Loans and Allowance for Credit Losses

The following table provides outstanding balances related to each of our loan types:



	June 30, 2014		December 31, 2013
	(dollars in thousands)
Commercial, financial, agricultural and other	$	1,062,001	$	1,021,056
Real estate construction	100,709		93,289
Residential real estate	1,238,791		1,262,718
Commercial real estate	1,306,752		1,296,472
Loans to individuals	625,961		610,298
Total loans and leases net of unearned income	$	4,334,214	$	4,283,833

Credit Quality Information

As part of the on-going monitoring of credit quality within the loan portfolio, the following credit worthiness categories are used in grading our loans:



Pass		Acceptable levels of risk exist in the relationship. Includes all loans not adversely classified as OAEM, substandard or doubtful.



Other Assets Especially Mentioned (OAEM)		Potential weaknesses that deserve management’s close attention. The potential weaknesses may result in deterioration of the repayment prospects or weaken the Bank’s credit position at some future date. The credit risk may be relatively minor, yet constitute an undesirable risk in light of the circumstances surrounding the specific credit. No loss of principal or interest is expected.



Substandard		Well-defined weakness or a weakness that jeopardizes the repayment of the debt. A loan may be classified as substandard as a result of deterioration of the borrower’s financial condition and repayment capacity. Loans for which repayment plans have not been met or collateral equity margins do not protect the Company may also be classified as substandard.



Doubtful		Loans with the characteristics of substandard loans with the added characteristic that collection or liquidation in full, on the basis of presently existing facts and conditions, is highly improbable.

The use of creditworthiness categories to grade loans permits management’s use of migration analysis to estimate a portion of credit risk. The Company’s internal creditworthiness grading system provides a measurement of credit risk based primarily on an evaluation of the borrower’s cash flow and collateral. Movements between these rating categories provides a predictive measure of credit losses and therefore assists in determining the appropriate level for the loan loss reserves. Category ratings are reviewed each quarter, at which time management analyzes the results, as well as other external statistics and factors related to loan performance. Loans that migrate towards higher risk rating levels generally have an increased risk of default, whereas loans that migrate toward lower risk ratings generally will result in a lower risk factor being applied to those related loan balances.

The following tables represent our credit risk profile by creditworthiness:



	June 30, 2014
	Commercial, financial, agricultural and other		Real estate construction		Residential real estate		Commercial real estate		Loans to individuals		Total
	(dollars in thousands)
Pass	$	976,591	$	91,732	$	1,225,291	$	1,257,512	$	625,718	$	4,176,844
Non-Pass
OAEM	46,934		8,310		3,160		28,800		—		87,204
Substandard	34,198		667		10,340		20,440		243		65,888
Doubtful	4,278		—		—		—		—		4,278
Total Non-Pass	85,410		8,977		13,500		49,240		243		157,370
Total	$	1,062,001	$	100,709	$	1,238,791	$	1,306,752	$	625,961	$	4,334,214



	December 31, 2013
	Commercial, financial, agricultural and other		Real estate construction		Residential real estate		Commercial real estate		Loans to individuals		Total
	(dollars in thousands)
Pass	$	943,107	$	79,679	$	1,245,422	$	1,243,170	$	610,094	$	4,121,472
Non-Pass
OAEM	35,429		9,710		5,161		28,823		1		79,124
Substandard	42,520		3,900		12,135		24,479		203		83,237
Doubtful	—		—		—		—		—		—
Total Non-Pass	77,949		13,610		17,296		53,302		204		162,361
Total	$	1,021,056	$	93,289	$	1,262,718	$	1,296,472	$	610,298	$	4,283,833

Portfolio Risks

The credit quality of our loan portfolio can potentially represent significant risk to our earnings, capital, regulatory agency relationships, investment community reputation and shareholder returns. First Commonwealth devotes a substantial amount of resources managing this risk primarily through our credit administration department that develops and administers policies and procedures for underwriting, maintaining, monitoring and collecting activities. Credit administration is independent of lending departments and oversight is provided by the credit committee of the First Commonwealth Board of Directors.

Criticized loans have been evaluated when determining the appropriateness of the allowance for credit losses, which we believe is adequate to absorb losses inherent to the portfolio as of June 30, 2014. However, changes in economic conditions, interest rates, borrower financial condition, delinquency trends or previously established fair values of collateral factors could significantly change those judgmental estimates.

Age Analysis of Past Due Loans by Segment

The following tables delineate the aging analysis of the recorded investments in past due loans as of June 30, 2014 and December 31, 2013. Also included in these tables are loans that are 90 days or more past due and still accruing because they are well-secured and in the process of collection.



	June 30, 2014
	30 - 59 days past due		60 - 89 days past due		90 days and greater and still accruing		Nonaccrual		Total past due and nonaccrual		Current		Total
	(dollars in thousands)
Commercial, financial, agricultural and other	$	687	$	173	$	230	$	19,678	$	20,768	$	1,041,233	$	1,062,001
Real estate construction	—		—		—		303		303		100,406		100,709
Residential real estate	4,649		1,222		891		8,734		15,496		1,223,295		1,238,791
Commercial real estate	956		4,163		—		6,764		11,883		1,294,869		1,306,752
Loans to individuals	2,553		1,096		1,289		242		5,180		620,781		625,961
Total	$	8,845	$	6,654	$	2,410	$	35,721	$	53,630	$	4,280,584	$	4,334,214



	December 31, 2013
	30 - 59 days past due		60 - 89 days past due		90 days and greater and still accruing		Nonaccrual		Total past due and nonaccrual		Current		Total
	(dollars in thousands)
Commercial, financial, agricultural and other	$	594	$	319	$	185	$	23,631	$	24,729	$	996,327	$	1,021,056
Real estate construction	—		—		—		2,567		2,567		90,722		93,289
Residential real estate	4,002		524		1,041		10,520		16,087		1,246,631		1,262,718
Commercial real estate	1,199		23		13		8,966		10,201		1,286,271		1,296,472
Loans to individuals	2,895		990		1,266		204		5,355		604,943		610,298
Total	$	8,690	$	1,856	$	2,505	$	45,888	$	58,939	$	4,224,894	$	4,283,833

Nonaccrual Loans

The previous tables summarize nonaccrual loans by loan segment. The Company generally places loans on nonaccrual status when the full and timely collection of interest or principal becomes uncertain, when part of the principal balance has been charged off and no restructuring has occurred, or the loans reach a certain number of days past due. Generally, loans 90 days or more past due are placed on nonaccrual status, except for consumer loans which are placed in nonaccrual status at 150 days past due.

When a loan is placed on nonaccrual, the accrued unpaid interest receivable is reversed against interest income and all future payments received are applied as a reduction to the loan principal. Generally, the loan is returned to accrual status when (a) all delinquent interest and principal become current under the terms of the loan agreement or (b) the loan is both well-secured and in the process of collection and collectability is no longer doubtful.

Impaired Loans

Management considers loans to be impaired when, based on current information and events, it is determined that the Company will not be able to collect all amounts due according to the loan contract, including scheduled interest payments. Determination of impairment is treated the same across all loan categories. When management identifies a loan as impaired, the impairment is measured based on the present value of expected future cash flows, discounted at the loan’s effective interest rate, except when the sole source for repayment of the loan is the operation or liquidation of collateral. When the loan is collateral dependent, the appraised value less estimated cost to sell is utilized. If management determines the value of the impaired loan is less than the recorded investment in the loan, impairment is recognized through an allowance estimate or a charge-off to the allowance. Troubled debt restructured loans on accrual status are considered to be impaired loans.

When the ultimate collectability of the total principal of an impaired loan is in doubt and the loan is on nonaccrual status, all payments are applied to principal, under the cost recovery method. When the ultimate collectability of the total principal of an impaired loan is not in doubt and the loan is on nonaccrual status, contractual interest is credited to interest income when received, under the cash basis method.

Nonperforming loans decreased $13.1 million during the six months ended June 30, 2014. Contributing to this decrease was the sale of four real estate construction loans totaling $3.0 million and the payoff of six loans totaling $12.5 million. The payoffs included a $4.7 million commercial relationship to a local developer, a $3.1 million commercial real estate loan with a non-profit organization in western Pennsylvania, a $2.9 million commercial real estate loan to a real estate investor in western Pennsylvania, a $0.9 million residential real estate loan in western Pennsylvania, a $0.6 million commercial relationship with a western Pennsylvania glass manufacturer and a $0.3 million commercial real estate loan with a western Pennsylvania real estate investor. Additionally, charge-offs recognized during the first half of 2014 include $5.8 million for a commercial industrial loan relationship with a gas drilling business that operated in western Pennsylvania with headquarters in Louisiana, $0.5 million for a commercial industrial loan to a local energy company, $0.4 million for a consumer home equity loan in western Pennsylvania, $0.3 million for a commercial real estate construction project in western Pennsylvania upon which the property was foreclosed and $0.6 million for a commercial loan in western Pennsylvania.

Offsetting the previously noted decreases in nonperforming loans is a total of $17.2 million in loans which were moved into nonaccrual status during the six months ended June 30, 2014, the majority of which relates to a $4.3 million commercial industrial relationship with an audio visual equipment distributor, a $0.7 million commercial real estate relationship with a personal care facility in western Pennsylvania, and a $0.7 million commercial real estate relationship with a western Pennsylvania funeral home. In addition to this, $1.8 million in consumer loans which were 150 days or more past due were moved to nonaccrual status.

The specific allowance for nonperforming loans decreased by $2.8 million at June 30, 2014 compared to December 31, 2013, primarily due to the charge-offs noted on the previously mentioned loans offset by specific reserves recognized on the loans transferred into nonaccrual status. Unfunded commitments related to nonperforming loans were $3.3 million at June 30, 2014 and after consideration of available collateral related to these commitments, a reserve of $0.1 million was established was established for these off balance sheet exposures.

There were no loans held for sale at June 30, 2014 and December 31, 2013; however, sales of loans during the six months ended June 30, 2014 and 2013 resulted in gains of $0.1 million and $0.4 million, respectively.

Significant nonaccrual loans as of June 30, 2014, include the following:

•

$10.6 million relationship of commercial industrial loans to a local energy company. These loans were originated from 2008 to 2011 and were placed in nonaccrual status during the third quarter of 2013. One of these loans, totaling $2.7 million, was modified, resulting in TDR classification in the second quarter of 2012. A second of these loans, totaling $0.3 million, was modified, resulting in TDR classification in the first quarter of 2013. During the six months ended June 30, 2014, chargeoffs of $0.5 million related to this relationship were recorded. A valuation of the collateral was completed during the third quarter of 2013.


•	$4.3 million in commercial industrial loans to an audio visual equipment distributor. These loans were originated in 2013 and placed on nonaccrual status in the second quarter of 2014. A valuation of the collateral was completed during the second quarter of 2014.


•	$3.0 million in commercial real estate and industrial loans to a specialty metal processor in western Pennsylvania. These loans were originated in 2003 and were placed on nonaccrual status in the second quarter of 2013. The assets collateralizing this relationship as well as the appraisal for the real estate collateral were valued in the second quarter of 2014.

The following tables include the recorded investment and unpaid principal balance for impaired loans with the associated allowance amount, if applicable, as of June 30, 2014 and December 31, 2013. Also presented are the average recorded investment in impaired loans and the related amount of interest recognized while the loan was considered impaired. Average balances are calculated using month-end balances of the loans for the period reported and are included in the table below based on its period-end allowance position.



	June 30, 2014						December 31, 2013
	Recorded investment		Unpaid principal balance		Related allowance		Recorded investment		Unpaid principal balance		Related allowance
	(dollars in thousands)
With no related allowance recorded:
Commercial, financial, agricultural and other	$	7,422	$	8,585			$	6,752	$	7,649
Real estate construction	586		1,154				3,486		6,664
Residential real estate	9,102		10,183				9,333		9,952
Commercial real estate	7,366		8,379				13,606		14,719
Loans to individuals	341		373				289		307
Subtotal	24,817		28,674				33,466		39,291
With an allowance recorded:
Commercial, financial, agricultural and other	17,994		18,422		4,995		21,482		22,082		7,364
Real estate construction	—		—		—		414		737		94
Residential real estate	1,940		2,085		546		3,533		3,585		1,282
Commercial real estate	1,536		1,673		531		488		612		84
Loans to individuals	—		—		—		—		—		—
Subtotal	21,470		22,180		6,072		25,917		27,016		8,824
Total	$	46,287	$	50,854	$	6,072	$	59,383	$	66,307	$	8,824



	For the Six Months Ended June 30,
	2014				2013
	Average recorded investment		Interest Income Recognized		Average recorded investment		Interest Income Recognized
	(dollars in thousands)
With no related allowance recorded:
Commercial, financial, agricultural and other	$	13,841	$	32	$	12,333	$	106
Real estate construction	2,112		18		6,900		—
Residential real estate	10,602		124		8,732		78
Commercial real estate	8,494		55		27,867		25
Loans to individuals	290		2		246		2
Subtotal	35,339		231		56,078		211
With an allowance recorded:
Commercial, financial, agricultural and other	14,333		76		20,534		31
Real estate construction	—		—		2,017		26
Residential real estate	1,738		15		3,117		12
Commercial real estate	670		2		5,760		52
Loans to individuals	—		—		—		—
Subtotal	16,741		93		31,428		121
Total	$	52,080	$	324	$	87,506	$	332



	For the Three Months Ended June 30,
	2014				2013
	Average recorded investment		Interest Income Recognized		Average recorded investment		Interest Income Recognized
	(dollars in thousands)
With no related allowance recorded:
Commercial, financial, agricultural and other	$	12,658	$	14	$	12,853	$	55
Real estate construction	1,148		6		5,538		—
Residential real estate	9,858		75		9,003		41
Commercial real estate	7,388		22		20,865		13
Loans to individuals	310		1		246		1
Subtotal	31,362		118		48,505		110
With an allowance recorded:
Commercial, financial, agricultural and other	15,086		32		18,486		12
Real estate construction	—		—		1,733		14
Residential real estate	1,836		7		3,680		8
Commercial real estate	1,136		1		5,708		28
Loans to individuals	—		—		—		—
Subtotal	18,058		40		29,607		62
Total	$	49,420	$	158	$	78,112	$	172

Troubled debt restructured loans are those loans whose terms have been renegotiated to provide a reduction or deferral of principal or interest as a result of the financial difficulties experienced by the borrower, who could not obtain comparable terms from alternate financing sources.

The following table provides detail as to the total troubled debt restructured loans and total commitments outstanding on troubled debt restructured loans:



	June 30, 2014		December 31, 2013
	(dollars in thousands)
Troubled debt restructured loans
Accrual status	$	10,566	$	13,495
Nonaccrual status	6,793		16,980
Total	$	17,359	$	30,475
Commitments
Letters of credit	$	—	$	—
Unused lines of credit	2,482		452
Total	$	2,482	$	452

At June 30, 2014, troubled debt restructured loans decreased $13.1 million compared to December 31, 2013, and commitments related to troubled debt restructured loans increased $2.0 million for the same period. This decrease in loans is primarily a result of the payoff of four commercial loans totaling $11.3 million, including a $4.7 million commercial relationship with a local real estate developer, a $3.1 million commercial real estate loan with a non-profit organization and a $2.9 million commercial real estate loan in western Pennsylvania. The increase in unused line of credit commitments is related to two commercial borrowers.

The following tables provide detail, including specific reserves and reasons for modification, related to loans identified as troubled debt restructurings:



	For the Six Months Ended June 30, 2014
		Type of Modification
	Number of Contracts	Extend Maturity		Modify Rate		Modify Payments		Total Pre-Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment		Specific Reserve
	(dollars in thousands)
Commercial, financial, agricultural and other	2	$	1,480	$	—	$	—	$	1,480	$	1,463	$	20
Residential real estate	21	—		291		644		935		895		48
Commercial real estate	1	—		—		12		12		7		—
Loans to individuals	10	—		73		27		100		85		—
Total	34	$	1,480	$	364	$	683	$	2,527	$	2,450	$	68



	For the Six Months Ended June 30, 2013
		Type of Modification
	Number of Contracts	Extend Maturity		Modify Rate		Modify Payments		Total Pre-Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment		Specific Reserve
	(dollars in thousands)
Commercial, financial, agricultural and other	3	$	526	$	—	$	12	$	538	$	472	$	100
Residential real estate	22	280		326		1,284		1,890		1,801		562
Commercial real estate	1	—		244		—		244		237		—
Loans to individuals	6	—		34		6		40		29		—
Total	32	$	806	$	604	$	1,302	$	2,712	$	2,539	$	662

The troubled debt restructurings included in the above tables are also included in the impaired loan tables provided earlier in this note. Loans defined as modified due to a change in rate may include loans that were modified for a change in rate as well as a reamortization of the principal and an extension of the maturity. For the six months ended June 30, 2014 and 2013, $0.3 million and $0.6 million, respectively, of total rate modifications represent loans with modifications to the rate as well as payment as a result of reamortization. For both 2014 and 2013 the changes in loan balances between the pre-modification balance and the post-modification balance are due to customer payments.



	For the Three Months Ended June 30, 2014
		Type of Modification
	Number of Contracts	Extend Maturity		Modify Rate		Modify Payments		Total Pre-Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment		Specific Reserve
	(dollars in thousands)
Commercial, financial, agricultural and other	1	$	1,420	$	—	$	—	$	1,420	$	1,433	$	—
Residential real estate	8	—		120		126		246		243		2
Loans to individuals	4	—		42		7		49		42		—
Total	13	$	1,420	$	162	$	133	$	1,715	$	1,718	$	2



	For the Three Months Ended, June 30, 2013
		Type of Modification
	Number of Contracts	Extend Maturity		Modify Rate		Modify Payments		Total Pre-Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment		Specific Reserve
	(dollars in thousands)
Commercial, financial, agricultural and other	1	$	100	$	—	$	—	$	100	$	100	$	100
Residential real estate	13	273		113		769		1,155		1,132		562
Loans to individuals	2	—		10		3		13		9		—
Total	16	$	373	$	123	$	772	$	1,268	$	1,241	$	662

The troubled debt restructurings included in the above tables are also included in the impaired loan tables provided earlier in this note. Loans defined as modified due to a change in rate may include loans that were modified for a change in rate as well as a reamortization of the principal and an extension of the maturity. For the three months ended June 30, 2014 and 2013, $0.1 million and $0.1 million, respectively, of total rate modifications represent loans with modifications to the rate as well as payment as a result of reamortization. For both 2014 and 2013 the changes in loan balances between the pre-modification balance and the post-modification balance are due to customer payments.

A troubled debt restructuring is considered to be in default when a restructured loan is 90 days or more past due. The following table provides information related to restructured loans that were considered to default during the six months ended June 30:



	2014			2013
	Number of Contracts	Recorded Investment		Number of Contracts	Recorded Investment
	(dollars in thousands)
Residential real estate	2	$	51	1	$	9
Loans to individuals	—	—		3	9
Total	2	$	51	4	$	18



	2014			2013
	Number of Contracts	Recorded Investment		Number of Contracts	Recorded Investment
	(dollars in thousands)
Residential real estate	1	$	6	—	$	—
Loans to individuals	—	—		2	5
Total	1	$	6	2	$	5

The following tables provide detail related to the allowance for credit losses:



	For the Six Months Ended June 30, 2014
	Commercial, financial, agricultural and other			Real estate construction			Residential real estate			Commercial real estate			Loans to individuals			Unallocated		Total
	(dollars in thousands)
Allowance for credit losses:
Beginning Balance	$	22,663		$	6,600		$	7,727		$	11,778		$	5,457		$	—	$	54,225
Charge-offs	(7,859		)	(296		)	(1,735		)	(297		)	(1,562		)	—		(11,749		)
Recoveries	421			337			323			255			365			—		1,701
Provision (credit)	6,731			(742		)	(190		)	(75		)	824			—		6,548
Ending Balance	$	21,956		$	5,899		$	6,125		$	11,661		$	5,084		$	—	$	50,725
Ending balance: individually evaluated for impairment	$	4,995		$	—		$	546		$	531		$	—		$	—	$	6,072
Ending balance: collectively evaluated for impairment	16,961			5,899			5,579			11,130			5,084			—		44,653
Loans:
Ending balance	1,062,001			100,709			1,238,791			1,306,752			625,961					4,334,214
Ending balance: individually evaluated for impairment	24,573			486			7,624			6,965			—					39,648
Ending balance: collectively evaluated for impairment	1,037,428			100,223			1,231,167			1,299,787			625,961					4,294,566



	For the Six Months Ended June 30, 2013
	Commercial, financial, agricultural and other			Real estate construction			Residential real estate			Commercial real estate			Loans to individuals			Unallocated			Total
	(dollars in thousands)
Allowance for credit losses:
Beginning Balance	$	19,852		$	8,928		$	5,908		$	22,441		$	4,132		$	5,926		$	67,187
Charge-offs	(14,221		)	(755		)	(643		)	(9,238		)	(1,755		)	—			(26,612		)
Recoveries	264			59			812			108			337			—			1,580
Provision (credit)	10,680			14			362			2,817			1,428			(4		)	15,297
Ending Balance	$	16,575		$	8,246		$	6,439		$	16,128		$	4,142		$	5,922		$	57,452
Ending balance: individually evaluated for impairment	$	6,627		$	267		$	1,943		$	818		$	—		$	—		$	9,655
Ending balance: collectively evaluated for impairment	9,948			7,979			4,496			15,310			4,142			5,922			47,797
Loans:
Ending balance	1,012,315			66,243			1,269,830			1,280,784			600,580						4,229,752
Ending balance: individually evaluated for impairment	24,592			3,904			10,468			27,862			—						66,826
Ending balance: collectively evaluated for impairment	987,723			62,339			1,259,362			1,252,922			600,580						4,162,926



	For the Three Months Ended June 30, 2014
	Commercial, financial, agricultural and other			Real estate construction			Residential real estate			Commercial real estate			Loans to individuals			Unallocated		Total
	(dollars in thousands)
Allowance for credit losses:
Beginning Balance	$	26,125		$	6,214		$	6,026		$	11,119		$	5,022		$	—	$	54,506
Charge-offs	(6,258		)	(296		)	(640		)	(157		)	(752		)	—		(8,103		)
Recoveries	336			168			79			235			187			—		1,005
Provision (credit)	1,753			(187		)	660			464			627			—		3,317
Ending Balance	$	21,956		$	5,899		$	6,125		$	11,661		$	5,084		$	—	$	50,725



	For the Three Months Ended, June 30, 2013
	Commercial, financial, agricultural and other			Real estate construction			Residential real estate			Commercial real estate			Loans to individuals			Unallocated		Total
	(dollars in thousands)
Allowance for credit losses:
Beginning Balance	$	20,275		$	7,733		$	5,749		$	18,470		$	4,139		$	5,896	$	62,262
Charge-offs	(13,683		)	(671		)	(321		)	(694		)	(767		)	—		(16,136		)
Recoveries	136			47			89			11			243			—		526
Provision (credit)	9,847			1,137			922			(1,659		)	527			26		10,800
Ending Balance	$	16,575		$	8,246		$	6,439		$	16,128		$	4,142		$	5,922	$	57,452

The change in the unallocated portion of the allowance for credit losses comparing June 30, 2014 with June 30, 2013 is a result of the unallocated portion of the allowance for credit losses no longer being treated as a separate component of the allowance as of December 31, 2013. Instead it is incorporated into the reserve provided for each loan category. This portion of the allowance for credit losses reflects the qualitative or environmental factors that are likely to cause estimated credit losses to differ from historical loss experience.