877     $ (32,019 )   $ 5,824  
Comprehensive Income, net of tax:
                                               
Net Income
    19,267       -       -       19,267       -       -  
Change in unrealized appreciation
                                               
of available-for-sale securities, net of tax
    3,813       -       -       -       -       3,813  
Total Comprehensive Income
    23,080       -       -       -       -       -  
Issuance of 83,402 common shares
                                               
under stock based compensation awards,
                                               
including related tax effects
    1,663       -       -       725       938       -  
Cost of 52,876 shares of common
                                               
stock acquired for treasury
    (862 )     -       -       -       (862 )     -  
Issuance of preferred stock
    103,725       103,725       -               -       -  
Preferred stock discount accretion
    -       887       -       (887 )     -       -  
Issuance of warrants to purchase common stock
    7,275       -       7,275       -       -       -  
Preferred stock dividend paid and/or accrued
    (3,823 )     -       -       (3,823 )     -       -  
Common stock dividend ($0.43 per share)
    (10,401 )     -       -       (10,401 )     -       -  
Stock based compensation
    9       -       9       -       -       -  
Balance at September 30, 2009
  $ 574,330     $ 104,612     $ 350,266     $ 141,758     $ (31,943 )   $ 9,637  
                                                 
The accompanying notes are a part of the consolidated financial statements.
                                 

-5-



           
           
(Unaudited - Dollars in thousands)
           
   
Nine Months Ended September 30,
 
   
2009
   
2008
 
Operating activities:
           
Net income
  $ 19,267     $ 21,071  
Adjustments to reconcile net income to net cash
               
provided (used) by operating activities:
               
Provision for loan and lease losses
    22,741       9,603  
Depreciation of premises and equipment
    3,515       4,088  
Depreciation of equipment owned and leased to others
    15,065       14,266  
Amortization of investment security premiums
               
and accretion of discounts, net
    4,477       1,328  
Amortization of mortgage servicing rights
    2,517       2,234  
Mortgage servicing asset impairment (recovery) charges
    (1,793 )     56  
Deferred income taxes
    3,460       (11,558 )
Realized investment securities (gains) losses
    (673 )     9,259  
Originations/purchases of loans held for sale, net of principal collected
    (512,286 )     (300,404 )
Proceeds from the sales of loans held for sale
    522,780       288,878  
Net gain on sale of loans held for sale
    (3,170 )     (1,253 )
Change in trading account securities
    (17 )     -  
Change in interest receivable
    1,352       438  
Change in interest payable
    2,173       (5,853 )
Change in other assets
    (8,109 )     1,984  
Change in other liabilities
    4,249       2,539  
Other
    754       2,988  
Net change in operating activities
    76,302       39,664  
                 
Investing activities:
               
Proceeds from sales of investment securities
    147,658       8,237  
Proceeds from maturities of investment securities
    323,295       390,303  
Purchases of investment securities
    (630,642 )     (289,498 )
Net change in short-term investments
    (60,757 )     (36,948 )
Loans sold or participated to others
    13,482       -  
Net change in loans and leases
    173,687       (124,021 )
Net change in equipment owned under operating leases
    (23,541 )     (19,712 )
Purchases of premises and equipment
    (1,772 )     (2,403 )
Net change in investing activities
    (58,590 )     (74,042 )
                 
Financing activities:
               
Net change in demand deposits, NOW
               
accounts and savings accounts
    74,639       (96,857 )
Net change in certificates of deposit
    (102,468 )     (22,394 )
Net change in short-term borrowings
    (141,197 )     96,832  
Proceeds from issuance of long-term debt
    240       10,024  
Payments on subordinated notes
    -       (10,310 )
Payments on long-term debt
    (10,392 )     (10,371 )
Net proceeds from issuance of treasury stock
    1,663       341  
Acquisition of treasury stock
    (862 )     -  
Proceeds from issuance of preferred stock & common stock warrants
    111,000       -  
Cash dividends
    (13,698 )     (10,320 )
Net change in financing activities
    (81,075 )     (43,055 )
                 
Net change in cash and cash equivalents
    (63,363 )     (77,433 )
                 
Cash and cash equivalents, beginning of year
    119,771       153,137  
                 
Cash and cash equivalents, end of period
  $ 56,408     $ 75,704  
                 
The accompanying notes are a part of the consolidated financial statements.
               

-6-


1ST SOURCE CORPORATION
                  NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
              (Unaudited)

Note 1.              Basis of Presentation

The accompanying unaudited consolidated financial statements reflect all adjustments (all of which are normal and recurring in nature) which are, in the opinion of management, necessary for a fair presentation of the consolidated financial position, the results of operations, changes in shareholders’ equity, and cash flows for the periods presented. These unaudited consolidated financial statements have been prepared according to the rules and regulations of the Securities and Exchange Commission (SEC) and, therefore, certain information and footnote disclosures normally included in financial statements prepared in accordance with U. S. generally accepted accounting principles (GAAP) have been omitted. The Notes to the Consolidated Financial Statements appearing in 1st Source Corporation’s Annual Report on Form 10-K (2008 Annual Report), which include descriptions of significant accounting policies, should be read in conjunction with these interim financial statements. The balance sheet at December 31, 2008 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by U. S. generally accepted accounting principles for complete financial statements. Certain amounts in the prior period consolidated financial statements have been reclassified to conform with the current year presentation.

Note 2.              Other Activity

On January 23, 2009, we entered into a Letter Agreement with the United States Department of the Treasury (“Treasury”), pursuant to which we issued and sold (i) 111,000 shares of our Fixed Rate Cumulative Perpetual Preferred Stock, Series A (the “Series A Preferred Stock”) and (ii) a warrant (the “Warrant”) to purchase 837,947 shares of our common stock, without par value (the “Common Stock”), for an aggregate purchase price of $111,000,000 in cash.

The Series A Preferred Stock qualifies as Tier 1 capital and pays cumulative dividends at a rate of 5% per annum for the first five years, and 9% per annum thereafter. The Series A Preferred Stock is non-voting except with respect to certain matters affecting the rights of the holders thereof, and may be redeemed by us after notice to the Treasury and our primary federal regulator, the Board of Governors of the Federal Reserve System (“Federal Reserve Bank”) and subject to consultation between the Treasury and Federal Reserve Bank.  At the time of redemption, if we do not choose to exercise our option to repurchase the warrants, the Secretary of Treasury intends to sell the warrants through an auction process.

The Warrant has a 10-year term and is immediately exercisable upon its issuance, with an exercise price, subject to anti-dilution adjustments, equal to $19.87 per share of the Common Stock.

In addition, we may not increase the quarterly dividend we pay on our common stock above $0.16 per share during the three-year period ending January 23, 2012, without consent of the Treasury, unless the Treasury no longer holds shares of the Series A Preferred Stock.

On December 12, 2008, 1st Source Corporation Investment Advisors, Inc. (“1st Source Investment Advisors”), a wholly-owned subsidiary of 1st Source Bank and second tier subsidiary of 1st Source Corporation, finalized a Purchase and Sale Agreement with WA Holdings, Inc. (“Buyer”) whereby 1st Source Investment Advisors sold certain assets to Buyer and entered into a long-term strategic partnership with Buyer (the “Transaction”).  Under terms of the Purchase and Sale Agreement, we received a one time payment of $11.70 million at closing and will receive performance payments (“earnout fees”) over the next ten years based on the
 
-7-

net growth and investment performance returns of the Funds.  Pursuant to the Purchase and Sale Agreement, Buyer and its wholly-owned subsidiary, Wasatch Advisors, Inc., investment advisor of the Wasatch Funds, Inc., acquired assets of 1st Source Investment Advisors related to the management of the 1st Source Monogram Mutual Funds - the Income Equity Fund, the Long/Short Fund and the Income Fund. The 1st Source Monogram Mutual Funds were reorganized into the Wasatch - 1st Source Income Equity Fund, the Wasatch - 1st Source Long/Short Fund, and the Wasatch - 1st Source Income Fund.

Note 3.              Recent Accounting Pronouncements

Investments in Certain Entities that Calculate Net Asset Value per Share:  In September 2009, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2009-12, “Fair Value Measurements and Disclosures (Topic 820) – Investments in Certain Entities that Calculate Net Asset Value per Share (or its Equivalent)”.  This ASU permits, as a practical expedient, a reporting entity to measure the fair value of an investment that is within the scope of the amendments in this ASU on the basis of the net asset value per share of the investment (or its equivalent) if the net asset value of the investment (or its equivalent) is calculated in a manner consistent with the measurement principles of Topic 946 as of the reporting entity’s measurement date.  The ASU also requires disclosures by major category of investment about the attributes of investments within the scope of the Update.  ASU 2009-12 is effective for interim and annual periods ending after December 15, 2009.  We are assessing the impact of ASU 2009-05 on our financial condition, results of operations, and disclosures.

Measuring Liabilities at Fair Value:  In August 2009, the FASB issued ASU No. 2009-05, “Fair Value Measurements and Disclosures (Topic 820) – Measuring Liabilities at Fair Value”.  This ASU provides amendments for fair value measurements of liabilities.  It provides clarification that in circumstances in which a quoted price in an active market for the identical liability is not available, a reporting entity is required to measure fair value using one or more techniques.  ASU 2009-05 also clarifies that when estimating a fair value of a liability, a reporting entity is not required to include a separate input or adjustment to other inputs relating to the existence of a restriction that prevents the transfer of the liability.  ASU 2009-05 is effective for the first reporting period (including interim periods) beginning after issuance or fourth quarter 2009.  We are assessing the impact of ASU 2009-05 on our financial condition, results of operations, and disclosures.

FASB Accounting Standards Codification (ASC or Codification):  In June 2009, the FASB issued ASU No. 2009-01 (formerly Statement No. 168), “Topic 105 - Generally Accepted Accounting Principles - FASB Accounting Standards Codification™ and the Hierarchy of Generally Accepted Accounting Principles.” The Codification is the single source of authoritative nongovernmental U.S. generally accepted accounting principles (GAAP).  The Codification does not change current GAAP, but is intended to simplify user access to all authoritative GAAP by providing all the authoritative literature related to a particular topic in one place.  All existing accounting standard documents are superseded and all other accounting literature not included in the Codification is considered nonauthoritative.  The Codification is effective for interim or annual reporting periods ending after September 15, 2009.  We have made the appropriate changes to GAAP references in our financial statements.

Amendments to FASB Interpretation No. 46(R):  In June 2009, the FASB issued Statement No. 167, “Amendments to FASB Interpretation No. 46(R)” (SFAS 167).  SFAS 167 amends the consolidation guidance applicable to variable interest entities.  The amendments to the consolidation guidance affect all entities currently within the scope of FIN 46(R), as well as qualifying special-purpose entities (QSPEs) that are currently excluded from the scope of FIN 46(R).  SFAS 167 is effective as of the beginning of the first annual reporting period that begins after November 15, 2009.  We are assessing the impact of SFAS 167 on our financial condition, results of operations, and disclosures.

-8-

Accounting for Transfers of Financial Assets:  In June 2009, the FASB issued Statement No. 166, “Accounting for Transfers of Financial Assets, an amendment of FASB Statement No. 140” (SFAS No. 166).  SFAS 166 amends the derecognition accounting and disclosure guidance relating to SFAS 140.  SFAS 166 eliminates the exemption from consolidation for QSPEs, it also requires a transferor to evaluate all existing QSPEs to determine whether it must be consolidated in accordance with SFAS 167.  SFAS 166 is effective as of the beginning of the first annual reporting period that begins after November 15, 2009.  We are assessing the impact of SFAS 166 on our financial condition, results of operations, and disclosures.

Subsequent Events:  In May 2009, the FASB issued ASC 855 (formerly Statement No. 165), “Subsequent Events”.  ASC 855 establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or available to be issued.  ASC 855 is effective for interim or annual periods ending after June 15, 2009.  We adopted the provisions of ASC 855 and this change is reflected in Note 10 - Subsequent Events.

FASB Amends Disclosures about Fair Value of Financial Instruments:  In April 2009, the FASB issued ASC 825 (formerly FASB Staff Position (FSP) 107-1 and APB 28-1), “Interim Disclosures about Fair Value of Financial Instruments.”  ASC 825 requires a public entity to provide disclosures about fair value of financial instruments in interim financial information.  ASC 825 is effective for interim and annual financial periods ending after June 15, 2009.  We adopted the provisions of ASC 825 on April 1, 2009 and the impact on our disclosures is more fully discussed in Note 9 – Fair Value.

FASB Clarifies Other-Than-Temporary Impairment:  In April 2009, the FASB issued ASC 320 (formerly FSP FAS 115-2, FAS124-2 and EITF 99-20-2), “Recognition and Presentation of Other-Than-Temporary-Impairment.”  ASC 320 (i) changes existing guidance for determining whether an impairment is other than temporary to debt securities and (ii) replaces the existing requirement that the entity’s management assert it has both the intent and ability to hold an impaired security until recovery with a requirement that management assert: (a) it does not have the intent to sell the security; and (b) it is more likely than not it will not have to sell the security before recovery of its cost basis.  Under ASC 320, declines in the fair value of held-to-maturity and available-for-sale securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses to the extent the impairment is related to credit losses.  The amount of impairment related to other factors is recognized in other comprehensive income.  ASC 320 is effective for interim and annual periods ending after June 15, 2009.  We adopted the provisions of ASC 320 on April 1, 2009.  Details related to the adoption of ASC 320 and the impact on our disclosures are more fully discussed in Note 4 – Investment Securities.  The provisions of ASC 320 did not have an impact on our financial condition and results of operations.

FASB Clarifies Application of Fair Value Accounting:  In April 2009, the FASB issued ASC 820 (formerly FSP FAS 157-4), “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly.”  ASC 820 affirms the objective of fair value when a market is not active, clarifies and includes additional factors for determining whether there has been a significant decrease in market activity, eliminates the presumption that all transactions are distressed unless proven otherwise, and requires an entity to disclose a change in valuation technique.  ASC 820 is effective for interim and annual periods ending after June 15, 2009.  We adopted the provisions of ASC 820 on April 1, 2009.  The provisions of ASC 820 did not have a material impact on our financial condition and results of operations.

-9-



Earnings Per Share (EPS):  In June 2008, the FASB issued ASC 260 (formerly FSP EITF 03-6-1), “Determining Whether Instruments Granted in Shared-Based Payment Transaction are Participating Securities.”  ASC 260 clarifies that unvested share-based payment awards with a right to receive nonforfeitable dividends are participating securities.  ASC 260 also provides guidance on how to allocate earnings to participating securities and compute EPS using the two-class method.  ASC 260 is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those years.  All prior-period EPS data presented shall be adjusted retrospectively (including interim financial statements, summaries of earnings, and selected financial data) to conform with the provisions of ASC 260.  The provisions of ASC 260 did not have a material impact on our EPS calculation.

Disclosures About Derivative Instruments and Hedging Activities:  In March 2008, the FASB issued ASC 815 (formerly Statement No. 161), “Disclosures About Derivative Instruments and Hedging Activities”.  ASC 815 requires qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about fair value amounts of and gains and losses on derivative instruments, and disclosures about credit-risk-related contingent features in derivative agreements. ASC 815 is effective for fiscal years beginning after November 15, 2008.  We adopted the provisions of ASC 815 on January 1, 2009.  The required disclosures are included in Note 6– Financial Instruments with Off-Balance Sheet Risk and Derivative Transactions.

Noncontrolling Interests in Consolidated Financial Statements:  In December 2007, the FASB issued ASC 810 (formerly Statement No. 160), “Noncontrolling Interests in Consolidated Financial Statements.  ASC 810 requires that a noncontrolling interest in a subsidiary be reported separately within equity and the amount of consolidated net income specifically attributable to the noncontrolling interest be identified in the consolidated financial statements.  It also calls for consistency in the manner of reporting changes in the parent’s ownership interest and requires fair value measurement of any noncontrolling equity investment retained in a deconsolidation.  ASC 810 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008.  We adopted the provisions of ASC 810 on January 1, 2009.  The provisions of ASC 810 did not have an impact on our financial condition and results of operations.

Business Combinations:  In December 2007, the FASB issued ASC 805 (formerly Statement  No. 141R), “Business Combinations”.  ASC 805 broadens the guidance and , extends its applicability to all transactions and other events in which one entity obtains control over one or more other businesses.  It broadens the fair value measurement and recognition of assets acquired, liabilities assumed, and interests transferred as a result of business combinations.  ASC 805 expands on required disclosures to improve the statement users’ abilities to evaluate the nature and financial effects of business combinations.  ASC 805 is effective for the first annual reporting period beginning on or after December 15, 2008.  In April 2009, the FASB amended the guidance in ASC 805 and is effective for the first annual reporting period beginning on or after December 15, 2008.  The provisions of ASC 805 will only impact us if we are party to a business combination closing on or after January 1, 2009.

-10-


Note 4.              Investment Securities

Investment securities available-for-sale were as follows:

   
Amortized
   
Gross
   
Gross
       
(Dollars in thousands)
 
Cost
   
Unrealized Gains
   
Unrealized Losses
   
Fair Value
 
September 30, 2009
                       
U.S. Treasury and Federal agencies securities
  $ 393,345     $ 2,055     $ (20 )   $ 395,380  
U.S. State and political subdivisions securities
    202,265       7,396       (2,034 )     207,627  
Mortgage-backed securities  - Federal agencies
    254,715       6,797       (934 )     260,578  
Corporate debt securities
    18,978       200       -       19,178  
Foreign government securities
    675       -       -       675  
Total debt securities
    869,978       16,448       (2,988 )     883,438  
Marketable equity securities
    1,288       2,076       (25 )     3,339  
Total investment securities available-for-sale
  $ 871,266     $ 18,524     $ (3,013 )   $ 886,777  
                                 
December 31, 2008
                               
U.S. Treasury and Federal agencies securities
  $ 293,461     $ 2,892     $ (2 )   $ 296,351  
U.S. State and political subdivisions securities
    198,640       3,995       (1,686 )     200,949  
Mortgage-backed securities  - Federal agencies
    207,954       3,553       (1,499 )     210,008  
Corporate debt securities
    10,000       50       -       10,050  
Foreign government and other securities
    929       -       -       929  
Total debt securities
    710,984       10,490       (3,187 )     718,287  
Marketable equity securities
    4,396       2,092       (21 )     6,467  
Total investment securities available-for-sale
  $ 715,380     $ 12,582     $ (3,208 )   $ 724,754  
 
    The contractual maturities of debt securities available-for-sale at September 30, 2009, are shown below.  Expected maturities will differ from contractual maturities, because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

(Dollars in thousands)
           
   
Amortized Cost
   
Fair Value
 
Due in one year or less
  $ 120,555     $ 120,914  
Due after one year through five years
    334,454       339,827  
Due after five years through ten years
    141,996       145,527  
Due after ten years
    18,258       16,592  
Mortgage backed securities
    254,715       260,578  
Total debt securities available-for-sale
  $ 869,978     $ 883,438  
   
    At September 30, 2009, the mortgage-backed securities we held consisted primarily of GNMA, FNMA and FHLMC pass-through certificates which are guaranteed by those respective agencies of the United States government.

   The following table shows the gross realized gains and losses on sale of securities from the securities available-for-sale portfolio, including marketable equity securities.  The gross gains in the third quarter of 2009 reflect gains on the sale of our remaining FHLMC preferred stock.  The gross losses in the third quarter and year-to-date 2008 reflect other-than-temporary impairment (“OTTI”) writedowns of $9.00 million and $10.26 million, respectively, on FNMA, FHLMC and other corporate preferred stock.  There have been no OTTI writedowns in 2009.  There were net gains of $27 thousand and $0 recorded on $0.12 million and $0.10 million in trading securities outstanding at September 30, 2009, and December 31, 2008, respectively.

-11-




                         
(Dollars in thousands)
 
Three Months Ended
   
Nine Months Ended
 
   
September 30,
   
September 30,
 
   
2009
   
2008
   
2009
   
2008
 
Gross realized gains
  $ 356     $ -     $ 1,010     $ 826  
Gross realized losses
    -       (8,999 )     (707 )     (10,456 )
Net realized gains (losses)
  $ 356     $ (8,999 )   $ 303     $ (9,630 )

 
The following tables summarize our gross unrealized losses and fair value by investment category and age:

   
Less than 12 Months
   
12 months or Longer
   
Total
 
   
Fair
   
Unrealized
   
Fair
   
Unrealized
   
Fair
   
Unrealized
 
(Dollars in thousands)
 
Value
   
Losses
   
Value
   
Losses
   
Value
   
Losses
 
September 30, 2009
                                   
U.S. Treasury and Federal agencies securities
  $ 30,166     $ (20 )   $ -     $ -     $ 30,166     $ (20 )
U.S. State and political subdivisions securities
    1,717       (29 )     17,121       (2,005 )     18,838       (2,034 )
Mortgage-backed securities  - Federal agencies
    31,140       (324 )     30,388       (610 )     61,528       (934 )
Total debt securities
    63,023       (373 )     47,509       (2,615 )     110,532       (2,988 )
Marketable equity securities
    2       (1 )     5       (24 )     7       (25 )
Total investment securities available-for-sale
  $ 63,025     $ (374 )   $ 47,514     $ (2,639 )   $ 110,539     $ (3,013 )
                                                 
December 31, 2008
                                               
U.S. Treasury and Federal agencies securities
  $ 19,998     $ (2 )   $ -     $ -     $ 19,998     $ (2 )
U.S. State and political subdivisions securities
    29,594       (1,686 )     -       -       29,594       (1,686 )
Mortgage-backed securities  - Federal agencies
    14,840       (229 )     34,721       (1,270 )     49,561       (1,499 )
Foreign government and other securities
    493       (1 )     -       -       493       (1 )
Total debt securities
    64,925       (1,918 )     34,721       (1,270 )     99,646       (3,188 )
Marketable equity securities
    11       (18 )     2       (2 )     13       (20 )
Total investment securities available-for-sale
  $ 64,936     $ (1,936 )   $ 34,723     $ (1,272 )   $ 99,659     $ (3,208 )
 
The initial indication of OTTI for both debt and equity securities is a decline in fair value below amortized cost.  Quarterly, the impaired securities are analyzed on a qualitative and quantitative basis in determining OTTI.  Declines in the fair value of available-for-sale debt securities below their cost that are deemed to be other-than-temporary are reflected in earnings as realized losses to the extent the impairment is related to credit losses.  The amount of impairment related to other factors is recognized in other comprehensive income.  In estimating OTTI impairment losses, we consider among other things, (i) the length of time and the extent to which fair value has been less than cost, (ii) the financial condition and near-term prospects of the issuer, and (iii) whether it is more likely than not that we will not have to sell any such securities before a recovery of cost.

At September 30, 2009, we do not have the intent to sell any of the available-for-sale securities in the table above and believe that it is more likely than not that we will not have to sell any such securities before a recovery of cost.  The unrealized losses are due to increases in market interest rates over the yields available at the time the underlying securities were purchased and market illiquidity on adjustable rate coupon securities.  The fair value is expected to recover on all debt securities as they approach their maturity date or repricing date or if market yields for such investments decline.  We do not believe any of the securities are impaired due to reasons of credit quality.  Accordingly, as of September 30, 2009, we believe the impairments detailed in the table above are temporary and no impairment loss has been realized in our consolidated income statement.

-12-



Note 5.              Reserve for Loan and Lease Losses

The reserve for loan and lease losses is maintained at a level believed to be adequate by management to absorb probable losses inherent in the loan and lease portfolio.  The determination of the reserve requires significant judgment reflecting management’s best estimate of probable loan and lease losses related to specifically identified loans and leases as well as probable losses in the remainder of the various loan and lease portfolios.  The methodology for assessing the appropriateness of the reserve consists of several key elements, which include: specific reserves for impaired loans, percentage allocations for special attention loans and leases (classified loans and leases and internal watch list credits) without specific reserves, formula reserves for each business lending division portfolio, and reserves for pooled homogeneous loans and leases.  Management’s evaluation is based upon a continuing review of these portfolios, estimates of customer performance, collateral values and dispositions, and assessments of economic and geopolitical events, all of which are subject to judgment and will change.

Note 6.              Financial Instruments with Off-Balance-Sheet Risk and Derivative Transactions

To meet the financing needs of our customers, 1st Source Corporation and its subsidiaries are parties to financial instruments with off-balance-sheet risk in the normal course of business.  These off-balance-sheet financial instruments include commitments to originate, purchase and sell loans and standby letters of credit.  The instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated statements of financial condition.  Our exposure to credit loss in the event of nonperformance by the other party to the financial instruments for loan commitments and standby letters of credit is represented by the dollar amount of those instruments.  We use the same credit policies and collateral requirements in making commitments and conditional obligations as we do for on-balance-sheet instruments.

We have certain interest rate derivative positions that relate to transactions in which we enter into an interest rate swap with a client while at the same time entering into an offsetting interest rate swap with another financial institution.  In connection with each transaction, we agree to pay interest to the client on a notional amount at a variable interest rate and receive interest from the client on the same notional amount at a fixed interest rate.  At the same time, we agree to pay another financial institution the same fixed interest rate on the same notional amount and receive the same variable interest rate on the same notional amount.  The transaction allows our client to effectively convert a variable rate loan to a fixed rate.  Because the terms of the swaps with our customers and the other financial institution offset each other, with the only difference being counterparty credit risk, changes in the fair value of the underlying derivative contracts are not materially different and do not significantly impact our results of operations.  Changes in the fair value are included in other expense.  The fair value of interest rate swap positions is determined by a third-party pricing agent using an income approach and utilizing models that use as their basis readily observable market parameters.  This valuation process considers various factors including interest rate yield curves, time value and volatility factors.

1st Source Bank (Bank), a subsidiary of 1st Source Corporation, grants mortgage loan commitments to borrowers, subject to normal loan underwriting standards.  The interest rate risk associated with these loan commitments is managed by entering into contracts for future deliveries of loans.  Loan commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee.  Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.  Commitments to originate or purchase residential mortgage loans held for sale and forward commitments to sell residential mortgage loans are considered derivative instruments and changes in the fair value are recorded to mortgage banking income.  Fair value of mortgage loan commitments is determined using a market value approach and utilizing an appropriate current market yield and a loan commitment closing rate based on historical analysis.
 
-13-

 

Fair values of derivative instruments as of September 30, 2009:
                 
                           
                           
                           
(Dollars in thousands)
     
Asset derivatives
   
Liability derivatives
 
   
Notional or
 
Balance
       
Balance
       
   
contractual
 
sheet
 
Fair
   
sheet
   
Fair
 
   
amount
 
location
 
value
   
location
   
value
 
                           
Derivatives not designated as
                         
hedging instruments
                         
                           
Interest rate swap contracts
  $ 436,801  
Other assets
  $ 16,507    
   Other liabilities
    $ 16,900  
Loan commitments
    51,421  
Mortgages held for sale
    305       N/A       -  
Forward contracts
    55,119  
N/A
    -    
   Mortgages held for sale
      671  
Total
            $ 16,812             $ 17,571  
                          

        We issue letters of credit which are conditional commitments that guarantee the performance of a customer to a third party.  The credit risk involved and collateral obtained in issuing letters of credit is essentially the same as that involved in extending loan commitments to customers.  Standby letters of credit totaled $45.89 million and $82.18 million at September 30, 2009, and December 31, 2008, respectively.  Standby letters of credit generally have terms ranging from six months to one year.

Note 7.              Stock-Based Compensation

As of September 30, 2009, we had five stock-based employee compensation plans, which are more fully described in Note L of the Consolidated Financial Statements in 1st Source’s Annual Report on Form 10-K for the year ended December 31, 2008.  These plans include two stock option plans, the Employee Stock Purchase Plan, the Executive Incentive Plan, and the Restricted Stock Award Plan.

Stock-based compensation expense for all stock-based compensation awards granted is based on the grant-date fair value.  For all awards except stock option awards, the grant date fair value is either the fair market value per share or book value per share (corresponding to the type of stock awarded) as of the grant date.  For stock option awards, the grant date fair value is estimated using the Black-Scholes option pricing model.  For all awards we recognize these compensation costs only for those shares expected to vest on a straight-line basis over the requisite service period of the award, for which we use the related vesting term.  We estimate forfeiture rates based on historical employee option exercise and employee termination experience.  We have identified separate groups of awardees that exhibit similar option exercise behavior and employee termination experience and have considered them as separate groups in the valuation models and expense estimates.
 
The stock-based compensation expense recognized in the condensed consolidated statement of operations for the nine months ended September 30, 2009 and 2008 was based on awards ultimately expected to vest, and accordingly has been adjusted by the amount of estimated forfeitures.  GAAP requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates.  Forfeitures were estimated based partially on historical experience.

The aggregate intrinsic value in the table below represents the total pretax intrinsic value (the difference between 1st Source’s closing stock price on the last trading day of the third quarter of 2009 (September 30, 2009)
 
-14-

and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all option holders exercised their options on September 30, 2009.  This amount changes based on the fair market value of 1st Source’s stock.  Total fair value of options vested and expensed was $9 thousand and $12 thousand, net of tax, for the nine months ended September 30, 2009 and 2008, respectively.
 
 
   
September 30, 2009
             
               
Average
       
         
Weighted
   
Remaining
   
Total
 
         
Average
   
Contractual
   
Intrinsic
 
   
Number of
   
Exercise
   
Term
   
Value
 
   
Shares
   
Price
   
(in years)
   
(in 000's)
 
                         
Options outstanding, beginning of year
    80,948     $ 18.51              
Granted
    -       -              
Exercised
    -       -              
Forfeited
    -       -              
Options outstanding, September 30, 2009
    80,948     $ 18.51       2.09     $ 94  
                                 
                                 
Vested and expected to vest at September 30, 2009
    80,948     $ 18.51       2.09     $ 94  
Exercisable at September 30, 2009
    75,448     $ 18.99       1.98     $ 70  
 
No options were granted during the nine months ended September 30, 2009.
 
As of September 30, 2009, there was $2.41 million of total unrecognized compensation cost related to nonvested share-based compensation arrangements.  That cost is expected to be recognized over a weighted-average period of 3.46 years.
 
The following table summarizes information about stock options outstanding at September 30, 2009:

 
Options Outstanding
 
Options Exercisable
   
Weighted
       
   
Average
Weighted
   
Weighted
Range of
Number
Remaining
Average
 
Number
Average
Exercise
of shares
Contractual
Exercise
 
of shares
Exercise
Prices
Outstanding
Life
Price
 
Exercisable
Price
$12.04 to $17.99
29,508
2.99
$13.38
 
24,008
$13.69
$18.00 to $26.99
45,885
1.51
20.55
 
45,885
20.55
$27.00 to $29.46
5,555
2.06
28.95
 
5,555
28.95
 
The fair value of each stock option was estimated on the date of grant using the Black-Scholes option-pricing model.

Note 8.              Income Taxes

The total amount of unrecognized tax benefits that would affect the effective tax rate if recognized was $1.19 million at September 30, 2009 and $4.19 million at December 31, 2008.  Interest and penalties were recognized through the income tax provision.  For the nine months ending September 30, 2009 and the twelve months ending December 31, 2008, we recognized approximately ($0.76) million and $0.14 million in interest, net of tax effect, and penalties, respectively.  Interest and penalties of approximately $0.52 million and $1.27 million were accrued at September 30, 2009 and December 31, 2008, respectively.
-15-

          
Tax years that remain open and subject to audit include the federal 2006-2008 years and the Indiana 2005-2008 years.  Additionally, during the first quarter of 2009 we reached a resolution of audit examinations for the 2002-2007 years and as a result recorded a reduction of unrecognized tax benefits in the amount of $4.80 million that affected the effective tax rate and increased earnings in the amount of $2.60 million.  We do not anticipate a significant change in the amount of uncertain tax positions within the next 12 months.

Note 9.              Fair Value

As of January 1, 2008, we adopted “Fair Value Measurements” and “Fair Value Option for Financial Assets and Financial Liabilities”.  Fair Value Measurements does not change existing guidance as to whether or not an asset or liability is carried at fair value.  It defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, establishes a framework for measuring fair value, and expands disclosures about fair value measurements.  Fair Value Option for Financial Assets and Financial Liabilities generally permits the measurement of selected eligible financial instruments at fair value at specified election dates, subject to the conditions set forth in the standard.

We also deferred until January 1, 2009 the application of Fair Value Measurements to nonfinancial assets and nonfinancial liabilities not recognized or disclosed at least annually at fair value.  Items affected by this deferral included goodwill, repossessions and other real estate, all for which any necessary impairment analyses are performed using fair value measurements.

We elected to adopt Fair Value Option for Financial Assets and Financial Liabilities for mortgages held for sale (MHFS) at fair value prospectively for new MHFS originations starting on January 1, 2008.  We believe the fair value election for MHFS (which are now hedged with free-standing derivatives (economic hedges)) will reduce certain timing differences and better match changes in the value of these assets with changes in the value of derivatives used as economic hedges for these assets.  There was no transition adjustment required upon adoption because we continued to account for MHFS originated prior to January 1, 2008 at the lower of cost or fair value.  At September 30, 2009, all MHFS are carried at fair value.

We group our financial assets and financial liabilities measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value.  These levels are:

§  
Level 1 – Quoted prices are available in active markets for identical assets or liabilities as of the reported date.

§  
Level 2 – Pricing inputs are other than quoted prices in active markets, which are either directly or indirectly observable as of the reported date.  The nature of these assets and liabilities include items for which quoted prices are available but traded less frequently, and items that are fair valued using other financial instruments, the parameters of which can be directly observed.

§  
Level 3 – Assets and liabilities that have little to no pricing observability as of the reported date.  These items do not have two-way markets and are measured using management’s best estimate of fair value, where the inputs into the determination of fair value require significant management judgment or estimation.

A financial instrument’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.
-16-

The table below presents the balance of assets and liabilities at September 30, 2009 measured at fair value on a recurring basis:
 
                         
(Dollars in thousands)
 
Level 1
   
Level 2
   
Level 3
   
Total
 
Assets:
                       
Investment securities available for sale:
                       
U.S. Treasury and Federal agencies securities
  $ 46,216     $ 349,164     $ -       395,380  
U.S. State and political subdivisions securities
          180,022       27,605       207,627  
Mortgage-backed securities - Federal agencies
          260,578       -       260,578  
Corporate debt securities
          19,178       -       19,178  
Foreign government securities
          -       675       675  
Total debt securities
    46,216       808,942       28,280       883,438  
Marketable equity securities
    3,330       -       9       3,339  
Total investment securities available for sale
    49,546       808,942       28,289       886,777  
Trading account securities
    117       -       -       117  
Mortgages held for sale
    -       39,364       -       39,364  
Accrued income and other assets (Interest rate swap agreements)
    -       16,507       -       16,507  
Total
  $ 49,663     $ 864,813     $ 28,289     $ 942,765  
                                 
Liabilities:
                            -  
Accrued expenses and other liabilities (Interest rate swap agreements)
  $ -     $ 16,900     $ -     $ 16,900  
Total
  $ -     $ 16,900     $ -     $ 16,900  
 
         The changes in Level 3 assets and liabilities measured at fair value on a recurring basis are summarized as follows:
 
   
Quarter ended
 
(Dollars in thousands)
 
September 30, 2009
 
   
U.S. State and political subdivisions securities
   
Foreign government securities
   
Marketable equity securities
   
Investment securities available for sale
 
Beginning balance July 1, 2009
  $ 28,725     $ 775     $ 9     $ 29,509  
  Total gains or losses (realized/unrealized):
                               
          Included in earnings
    -       -       -       -  
          Included in other comprehensive income
    147       -       -       147  
  Purchases and issuances
    8       -       -       8  
  Settlements
    -       -       -       -  
  Expirations
    (1,275 )     (100 )     -       (1,375 )
  Transfers in and/or out of Level 3
    -       -       -       -  
Ending balance September 30, 2009
  $ 27,605     $ 675     $ 9     $ 28,289  
 
         There were no gains or losses for the period included in earnings attributable to the change in unrealized gains or losses relating to assets and liabilities still held at September 30, 2009.

We may be required, from time to time, to measure certain other financial assets at fair value on a nonrecurring basis in accordance with GAAP.   These other financial assets include loans measured for impairment, venture capital partnership investments, mortgage servicing rights, goodwill, repossessions and other real estate.

Impaired loans and related write-downs are based on the fair value of the underlying collateral if repayment is expected solely from the collateral.  Collateral values are estimated using customized discounting criteria, appraisals and dealer and trade magazine quotes which are used in a market valuation approach.  Repossessions are similarly valued.  Venture capital partnership investments and the adjustments to fair value primarily result from application of lower-of-cost-or-fair value accounting.  The partnership investments are priced using financial statements provided by the partnerships.
   
-17-

        Mortgage servicing rights (MSRs) and related adjustments to fair value result from application of lower-of-cost-or-fair value accounting.  Fair value measurements for mortgage servicing rights are derived based on a variety of inputs including prepayment speeds, discount rates, scheduled servicing cash flows, delinquency rates and other assumptions.  MSRs do not trade in an active, open market with readily observable prices and though sales of MSRs do occur, precise terms and conditions typically are not readily available and the characteristics of our servicing portfolio may differ from those of any servicing portfolios that do trade.  Goodwill is reviewed for impairment at least annually, or on an interim basis if an event occurs or circumstances change that would more likely than not reduce the carrying amount.  Goodwill is allocated into two reporting units.  Fair value for each reporting unit is estimated using stock price multiples or revenue multiples.  We do not believe there is a reasonable possibility that either of our reporting units are at risk of failing a future Step 1 impairment test.  Other real estate (ORE) is based on the fair value of the underlying collateral less expected selling costs.  Collateral values are estimated primarily using appraisals and reflect a market value approach.

For assets measured at fair value on a nonrecurring basis the following represents impairment charges (recoveries) recognized on these assets during the quarter ended September 30, 2009:  impaired loans - $3.33 million; venture capital partnership investments - $(0.33) million; mortgage servicing rights - $(0.29) million; goodwill - $0.00 million; repossessions - $0.11 million, and other real estate - $0.00 million.

For assets measured at fair value on a nonrecurring basis on hand at September 30, 2009, the following table provides the level of valuation assumptions used to determine each valuation and the carrying value of the related assets:
 
                         
       
(Dollars in thousands)
 
Level 1
   
Level 2
   
Level 3
   
Total