Loans and Allowance for Credit Losses

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



	September 30, 2014		December 31, 2013
	(dollars in thousands)
Commercial, financial, agricultural and other	$	1,071,531	$	1,021,056
Real estate construction	115,788		93,289
Residential real estate	1,234,842		1,262,718
Commercial real estate	1,345,302		1,296,472
Loans to individuals	644,018		610,298
Total loans and leases net of unearned income	$	4,411,481	$	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. Movement 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:



	September 30, 2014
	Commercial, financial, agricultural and other		Real estate construction		Residential real estate		Commercial real estate		Loans to individuals		Total
	(dollars in thousands)
Pass	$	996,609	$	106,989	$	1,223,231	$	1,301,447	$	643,756	$	4,272,032
Non-Pass
OAEM	40,620		8,222		1,874		25,009		—		75,725
Substandard	30,382		577		9,737		18,846		262		59,804
Doubtful	3,920		—		—		—		—		3,920
Total Non-Pass	74,922		8,799		11,611		43,855		262		139,449
Total	$	1,071,531	$	115,788	$	1,234,842	$	1,345,302	$	644,018	$	4,411,481



	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 September 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 September 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.



	September 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	$	467	$	165	$	267	$	18,847	$	19,746	$	1,051,785	$	1,071,531
Real estate construction	—		—		—		291		291		115,497		115,788
Residential real estate	6,371		1,636		778		8,286		17,071		1,217,771		1,234,842
Commercial real estate	2,162		75		—		6,408		8,645		1,336,657		1,345,302
Loans to individuals	3,797		1,105		1,329		261		6,492		637,526		644,018
Total	$	12,797	$	2,981	$	2,374	$	34,093	$	52,245	$	4,359,236	$	4,411,481



	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 $14.1 million during the nine months ended September 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, net charge-offs recognized during the nine-months ended September 30, 2014 totaled $12.1 million including $5.8 million for a commercial industrial loan relationship with a gas drilling business that operated in western Pennsylvania with headquarters in Louisiana and $0.6 million for a commercial loan in western Pennsylvania. The remaining charge-offs were individually for amounts of $0.5 million or less.

Offsetting the previously noted decreases in nonperforming loans is a total of $19.8 million in loans which were moved into nonaccrual status during the nine months ended September 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, $3.2 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 $4.2 million at September 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 $0.4 million at September 30, 2014 and after consideration of available collateral related to these commitments, a reserve of $14 thousand was established was established for these off balance sheet exposures.

There were $1.3 million loans held for sale at September 30, 2014, all of which were 1-4 family residential loans originated through our recently launched mortgage business. There were no loans held for sale at December 31, 2013. Sales of loans during the nine months ended September 30, 2014 and 2013 resulted in gains of $0.1 million and $0.6 million, respectively.

Significant nonaccrual loans as of September 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 nine months ended September 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, with updates to significant inputs completed in June 2014.


•	$3.9 million in commercial industrial loans to an audio visual equipment distributor. These loans were originated in 2008 and refinanced by the Company in 2013. In the second quarter of 2014, the loans were placed on nonaccrual status. An updated 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 September 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.



	September 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	$	10,833	$	12,207			$	6,752	$	7,649
Real estate construction	291		867				3,486		6,664
Residential real estate	10,093		11,171				9,333		9,952
Commercial real estate	8,358		9,887				13,606		14,719
Loans to individuals	348		456				289		307
Subtotal	29,923		34,588				33,466		39,291
With an allowance recorded:
Commercial, financial, agricultural and other	13,802		14,192		4,271		21,482		22,082		7,364
Real estate construction	—		—		—		414		737		94
Residential real estate	1,445		1,579		332		3,533		3,585		1,282
Commercial real estate	87		88		29		488		612		84
Loans to individuals	—		—		—		—		—		—
Subtotal	15,334		15,859		4,632		25,917		27,016		8,824
Total	$	45,257	$	50,447	$	4,632	$	59,383	$	66,307	$	8,824



	For the Nine Months Ended September 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	$	15,209	$	77	$	14,482	$	147
Real estate construction	1,506		19		5,390		—
Residential real estate	11,047		167		9,376		129
Commercial real estate	9,007		78		26,390		119
Loans to individuals	309		3		248		3
Subtotal	37,078		344		55,886		398
With an allowance recorded:
Commercial, financial, agricultural and other	11,944		125		15,552		46
Real estate construction	—		—		1,848		35
Residential real estate	1,178		12		3,001		24
Commercial real estate	90		3		5,628		1
Loans to individuals	—		—		—		—
Subtotal	13,212		140		26,029		106
Total	$	50,290	$	484	$	81,915	$	504



	For the Three Months Ended September 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	$	10,973	$	39	$	14,000	$	41
Real estate construction	295		1		2,340		—
Residential real estate	10,590		38		9,977		52
Commercial real estate	8,873		24		23,428		42
Loans to individuals	346		1		251		1
Subtotal	31,077		103		49,996		136
With an allowance recorded:
Commercial, financial, agricultural and other	14,140		48		10,370		16
Real estate construction	—		—		1,541		8
Residential real estate	1,406		3		3,349		10
Commercial real estate	88		2		5,371		1
Loans to individuals	—		—		—		—
Subtotal	15,634		53		20,631		35
Total	$	46,711	$	156	$	70,627	$	171

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:



	September 30, 2014		December 31, 2013
	(dollars in thousands)
Troubled debt restructured loans
Accrual status	$	11,164	$	13,495
Nonaccrual status	6,783		16,980
Total	$	17,947	$	30,475
Commitments
Letters of credit	$	—	$	—
Unused lines of credit	974		452
Total	$	974	$	452

At September 30, 2014, troubled debt restructured loans decreased $12.5 million compared to December 31, 2013, and commitments related to troubled debt restructured loans increased $0.5 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 Nine Months Ended September 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	$	1,505	$	—	$	—	$	1,505	$	1,648	$	27
Residential real estate	44	—		468		1,767		2,235		2,091		22
Commercial real estate	1	—		—		8		8		6		—
Loans to individuals	13	—		81		42		123		101		—
Total	60	$	1,505	$	549	$	1,817	$	3,871	$	3,846	$	49



	For the Nine Months Ended September 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	7	$	2,969	$	—	$	105	$	3,074	$	1,041	$	198
Residential real estate	32	347		350		1,552		2,249		1,924		274
Commercial real estate	6	758		244		1,551		2,553		2,484		1,062
Loans to individuals	12	9		70		28		107		83		—
Total	57	$	4,083	$	664	$	3,236	$	7,983	$	5,532	$	1,534

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 nine months ended September 30, 2014 and 2013, $0.5 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 September 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)
Residential real estate	24	$	—	$	164	$	1,116	$	1,280	$	1,233	$	2
Loans to individuals	3	—		8		15		23		20		—
Total	27	$	—	$	172	$	1,131	$	1,303	$	1,253	$	2



	For the Three Months Ended, September 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	4	$	2,442	$	—	$	93	$	2,535	$	601	$	198
Residential real estate	10	67		24		269		360		361		—
Commercial real estate	5	758		—		1,551		2,309		2,252		1,062
Loans to individuals	6	10		36		21		67		58		—
Total	25	$	3,277	$	60	$	1,934	$	5,271	$	3,272	$	1,260

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 September 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 nine months ended September 30:



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



	2014			2013
	Number of Contracts	Recorded Investment		Number of Contracts	Recorded Investment
	(dollars in thousands)
Residential real estate	1	$	5	1	$	9
Loans to individuals	—	—		1	5
Total	1	$	5	2	$	14

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



	For the Nine Months Ended September 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	(8,357		)	(296		)	(2,286		)	(1,109		)	(2,581		)	—		(14,629		)
Recoveries	625			469			420			432			621			—		2,567
Provision (credit)	4,773			1,331			(407		)	1,453			1,471			—		8,621
Ending Balance	$	19,704		$	8,104		$	5,454		$	12,554		$	4,968		$	—	$	50,784
Ending balance: individually evaluated for impairment	$	4,271		$	—		$	332		$	29		$	—		$	—	$	4,632
Ending balance: collectively evaluated for impairment	15,433			8,104			5,122			12,525			4,968			—		46,152
Loans:
Ending balance	1,071,531			115,788			1,234,842			1,345,302			644,018					4,411,481
Ending balance: individually evaluated for impairment	23,773			199			6,854			6,890			—					37,716
Ending balance: collectively evaluated for impairment	1,047,758			115,589			1,227,988			1,338,412			644,018					4,373,765



	For the Nine Months Ended September 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	(17,302		)	(773		)	(1,400		)	(10,051		)	(2,669		)	—		(32,195		)
Recoveries	345			140			883			121			465			—		1,954
Provision (credit)	12,038			(1,865		)	446			4,318			2,266			808		18,011
Ending Balance	$	14,933		$	6,430		$	5,837		$	16,829		$	4,194		$	6,734	$	54,957
Ending balance: individually evaluated for impairment	$	4,889		$	165		$	1,377		$	1,808		$	—		$	—	$	8,239
Ending balance: collectively evaluated for impairment	10,044			6,265			4,460			15,021			4,194			6,734		46,718
Loans:
Ending balance	1,008,316			74,025			1,280,990			1,272,366			604,307					4,240,004
Ending balance: individually evaluated for impairment	25,620			4,028			9,794			25,197			—					64,639
Ending balance: collectively evaluated for impairment	982,696			69,997			1,271,196			1,247,169			604,307					4,175,365



	For the Three Months Ended September 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	$	21,956		$	5,899	$	6,125		$	11,661		$	5,084		$	—	$	50,725
Charge-offs	(498		)	—		(551		)	(812		)	(1,019		)	—		(2,880		)
Recoveries	204			132		97			177			256			—		866
Provision (credit)	(1,958		)	2,073		(217		)	1,528			647			—		2,073
Ending Balance	$	19,704		$	8,104	$	5,454		$	12,554		$	4,968		$	—	$	50,784



	For the Three Months Ended, September 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	$	16,575		$	8,246		$	6,439		$	16,128		$	4,142		$	5,922	$	57,452
Charge-offs	(3,081		)	(18		)	(757		)	(813		)	(914		)	—		(5,583		)
Recoveries	81			81			71			13			128			—		374
Provision (credit)	1,358			(1,879		)	84			1,501			838			812		2,714
Ending Balance	$	14,933		$	6,430		$	5,837		$	16,829		$	4,194		$	6,734	$	54,957

The change in the unallocated portion of the allowance for credit losses comparing September 30, 2014 with September 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 probable to cause estimated credit losses to differ from historical loss experience.