UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
þ | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||
For the fiscal year ended December 31, 2017 | |||
¨ | 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: 001-31343
ASSOCIATED BANC-CORP
(Exact name of registrant as specified in its charter)
Wisconsin | 39-1098068 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |
433 Main Street Green Bay, Wisconsin | 54301 | |
(Address of principal executive offices) | (Zip Code) | |
Registrant’s telephone number, including area code: (920) 491-7500
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
Title of each class | Name of each exchange on which registered | |
Common stock, par value $0.01 per share Depositary Shares, each representing a 1/40th interest in a share of 6.125% Non-Cumulative Perpetual Preferred Stock, Series C Depositary Shares, each representing a 1/40th interest in a share of 5.375% Non-Cumulative Perpetual Preferred Stock, Series D Warrants to purchase shares of Common Stock of Associated Banc-Corp | The New York Stock Exchange The New York Stock Exchange The New York Stock Exchange NYSE MKT | |
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes þ No ¨
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes ¨ No þ
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes þ No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes þ No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer þ | Accelerated filer ¨ |
Non-accelerated filer ¨ (Do not check if a smaller reporting company) | Smaller reporting company ¨ |
Emerging growth company ¨ | |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
Yes ¨ No þ
As of June 30, 2017, (the last business day of the registrant’s most recently completed second fiscal quarter) the aggregate market value of the voting stock held by nonaffiliates of the registrant was approximately $3,831,497,000. This excludes approximately $45,482,000 of market value representing the outstanding shares of the registrant owned by all directors and officers who individually, in certain cases, or collectively, may be deemed affiliates. This includes approximately $69,091,000 of market value representing 1.78% of the outstanding shares of the registrant held in a fiduciary capacity by the trust company subsidiary of the registrant.
As of January 31, 2018, 151,688,740 shares of common stock were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Document: Proxy Statement for Annual Meeting of Shareholders on April 24, 2018 | Part of Form 10-K Into Which Portions of Documents are Incorporated: Part III | |
ASSOCIATED BANC-CORP
2017 FORM 10-K TABLE OF CONTENTS
Page | ||
Special Note Regarding Forward-Looking Statements
This document, including the documents that are incorporated by reference, contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”) and Section 21E of the Exchange Act (the “Exchange Act”). You can identify forward-looking statements by words such as "may," "should," "expect," "plan," "anticipate," "intend," "believe," "estimate," "predict," "potential," "continue," "could," "future," "outlook," or the negative of those terms or other words of similar meaning. You should read statements that contain these words carefully because they discuss our future expectations or state other "forward-looking" information. Such forward-looking statements may relate to our financial condition, results of operations, plans, objectives, future performance, or business and are based upon the beliefs and assumptions of our management and the information available to our management at the time these disclosures are prepared. These forward-looking statements involve risks and uncertainties that we may not be able to accurately predict or control and our actual results may differ materially from those we described in our forward-looking statements. Shareholders should be aware that the occurrence of the events discussed under the heading Risk Factors in this document, and in the information incorporated by reference herein, could have an adverse effect on our business, results of operations, and financial condition. These factors, many of which are beyond our control, include the following.
• | Credit risks, including changes in economic conditions and risk relating to our allowance for credit losses. |
• | Liquidity and interest rate risks, including the impact of capital market conditions and changes in monetary policy on our borrowings and net interest income. |
• | Operational risks, including processing, information systems, cybersecurity, vendor problems, business interruption, and fraud risks. |
• | Strategic and external risks, including economic, political, and competitive forces impacting our business. |
• | Legal, compliance, and reputational risks, including regulatory and litigation risks. |
• | The risk that our analyses of these risks and forces could be incorrect and / or that the strategies developed to address them could be unsuccessful. |
For a discussion of these and other risks that may cause actual results to differ from expectations, please refer to the Risk Factors section of this document. The forward-looking statements contained or incorporated by reference in this document relate only to circumstances as of the date on which the statements are made. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.
PART I
ITEM 1. | BUSINESS |
General
Associated Banc-Corp (individually referred to herein as the "Parent Company" and together with all of its subsidiaries and affiliates, collectively referred to herein as the "Corporation," "Associated," "we," "us," and "our") is a bank holding company registered pursuant to the Bank Holding Company Act of 1956, as amended (the "BHC Act"). Our bank subsidiary, Associated Bank, National Association ("Associated Bank" or the "Bank") traces its history back to the founding of the Bank of Neenah in 1861. We were incorporated in Wisconsin in 1964 and were inactive until 1969 when permission was received from the Board of Governors of the Federal Reserve System (the "Federal Reserve" or "FRB" ) to acquire three banks. At December 31, 2017, we owned one nationally chartered commercial bank headquartered in Green Bay, Wisconsin, which serves local communities across the upper Midwest, one nationally chartered trust company headquartered in Wisconsin, and 11 limited purpose banking and nonbanking subsidiaries either located in or conducting business primarily in our three-state footprint (Wisconsin, Illinois, and Minnesota) that are closely related or incidental to the business of banking or financial in nature. Measured by total assets reported at December 31, 2017, we are the largest commercial bank holding company headquartered in Wisconsin and one of the top 50, publicly traded, bank holding companies headquartered in the U.S.
On February 1, 2018, the Corporation acquired Bank Mutual Corporation ("Bank Mutual") pursuant to an Agreement and Plan of Merger, dated as of July 20, 2017 (the "Merger Agreement"), under which Bank Mutual merged with and into the Corporation. Under the terms of the Merger Agreement, Bank Mutual’s shareholders received 0.422 shares of Corporation common stock for each share of Bank Mutual’s common stock. The Corporation expects to issue approximately 19.6 million shares for a total deal value of approximately $485 million based on the closing sale price of a share of Associated common stock on January 31, 2018. We expect to merge Bank Mutual's banking subsidiary into Associated Bank in late June or July 2018.
1
Services
Through Associated Bank and various nonbanking subsidiaries, we provide a broad array of banking and nonbanking products and services to individuals and businesses through 213 banking branches at December 31, 2017 serving more than 100 communities, primarily within our three state branch footprint. Our business is primarily relationship-driven and is organized into three reportable segments: Corporate and Commercial Specialty; Community, Consumer, and Business; and Risk Management and Shared Services. See Note 21 Segment Reporting of the notes to consolidated financial statements in Part II, Item 8, Financial Statements and Supplementary Data, for additional information concerning our reportable segments.
We are not dependent upon a single or a few customers, the loss of which would have a material adverse effect on us.
Employees
At December 31, 2017, we had 4,388 full-time equivalent employees. None of our employees are represented by unions.
Competition
The financial services industry is highly competitive. We compete for loans, deposits, and financial services in all of our principal markets. We compete directly with other bank and nonbank institutions located within our markets, internet-based banks, out-of-market banks and bank holding companies that advertise or otherwise serve our markets, money market funds and other mutual funds, brokerage houses, and various other financial institutions. Additionally, we compete with insurance companies, leasing companies, regulated small loan companies, credit unions, governmental agencies and commercial entities offering financial services products, including nonbank lenders and so-called financial technology companies. Competition involves efforts to retain current customers and to obtain new loans and deposits, the scope and type of services offered, interest rates paid on deposits and charged on loans, as well as other aspects of banking. We also face direct competition from subsidiaries of bank holding companies that have far greater assets and resources than ours.
Supervision and Regulation
Overview
The Corporation and its banking and nonbanking subsidiaries are subject to extensive regulation and oversight both at the federal and state levels. The following is an overview of the statutory and regulatory framework that affects the business of the Corporation and our subsidiaries.
Bank Holding Company Act Requirements
As a registered bank holding company under the BHC Act, we are regulated, supervised, and examined by the Federal Reserve. In connection with applicable requirements, bank holding companies file periodic reports and other information with the Federal Reserve. The BHC Act also governs the activities that are permissible for bank holding companies and their affiliates and permits the Federal Reserve, in certain circumstances, to issue cease and desist orders and other enforcement actions against bank holding companies and their nonbanking affiliates to correct and curtail unsafe or unsound banking practices. Under the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act") and longstanding Federal Reserve policy, bank holding companies are required to act as a source of financial strength to each of their banking subsidiaries pursuant to which such holding company may be required to commit financial resources to support such subsidiaries in circumstances when, absent such requirements, they might not otherwise do so. The BHC Act further regulates holding company activities, including requirements and limitations relating to capital, transactions with officers, directors and affiliates, securities issuances, dividend payments, inter-affiliate liabilities, extensions of credit, and expansion through mergers and acquisitions.
The BHC Act allows certain qualifying bank holding companies that elect treatment as "financial holding companies" to engage in activities that are financial in nature and that explicitly include the underwriting and sale of insurance. The Parent Company thus far has not elected to be treated as a financial holding company. Bank holding companies that have not elected such treatment generally must limit their activities to banking activities and activities that are closely related to banking.
Regulation of Associated Bank and Trust Company
Associated Bank and our nationally chartered trust company subsidiary are regulated, supervised and examined by the Office of the Comptroller of the Currency (the "OCC"). The OCC has primary supervisory and regulatory authority over the operations of the Corporation’s national bank and trust company subsidiaries. As part of this authority, the national bank and trust company subsidiaries are required to file periodic reports with the OCC and are subject to regulation, supervision and examination by the OCC. Associated Bank, our only subsidiary that accepts insured deposits, is also subject to examination by the Federal Deposit Insurance Corporation ("FDIC"). We are subject to the enforcement and rule-making authority of the Consumer Financial Protection
2
Bureau ("CFPB") regarding consumer financial products. The CFPB has the authority to create and enforce consumer protection rules and regulations and has the power to examine us for compliance with such rules and regulations. The CFPB also has the authority to prohibit "unfair, deceptive or abusive" acts and practices. The CFPB has examination and enforcement authority over all banks with more than $10 billion in assets, such as Associated Bank. The Dodd-Frank Act weakens the federal preemption available for national banks and gives broader rights to state attorneys general to enforce certain federal consumer protection laws.
In 2017, both the House of Representatives and the Senate introduced legislation that would repeal or modify provisions of the Dodd-Frank Act and significantly impact financial services regulation. Although the bills vary in content, certain key aspects include revisions to rules related to mortgage loans, delayed implementation of rules related to the Home Mortgage Disclosure Act, reform and simplification of certain Volcker Rule requirements, and raising the threshold for applying enhanced prudential standards to bank holding companies with total consolidated assets equal to or greater than $50 billion to those with total consolidated assets equal to or greater than $250 billion.
Banking Acquisitions
We are required to obtain prior Federal Reserve approval before acquiring more than 5% of the voting shares, or substantially all of the assets, of a bank holding company, bank or savings association. In addition, the prior approval of the OCC is required for a national bank to merge with another bank or purchase the assets or assume the deposits of another bank. In determining whether to approve a proposed bank acquisition, federal bank regulators will consider, among other factors, the effect of the acquisition on competition, the public benefits expected to be received from the acquisition, the projected capital ratios and levels on a post-acquisition basis, and the acquiring institution’s record of addressing the credit needs of the communities it serves, including the needs of low and moderate income neighborhoods, consistent with the safe and sound operation of the bank, under the Community Reinvestment Act. See the Risk Factors section for a more extensive discussion of this topic.
Banking Subsidiary Dividends
The Parent Company is a legal entity separate and distinct from its banking and other subsidiaries. A substantial portion of our revenue comes from dividends paid to us by Associated Bank. The OCC’s prior approval of the payment of dividends by Associated Bank to the Parent Company is required only if the total of all dividends declared by the Bank in any calendar year exceeds the sum of the Bank’s retained net income for that year and its retained net income for the preceding two calendar years, less any required transfers to surplus. Federal law also prohibits national banks from paying dividends that would be greater than the bank’s undivided profits after deducting statutory bad debt in excess of the bank’s allowance for loan losses. In addition, under the Federal Deposit Insurance Corporation Improvement Act ("FDICIA"), an insured depository institution such as the Bank is prohibited from making capital distributions, including the payment of dividends, if, after making such distribution, the institution would become "undercapitalized" (as such term is used in the FDICIA).
Holding Company Dividends
In addition, we and our banking subsidiary are subject to various general regulatory policies and requirements relating to the payment of dividends, including requirements to maintain adequate capital above regulatory minimums. The appropriate federal regulatory authority is authorized to determine under certain circumstances relating to the financial condition of a bank or bank holding company that the payment of dividends would be an unsafe or unsound practice and to prohibit payment thereof. Under the Dodd-Frank Act and the requirements of the FRB, the Parent Company, as a bank holding company, is required to serve as a source of financial strength to the Bank and to commit resources to support the Bank. In addition, consistent with its "source of strength" policy, the FRB has stated that, as a matter of prudent banking, a bank holding company should not maintain a level of cash dividends to its shareholders that places undue pressure on the capital of its bank subsidiaries, or that can be funded only through additional borrowings or other arrangements that may undermine the bank holding company’s ability to serve as a source of strength. The appropriate federal regulatory authorities have indicated that paying dividends that deplete a bank’s capital base to an inadequate level would be an unsafe and unsound banking practice and that banking organizations should generally pay dividends only out of current operating earnings.
Capital and Stress Testing Requirements
Capital Requirements
We are subject to various regulatory capital requirements both at the Parent Company and at the Bank level administered by the Federal Reserve and the OCC, respectively. Failure to meet minimum capital requirements could result in certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have an adverse material effect on our financial condition and results of operations. Under capital adequacy guidelines and the regulatory framework for prompt corrective action (described below), we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting policies. Our capital amounts and classification are also subject
3
to judgments by the regulators regarding qualitative components, risk weightings, and other factors. We have consistently maintained regulatory capital ratios at or above the well capitalized standards.
In July 2013, the Federal Reserve and the OCC issued final rules establishing a new comprehensive capital framework for U.S. banking organizations. These rules implemented certain provisions of the Dodd-Frank Act and a separate international framework established by the Basel Committee on Banking Supervision for the regulation of capital and liquidity, generally referred to as "Basel III." The final rules seek to strengthen the components of regulatory capital, increase risk-based capital requirements, and make selected changes to the calculation of risk-weighted assets. The final rules, among other things:
• | revise minimum capital requirements and adjust prompt corrective action thresholds; |
• | revise the components of regulatory capital and create a new capital measure called "Common Equity Tier 1," which must constitute at least 4.5% of risk-weighted assets; |
• | specify that Tier 1 capital consists only of Common Equity Tier 1 and certain "Additional Tier 1 Capital" instruments meeting specified requirements; |
• | apply most deductions / adjustments to regulatory capital measures to Common Equity Tier 1 and not to other components of capital, potentially requiring higher levels of Common Equity Tier 1 in order to meet minimum ratio requirements; |
• | increase the minimum Tier 1 capital ratio requirement from 4% to 6%; |
• | retain the existing risk-based capital treatment for 1-4 family residential mortgage exposures; |
• | permit most banking organizations, including the Parent Company, to retain, through a one-time permanent election, the existing capital treatment for accumulated other comprehensive income; |
• | implement a new capital conservation buffer of Common Equity Tier 1 capital equal to 2.5% of risk-weighted assets, which will be in addition to the 4.5% Common Equity Tier 1 capital ratio and be phased in over a three year period beginning January 1, 2016. This buffer is generally required to make capital distributions and pay executive bonuses; |
• | increase capital requirements for past due loans, high volatility commercial real estate exposures, and certain short-term loan commitments; |
• | require the deduction of mortgage servicing assets and deferred tax assets that exceed 10% of Common Equity Tier 1 capital in each category and 15% of Common Equity Tier 1 capital in the aggregate; and |
• | remove references to credit ratings consistent with the Dodd-Frank Act and establish due diligence requirements for securitization exposures. |
Under the final rules, compliance was required beginning January 1, 2015 for most banking organizations, including the Parent Company and Associated Bank, subject to a transition period for several aspects of the final rules, including the new minimum capital ratio requirements, the capital conservation buffer, and the regulatory capital adjustments and deductions. Requirements to maintain higher levels of capital could adversely impact our return on equity. In November 2017, the federal banking agencies adopted a final rule to extend the regulatory capital treatment applicable during 2017 under the capital rules for certain items, including regulatory capital deductions, risk weights, and certain minority interest limitations. The relief provided under the final rule applies to banking organizations that are not subject to the capital rules’ advanced approaches, such as the Corporation. Specifically, the final rule extends the current regulatory capital treatment of mortgage servicing assets, deferred tax assets arising from temporary differences that could not be realized through net operating loss carrybacks, significant investments in the capital of unconsolidated financial institutions in the form of common stock, non-significant investments in the capital of unconsolidated financial institutions, significant investments in the capital of unconsolidated financial institutions that are not in the form of common stock, and common equity tier 1 minority interest, tier 1 minority interest, and total capital minority interest exceeding the capital rules’ minority interest limitations. We believe we will continue to exceed all capital requirements necessary to be deemed "well-capitalized" for all regulatory purposes under these new rules on a fully phased-in basis. For further detail on capital and capital ratios see discussion under Part II, Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, and Liquidity and Capital sections, and under Part II, Item 8, Financial Statements and Supplementary Data, Note 19 Regulatory Matters of the notes to consolidated financial statements.
In October 2017, the federal banking agencies issued a notice of proposed rulemaking on simplifications to the final rules, a majority of which would apply solely to banking organizations that are not subject to the advanced approaches capital rule. Under the proposed rulemaking, non-advanced approaches banking organizations, such as the Corporation, would apply a simpler regulatory capital treatment for mortgage servicing assets ("MSAs"); certain deferred tax assets ("DTAs") arising from temporary
4
differences; investments in the capital of unconsolidated financial institutions; and capital issued by a consolidated subsidiary of a banking organization and held by third parties.
Specifically, the proposed rulemaking would eliminate: (i) the capital rule’s 10 percent common equity tier 1 capital deduction threshold that applies individually to MSAs, temporary difference DTAs, and significant investments in the capital of unconsolidated financial institutions in the form of common stock; (ii) the aggregate 15 percent common equity tier 1 capital deduction threshold that subsequently applies on a collective basis across such items; (iii) the 10 percent common equity tier 1 capital deduction threshold for non-significant investments in the capital of unconsolidated financial institutions; and (iv) the deduction treatment for significant investments in the capital of unconsolidated financial institutions not in the form of common stock. The capital rule would no longer have distinct treatments for significant and non-significant investments in the capital of unconsolidated financial institutions, but instead would require that non-advanced approaches banking organizations deduct from common equity tier 1 capital any amount of MSAs, temporary difference DTAs, and investments in the capital of unconsolidated financial institutions that individually exceeds 25 percent of common equity tier 1 capital. The proposed rulemaking also includes revisions to the treatment of certain acquisition, development, or construction exposures that are designed to address comments regarding the current definition of high volatility commercial real estate exposure under the capital rule’s standardized approach. If these are adopted as proposed, we anticipate a positive impact on our capital ratios.
In December 2017, the Basel Committee on Banking Supervision published the last version of the Basel III accord, generally referred to as "Basel IV." The Basel Committee stated that a key objective of the revisions incorporated into the framework is to reduce excessive variability of risk-weighted assets ("RWA"), which will be accomplished by enhancing the robustness and risk sensitivity of the standardized approaches for credit risk and operational risk, which will facilitate the comparability of banks’ capital ratios; constraining the use of internally modeled approaches; and complementing the risk-weighted capital ratio with a finalized leverage ratio and a revised and robust capital floor. Leadership of the Federal Reserve, OCC, and FDIC, who are tasked with implementing Basel IV, supported the revisions. Although it is uncertain at this time, we anticipate some, if not all, of the Basel IV accord may be incorporated into the capital requirements framework applicable to the Corporation.
Capital Planning and Stress Testing Requirements
We are subject to the rules implementing the company-run stress test requirements mandated by the Dodd-Frank Act for U.S. bank holding companies with total consolidated assets of $10 billion to $50 billion. Under the rules, we are required to conduct annual company-run stress tests using different scenarios (baseline, adverse and severely adverse) provided annually by the Federal Reserve and the OCC, the primary federal regulator for the Bank. The stress test is designed to assess the potential impact of different scenarios on earnings, losses and capital over a set time period, with consideration given to certain factors, including the organization’s condition, risks, exposures, strategies and activities. The banking agencies have issued guidance on stress testing for banking organizations with more than $10 billion in total consolidated assets. This guidance outlines four "high-level" principles for stress testing practices that regulators expect banking organizations to include in their stress testing framework. In particular, the stress testing framework should (i) include activities and exercises that are tailored to and sufficiently capture the banking organization’s exposures, activities and risks, (ii) employ multiple conceptually sound stress testing activities and approaches, (iii) be forward-looking and flexible, and (iv) be clear, actionable, well-supported, and used in the decision-making process.
Banking organizations with total consolidated assets of $10 billion to $50 billion are required to report the results of the stress test by July 31 of each year, using data as of December 31 of the preceding year, and subsequently publish a summary of the results between October 15 and October 31. We timely submitted our stress test report to the OCC and Federal Reserve before its required due date of July 31, 2017, and a summary of the results was publicly disclosed on October 19, 2017, as required by the final rules. We anticipate that our pro forma capital ratios, as reflected in the stress test calculations under the required stress test scenarios, will be an important factor considered by the Federal Reserve in evaluating whether proposed payments of dividends or stock repurchases are consistent with its prudential expectations. Requirements to maintain higher levels of capital or liquidity to address potential adverse stress scenarios could adversely impact our net income and our return on equity.
Enforcement Powers of the Federal Banking Agencies; Prompt Corrective Action
The Federal Reserve, the OCC, and the CFPB have extensive supervisory authority over their regulated institutions, including, among other things, the power to compel higher reserves, the ability to assess civil money penalties, the ability to issue cease-and-desist or removal orders and the ability to initiate injunctive actions. In general, these enforcement actions may be initiated for violations of laws and regulations or for unsafe or unsound banking practices. Other actions or inactions by the Parent Company may provide the basis for enforcement action, including misleading or untimely reports.
Federal banking regulators are authorized and, under certain circumstances, required to take certain actions against banks that fail to meet their capital requirements. The federal banking agencies have additional enforcement authority with respect to undercapitalized depository institutions.
5
"Well capitalized" institutions may generally operate without supervisory restriction. "Adequately capitalized" institutions cannot normally pay dividends or make any capital contributions that would leave them undercapitalized; they cannot pay a management fee to a controlling person if, after paying the fee, they would be undercapitalized; and they cannot accept, renew or roll over any brokered deposit unless the bank has applied for and been granted a waiver by the FDIC.
The federal banking agencies are required to take action to restrict the activities of an "undercapitalized," "significantly undercapitalized," or "critically undercapitalized" insured depository institution. Any such bank must submit a capital restoration plan that is guaranteed by the parent holding company. Until such plan is approved, it may not increase its assets, acquire another institution, establish a branch or engage in any new activities, and generally may not make capital distributions. In certain situations, a federal banking agency may reclassify a well-capitalized institution as adequately capitalized and may require an adequately capitalized or undercapitalized institution to comply with supervisory actions as if the institution were in the next lower category.
Institutions must file a capital restoration plan with the OCC within 45 days of the date it receives a notice from the OCC that it is "undercapitalized," "significantly undercapitalized," or "critically undercapitalized." Compliance with a capital restoration plan must be guaranteed by a parent holding company. In addition, the OCC is permitted to take any one of a number of discretionary supervisory actions, including but not limited to the issuance of a capital directive and the replacement of senior executive officers and directors.
Finally, bank regulatory agencies have the ability to impose higher than normal capital requirements known as individual minimum capital requirements for institutions with a high-risk profile.
At December 31, 2017, the Bank satisfied the capital requirements necessary to be deemed "well capitalized." In the event of a change to this status, the imposition of any of the measures described above could have a material adverse effect on the Corporation and on its profitability and operations. The Corporation’s shareholders do not have preemptive rights and, therefore, if the Corporation is directed by the OCC or the FDIC to issue additional shares of common stock, such issuance may result in dilution in shareholders’ percentage of ownership of the Corporation.
Deposit Insurance Premiums
Associated Bank is a member of the FDIC and pays an insurance premium to the FDIC based upon its assessment rates on a quarterly basis. Deposits are insured up to applicable limits by the FDIC and such insurance is backed by the full faith and credit of the United States Government.
Under the Dodd-Frank Act, a permanent increase in deposit insurance was authorized to $250,000 per depositor, per insured depository institution for each account ownership category.
The Dodd-Frank Act also set a new minimum Deposit Insurance Fund ("DIF") reserve ratio at 1.35% of estimated insured deposits. The FDIC is required to attain this ratio by September 30, 2020. The Dodd-Frank Act also required the FDIC to define the deposit insurance assessment base for an insured depository institution as an amount equal to the institution’s average consolidated total assets during the assessment period minus average tangible equity. The assessment rate schedule for larger institutions like Associated Bank (i.e., institutions with at least $10 billion in assets) differentiates between such large institutions by use of a "scorecard" that combines an institution’s CAMELS ratings with certain forward-looking financial information to measure the risk to the DIF. Pursuant to this "scorecard" method, two scores (a performance score and a loss severity score) will be combined and converted to an initial base assessment rate. The performance score measures an institution’s financial performance and ability to withstand stress. The loss severity score measures the relative magnitude of potential losses to the DIF in the event of the institution’s failure. Total scores are converted pursuant to a predetermined formula into an initial base assessment rate. Assessment rates range from 2.5 basis points to 45 basis points ("bp") for large institutions. Premiums for Associated Bank are now calculated based upon the average balance of total assets minus average tangible equity as of the close of business for each day during the calendar quarter.
The FDIC has the flexibility to adopt actual rates that are higher or lower than the total base assessment rates adopted without notice and comment, if certain conditions are met.
DIF-insured institutions pay a Financing Corporation ("FICO") assessment in order to fund the interest on bonds issued in the 1980s in connection with the failures in the thrift industry. The FICO assessment was computed on assets as required by the Dodd-Frank Act. These assessments will continue until the bonds mature in 2019. The Corporation’s combined assessment rate for FDIC and FICO assessments was approximately 9 bp for 2017.
The FDIC is authorized to conduct examinations of and require reporting by FDIC-insured institutions. It is also authorized to terminate a depository bank’s deposit insurance upon a finding by the FDIC that the bank’s financial condition is unsafe or unsound or that the institution has engaged in unsafe or unsound practices or has violated any applicable rule, regulation, order or condition
6
enacted or imposed by the bank’s regulatory agency. The termination of deposit insurance for our national bank subsidiary would have a material adverse effect on our earnings, operations and financial condition.
Historically, deposit insurance premiums we have paid to the FDIC have been deductible for federal income tax purposes; however, the Tax Cuts and Jobs Act of 2017 ("the Tax Act") disallows the deduction of such premium payments for banking organizations with total consolidated assets of $50 billion or more. For banks with less than $50 billion in total consolidated assets, such as ours, the premium deduction is phased out based on the proportion of a bank’s assets exceeding $10 billion. Based on our projections for 2018, we anticipate the after-tax cost of our deposit insurance premium payments to increase by $10-$12 million.
Standards for Safety and Soundness
The federal banking agencies have adopted the Interagency Guidelines for Establishing Standards for Safety and Soundness (the "Guidelines"). The Guidelines establish certain safety and soundness standards for all depository institutions. The operational and managerial standards in the Guidelines relate to the following: (1) internal controls and information systems; (2) internal audit systems; (3) loan documentation; (4) credit underwriting; (5) interest rate exposure; (6) asset growth; (7) compensation, fees and benefits; (8) asset quality; and (9) earnings. Rather than providing specific rules, the Guidelines set forth basic compliance considerations and guidance with respect to a depository institution. Failure to meet the standards in the Guidelines, however, could result in a request by the OCC to one of the nationally chartered banks to provide a written compliance plan to demonstrate its efforts to come into compliance with such Guidelines. Failure to provide a plan or to implement a provided plan requires the appropriate federal banking agency to issue an order to the institution requiring compliance.
Transactions with Affiliates and Insiders
Transactions between our national banking subsidiary and its related parties or any affiliate are governed by Sections 23A and 23B of the Federal Reserve Act. An affiliate is any company or entity, which controls, is controlled by or is under common control with the bank. In a holding company context, at a minimum, the parent holding company of a national bank and any companies that are controlled by such parent holding company are affiliates of the bank. Generally, Sections 23A and 23B (i) limit the extent to which an institution or its subsidiaries may engage in "covered transactions" with any one affiliate to an amount equal to 10% of such institution’s capital stock and surplus, and contain an aggregate limit on all such transactions with all affiliates to an amount equal to 20% of such capital stock and surplus, and (ii) require that all such transactions be on terms substantially the same, or at least as favorable, to the institution or subsidiary as those provided to a nonaffiliate. The term "covered transaction" includes the making of loans, purchase of assets, issuance of a guarantee and similar types of transactions. Certain types of covered transactions must be collateralized according to a schedule set forth in the statute based on the type of collateral.
Certain transactions with our directors, officers or controlling persons are also subject to conflicts of interest regulations. Among other things, these regulations require that loans to such persons and their related interests be made on terms substantially the same as for loans to unaffiliated individuals and must not create an abnormal risk of repayment or other unfavorable features for the financial institution. See Note 4 Loans of the notes to consolidated financial statements in Part II, Item 8, Financial Statements and Supplementary Data, for additional information on loans to related parties.
Community Reinvestment Act Requirements
Our national bank subsidiary, Associated Bank, is subject to periodic Community Reinvestment Act ("CRA") reviews by the OCC. The CRA does not establish specific lending requirements or programs for financial institutions and does not limit the ability of such institutions to develop products and services believed best-suited for a particular community. An institution’s CRA assessment may be used by its regulators in their evaluation of certain applications, including a merger, acquisition or the establishment of a branch office. An unsatisfactory rating may be used as the basis for denial of such an application. The Bank received a "Satisfactory" CRA rating in its most recent evaluation.
Cybersecurity
Federal banking agencies, including the OCC, have adopted guidelines for establishing information security standards and cybersecurity programs for implementing safeguards under the supervision of the board of directors. These guidelines, along with related regulatory materials, increasingly focus on risk management and processes related to information technology and the use of third parties in the provision of financial services. In October 2016, the federal banking agencies issued an advance notice of proposed rulemaking on enhanced cybersecurity risk-management and resilience standards that would apply to large and interconnected banking organizations and to services provided by third parties to these firms. These enhanced standards would apply only to depository institutions and depository institution holding companies with total consolidated assets of $50 billion or more, which would not currently include the Corporation.
7
Privacy
Under privacy protection provisions of the Gramm-Leach-Bliley Act of 1999, we are limited in our ability to disclose non-public information about consumers to nonaffiliated third parties. Financial institutions, such as our national bank subsidiary, are required by statute and regulation to disclose their privacy policies to consumers and, in some circumstances, allow consumers to prevent disclosure of certain personal information to a nonaffiliated third party. In addition, such financial institutions must appropriately safeguard its customers’ nonpublic, personal information.
Bank Secrecy Act / Anti-Money Laundering
The Bank Secrecy Act ("BSA"), which is intended to require financial institutions to develop policies, procedures, and practices to prevent and deter money laundering, mandates that every national bank have a written, board-approved program that is reasonably designed to assure and monitor compliance with the BSA. The program must, at a minimum: (1) provide for a system of internal controls to assure ongoing compliance; (2) provide for independent testing for compliance; (3) designate an individual responsible for coordinating and monitoring day-to-day compliance; and (4) provide training for appropriate personnel. In addition, national banks are required to adopt a customer identification program as part of its BSA compliance program. National banks are also required to file Suspicious Activity Reports when they detect certain known or suspected violations of federal law or suspicious transactions related to a money laundering activity or a violation of the BSA. In May 2016, the regulations implementing the BSA were amended to explicitly include risk-based procedures for conducting ongoing customer due diligence, to include understanding the nature and purpose of customer relationships for the purpose of developing a customer risk profile. In addition, banks must identify and verify the identity of the beneficial owners of all legal entity customers (other than those that are excluded) at the time a new account is opened (other than accounts that are exempted). The Bank must comply with these amendments and new requirements by May 11, 2018.
In addition to complying with the BSA, the Bank is subject to the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (the "Patriot Act"). The Patriot Act is designed to deny terrorists and criminals the ability to obtain access to the United States’ financial system and has significant implications for depository institutions, brokers, dealers, and other businesses involved in the transfer of money. The Patriot Act mandates that financial service companies implement additional policies and procedures and take heightened measures designed to address any or all of the following matters: customer identification programs, money laundering, terrorist financing, identifying and reporting suspicious activities and currency transactions, currency crimes, and cooperation between financial institutions and law enforcement authorities.
Interstate Branching
Pursuant to the Dodd-Frank Act, national and state-chartered banks may open an initial branch in a state other than its home state (e.g., a host state) by establishing a de novo branch at any location in such host state at which a bank chartered in such host state could establish a branch. Applications to establish such branches must still be filed with the appropriate primary federal regulator.
Volcker Rule
The Dodd-Frank Act prohibits insured depository institutions and their holding companies from engaging in proprietary trading except in limited circumstances, and prohibits them from owning equity interests in excess of three percent (3%) of Tier 1 Capital in private equity and hedge funds (known as the "Volcker Rule"). On December 10, 2013, five U.S. financial regulators, including the Federal Reserve and the OCC, adopted final rules (the "Final Rules") implementing the Volcker Rule. The Final Rules prohibit banking entities from (1) engaging in short-term proprietary trading for their own accounts, and (2) having certain ownership interests in and relationships with hedge funds or private equity funds, which are referred to as "covered funds." The Final Rules are intended to provide greater clarity with respect to both the extent of those primary prohibitions and of the related exemptions and exclusions. The Final Rules also require each regulated entity to establish an internal compliance program that is consistent with the extent to which it engages in activities covered by the Volcker Rule, which must include (for the largest entities) making regular reports about those activities to regulators. Although the Final Rules provide some tiering of compliance and reporting obligations based on size, the fundamental prohibitions of the Volcker Rule apply to banking entities of any size, including the Parent Company and Associated Bank. The Final Rules were effective April 1, 2014, but the conformance period was extended from its statutory end date of July 21, 2014 until July 21, 2015. In addition, the Federal Reserve granted extensions until July 21, 2017 of the conformance period for banking entities to conform investments in and relationships with covered funds that were in place prior to December 31, 2013, and in December 2016 provided guidance allowing for additional extensions to the conformance period for certain illiquid funds. The Corporation has evaluated the implications of the Final Rules on its investments and does not expect any material financial implications.
8
In August 2017, the OCC published a notice and request for comment on whether certain aspects of the Volcker Rule should be revised to better accomplish the purposes of section 619 of the Dodd-Frank Act while decreasing the compliance burden on banking entities and fostering economic growth. The request for comment invited input on ways to tailor the rule’s requirements and clarify key provisions that define prohibited and permissible activities, and how the federal regulatory agencies could implement the existing rule more effectively without revising the regulation. Specifically, the OCC requested comments on the scope of entities subject to the Volcker Rule, the proprietary trading prohibition, the covered funds prohibition, and the compliance program and metrics reporting requirements. We cannot assure you as to whether and to what extent regulations that would simplify compliance with the Volcker Rule would be adopted.
Incentive Compensation Policies and Restrictions
In July 2010, the federal banking agencies issued Guidance on Sound Incentive Compensation Policies that applies to all banking organizations supervised by the agencies (thereby including both the Parent Company and the Bank). Pursuant to the guidance, to be consistent with safety and soundness principles, a banking organization’s incentive compensation arrangements should: (1) provide employees with incentives that appropriately balance risk and reward; (2) be compatible with effective controls and risk management; and (3) be supported by strong corporate governance including active and effective oversight by the banking organization’s board of directors. Monitoring methods and processes used by a banking organization should be commensurate with the size and complexity of the organization and its use of incentive compensation.
Section 956 of the Dodd-Frank Act requires the federal banking agencies and the U.S. Securities and Exchange Commission (the "SEC") to establish joint regulations or guidelines prohibiting incentive-based payment arrangements at specified regulated entities that encourage inappropriate risk-taking by providing an executive officer, employee, director or principal shareholder with excessive compensation, fees, or benefits or that could lead to material financial loss to the entity. The federal banking agencies issued such proposed rules in April 2011 and issued a revised proposed rule in June 2016 implementing the requirements and prohibitions set forth in Section 956. The revised proposed rule would apply to all banks, among other institutions, with at least $1 billion in average total consolidated assets, for which it would go beyond the existing Guidance on Sound Incentive Compensation Policies to (i) prohibit certain types and features of incentive-based compensation arrangements for senior executive officers, (ii) require incentive-based compensation arrangements to adhere to certain basic principles to avoid a presumption of encouraging inappropriate risk, (iii) require appropriate board or committee oversight, (iv) establish minimum recordkeeping and (v) mandate disclosures to the appropriate federal banking agency.
Consumer Financial Services Regulations
Federal and applicable state banking laws also require us to take steps to protect consumers. Bank regulatory agencies are increasingly focusing attention on compliance with consumer protection laws and regulations. These laws include disclosures regarding truth in lending, truth in savings, and funds availability.
To promote fairness and transparency for mortgages, credit cards, and other consumer financial products and services, the Dodd-Frank Act established the CFPB. This agency is responsible for interpreting and enforcing federal consumer financial laws, as defined by the Dodd-Frank Act, that, among other things, govern the provision of deposit accounts along with mortgage origination and servicing. Some federal consumer financial laws enforced by the CFPB include the Equal Credit Opportunity Act, the Truth in Lending Act ("TILA"), the Truth in Savings Act, the Home Mortgage Disclosure Act, the Real Estate Settlement Procedures Act ("RESPA"), the Fair Debt Collection Practices Act, and the Fair Credit Reporting Act. The CFPB is also authorized to prevent any institution under its authority from engaging in an unfair, deceptive, or abusive act or practice in connection with consumer financial products and services.
Under TILA as implemented by Regulation Z, as amended by the CFPB effective January 10, 2014, mortgage lenders are required to make a reasonable and good faith determination based on verified and documented information that a consumer applying for a mortgage loan has a reasonable ability to repay the loan according to its terms. Mortgage lenders are required to determine consumers’ ability to repay in one of two ways. The first alternative requires the mortgage lender to consider the following eight underwriting factors when making the credit decision: (1) current or reasonably expected income or assets; (2) current employment status; (3) the monthly payment on the covered transaction; (4) the monthly payment on any simultaneous loan; (5) the monthly payment for mortgage-related obligations; (6) current debt obligations, alimony, and child support; (7) the monthly debt-to-income ratio or residual income; and (8) credit history. Alternatively, the mortgage lender can originate "qualified mortgages," which are entitled to a presumption that the creditor making the loan satisfied the ability-to-repay requirements. In general, a "qualified mortgage" is a mortgage loan without negative amortization, interest-only payments, balloon payments, or terms exceeding 30 years. In addition, to be a qualified mortgage the points and fees paid by a consumer cannot exceed 3% of the total loan amount. Qualified mortgages that are "higher-priced" (e.g., subprime loans) garner a rebuttable presumption of compliance with the ability-to-repay rules, while qualified mortgages that are not "higher-priced" (e.g. prime loans) are given a safe harbor of compliance. The Corporation is predominantly an originator of compliant qualified mortgages.
9
Additionally, the CFPB has the authority to take supervisory and enforcement action against banks and other financial services companies under the agency’s jurisdiction that fail to comply with federal consumer financial laws. As an insured depository institution with total assets of more than $10 billion, the Bank is subject to the CFPB’s supervisory and enforcement authorities. The Dodd-Frank Act also permits states to adopt stricter consumer protection laws and state attorneys general to enforce consumer protection rules issued by the CFPB. As a result of these aspects of the Dodd-Frank Act, the Bank operates in a stringent consumer compliance environment. Therefore, the Bank is likely to incur additional costs related to consumer protection compliance, including but not limited to potential costs associated with CFPB examinations, regulatory and enforcement actions and consumer-oriented litigation, which is likely to increase as a result of the consumer protection provisions of the Dodd-Frank Act. The CFPB has been active in bringing enforcement actions against banks and other financial institutions to enforce consumer financial laws, and has developed a number of new enforcement theories and applications of these laws. The CFPB experienced a leadership change in late 2017, which is subject to ongoing litigation and may impact the CFPB's policies and supervision and enforcement efforts. However, the federal financial regulatory agencies, including the OCC and states attorneys general, also have become increasingly active in this area with respect to institutions over which they have jurisdiction. We have incurred and may in the future incur additional costs in complying with these requirements.
Pursuant to the Dodd-Frank Act, the FDIC has backup enforcement authority over a depository institution holding company, such as the Parent Company, if the conduct or threatened conduct of such holding company poses a risk to the DIF, although such authority may not be used if the holding company is generally in sound condition and does not pose a foreseeable and material risk to the DIF. The Dodd-Frank Act may have a material impact on the Corporation’s and the Bank’s operations, particularly through increased compliance costs resulting from possible future consumer and fair lending regulations. See the Risk Factors section for a more extensive discussion of this topic.
Operation Under Conciliation Agreement
On May 22, 2015, the Bank entered into a Conciliation Agreement with the U.S. Department of Housing and Urban Development ("HUD"). The Conciliation Agreement resolved a HUD investigation into the Bank’s compliance with fair housing laws during the period from 2008 to 2011. Under the Conciliation Agreement, the Bank made commitments to various requirements, including those related to: (i) general non-discrimination; (ii) training; (iii) future branch locations and loan production offices; and (iv) community investment. The Bank continues to operate under and meet the commitments described in the Conciliation Agreement, which remains effective until May 22, 2018. Should the Bank breach the terms of the agreement and fail to correct such breaches in a reasonable time, the matter may be referred to the U.S. Attorney General to commence a civil action under the Fair Housing Act.
Other Banking Regulations
The Bank is also subject to a variety of other regulations with respect to the operation of its businesses, including but not limited to the Dodd-Frank Act, which among other restrictions placed limitations on the interchange fees charged for debit card transactions, TILA, Truth in Savings Act, Equal Credit Opportunity Act, Electronic Funds Transfer Act, Fair Housing Act, Home Mortgage Disclosure Act, Fair Debt Collection Practices Act, Fair Credit Reporting Act, Expedited Funds Availability (Regulation CC), Reserve Requirements (Regulation D), Insider Transactions (Regulation O), Privacy of Consumer Information (Regulation P), Margin Stock Loans (Regulation U), Right To Financial Privacy Act, Flood Disaster Protection Act, Homeowners Protection Act, Servicemembers Civil Relief Act, RESPA, Telephone Consumer Protection Act, CAN-SPAM Act, Children’s Online Privacy Protection Act, and the John Warner National Defense Authorization Act.
The laws and regulations to which we are subject are constantly under review by Congress, the federal regulatory agencies, and the state authorities. These laws and regulations could be changed drastically in the future, which could affect our profitability, our ability to compete effectively, or the composition of the financial services industry in which we compete.
Government Monetary Policies and Economic Controls
Our earnings and growth, as well as the earnings and growth of the banking industry, are affected by the credit policies of monetary authorities, including the Federal Reserve. An important function of the Federal Reserve is to regulate the national supply of bank credit in order to combat recession and curb inflationary pressures. Among the instruments of monetary policy used by the Federal Reserve to implement these objectives are open market operations in U.S. government securities, changes in reserve requirements against member bank deposits, and changes in the Federal Reserve discount rate. These instruments are used in varying combinations to influence overall growth of bank loans, investments, and deposits, and may also affect interest rates charged on loans or paid for deposits. The monetary policies of the Federal Reserve authorities have had a significant effect on the operating results of commercial banks in the past and are expected to continue to have such an effect in the future.
10
In view of changing conditions in the national economy and in money markets, as well as the effect of credit policies by monetary and fiscal authorities, including the Federal Reserve, it is difficult to predict the impact of possible future changes in interest rates, deposit levels, and loan demand, or their effect on our business and earnings or on the financial condition of our various customers.
Other Regulatory Authorities
In addition to regulation, supervision and examination by federal banking agencies, the Corporation and certain of its subsidiaries, including those that engage in securities brokerage, dealing and investment advisory activities, are subject to other federal and applicable state securities laws and regulations, and to supervision and examination by other regulatory authorities, including the SEC, the Financial Industry Regulatory Authority ("FINRA"), the New York Stock Exchange ("NYSE"), the Department of Labor ("DOL") and others. In particular, the Bank’s securities brokerage and investment advisory services and activities may be impacted by final rules issued by the DOL in April 2016, which are being phased into effect through July 1, 2019. In addition, the Bank’s insurance agency subsidiary is also subject to regulation and supervision in the various states in which it operates.
On December 22, 2017, the Tax Act was signed into law. The Tax Act includes a number of provisions that impact us, including the following:
• | Tax Rate. The Tax Act replaces the graduated corporate tax rates applicable under prior law, which imposed a maximum tax rate of 35%, with a reduced 21% flat tax rate. Although the reduced tax rate generally should be favorable to us by resulting in increased earnings and capital, it will decrease the value of our existing deferred tax assets. Generally accepted accounting principles ("GAAP") requires that the impact of the provisions of the Tax Act be accounted for in the period of enactment. Accordingly, the incremental income tax expense recorded by the Corporation in the fourth quarter of 2017 related to the Tax Act was $13 million, resulting primarily from a remeasurement of deferred tax assets of $12 million. |
• | FDIC Insurance Premiums. The Tax Act prohibits taxpayers with consolidated assets over $50 billion from deducting any FDIC insurance premiums and prohibits taxpayers with consolidated assets between $10 and $50 billion, such as the Bank, from deducting the portion of their FDIC premiums equal to the ratio, expressed as a percentage, that (i) the taxpayer’s total consolidated assets over $10 billion, as of the close of the taxable year, bears to (ii) $40 billion. As a result, Associated Bank’s ability to deduct its FDIC premiums will now be limited. Based on our projections for 2018, we anticipate the after-tax cost of our deposit insurance premium payments to increase by $10-$12 million. |
• | Employee Compensation. A “publicly held corporation” is not permitted to deduct compensation in excess of $1 million per year paid to certain employees. The Tax Act eliminates certain exceptions to the $1 million limit applicable under prior to law related to performance-based compensation, such as equity grants and cash bonuses that are paid only on the attainment of performance goals. As a result, our ability to deduct certain compensation paid to our most highly compensated employees will now be limited. |
• | Business Asset Expensing. The Tax Act allows taxpayers immediately to expense the entire cost (instead of only 50%, as under prior law) of certain depreciable tangible property and real property improvements acquired and placed in service after September 27, 2017 and before January 1, 2023 (with an additional year for certain property). This 100% “bonus” depreciation is phased out proportionately for property placed in service on or after January 1, 2023 and before January 1, 2027 (with an additional year for certain property). |
• | Interest Expense. The Tax Act limits a taxpayer’s annual deduction of business interest expense to the sum of (i) business interest income and (ii) 30% of “adjusted taxable income,” defined as a business’s taxable income without taking into account business interest income or expense, net operating losses, and, for 2018 through 2021, depreciation, amortization and depletion. Because we generate significant amounts of net interest income, we do not expect to be impacted by this limitation. |
The foregoing description of the impact of the Tax Act on us should be read in conjunction with Note 13 Income Taxes of the notes to Consolidated Financial Statements.
Available Information
We file annual, quarterly, and current reports, proxy statements, and other information with the SEC. These filings are available to the public on the Internet at the SEC’s web site at www.sec.gov. Shareholders may also read and copy any document that we file at the SEC’s public reference rooms located at 100 F Street, NE, Washington, DC 20549. Shareholders may call the SEC at 1-800-SEC-0330 for further information on the public reference room.
Our principal internet address is www.associatedbank.com. We make available free of charge on or through our website our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as soon as reasonably practicable after we
11
electronically file such material with, or furnish it to, the SEC. In addition, shareholders may request a copy of any of our filings (excluding exhibits) at no cost by writing or e-mailing us using the following information: Associated Banc-Corp, Attn: Investor Relations, 433 Main Street, Green Bay, WI 54301.
ITEM 1A. | RISK FACTORS |
An investment in our common stock is subject to risks inherent to our business. The material risks and uncertainties that management believes affect us are described below. Before making an investment decision, you should carefully consider the risks and uncertainties described below, together with all of the other information included or incorporated by reference herein. The risks and uncertainties described below are not the only ones facing us. Additional risks and uncertainties that management is not aware of or focused on or that management currently deems immaterial may also impair our business operations. This report is qualified in its entirety by these risk factors. See also, Special Note Regarding Forward-Looking Statements.
If any of the events described in the risk factors should actually occur, our financial condition and results of operations could be materially and adversely affected. If this were to happen, the value of our securities could decline significantly, and you could lose all or part of your investment.
Credit Risks
Changes in economic and political conditions could adversely affect our earnings, as our borrowers’ ability to repay loans and the value of the collateral securing our loans decline. Our success depends, to a certain extent, upon local, national and global economic and political conditions, as well as governmental monetary policies. Conditions such as an economic recession, rising unemployment, changes in interest rates, money supply and other factors beyond our control may adversely affect our asset quality, deposit levels and loan demand and, therefore, our earnings. Because we have a significant amount of real estate loans, decreases in real estate values could adversely affect the value of property used as collateral. Adverse changes in the economy may also have a negative effect on the ability of our borrowers to make timely repayments of their loans, which could have an adverse impact on our earnings. Consequently, declines in the economy could have a material adverse effect on our financial condition and results of operations.
Our allowance for loan losses may be insufficient. All borrowers have the potential to default, and our remedies in the event of such default (such as seizure and / or sale of collateral, legal actions, and guarantees) may not fully satisfy the debt owed to us. We maintain an allowance for loan losses, which is a reserve established through a provision for loan losses charged to expense, that represents management’s best estimate of probable credit losses that have been incurred within the existing portfolio of loans. The allowance for loan losses, in the judgment of management, is necessary to reserve for estimated loan losses and risks inherent in the loan portfolio. The level of the allowance for loan losses reflects management’s continuing evaluation of industry concentrations; specific credit risks; loan loss experience; current loan portfolio quality; present economic, political, and regulatory conditions; and unidentified losses inherent in the current loan portfolio. The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and requires us to make significant estimates of current credit risks using existing qualitative and quantitative information, all of which may undergo material changes. Changes in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans, and other factors, both within and outside of our control, may require an increase in the allowance for loan losses. In addition, bank regulatory agencies periodically review our allowance for loan losses and may require an increase in the provision for loan losses or the recognition of additional loan charge offs, based on judgments different than those of management. An increase in the allowance for loan losses would result in a decrease in net income, and possibly risk-based capital, and could have a material adverse effect on our financial condition and results of operations.
The FASB has recently issued an accounting standard update that will result in a significant change in how we recognize credit losses and may have a material impact on our financial condition or results of operations.
In June 2016, the Financial Accounting Standards Board ("FASB") issued an accounting standard update, "Financial Instruments-Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments," which replaces the current "incurred loss" model for recognizing credit losses with an "expected loss" model referred to as the Current Expected Credit Loss ("CECL") model. Under the CECL model, we will be required to present certain financial assets carried at amortized cost, such as loans held for investment and held-to-maturity debt securities, at the net amount expected to be collected. The measurement of expected credit losses is to be based on information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. This measurement will take place at the time the financial asset is first added to the balance sheet and periodically thereafter. This differs significantly from the "incurred loss" model required under current generally accepted accounting principles ("GAAP"), which delays recognition until it is probable a loss has been incurred. Accordingly, we expect that the adoption of the CECL model will materially affect how we determine our
12
allowance for loan losses and could require us to significantly increase our allowance. Moreover, the CECL model may create more volatility in the level of our allowance for loan losses. If we are required to materially increase our level of allowance for loan losses for any reason, such increase could adversely affect our business, financial condition and results of operations.
The new CECL standard will become effective for us for fiscal years beginning after December 15, 2019 and for interim periods within those fiscal years. We are currently evaluating the impact the CECL model will have on our accounting, but we expect to recognize a one-time cumulative-effect adjustment to our allowance for loan losses as of the beginning of the first reporting period in which we adopt the new standard, consistent with regulatory expectations set forth in interagency guidance issued at the end of 2016. We cannot yet determine the magnitude of any such one-time cumulative adjustment or of the overall impact of the new standard on our financial condition or results of operations.
We are subject to lending concentration risks. As of December 31, 2017, approximately 58% of our loan portfolio consisted of commercial and industrial, real estate construction, commercial real estate loans, and lease financing (collectively, "commercial loans"). Commercial loans are generally viewed as having more inherent risk of default than residential mortgage loans or other consumer loans. Also, the commercial loan balance per borrower is typically larger than that for residential mortgage loans and other consumer loans, inferring higher potential losses on an individual loan basis. Because our loan portfolio contains a number of commercial loans with balances over $25 million, the deterioration of one or a few of these loans could cause a significant increase in nonaccrual loans, which could have a material adverse effect on our financial condition and results of operations.
Commercial real estate lending may expose us to increased lending risks. Our policy generally has been to originate commercial real estate loans in the eight states in which the Bank operates. At December 31, 2017, commercial real estate loans totaled $4.8 billion, or 23% of our total loan portfolio. As a result of our growth of this portfolio in the past several years, the acquisition of Bank Mutual which adds approximately $1 billion to our exposure, and planned future growth, these loans require more ongoing evaluation and monitoring and we are implementing enhanced risk management policies, procedures and controls. Commercial real estate loans generally involve a greater degree of credit risk than residential mortgage loans because they typically have larger balances and are more affected by adverse conditions in the economy. Because payments on loans secured commercial real estate often depend upon the successful operation and management of the properties and the businesses which operate from within them, repayment of such loans may be affected by factors outside the borrower’s control, such as adverse conditions in the real estate market or the economy or changes in government regulation. In recent years, commercial real estate markets have been experiencing substantial growth, and increased competitive pressures have contributed significantly to historically low capitalization rates and rising property values. Commercial real estate prices, according to many U.S. commercial real estate indices, are currently above the 2007 peak levels that contributed to the financial crisis. Accordingly, the federal bank regulatory agencies have expressed concerns about weaknesses in the current commercial real estate market. Our failure to adequately implement enhanced risk management policies, procedures and controls could adversely affect our ability to increase this portfolio going forward and could result in an increased rate of delinquencies in, and increased losses, from this portfolio. At December 31, 2017, nonaccrual commercial real estate loans totaled $6 million, or less than 1% of our total portfolio of commercial real estate loans.
We may be adversely affected by declines in oil prices. Ongoing volatility in the oil and gas markets have compressed margins for many U.S.-based oil producers and others in the Oil and Gas industry. As of December 31, 2017, our oil and gas loan exposure was $935 million of commitments with $600 million outstanding, representing approximately 3% of our loan portfolio. The Oil and Gas portfolio was comprised of 56 credits made to small and mid-sized companies. These borrowers are likely to be adversely affected by price volatility or downturn in oil and gas prices. The allowance related to this portfolio was 4.5% at December 31, 2017, compared to 5.7% at December 31, 2016. A significant deterioration in our oil and gas loans could cause a significant increase in nonaccrual loans. An increase in nonaccrual loans could result in a loss of interest income from these loans, one or more additional increases in the provision for loan losses, and an increase in loan charge offs, all of which could have a material adverse effect on our financial condition and results of operations. A prolonged period of low oil prices could have a material adverse effect on our business, financial condition and results of operations.
We depend on the accuracy and completeness of information about our customers and counterparties. In deciding whether to extend credit or enter into other transactions, we may rely on information furnished by or on behalf of customers and counterparties, including financial statements, credit reports, and other financial information. We may also rely on representations of those customers, counterparties, or other third parties, such as independent auditors, as to the accuracy and completeness of that information. Reliance on inaccurate or misleading financial statements, credit reports, or other financial information could cause us to enter into unfavorable transactions, which could have a material adverse effect on our financial condition and results of operations.
Lack of system integrity or credit quality related to funds settlement could result in a financial loss. We settle funds on behalf of financial institutions, other businesses and consumers and receive funds from clients, card issuers, payment networks and consumers on a daily basis for a variety of transaction types. Transactions we facilitate include wire transfers, debit card, credit card and electronic bill payment transactions, supporting consumers, financial institutions and other businesses. These payment
13
activities rely upon the technology infrastructure that facilitates the verification of activity with counterparties and the facilitation of the payment. If the continuity of operations or integrity of processing were compromised this could result in a financial loss to us due to a failure in payment facilitation. In addition, we may issue credit to consumers, financial institutions or other businesses as part of the funds settlement. A default on this credit by a counterparty could result in a financial loss to us.
We are subject to environmental liability risk associated with lending activities. A significant portion of our loan portfolio is secured by real property. During the ordinary course of business, we may foreclose on and take title to properties securing certain loans. In doing so, there is a risk that hazardous or toxic substances could be found on these properties. If hazardous or toxic substances are found, we may be liable for remediation costs, as well as for personal injury and property damage. Environmental laws may require us to incur substantial expenses which may materially reduce the affected property’s value or limit our ability to use or sell the affected property. In addition, future laws or more stringent interpretations or enforcement policies with respect to existing laws may increase our exposure to environmental liability. Although we have policies and procedures to perform an environmental review before lending against or initiating any foreclosure action on real property, these reviews may not be sufficient to detect all potential environmental hazards. The remediation costs and any other financial liabilities associated with an environmental hazard could have a material adverse effect on our financial condition and results of operations.
Liquidity and Interest Rate Risks
Liquidity is essential to our businesses. The Corporation requires liquidity to meet its deposit and debt obligations as they come due. Access to liquidity could be impaired by an inability to access the capital markets or unforeseen outflows of deposits. Risk factors that could impair our ability to access capital markets include a downturn in our Midwest markets, difficult credit markets, credit rating downgrades, or regulatory actions against the Corporation. The Corporation’s access to deposits can be impacted by the liquidity needs of our customers as a substantial portion of the Corporation’s liabilities are demand while a substantial portion of the Corporation’s assets are loans that cannot be sold in the same timeframe. Historically, the Corporation has been able to meet its cash flow needs as necessary. If a sufficiently large number of depositors sought to withdraw their deposits for whatever reason, the Corporation may be unable to obtain the necessary funding at favorable terms.
We are subject to interest rate risk. Our earnings and cash flows are largely dependent upon our net interest income. Interest rates are highly sensitive to many factors that are beyond our control, including general economic conditions and policies of various governmental and regulatory agencies and, in particular, the Federal Reserve. Changes in monetary policy, including changes in interest rates, could influence not only the interest we receive on loans and investments and the amount of interest we pay on deposits and borrowings, but such changes could also affect (i) our ability to originate loans and obtain deposits; (ii) the fair value of our financial assets and liabilities; and (iii) the average duration of our mortgage portfolio and other interest-earning assets. If the interest rates paid on deposits and other borrowings increase at a faster rate than the interest rates received on loans and other investments, our net interest income, and therefore earnings, could be adversely affected. Earnings could also be adversely affected if the interest rates received on loans and other investments fall more quickly than the interest rates paid on deposits and other borrowings. Our most significant interest rate risk may be further declines in the absolute level of interest rates or the prolonged continuation of the current low rate environment, as this would generally lead to further compression of our net interest margin, reduced net interest income, and devaluation of our deposit base.
Although management believes it has implemented effective asset and liability management strategies, including the potential use of derivatives as hedging instruments, to reduce the potential effects of changes in interest rates on our results of operations, any substantial, unexpected, prolonged change in market interest rates could have a material adverse effect on our financial condition and results of operations. Also, our interest rate risk modeling techniques and assumptions likely may not fully predict or capture the impact of actual interest rate changes on our balance sheet.
The impact of interest rates on our mortgage banking business can have a significant impact on revenues. Changes in interest rates can impact our mortgage-related revenues and net revenues associated with our mortgage activities. A decline in mortgage rates generally increases the demand for mortgage loans as borrowers refinance, but also generally leads to accelerated payoffs. Conversely, in a constant or increasing rate environment, we would expect fewer loans to be refinanced and a decline in payoffs. Although we use models to assess the impact of interest rates on mortgage-related revenues, the estimates of revenues produced by these models are dependent on estimates and assumptions of future loan demand, prepayment speeds and other factors which may differ from actual subsequent experience.
Changes in interest rates could reduce the value of our investment securities holdings. The Corporation maintains an investment portfolio consisting of various high quality liquid fixed-income securities. The total book value of the securities portfolio as of December 31, 2017 was $6.3 billion and the estimated duration of the aggregate portfolio was approximately 4.1 years. The nature of fixed-income securities is such that changes in market interest rates impact the value of these assets. Based on the duration of the Corporation’s investment securities portfolio, a one percent decrease in market rates is projected to increase the market value of the investment securities portfolio by approximately $241 million, while a one percent increase in market rates is projected to
14
decrease the market value of the investment securities portfolio by approximately $263 million. The acquisition of Bank Mutual is expected to increase the investment securities portfolio by approximately 12%.
Changes in interest rates could also reduce the value of our residential mortgage-related securities and mortgage servicing rights, which could negatively affect our earnings. We have a portfolio of mortgage servicing rights. A mortgage servicing right ("MSR") is the right to service a mortgage loan (i.e., collect principal, interest, escrow amounts, etc.) for a fee. We recognize MSRs when we originate mortgage loans and keep the servicing rights after we sell or securitize the loans or when we purchase the servicing rights to mortgage loans originated by other lenders. We carry MSRs at the lower of amortized cost or estimated fair value. Fair value is the present value of estimated future net servicing income, calculated based on a number of variables, including assumptions about the likelihood of prepayment by borrowers.
When interest rates fall, borrowers are more likely to prepay their mortgage loans by refinancing them at a lower rate. As the likelihood of prepayment increases, the fair value of our residential mortgage-related securities and MSRs can decrease. Each quarter we evaluate our residential mortgage-related securities and MSRs for impairment. If temporary impairment exists, we establish a valuation allowance for the MSRs through a charge to earnings for the amount the carrying amount exceeds fair value. We also evaluate our MSRs for other-than-temporary impairment. If we determine that other-than-temporary impairment exists, we will recognize a direct write-down of the carrying value of the MSRs.
We rely on dividends from our subsidiaries for most of our revenue. The Parent Company is a separate and distinct legal entity from its banking and other subsidiaries. A substantial portion of the Parent Company’s revenue comes from dividends from its subsidiaries. These dividends are the principal source of funds to pay dividends on the Parent Company’s common and preferred stock, and to pay interest and principal on the Parent Company’s debt. Various federal and / or applicable state laws and regulations limit the amount of dividends that our national bank subsidiary and certain nonbank subsidiaries may pay to us. Also, our right to participate in a distribution of assets upon a subsidiary’s liquidation or reorganization is subject to the prior claims of the subsidiary’s creditors. In the event our national bank subsidiary is unable to pay dividends to us, we may not be able to service debt, pay obligations, or pay dividends on our common and preferred stock. The inability to receive dividends from our national bank subsidiary could have a material adverse effect on our business, financial condition, and results of operations.
Operational Risks
We face significant operational risks due to the high volume and the high dollar value nature of transactions we process. We operate in many different businesses in diverse markets and rely on the ability of our employees and systems to process transactions. Operational risk is the risk of loss resulting from our operations, including but not limited to, the risk of fraud by employees or persons outside our company, the execution of unauthorized transactions, errors relating to transaction processing and technology, breaches of our internal control systems or failures of those of our suppliers or counterparties, compliance failures, cyber-attacks, technology failures, or unforeseen problems encountered while implementing new computer systems or upgrades to existing systems, business continuation and disaster recovery issues, and other external events. Insurance coverage may not be available for such losses, or where available, such losses may exceed insurance limits. This risk of loss also includes the potential legal actions that could arise as a result of an operational deficiency or as a result of noncompliance with applicable regulatory standards, adverse business decisions or their implementation, and customer attrition due to potential negative publicity. The occurrence of any of these events could cause us to suffer financial loss, face regulatory action and suffer damage to our reputation.
Unauthorized disclosure of sensitive or confidential client or customer information, whether through a cyber-attack, other breach of our computer systems or otherwise, could severely harm our business. In the normal course of our business, we collect, process and retain sensitive and confidential client and customer information on our behalf and on behalf of other third parties. Despite the security measures we have in place, our facilities and systems may be vulnerable to cyber-attacks, security breaches, acts of vandalism, computer viruses, malware, misplaced or lost data, programming and / or human errors, or other similar events.
Information security risks for financial institutions like us have increased recently in part because of new technologies, the increased use of the internet and telecommunications technologies (including mobile devices) to conduct financial and other business transactions, political activism, and the increased sophistication and activities of organized crime, perpetrators of fraud, hackers, terrorists and others. In addition to cyber-attacks or other security breaches involving the theft of sensitive and confidential information, hackers have engaged in attacks against large financial institutions, particularly denial of service attacks, designed to disrupt key business services, such as customer-facing web sites. We are not able to anticipate or implement effective preventive measures against all possible security breaches of these types. Although we employ detection and response mechanisms designed to contain and mitigate security incidents, early detection may be thwarted by persistent sophisticated attacks and malware designed to avoid detection.
15
We also face risks related to cyber-attacks and other security breaches in connection with card transactions that typically involve the transmission of sensitive information regarding our customers through various third parties. Some of these parties have in the past been the target of security breaches and cyber-attacks, and because the transactions involve third parties and environments that we do not control or secure, future security breaches or cyber-attacks affecting any of these third parties could impact us through no fault of our own, and in some cases we may have exposure and suffer losses for breaches or attacks relating to them. We also rely on numerous other third party service providers to conduct other aspects of our business operations and face similar risks relating to them. While we conduct security assessments on our higher risk third party service providers, we cannot be sure that their information security protocols are sufficient to withstand a cyber-attack or other security breach.
Any cyber-attack or other security breach involving the misappropriation, loss or other unauthorized disclosure of confidential customer information could severely damage our reputation, erode confidence in the security of our systems, products and services, expose us to the risk of litigation and liability, disrupt our operations and have a material adverse effect on our business.
Our information systems may experience an interruption or breach in security. We rely heavily on communications and information systems to conduct our business. Any failure, interruption, or breach in security or operational integrity of these systems could result in failures or disruptions in our customer relationship management, general ledger, deposit, loan, and other systems. While we have policies and procedures designed to prevent or limit the effect of the failure, interruption, or security breach of our information systems, we cannot completely ensure that any such failures, interruptions, or security breaches will not occur or, if they do occur, that they will be adequately addressed. The occurrence of any failures, interruptions, or security breaches of our information systems could damage our reputation, result in a loss of customer business, subject us to additional regulatory scrutiny, or expose us to civil litigation and possible financial liability, any of which could have a material adverse effect on our financial condition and results of operations.
We are dependent upon third parties for certain information system, data management and processing services and to provide key components of our business infrastructure. We outsource certain information system and data management and processing functions to third party providers, including, among others, Fiserv, Inc. and its affiliates. These third party service providers are sources of operational and informational security risk to us, including risks associated with operational errors, information system interruptions or breaches, and unauthorized disclosures of sensitive or confidential client or customer information. Concentration among larger third party providers servicing large segments of the banking industry can also potentially affect wide segments of the financial industry. If third party service providers encounter any of these issues, or if we have difficulty communicating with them, we could be exposed to disruption of operations, loss of service or connectivity to customers, reputational damage, and litigation risk that could have a material adverse effect on our results of operations or our business.
Third party vendors provide key components of our business infrastructure, such as internet connections, network access and core application processing. While we have selected these third party vendors carefully, we do not control their actions. Any problems caused by these third parties, including as a result of their not providing us their services for any reason or their performing their services poorly, could adversely affect our ability to deliver products and services to our customers and otherwise to conduct our business. Replacing these third party vendors could also entail significant delay and expense.
The potential for business interruption exists throughout our organization. Integral to our performance is the continued efficacy of our technical systems, operational infrastructure, relationships with third parties and the vast array of associates and key executives in our day-to-day and ongoing operations. Failure by any or all of these resources subjects us to risks that may vary in size, scale and scope. This includes, but is not limited to, operational or technical failures, ineffectiveness or exposure due to interruption in third party support, as well as the loss of key individuals or failure on the part of key individuals to perform properly. Although management has established policies and procedures to address such failures, the occurrence of any such event could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.
Changes in our accounting policies or in accounting standards could materially affect how we report our financial results. Our accounting policies are fundamental to understanding our financial results and condition. Some of these policies require the use of estimates and assumptions that may affect the value of our assets or liabilities and financial results. Some of our accounting policies are critical because they require management to make difficult, subjective and complex judgments about matters that are inherently uncertain and because it is likely that materially different amounts would be reported under different conditions or using different assumptions. If such estimates or assumptions underlying our financial statements are incorrect, we may experience material losses.
From time to time the FASB and the SEC change the financial accounting and reporting standards or the interpretation of those standards that govern the preparation of our external financial statements. These changes are beyond our control, can be hard to predict and could materially impact how we report our results of operations and financial condition. We could be required to apply a new or revised standard retroactively, resulting in our restating prior period financial statements in material amounts.
16
Changes in the federal, state or local tax laws may negatively impact our financial performance. We are subject to changes in tax law that could increase our effective tax rates. These law changes may be retroactive to previous periods and as a result could negatively affect our current and future financial performance. The Tax Act, the full impact of which is subject to further evaluation and analysis, is likely to have both positive and negative effects on our financial performance. For example, the new legislation will result in a reduction in our federal corporate tax rate from 35% to 21% beginning in 2018, which will have a favorable impact on our earnings and capital generation abilities. However, the new legislation also enacted limitations on certain deductions, such as the deduction of FDIC deposit insurance premiums, which will partially offset the anticipated increase in net earnings from the lower tax rate. In addition, as a result of the lower corporate tax rate, we are required under GAAP to record a tax expense due to remeasurement in the fourth quarter of 2017 with respect to our DTA amounting to $12 million and an acceleration of amortization expense in the fourth quarter of 2017 with respect to our low income housing tax credit portfolio amounting to $1 million. The impact of the Tax Act may differ from the foregoing, possibly materially, due to changes in interpretations or in assumptions that we have made, guidance or regulations that may be promulgated, and other actions that we may take as a result of the Tax Act. Similarly, the Bank’s customers are likely to experience varying effects from both the individual and business tax provisions of the Tax Act and such effects, whether positive or negative, may have a corresponding impact on our business and the economy as a whole.
Our internal controls may be ineffective. Management regularly reviews and updates our internal controls, disclosure controls and procedures, and corporate governance policies and procedures. Any system of controls, however well designed and operated, is based in part on certain assumptions and can provide only reasonable, not absolute, assurances that the objectives of the controls are met. Any failure or circumvention of our controls and procedures or failure to comply with regulations related to controls and procedures could have a material adverse effect on our business, results of operations, and financial condition.
Impairment of investment securities, goodwill, other intangible assets, or deferred tax assets could require charges to earnings, which could result in a negative impact on our results of operations. In assessing whether the impairment of investment securities is other-than-temporary, management considers the length of time and extent to which the fair value has been less than cost, the financial condition and near-term prospects of the issuer, and the intent and ability to retain our investment in the security for a period of time sufficient to allow for any anticipated recovery in fair value in the near term.
Under current accounting standards, goodwill is not amortized but, instead, is subject to impairment tests on at least an annual basis or more frequently if an event occurs or circumstances change that reduce the fair value of a reporting unit below its carrying amount. A decline in our stock price or occurrence of a triggering event following any of our quarterly earnings releases and prior to the filing of the periodic report for that period could, under certain circumstances, cause us to perform a goodwill impairment test and result in an impairment charge being recorded for that period which was not reflected in such earnings release. During 2017, the annual impairment test conducted in May indicated that the estimated fair value of all of the Corporation’s reporting units exceeded the carrying value. In the event that we conclude that all or a portion of our goodwill may be impaired, a non-cash charge for the amount of such impairment would be recorded to earnings. Such a charge would have no impact on tangible capital. At December 31, 2017, we had goodwill of $976 million, representing approximately 30% of stockholders’ equity.
In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. Assessing the need for, or the sufficiency of, a valuation allowance requires management to evaluate all available evidence, both negative and positive, including the recent trend of quarterly earnings. Positive evidence necessary to overcome the negative evidence includes whether future taxable income in sufficient amounts and character within the carryback and carryforward periods is available under the tax law, including the use of tax planning strategies. When negative evidence (e.g., cumulative losses in recent years, history of operating loss or tax credit carryforwards expiring unused) exists, more positive evidence than negative evidence will be necessary. Based on our analysis of the Tax Act, the Corporation recorded a tax expense from the remeasurement of deferred taxes totaling $12 million and an acceleration of amortization expense on the low income housing tax credit investment portfolio of $1 million in the fourth quarter of 2017. The impact of the Tax Act may differ from this amount, possibly materially, due to, among other things, changes in interpretations and assumptions the Corporation has made, guidance that may be issued and actions the Corporation may take as a result of the Tax Act.
The impact of each of these impairment matters could have a material adverse effect on our business, results of operations, and financial condition.
We may not be able to attract and retain skilled people. Our success depends, in large part, on our ability to attract and retain skilled people. Competition for the best people in most activities engaged in by us can be intense, and we may not be able to hire sufficiently skilled people or to retain them. The unexpected loss of services of one or more of our key personnel could have a material adverse impact on our business because of their skills, knowledge of our markets, years of industry experience, and the difficulty of promptly finding qualified replacement personnel.
17
Loss of key employees may disrupt relationships with certain customers. Our business is primarily relationship-driven in that many of our key employees have extensive customer relationships. Loss of a key employee with such customer relationships may lead to the loss of business if the customers were to follow that employee to a competitor. While we believe our relationship with our key personnel is good, we cannot guarantee that all of our key personnel will remain with our organization. Loss of such key personnel, should they enter into an employment relationship with one of our competitors, could result in the loss of some of our customers.
Revenues from our investment management and asset servicing businesses are significant to our earnings. Generating returns that satisfy clients in a variety of asset classes is important to maintaining existing business and attracting new business. Administering or managing assets in accordance with the terms of governing documents and applicable laws is also important to client satisfaction. Failure in either of the foregoing areas can expose us to liability, and result in a decrease in our revenues and earnings.
Severe weather, natural disasters, acts of war or terrorism, and other external events could significantly impact our business. Severe weather, natural disasters, acts of war or terrorism, and other adverse external events could have a significant impact on our ability to conduct business. Such events could affect the stability of our deposit base, impair the ability of borrowers to repay outstanding loans, impair the value of collateral securing loans, cause significant property damage, result in loss of revenue and / or cause us to incur additional expenses. Although management has established disaster recovery policies and procedures, the occurrence of any such event could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.
Strategic and External Risks
Our earnings are significantly affected by the fiscal and monetary policies of the federal government and its agencies. The policies of the Federal Reserve impact us significantly. The Federal Reserve regulates the supply of money and credit in the United States. Its policies directly and indirectly influence the rate of interest earned on loans and paid on borrowings and interest-bearing deposits and can also affect the value of financial instruments we hold. Those policies determine to a significant extent our cost of funds for lending and investing. Changes in those policies are beyond our control and are difficult to predict. Federal Reserve policies can also affect our borrowers, potentially increasing the risk that they may fail to repay their loans. For example, a tightening of the money supply by the Federal Reserve could reduce the demand for a borrower’s products and services. This could adversely affect the borrower’s earnings and ability to repay its loan, which could have a material adverse effect on our financial condition and results of operations.
Our financial condition and results of operations could be negatively affected if we fail to grow or fail to manage our growth effectively. Our business strategy includes significant growth plans. We intend to continue pursuing a profitable growth strategy. Our prospects must be considered in light of the risks, expenses and difficulties frequently encountered by companies in significant growth stages of development. We cannot assure you that we will be able to expand our market presence in our existing markets or successfully enter new markets or that any such expansion will not adversely affect our results of operations. Failure to manage our growth effectively could have a material adverse effect on our business, future prospects, financial condition or results of operations and could adversely affect our ability to successfully implement our business strategy. Also, if we grow more slowly than anticipated, our operating results could be materially adversely affected.
We operate in a highly competitive industry and market area. We face substantial competition in all areas of our operations from a variety of different competitors, both within and beyond our principal markets, many of which are larger and may have more financial resources. Such competitors primarily include national, regional, and internet banks within the various markets in which we operate. We also face competition from many other types of financial institutions, including, without limitation, savings and loans, credit unions, finance companies, brokerage firms, insurance companies, and other financial intermediaries. The financial services industry could become even more competitive as a result of legislative and regulatory changes and continued consolidation. In December 2016, the OCC announced that it would begin considering applications from financial technology companies to become special purpose national banks, and requested comments about how it can foster responsible innovation in the chartering process while continuing to provide robust oversight.
In addition, as customer preferences and expectations continue to evolve, technology has lowered barriers to entry and made it possible for nonbanks to offer products and services traditionally provided by banks, such as automatic transfer and automatic payment systems. Many of our competitors have fewer regulatory constraints and may have lower cost structures. Additionally, due to their size, many competitors may be able to achieve economies of scale and, as a result, may offer a broader range of products and services as well as better pricing for those products and services than we can.
18
Our ability to compete successfully depends on a number of factors, including, among other things:
• | the ability to develop, maintain, and build upon long-term customer relationships based on top quality service, high ethical standards, and safe, sound assets; |
• | the ability to expand our market position; |
• | the scope, relevance, and pricing of products and services offered to meet customer needs and demands; |
• | the rate at which we introduce new products and services relative to our competitors; |
• | customer satisfaction with our level of service; and |
• | industry and general economic trends. |
Failure to perform in any of these areas could significantly weaken our competitive position, which could adversely affect our growth and profitability, which, in turn, could have a material adverse effect on our financial condition and results of operations.
Consumers may decide not to use banks to complete their financial transactions. Technology and other changes are allowing parties to complete financial transactions through alternative methods that historically have involved banks. For example, consumers can now maintain funds that would have historically been held as bank deposits in brokerage accounts, mutual funds or general-purpose reloadable prepaid cards. Consumers can also complete transactions, such as paying bills and / or transferring funds directly without the assistance of banks.
The process of eliminating banks as intermediaries, known as "disintermediation," could result in the loss of fee income, as well as the loss of customer deposits and the related income generated from those deposits. The loss of these revenue streams and the lower cost of deposits as a source of funds could have a material adverse effect on our financial condition and results of operations.
Our profitability depends significantly on economic conditions in the states within which we do business. Our success depends on the general economic conditions of the specific local markets in which we operate, particularly Wisconsin, Illinois and Minnesota. Local economic conditions have a significant impact on the demand for our products and services, as well as the ability of our customers to repay loans, on the value of the collateral securing loans, and the stability of our deposit funding sources. A significant decline in general local economic conditions caused by inflation, recession, unemployment, changes in securities markets, changes in housing market prices, or other factors could have a material adverse effect on our financial condition and results of operations.
The earnings of financial services companies are significantly affected by general business and economic conditions. Our operations and profitability are impacted by general business and economic conditions in the United States and abroad. These conditions include short-term and long-term interest rates, inflation, money supply, political issues, legislative and regulatory changes, fluctuations in both debt and equity capital markets, broad trends in industry and finance, the strength of the United States economy, and uncertainty in financial markets globally, all of which are beyond our control. A deterioration in economic conditions could result in an increase in loan delinquencies and nonperforming assets, decreases in loan collateral values, and a decrease in demand for our products and services, among other things, any of which could have a material adverse impact on our financial condition and results of operations.
New lines of business or new products and services may subject us to additional risk. From time to time, we may implement new lines of business or offer new products and services within existing lines of business. There are substantial risks and uncertainties associated with these efforts, particularly in instances where the markets are not fully developed. In developing and marketing new lines of business and / or new products and services, we may invest significant time and resources. Initial timetables for the introduction and development of new lines of business and / or new products or services may not be achieved and price and profitability targets may not prove feasible. External factors, such as competitive alternatives and shifting market preferences, may also impact the successful implementation of a new line of business and / or a new product or service. Furthermore, strategic planning remains important as we adopt innovative products, services, and processes in response to the evolving demands for financial services and the entrance of new competitors, such as out-of-market banks and financial technology firms. Any new line of business and / or new product or service could have a significant impact on the effectiveness of our system of internal controls, so we must responsibly innovate in a manner that is consistent with sound risk management and is aligned with the Bank's overall business strategies. Failure to successfully manage these risks in the development and implementation of new lines of business and / or new products or services could have a material adverse effect on our business, results of operations and financial condition.
Failure to keep pace with technological change could adversely affect our business. The financial services industry is continually undergoing rapid technological change with frequent introductions of new technology-driven products and services. The effective use of technology increases efficiency and enables financial institutions to better serve customers and to reduce costs. Our future success depends, in part, upon our ability to address the needs of our customers by using technology to provide products
19
and services that will satisfy customer demands, as well as to create additional efficiencies in our operations. Many of our competitors have substantially greater resources to invest in technological improvements. We may not be able to effectively implement new technology-driven products and services or be successful in marketing these products and services to our customers. Failure to successfully keep pace with technological change affecting the financial services industry could have a material adverse impact on our business and, in turn, our financial condition and results of operations.
We may be adversely affected by risks associated with potential and completed acquisitions. As part of our growth strategy, we regularly evaluate merger and acquisition opportunities and conduct due diligence activities related to possible transactions with other financial institutions and financial services companies. As a result, negotiations may take place and future mergers or acquisitions involving cash, debt, or equity securities may occur at any time. We seek merger or acquisition partners that are culturally similar, have experienced management, and possess either significant market presence or have potential for improved profitability through financial management, economies of scale, or expanded services.
Acquiring other banks, businesses, or branches involves potential adverse impact to our financial results and various other risks commonly associated with acquisitions, including, among other things:
• | incurring time and expense associated with identifying and evaluating potential acquisitions and negotiating potential transactions, and with integrating acquired businesses, resulting in the diversion of resources from the operation of our existing businesses; |
• | difficulty in estimating the value of target companies or assets and in evaluating credit, operations, management, and market risks associated with those companies or assets; |
• | payment of a premium over book and market values that may dilute our tangible book value and earnings per share in the short and long term; |
• | potential exposure to unknown or contingent liabilities of the target company, including, without limitation, liabilities for regulatory and compliance issues; |
• | exposure to potential asset quality issues of the target company; |
• | there may be volatility in reported income as goodwill impairment losses could occur irregularly and in varying amounts; |
• | difficulties, inefficiencies or cost overruns associated with the integration of the operations, personnel, technologies, services, and products of acquired companies with ours; |
• | inability to realize the expected revenue increases, cost savings, increases in geographic or product presence, and / or other projected benefits; |
• | potential disruption to our business; |
• | the possible loss of key employees and customers of the target company; and |
• | potential changes in banking or tax laws or regulations that may affect the target company. |
Acquisitions also involve operational risks and uncertainties, and acquired companies may have unknown or contingent liabilities, exposure to unexpected asset quality problems that require write-downs or write-offs (as well as restructuring and impairment or other charges), difficulty retaining key employees and customers and other issues that could negatively affect our business. We may not be able to realize any projected cost savings, synergies or other benefits associated with any such acquisition we complete. Acquisitions typically involve the payment of a premium over book and market values and, therefore, some dilution of our tangible book value and net income per common share may occur in connection with any future transaction. Failure to successfully integrate the entities we acquire into our existing operations could increase our operating costs significantly and have a material adverse effect on our business, financial condition, and results of operations.
In addition, we face significant competition from other financial services institutions, some of which may have greater financial resources than we do, when considering acquisition opportunities. Accordingly, attractive opportunities may not be available to us and there can be no assurance that we will be successful in identifying or completing future acquisitions.
Acquisitions may be delayed, impeded, or prohibited due to regulatory issues. Acquisitions by the Corporation, particularly those of financial institutions, are subject to approval by a variety of federal and state regulatory agencies (collectively, "regulatory approvals"). The process for obtaining these required regulatory approvals has become substantially more difficult in recent years. Regulatory approvals could be delayed, impeded, restrictively conditioned or denied due to existing or new regulatory issues the
20
Corporation has, or may have, with regulatory agencies, including, without limitation, issues related to BSA compliance, Community Reinvestment Act (CRA) issues, fair lending laws, fair housing laws, consumer protection laws, unfair, deceptive, or abusive acts or practices regulations, and other similar laws and regulations. We may fail to pursue, evaluate or complete strategic and competitively significant acquisition opportunities as a result of our inability, or perceived or anticipated inability, to obtain regulatory approvals in a timely manner, under reasonable conditions or at all. The regulatory approvals may contain conditions on the completion of the merger that adversely affect our business following the closing, or which are not anticipated or cannot be met. Difficulties associated with potential acquisitions that may result from these factors could have a material adverse impact on our business, and, in turn, our financial condition and results of operations.
Risks Relating to the Bank Mutual Merger
The Corporation may be unable to successfully integrate Bank Mutual's operations and may not realize the anticipated benefits of acquiring Bank Mutual. The success of the merger, including anticipated benefits and cost savings, will depend, in part, on the Corporation’s ability to successfully integrate Bank Mutual’s operations in a manner that results in various benefits, including, among other things, enhanced revenues and revenue synergies, an expanded market reach and operating efficiencies. Its success will also depend on it neither materially disrupting existing customer relationships nor resulting in decreased revenues due to loss of customers. The process of integrating operations could result in a loss of key personnel or cause an interruption of, or loss of momentum in, the activities of one or more of the surviving bank’s businesses or inconsistencies in standards, controls, procedures and policies that adversely affect the ability of the Corporation or Bank Mutual to maintain relationships with customers and employees. The diversion of management’s attention and any delays or difficulties encountered in connection with the merger and the integration of Bank Mutual’s operations could have an adverse effect on the business, financial condition, operating results and prospects of the surviving corporation after the merger.
The success of the combined company will depend in part on the ability of the Corporation to integrate the two businesses. If the Corporation experiences difficulties in the integration process, including those listed above, the Corporation may fail to realize the anticipated benefits of the merger in a timely manner or at all. Failure to achieve these anticipated benefits could result in increased costs, decreases in the amount of expected revenues and diversion of management’s time and energy and could have an adverse effect on the surviving corporation's business, financial condition, operating results and prospects.
Among the factors considered by the boards of directors of the Corporation and Bank Mutual in connection with their respective approvals of the Merger Agreement were the benefits that could result from the merger. We cannot give any assurance that these benefits will be realized within the time periods contemplated or at all.
The merger may not be accretive, and may be dilutive, to the Corporation’s earnings per share, which may negatively affect the market price of Corporation common stock received by you as a result of the merger. Because shares of the Corporation common stock were issued in the merger, it is possible that, although the Corporation currently expects the merger to be accretive to earnings per share in 2019, the merger may be dilutive to Corporation earnings per share, which could negatively affect the market price of shares of Corporation common stock.
The Corporation will incur significant transaction and merger-related costs in connection with the merger. The Corporation expects to continue to incur a number of non-recurring costs associated with the merger with Bank Mutual, combining the operations of the two companies and achieving desired synergies. These fees and costs have been, and will continue to be, substantial. The Corporation will incur transaction fees and costs related to formulating and implementing integration plans, including facilities and systems consolidation costs and employment-related costs. The Corporation continues to assess the magnitude of these costs, and additional unanticipated costs may be incurred in the merger and the integration of the two companies’ businesses.
Other significant non-recurring transaction costs related to the merger include, but are not limited to, fees paid to legal, financial and accounting advisors, severance and benefit costs and filing fees, as well as the costs and expenses of filing, printing and mailing, customer notices, issuing new debit cards, and other expenses in connection with the merger. Although the Corporation expects that the elimination of duplicative costs, as well as the realization of other efficiencies related to the integration of the businesses, should allow the Corporation to offset integration and transaction-related costs over time, this net benefit may not be achieved in the near term, or at all. The costs described above, as well as other unanticipated costs and expenses, could have a material adverse effect on the financial conditions and operating results of the combined company.
Legal, Regulatory, Compliance and Reputational Risks
We are subject to increasingly extensive government regulation and supervision. We are subject to increasingly extensive federal and applicable state regulation and supervision, primarily through Associated Bank and certain nonbank subsidiaries. Banking regulations are primarily intended to protect depositors’ funds, federal deposit insurance funds, and the banking system as a whole, not shareholders. These regulations affect our lending practices, capital structure, investment practices, dividend policy, and growth, among other things. Congress and federal regulatory agencies continually review banking laws, regulations, and
21
policies for possible changes. Changes to statutes, regulations, or regulatory policies, including changes in interpretation or implementation of statutes, regulations, or policies, could affect us in substantial and unpredictable ways. Such changes could subject us to additional costs, limit the types of financial services and products we may offer, and / or increase the ability of nonbanks to offer competing financial services and products, among other things. Failure to comply with laws, regulations, or policies could result in sanctions by regulatory agencies, civil money penalties, and / or reputation damage, which could have a material adverse effect on our business, financial condition, and results of operations. While we have policies and procedures designed to prevent these types of violations, there can be no assurance that such violations will not occur.
In addition, in September 2016, the CFPB and OCC entered into a consent order with a large national bank alleging widespread improper sales practices, which prompted the federal bank regulatory agencies to conduct a horizontal review of sales practices throughout the banking industry. The elevated attention likely will result in continued additional regulatory scrutiny and regulation of incentive arrangements, which could adversely impact the delivery of services and increase compliance costs.
The Consumer Financial Protection Bureau has reshaped the consumer financial laws through rulemaking and enforcement of the prohibitions against unfair, deceptive and abusive business practices. Compliance with any such change may impact the business operations of depository institutions offering consumer financial products or services, including the Bank. The CFPB has broad rulemaking authority to administer and carry out the provisions of the Dodd-Frank Act with respect to financial institutions that offer covered financial products and services to consumers. As an independent bureau within the FRB, the CFPB may impose requirements more severe than the previous bank regulatory agencies. The CFPB has also been directed to write rules identifying practices or acts that are unfair, deceptive or abusive in connection with any transaction with a consumer for a consumer financial product or service, or the offering of a consumer financial product or service. The CFPB has initiated enforcement actions against a variety of bank and non-bank market participants with respect to a number of consumer financial products and services that has resulted in those participants expending significant time, money and resources to adjust to the initiatives being pursued by the CFPB. These enforcement actions may serve as precedent for how the CFPB interprets and enforces consumer protection laws, including practices or acts that are deemed to be unfair, deceptive or abusive, with respect to all supervised institutions, which may result in the imposition of higher standards of compliance with such laws. The concept of what may be considered to be an "abusive" practice is relatively new under the law. Moreover, the Bank is subject to supervision and examination by the CFPB for compliance with the CFPB’s regulations and policies. The costs and limitations related to this additional regulatory reporting regimen have yet to be fully determined, although they may be material, and the limitations and restrictions that will be placed upon the Bank with respect to its consumer product offerings and services may produce significant, material effects on the Bank’s (and the Corporation’s) profitability.
We continue to operate under and meet the commitments described in the U.S. Department of Housing and Urban Development Conciliation Agreement, which remains effective until May 22, 2018. Under the Conciliation Agreement, the Bank made commitments to various requirements, including those related to: (i) general non-discrimination; (ii) training; (iii) future branch locations and loan production offices; and (iv) community investment. Should the Bank breach the terms of the agreement and fail to correct such breaches in a reasonable time, the matter may be referred to the U.S. Attorney General to commence a civil action under the Fair Housing Act, which would impose increased regulatory costs on the Bank.
The Bank is periodically examined for mortgage-related issues, including mortgage loan and default services, fair lending, and mortgage banking. Federal and state banking regulators closely examine the mortgage and mortgage servicing activities of depository financial institutions. Should any of these regulators have serious concerns with respect to our mortgage or mortgage servicing activities in this regard, the regulators' response to such concerns could result in material adverse effects on our growth strategy and profitability.
We may experience unanticipated losses as a result of residential mortgage loan repurchase or reimbursement obligations under agreements with secondary market purchasers. We may be required to repurchase residential mortgage loans, or to reimburse the purchaser for losses with respect to residential mortgage loans, which have been sold to secondary market purchasers in the event there are breaches of certain representations and warranties contained within the sales agreements, such as representations and warranties related to credit information, loan documentation, collateral and insurability. Consequently, we are exposed to credit risk, and potentially funding risk, associated with sold loans. As a result we have established reserves in our consolidated financial statements for potential losses related to the residential mortgage loans we have sold. The adequacy of the reserves and the ultimate amount of losses incurred will depend on, among other things, the actual future mortgage loan performance, the actual level of future repurchase and reimbursement requests, the actual success rate of claimants, actual recoveries on the collateral and macroeconomic conditions. Due to uncertainties relating to these factors, there can be no assurance that the reserves we establish will be adequate or that the total amount of losses incurred will not have a material adverse effect on our financial condition or results of operations.
We are subject to examinations and challenges by tax authorities. We are subject to federal and applicable state income tax regulations. Income tax regulations are often complex and require interpretation. Changes in income tax regulations could negatively
22
impact our results of operations. In the normal course of business, we are routinely subject to examinations and challenges from federal and applicable state tax authorities regarding the amount of taxes due in connection with investments we have made and the businesses in which we have engaged. Recently, federal and state taxing authorities have become increasingly aggressive in challenging tax positions taken by financial institutions. These tax positions may relate to tax compliance, sales and use, franchise, gross receipts, payroll, property and income tax issues, including tax base, apportionment and tax credit planning. The challenges made by tax authorities may result in adjustments to the timing or amount of taxable income or deductions or the allocation of income among tax jurisdictions. If any such challenges are made and are not resolved in our favor, they could have a material adverse effect on our financial condition and results of operations.
We are subject to claims and litigation pertaining to fiduciary responsibility. From time to time, customers make claims and take legal action pertaining to the performance of our fiduciary responsibilities. Whether customer claims and legal action related to the performance of our fiduciary responsibilities are founded or unfounded, if such claims and legal actions are not resolved in a manner favorable to us, they may result in significant financial liability and / or adversely affect the market perception of us and our products and services, as well as impact customer demand for those products and services. Any financial liability or reputation damage could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.
We are a defendant in a variety of litigation and other actions, which may have a material adverse effect on our financial condition and results of operation. We may be involved from time to time in a variety of litigation arising out of our business. Our insurance may not cover all claims that may be asserted against us, and any claims asserted against us, regardless of merit or eventual outcome, may harm our reputation. Should the ultimate judgments or settlements in any litigation exceed our insurance coverage, they could have a material adverse effect on our financial condition and results of operation for any period. In addition, we may not be able to obtain appropriate types or levels of insurance in the future, nor may we be able to obtain adequate replacement policies with acceptable terms, if at all.
The financial services industry, as well as the broader economy, may be subject to new legislation. In 2017, both Chambers of Congress proposed comprehensive financial regulatory reform bills that would amend the Dodd-Frank Act and that could affect the banking industry as a whole, including our business and results of operations, in ways that are difficult to predict. Although the bills vary in content, certain key aspects include revisions to rules related to mortgage loans, delayed implementation of rules related to the Home Mortgage Disclosure Act, reform and simplification of certain Volcker Rule requirements, and raising the threshold for applying enhanced prudential standards to bank holding companies with total consolidated assets equal to or greater than $50 billion to those with total consolidated assets equal to or greater than $250 billion. At this time, a timeline for presentment and enactment of such regulatory relief is uncertain and adoption of any such legislation may not result in a meaningful reduction of our regulatory burden and attendant costs. The failure to adopt financial reform regulation would result in our continuing to be subject to significant regulatory compliance costs, which would increase as our asset size comes closer to $50 billion.
The financial services industry is experiencing leadership changes at the federal banking agencies, which may impact regulations and government policy applicable to us. In 2017 and early 2018, Congress confirmed a new Comptroller of the Currency, a new Chairman of the Federal Reserve, and a new Vice Chairman for Supervision at the Federal Reserve. In addition, the President nominated a new Chairwoman of the FDIC, and the Director of the CFPB resigned and was replaced by an interim Director. The President, senior members of Congress, and many among this new leadership group have advocated for significant reduction of financial services regulation, which may cause broader economic changes due to changes in governing ideology and governing style. As a result of the changes and impending changes in agency leadership, new regulatory initiatives may be stalled and certain previously enacted regulations may be revisited. New appointments to the Board of Governors of the Federal Reserve could affect monetary policy and interest rates, and changes in fiscal policy could affect broader patterns of trade and economic growth. At this time, further impact of these leadership changes and the potential impact on the regulatory requirements applicable to us and our supervision by these agencies is uncertain.
Negative publicity could damage our reputation. Reputation risk, or the risk to our earnings and capital from negative public opinion, is inherent in our business. Negative public opinion could adversely affect our ability to keep and attract customers and expose us to adverse legal and regulatory consequences. Negative public opinion could result from our actual or alleged conduct in any number of activities, including lending or foreclosure practices, corporate governance, regulatory compliance, mergers and acquisitions, and disclosure, sharing or inadequate protection of customer information, and from actions taken by government regulators and community organizations in response to that conduct. Because we conduct most of our business under the "Associated Bank" brand, negative public opinion about one business could affect our other businesses.
Ethics or conflict of interest issues could damage our reputation. We have established a Code of Business Conduct and Ethics and related policies and procedures to address the ethical conduct of business and to avoid potential conflicts of interest. Any system of controls, however well designed and operated, is based, in part, on certain assumptions and can provide only reasonable, not absolute, assurances that the objectives of the system are met. Any failure or circumvention of our related controls and procedures
23
or failure to comply with the established Code of Business Conduct and Ethics and Related Party Transaction Policies and Procedures could have a material adverse effect on our reputation, business, results of operations, and / or financial condition.
Risks Related to an Investment in Our Securities
The price of our securities can be volatile. Price volatility may make it more difficult for you to sell your securities when you want and at prices you find attractive. Our securities prices can fluctuate widely in response to a variety of factors including, among other things:
• | actual or anticipated variations in quarterly results of operations or financial condition; |
• | operating results and stock price performance of other companies that investors deem comparable to us; |
• | news reports relating to trends, concerns, and other issues in the financial services industry; |
• | perceptions in the marketplace regarding us and / or our competitors; |
• | new technology used or services offered by competitors; |
• | significant acquisitions or business combinations, strategic partnerships, joint ventures, or capital commitments by or involving us or our competitors; |
• | failure to integrate acquisitions or realize anticipated benefits from acquisitions; |
• | changes in government regulations; |
• | geopolitical conditions, such as acts or threats of terrorism or military conflicts; and |
• | recommendations by securities analysts. |
General market fluctuations, industry factors, and general economic and political conditions and events, such as economic slowdowns or recessions, interest rate changes, or credit loss trends, could also cause our securities prices to decrease regardless of our operating results.
There may be future sales or other dilution of our equity, which may adversely affect the market price of our securities. We are not restricted from issuing additional securities, including common stock and securities that are convertible into or exchangeable for, or that represent the right to receive, common stock. The issuance of additional shares of common stock or the issuance of convertible securities would dilute the ownership interest of our existing common shareholders. The market price of our common stock could decline as a result of an equity offering, as well as other sales of a large block of shares of our common stock or similar securities in the market after an equity offering, or the perception that such sales could occur. Both we and our regulators perform a variety of analyses of our assets, including the preparation of stress case scenarios, and as a result of those assessments we could determine, or our regulators could require us, to raise additional capital.
In addition, the exercise of the common stock warrants originally issued to the U.S. Department of the Treasury (the "UST") under TARP, which have been sold by the UST in a public offering, would dilute the ownership interest of our existing shareholders. These common stock warrants are exercisable at any time, in whole or in part, on or before November 21, 2018, at an exercise price of $19.77 per share (subject to certain anti-dilution adjustments). See Note 10 Stockholders' Equity of the notes to consolidated financial statements in Part II, Item 8, Financial Statements and Supplementary Data, for additional information on these common stock warrants.
We may reduce or eliminate dividends on our common stock. Although we have historically paid a quarterly cash dividend to the holders of our common stock, holders of our common stock are not entitled to receive dividends. Downturns in the domestic and global economies could cause our board of directors to consider, among other things, the elimination of dividends paid on our common stock. This could adversely affect the market price of our common stock. Furthermore, as a bank holding company, our ability to pay dividends is subject to the guidelines of the Federal Reserve regarding capital adequacy and dividends. Dividends also may be limited as a result of safety and soundness considerations.
Common stock is equity and is subordinate to our existing and future indebtedness and preferred stock and effectively subordinated to all the indebtedness and other non-common equity claims against our subsidiaries. Shares of the common stock are equity interests in us and do not constitute indebtedness. As such, shares of the common stock will rank junior to all of our indebtedness and to other non-equity claims against us and our assets available to satisfy claims against us, including our liquidation. Additionally, holders of our common stock are subject to prior dividend and liquidation rights of holders of our outstanding preferred stock. Our board of directors is authorized to issue additional classes or series of preferred stock without
24
any action on the part of the holders of our common stock, and we are permitted to incur additional debt. Upon liquidation, lenders and holders of our debt securities and preferred stock would receive distributions of our available assets prior to holders of our common stock. Furthermore, our right to participate in a distribution of assets upon any of our subsidiaries’ liquidation or reorganization is subject to the prior claims of that subsidiary’s creditors, including holders of any preferred stock of that subsidiary.
Our articles of incorporation, bylaws, and certain banking laws may have an anti-takeover effect. Provisions of our articles of incorporation and bylaws, and federal banking laws, including regulatory approval requirements, could make it more difficult for a third party to acquire us, even if doing so would be perceived to be beneficial to our shareholders. The combination of these provisions may prohibit a non-negotiated merger or other business combination, which, in turn, could adversely affect the market price of our common stock.
An investment in our common stock is not an insured deposit. Our common stock is not a bank deposit and, therefore, is not insured against loss by the FDIC, any other deposit insurance fund, or by any other public or private entity. An investment in our common stock is inherently risky for the reasons described in this "Risk Factors" section and elsewhere in this report and is subject to the same market forces that affect the price of common stock in any company. As a result, if you acquire our common stock, you may lose some or all of your investment.
An entity holding as little as a 5% interest in our outstanding common stock could, under certain circumstances, be subject to regulation as a "bank holding company." An entity (including a "group" composed of natural persons) owning or controlling with the power to vote 25% or more of our outstanding common stock, or 5% or more if such holder otherwise exercises a "controlling influence" over us, may be subject to regulation as a "bank holding company" in accordance with the BHC Act. In addition, (1) any bank holding company or foreign bank with a U.S. presence may be required to obtain the approval of the Federal Reserve under the BHC Act to acquire or retain 5% or more of our outstanding common stock, and (2) any person not otherwise defined as a company by the BHC Act and its implementing regulations may be required to obtain the approval of the Federal Reserve under the Change in Bank Control Act to acquire or retain 10% or more of our outstanding common stock. Becoming a bank holding company imposes certain statutory and regulatory restrictions and obligations, such as providing managerial and financial strength for its bank subsidiaries. Regulation as a bank holding company could require the holder to divest all or a portion of the holder’s investment in our common stock or such nonbanking investments that may be deemed impermissible or incompatible with bank holding company status, such as a material investment in a company unrelated to banking.
Our ability to originate residential mortgage loans for portfolio has been adversely affected by the increased competition resulting from the unprecedented involvement of the U.S. government and government-sponsored enterprises ("GSEs") in the residential mortgage market. Over the past several years, we have faced increased competition for residential mortgage loans due to the unprecedented involvement of the GSEs in the mortgage market as a result of the economic crisis, which has caused the interest rate for 30 year fixed rate mortgage loans that conform to GSE guidelines to remain artificially low. In addition, the U.S. Congress has expanded the conforming loan limits in many of our operating markets, allowing larger balance loans to continue to be acquired by the GSEs. However, the new President of the United States and proposed key cabinet nominees have indicated that reforming the GSE system is a priority item on the administration’s regulatory agenda. It is unknown at this time what reforms, if any, will be made, the extent of the future involvement in the residential mortgage market and the impact of any reforms on that market and the United States economy as a whole.
ITEM 1B. | UNRESOLVED STAFF COMMENTS |
None.
ITEM 2. | PROPERTIES |
The Corporation operated approximately 254 facilities, including 213 banking branches at December 31, 2017. Our corporate headquarters is located at 433 Main Street in Green Bay, Wisconsin and is approximately 118,000 square feet. The Corporation owns two dedicated operations centers, located in Green Bay and Stevens Point, Wisconsin, with approximately 91,000 and 96,000 square feet, respectively. The Corporation also owns a 28 story, 374,000 square foot office tower located at 111 E. Kilbourn Avenue in Milwaukee, Wisconsin (the "Milwaukee Center") and a 95,000 square foot office building located at 6000 Clearwater Drive, Minnetonka, Minnesota. Based on rentable square feet, at December 31, 2017, Associated Bank owned 84% of our total property portfolio.
At December 31, 2017, Associated Bank operated 213 banking branches serving over 100 different communities within Illinois, Minnesota and Wisconsin. The main office of Associated Bank is at 200 North Adams Street in Green Bay, Wisconsin, and is owned by the Corporation. Most of the banking locations are freestanding buildings with a drive thru and a parking lot; a
25
smaller subset resides in supermarkets and office towers, which are generally leased. Associated Bank also operated loan production offices in Indiana, Michigan, Missouri, Ohio and Texas.
ITEM 3. | LEGAL PROCEEDINGS |
The information required by this item is set forth in Part II, Item 8, Financial Statements and Supplementary Data, under Note 16 Commitments, Off-Balance Sheet Arrangements, and Legal Proceedings.
ITEM 4. | MINE SAFETY DISCLOSURES |
Not applicable.
INFORMATION ABOUT THE EXECUTIVE OFFICERS
The following is a list of names and ages of executive officers of Associated indicating all positions and offices held by each such person and each such person’s principal occupation(s) or employment during the past five years. Officers are appointed annually by the Board of Directors at the meeting of directors immediately following the annual meeting of shareholders. There are no family relationships among these officers, nor any arrangement or understanding between any officer and any other person pursuant to which the officer was selected. No person other than those listed below has been chosen to become an executive officer of Associated. The information presented below is as of February 6, 2018.
Philip B. Flynn - Age: 60
Philip B. Flynn has been President and Chief Executive Officer of Associated and Associated Bank and a member of the Board of Directors since December 2009. Prior to joining Associated, he served as Vice Chairman and Chief Operating Officer of Union Bank. During his nearly 30-year career with Union Bank, he held a broad range of executive positions, including chief credit officer and head of commercial banking, specialized lending and wholesale banking. He served as a member of Union Bank’s board of directors from 2004 to 2009.
William M. Bohn - Age: 51
William M. Bohn has been Executive Vice President, Head of Private Client and Institutional Services of Associated and Associated Bank since July 2014. Mr. Bohn also serves as Chairman of the Board of Associated Benefits and Risk Consulting (“ABRC”), Whitnell & Co., and Associated Investment Services, Inc., and Chief Executive Officer of Associated Trust Company, N.A. He joined Associated in 1997 and most recently served as President and Chief Executive Officer of ABRC from 2004 to 2015.
Matthew R. Braeger - 43
Matthew R. Braeger has been Executive Vice President and Chief Audit Executive of Associated and Associated Bank, National Association since February 2018. He served as Deputy Chief Audit Executive from October 2017 to February 2018. He joined Associated in April 2013 as Senior Vice President, Business Support Audit Director. Previously, he held audit management positions with Fiserv, Inc. and public accounting audit roles with Ernst & Young, LLP. He has more than 17 years of auditing experience, primarily in banking technology and financial services.
26
Christopher J. Del Moral-Niles - Age: 47
Christopher J. Del Moral-Niles has been Executive Vice President, Chief Financial Officer of Associated and Associated Bank since March 2012. He joined Associated in July 2010 and previously served as Associated’s Deputy Chief Financial Officer and Corporate Treasurer. From 2006 to 2010, he held various leadership roles for The First American Corporation and its subsidiaries, including serving as Corporate Treasurer and as divisional President of First American Trust, FSB. From 2003 to 2006, Mr. Niles held various positions with Union Bank, including serving as Senior Vice President and Director of Liability Management. Prior to his time with Union Bank, Mr. Niles spent a decade as a financial services investment banker supporting mergers and acquisitions of financial institutions, bank and thrift capital issuances, and bank funding transactions.
Patrick J. Derpinghaus - Age: 62
Patrick J. Derpinghaus has been Executive Vice President of Associated and Associated Bank, National Association since April 2011. He served as Chief Audit Executive from April 2011 to February 2018. Mr. Derpinghaus has over 33 years of banking experience serving in various executive finance and audit positions. From March 2008 until March 2011, Mr. Derpinghaus served as Audit Director for U.S. Bank in Minneapolis, Minnesota. Prior to his position at U.S. Bank, Mr. Derpinghaus served as Executive Vice President and Chief Financial Officer of The Bankers Bank in Atlanta, Georgia from October 2005 to December 2007.
Judith M. Docter - Age: 56
Judith M. Docter has been Executive Vice President, Chief Human Resources Officer of Associated and Associated Bank since November 2005. Ms. Docter was Senior Vice President, Director of Organizational Development, for Associated from May 2002 to November 2005. From March 1992 to May 2002, she served as Director of Human Resources for Associated Bank, Fox Valley Region and Wealth Management.
Randall J. Erickson - Age: 58
Randall J. Erickson has been Executive Vice President, General Counsel and Corporate Secretary of Associated and Associated Bank since April 2012, and served as Chief Risk Officer from May 2016 to February 2018. Prior to joining Associated, he served as senior vice president, chief administrative officer and general counsel of Milwaukee-based bank holding company Marshall & Ilsley Corporation ("M&I") from 2002 until it was acquired by BMO Financial in 2011. Upon leaving M&I, he became a member of Milwaukee law firm Godfrey & Kahn, S.C.’s securities practice group. He had been a partner at Godfrey & Kahn, S.C. from 1990 to 2002 prior to joining M&I as its general counsel. Mr. Erickson served as a director of Renaissance Learning, Inc., a publicly-held educational software company, from 2009 until it was acquired by Permira Funds in 2011.
John P. Hankerd - Age: 58
John P. Hankerd has been Executive Vice President, Chief Credit Officer of Associated and Associated Bank, National Association since August 2017. He joined Associated in 2002 and has held multiple leadership roles in commercial and corporate banking and credit functions, including Executive Vice President, Head of Specialized Industries from January 2017 to August 2017 and Senior Vice President, Corporate Banking Credit Manager from March 2011 to January 2017. Previously he spent 12 years in commercial lending at U.S. Bank.
Nicole M. Kitowski - Age 42
Nicole M. Kitowski has been Executive Vice President and Chief Risk Officer of Associated since February 2018. She joined Associated in 1992 and has held leadership roles in Consumer Banking, Operations and Technology, and Corporate Risk, including Deputy Chief Risk Officer from March 2016 to February 2018 and Corporate BSA, AML, OFAC Officer from June 2014 to March 2016.
Timothy J. Lau - Age: 55
Timothy J. Lau has been Executive Vice President, Head of Community Markets of Associated and Associated Bank, National Association since June 2014. Mr. Lau previously served as Executive Vice President, Head of Private Client and Institutional Services from December 2010 to June 2014. He is also a director of Associated Banc-Corp Foundation, Associated Investment Services, Inc. and Associated Benefits and Risk Consulting ("ABRC"). He joined Associated in 1989 and has held a number of senior management positions in Consumer and Small Business Banking, Residential Lending, and Commercial Banking.
James S. Payne - Age: 64
James S. Payne has been Executive Vice President, Chief Information and Operations Officer of Associated and Associated Bank since January 2017. He joined Associated in 2015 and most recently served as Executive Vice President, Deputy Chief Information
27
and Operations Officer. He brings more than 30 years of operations and technology experience to Associated Bank. Previously, he held the position of Chief Technology Officer at Huntington National Bank in Columbus, Ohio from 2010 to 2015. Before that, he held executive technology management positions at Bank of America and JPMorgan Chase & Co.
Christopher C. Piotrowski - Age: 43
Christopher C. Piotrowski has been Executive Vice President and Chief Marketing Officer of Associated and Associated Bank since December 2014. Prior to joining Associated, he was a Senior Director of Marketing at S.C. Johnson & Son, Inc. from 2009 to December 2014.
Paul G. Schmidt - Age: 55
Paul G. Schmidt has been Executive Vice President, Head of Commercial Real Estate of Associated and Associated Bank since January 2016. He joined Associated in April 2015 as Executive Vice President of Commercial Real Estate and was named Deputy Head of Commercial Real Estate in September 2015. Mr. Schmidt brings more than 31 years of banking experience to Associated. Most recently, he held the position of Executive Vice President, Division Manager, Commercial Real Estate at Wells Fargo from 2002 to 2015.
David L. Stein - Age: 54
David L. Stein has been Executive Vice President, Head of Consumer and Business Banking of Associated and Associated Bank since January 2017. He was previously Executive Vice President, Head of Consumer and Commercial Banking from April 2014 until January 2017 and Executive Vice President, Head of Retail Banking from June 2007 until April 2014. He is a director of Associated Investment Services, Inc., ABRC, and Associated Banc-Corp Foundation. He was the President of the Southwest Region of Associated Bank from January 2005 until June 2007. He held various positions with JP Morgan Chase & Co., and one of its predecessors, Bank One Corporation, from 1989 until joining Associated in 2005.
John A. Utz - Age: 49
John A. Utz has been Executive Vice President, Head of Corporate Banking and Milwaukee Market President of Associated and Associated Bank since September 2015. He joined Associated in March 2010 with upwards of 20 years of banking experience, having previously served as President of Union Bank’s UnionBanCal Equities and head of its Capital Markets division from September 2007 to March 2010, and as head of the National Banking and Asset Management teams from October 2002 to September 2007.
28
PART II
ITEM 5. | MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES |
Information in response to this item is incorporated by reference to the discussion of dividend restrictions under Part I, Item 1, Business - Holding Company Dividends, and in Note 10 Stockholders' Equity of the notes to consolidated financial statements included under Part II, Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K. The Corporation’s common stock is traded on the New York Stock Exchange under the symbol ASB.
The number of shareholders of record of the Corporation’s common stock, $0.01 par value, as of January 31, 2018, was approximately 7,050. Certain of the Corporation’s shares are held in “nominee” or “street” name and the number of beneficial owners of such shares is approximately 19,494.
Payment of future dividends is within the discretion of the Board of Directors and will depend, among other factors, on earnings, capital requirements, and the operating and financial condition of the Corporation. The Board of Directors makes the dividend determination on a quarterly basis. The aggregate amount of the quarterly dividends was $0.50 per common share for 2017 and $0.45 per common share for 2016.
Other than 26,606 shares of common stock repurchased to satisfy minimum tax withholding on settlements of equity compensation awards, the Corporation did not make any common stock or depositary share purchases during the fourth quarter of 2017. For a detailed discussion of the common stock and depositary share purchases during 2017 and 2016, see Part II, Item 8, Note 10 Stockholders' Equity of the notes to consolidated financial statements.
Market Information
The following represents selected market information of the Corporation’s common stock for 2017 and 2016.
Market Price Range Closing Sales Prices | |||||||||||||||||||
Dividends Paid | Book Value | High | Low | Close | |||||||||||||||
2017 | |||||||||||||||||||
4th Quarter | $ | 0.14 | $ | 20.13 | $ | 26.10 | $ | 24.00 | $ | 25.40 | |||||||||
3rd Quarter | 0.12 | 19.98 | 25.70 | 21.25 | 24.25 | ||||||||||||||
2nd Quarter | 0.12 | 19.70 | 25.50 | 23.25 | 25.20 | ||||||||||||||
1st Quarter | 0.12 | 19.42 | 26.50 | 23.40 | 24.40 | ||||||||||||||
2016 | |||||||||||||||||||
4th Quarter | $ | 0.12 | $ | 19.27 | $ | 25.15 | $ | 19.05 | $ | 24.70 | |||||||||
3rd Quarter | 0.11 | 19.42 | 19.91 | 16.49 | 19.59 | ||||||||||||||
2nd Quarter | 0.11 | 19.27 | 18.84 | 15.84 | 17.15 | ||||||||||||||
1st Quarter | 0.11 | 18.96 | 18.79 | 15.48 | 17.94 | ||||||||||||||
29
Total Shareholder Return Performance Graph
Set forth below is a line graph (and the underlying data points) comparing the yearly percentage change in the cumulative total shareholder return (change in year-end stock price plus reinvested dividends) on the Corporation’s common stock with the cumulative total return of the S&P 500 Index and the S&P 400 Regional Banks Sub-Industry Index for the period of five fiscal years commencing on January 1, 2013, and ending December 31, 2017. The S&P 400 Regional Banks Sub-Industry Index is comprised of stocks on the S&P Total Market Index that are classified in the regional banks sub-industry. The graph assumes that the value of the investment in the Corporation’s common stock and in each index was $100 on December 31, 2012. Historical stock price performance shown on the graph is not necessarily indicative of the future price performance.
5 Year Trend
2012 | 2013 | 2014 | 2015 | 2016 | 2017 | |||||||||||||
Associated Banc-Corp | $ | 100.0 | $ | 135.1 | $ | 147.6 | $ | 151.8 | $ | 203.6 | $ | 213.5 | ||||||
S&P 500 Index | $ | 100.0 | $ | 132.0 | $ | 149.9 | $ | 151.9 | $ | 169.8 | $ | 206.5 | ||||||
S&P 400 Regional Banks Sub-Industry Index | $ | 100.0 | $ | 145.1 | $ | 146.7 | $ | 156.3 | $ | 206.8 | $ | 217.3 | ||||||
Source: Bloomberg
The Total Shareholder Return Performance Graph shall not be deemed incorporated by reference by any general statement incorporating by reference this Annual Report on Form 10-K into any filing under the Securities Act or under the Exchange Act, except to the extent the Corporation specifically incorporates this information by reference, and shall not otherwise be deemed filed under such Acts.
30
ITEM 6. | SELECTED FINANCIAL DATA |
Table 1 Summary Results of Operations: Trends
Years Ended December 31, | |||||||||||||||
2017 | 2016 | 2015 | 2014 | 2013 | |||||||||||
(In Thousands, Except Per Share Data) | |||||||||||||||
Interest income | $ | 886,605 | $ | 791,568 | $ | 753,662 | $ | 736,745 | $ | 708,983 | |||||
Interest expense | 145,385 | 84,295 | 77,384 | 55,778 | 63,440 | ||||||||||
Net interest income | 741,220 | 707,273 | 676,278 | 680,967 | 645,543 | ||||||||||
Provision for credit losses | 26,000 | 70,000 | 37,500 | 16,000 | 10,100 | ||||||||||
Net interest income after provision for credit losses | 715,220 | 637,273 | 638,778 | 664,967 | 635,443 | ||||||||||
Noninterest income | 332,680 | 352,883 | 329,357 | 290,861 | 315,957 | ||||||||||
Noninterest expense | 709,133 | 702,560 | 698,347 | 679,783 | 683,507 | ||||||||||
Income before income taxes | 338,767 | 287,596 | 269,788 | 276,045 | 267,893 | ||||||||||
Income tax expense | 109,503 | 87,322 | 81,487 | 85,536 | 79,201 | ||||||||||
Net income | 229,264 | 200,274 | 188,301 | 190,509 | 188,692 | ||||||||||
Preferred stock dividends | 9,347 | 8,903 | 7,155 | 5,002 | 5,158 | ||||||||||
Net income available to common equity | $ | 219,917 | $ | 191,371 | $ | 181,146 | $ | 185,507 | $ | 183,534 | |||||
Earnings per common share | |||||||||||||||
Basic | $ | 1.45 | $ | 1.27 | $ | 1.20 | $ | 1.17 | $ | 1.10 | |||||
Diluted | 1.42 | 1.26 | 1.19 | 1.16 | 1.10 | ||||||||||
Cash dividends per common share | 0.50 | 0.45 | 0.41 | 0.37 | 0.33 | ||||||||||
Weighted average common shares outstanding | |||||||||||||||
Basic | 150,877 | 148,769 | 149,350 | 157,286 | 165,584 | ||||||||||
Diluted | 153,647 | 149,961 | 150,603 | 158,254 | 165,802 | ||||||||||
Selected Financial Data | |||||||||||||||
Year-End Balances | |||||||||||||||
Loans | $ | 20,784,991 | $ | 20,054,716 | $ | 18,714,343 | $ | 17,593,846 | $ | 15,896,261 | |||||
Allowance for loan losses | 265,880 | 278,335 | 274,264 | 266,302 | 268,315 | ||||||||||
Investment securities | 6,326,299 | 5,953,762 | 6,135,644 | 5,801,267 | 5,425,795 | ||||||||||
Total assets | 30,483,594 | 29,139,315 | 27,711,835 | 26,817,423 | 24,225,426 | ||||||||||
Deposits | 22,785,962 | 21,888,448 | 21,007,665 | 18,763,504 | 17,267,167 | ||||||||||
Short and long-term funding | 4,073,732 | 3,853,830 | 3,510,580 | 4,994,054 | 3,826,699 | ||||||||||
Stockholders’ equity | 3,237,443 | 3,091,312 | 2,937,246 | 2,800,251 | 2,891,290 | ||||||||||
Book value per common share | 20.13 | 19.27 | 18.62 | 18.32 | 17.40 | ||||||||||
Tangible book value per common share | 13.65 | 12.78 | 12.10 | 12.06 | 11.62 | ||||||||||
Average Balances | |||||||||||||||
Loans | $ | 20,592,383 | $ | 19,650,667 | $ | 18,252,264 | $ | 16,838,994 | $ | 15,663,145 | |||||
Investment securities | 6,028,262 | 6,048,563 | 5,912,849 | 5,594,232 | 4,995,331 | ||||||||||
Earning assets | 26,999,884 | 26,026,661 | 24,571,087 | 22,760,128 | 20,980,128 | ||||||||||
Total assets | 29,485,733 | 28,506,112 | 27,019,216 | 25,109,997 | 23,303,644 | ||||||||||
Deposits | 21,923,602 | 21,005,772 | 19,903,087 | 17,647,084 | 17,438,195 | ||||||||||
Interest-bearing liabilities | 21,045,399 | 20,122,402 | 19,330,847 | 17,824,786 | 15,962,533 | ||||||||||
Stockholders’ equity | 3,172,634 | 3,022,962 | 2,895,158 | 2,871,932 | 2,892,312 | ||||||||||
Risk-based Capital (a) | |||||||||||||||
Total risk-weighted assets | $ | 21,544,463 | $ | 21,340,951 | $ | 19,929,963 | $ | 18,567,646 | $ | 16,694,148 | |||||
Common equity Tier 1 | 2,171,508 | 2,032,587 | 1,897,944 | 1,808,332 | 1,913,320 | ||||||||||
Common equity Tier 1 capital ratio | 10.08 | % | 9.52 | % | 9.52 | % | 9.74 | % | 11.46 | % | |||||
Return on average common equity Tier 1 | 10.43 | % | 9.86 | % | 9.88 | % | 9.92 | % | 9.77 | % | |||||
(a) | The Federal Reserve establishes regulatory capital requirements, including well-capitalized standards for the Corporation. Prior to 2015, the regulatory capital requirements effective for the Corporation followed the Capital Accord of the Basel Committee on Banking Supervision ("Basel I"). Beginning January 1, 2015, the regulatory capital requirements effective for the Corporation follow Basel III, subject to certain transition provisions. These regulatory capital measurements are used by management, regulators, investors, and analysts to assess, monitor and compare the quality and composition of our capital with the capital of other financial services companies. See Table 26 for a reconciliation of common equity Tier 1 and average common equity Tier 1. |
31
ITEM 7. | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
The following discussion is management’s analysis to assist in the understanding and evaluation of the consolidated financial condition and results of operations of the Corporation. It should be read in conjunction with the consolidated financial statements and footnotes and the selected financial data presented elsewhere in this report.
The detailed financial discussion that follows focuses on 2017 results compared to 2016. A discussion of 2016 results compared to 2015 is predominantly presented in section 2016 Compared to 2015.
Overview
The Corporation is a bank holding company headquartered in Wisconsin, providing a broad array of banking and nonbanking products and services to businesses and consumers primarily within our three-state footprint. The Corporation’s primary sources of revenue, through the Bank, are net interest income (predominantly from loans and investment securities), and noninterest income, principally fees and other revenue from financial services provided to customers or ancillary services tied to loans and deposits.
Performance Summary and 2018 Outlook
• | Diluted earnings per common share of $1.42 in 2017 increased $0.16 (13%) from 2016. |
• | Average loans of $20.6 billion for 2017 grew $942 million (5%) from a year ago. Average deposits of $21.9 billion for 2017 grew $918 million (4%) from a year ago. For 2018, the Corporation expects mid-single digit annual average loan growth and to maintain a loan to deposit ratio under 100%. |
• | Net interest income of $741 million in 2017 increased $34 million (5%) from 2016. Net interest margin of 2.82% in 2017 increased from 2.80% in 2016. For 2018, the Corporation expects a stable to modestly improving year over year net interest margin trend. |
• | Provision for credit losses of $26 million in 2017 decreased $44 million (63%) from 2016. For 2018, the Corporation expects the provision for credit losses to adjust with changes to risk grade, other indications of credit quality, and loan volume. |
• | Noninterest income of $333 million in 2017 decreased $20 million (6%) from 2016, as expected, on lower mortgage banking income. For 2018, the Corporation expects improving fee-based revenues and approximately $360 million to $370 million full year noninterest income. |
• | Noninterest expenses of $709 million in 2017 increased $7 million (1%) from 2016. For 2018, the Corporation expects full year noninterest expense to be approximately $820 million, which includes $40 million of restructuring costs related to the acquisition of Bank Mutual. The Corporation also expects improvement in the efficiency ratio, as well as a lower effective tax rate. |
32
Income Statement Analysis
Net Interest Income
Table 2 Average Balances and Interest Rates (interest and rates on a fully tax-equivalent basis)
Years Ended December 31, | ||||||||||||||||||||||||
2017 | 2016 | 2015 | ||||||||||||||||||||||
Average Balance | Interest Income / Expense | Average Yield / Rate | Average Balance | Interest Income / Expense | Average Yield / Rate | Average Balance | Interest Income / Expense | Average Yield / Rate | ||||||||||||||||
($ in Thousands) | ||||||||||||||||||||||||
Assets | ||||||||||||||||||||||||
Earning assets | ||||||||||||||||||||||||
Loans (a) (b) (c) | ||||||||||||||||||||||||
Commercial and business lending | $ | 7,254,613 | $ | 265,796 | 3.66 | % | $ | 7,395,524 | $ | 239,064 | 3.23 | % | $ | 7,035,449 | $ | 223,772 | 3.18 | % | ||||||
Commercial real estate lending | 4,952,605 | 192,838 | 3.89 | % | 4,724,412 | 163,421 | 3.46 | % | 4,222,218 | 146,372 | 3.47 | % | ||||||||||||
Total commercial | 12,207,218 | 458,634 | 3.76 | % | 12,119,936 | 402,485 | 3.32 | % | 11,257,667 | 370,144 | 3.29 | % | ||||||||||||
Residential mortgage | 7,105,486 | 229,210 | 3.23 | % | 6,156,524 | 194,941 | 3.17 | % | 5,538,690 | 182,228 | 3.29 | % | ||||||||||||
Retail | 1,279,679 | 64,892 | 5.07 | % | 1,374,207 | 65,910 | 4.80 | % | 1,455,907 | 67,391 | 4.63 | % | ||||||||||||
Total loans | 20,592,383 | 752,736 | 3.66 | % | 19,650,667 | 663,336 | 3.38 | % | 18,252,264 | 619,763 | 3.40 | % | ||||||||||||
Investment securities | ||||||||||||||||||||||||
Taxable | 4,861,597 | 96,909 | 1.99 | % | 4,955,980 | 95,152 | 1.92 | % | 4,936,065 | 100,292 | 2.03 | % | ||||||||||||
Tax-exempt (a) | 1,166,665 | 50,455 | 4.32 | % | 1,092,583 | 49,036 | 4.49 | % | 976,784 | 47,663 | 4.88 | % | ||||||||||||
Other short-term investments | 379,239 | 7,719 | 2.04 | % | 327,431 | 4,829 | 1.48 | % | 405,974 | 6,591 | 1.62 | % | ||||||||||||
Investments and other | 6,407,501 | 155,083 | 2.42 | % | 6,375,994 | 149,017 | 2.34 | % | 6,318,823 | 154,546 | 2.45 | % | ||||||||||||
Total earning assets | $ | 26,999,884 | $ | 907,819 | 3.36 | % | $ | 26,026,661 | $ | 812,353 | 3.12 | % | $ | 24,571,087 | $ | 774,309 | 3.15 | % | ||||||
Other assets, net | 2,485,849 | 2,479,451 | 2,448,129 | |||||||||||||||||||||
Total assets | $ | 29,485,733 | $ | 28,506,112 | $ | 27,019,216 | ||||||||||||||||||
Liabilities and stockholders' equity | ||||||||||||||||||||||||
Interest-bearing liabilities | ||||||||||||||||||||||||
Interest-bearing deposits | ||||||||||||||||||||||||
Savings | $ | 1,527,161 | $ | 816 | 0.05 | % | $ | 1,428,292 | $ | 860 | 0.06 | % | $ | 1,336,755 | $ | 1,000 | 0.07 | % | ||||||
Interest-bearing demand | 4,334,181 | 24,009 | 0.55 | % | 3,790,185 | 10,361 | 0.27 | % | 3,201,085 | 4,266 | 0.13 | % | ||||||||||||
Money market | 9,085,990 | 50,781 | 0.56 | % | 9,127,940 | 26,978 | 0.30 | % | 9,210,179 | 16,574 | 0.18 | % | ||||||||||||
Time deposits | 1,979,709 | 18,419 | 0.93 | % | 1,553,069 | 12,136 | 0.78 | % | 1,613,547 | 11,285 | 0.70 | % | ||||||||||||
Total interest-bearing deposits | 16,927,041 | 94,025 | 0.56 | % | 15,899,486 | 50,335 | 0.32 | % | 15,361,566 | 33,125 | 0.22 | % | ||||||||||||
Federal funds purchased and securities sold under agreements to repurchase | 415,086 | 2,527 | 0.61 | % | 609,807 | 1,314 | 0.22 | % | 625,736 | 943 | 0.15 | % | ||||||||||||
Other short-term funding | 634,729 | 5,677 | 0.89 | % | 699,358 | 2,114 | 0.30 | % | 220,321 | 465 | 0.21 | % | ||||||||||||
Total short-term funding | 1,049,815 | 8,204 | 0.78 | % | 1,309,165 | 3,428 | 0.26 | % | 846,057 | 1,408 | 0.17 | % | ||||||||||||
Long-term funding | 3,068,543 | 43,156 | 1.41 | % | 2,913,751 | 30,532 | 1.05 | % | 3,123,224 | 42,851 | 1.37 | % | ||||||||||||
Total short and long-term funding | 4,118,358 | 51,360 | 1.25 | % | 4,222,916 | 33,960 | 0.80 | % | 3,969,281 | 44,259 | 1.12 | % | ||||||||||||
Total interest-bearing liabilities | $ | 21,045,399 | $ | 145,385 | 0.69 | % | $ | 20,122,402 | $ | 84,295 | 0.42 | % | $ | 19,330,847 | $ | 77,384 | 0.40 | % | ||||||
Noninterest-bearing demand deposits | 4,996,561 | 5,106,286 | 4,541,521 | |||||||||||||||||||||
Other liabilities | 271,139 | 254,462 | 251,690 | |||||||||||||||||||||
Stockholders’ equity | 3,172,634 | 3,022,962 | 2,895,158 | |||||||||||||||||||||
Total liabilities and stockholders’ equity | $ | 29,485,733 | $ | 28,506,112 | $ | 27,019,216 | ||||||||||||||||||
Interest rate spread | 2.67 | % | 2.70 | % | 2.75 | % | ||||||||||||||||||
Net free funds | 0.15 | % | 0.10 | % | 0.09 | % | ||||||||||||||||||
Fully tax-equivalent net interest income and net interest margin | $ | 762,434 | 2.82 | % | $ | 728,058 | 2.80 | % | $ | 696,925 | 2.84 | % | ||||||||||||
Fully tax-equivalent adjustment | $ | 21,214 | $ | 20,785 | $ | 20,647 | ||||||||||||||||||
Net interest income | $ | 741,220 | $ | 707,273 | $ | 676,278 | ||||||||||||||||||
(a) | The yield on tax-exempt loans and securities is computed on a fully tax-equivalent basis using a tax rate of 35% for all periods presented and is net of the effects of certain disallowed interest deductions. |
(b) | Nonaccrual loans and loans held for sale have been included in the average balances. |
(c) | Interest income includes net loan fees. |
Net interest income is the primary source of the Corporation’s revenue. Net interest income is the difference between interest income on interest-earning assets, such as loans and investment securities, and the interest expense on interest-bearing deposits and other borrowings used to fund interest-earning and other assets or activities. Net interest income is affected by the amount and composition of earning assets and interest-bearing liabilities, as well as the sensitivity of the balance sheet to changes in interest rates, including characteristics such as the fixed or variable nature of the financial instruments, contractual maturities, re-pricing frequencies, loan prepayment behavior, and the use of interest rate derivative financial instruments.
Interest rate spread and net interest margin are utilized to measure and explain changes in net interest income. Interest rate spread is the difference between the yield on earning assets and the rate paid on interest-bearing liabilities that fund those assets. The net
33
interest margin is expressed as the percentage of net interest income to average earning assets. The net interest margin exceeds the interest rate spread because noninterest-bearing sources of funds (“net free funds”), principally noninterest-bearing demand deposits and stockholders’ equity, also support earning assets. To compare tax-exempt asset yields to taxable yields, the yield on tax-exempt loans and investment securities is computed on a fully tax-equivalent basis. Net interest income, interest rate spread, and net interest margin are discussed on a fully tax-equivalent basis.
Table 2 provides average balances of earning assets and interest-bearing liabilities, the associated interest income and expense, and the corresponding interest rates earned and paid, as well as net interest income, interest rate spread, and net interest margin on a fully tax-equivalent basis for the years ended December 31, 2017, 2016 and 2015. Tables 3 and 4 present additional information to facilitate the review and discussion of fully tax-equivalent net interest income, interest rate spread, and net interest margin.
The Corporation expects that as a result of the Tax Act, the fully tax-equivalent adjustment will be somewhat reduced in future periods.
Notable Contributions to the Change in 2017 Net Interest Income
• | Net interest income in the consolidated statements of income (which excludes the fully tax-equivalent adjustment) was $741 million in 2017 compared to $707 million in 2016. See sections Interest Rate Risk and Quantitative and Qualitative Disclosures about Market Risk, for a discussion of interest rate risk and market risk. |
• | Fully tax-equivalent net interest income of $762 million for 2017 was $34 million higher than 2016. |
• | Average earning assets of $27.0 billion in 2017 were $973 million (4%) higher than 2016. Average loans increased $942 million (5%), primarily attributed to growth in residential mortgage loans. |
• | Average interest-bearing liabilities of $21.0 billion in 2017 were up $923 million (5%) versus 2016. On average, interest-bearing deposits increased $1.0 billion, while noninterest-bearing demand deposits (a principal component of net free funds) decreased by $110 million. Average short and long-term funding decreased $105 million from 2016, including a $259 million decrease in short-term funding, partially offset by a $154 million increase in long-term funding. |
• | The net interest margin for 2017 was 2.82%, compared to 2.80% in 2016. |
• | For 2017, loan yields increased 28 bp to 3.66%. This increase was primarily due to total commercial loan yields increasing 44 bps to 3.76%, as adjustable rate loans re-priced. The yield on investment securities and other short-term investments increased 8 bp to 2.42%. |
• | The average cost of interest-bearing liabilities was 0.69% in 2017, 27 bp higher than 2016. The increase was primarily due to a 24 bp increase in the average cost of interest-bearing deposits (to 0.56%) and a 45 bp increase in the cost of short and long-term funding (to 1.25%), both primarily due to increases in the Federal Reserve interest rate. |
• | The Federal Reserve increased the targeted federal funds rate on December 13, 2017 to a range of 1.25% to 1.50% from 1.00% to 1.25%. The Federal Reserve has indicated it expects gradual increases in the Federal Funds rate. However, the timing and magnitude of any such increases are uncertain and will depend on domestic and global economic conditions. |
34
Table 3 Rate/Volume Analysis (a)
2017 Compared to 2016 Increase (Decrease) Due to | 2016 Compared to 2015 Increase (Decrease) Due to | |||||||||||||||||
Volume | Rate | Net | Volume | Rate | Net | |||||||||||||
($ in Thousands) | ||||||||||||||||||
Interest income | ||||||||||||||||||
Loans (a) | ||||||||||||||||||
Commercial and business lending | $ | (4,635 | ) | $ | 31,367 | $ | 26,732 | $ | 11,590 | $ | 3,702 | $ | 15,292 | |||||
Commercial real estate lending | 8,169 | 21,248 | 29,417 | 17,374 | (325 | ) | 17,049 | |||||||||||
Total commercial | 3,534 | 52,615 | 56,149 | 28,964 | 3,377 | 32,341 | ||||||||||||
Residential mortgage | 30,550 | 3,719 | 34,269 | 19,756 | (7,043 | ) | 12,713 | |||||||||||
Retail | (4,675 | ) | 3,657 | (1,018 | ) | (3,873 | ) | 2,392 | (1,481 | ) | ||||||||
Total loans | 29,409 | 59,991 | 89,400 | 44,847 | (1,274 | ) | 43,573 | |||||||||||
Investment securities | ||||||||||||||||||
Taxable | (3,731 | ) | 5,488 | 1,757 | (2,037 | ) | (3,103 | ) | (5,140 | ) | ||||||||
Tax-exempt (b) | 3,245 | (1,826 | ) | 1,419 | 5,380 | (4,007 | ) | 1,373 | ||||||||||
Other short-term investments | 850 | 2,040 | 2,890 | (1,143 | ) | (619 | ) | (1,762 | ) | |||||||||
Investments and other | 364 | 5,702 | 6,066 | 2,200 | (7,729 | ) | (5,529 | ) | ||||||||||
Total earning assets | $ | 29,773 | $ | 65,693 | $ | 95,466 | $ | 47,047 | $ | (9,003 | ) | $ | 38,044 | |||||
Interest expense | ||||||||||||||||||
Savings | $ | 57 | $ | (101 | ) | $ | (44 | ) | $ | 65 | $ | (205 | ) | $ | (140 | ) | ||
Interest-bearing demand | 1,674 | 11,974 | 13,648 | 908 | 5,187 | 6,095 | ||||||||||||
Money market | (124 | ) | 23,927 | 23,803 | (150 | ) | 10,554 | 10,404 | ||||||||||
Time deposits | 3,705 | 2,578 | 6,283 | (471 | ) | 1,322 | 851 | |||||||||||
Total interest-bearing deposits | 5,312 | 38,378 | 43,690 | 352 | 16,858 | 17,210 | ||||||||||||
Federal funds purchased and securities sold under agreements to repurchase | (534 | ) | 1,747 | 1,213 | (25 | ) | 396 | 371 | ||||||||||
Other short-term funding | (213 | ) | 3,776 | 3,563 | 1,376 | 273 | 1,649 | |||||||||||
Total short-term funding | (747 | ) | 5,523 | 4,776 | 1,351 | 669 | 2,020 | |||||||||||
Long-term funding | 1,697 | 10,927 | 12,624 | (2,724 | ) | (9,595 | ) | (12,319 | ) | |||||||||
Total short and long-term funding | 950 | 16,450 | 17,400 | (1,373 | ) | (8,926 | ) | (10,299 | ) | |||||||||
Total interest-bearing liabilities | 6,262 | 54,828 | 61,090 | (1,021 | ) | 7,932 | 6,911 | |||||||||||
Fully tax-equivalent net interest income | $ | 23,511 | $ | 10,865 | $ | 34,376 | $ | 48,068 | $ | (16,935 | ) | $ | 31,133 | |||||
(a) | The change in interest due to both rate and volume has been allocated in proportion to the relationship to the dollar amounts of the change in each. |
(b) | The yield on tax-exempt loans and securities is computed on a fully tax-equivalent basis using a tax rate of 35% for all periods presented and is net of the effects of certain disallowed interest deductions. |
35
Table 4 Interest Rate: Spread and Interest Margin (on a fully tax-equivalent basis)
2017 Average | 2016 Average | 2015 Average | |||||||||||||||||||
Balance | % of Earning Assets | Yield / Rate | Balance | % of Earning Assets | Yield / Rate | Balance | % of Earning Assets | Yield / Rate | |||||||||||||
($ in Thousands) | |||||||||||||||||||||
Total loans | $ | 20,592,383 | 76.3 | % | 3.66 | % | $ | 19,650,667 | 75.5 | % | 3.38 | % | $ | 18,252,264 | 74.3 | % | 3.40 | % | |||
Investments and other | 6,407,501 | 23.7 | % | 2.42 | % | 6,375,994 | 24.5 | % | 2.34 | % | 6,318,823 | 25.7 | % | 2.45 | % | ||||||
Earning assets | $ | 26,999,884 | 100.0 | % | 3.36 | % | $ | 26,026,661 | 100.0 | % | 3.12 | % | $ | 24,571,087 | 100.0 | % | 3.15 | % | |||
Financed by | |||||||||||||||||||||
Interest-bearing liabilities | $ | 21,045,399 | 77.9 | % | 0.69 | % | $ | 20,122,402 | 77.3 | % | 0.42 | % | $ | 19,330,847 | 78.7 | % | 0.40 | % | |||
Noninterest-bearing liabilities | 5,954,485 | 22.1 | % | 5,904,259 | 22.7 | % | 5,240,240 | 21.3 | % | ||||||||||||
Total funds sources | $ | 26,999,884 | 100.0 | % | 0.54 | % | $ | 26,026,661 | 100.0 | % | 0.32 | % | $ | 24,571,087 | 100.0 | % | 0.31 | % | |||
Interest rate spread | 2.67 | % | 2.70 | % | 2.75 | % | |||||||||||||||
Net free funds | 0.15 | % | 0.10 | % | 0.09 | % | |||||||||||||||
Net interest margin | 2.82 | % | 2.80 | % | 2.84 | % | |||||||||||||||
Average prime rate (a) | 4.10 | % | 3.51 | % | 3.26 | % | |||||||||||||||
Average effective federal funds rate (a) | 1.00 | % | 0.39 | % | 0.13 | % | |||||||||||||||
Average spread | 310 bp | 312 bp | 313 bp | ||||||||||||||||||
(a) | Source: Bloomberg |
Provision for Credit Losses
The provision for credit losses (which includes the provision for loan losses and the provision for unfunded commitments) in 2017 was $26 million, compared to $70 million in 2016. Net charge offs were $39 million (representing 0.19% of average loans) for 2017, compared to $65 million (representing 0.33% of average loans) for 2016. The ratio of the allowance for loan losses to total loans was 1.28% and 1.39% at December 31, 2017 and 2016, respectively.
The provision for credit losses is predominantly a function of the Corporation’s reserving methodology and judgments as to other qualitative and quantitative factors used to determine the appropriate level of the allowance for loan losses and the allowance for unfunded commitments, which focuses on changes in the size and character of the loan portfolio, changes in levels of impaired and other nonaccrual loans, historical losses and delinquencies in each portfolio category, the level of loans sold or transferred to held for sale, the risk inherent in specific loans, concentrations of loans to specific borrowers or industries, existing economic conditions, the fair value of underlying collateral, and other factors which could affect potential credit losses. See additional discussion under sections: Loans, Credit Risk, Nonperforming Assets, and Allowance for Credit Losses.
36
Noninterest Income
Table 5 Noninterest Income
Years Ended December 31, | Change From Prior Year | ||||||||||||||||||
2017 | 2016 | 2015 | $ Change 2017 | % Change 2017 | $ Change 2016 | % Change 2016 | |||||||||||||
($ in Thousands) | |||||||||||||||||||
Insurance commissions and fees | $ | 81,474 | $ | 80,795 | $ | 75,363 | $ | 679 | 1 | % | $ | 5,432 | 7 | % | |||||
Service charges and deposit account fees | 64,427 | 66,609 | 65,471 | (2,182 | ) | (3 | )% | 1,138 | 2 | % | |||||||||
Card-based and loan fees | 52,688 | 50,077 | 47,912 | 2,611 | 5 | % | 2,165 | 5 | % | ||||||||||
Trust and asset management fees | 50,191 | 46,867 | 48,840 | 3,324 | 7 | % | (1,973 | ) | (4 | )% | |||||||||
Brokerage commissions and fees | 19,935 | 16,235 | 15,378 | 3,700 | 23 | % | 857 | 6 | % | ||||||||||
Total fee-based revenue | 268,715 | 260,583 | 252,964 | 8,132 | 3 | % | 7,619 | 3 | % | ||||||||||
Mortgage banking income | 29,619 | 50,248 | 43,439 | (20,629 | ) | (41 | )% | 6,809 | 16 | % | |||||||||
Mortgage servicing rights (expense) | (10,259 | ) | (12,127 | ) | (11,176 | ) | 1,868 | (15 | )% | (951 | ) | 9 | % | ||||||
Mortgage banking, net | 19,360 | 38,121 | 32,263 | (18,761 | ) | (49 | )% | 5,858 | 18 | % | |||||||||
Capital markets, net | 19,642 | 22,059 | 14,558 | (2,417 | ) | (11 | )% | 7,501 | 52 | % | |||||||||
Bank and corporate owned life insurance | 16,250 | 14,371 | 9,796 | 1,879 | 13 | % | 4,575 | 47 | % | ||||||||||
Other | 9,523 | 8,519 | 9,103 | 1,004 | 12 | % | (584 | ) | (6 | )% | |||||||||
Subtotal | 333,490 | 343,653 | 318,684 | (10,163 | ) | (3 | )% | 24,969 | 8 | % | |||||||||
Asset gains (losses), net | (1,244 | ) | (86 | ) | 2,540 | (1,158 | ) | N/M | (2,626 | ) | (103 | )% | |||||||
Investment securities gains (losses), net | 434 | 9,316 | 8,133 | (8,882 | ) | (95 | )% | 1,183 | 15 | % | |||||||||
Total noninterest income | $ | 332,680 | $ | 352,883 | $ | 329,357 | $ | (20,203 | ) | (6 | )% | $ | 23,526 | 7 | % | ||||
Mortgage loans originated and acquired for sale during period | $ | 715,357 | $ | 1,271,124 | $ | 1,228,106 | $ | (555,767 | ) | (44 | )% | $ | 43,018 | 4 | % | ||||
Mortgage loan settlements during period | $ | 819,950 | $ | 1,542,660 | $ | 1,241,012 | $ | (722,710 | ) | (47 | )% | $ | 301,648 | 24 | % | ||||
Assets under management, at market value (a) | $ | 10,555,435 | $ | 8,301,564 | $ | 7,729,131 | $ | 2,253,871 | 27 | % | $ | 572,433 | 7 | % | |||||
N/M = Not Meaningful
(a) | Excludes assets held in brokerage accounts. |
Notable Contributions to the Change in 2017 Noninterest Income
• | Fee-based revenue was $269 million in 2017, an increase of $8 million (3%) compared to 2016. The increase was driven primarily by a $7 million increase in brokerage and asset management fees, reflecting a strong equity market and the acquisition of Whitnell & Co. in the fourth quarter of 2017. |
• | Net mortgage banking income for 2017 was $19 million, down $19 million (49%) compared to 2016. Net mortgage banking consists of gross mortgage banking income less mortgage servicing rights expense. Gross mortgage banking income includes servicing fees, the gain or loss on sales of mortgage loans to the secondary market, changes to the mortgage repurchase reserve, and the fair value adjustments on the mortgage derivatives. Net mortgage banking income was down $19 million primarily due to a shift in the Corporation's strategy to hold some longer-dated production on balance sheet during the first half of 2017. |
• | Bank and corporate owned life insurance income was $16 million for 2017, an increase of $2 million (13%) compared to 2016, primarily due to proceeds from policy redemptions. |
37
Noninterest Expense
Table 6 Noninterest Expense
Years Ended December 31, | Change From Prior Year | ||||||||||||||||||
2017 | 2016 | 2015 | $ Change 2017 | % Change 2017 | $ Change 2016 | % Change 2016 | |||||||||||||
($ in Thousands) | |||||||||||||||||||
Personnel | $ | 419,778 | $ | 414,837 | $ | 404,741 | $ | 4,941 | 1 | % | $ | 10,096 | 2 | % | |||||
Occupancy | 53,842 | 56,069 | 60,896 | (2,227 | ) | (4 | )% | (4,827 | ) | (8 | )% | ||||||||
Technology | 63,004 | 57,300 | 60,613 | 5,704 | 10 | % | (3,313 | ) | (5 | )% | |||||||||
Equipment | 21,201 | 21,489 | 23,209 | (288 | ) | (1 | )% | (1,720 | ) | (7 | )% | ||||||||
Business development and advertising | 28,946 | 26,351 | 25,772 | 2,595 | 10 | % | 579 | 2 | % | ||||||||||
Legal and professional | 22,509 | 19,869 | 17,052 | 2,640 | 13 | % | 2,817 | 17 | % | ||||||||||
Card issuance and loan costs | 11,760 | 13,641 | 14,102 | (1,881 | ) | (14 | )% | (461 | ) | (3 | )% | ||||||||
Foreclosure / OREO expense, net | 4,878 | 4,844 | 5,442 | 34 | 1 | % | (598 | ) | (11 | )% | |||||||||
FDIC assessment | 31,300 | 34,750 | 26,000 | (3,450 | ) | (10 | )% | 8,750 | 34 | % | |||||||||
Other intangible amortization | 1,959 | 2,093 | 3,094 | (134 | ) | (6 | )% | (1,001 | ) | (32 | )% | ||||||||
Other | 49,956 | 51,317 | 57,426 | (1,361 | ) | (3 | )% | (6,109 | ) | (11 | )% | ||||||||
Total noninterest expense | $ | 709,133 | $ | 702,560 | $ | 698,347 | $ | 6,573 | 1 | % | $ | 4,213 | 1 | % | |||||
Personnel expense to total noninterest expense | 59 | % | 59 | % | 58 | % | |||||||||||||
Average full-time equivalent employees | 4,368 | 4,426 | 4,421 | ||||||||||||||||
Notable Contributions to the Change in 2017 Noninterest Expense
• | Personnel expense (which includes salary-related expenses and fringe benefit expenses) was $420 million for 2017, up $5 million (1%) from 2016. This increase was in part due to higher management incentive plan expense and $1 million of one-time hourly, non-commission bonus payments recorded during the fourth quarter of 2017. |
• | Technology expense of $63 million increased $6 million (10%) compared to 2016. The increase is due to the Corporation's investment in technology solutions to increase efficiency and meet the evolving banking delivery channel demands of our customers. |
• | FDIC assessment was $3 million (10%) lower compared to 2016 reflecting decreased criticized and classified assets year over year. |
Income Taxes
The Corporation recognized income tax expense of $110 million for 2017 compared to income tax expense of $87 million for 2016. The change in income tax expense was primarily due to the increase in the level of pretax income between the years and amounts recorded due to the enactment of the Tax Act. The effective tax rate was 32.3% for 2017, compared to an effective tax rate of 30.4% for 2016. Income tax expense is also impacted by ongoing federal and state income tax audits and changes in tax law and rates.
The Tax Act was enacted on December 22, 2017 and requires the Corporation to reflect the changes associated with the law’s provisions in its 2017 fourth quarter. The law is complex and has extensive implications for the Corporation’s federal and state current and deferred taxes and income tax expense. The Corporation has recorded and reported the effects of the law’s impacts in its financial statements for the period ended December 31, 2017. See Note 13 Income Taxes of the notes to consolidated financial statements for more information.
See Note 1 Summary of Significant Accounting Policies of the notes to consolidated financial statements for the Corporation’s income tax accounting policy and section Critical Accounting Policies. Income tax expense recorded in the consolidated statements of income involves the interpretation and application of certain accounting pronouncements and federal and state tax laws and regulations, and is therefore considered a critical accounting policy. The Corporation is subject to examination by various taxing authorities. Examination by taxing authorities may impact the amount of tax expense and / or the reserve for uncertainty in income taxes if their interpretations differ from those of management, based on their judgments about information available to them at the time of their examinations. See Note 13 Income Taxes of the notes to consolidated financial statements for more information.
38
Balance Sheet Analysis
• | At December 31, 2017, total assets were $30.5 billion, up $1.3 billion (5%) from December 31, 2016. |
• | Loans of $20.8 billion at December 31, 2017 were up $730 million (4%) from December 31, 2016. See Note 4 Loans for additional information on loans. |
• | At December 31, 2017, investment securities were $6.3 billion, up $373 million (6%) from December 31, 2016. |
• | At December 31, 2017, total deposits of $22.8 billion were up $898 million (4%) from December 31, 2016. See Note 7 Deposits for additional information on deposits. |
• | Short and long-term funding of $4.1 billion at December 31, 2017 increased $220 million (6%) since year-end 2016. See Note 8 Short-Term Funding and Note 9 Long-Term Funding to the notes to the consolidated financial statements for additional information on short- and long-term funding. |
Loans
Table 7 Loan Composition
As of December 31, | |||||||||||||||||||||||||
2017 | 2016 | 2015 | 2014 | 2013 | |||||||||||||||||||||
Amount | % of Total | Amount | % of Total | Amount | % of Total | Amount | % of Total | Amount | % of Total | ||||||||||||||||
($ in Thousands) | |||||||||||||||||||||||||
Commercial and industrial | $ | 6,399,693 | 31 | % | $ | 6,489,014 | 32 | % | $ | 6,190,683 | 33 | % | $ | 5,957,431 | 34 | % | $ | 4,878,163 | 31 | % | |||||
Commercial real estate — owner occupied | 802,209 | 4 | % | 897,724 | 5 | % | 918,212 | 5 | % | 1,007,937 | 6 | % | 1,114,715 | 7 | % | ||||||||||
Commercial and business lending | 7,201,902 | 35 | % | 7,386,738 | 37 | % | 7,108,895 | 38 | % | 6,965,368 | 40 | % | 5,992,878 | 38 | % | ||||||||||
Commercial real estate — investor | 3,315,254 | 16 | % | 3,574,732 | 18 | % | 3,234,266 | 17 | % | 3,056,485 | 17 | % | 2,939,456 | 18 | % | ||||||||||
Real estate construction | 1,451,684 | 7 | % | 1,432,497 | 7 | % | 1,162,145 | 6 | % | 1,008,956 | 6 | % | 896,248 | 6 | % | ||||||||||
Commercial real estate lending | 4,766,938 | 23 | % | 5,007,229 | 25 | % | 4,396,411 | 23 | % | 4,065,441 | 23 | % | 3,835,704 | 24 | % | ||||||||||
Total commercial | 11,968,840 | 58 | % | 12,393,967 | 62 | % | 11,505,306 | 61 | % | 11,030,809 | 63 | % | 9,828,582 | 62 | % | ||||||||||
Residential mortgage | 7,546,534 | 36 | % | 6,332,327 | 31 | % | 5,783,267 | 31 | % | 5,056,891 | 28 | % | 4,577,711 | 29 | % | ||||||||||
Home equity | 883,804 | 4 | % | 934,443 | 5 | % | 1,005,802 | 6 | % | 1,051,927 | 6 | % | 1,082,894 | 6 | % | ||||||||||
Other consumer | 385,813 | 2 | % | 393,979 | 2 | % | 419,968 | 2 | % | 454,219 | 3 | % | 407,074 | 3 | % | ||||||||||
Total consumer | 8,816,151 | 42 | % | 7,660,749 | 38 | % | 7,209,037 | 39 | % | 6,563,037 | 37 | % | 6,067,679 | 38 | % | ||||||||||
Total loans | $ | 20,784,991 | 100 | % | $ | 20,054,716 | 100 | % | $ | 18,714,343 | 100 | % | $ | 17,593,846 | 100 | % | $ | 15,896,261 | 100 | % | |||||
Commercial real estate and real estate construction loan detail | |||||||||||||||||||||||||
Farmland | $ | 1,399 | — | % | $ | 1,613 | — | % | $ | 7,135 | — | % | $ | 9,249 | — | % | $ | 8,591 | — | % | |||||
Multi-family | 952,473 | 29 | % | 1,027,541 | 29 | % | 932,360 | 29 | % | 976,956 | 32 | % | 951,348 | 33 | % | ||||||||||
Non-owner occupied | 2,361,382 | 71 | % | 2,545,578 | 71 | % | 2,294,771 | 71 | % | 2,070,280 | 68 | % | 1,979,517 | 67 | % | ||||||||||
Commercial real estate — investor | $ | 3,315,254 | 100 | % | $ | 3,574,732 | 100 | % | $ | 3,234,266 | 100 | % | $ | 3,056,485 | 100 | % | $ | 2,939,456 | 100 | % | |||||
1-4 family construction | $ | 353,902 | 24 | % | $ | 358,398 | 25 | % | $ | 309,396 | 27 | % | $ | 304,992 | 30 | % | $ | 259,031 | 29 | % | |||||
All other construction | 1,097,782 | 76 | % | 1,074,099 | 75 | % | 852,749 | 73 | % | 703,964 | 70 | % | 637,217 | 71 | % | ||||||||||
Real estate construction | $ | 1,451,684 | 100 | % | $ | 1,432,497 | 100 | % | $ | 1,162,145 | 100 | % | $ | 1,008,956 | 100 | % | $ | 896,248 | 100 | % | |||||
• | Commercial and business lending was $7.2 billion and represented 35% of total loans at December 31, 2017, a decrease of $185 million (3%) from December 31, 2016. |
• | Commercial real estate lending totaled $4.8 billion at December 31, 2017 and represented 23% of total loans, a decrease of $240 million (5%) from December 31, 2016. This is consistent with the Corporation's plan to moderate commercial real estate growth in anticipation for the pending Bank Mutual transaction |
• | Consumer loans were $8.8 billion and represented 42% of total loans at December 31, 2017, an increase of $1.2 billion (15%) from December 31, 2016, primarily driven by the Corporation's on balance sheet mortgage retention strategy. |
The Corporation has long-term guidelines relative to the proportion of Commercial and Business, Commercial Real Estate, and Consumer loans within the overall loan portfolio, with each targeted to represent 30-40% of the overall loan portfolio. The targeted
39
long-term guidelines were unchanged during 2017 and 2016. Furthermore, certain sub-asset classes within the respective portfolios were further defined and dollar limitations were placed on these sub-portfolios. These guidelines and limits are reviewed quarterly and approved annually by the Enterprise Risk Committee of the Corporation’s Board of Directors. These guidelines and limits are designed to create balance and diversification within the loan portfolios.
Credit Risk
An active credit risk management process is used for commercial loans to ensure that sound and consistent credit decisions are made. Credit risk is controlled by detailed underwriting procedures, comprehensive loan administration, and periodic review of borrowers’ outstanding loans and commitments. Borrower relationships are formally reviewed and graded on an ongoing basis for early identification of potential problems. Further analysis by customer, industry, and geographic location are performed to monitor trends, financial performance, and concentrations. See Note 4 Loans for additional information on managing overall credit quality.
The loan portfolio is widely diversified by types of borrowers, industry groups, and market areas within our branch footprint. Significant loan concentrations are considered to exist when there are amounts loaned to numerous borrowers engaged in similar activities that would cause them to be similarly impacted by economic or other conditions. At December 31, 2017, no significant concentrations existed in the Corporation’s loan portfolio in excess of 10% of total loans.
Commercial and Business Lending: The commercial and business lending classification primarily includes commercial loans to large corporations, middle market companies, small businesses, and lease financing. At December 31, 2017, the largest industry group within the commercial and business lending category was manufacturing and wholesale trade which represented 9% of total loans and 25% of the total commercial and business lending portfolio. The next largest industry group within the commercial and business lending category was the power and utilities portfolio, which represented 5% of total loans and represented 14% of the total commercial and business lending portfolio at December 31, 2017. The remaining commercial and business lending portfolio is spread over a diverse range of industries, none of which exceed 5% of total loans. The credit risk related to commercial loans is largely influenced by general economic conditions and the resulting impact on a borrower’s operations or on the value of underlying collateral, if any. Currently, a higher risk segment of the commercial and business lending portfolio is loans to borrowers supporting oil and gas exploration and production, which are further discussed under Oil and Gas Lending below.
Oil and Gas Lending: The Corporation provides reserve based loans to oil and gas exploration and production firms. At December 31, 2017, the oil and gas portfolio was comprised of 56 credits, totaling $600 million of outstanding balances. The Corporation's oil and gas lending team is based in Houston and focuses on serving the funding needs of small and mid-sized companies in the upstream oil and gas business. The oil and gas loans are generally first lien, reserve-based, and borrowing base dependent lines of credit. A small portion of the portfolio is in a second lien position to which the Corporation also holds the first lien position. The portfolio is diversified across all major U.S. geographic basins. The portfolio is supported by both oil and gas collateral, with approximately 58% of the collateral in oil and 42% in gas at December 31, 2017. Borrowing base re-determinations for the portfolio are completed at least twice a year and are based on detailed engineering reports and discounted cash flow analysis.
The following table summarizes information about the Corporation's oil and gas loan portfolio.
Table 8 Oil and Gas Loan Portfolio
Years Ended December 31, | |||||||||||||||
2017 | 2016 | 2015 | 2014 | 2013 | |||||||||||
($ in Millions) | |||||||||||||||
Pass | $ | 483 | $ | 426 | $ | 522 | $ | 725 | $ | 491 | |||||
Special mention | — | 20 | 86 | 29 | — | ||||||||||
Potential problem | 40 | 75 | 124 | — | — | ||||||||||
Nonaccrual | 77 | 147 | 20 | — | — | ||||||||||
Total oil and gas related loans | $ | 600 | $ | 668 | $ | 752 | $ | 754 | $ | 491 | |||||
Annual net charge offs | $ | 25 | $ | 59 | $ | — | $ | — | $ | — | |||||
Oil and gas related allowance | $ | 27 | $ | 38 | $ | 42 | $ | 17 | $ | 7 | |||||
Oil and gas related allowance ratio | 4.5 | % | 5.7 | % | 5.6 | % | 2.3 | % | 1.4 | % | |||||
During 2016, lower market pricing and increased market volatility led to downward credit migration within the portfolio. However, the market stabilized during 2017 leading to improvements across the oil and gas portfolio. At December 31, 2017, nonaccrual oil and gas related loans totaled approximately $77 million, representing 13% of the oil and gas loan portfolio, a decrease of $70 million from December 31, 2016.
40
Commercial Real Estate - Investor: Commercial real estate-investor is comprised of loans secured by various non-owner occupied or investor income producing property types. At December 31, 2017, the largest property type exposures within the commercial real estate-investor portfolio were loans secured by multi-family properties which represented 5% of total loans and 29% of the total commercial real estate-investor portfolio and loans secured by retail properties which represented of 4% total loans and 28%of the total commercial real estate-investor portfolio. The remaining commercial real estate-investor portfolio was spread over various other property types, none of which exceeded 4% of total loans. Of the exposure in the Corporation's commercial real estate retailer portfolio, our largest tenant exposure is less than 5%, spread over six loans, to a national investment grade grocer. Credit risk is managed in a similar manner to commercial and business lending by employing sound underwriting guidelines, lending primarily to borrowers in local markets and businesses, periodically evaluating the underlying collateral, and formally reviewing the borrower’s financial soundness and relationship on an ongoing basis.
Real Estate Construction: Real estate construction loans are primarily short-term or interim loans that provide financing for the acquisition or development of commercial income properties, multi-family projects or residential development, both single family and condominium. Real estate construction loans are made to developers and project managers who are generally well known to the Corporation and have prior successful project experience. The credit risk associated with real estate construction loans is generally confined to specific geographic areas but is also influenced by general economic conditions. The Corporation controls the credit risk on these types of loans by making loans in familiar markets to developers, reviewing the merits of individual projects, controlling loan structure, and monitoring project progress and construction advances.
The Corporation’s current lending standards for commercial real estate and real estate construction lending are determined by property type and specifically address many criteria, including: maximum loan amounts, maximum loan-to-value (“LTV”), requirements for pre-leasing and / or pre-sales, minimum borrower equity, and maximum loan-to-cost. Currently, the maximum standard for LTV is 80%, with lower limits established for certain higher risk types, such as raw land which has a 50% LTV maximum. The Corporation’s LTV guidelines are more conservative than regulatory supervisory limits. In most cases, for real estate construction loans, the loan amounts include interest reserves, which are built into the loans and sized to fund loan payments through construction and lease up and / or sell out.
Table 9 Commercial Loan Distribution and Interest Rate Sensitivity
December 31, 2017 | Within 1 Year (a) | 1-5 Years | After 5 Years | Total | % of Total | |||||||||
($ in Thousands) | ||||||||||||||
Commercial and industrial | $ | 5,762,150 | $ | 436,013 | $ | 201,530 | $ | 6,399,693 | 53 | % | ||||
Commercial real estate — investor | 2,569,346 | 684,888 | 61,020 | 3,315,254 | 28 | % | ||||||||
Commercial real estate — owner occupied | 386,161 | 285,742 | 130,306 | 802,209 | 7 | % | ||||||||
Real estate construction | 1,344,754 | 76,803 | 30,127 | 1,451,684 | 12 | % | ||||||||
Total | $ | 10,062,411 | $ | 1,483,446 | $ | 422,983 | $ | 11,968,840 | 100 | % | ||||
Fixed rate | $ | 4,308,458 | $ | 712,182 | $ | 317,574 | $ | 5,338,214 | 45 | % | ||||
Floating or adjustable rate | 5,753,953 | 771,264 | 105,409 | 6,630,626 | 55 | % | ||||||||
Total | $ | 10,062,411 | $ | 1,483,446 | $ | 422,983 | $ | 11,968,840 | 100 | % | ||||
Percent by maturity distribution | 84 | % | 12 | % | 4 | % | 100 | % | ||||||
(a) | Demand loans, past due loans, and overdrafts are reported in the “Within 1 Year” category. |
The total commercial loans that were floating or adjustable rate was $6.6 billion (55%) at December 31, 2017. Including the $4.3 billion of fixed rate loans due within one year, 91% of the commercial loan portfolio noted above matures, re-prices or resets within one year.
Residential Mortgage: Residential mortgage loans are primarily first lien home mortgages with a maximum loan to collateral value without credit enhancement (e.g., private mortgage insurance) of 80%. At December 31, 2017, the residential mortgage portfolio was comprised of $2.6 billion of fixed-rate residential real estate mortgages and $4.9 billion of variable-rate residential real estate mortgages, compared to $1.8 billion of fixed-rate mortgages and $4.5 billion variable-rate mortgages at December 31, 2016. The residential mortgage portfolio is focused primarily in our three-state branch footprint, with approximately 88% of the outstanding loan balances in our branch footprint at December 31, 2017. The majority of the on balance sheet residential mortgage portfolio consists of hybrid, adjustable rate mortgage loans with initial fixed rate terms of 3, 5, 7, or 10 years.
41
Based upon outstanding balances at December 31, 2017, the following table presents the next contractual repricing year for the Corporation's adjustable rate mortgage portfolio.
Table 10 Adjustable Rate Mortgage Repricing (a)
$ in Thousands | % to Total | ||||
2018 | $ | 579,436 | 12 | % | |
2019 | 439,737 | 9 | % | ||
2020 | 617,670 | 13 | % | ||
2021 | 726,683 | 15 | % | ||
2022 | 786,376 | 16 | % | ||
Thereafter | 1,768,596 | 36 | % | ||
Total adjustable rate mortgates | $ | 4,918,498 | 100 | % | |
(a) | Based on contractual loan terms for 3/1, 5/1, 7/1, and 10/1 adjustable rate mortgages; does not factor in early prepayments or amortization |
The Corporation generally retains certain fixed-rate residential real estate mortgages in its loan portfolio, including retail and private banking jumbo mortgages and CRA-related mortgages. As part of management's historical practice of originating and servicing residential mortgage loans, generally the Corporation's 30 year, agency conforming, fixed-rate residential real estate mortgage loans have been sold in the secondary market with the servicing rights retained. Subject to management's analysis of the current interest rate environment, among other market factors, the Corporation may choose to retain 30 year mortgage loan production on its balance sheet.
The Corporation’s underwriting and risk-based pricing guidelines for residential mortgage loans include minimum borrower FICO and maximum LTV of the property securing the loan. Residential mortgage products generally are underwritten using Federal Home Loan Mortgage Corporation (“FHLMC”) and Federal National Mortgage Association (“FNMA”) secondary marketing guidelines.
Home Equity: Home equity consists of both home equity lines of credit and closed-end home equity loans. Approximately 25% are first lien positions. Home equity loans and lines in a junior position at December 31, 2017 included approximately 50% for which the Corporation also owned or serviced the related first lien loan and approximately 50% where the Corporation did not service the related first lien loan.
The Corporation’s credit risk monitoring guidelines for home equity is based on an ongoing review of loan delinquency status, as well as a quarterly review of FICO score deterioration and property devaluation. The Corporation does not routinely obtain appraisals on performing loans to update LTV ratios after origination; however, the Corporation monitors the local housing markets by reviewing the various home price indices and incorporates the impact of the changing market conditions in its ongoing credit monitoring process. For junior lien home equity loans, the Corporation is unable to track the performance of the first lien loan if it does not own or service the first lien loan. However, the Corporation obtains a refreshed FICO score on a quarterly basis and monitors this as part of its assessment of the home equity portfolio.
The Corporation’s underwriting and risk-based pricing guidelines for home equity lines and loans consist of a combination of both borrower FICO and the original cumulative LTV against the property securing the loan. Currently, our policy sets the maximum acceptable LTV at 90% and the minimum acceptable FICO at 670. The Corporation's current home equity line of credit offering is priced based on floating rate indices and generally allows 10 years of interest-only payments followed by a 20-year amortization of the outstanding balance. The Corporation has significantly curtailed its offerings of fixed-rate, closed end home equity loans. The loans in the Corporation's portfolio generally have an original term of 20 years with principal and interest payments required.
Based upon outstanding balances at December 31, 2017, the following table presents the periods when home equity lines of credit revolving periods are scheduled to end.
Table 11 Home Equity Line of Credit - Revolving Period End Dates
$ in Thousands | % to Total | ||||
Less than 5 years | $ | 60,589 | 7 | % | |
5 to 10 years | 210,263 | 26 | % | ||
Over 10 years | 541,370 | 67 | % | ||
Total home equity revolving lines of credit | $ | 812,222 | 100 | % | |
Other Consumer: Other consumer consists of student loans, as well as short-term and other personal installment loans and credit cards. The Corporation had $183 million and $214 million of student loans at December 31, 2017, and December 31, 2016,
42
respectively, the majority of which are government guaranteed. Credit risk for non-government guaranteed student, short-term and personal installment loans and credit cards is influenced by general economic conditions, the characteristics of individual borrowers, and the nature of the loan collateral. Risks of loss are generally on smaller average balances per loan spread over many borrowers. Once charged off, there is usually less opportunity for recovery of these smaller consumer loans. Credit risk is primarily controlled by reviewing the creditworthiness of the borrowers, monitoring payment histories, and taking appropriate collateral and guarantee positions. The student loan portfolio is in run-off and no new student loans are being originated.
Nonperforming Assets
Management is committed to a proactive nonaccrual and problem loan identification philosophy. This philosophy is implemented through the ongoing monitoring and review of all pools of risk in the loan portfolio to ensure that problem loans are identified quickly and the risk of loss is minimized. The following table provides detailed information regarding nonperforming assets.
Table 12 Nonperforming Assets
As of December 31, | |||||||||||||||
2017 | 2016 | 2015 | 2014 | 2013 | |||||||||||
($ in Thousands) | |||||||||||||||
Nonperforming assets by type | |||||||||||||||
Commercial and industrial | $ | 112,786 | $ | 183,371 | $ | 93,575 | $ | 51,464 | $ | 37,788 | |||||
Commercial real estate — owner occupied | 22,740 | 9,544 | 8,049 | 25,825 | 29,664 | ||||||||||
Commercial and business lending | 135,526 | 192,915 | 101,624 | 77,289 | 67,452 | ||||||||||
Commercial real estate — investor | 4,729 | 18,051 | 8,643 | 22,685 | 37,596 | ||||||||||
Real estate construction | 974 | 844 | 940 | 5,399 | 6,467 | ||||||||||
Commercial real estate lending | 5,703 | 18,895 | 9,583 | 28,084 | 44,063 | ||||||||||
Total commercial | 141,229 | 211,810 | 111,207 | 105,373 | 111,515 | ||||||||||
Residential mortgage | 53,632 | 50,236 | 51,482 | 54,976 | 53,767 | ||||||||||
Home equity | 13,514 | 13,001 | 15,244 | 16,451 | 19,032 | ||||||||||
Other consumer | 171 | 256 | 325 | 613 | 1,114 | ||||||||||
Total consumer | 67,317 | 63,493 | 67,051 | 72,040 | 73,913 | ||||||||||
Total nonaccrual loans (“NALs”) | 208,546 | 275,303 | 178,258 | 177,413 | 185,428 | ||||||||||
Commercial real estate owned | 6,735 | 7,176 | 7,942 | 11,699 | 8,359 | ||||||||||
Residential real estate owned | 5,873 | 3,098 | 4,768 | 4,111 | 5,217 | ||||||||||
Bank properties real estate owned | — | — | 1,859 | 922 | 4,542 | ||||||||||
OREO | 12,608 | 10,274 | 14,569 | 16,732 | 18,118 | ||||||||||
Other nonperforming assets | 7,418 | 7,418 | — | — | — | ||||||||||
Total nonperforming assets (“NPAs”) | $ | 228,572 | $ | 292,995 | $ | 192,827 | $ | 194,145 | $ | 203,546 | |||||
Accruing loans past due 90 days or more | |||||||||||||||
Commercial | $ | 418 | $ | 236 | $ | 249 | $ | 254 | $ | 1,199 | |||||
Consumer | 1,449 | 1,377 | 1,399 | 1,369 | 1,151 | ||||||||||
Total accruing loans past due 90 days or more | $ | 1,867 | $ | 1,613 | $ | 1,648 | $ | 1,623 | $ | 2,350 | |||||
Restructured loans (accruing) | |||||||||||||||
Commercial | $ | 48,735 | $ | 53,022 | $ | 59,595 | $ | 68,200 | $ | 94,265 | |||||
Consumer | 25,883 | 26,835 | 27,768 | 30,016 | 29,720 | ||||||||||
Total restructured loans (accruing) | $ | 74,618 | $ | 79,857 | $ | 87,363 | $ | 98,216 | $ | 123,985 | |||||
Nonaccrual restructured loans (included in nonaccrual loans) | $ | 23,486 | $ | 29,385 | $ | 37,684 | $ | 57,656 | $ | 59,585 | |||||
Ratios at year end | |||||||||||||||
Nonaccrual loans to total loans | 1.00 | % | 1.37 | % | 0.95 | % | 1.01 | % | 1.17 | % | |||||
NPAs to total loans plus OREO | 1.10 | % | 1.46 | % | 1.03 | % | 1.10 | % | 1.28 | % | |||||
NPAs to total assets | 0.75 | % | 1.01 | % | 0.70 | % | 0.72 | % | 0.84 | % | |||||
Allowance for loan losses to nonaccrual loans | 127 | % | 101 | % | 154 | % | 150 | % | 145 | % | |||||
43
Table 12 Nonperforming Assets (continued)
Years Ended December 31, | |||||||||||||||
2017 | 2016 | 2015 | 2014 | 2013 | |||||||||||
($ in Thousands) | |||||||||||||||
Accruing loans 30-89 days past due by type | |||||||||||||||
Commercial and industrial | $ | 271 | $ | 1,413 | $ | 1,011 | $ | 14,747 | $ | 6,826 | |||||
Commercial real estate — owner occupied | 48 | 1,384 | 7,142 | 10,628 | 3,106 | ||||||||||
Commercial and business lending | 319 | 2,797 | 8,153 | 25,375 | 9,932 | ||||||||||
Commercial real estate — investor | 374 | 931 | 291 | 1,208 | 23,215 | ||||||||||
Real estate construction | 251 | 369 | 296 | 984 | 1,954 | ||||||||||
Commercial real estate lending | 625 | 1,300 | 587 | 2,192 | 25,169 | ||||||||||
Total commercial | 944 | 4,097 | 8,740 | 27,567 | 35,101 | ||||||||||
Residential mortgage | 9,552 | 8,142 | 4,930 | 4,846 | 7,228 | ||||||||||
Home equity | 6,825 | 5,849 | 7,919 | 8,783 | 9,570 | ||||||||||
Other consumer | 2,007 | 3,189 | 1,870 | 1,932 | 1,150 | ||||||||||
Total consumer | 18,384 | 17,180 | 14,719 | 15,561 | 17,948 | ||||||||||
Total accruing loans 30-89 days past due | $ | 19,328 | $ | 21,277 | $ | 23,459 | $ | 43,128 | $ | 53,049 | |||||
Potential problem loans by type | |||||||||||||||
Commercial and industrial | $ | 113,778 | $ | 227,196 | $ | 233,130 | $ | 111,231 | $ | 115,453 | |||||
Commercial real estate — owner occupied | 41,997 | 64,524 | 35,706 | 48,695 | 56,789 | ||||||||||
Commercial and business lending | 155,775 | 291,720 | 268,836 | 159,926 | 172,242 | ||||||||||
Commercial real estate — investor | 19,291 | 51,228 | 25,944 | 24,043 | 52,429 | ||||||||||
Real estate construction | — | 2,465 | 3,919 | 1,776 | 5,263 | ||||||||||
Commercial real estate lending | 19,291 | 53,693 | 29,863 | 25,819 | 57,692 | ||||||||||
Total commercial | 175,066 | 345,413 | 298,699 | 185,745 | 229,934 | ||||||||||
Residential mortgage | 1,616 | 5,615 | 2,796 | 3,781 | 3,312 | ||||||||||
Home equity | 195 | 114 | 222 | 880 | 2,113 | ||||||||||
Other consumer | — | — | — | 2 | 50 | ||||||||||
Total consumer | 1,811 | 5,729 | 3,018 | 4,663 | 5,475 | ||||||||||
Total potential problem loans | $ | 176,877 | $ | 351,142 | $ | 301,717 | $ | 190,408 | $ | 235,409 | |||||
Nonaccrual Loans: Nonaccrual loans are considered to be one indicator of potential future loan losses. The ratio of nonaccrual loans to total loans at December 31, 2017 was 1.00%, as compared to 1.37% at December 31, 2016. See management’s accounting policy for nonaccrual loans in Note 1 Summary of Significant Accounting Policies and Note 4 Loans of the notes to consolidated financial statements for additional nonaccrual loan disclosures.
Accruing Loans Past Due 90 Days or More: Loans past due 90 days or more but still accruing interest are classified as such where the underlying loans are both well secured (the collateral value is sufficient to cover principal and accrued interest) and are in the process of collection. Accruing loans 90 days or more past due at December 31, 2017 were relatively unchanged from December 31, 2016.
Restructured Loans: Loans are considered restructured loans if concessions have been granted to borrowers that are experiencing financial difficulty. See also Note 4 Loans, of the notes to consolidated financial statements for additional restructured loans disclosures.
Potential Problem Loans: The level of potential problem loans is another predominant factor in determining the relative level of risk in the loan portfolio and in determining the appropriate level of the allowance for loan losses. Potential problem loans are generally defined by management to include loans rated as substandard by management but that are not considered impaired (i.e., nonaccrual loans and accruing troubled debt restructurings); however, there are circumstances present to create doubt as to the ability of the borrower to comply with present repayment terms. The decision of management to include performing loans in potential problem loans does not necessarily mean that the Corporation expects losses to occur, but that management recognizes a higher degree of risk associated with these loans.
OREO: Management actively seeks to ensure OREO properties held are monitored to minimize the Corporation's risk of loss.
44
Other Nonperforming Assets: Other nonperforming assets at December 31, 2017 were unchanged from December 31, 2016. The asset represents the Bank’s ownership interest in a profit participation agreement in an entity created to own certain oil and gas assets obtained as a result of the bankruptcy and liquidation of borrower in partial satisfaction of their loan.
Foregone Loan Interest: The following table shows, for those loans accounted for on a nonaccrual basis and restructured loans for the years ended as indicated, the approximate gross interest that would have been recorded if the loans had been current in accordance with their original terms and the amount of interest income that was included in interest income for the period.
Table 13 Foregone Loan Interest
Years Ended December 31, | |||||||||
2017 | 2016 | 2015 | |||||||
($ in Thousands) | |||||||||
Interest income in accordance with original terms | $ | 16,205 | $ | 16,811 | $ | 11,745 | |||
Interest income recognized | (9,339 | ) | (10,228 | ) | (8,716 | ) | |||
Reduction in interest income | $ | 6,866 | $ | 6,583 | $ | 3,029 | |||
Allowance for Credit Losses
Credit risks within the loan portfolio are inherently different for each loan type. Credit risk is controlled and monitored through the use of lending standards, a thorough review of potential borrowers, and ongoing review of loan payment performance. Active asset quality administration, including early problem loan identification and timely resolution of problems, aids in the management of credit risk and minimization of loan losses. Credit risk management for each loan type is discussed briefly in the section entitled Credit Risk.
The allowance for credit losses is comprised of the allowance for loan losses and the allowance for unfunded commitments. The level of the allowance for loan losses represents management’s estimate of an amount appropriate to provide for probable credit losses in the loan portfolio at the balance sheet date. The allowance for unfunded commitments is maintained at a level believed by management to be sufficient to absorb estimated probable losses related to unfunded credit facilities (including unfunded loan commitments and letters of credit) and is included in accrued expenses and other liabilities on the consolidated balance sheets.
The Corporation’s allowance for loan losses methodology considers an estimate of the historical loss emergence period (which is the period of time between the event that triggers a loss and the confirmation and / or charge off of that loss), probability of default, and loss given default for each loan portfolio segment. To assess the appropriateness of the allowance for loan losses, an allocation methodology is applied by the Corporation which focuses on evaluation of many factors, including but not limited to: evaluation of facts and issues related to specific loans, management’s ongoing review and grading of the loan portfolio, consideration of historical loan loss and delinquency experience on each portfolio category, trends in past due and nonaccrual loans, the level of potential problem loans, the risk characteristics of the various classifications of loans, changes in the size and character of the loan portfolio, concentrations of loans to specific borrowers or industries, existing economic conditions, the fair value of underlying collateral, and other qualitative and quantitative factors which could affect potential credit losses. Assessing these factors involves significant judgment. Because each of the criteria used is subject to change, the allowance for loan losses is not necessarily indicative of the trend of future loan losses in any particular category. Therefore, management considers the allowance for loan losses a critical accounting policy (see section Critical Accounting Policies). See section, Nonperforming Assets, for a detailed discussion on asset quality. See also management’s allowance for loan losses accounting policy in Note 1 Summary of Significant Accounting Policies and see Note 4 Loans of the notes to consolidated financial statements for additional allowance for loan losses disclosures. Table 7 provides information on loan growth and composition, Tables 14 and 16 provide additional information regarding activity in the allowance for loan losses, and Table 12 provides additional information regarding nonperforming assets.
The methodology used for the allocation of the allowance for loan losses at December 31, 2017, 2016, and 2015 was generally comparable, whereby the Corporation segregated its loss factors (used for both criticized and non-criticized loans) into a component primarily based on historical loss rates and a component primarily based on other qualitative factors that are probable to affect loan collectability. The allocation methodology consists of the following components: First, a valuation allowance estimate is established for specifically identified commercial and consumer loans determined by the Corporation to be impaired, using discounted cash flows, estimated fair value of underlying collateral, and / or other data available. Second, management allocates the allowance for loan losses with loss factors, for criticized loan pools by loan type as well as for non-criticized loan pools by loan type, primarily based on historical loss rates after considering loan type, historical loss and delinquency experience, and industry statistics. Loans that have been criticized are considered to have a higher risk of default than non-criticized loans, as circumstances were present to support the lower loan grade, warranting higher loss factors. The loss factors applied in the methodology are periodically re-evaluated and adjusted to reflect changes in historical loss levels or other risks. Lastly, management allocates allowance for loan losses to absorb unrecognized losses that may not be provided for by the other components due to
45
other factors evaluated by management, such as limitations within the credit risk grading process, known current economic or business conditions that may not yet show in trends, industry or other concentrations with current issues that impose higher inherent risks than are reflected in the loss factors, and other relevant considerations. The total allowance is available to absorb losses from any segment of the loan portfolio. The allocation of the Corporation’s allowance for loan losses for the last five years is shown in Table 16.
During the second quarter of 2016, in conjunction with the annual stress testing processes and continual review of the allowance for loan losses methodology, the Corporation further segmented its commercial and industrial loan portfolio into more refined risk categories. Specifically, the Corporation isolated certain mortgage warehouse lines structured as repurchase facilities as we own the underlying mortgage loan; thus, the inherent risk is lower in these transactions. As a result, the loss factors for these mortgage warehouse lines were updated to align more closely with those of similar portfolio mortgage loans, resulting in a $6 million reduction to the allowance for credit losses during the second quarter of 2016.
46
Table 14 Allowance for Credit Losses
Years Ended December 31, | |||||||||||||||
2017 | 2016 | 2015 | 2014 | 2013 | |||||||||||
($ in Thousands) | |||||||||||||||
Allowance for loan losses | |||||||||||||||
Balance at beginning of period | $ | 278,335 | $ | 274,264 | $ | 266,302 | $ | 268,315 | $ | 297,409 | |||||
Provision for loan losses | 27,000 | 69,000 | 38,000 | 13,000 | 10,000 | ||||||||||
Loans charged off | |||||||||||||||
Commercial and industrial | (44,533 | ) | (71,016 | ) | (27,687 | ) | (14,672 | ) | (35,352 | ) | |||||
Commercial real estate — owner occupied | (344 | ) | (512 | ) | (2,645 | ) | (3,476 | ) | (6,474 | ) | |||||
Commercial and business lending | (44,877 | ) | (71,528 | ) | (30,332 | ) | (18,148 | ) | (41,826 | ) | |||||
Commercial real estate — investor | (991 | ) | (1,504 | ) | (4,645 | ) | (4,529 | ) | (9,846 | ) | |||||
Real estate construction | (604 | ) | (558 | ) | (750 | ) | (1,958 | ) | (3,375 | ) | |||||
Commercial real estate lending | (1,595 | ) | (2,062 | ) | (5,395 | ) | (6,487 | ) | (13,221 | ) | |||||
Total commercial | (46,472 | ) | (73,590 | ) | (35,727 | ) | (24,635 | ) | (55,047 | ) | |||||
Residential mortgage | (2,611 | ) | (4,332 | ) | (5,636 | ) | (5,639 | ) | (13,755 | ) | |||||
Home equity | (2,724 | ) | (4,686 | ) | (7,048 | ) | (10,946 | ) | (17,870 | ) | |||||
Other consumer | (4,439 | ) | (3,831 | ) | (3,869 | ) | (2,876 | ) | (1,389 | ) | |||||
Total consumer | (9,774 | ) | (12,849 | ) | (16,553 | ) | (19,461 | ) | (33,014 | ) | |||||
Total loans charged off | (56,246 | ) | (86,439 | ) | (52,280 | ) | (44,096 | ) | (88,061 | ) | |||||
Recoveries of loans previously charged off | |||||||||||||||
Commercial and industrial | 11,465 | 14,543 | 9,821 | 11,397 | 29,083 | ||||||||||
Commercial real estate — owner occupied | 173 | 74 | 921 | 1,806 | 339 | ||||||||||
Commercial and business lending | 11,638 | 14,617 | 10,742 | 13,203 | 29,422 | ||||||||||
Commercial real estate — investor | 242 | 1,624 | 4,157 | 9,996 | 6,961 | ||||||||||
Real estate construction | 74 | 203 | 2,268 | 816 | 5,511 | ||||||||||
Commercial real estate lending | 316 | 1,827 | 6,425 | 10,812 | 12,472 | ||||||||||
Total commercial | 11,954 | 16,444 | 17,167 | 24,015 | 41,894 | ||||||||||
Residential mortgage | 927 | 755 | 1,077 | 1,252 | 1,332 | ||||||||||
Home equity | 3,194 | 3,491 | 3,233 | 3,200 | 4,108 | ||||||||||
Other consumer | 716 | 820 | 765 | 616 | 1,633 | ||||||||||
Total consumer | 4,837 | 5,066 | 5,075 | 5,068 | 7,073 | ||||||||||
Total recoveries | 16,791 | 21,510 | 22,242 | 29,083 | 48,967 | ||||||||||
Net charge offs | (39,455 | ) | (64,929 | ) | (30,038 | ) | (15,013 | ) | (39,094 | ) | |||||
Balance at end of period | $ | 265,880 | $ | 278,335 | $ | 274,264 | $ | 266,302 | $ | 268,315 | |||||
Allowance for unfunded commitments | |||||||||||||||
Balance at beginning of period | $ | 25,400 | $ | 24,400 | $ | 24,900 | $ | 21,900 | $ | 21,800 | |||||
Provision for unfunded commitments | (1,000 | ) | 1,000 | (500 | ) | 3,000 | 100 | ||||||||
Balance at end of period | $ | 24,400 | $ | 25,400 | $ | 24,400 | $ | 24,900 | $ | 21,900 | |||||
Allowance for credit losses (a) | $ | 290,280 | $ | 303,735 | $ | 298,664 | $ | 291,202 | $ | 290,215 | |||||
Provision for credit losses (b) | $ | 26,000 | $ | 70,000 | $ | 37,500 | $ | 16,000 | $ | 10,100 | |||||
47
Table 14 Allowance for Credit Losses (continued)
Years Ended December 31, | |||||||||||||||
2017 | 2016 | 2015 | 2014 | 2013 | |||||||||||
($ in Thousands) | |||||||||||||||
Net loan (charge offs) recoveries | |||||||||||||||
Commercial and industrial | $ | (33,068 | ) | $ | (56,473 | ) | $ | (17,866 | ) | $ | (3,275 | ) | $ | (6,269 | ) |
Commercial real estate — owner occupied | (171 | ) | (438 | ) | (1,724 | ) | (1,670 | ) | (6,135 | ) | |||||
Commercial and business lending | (33,239 | ) | (56,911 | ) | (19,590 | ) | (4,945 | ) | (12,404 | ) | |||||
Commercial real estate — investor | (749 | ) | 120 | (488 | ) | 5,467 | (2,885 | ) | |||||||
Real estate construction | (530 | ) | (355 | ) | 1,518 | (1,142 | ) | 2,136 | |||||||
Commercial real estate lending | (1,279 | ) | (235 | ) | 1,030 | 4,325 | (749 | ) | |||||||
Total commercial | (34,518 | ) | (57,146 | ) | (18,560 | ) | (620 | ) | (13,153 | ) | |||||
Residential mortgage | (1,684 | ) | (3,577 | ) | (4,559 | ) | (4,387 | ) | (12,423 | ) | |||||
Home equity | 470 | (1,195 | ) | (3,815 | ) | (7,746 | ) | (13,762 | ) | ||||||
Other consumer | (3,723 | ) | (3,011 | ) | (3,104 | ) | (2,260 | ) | 244 | ||||||
Total consumer | (4,937 | ) | (7,783 | ) | (11,478 | ) | (14,393 | ) | (25,941 | ) | |||||
Total net charge offs | $ | (39,455 | ) | $ | (64,929 | ) | $ | (30,038 | ) | $ | (15,013 | ) | $ | (39,094 | ) |
Ratios | |||||||||||||||
Allowance for loan losses to total loans | 1.28 | % | 1.39 | % | 1.47 | % | 1.51 | % | 1.69 | % | |||||
Allowance for loan losses to net charge offs | 6.7x | 4.3x | 9.1x | 17.7x | 6.9x | ||||||||||
(a) | Includes the allowance for loan losses and the allowance for unfunded commitments. |
(b) | Includes the provision for loan losses and the provision for unfunded commitments. |
Table 15 Net (Charge Offs) Recoveries (a)
Years Ended December 31, | ||||||||||
(In Basis Points) | 2017 | 2016 | 2015 | 2014 | 2013 | |||||
Net loan (charge offs) recoveries | ||||||||||
Commercial and industrial | (52 | ) | (87 | ) | (29 | ) | (6 | ) | (13 | ) |
Commercial real estate — owner occupied | (2 | ) | (5 | ) | (18 | ) | (16 | ) | (53 | ) |
Commercial and business lending | (46 | ) | (77 | ) | (28 | ) | (8 | ) | (21 | ) |
Commercial real estate — investor | (2 | ) | N/M | (2 | ) | 18 | (10 | ) | ||
Real estate construction | (3 | ) | (3 | ) | 14 | (12 | ) | 27 | ||
Commercial real estate lending | (3 | ) | N/M | 2 | 11 | (2 | ) | |||
Total commercial | (28 | ) | (47 | ) | (16 | ) | (1 | ) | (14 | ) |
Residential mortgage | (2 | ) | (6 | ) | (8 | ) | (9 | ) | (27 | ) |
Home equity | 5 | (12 | ) | (37 | ) | (73 | ) | (122 | ) | |
Other consumer | (99 | ) | (74 | ) | (72 | ) | (53 | ) | 6 | |
Total consumer | (6 | ) | (10 | ) | (16 | ) | (23 | ) | (42 | ) |
Total net charge offs | (19 | ) | (33 | ) | (16 | ) | (9 | ) | (25 | ) |
(a) | Ratio of net charge offs to average loans by loan type. |
N/M = Not Meaningful
At December 31, 2017, the allowance for credit losses was $290 million, compared to $304 million at December 31, 2016. At December 31, 2017, the allowance for loan losses to total loans was 1.28% and covered 127% of nonaccrual loans, compared to 1.39% and 101%, respectively, at December 31, 2016. Management believes the level of allowance for loan losses to be appropriate at December 31, 2017 and December 31, 2016.
Key contributors to the decrease in the allowance for credit losses and the related provision for credit losses during December 31, 2017 were as follows.
• | At December 31, 2017, net charge offs of $39 million decreased $25 million from the comparable period in December 31, 2016. See Tables 14, 15 and 16 for additional information regarding the activity in the allowance for loan losses. |
48
• | Total loans increased $730 million (4%) from December 31, 2016, primarily driven by a $1.2 billion (15%) increase in total consumer lending. See section Loans for additional information on the changes in the loan portfolio and see section Credit Risk for discussion about credit risk management for each loan type. |
• | Total nonaccrual loans decreased $67 million from December 31, 2016 primarily due to the risk migration of oil and gas related credits. See Table 8 for additional information on the oil and gas portfolio. See also Note 4 Loans of the notes to consolidated financial statements and section Nonperforming Assets for additional disclosures on the changes in asset quality. |
• | Potential problem loans decreased $174 million from December 31, 2016, primarily due to the risk migration on general commercial loans. See Table 12 for additional information on the changes in potential problem loans. |
• | The allowance for loan losses attributable to oil and gas related credits (included within the commercial and industrial allowance for loan losses) was $27 million at December 31, 2017, compared to $38 million at December 31, 2016. See also oil and gas lending within the Credit Risk section for additional information. |
• | The allowance for unfunded commitments of $24 million decreased $1 million from December 31, 2016. |
Table 16 Allocation of the Allowance for Loan Losses
As of December 31, | |||||||||||||||||||||||||
2017 | 2016 | 2015 | 2014 | 2013 | |||||||||||||||||||||
($ in Thousands) | |||||||||||||||||||||||||
(a) | (a) | (a) | (a) | (a) | |||||||||||||||||||||
Commercial and industrial | $ | 123,068 | 1.92 | % | $ | 140,126 | 2.16 | % | $ | 129,959 | 2.10 | % | $ | 117,635 | 1.97 | % | $ | 106,108 | 2.18 | % | |||||
Commercial real estate — owner occupied | 10,352 | 1.29 | % | 14,034 | 1.56 | % | 18,680 | 2.03 | % | 16,510 | 1.64 | % | 19,476 | 1.75 | % | ||||||||||
Commercial and business lending | 133,420 | 1.85 | % | 154,160 | 2.09 | % | 148,639 | 2.09 | % | 134,145 | 1.93 | % | 125,584 | 2.10 | % | ||||||||||
Commercial real estate — investor | 41,059 | 1.24 | % | 45,285 | 1.27 | % | 43,018 | 1.33 | % | 46,333 | 1.52 | % | 58,156 | 1.98 | % | ||||||||||
Real estate construction | 34,370 | 2.37 | % | 26,932 | 1.88 | % | 25,266 | 2.17 | % | 20,999 | 2.08 | % | 23,418 | 2.61 | % | ||||||||||
Commercial real estate lending | 75,429 | 1.58 | % | 72,217 | 1.44 | % | 68,284 | 1.55 | % | 67,332 | 1.66 | % | 81,574 | 2.13 | % | ||||||||||
Total commercial | 208,849 | 1.74 | % | 226,377 | 1.83 | % | 216,923 | 1.89 | % | 201,477 | 1.83 | % | 207,158 | 2.11 | % | ||||||||||
Residential mortgage | 29,607 | 0.39 | % | 27,046 | 0.43 | % | 28,261 | 0.49 | % | 31,926 | 0.63 | % | 30,809 | 0.67 | % | ||||||||||
Home equity | 22,126 | 2.50 | % | 20,364 | 2.18 | % | 23,555 | 2.34 | % | 26,464 | 2.52 | % | 27,932 | 2.58 | % | ||||||||||
Other consumer | 5,298 | 1.37 | % | 4,548 | 1.15 | % | 5,525 | 1.32 | % | 6,435 | 1.42 | % | 2,416 | 0.59 | % | ||||||||||
Total consumer | 57,031 | 0.65 | % | 51,958 | 0.68 | % | 57,341 | 0.80 | % | 64,825 | 0.99 | % | 61,157 | 1.01 | % | ||||||||||
Total allowance for loan losses | $ | 265,880 | 1.28 | % | $ | 278,335 | 1.39 | % | $ | 274,264 | 1.47 | % | $ | 266,302 | 1.51 | % | $ | 268,315 | 1.69 | % | |||||
(a) | Allowance for loan losses category as a percentage of total loans by category. |
Consolidated net income and stockholders’ equity could be affected if management’s estimate of the allowance for loan losses is subsequently materially different, requiring additional or less provision for loan losses to be recorded. Management carefully considers numerous detailed and general factors, its assumptions, and the likelihood of materially different conditions that could alter its assumptions. While management uses currently available information to recognize losses on loans, future adjustments to the allowance for loan losses may be necessary based on newly received appraisals, updated commercial customer financial statements, rapidly deteriorating customer cash flow, and changes in economic conditions that affect our customers. Additionally, larger credit relationships do not inherently create more risk, but can create wider fluctuations in net charge offs and asset quality measures. As an integral part of their examination process, various federal and state regulatory agencies also review the allowance for loan losses. These agencies may require additions to the allowance for loan losses or may require that certain loan balances be charged off or downgraded into criticized loan categories when their credit evaluations differ from those of management, based on their judgments about information available to them at the time of their examination.
49
Investment Securities Portfolio
Management of the investment securities portfolio involves the maximization of income while actively monitoring the portfolio's liquidity, market risk, quality of the investment securities, and its role in balance sheet and capital management. The Corporation classifies its investment securities as available for sale or held to maturity at time of purchase. Securities classified as available for sale may be sold from time to time in order to help manage interest rate risk, liquidity, credit quality, capital levels, or to take advantage of relative value opportunities in the marketplace. Investment securities classified as available for sale are carried at fair value in the consolidated balance sheets, while investment securities classified as held to maturity are carried at amortized cost in the consolidated balance sheets. The majority of the Corporation's investment securities are mortgage-related securities issued by the Government National Mortgage Association (“GNMA”) or GSEs such as FNMA and FHLMC.
Table 17 Investment Securities Portfolio
At December 31, | |||||||||||||||
2017 | % of Total | 2016 | % of Total | 2015 | % of Total | ||||||||||
($ in Thousands) | |||||||||||||||
Investment Securities Available for sale | |||||||||||||||
Amortized Cost | |||||||||||||||
U.S. Treasury securities | $ | 1,003 | <1% | $ | 1,000 | <1% | $ | 999 | <1% | ||||||
Residential mortgage-related securities | |||||||||||||||
FNMA / FHLMC | 457,680 | 11 | % | 625,234 | 13 | % | 1,388,995 | 28 | % | ||||||
GNMA | 1,944,453 | 47 | % | 2,028,301 | 43 | % | 1,605,956 | 32 | % | ||||||
Private-label | 1,067 | <1% | 1,134 | <1% | 1,722 | <1% | |||||||||
GNMA commercial mortgage-related securities | 1,547,173 | 38 | % | 2,064,508 | 44 | % | 1,982,477 | 40 | % | ||||||
Federal Family Education Loan Program ("FFELP") asset-backed securities | 144,322 | 4 | % | — | — | — | — | ||||||||
Other securities (debt and equity) | 4,719 | <1% | 4,718 | <1% | 4,718 | <1% | |||||||||
Total amortized cost | $ | 4,100,417 | 100 | % | $ | 4,724,895 | 100 | % | $ | 4,984,867 | 100 | % | |||
Fair Value | |||||||||||||||
U.S. Treasury securities | $ | 996 | <1% | $ | 1,000 | <1% | $ | 997 | <1% | ||||||
Residential mortgage-related securities | |||||||||||||||
FNMA / FHLMC | 464,768 | 11 | % | 639,930 | 14 | % | 1,414,626 | 28 | % | ||||||
GNMA | 1,913,350 | 47 | % | 2,004,475 | 43 | % | 1,590,003 | 32 | % | ||||||
Private-label | 1,059 | <1% | 1,121 | <1% | 1,709 | <1% | |||||||||
GNMA commercial mortgage-related securities | 1,513,277 | 37 | % | 2,028,898 | 43 | % | 1,955,310 | 39 | % | ||||||
FFELP asset-backed securities | 145,176 | 4 | % | — | — | — | — | ||||||||
Other securities (debt and equity) | 4,820 | <1% | 4,802 | <1% | 4,769 | <1% | |||||||||
Total fair value and carrying value | $ | 4,043,446 | 100 | % | $ | 4,680,226 | 100 | % | $ | 4,967,414 | 100 | % | |||
Net unrealized holding gains (losses) | $ | (56,971 | ) | $ | (44,669 | ) | $ | (17,453 | ) | ||||||
Investment Securities Held to maturity | |||||||||||||||
Amortized Cost | |||||||||||||||
Obligations of state and political subdivisions (municipal securities) | $ | 1,281,320 | 56 | % | $ | 1,145,843 | 90 | % | $ | 1,043,767 | 89 | % | |||
Residential mortgage-related securities | |||||||||||||||
FNMA / FHLMC | 40,995 | 2 | % | 37,697 | 3 | % | 41,469 | 4 | % | ||||||
GNMA | 414,440 | 18 | % | 89,996 | 7 | % | 82,994 | 7 | % | ||||||
GNMA commercial mortgage-related securities | 546,098 | 24 | % | — | — | — | — | ||||||||
Total amortized cost and carrying value | $ | 2,282,853 | 100 | % | $ | 1,273,536 | 100 | % | $ | 1,168,230 | 100 | % | |||
Fair Value | |||||||||||||||
Obligations of state and political subdivisions (municipal securities) | $ | 1,292,042 | 56 | % | $ | 1,137,675 | 90 | % | $ | 1,060,231 | 90 | % | |||
Residential mortgage-related securities | |||||||||||||||
FNMA / FHLMC | 40,904 | 2 | % | 37,443 | 3 | % | 41,337 | 3 | % | ||||||
GNMA | 410,740 | 18 | % | 89,556 | 7 | % | 82,874 | 7 | % | ||||||
GNMA commercial mortgage-related securities | 539,888 | 24 | % | — | — | — | — | ||||||||
Total fair value | $ | 2,283,574 | 100 | % | $ | 1,264,674 | 100 | % | $ | 1,184,442 | 100 | % | |||
Net unrealized holding gains (losses) | $ | 721 | $ | (8,862 | ) | $ | 16,212 | ||||||||
50
During 2017, the Corporation purchased approximately $144 million of FFELP asset backed securities, which are collateralized with government guaranteed student loans.
At December 31, 2017, the Corporation’s investment securities portfolio did not contain securities of any single non-government or non-GSE issuer that were payable from and secured by the same source of revenue or taxing authority where the aggregate carrying value of such securities exceeded 5% of stockholders’ equity or approximately $162 million.
The Corporation did not recognize any credit-related other-than-temporary impairment write-downs during 2017, 2016, or 2015. See Note 1 Summary of Significant Accounting Policies for management's accounting policy for investment securities and Note 3 Investment Securities of the notes to consolidated financial statements for additional investment securities disclosures.
Available for Sale
Residential and Commercial Mortgage-Related Securities: Residential mortgage-related securities include predominantly FNMA and FHLMC mortgage-backed securities and collateralized mortgage obligations. The commercial mortgage-related securities are GNMA securities. The fair value of mortgage-related securities is subject to inherent risks based upon the future performance of the underlying collateral (i.e., mortgage loans) for these securities, such as prepayment risk and interest rate changes. The Corporation regularly assesses valuation and credit quality underlying these securities.
Asset Backed Securities: Assets backed securities are comprised of government guaranteed FFELP securities.
Other Securities (Debt and Equity): Other securities are primarily comprised of debt securities that mature within 3 years and have a rating of A.
Held to Maturity
Municipal Securities: The municipal securities relate to various state and political subdivisions and school districts. The municipal securities portfolio is regularly assessed for credit quality and deterioration.
Residential Mortgage-Related Securities: The mortgage-related securities in held to maturity were comprised of select CRA mortgage-backed securities and select collateralized mortgage obligations.
Commercial Mortgage-Related Securities: The commercial mortgage-related securities are classified in held to maturity when a component qualifies for CRA purposes.
Regulatory Stock (Federal Home Loan Bank "FHLB" and Federal Reserve System)
In addition to the available for sale and held to maturity investment securities noted above, the Corporation is also required to hold certain regulatory stock. The Corporation is required to maintain Federal Reserve stock and FHLB stock as a member of both the Federal Reserve and the FHLB, and in amounts as required by these institutions. See Note 3 Investment Securities of the notes to consolidated financial statements for additional information on the regulatory stock.
51
Table 18 Investment Securities Portfolio Maturity Distribution (a)
December 31, 2017 | ||||||||
Amortized Cost | Fair Value | Yield (b) | ||||||
Available for sale securities | ($ in Thousands) | |||||||
U. S. Treasury securities | ||||||||
After one but within five years | $ | 1,003 | $ | 996 | 1.25 | % | ||
Total U. S. Treasury securities | $ | 1,003 | $ | 996 | 1.25 | % | ||
Residential mortgage-related securities | ||||||||
Within one year | $ | 18,252 | $ | 18,341 | 3.46 | % | ||
After one but within five years | 2,217,627 | 2,196,506 | 2.40 | % | ||||
After five years but within ten years | 167,321 | 164,330 | 2.27 | % | ||||
Total residential mortgage-related securities | $ | 2,403,200 | $ | 2,379,177 | 2.40 | % | ||
GNMA commercial mortgage-related securities | ||||||||
Within one year | $ | 14,232 | $ | 14,223 | 2.62 | % | ||
After one but within five years | 822,266 | 810,023 | 2.11 | % | ||||
After five years but within ten years | 710,675 | 689,031 | 2.15 | % | ||||
Total GNMA commercial mortgage-related securities | $ | 1,547,173 | $ | 1,513,277 | 2.13 | % | ||
Asset backed securities | ||||||||
After five years but within ten years | $ | 129,626 | $ | 130,371 | 2.13 | % | ||
After ten years | 14,696 | 14,805 | 2.27 | % | ||||
Total asset backed securities | $ | 144,322 | $ | 145,176 | 2.14 | % | ||
Other debt and equity securities | ||||||||
Within one year | $ | 1,001 | $ | 1,001 | 1.83 | % | ||
After one but within five years | 3,700 | 3,673 | 1.92 | % | ||||
Marketable equity securities | 18 | 146 | — | % | ||||
Total other debt and equity securities | $ | 4,719 | $ | 4,820 | 1.90 | % | ||
Total available for sale securities | $ | 4,100,417 | $ | 4,043,446 | 2.29 | % | ||
Held to maturity securities | ||||||||
Obligations of state and political subdivisions (municipal securities) | ||||||||
Within one year | $ | 44,487 | $ | 44,781 | 5.49 | % | ||
After one but within five years | 231,348 | 229,939 | 4.82 | % | ||||
After five years but within ten years | 322,720 | 324,380 | 3.76 | % | ||||
After ten years | 682,765 | 692,942 | 4.35 | % | ||||
Total obligations of state and political subdivisions (municipal securities) | $ | 1,281,320 | $ | 1,292,042 | 4.32 | % | ||
Residential mortgage-related securities | ||||||||
Within one year | $ | 57 | $ | 58 | 4.97 | % | ||
After one but within five years | 297,388 | 294,850 | 2.23 | % | ||||
After five years but within ten years | 101,826 | 101,093 | 2.39 | % | ||||
After ten years | 56,164 | 55,643 | 3.08 | % | ||||
Total residential mortgage-related securities | $ | 455,435 | $ | 451,644 | 2.37 | % | ||
GNMA commercial mortgage-related securities | ||||||||
After one but within five years | $ | 381,391 | $ | 374,652 | 2.10 | % | ||
After five years but within ten years | 164,707 | 165,236 | 2.09 | % | ||||
Total GNMA commercial mortgage-related securities | $ | 546,098 | $ | 539,888 | 2.10 | % | ||
Total held to maturity securities | $ | 2,282,853 | $ | 2,283,574 | 3.40 | % | ||
(a) | Expected maturities will differ from contractual maturities, as borrowers may have the right to call or repay obligations with or without call or prepayment penalties. |
(b) | Yields on tax-exempt securities are computed on a fully tax-equivalent basis using a tax rate of 35% and have not been adjusted for certain disallowed interest deductions. |
52
Analysis of Deposits and Funding
Deposits and Customer Funding
The following table summarizes the composition of our deposits and customer funding at December 31, 2017, 2016 and 2015.
Table 19 Period End Deposit and Customer Funding Composition
As of December 31, | |||||||||
2017 | 2016 | 2015 | |||||||
($ in Thousands) | |||||||||
Noninterest-bearing demand | $ | 5,478,416 | $ | 5,392,208 | $ | 5,562,466 | |||
Savings | 1,524,992 | 1,431,494 | 1,334,420 | ||||||
Interest-bearing demand | 4,603,157 | 4,687,656 | 3,445,000 | ||||||
Money market | 8,830,328 | 8,770,963 | 9,102,977 | ||||||
Brokered CDs | 18,609 | 52,725 | 42,443 | ||||||
Other time | 2,330,460 | 1,553,402 | 1,520,359 | ||||||
Total deposits | 22,785,962 | 21,888,448 | 21,007,665 | ||||||
Customer funding (a) | 250,332 | 401,885 | 383,568 | ||||||
Total deposits and customer funding | $ | 23,036,294 | $ | 22,290,333 | $ | 21,391,233 | |||
Network transaction deposits (b) | $ | 2,520,968 | $ | 3,895,467 | $ | 3,174,911 | |||
Brokered CDs | 18,609 | 52,725 | 42,443 | ||||||
Total network and brokered funding | 2,539,577 | 3,948,192 | 3,217,354 | ||||||
Net deposits and customer funding (total deposits and customer funding, excluding Brokered CDs and network transaction deposits) | $ | 20,496,717 | $ | 18,342,141 | $ | 18,173,879 | |||
(a) | Securities sold under agreement to repurchase and commercial paper. |
(b) Included above in interest-bearing demand and money markets.
• | Deposits are the Corporation's largest source of funds. |
• | Total deposits increased $898 million (4%) from December 31, 2016. |
• | Non-maturity deposit accounts, comprised of savings, money market, and demand (both interest and non-interest bearing demand) accounts accounted for 90% of our total deposits at December 31, 2017. |
• | Included in the above amounts were $2.5 billion of network deposits, primarily sourced from other financial institutions and intermediaries. Network deposits represented 11% of our deposits at December 31, 2017. |
• | Other time deposits increased $777 million (50%) from December 31, 2016, primarily due to an increase in CDs issued to public entities. |
Table 20 Maturity Distribution-Certificates of Deposit and Other Time Deposits of $100,000 or More
As of December 31, 2017 | |||||||||
Certificates of Deposit | Other Time Deposits | Total Certificates of Deposits and Other Time Deposits | |||||||
($ in Thousands) | |||||||||
Three months or less | $ | 75,151 | $ | 513,629 | $ | 588,780 | |||
Over three months through six months | 45,716 | 293,917 | 339,633 | ||||||
Over six months through twelve months | 73,967 | 137,529 | 211,496 | ||||||
Over twelve months | 194,912 | 47,077 | 241,989 | ||||||
Total | $ | 389,746 | $ | 992,152 | $ | 1,381,898 | |||
• | Selected period-end deposit information is detailed in Note 7 Deposits of the notes to consolidated financial statements, including a maturity distribution of all time deposits at December 31, 2017. See Table 2 for additional information on average deposit balances and deposit rates. |
53
Other Funding Sources
Short-Term Funding: Short-term funding is comprised primarily of short-term FHLB advances; securities sold under agreements to repurchase; federal funds purchased and commercial paper. Many short-term funding sources are expected to be reissued and, therefore, do not represent an immediate need for cash. See Note 8 Short-Term Funding of the notes to consolidated financial statements for additional information on short-term funding. See Table 2 for additional information on average funding and rates.
Short-term funding sources at December 31, 2017 were approximately $676 million, a decrease of $416 million from December 31, 2016. The decrease in short-term funding was primarily due to decreases in FHLB advances and securities sold under an agreement to repurchase.
Long-Term Funding: Long-term funding is comprised primarily of long-term FHLB advances, senior notes and subordinated notes. See Note 9 Long-Term Funding of the notes to consolidated financial statements for additional information on long-term funding. See Table 2 for additional information on average funding and rates.
Long-term funding at December 31, 2017, was approximately $3.4 billion, an increase of $636 million from December 31, 2016, primarily due to an increase in long-term FHLB advances.
Liquidity
The objective of liquidity risk management is to ensure that the Corporation has the ability to generate sufficient cash or cash equivalents in a timely and cost effective manner to satisfy the cash flow requirements of depositors and borrowers and to meet its other commitments as they become due. The Corporation’s liquidity risk management process is designed to identify, measure, and manage the Corporation’s funding and liquidity risk to meet its daily funding needs in the ordinary course of business, as well as to address expected and unexpected changes in its funding requirements. The Corporation engages in various activities to manage its liquidity risk, including diversifying its funding sources, stress testing, and holding readily-marketable assets which can be used as a source of liquidity, if needed.
The Corporation performs dynamic scenario analysis in accordance with industry best practices. Measures have been established to ensure the Corporation has sufficient high quality short-term liquidity to meet cash flow requirements under stressed scenarios. In addition, the Corporation also reviews static measures such as deposit funding as a percent of total assets and liquid asset levels. Strong capital ratios, credit quality, and core earnings are also essential to maintaining cost effective access to wholesale funding markets. At December 31, 2017, the Corporation was in compliance with its internal liquidity objectives and has sufficient asset based liquidity to meet its obligations under a stressed scenario.
The Corporation maintains diverse and readily available liquidity sources shown below.
• | Investment securities are an important tool to the Corporation’s liquidity objective, and can be pledged or sold to enhance liquidity, if necessary. See Note 3 Investment Securities of the notes to consolidated financial statements for additional information on the Corporation's investment securities portfolio, including investment securities pledged. |
• | The Bank pledges eligible loans to both the Federal Reserve and the FHLB as collateral to establish lines of credit and borrow from these entities. Based on the amount of collateral pledged, the FHLB established a collateral value from which the Bank may draw advances against the collateral. The collateral is also used to enable the FHLB to issue letters of credit in favor of public fund depositors of the Bank. As of December 31, 2017, the Bank had $2.8 billion available for future advances. The Federal Reserve also establishes a collateral value of assets to support borrowings from the discount window. As of December 31, 2017, the Bank had $2.1 billion available for discount window borrowings. |
• | The Parent Company has a $200 million commercial paper program, of which $67 million was outstanding at December 31, 2017. |
• | Dividends and service fees from subsidiaries, as well as the proceeds from issuance of capital, are also funding sources for the Parent Company. |
• | The Parent Company has filed a shelf registration statement with the SEC under which the Parent Company may, from time to time, offer shares of the Corporation’s common stock in connection with acquisitions of businesses, assets or securities of other companies. |
• | The Parent Company also has filed a universal shelf registration statement with the SEC, under which the Parent Company may offer the following securities, either separately or in units: debt securities, preferred stock, depositary shares, common stock, and warrants. |
54
• | The Bank may also issue institutional certificates of deposit, network transaction deposits, and brokered certificates of deposit. |
Credit ratings relate to the Corporation’s ability to issue debt securities and the cost to borrow money, and should not be viewed as an indication of future stock performance or a recommendation to buy, sell, or hold securities. Adverse changes in these factors could result in a negative change in credit ratings and impact not only the ability to raise funds in the capital markets but also the cost of these funds. The credit ratings of the Parent Company and the Bank at December 31, 2017 are displayed below.
Table 21 Credit Ratings
Moody’s | S&P (a) | ||
Bank short-term deposits | P-1 | — | |
Bank long-term | A1 | BBB+ | |
Corporation short-term | P-2 | — | |
Corporation long-term | Baa1 | BBB | |
Outlook | Stable | Stable | |
(a) | Standard and Poor's |
For the year ended December 31, 2017, net cash provided by operating and financing activities was $458 million and $1.0 billion, respectively, while investing activities used net cash of $1.4 billion, for a net increase in cash and cash equivalents of $74 million since year-end 2016. During 2017, net assets increased to $30.5 billion (up $1.3 billion or 5%) compared to year-end 2016, primarily due to a $862 million net increase in loans. On the funding side, deposits increased $898 million while short-term funding decreased $416 million and long-term funding increased $635 million.
For the year ended December 31, 2016, net cash provided by operating and financing activities was $641 million and $1.2 billion, respectively, while investing activities used net cash of $1.7 billion, for a net increase in cash and cash equivalents of $169 million since year-end 2015. During 2016, net assets increased to $29.1 billion (up $1.4 billion or 5%) compared to year-end 2015, primarily due to a $1.7 billion net increase in loans. On the funding side, deposits increased $881 million while short-term and long-term funding increased $258 million and $85 million, respectively.
Quantitative and Qualitative Disclosures about Market Risk
Market risk and interest rate risk are managed centrally. Market risk is the potential for loss arising from adverse changes in the fair value of fixed income securities, equity securities, other earning assets and derivative financial instruments as a result of changes in interest rates or other factors. Interest rate risk is the potential for reduced net interest income resulting from adverse changes in the level of interest rates. As a financial institution that engages in transactions involving an array of financial products, the Corporation is exposed to both market risk and interest rate risk. In addition to market risk, interest rate risk is measured and managed through a number of methods. The Corporation uses financial modeling simulation techniques that measure the sensitivity of future earnings due to changing rate environments to measure interest rate risk.
Policies established by the Corporation’s Asset / Liability Committee (“ALCO”) and approved by the Board of Directors are intended to limit these risks. The Board has delegated day-to-day responsibility for managing market and interest rate risk to ALCO. The primary objectives of market risk management is to minimize any adverse effect that changes in market risk factors may have on net interest income and to offset the risk of price changes for certain assets recorded at fair value.
Interest Rate Risk
The primary goal of interest rate risk management is to control exposure to interest rate risk, within policy limits approved by the Board of Directors. These limits and guidelines reflect our risk appetite for interest rate risk over both short-term and long-term horizons. No limit breaches occurred during 2017.
The major sources of our non-trading interest rate risk are timing differences in the maturity and re-pricing characteristics of assets and liabilities, changes in the shape of the yield curve, and the potential exercise of explicit or embedded options. We measure these risks and their impact by identifying and quantifying exposures through the use of sophisticated simulation and valuation models, which, as described in additional detail below, are employed by management to understand net interest income ("NII") at risk, interest rate sensitive earnings at risk ("EAR"), and market value of equity ("MVE") at risk. The Corporation’s interest rate risk profile is such that a higher or steeper yield curve adds to income while a flatter yield curve is relatively neutral, and a lower or inverted yield curve generally has a negative impact on earnings. Based on current rate expectations for a flattening yield curve, our earnings at risk profile is neutral at December 31, 2017. While the modeled outcome of instantaneous and sustained parallel
55
rate shocks of 100 bps or more indicate asset sensitivity, which would provide increased earnings, we see a low probability of a sustained parallel shift occurring in the near term.
MVE and EAR are complementary interest rate risk metrics and should be viewed together. Net interest income and EAR sensitivity capture asset and liability re-pricing mismatches for the first year inclusive of forecast balance sheet changes and are considered shorter term measures, while MVE sensitivity captures mismatches within the period end balance sheets through the financial instruments’ respective maturities and is considered a longer term measure.
A positive NII and EAR sensitivity in a rising rate environment indicates that over the forecast horizon of one year, asset based income will increase more quickly than liability based expense due to the balance sheet composition. A negative MVE sensitivity in a rising rate environment indicates that the value of financial assets will decrease more than the value of financial liabilities.
One of the primary methods that we use to quantify and manage interest rate risk is simulation analysis, which we use to model NII and rate sensitive noninterest items from the Corporation’s balance sheet and derivative positions under various interest rate scenarios. As the future path of interest rates is not known with certainty, we use simulation analysis to project rate sensitive income under many scenarios including implied forward and deliberately extreme and perhaps unlikely scenarios. The analyses may include rapid and gradual ramping of interest rates, rate shocks, basis risk analysis, and yield curve twists. Specific balance sheet management strategies are also analyzed to determine their impact on NII and EAR.
Key assumptions in the simulation analysis (and in the valuation analysis discussed below) relate to the behavior of interest rates and pricing spreads, the changes in product balances, and the behavior of loan and deposit clients in different rate environments. This analysis incorporates several assumptions, the most material of which relate to the re-pricing characteristics and balance fluctuations of deposits with indeterminate or non-contractual maturities, and prepayment of loans and securities.
The sensitivity analysis included below is measured as a percentage change in NII and EAR due to instantaneous moves in benchmark interest rates from a baseline scenario. Estimated changes set forth below are dependent upon material assumptions such as those previously discussed. We evaluate the sensitivity using: 1) a dynamic forecast incorporating expected growth in the balance sheet, and 2) a static forecast where the current balance sheet is held constant.
Table 22 Estimated % Change in Rate Sensitive Earnings at Risk (EAR) Over 12 Months
Dynamic Forecast December 31, 2017 | Static Forecast December 31, 2017 | Dynamic Forecast December 31, 2016 | Static Forecast December 31, 2016 | |||||
Instantaneous Rate Change | ||||||||
100 bp increase in interest rates | 2.5 | % | 2.7 | % | 1.4 | % | 1.5 | % |
200 bp increase in interest rates | 4.6 | % | 4.9 | % | 2.7 | % | 2.9 | % |
We also perform valuation analysis, which we use for discerning levels of risk present in the balance sheet and derivative positions that might not be taken into account in the NII simulation analysis. Whereas NII and EAR simulation highlights exposures over a relatively short time horizon, valuation analysis incorporates all cash flows over the estimated remaining life of all balance sheet and derivative positions. The valuation of the balance sheet, at a point in time, is defined as the discounted present value of all asset cash flows and derivative cash flows minus the discounted present value of all liability cash flows, the net of which is referred to as MVE. The sensitivity of MVE to changes in the level of interest rates is a measure of the longer-term re-pricing risk and options risk embedded in the balance sheet. Similar to the NII simulation, MVE uses instantaneous changes in rates. However, MVE values only the current balance sheet and does not incorporate the growth assumptions that are used in the NII and EAR simulations. As with NII and EAR simulations, assumptions about the timing and variability of balance sheet cash flows are critical in the MVE analysis. Particularly important are the assumptions driving prepayments and the expected changes in balances and pricing of the indeterminate deposit portfolios. At December 31, 2017, the MVE profile indicates a decline in net balance sheet value due to instantaneous upward changes in rates. MVE sensitivity is reported in both upward and downward rate shocks.
Table 23 Market Value of Equity Sensitivity
December 31, 2017 | December 31, 2016 | |||
Instantaneous Rate Change | ||||
100 bp increase in interest rates | (3.1 | )% | (2.9 | )% |
200 bp increase in interest rates | (6.7 | )% | (6.0 | )% |
The decrease in MVE sensitivity from December 31, 2016 was primarily attributable to the duration of mortgage-related assets extending. While an instantaneous and severe shift in interest rates was used in this analysis to provide an estimate of exposure
56
under an extremely adverse scenario, the Corporation believes that a gradual shift in interest rates would have a much more modest impact. Since MVE measures the discounted present value of cash flows over the estimated lives of instruments, the change in MVE does not directly correlate to the degree that earnings would be impacted over a shorter time horizon (i.e., the current year). Further, MVE does not take into account factors such as future balance sheet growth, changes in product mix, changes in yield curve relationships, and changing product spreads that could mitigate the adverse impact of changes in interest rates.
The above NII, EAR, and MVE measures do not include all actions that management may undertake to manage this risk in response to anticipated changes in interest rates.
Contractual Obligations, Commitments, Off-Balance Sheet Arrangements, and Contingent Liabilities
Table 24 Contractual Obligations and Other Commitments
December 31, 2017 | Note Reference | One Year or Less | One to Three Years | Three to Five Years | Over Five Years | Total | ||||||||||
($ in Thousands) | ||||||||||||||||
Time deposits | 7 | $ | 1,708,582 | $ | 496,980 | $ | 141,924 | $ | 1,583 | $ | 2,349,069 | |||||
Short-term funding | 8 | 676,282 | — | — | — | 676,282 | ||||||||||
Long-term funding | 9 | 1,750,000 | 499,468 | 150,000 | 997,982 | 3,397,450 | ||||||||||
Operating leases | 6 | 9,815 | 18,572 | 13,881 | 22,447 | 64,715 | ||||||||||
Commitments to extend credit | 14 & 16 | 3,991,155 | 2,689,902 | 1,426,230 | 142,636 | 8,249,923 | ||||||||||
Total | $ | 8,135,834 | $ | 3,704,922 | $ | 1,732,035 | $ | 1,164,648 | $ | 14,737,439 | ||||||
Through the normal course of operations, the Corporation has entered into certain contractual obligations and other commitments, including but not limited to those most usually related to funding of operations through deposits or funding, commitments to extend credit, derivative contracts to assist management of interest rate exposure, and to a lesser degree leases for premises and equipment. Table 24 summarizes significant contractual obligations and other commitments at December 31, 2017, and those amounts contractually due to the recipient, including any unamortized premiums or discounts, hedge basis adjustments, or other similar carrying value adjustments. Further discussion of the nature of each obligation is included in the referenced note to the consolidated financial statements.
The Corporation also has obligations under its retirement plans as described in Note 12 Retirement Plan of the notes to consolidated financial statements.
As of December 31, 2017, the net liability for uncertainty in income taxes, including associated interest and penalties, was $3 million. This liability represents an estimate of tax positions that the Corporation has taken in its tax returns which may ultimately not be sustained upon examination by the tax authorities. Since the ultimate amount and timing of any future cash settlements cannot be predicted with reasonable certainty, this estimated liability has been excluded from Table 24. See Note 13 Income Taxes of the notes to consolidated financial statements for additional information and disclosure related to uncertainty in income taxes.
The Corporation may have a variety of financial transactions that, under GAAP, are either not recorded on the balance sheet or are recorded on the balance sheet in amounts that differ from the full contract or notional amounts.
The Corporation routinely enters into lending-related commitments, including commitments to extend credit, interest rate lock commitments to originate residential mortgage loans held for sale (discussed further below), commercial letters of credit, and standby letters of credit. See Note 16 Commitments, Off-Balance Sheet Arrangements, and Legal Proceedings of the notes to consolidated financial statements for further information on lending-related commitments.
The Corporation’s derivative financial instruments, under which the Corporation is required to either receive cash from or pay cash to counterparties depending on changes in interest rates applied to notional amounts, are carried at fair value on the consolidated balance sheets. Because neither the derivative assets and liabilities, nor their notional amounts, represent the amounts that may ultimately be paid under these contracts, they are not included in Table 24. For further information and discussion of derivative contracts, see Note 1 Summary of Significant Accounting Policies and Note 14 Derivative and Hedging Activities of the notes to consolidated financial statements.
The Corporation sells residential mortgage loans to investors in the normal course of business. Residential mortgage loans sold to others are predominantly conventional residential first lien mortgages originated under our usual underwriting procedures, and are most often sold on a nonrecourse basis primarily to the GSEs. See Note 16 Commitments, Off-Balance Sheet Arrangements, and Legal Proceedings of the notes to consolidated financial statements for additional information on residential mortgage loans sold.
57
The Corporation has principal investment commitments to provide capital-based financing to private and public companies and also invests in low-income housing, and various credit projects. See Note 16 Commitments, Off-Balance Sheet Arrangements, and Legal Proceedings of the notes to consolidated financial statements for additional information on these investments. The Volcker Rule prohibits insured depository institutions and their holding companies from engaging in proprietary trading except in limited circumstances, and prohibits them from owning equity interests in excess of three percent of Tier 1 Capital in private equity and hedge funds. Complying with the Volcker Rule is not expected to have a material impact on the Corporation. See Part I, Item 1, Business, for additional information on the Volcker Rule.
Capital
Management actively reviews capital strategies for the Corporation and each of its subsidiaries in light of perceived business risks, future growth opportunities, industry standards, and compliance with regulatory requirements. The assessment of overall capital adequacy depends on a variety of factors, including asset quality, liquidity, stability of earnings, changing competitive forces, economic condition in markets served, and strength of management. At December 31, 2017, the capital ratios of the Corporation and its banking subsidiary were in excess of regulatory minimum requirements. The Corporation’s capital ratios are summarized in Table 25.
Table 25 Capital Ratios
As of December 31, | |||||||||
2017 | 2016 | 2015 | |||||||
($ in Thousands) | |||||||||
Risk-based capital (a) | |||||||||
Common equity Tier 1 | $ | 2,171,508 | $ | 2,032,587 | $ | 1,897,944 | |||
Tier 1 capital | 2,331,245 | 2,191,798 | 2,016,861 | ||||||
Total capital | 2,848,851 | 2,706,760 | 2,515,861 | ||||||
Total risk-weighted assets | 21,544,463 | 21,340,951 | 19,929,963 | ||||||
Common equity Tier 1 capital ratio | 10.08 | % | 9.52 | % | 9.52 | % | |||
Tier 1 capital ratio | 10.82 | % | 10.27 | % | 10.12 | % | |||
Total capital ratio | 13.22 | % | 12.68 | % | 12.62 | % | |||
Tier 1 leverage ratio | 8.02 | % | 7.83 | % | 7.60 | % | |||
Selected equity and performance ratios | |||||||||
Stockholders’ equity / assets | 10.62 | % | 10.61 | % | 10.60 | % | |||
Dividend payout ratio (b) | 34.48 | % | 35.43 | % | 34.17 | % | |||
(a) | The Federal Reserve establishes regulatory capital requirements, including well-capitalized standards for the Corporation. The Corporation follows Basel III, subject to certain transition provisions. These regulatory capital measurements are used by management, regulators, investors, and analysts to assess, monitor and compare the quality and composition of our capital with the capital of other financial services companies. See Table 26 for a reconciliation of common equity Tier 1 and average common equity Tier 1. |
(b) | Ratio is based upon basic earnings per common share. |
58
Table 26 Non-GAAP Measures
At or for the Year Ended December 31, | |||||||||||||||
2017 | 2016 | 2015 | 2014 | 2013 | |||||||||||
($ in Thousands) | |||||||||||||||
Selected equity and performance ratios (a) (b) | |||||||||||||||
Tangible common equity / tangible assets | 7.07 | % | 6.91 | % | 6.85 | % | 6.97 | % | 8.11 | % | |||||
Return on average equity | 7.23 | % | 6.63 | % | 6.50 | % | 6.63 | % | 6.52 | % | |||||
Return on average tangible common equity | 10.86 | % | 10.07 | % | 9.97 | % | 9.91 | % | 9.73 | % | |||||
Return on average Common equity Tier 1 | 10.43 | % | 9.86 | % | 9.88 | % | 9.92 | % | 9.77 | % | |||||
Return on average assets | 0.78 | % | 0.70 | % | 0.70 | % | 0.76 | % | 0.81 | % | |||||
Average stockholders' equity / average assets | 10.76 | % | 10.60 | % | 10.72 | % | 11.44 | % | 12.41 | % | |||||
Tangible common equity and common equity Tier 1 reconciliation (a) (b) | |||||||||||||||
Common equity | $ | 3,077,514 | $ | 2,931,383 | $ | 2,815,867 | $ | 2,740,524 | $ | 2,829,428 | |||||
Goodwill and other intangible assets, net | (991,819 | ) | (987,328 | ) | (985,302 | ) | (936,605 | ) | (940,352 | ) | |||||
Tangible common equity | $ | 2,085,695 | $ | 1,944,055 | $ | 1,830,565 | $ | 1,803,919 | $ | 1,889,076 | |||||
Less: Accumulated other comprehensive income / loss | 62,758 | 54,679 | 32,616 | 4,850 | 24,244 | ||||||||||
Less: Deferred tax assets / deferred tax liabilities, net | 23,055 | 33,853 | 34,763 | (437 | ) | — | |||||||||
Common equity Tier 1 | $ | 2,171,508 | $ | 2,032,587 | $ | 1,897,944 | $ | 1,808,332 | $ | 1,913,320 | |||||
Tangible assets reconciliation (a) | |||||||||||||||
Total assets | $ | 30,483,594 | $ | 29,139,315 | $ | 27,711,835 | $ | 26,817,423 | $ | 24,225,426 | |||||
Goodwill and other intangible assets, net | (991,819 | ) | (987,328 | ) | (985,302 | ) | (936,605 | ) | (940,352 | ) | |||||
Tangible assets | $ | 29,491,775 | $ | 28,151,987 | $ | 26,726,533 | $ | 25,880,818 | $ | 23,285,074 | |||||
Average tangible common equity and average common equity Tier 1 reconciliation (a) (b) | |||||||||||||||
Average common equity | $ | 3,012,704 | $ | 2,888,579 | $ | 2,799,150 | $ | 2,810,872 | $ | 2,829,300 | |||||
Average goodwill and other intangible assets, net | (988,073 | ) | (988,406 | ) | (982,454 | ) | (938,472 | ) | (942,472 | ) | |||||
Average tangible common equity | 2,024,631 | 1,900,173 | 1,816,696 | 1,872,400 | 1,886,828 | ||||||||||
Less: Accumulated other comprehensive income / loss | 53,879 | 7,526 | (9,059 | ) | (1,651 | ) | (2,712 | ) | |||||||
Less: Deferred tax assets / deferred tax liabilities, net | 30,949 | 32,692 | 25,960 | (140 | ) | (5,745 | ) | ||||||||
Average common equity Tier 1 | $ | 2,109,459 | $ | 1,940,391 | $ | 1,833,597 | $ | 1,870,609 | $ | 1,878,371 | |||||
Efficiency ratio reconciliation (c) | |||||||||||||||
Federal Reserve efficiency ratio | 65.97 | % | 66.95 | % | 69.96 | % | 70.28 | % | 71.14 | % | |||||
Fully tax-equivalent adjustment | (1.28 | )% | (1.29 | )% | (1.41 | )% | (1.36 | )% | (1.45 | )% | |||||
Other intangible amortization | (0.18 | )% | (0.20 | )% | (0.31 | )% | (0.39 | )% | (0.42 | )% | |||||
Fully tax-equivalent efficiency ratio | 64.51 | % | 65.46 | % | 68.24 | % | 68.53 | % | 69.27 | % | |||||
(a) | The ratio tangible common equity to tangible assets excludes goodwill and other intangible assets, net, which is a non-GAAP financial measure. This financial measure has been included as it is considered to be a critical metric with which to analyze and evaluate financial condition and capital strength. |
(b) | The Federal Reserve establishes regulatory capital requirements, including well-capitalized standards for the Corporation. Prior to 2015, the regulatory capital requirements effective for the Corporation followed Basel I. Beginning January 1, 2015, the regulatory capital requirements effective for the Corporation follow Basel III, subject to certain transition provisions. These regulatory capital measurements are used by management, regulators, investors, and analysts to assess, monitor and compare the quality and composition of our capital with the capital of other financial services companies. |
(c) | The efficiency ratio as defined by the Federal Reserve guidance is noninterest expense (which includes the provision for unfunded commitments) divided by the sum of net interest income plus noninterest income, excluding investment securities gains / losses, net. The fully tax-equivalent efficiency ratio is noninterest expense (which includes the provision for unfunded commitments), excluding other intangible amortization, divided by the sum of fully tax-equivalent net interest income plus noninterest income, excluding investment securities gains / losses, net. Management believes the fully tax-equivalent efficiency ratio, which adjusts net interest income for the tax-favored status of certain loans and investment securities, to be the preferred industry measurement as it enhances the comparability of net interest income arising from taxable and tax-exempt sources. |
See Note 10 Stockholders' Equity and Note 19 Regulatory Matters for additional capital disclosures.
59
Segment Review
As discussed in Note 21 Segment Reporting of the notes to consolidated financial statements, the Corporation’s reportable segments have been determined based upon its internal profitability reporting system, which is organized by strategic business unit. Certain strategic business units have been combined for segment information reporting purposes where the nature of the products and services, the type of customer, and the distribution of those products and services are similar. The three reportable segments are Corporate and Commercial Specialty; Community, Consumer and Business; and Risk Management and Shared Services.
The financial information of the Corporation’s segments was compiled utilizing the accounting policies described in Note 1 Summary of Significant Accounting Policies and Note 21 Segment Reporting of the notes to consolidated financial statements.
Funds Transfer Pricing ("FTP") is an important tool for managing the Corporation’s balance sheet structure and measuring risk-adjusted profitability. By appropriately allocating the cost of funding and contingent liquidity to business units, the FTP process improves product pricing which influences the volume and terms of new business and helps to optimize the risk / reward profile of the balance sheet. This process helps align the Corporation’s funding and contingent liquidity risk with its risk appetite and complements broader liquidity and interest rate risk management programs. FTP methodologies are designed to promote more resilient, sustainable business models and centralize the management of funding and contingent liquidity risks. Through FTP, the Corporation transfers these risks to a central management function that can take advantage of natural off-sets, centralized hedging activities, and a broader view of these risks across business units.
Segment Review 2017 Compared to 2016
The Corporate and Commercial Specialty segment consists of lending and deposit solutions to larger businesses, developers, not-for-profits, municipalities, and financial institutions, and the support to deliver, fund and manage such banking solutions. The Corporate and Commercial Specialty segment had net income of $139 million in 2017, up $21 million compared to $118 million in 2016. Segment revenue increased $33 million to $409 million in 2017 compared to $376 million in 2016, primarily due to higher net interest income from the growth in average loan balances and the interest rate increases. The credit provision decreased $8 million in 2017. Average loan balances were $10.8 billion for 2017, up $643 million from an average balance of $10.2 billion for 2016. Average deposit balances were $6.9 billion for 2017, up $1.0 billion from average deposits of $5.9 billion in 2016. Average allocated capital increased $47 million to $1.1 billion in 2017, reflecting the increase in segment's loan balances.
The Community, Consumer, and Business segment consists of lending and deposit solutions to individuals and small to mid-sized businesses and also provides a variety of investment and fiduciary products and services. The Community, Consumer, and Business segment had net income of $76 million in 2017, up $10 million compared to $66 million in 2016. Segment revenue decreased $1 million to $628 million in 2017. Noninterest expense decreased $11 million to $491 million in 2017, primarily due to decreased personnel expenses relating to the restructuring of the Corporation's commercial and business lending areas in 2016. Average loan balances were $9.5 billion for 2017, up $145 million from an average balance of $9.3 billion for 2016. Average deposit balances were $11.7 billion in 2017, up $260 million from average deposits of $11.5 billion in 2016. Average allocated capital decreased $43 million to $586 million in 2017.
The Risk Management and Shared Services segment had net income of $15 million in 2017, down $1 million compared to $16 million in 2016. Net interest income decreased $5 million, primarily due to recent changes in the rate environment, as well as an adjustment of FTP rate assumptions that increased the interest income allocated to the lines of business with an offsetting decrease in the interest income allocated to the Risk Management and Shared Services segment. Noninterest income decreased $13 million, primarily due to a $9 million gain on the sales of FNMA and FHLMC securities in the twelve months ended December 31, 2016. The credit provision was $37 million in 2017, improved $32 million from 2016 due to improvement in credit quality. Average earning asset balances were $6.7 billion for 2017, up $184 million from an average balance of $6.5 billion in 2016. Average deposits were $3.3 billion in 2017, down $376 million from 2016. Average allocated capital increased $165 million to $405 million for 2017.
Segment Review 2016 Compared to 2015
The Corporate and Commercial Specialty segment consists of lending and deposit solutions to larger businesses, developers, not-for-profits, municipalities, and financial institutions, and the support to deliver, fund and manage such banking solutions. The Corporate and Commercial Specialty segment had net income of $118 million in 2016, up $4 million compared to $114 million in 2015. Segment revenue increased $20 million to $376 million in 2016 compared to $357 million in 2015, primarily due to higher net interest income from the growth in average loan balances and the interest rate increase at the end of 2015. The credit provision increased $8 million in 2016 due to loan growth and a decrease in loan credit quality in the oil and gas portfolio. Average loan balances were $10.2 billion for 2016, up $795 million from an average balance of $9.4 billion for 2015. Average allocated capital increased $93 million to $1.1 billion in 2016, reflecting the increase in segment's loan balances.
60
The Community, Consumer, and Business segment consists of lending and deposit solutions to individuals and small to mid-sized businesses and also provides a variety of investment and fiduciary products and services. The Community, Consumer, and Business segment had net income of $66 million in 2016, up $3 million compared to $63 million in 2015. Segment revenue increased $14 million to $628 million in 2016, primarily due to a $7 million increase in insurance commissions, a $6 million increase in mortgage banking income, partially offset by a $2 million decrease in trust service fees. Noninterest expense increased $10 million to $502 million in 2016, primarily due to increased severance relating to the restructuring of the Corporation's commercial and business lending areas. Average loan balances were $9.3 billion for 2016, up $498 million from an average balance of $8.8 billion for 2015. Average deposit balances were $11.5 billion in 2016, up $553 million from average deposits of $10.9 billion in 2015. Average allocated capital decreased $11 million to $630 million in 2016.
The Risk Management and Shared Services segment had net income of $16 million in 2016, up $4 million compared to $12 million in 2015. Net interest income increased $11 million primarily due to an increase in the volume of funding provided to the Corporate and Commercial Specialty segment (as loan growth exceeded deposit growth within this segment), as well as a higher interest rate charged on this funding due to the interest rate increase at the end of 2015. Noninterest income increased $10 million primarily due to an increase in proceeds from bank and corporate owned life insurance policy redemptions of $5 million and an increase in net gains on the sale of assets of $4 million. The credit provision improved $25 million. Average earning asset balances were $6.5 billion for 2016, up $162 million from an average balance of $6.4 billion in 2015, primarily due to increases in commercial and business lending and investment securities. Average deposits were $3.6 billion in 2016, up $502 million from 2015. Average allocated capital increased $24 million to $240 million for 2016.
Table 27 Selected Quarterly Financial Data
The following is selected financial data summarizing the results of operations for each quarter in the years ended December 31, 2017 and 2016.
2017 Quarter Ended | ||||||||||||
December 31 | September 30 | June 30 | March 31 | |||||||||
(In Thousands, Except Per Common Share Data) | ||||||||||||
Net interest income | $ | 187,005 | $ | 190,122 | $ | 183,819 | $ | 180,274 | ||||
Provision for credit losses | — | 5,000 | 12,000 | 9,000 | ||||||||
Income before income taxes | 89,850 | 93,590 | 77,913 | 77,414 | ||||||||
Net income available to common equity | 47,671 | 62,662 | 55,644 | 53,940 | ||||||||
Basic earnings per common share | $ | 0.31 | $ | 0.41 | $ | 0.36 | $ | 0.36 | ||||
Diluted earnings per common share | $ | 0.31 | $ | 0.41 | $ | 0.36 | $ | 0.35 | ||||
2016 Quarter Ended | ||||||||||||
December 31 | September 30 | June 30 | March 31 | |||||||||
(In Thousands, Except Per Common Share Data) | ||||||||||||
Net interest income | $ | 180,035 | $ | 178,534 | $ | 176,717 | $ | 171,987 | ||||
Provision for credit losses | 15,000 | 21,000 | 14,000 | 20,000 | ||||||||
Income before income taxes | 78,409 | 77,454 | 70,525 | 61,208 | ||||||||
Net income available to common equity | 52,485 | 51,628 | 46,922 | 40,336 | ||||||||
Basic earnings per common share | $ | 0.35 | $ | 0.34 | $ | 0.31 | $ | 0.27 | ||||
Diluted earnings per common share | $ | 0.34 | $ | 0.34 | $ | 0.31 | $ | 0.27 | ||||
2016 Compared to 2015
Net income available to common equity for 2016 was $191 million, or diluted earnings per common share of $1.26. In comparison, net income available to common equity for 2015 was $181 million, or diluted earnings per common share of $1.19. Cash dividends increased to $0.45 per common share in 2016 an increase of 10% compared to cash dividends of $0.41 per common share in 2015. Key factors behind these results are discussed below.
• | At December 31, 2016, total loans were $20.1 billion, up $1.3 billion (7%) from December 31, 2015, with growth in both commercial real estate and total consumer loans. See section Loans for additional information on the changes in the loan portfolio and see section Credit Risk for discussion about credit risk management for each loan type. Total deposits at December 31, 2016 were $21.9 billion, up $881 million (4%) from December 31, 2015, primarily due to an increase in interest bearing demand deposits. |
• | Average earning assets of $26.0 billion in 2016 were $1.5 billion (6%) higher than 2015. Average loans increased $1.4 billion (8%), including an $862 million increase in commercial loans and a $618 million increase in residential mortgage loans. |
61
Average interest-bearing liabilities of $20.1 billion in 2016 were up $792 million (4%) versus 2015. On average, interest-bearing deposits increased $538 million and average noninterest-bearing demand deposits increased by $565 million. Average short and long-term funding increased $254 million, consisting of a $463 million increase in short-term funding, partially offset by a $209 million decrease in long-term funding.
• | The provision for credit losses increased to $70 million in 2016, an increase of $33 million from 2015. See Table 14 for additional information on provision for credit losses. Total nonaccrual loans increased $97 million from December 31, 2015, primarily due to the risk migration of oil and gas related credits. Potential problem loans increased to $351 million, an increase of $49 million (16%) from December 31, 2015. See Table 12 for additional information on nonaccrual loans and the changes in potential problem loans. See also Table 8 for additional information on the oil and gas portfolio. At December 31, 2016, the allowance for loan losses to total loans ratio was 1.39%, covering 101% of nonaccrual loans, compared to 1.47% at December 31, 2015, covering 154% of nonaccrual loans. Net charge offs to average loans increased to 0.33%, compared to a net charge off ratio of 0.16% for 2015. |
• | Fully tax-equivalent net interest income was $728 million for 2016, an increase of $31 million from 2015, including favorable volume variances (increasing fully tax-equivalent net interest income by $48 million), partially offset by unfavorable rate variances (decreasing fully tax-equivalent net interest income by $17 million). The net interest margin for 2016 was 2.80%, 4 bp lower than 2.84% in 2015, attributable to a 5 bp decrease in interest rate spread, and a 1 bp increase in contribution from net free funds. |
• | Noninterest income was $353 million for 2016, up $24 million (7%) from 2015. Insurance commissions were $81 million, an increase of $5 million (7%) compared to 2015. The increase in insurance commissions was primarily attributable to property and casualty and employee benefit related commissions. Net mortgage banking income was $38 million for 2016, up $6 million (18%) from 2015, primarily due to gains on portfolio loan sales. Net capital market fees of $22 million for 2016 were up $8 million (52%) compared to 2015. This increase was primarily due to higher customer hedging transactions and higher loan syndication activity. |
• | Noninterest expense for 2016 was $703 million, up $4 million or 1% from 2015. Personnel expense was $415 million, up $10 million (2%) versus 2015, and was primarily attributable to annual merit increases, higher production increasing sales commissions, and increased severance in 2016. Nonpersonnel noninterest expenses on a combined basis were down $6 million (2%) compared to 2015. |
• | Income tax expense for 2016 was $87 million, compared to income tax expense of $81 million for 2015. The effective tax rate was 30.4% for 2016, compared to an effective rate of 30.2% for 2015. |
Critical Accounting Policies
In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ significantly from those estimates. Estimates that are particularly susceptible to significant change include the determination of the allowance for loan losses, goodwill impairment assessment, mortgage servicing rights valuation, and income taxes.
The consolidated financial statements of the Corporation are prepared in conformity with U.S. generally accepted accounting principles and follow general practices within the industries in which it operates. This preparation requires management to make estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, actual results could differ from the estimates, assumptions, and judgments reflected in the financial statements. Certain policies inherently have a greater reliance on the use of estimates, assumptions, and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported. Management believes the following policies are both important to the portrayal of the Corporation’s financial condition and results of operations and require subjective or complex judgments and, therefore, management considers the following to be critical accounting policies. The critical accounting policies are discussed directly with the Audit Committee of the Corporation’s Board of Directors.
Allowance for Loan Losses: Management’s evaluation process used to determine the appropriateness of the allowance for loan losses is subject to the use of estimates, assumptions, and judgments. The evaluation process combines many factors: management’s ongoing review and grading of the loan portfolio, consideration of historical loan loss and delinquency experience, trends in past due and nonaccrual loans, risk characteristics of the various classifications of loans, concentrations of loans to specific borrowers or industries, existing economic conditions, the fair value of underlying collateral, and other qualitative and quantitative factors which could affect probable credit losses. Because current economic conditions can change and future events are inherently difficult to predict, the anticipated amount of estimated loan losses, and therefore the appropriateness of the allowance for loan losses,
62
could change significantly. As an integral part of their examination process, various regulatory agencies also review the allowance for loan losses. Such agencies may require additions to the allowance for loan losses or may require that certain loan balances be charged off or downgraded into criticized loan categories when their credit evaluations differ from those of management, based on their judgments about information available to them at the time of their examination. The Corporation believes the level of the allowance for loan losses is appropriate. See Note 1 Summary of Significant Accounting Policies and Note 4 Loans of the notes to consolidated financial statements as well as the Allowance for Credit Losses section.
Goodwill Impairment Assessment: Goodwill is not amortized but, instead, is subject to impairment tests on at least an annual basis, and more frequently if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. The Corporation conducted its most recent annual impairment test in May 2017, utilizing a qualitative assessment. See Note 1 Summary of Significant Accounting Policies for the Corporation's accounting policy on goodwill and see Note 5 Goodwill and Other Intangible Assets of the notes to consolidated financial statements for a detailed discussion of the factors considered by management in the qualitative assessment. Based on this assessment, management concluded that the 2017 annual qualitative impairment assessment indicated that it is more likely than not that the estimated fair value exceeded the carrying value (including goodwill) for each reporting unit. Therefore, a step one quantitative analysis was not required. There were no events since the May 2017 impairment testing that have changed the Corporation's impairment assessment conclusion. There were no impairment charges recorded in 2017, 2016, or 2015.
Mortgage Servicing Rights Valuation: The fair value of the Corporation’s mortgage servicing rights asset is important to the presentation of the consolidated financial statements since the mortgage servicing rights are carried on the consolidated balance sheet at the lower of amortized cost or estimated fair value. Mortgage servicing rights do not trade in an active open market with readily observable prices. As such, like other participants in the mortgage banking business, the Corporation relies on an independent valuation from a third party which uses a discounted cash flow model to estimate the fair value of its mortgage servicing rights. The use of a discounted cash flow model involves judgment, particularly of estimated prepayment speeds of underlying mortgages serviced and the overall level of interest rates. Loan type and note interest rate are the predominant risk characteristics of the underlying loans used to stratify capitalized mortgage servicing rights for purposes of measuring impairment. The Corporation periodically reviews the assumptions underlying the valuation of mortgage servicing rights. While the Corporation believes that the values produced by the discounted cash flow model are indicative of the fair value of its mortgage servicing rights portfolio, these values can change significantly depending upon key factors, such as the then current interest rate environment, estimated prepayment speeds of the underlying mortgages serviced, and other economic conditions. The proceeds that might be received should the Corporation actually consider a sale of some or all of the mortgage servicing rights portfolio could differ from the amounts reported at any point in time.
To better understand the sensitivity of the impact of prepayment speeds and refinance rates on the value of the mortgage servicing rights asset at December 31, 2017, (holding all other factors unchanged), if refinance rates were to decrease 50 bp, the estimated value of the mortgage servicing rights asset would have been approximately $8 million (or 13%) lower. Conversely, if refinance rates were to increase 50 bp, the estimated value of the mortgage servicing rights asset would have been approximately $7 million (or 10%) higher. However, the Corporation’s potential recovery recognition due to valuation improvement is limited to the balance of the mortgage servicing rights valuation reserve, which was approximately $1 million at December 31, 2017. The potential recovery recognition is constrained as the Corporation has elected to use the amortization method of accounting (rather than fair value measurement accounting). Under the amortization method, mortgage servicing rights are carried at the lower of the initial capitalized amount, net of accumulated amortization, or estimated fair value. Therefore, the mortgage servicing right asset may only be marked up to the extent of the previously recognized valuation reserve. The Corporation believes the mortgage servicing rights asset is properly recorded in the consolidated balance sheets. See Note 1 Summary of Significant Accounting Policies and Note 5 Goodwill and Other Intangible Assets of the notes to consolidated financial statements.
Income Taxes: The assessment of tax assets and liabilities involves the use of estimates, assumptions, interpretations, and judgment concerning certain accounting pronouncements and federal and state tax codes and regulations. There can be no assurance that future events, such as court decisions or positions of federal and state taxing authorities, will not differ from management’s current assessment, the impact of which could be significant to the consolidated results of operations and reported earnings. Quarterly assessments are performed to determine if valuation allowances are necessary against any portion of the Corporation’s deferred tax assets. Assessing the need for, or sufficiency of, a valuation allowance requires management to evaluate all available evidence, both positive and negative, including the recent trend of quarterly earnings. Positive evidence necessary to overcome the negative evidence includes whether future taxable income in sufficient amounts and character within the carryback and carryforward periods is available under the tax law, including the use of tax planning strategies. When negative evidence (e.g., cumulative losses in recent years, history of operating loss or tax credit carryforwards expiring unused) exists, more positive evidence than negative evidence will be necessary. The Corporation has concluded that based on the level of positive evidence, it is more likely than not that the deferred tax asset will be realized. However, there is no guarantee that the tax benefits associated with the deferred tax
63
assets will be fully realized. The Corporation believes the tax assets and liabilities are properly recorded in the consolidated balance sheets. See Note 13 Income Taxes of the notes to consolidated financial statements and section Income Taxes.
Future Accounting Pronouncements
New accounting policies adopted by the Corporation are discussed in Note 1 Summary of Significant Accounting Policies of the notes to consolidated financial statements. The expected impact of accounting pronouncements recently issued or proposed but not yet required to be adopted are discussed in the table below. To the extent the adoption of new accounting standards materially affects the Corporation’s financial condition, results of operations, or liquidity, the impacts are discussed in the applicable sections of this financial review and the notes to consolidated financial statements.
Standard | Description | Date of adoption | Effect on financial statements |
ASU 2017-12 Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities | The FASB issued an amendment to better align a company’s financial reporting for hedging activities with the economic objectives of those activities for both financial (e.g., interest rate) and commodity risks. The provisions create more transparency around how economic results are presented, both on the face of the financial statements and in the footnotes. It also contains targeted improvements to simplify the application of hedge accounting guidance. This amendment is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Entities should apply the amendment on a modified retrospective transition method in which the cumulative effect of the change will be recognized within equity in the consolidated balance sheet as of the date of adoption. Early adoption is permitted, including in an interim period. If an entity early adopts in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes the interim period. | 1st Quarter 2019 | For the Corporation to date, all notional amounts of customer derivative transactions have been matched with a mirror derivative transaction with another counterparty. The Corporation has used, and may use again in the future, derivative instruments to hedge the variability in interest payments or protect the value of certain assets and liabilities recorded on its consolidated balance sheets from changes in interest rates. Therefore, the new ASU is not currently applicable; however, there is the potential the standard could apply in the future if such arrangements begin to occur. |
ASU 2017-07 Compensation — Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost | The FASB issued an amendment to improve the presentation of net periodic pension cost and net periodic postretirement benefit cost, including a requirement that employers disaggregate the service cost component from the other components of net benefit cost. In addition, the amendment provides explicit guidance on how to present the service cost component and the other components of net benefit cost in the income statement and allow only the service cost component of net benefit cost to be eligible for capitalization. This amendment is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities should apply the amendment retrospectively to each period presented and prospectively only for the capitalization component. Early adoption is permitted, but should be within the first interim period if interim financial statements are issued. | 1st Quarter 2018 | Upon adoption, the Corporation will have a slight change in presentation, and an immaterial impact to its results of operations, financial position, and liquidity. |
ASU 2017-04 Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment | The FASB issued an amendment to simplify the subsequent quantitative measurement of goodwill by eliminating step two from the goodwill impairment test. Instead, an entity will perform only step one of its quantitative goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount, and then recognizing an impairment charge for the amount by which the carrying amount exceeds the reporting unit's fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. An entity will still have the option to perform a qualitative assessment for a reporting unit to determine if the quantitative step one impairment test is necessary. This amendment is effective for annual or interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Entities should apply the amendment prospectively. Early adoption is permitted, including in an interim period, for impairment tests performed after January 1, 2017. The Corporation has not had to perform a step one quantitative analysis since 2012, which concluded no impairment was necessary. | 2nd Quarter 2020, consistent with the Corporation's annual impairment test in May of each year. | The Corporation is currently evaluating the impact on its results of operations, financial position, and liquidity. |
ASU 2017-01 Business Combinations (Topic 805): Clarifying the Definition of a Business | The FASB issued amendments to clarify the definition of a business in order to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets versus businesses. The new standard narrows the definition of a business by adding three principal clarifications if: (1) substantially all the fair value of the gross assets in the asset group is concentrated in either a single identifiable asset or group of similar identifiable assets the transaction does not involve a business, (2) the asset group does not include a minimum of an input and a substantive process, it does not represent a business, and (3) the integrated set of activities (including its inputs and processes) does not create, or have the ability to create, goods or services to customers, investment income (e,g. dividends or interest) or other revenues, it is not a business. The overall intention is to provide consistency in applying the guidance, reduce the costs of application, and make the definition of a business more operable. | 1st Quarter 2018 | The Corporation has evaluated adoption of the new guidance and determined it will not have a material impact on its results of operations, financial position, or liquidity. |
64
Standard | Description | Date of adoption | Effect on financial statements |
ASU 2016-18 Statement of Cash Flows (Topic 230): Restricted Cash | The FASB issued an amendment to improve GAAP by providing guidance on the presentation of restricted cash or restricted cash equivalents in the statement of cash flows, in order to reduce diversity in practice. The amendment requires that a statement of cash flow explain the change during the period in the total cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included in cash and cash equivalents when reconciling the beginning and end of period total amounts shown on the statement of cash flow. This amendment is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities should apply the amendment retrospectively to each period presented. Early adoption is permitted, including in an interim period. | 1st Quarter 2018 | Upon adoption, the Corporation will have a slight change in presentation, and an immaterial impact to its results of operations or financial position. |
ASU 2016-16 Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory | The FASB issued an amendment requiring an entity to recognize income tax consequences on an intra-entity transfer of an asset other than inventory at the time the transaction occurs. This amendment is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities should apply the amendment by means of a cumulative-effect adjustment to retained earnings as of the beginning of the fiscal year of adoption. Early adoption is permitted for all entities in the first interim period if an entity issues interim financial statements. | 1st Quarter 2018 | The Corporation has evaluated adoption of the new guidance and determined it will not have a material impact on its results of operations, financial position, or liquidity. |
ASU 2016-15 Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments | The FASB issued an amendment to provide clarification on where to classify cash flows involving certain cash receipts and cash payments. Under the new guidance, cash payments for debt prepayment or debt extinguishment costs should be classified as cash outflows for financing activities. The new guidance also details the specific classification of contingent consideration cash payments made after a business combination depending on the timing of payments. Lastly, cash proceeds received from corporate owned life insurance policies (including BOLI) should be classified as cash inflows from investing, while the cash payments for the premiums may be classified as cash outflows for investing, operating, or a combination of both. This amendment is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities should apply the amendment retrospectively to each period presented. Early adoption is permitted, including in an interim period; however, all of the amendments must be adopted in the same period. | 1st Quarter 2018 | The Corporation has evaluated adoption of the new guidance and determined it will not have a material impact on its results of operations or financial position upon adoption. |
ASU 2016-13 Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments | The FASB issued an amendment to replace the current incurred loss impairment methodology. Under the new guidance, entities will be required to measure expected credit losses by utilizing forward-looking information to assess an entity's allowance for credit losses. The guidance also requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. The measurement of expected credit losses is based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. An entity must use judgment in determining the relevant information and estimation methods that are appropriate in its circumstances. This amendment is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Entities should apply the amendment by means of a cumulative-effect adjustment to retained earnings as of the beginning of the fiscal year of adoption. Early adoption is permitted. | 1st Quarter 2020 | The Corporation is currently evaluating the impact on its results of operations, financial position, and liquidity. A cross-functional team has been established to assess and implement the standard. |
ASU 2016-02; ASU 2018-01 Leases (Topic 842) | The FASB issued an amendment to provide transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. This amendment will require lessees to recognize the following for all leases (with the exception of short-term leases) at the commencement date: 1) a lease liability, which is a lessee's obligation to make lease payments arising from a lease, measured on a discounted basis; and 2) a right-of-use asset, which is an asset that represents the lessee's right to use, or control the use of, a specified asset for the lease term. Under the new guidance, lessor accounting is largely unchanged. This amendment is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2018. Entities are required to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. The modified retrospective approach includes a number of optional practical expedients that entities may elect to apply. These practical expedients relate to the identification and classification of leases that commenced before the effective date, initial direct costs for leases that commenced before the effective date, and the ability to use hindsight in evaluating lessee options to extend or terminate a lease or to purchase the underlying asset. Early adoption is permitted. In January 2018, the FASB issued an amendment to provide entities with the optional practical expedient to not evaluate existing or expired land easements that were previously not accounted for as leases under Topic 840. | 1st Quarter 2019 | The Corporation is currently evaluating the impact on its results of operations, financial position, and liquidity. A cross-functional team has been established to assess and implement the standard. |
65
Standard | Description | Date of adoption | Effect on financial statements |
ASU 2016-01 Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities | The FASB issued an amendment to address certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. This amendment supersedes the guidance to classify equity securities with readily determinable fair values into different categories, requires equity securities to be measured at fair value with changes in the fair value recognized through net income, and simplifies the impairment assessment of equity investments without readily determinable fair values. The amendment requires public business entities that are required to disclose the fair value of financial instruments measured at amortized cost on the balance sheet to measure that fair value using the exit price notion. The amendment requires an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option. The amendment requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset on the balance sheet or in the accompanying notes to the financial statements. The amendment reduces diversity in current practice by clarifying that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available for sale securities in combination with the entity’s other deferred tax assets. This amendment is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities are required to apply the amendment by means of a cumulative-effect adjustment as of the beginning of the fiscal year of adoption, with the exception of the amendment related to equity securities without readily determinable fair values, which should be applied prospectively to equity investments that exist as of the date of adoption. | 1st Quarter 2018 | The Corporation has evaluated adoption of the new guidance and determined it will not have a material impact on its results of operations, financial position, or liquidity. |
ASU 2014-09 Revenue from Contracts with Customers (Topic 606) | The FASB issued an amendment to clarify the principles for recognizing revenue and to develop a common revenue standard. The standard outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The core principle of the revenue model is that “an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.” In applying the revenue model to contracts within its scope, an entity should apply the following steps: (1) identify the contract(s) with a customer, (2) identify the performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract, and (5) recognize revenue when (or as) the entity satisfies a performance obligation. The standard applies to all contracts with customers except those that are within the scope of other topics in the FASB Codification. The standard also requires significantly expanded disclosures about revenue recognition. The FASB continues to release new accounting guidance related to the adoption of this standard, which could impact the Corporation's preliminary materiality analysis and may change the conclusions reached as to the application of this new guidance. The amendment was originally to be effective for annual reporting periods beginning after December 15, 2016 (including interim reporting periods within those periods); however, in July 2015, the FASB approved a one year deferral of the effective date to December 31, 2017. | 1st Quarter 2018 | Approximately 70% of the Corporation’s revenue comes from net interest income and is explicitly out of scope of the guidance. Other out-of-scope revenue streams excluded approximately 10% of additional revenue. The primary contracts subject to the guidance include service charges and deposit account fees, card-based and loan fees, trust and asset management fees, brokerage commissions and fees, and insurance commissions and fees. The Corporation has concluded the adoption of the accounting standard will not have a material impact on the Corporation's revenue recognition patterns or financial presentation and disclosures. The new standard is largely consistent with the existing guidance and current practices applied by our businesses. We will adopt this guidance using the modified retrospective approach in first quarter of 2018. |
ITEM 7A. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
Information required by this item is set forth in Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, under the captions Quantitative and Qualitative Disclosures about Market Risk and Interest Rate Risk.
66
ITEM 8. | FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA |
ASSOCIATED BANC-CORP
CONSOLIDATED BALANCE SHEETS
December 31, | ||||||
2017 | 2016 | |||||
(In Thousands, Except Share and Per Share Data) | ||||||
Assets | ||||||
Cash and due from banks | $ | $ | ||||
Interest-bearing deposits in other financial institutions | ||||||
Federal funds sold and securities purchased under agreements to resell | ||||||
Investment securities held to maturity, at amortized cost | ||||||
Investment securities available for sale, at fair value | ||||||
Federal Home Loan Bank and Federal Reserve Bank stocks, at cost | ||||||
Residential loans held for sale (a) | ||||||
Commercial loans held for sale | ||||||
Loans | ||||||
Allowance for loan losses | ( | ) | ( | ) | ||
Loans, net | ||||||
Bank and corporate owned life insurance | ||||||
Tax credit investments | ||||||
Trading assets | ||||||
Premises and equipment, net | ||||||
Goodwill | ||||||
Mortgage servicing rights, net | ||||||
Other intangible assets, net | ||||||
Other assets | ||||||
Total assets | $ | $ | ||||
Liabilities and stockholders' equity | ||||||
Noninterest-bearing demand deposits | $ | $ | ||||
Interest-bearing deposits | ||||||
Total deposits | ||||||
Federal funds purchased and securities sold under agreements to repurchase | ||||||
Other short-term funding | ||||||
Long-term funding | ||||||
Trading liabilities | ||||||
Accrued expenses and other liabilities | ||||||
Total liabilities | ||||||
Stockholders’ equity | ||||||
Preferred equity | ||||||
Common equity | ||||||
Common stock | ||||||
Surplus | ||||||
Retained earnings | ||||||
Accumulated other comprehensive income (loss) | ( | ) | ( | ) | ||
Treasury stock, at cost | ( | ) | ( | ) | ||
Total common equity | ||||||
Total stockholders’ equity | ||||||
Total liabilities and stockholders’ equity | $ | $ | ||||
Preferred shares issued | ||||||
Preferred shares authorized (par value $1.00 per share) | ||||||
Common shares issued | ||||||
Common shares authorized (par value $0.01 per share) | ||||||
Treasury shares of common stock | ||||||
(a) | Effective January 1, 2017, residential loans held for sale are accounted for under the fair value option method of accounting. Prior periods have not been restated. For more information on this accounting policy change, please refer to Note 1 to Notes to the Consolidated Financial Statements. |
See accompanying notes to consolidated financial statements.
67
ASSOCIATED BANC-CORP
CONSOLIDATED STATEMENTS OF INCOME
For the Years Ended December 31, | |||||||||
2017 | 2016 | 2015 | |||||||
(In Thousands, Except Per Share Data) | |||||||||
Interest income | |||||||||
Interest and fees on loans | $ | $ | $ | ||||||
Interest and dividends on investment securities | |||||||||
Taxable | |||||||||
Tax-exempt | |||||||||
Other interest | |||||||||
Total interest income | |||||||||
Interest expense | |||||||||
Interest on deposits | |||||||||
Interest on Federal funds purchased and securities sold under agreements to repurchase | |||||||||
Interest on other short-term funding | |||||||||
Interest on long-term funding | |||||||||
Total interest expense | |||||||||
Net interest income | |||||||||
Provision for credit losses | |||||||||
Net interest income after provision for credit losses | |||||||||
Noninterest income | |||||||||
Insurance commissions and fees | |||||||||
Service charges and deposit account fees | |||||||||
Card-based and loan fees | |||||||||
Trust and asset management fees | |||||||||
Brokerage commissions and fees | |||||||||
Mortgage banking, net | |||||||||
Capital markets, net | |||||||||
Bank and corporate owned life insurance | |||||||||
Asset gains (losses), net | ( | ) | ( | ) | |||||
Investment securities gains (losses), net | |||||||||
Other | |||||||||
Total noninterest income | |||||||||
Noninterest expense | |||||||||
Personnel | |||||||||
Occupancy | |||||||||
Technology | |||||||||
Equipment | |||||||||
Business development and advertising | |||||||||
Legal and professional | |||||||||
Card issuance and loan costs | |||||||||
Foreclosure / OREO expense, net | |||||||||
FDIC assessment | |||||||||
Other intangible amortization | |||||||||
Other | |||||||||
Total noninterest expense | |||||||||
Income before income taxes | |||||||||
Income tax expense | |||||||||
Net income | |||||||||
Preferred stock dividends | |||||||||
Net income available to common equity | $ | $ | $ | ||||||
Earnings per common share | |||||||||
Basic | $ | $ | $ | ||||||
Diluted | $ | $ | $ | ||||||
Average common shares outstanding | |||||||||
Basic | |||||||||
Diluted | |||||||||
See accompanying notes to consolidated financial statements.
68
ASSOCIATED BANC-CORP
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
For the Years Ended December 31, | |||||||||
2017 | 2016 | 2015 | |||||||
($ in Thousands) | |||||||||
Net income | $ | $ | $ | ||||||
Other comprehensive income, net of tax | |||||||||
Investment securities available for sale | |||||||||
Net unrealized gains (losses) | ( | ) | ( | ) | ( | ) | |||
Net unrealized gain (loss) on available for sale securities transferred to held to maturity securities | ( | ) | |||||||
Amortization of net unrealized gain (loss) on available for sale securities transferred to held to maturity securities | ( | ) | ( | ) | ( | ) | |||
Reclassification adjustment for net gain (loss) realized in net income | ( | ) | ( | ) | |||||
Income tax (expense) benefit | |||||||||
Other comprehensive income (loss) on investment securities available for sale | ( | ) | ( | ) | ( | ) | |||
Defined benefit pension and postretirement obligations | |||||||||
Amortization of prior service cost | ( | ) | ( | ) | |||||
Plan amendments | |||||||||
Amortization of actuarial loss (gains) | ( | ) | ( | ) | |||||
Income tax (expense) benefit | ( | ) | |||||||
Other comprehensive income (loss) on pension and postretirement obligations | ( | ) | ( | ) | |||||
Total other comprehensive income (loss) | ( | ) | ( | ) | ( | ) | |||
Comprehensive income | $ | $ | $ | ||||||
See accompanying notes to consolidated financial statements.
69
ASSOCIATED BANC-CORP
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
Preferred Equity | Common Stock | ||||||||||||||||||||||||
Shares | Amount | Shares | Amount | Surplus | Retained Earnings | Accumulated Other Comprehensive Income (Loss) | Treasury Stock | Total | |||||||||||||||||
(In Thousands, Except Per Share Data) | |||||||||||||||||||||||||
Balance, December 31, 2014 | $ | $ | $ | $ | $ | ( | ) | $ | ( | ) | $ | ||||||||||||||
Comprehensive income | |||||||||||||||||||||||||
Net income | |||||||||||||||||||||||||
Other comprehensive income (loss) | ( | ) | ( | ) | |||||||||||||||||||||
Comprehensive income | $ | ||||||||||||||||||||||||
Common stock issued | |||||||||||||||||||||||||
Stock-based compensation plans, net | ( | ) | |||||||||||||||||||||||
Acquisition of Ahmann & Martin Co. | |||||||||||||||||||||||||
Purchase of common stock returned to authorized but unissued | ( | ) | ( | ) | ( | ) | ( | ) | |||||||||||||||||
Purchase of treasury stock | ( | ) | ( | ) | |||||||||||||||||||||
Cash dividends | |||||||||||||||||||||||||
Common stock, $0.41 per share | ( | ) | ( | ) | |||||||||||||||||||||
Preferred stock | ( | ) | ( | ) | |||||||||||||||||||||
Issuance of preferred stock | |||||||||||||||||||||||||
Purchase of preferred stock | ( | ) | ( | ) | ( | ) | ( | ) | |||||||||||||||||
Other | ( | ) | ( | ) | ( | ) | |||||||||||||||||||
Stock-based compensation expense, net | |||||||||||||||||||||||||
Tax impact of stock-based compensation | |||||||||||||||||||||||||
Balance, December 31, 2015 | $ | $ | $ | $ | $ | ( | ) | $ | ( | ) | $ | ||||||||||||||
Comprehensive income | |||||||||||||||||||||||||
Net income | |||||||||||||||||||||||||
Other comprehensive income (loss) | ( | ) | ( | ) | |||||||||||||||||||||
Comprehensive income | $ | ||||||||||||||||||||||||
Common stock issued | |||||||||||||||||||||||||
Stock-based compensation plans, net | ( | ) | |||||||||||||||||||||||
Purchase of common stock returned to authorized but unissued | ( | ) | ( | ) | ( | ) | ( | ) | |||||||||||||||||
Purchase of treasury stock | ( | ) | ( | ) | |||||||||||||||||||||
Cash dividends | |||||||||||||||||||||||||
Common stock, $0.45 per share | ( | ) | ( | ) | |||||||||||||||||||||
Preferred stock | ( | ) | ( | ) | |||||||||||||||||||||
Issuance of preferred stock | |||||||||||||||||||||||||
Redemption of preferred stock | ( | ) | ( | ) | ( | ) | ( | ) | |||||||||||||||||
Purchase of preferred stock | ( | ) | ( | ) | ( | ) | |||||||||||||||||||
Stock-based compensation expense, net | |||||||||||||||||||||||||
Tax impact of stock-based compensation | ( | ) | ( | ) | |||||||||||||||||||||
Balance, December 31, 2016 | $ | $ | $ | $ | $ | ( | ) | $ | ( | ) | $ | ||||||||||||||
Comprehensive income | |||||||||||||||||||||||||
Net income | |||||||||||||||||||||||||
Other comprehensive income (loss) | ( | ) | ( | ) | |||||||||||||||||||||
Comprehensive income | $ | ||||||||||||||||||||||||
Common stock issued | |||||||||||||||||||||||||
Stock-based compensation plans, net | ( | ) | |||||||||||||||||||||||
Acquisition of Whitnell & Co. | |||||||||||||||||||||||||
Purchase of common stock returned to authorized but unissued | ( | ) | ( | ) | ( | ) | ( | ) | |||||||||||||||||
Purchase of treasury stock | ( | ) | ( | ) | |||||||||||||||||||||
Cash dividends | |||||||||||||||||||||||||
Common stock, $0.50 per share | ( | ) | ( | ) | |||||||||||||||||||||
Preferred stock | ( | ) | ( | ) | |||||||||||||||||||||
Stock-based compensation expense, net | |||||||||||||||||||||||||
Tax impact of stock-based compensation | |||||||||||||||||||||||||
Balance, December 31, 2017 | $ | $ | $ | $ | $ | ( | ) | $ | ( | ) | $ | ||||||||||||||
See accompanying notes to consolidated financial statements.
70
ASSOCIATED BANC-CORP
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, | |||||||||
2017 | 2016 | 2015 | |||||||
Cash Flows from Operating Activities | ($ in Thousands) | ||||||||
Net income | $ | $ | $ | ||||||
Adjustments to reconcile net income to net cash provided by operating activities: | |||||||||
Provision for credit losses | |||||||||
Depreciation and amortization | |||||||||
Addition to (recovery of) valuation allowance on mortgage servicing rights, net | ( | ) | ( | ) | |||||
Amortization of mortgage servicing rights | |||||||||
Amortization of other intangible assets | |||||||||
Amortization and accretion on earning assets, funding, and other, net | |||||||||
Net amortization of tax credit investments | |||||||||
Deferred income taxes | ( | ) | |||||||
Gain on sales of investment securities, net | ( | ) | ( | ) | ( | ) | |||
Asset (gains) losses, net | ( | ) | |||||||
Gain on mortgage banking activities, net | ( | ) | ( | ) | ( | ) | |||
Mortgage loans originated and acquired for sale | ( | ) | ( | ) | ( | ) | |||
Proceeds from sales of mortgage loans held for sale | |||||||||
Pension contributions | ( | ) | |||||||
(Increase) decrease in interest receivable | ( | ) | ( | ) | |||||
Increase (decrease) in interest payable | ( | ) | |||||||
Net change in other assets and other liabilities | ( | ) | ( | ) | |||||
Net cash provided by operating activities | |||||||||
Cash Flows from Investing Activities | |||||||||
Net increase in loans | ( | ) | ( | ) | ( | ) | |||
Purchases of | |||||||||
Available for sale securities | ( | ) | ( | ) | ( | ) | |||
Held to maturity securities | ( | ) | ( | ) | ( | ) | |||
Federal Home Loan Bank and Federal Reserve Bank stocks | ( | ) | ( | ) | ( | ) | |||
Premises, equipment, and software, net of disposals | ( | ) | ( | ) | ( | ) | |||
Proceeds from | |||||||||
Sales of available for sale securities | |||||||||
Sale of Federal Home Loan Bank and Federal Reserve Bank stocks | |||||||||
Prepayments, calls, and maturities of available for sale securities | |||||||||
Prepayments, calls, and maturities of held to maturity securities | |||||||||
Prepayments, calls and maturities of other assets | |||||||||
Net change in tax credit investments | ( | ) | ( | ) | ( | ) | |||
Net cash (paid) received in acquisition | ( | ) | |||||||
Net cash used in investing activities | ( | ) | ( | ) | ( | ) | |||
Cash Flows from Financing Activities | |||||||||
Net increase in deposits | |||||||||
Net increase (decrease) in short-term funding | ( | ) | ( | ) | |||||
Repayment of long-term funding | ( | ) | ( | ) | ( | ) | |||
Proceeds from issuance of long-term funding | |||||||||
Proceeds from issuance of common stock for stock-based compensation plans | |||||||||
Proceeds from issuance of preferred stock | |||||||||
Redemption of preferred stock | ( | ) | |||||||
Purchase of preferred stock | ( | ) | ( | ) | |||||
Purchase of common stock returned to authorized but unissued | ( | ) | ( | ) | ( | ) | |||
Purchase of treasury stock for tax withholding | ( | ) | ( | ) | ( | ) | |||
Cash dividends on common stock | ( | ) | ( | ) | ( | ) | |||
Cash dividends on preferred stock | ( | ) | ( | ) | ( | ) | |||
Net cash provided by financing activities | |||||||||
Net increase (decrease) in cash and cash equivalents | ( | ) | |||||||
Cash and cash equivalents at beginning of period | |||||||||
Cash and cash equivalents at end of period | $ | $ | $ | ||||||
Supplemental disclosures of cash flow information | |||||||||
Cash paid for interest | $ | $ | $ | ||||||
Cash paid for income and franchise taxes | |||||||||
Loans and bank premises transferred to other real estate owned | |||||||||
Capitalized mortgage servicing rights | |||||||||
Loans transferred into held for sale from portfolio, net | |||||||||
Acquisition | |||||||||
Fair value of assets acquired, including cash and cash equivalents | |||||||||
Fair value ascribed to goodwill and intangible assets | |||||||||
Fair value of liabilities assumed | |||||||||
Common stock issued in acquisition | |||||||||
See accompanying notes to consolidated financial statements.
71
ASSOCIATED BANC-CORP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2017, 2016, and 2015
Note 1 Summary of Significant Accounting Policies
The accounting and reporting policies of the Corporation conform to U.S. generally accepted accounting principles and to general practice within the financial services industry. The following is a description of the more significant of those policies.
Associated Banc-Corp (individually referred to herein as the "Parent Company" and together with all of its subsidiaries and affiliates, collectively referred to herein as the "Corporation") is a bank holding company headquartered in Wisconsin. The Corporation provides a full range of banking and related financial services to consumer and commercial customers through its network of bank and nonbank subsidiaries. The Corporation is subject to competition from other financial and non-financial institutions that offer similar or competing products and services. The Corporation is regulated by federal and state agencies and is subject to periodic examinations by those agencies.
Basis of Financial Statement Presentation
The consolidated financial statements include the accounts of the Parent Company and its wholly-owned subsidiaries. Investments in unconsolidated entities (none of which are considered to be variable interest entities in which the Corporation is the primary beneficiary) are accounted for using the cost method of accounting when the Corporation has determined that the cost method is appropriate. Investments not meeting the criteria for cost method accounting are accounted for using the equity method of accounting. Investments in unconsolidated entities are included in other assets, and the Corporation’s share of income or loss is recorded in other noninterest income, while distributions in excess of the investment are recorded in gain on assets.
All significant intercompany balances and transactions have been eliminated in consolidation.
Securities are classified as held to maturity or available for sale at the time of purchase. Investment securities classified as held to maturity, which management has the positive intent and ability to hold to maturity, are reported at amortized cost. Investment securities classified as available for sale, which management has the intent and ability to hold for an indefinite period of time, but not necessarily to maturity, are carried at fair value, with unrealized gains and losses, net of related deferred income taxes, included in stockholders’ equity as a separate component of other comprehensive income. Any decision to sell investment securities available for sale would be based on various factors, including, but not limited to, asset / liability management strategies, changes in interest rates or prepayment risks, liquidity needs, or regulatory capital considerations. Realized gains or losses on investment security sales (using specific identification method) are included in investment securities gains (losses), net, in the consolidated statements of income. Premiums and discounts are amortized or accreted into interest income over the estimated life (earlier of call date, maturity, or estimated life) of the related security, using a prospective method that approximates level yield.
In certain situations, management may elect to transfer certain investment securities from the available for sale classification to the held to maturity classification. In such cases, the investment securities are reclassified at fair value at the time of transfer. Any unrealized gain or loss included in accumulated other comprehensive income (loss) at the time of transfer is retained therein and amortized over the remaining life of the investment security as an adjustment to yield.
Declines in the fair value of investment securities (with certain exceptions for debt securities noted below) that are deemed to be other-than-temporary are charged to earnings as a realized loss, and a new cost basis for the investment security is established. In evaluating other-than-temporary impairment, management considers the length of time and extent to which the security has been in an unrealized loss position, changes in security ratings, the financial condition and near-term prospects of the issuer, as well as security and industry specific economic conditions. In addition, the Corporation considers the intent and ability to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value in the near term. Declines in the fair value of debt securities below amortized cost are deemed to be other-than-temporary in circumstances where: (1) the Corporation has the intent to sell a security; (2) it is more likely than not that the Corporation will be required to sell the security
72
Residential Loans Held for Sale: Loans held for sale, which consist generally of current production of certain fixed-rate, first-lien residential mortgage loans, are now carried at estimated fair value. Effective January 1, 2017, management elected the fair value option to account for all newly originated mortgage loans held for sale which results in the financial impact of changing market conditions being reflected currently in earnings as opposed to being dependent upon the timing of sales. The estimated fair value was based on what secondary markets are currently offering for portfolios with similar characteristics, which the Corporation classifies as a Level 2 fair value measurement.
Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are reported at their outstanding principal balances, net of any deferred fees and costs on originated loans. Origination fee income received on loans and amounts representing the estimated direct costs of origination are deferred and amortized to interest income over the life of the loan using the effective interest method. An allowance for loan losses is established for estimated credit losses in the loan portfolio. See Allowance for Loan Losses below for further policy discussion.
Nonaccrual Loans: Management considers a loan to be impaired when it is probable that the Corporation will be unable to collect all amounts due according to the original contractual terms of the note agreement, including both principal and interest. This determination is based on management's review of current information and other events regarding the borrowers’ ability to repay their obligations. Management has determined that commercial and consumer loan relationships that have nonaccrual status or have had their terms restructured in a troubled debt restructuring meet this impaired loan definition.
Interest income on loans is based on the principal balance outstanding computed using the effective interest method. The accrual of interest income for commercial loans is discontinued when there is a clear indication that the borrower’s cash flow may not be sufficient to meet payments as they become due, while the accrual of interest income for consumer loans is discontinued when loans reach specific delinquency levels. Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. Loans are generally placed on nonaccrual status when contractually past due 90 days or more as to interest or principal payments, unless the loan is well secured and in the process of collection. Additionally, whenever management becomes aware of facts or circumstances that may adversely impact the collectability of principal or interest on loans, it is management’s practice to place such loans on a nonaccrual status immediately, rather than delaying such action until the loans become 90 days past due. When a loan is placed on nonaccrual status, previously accrued and uncollected interest is reversed, amortization of related deferred loan fees or costs is suspended, and income is recorded only to the extent that interest payments are subsequently received in cash and a determination has been made that the principal and interest of the loan is collectible. If collectability of the principal and interest is in doubt, payments received are applied to loan principal.
While a loan is in nonaccrual status, some or all of the cash interest payments received may be treated as interest income on a cash basis as long as the remaining recorded investment in the loan (i.e., after charge off of identified losses, if any) is deemed to be fully collectible. The determination as to the ultimate collectability of the loan's remaining recorded investment must be supported by a current, well documented credit evaluation of the borrower’s financial condition and prospects for repayment, including consideration of the borrower’s sustained historical repayment performance and other relevant factors. A nonaccrual loan is returned
73
The methodology applied by the Corporation, designed to assess the appropriateness of the allowance for loan losses, is based upon management’s ongoing review and grading of the loan portfolio into criticized loan categories (defined as specific loans warranting either specific allocation, or a criticized status of special mention, substandard, doubtful, or loss). The methodology also focuses on evaluation of several factors, including but not limited to: evaluation of facts and issues related to specific loans, management’s ongoing review and grading of the loan portfolio, consideration of historical loan loss and delinquency experience on each portfolio category, trends in past due and nonaccrual loans, the level of potential problem loans, the risk characteristics of the various classifications of loans, changes in the size and character of the loan portfolio, concentrations of loans to specific borrowers or industries, existing economic conditions, the fair value of underlying collateral, and other qualitative and quantitative factors which could affect potential credit losses. Because each of the criteria used is subject to change, the analysis of the allowance for loan losses is not necessarily indicative of the trend of future loan losses in any particular loan category. The total allowance for loan losses is available to absorb losses from any segment of the loan portfolio.
When an individual loan is determined to be impaired, the allowance for loan losses attributable to the loan is allocated based on management’s estimate of the borrower’s ability to repay the loan given the availability of collateral, other sources of cash flows, as well as evaluation of legal options available to the Corporation. The amount of impairment is measured based upon the present value of expected future cash flows discounted at the loan’s effective interest rate, the fair value of the underlying collateral less applicable selling costs, or the observable market price of the loan. If foreclosure is probable or the loan is collateral dependent, impairment is measured using the fair value of the loan’s collateral, less costs to sell. Large groups of homogeneous loans, such as residential mortgage, home equity, and other consumer, are collectively evaluated for impairment.
Other real estate owned is included in other assets in the consolidated balance sheets and is comprised of property acquired through a foreclosure proceeding or acceptance of a deed-in-lieu of foreclosure, and loans classified as in-substance foreclosure. Other real estate owned is recorded at the fair value of the underlying property collateral, less estimated selling costs. This fair value becomes the new cost basis for the foreclosed asset. The initial write-down, if any, will be recorded as a charge off against the
74
Goodwill and Other Intangible Assets: The excess of the cost of an acquisition over the fair value of the net assets acquired consists primarily of goodwill, core deposit intangibles, and other identifiable intangibles (primarily related to customer relationships acquired). Core deposit intangibles have estimated finite lives and are amortized on an accelerated basis to expense over a 10 -year period. The other intangibles have estimated finite lives and are amortized on an accelerated basis to expense over their weighted average life (a weighted average life of 11 years for 2017 and 12 years for 2016). The Corporation reviews long-lived assets and certain identifiable intangibles for impairment at least annually, or whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable, in which case an impairment charge would be recorded.
Goodwill is not amortized but, instead, is subject to impairment tests on at least an annual basis, and more frequently if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. The impairment testing process is conducted by assigning net assets and goodwill to each reporting unit. An initial qualitative evaluation is made to assess the likelihood of impairment and determine whether further quantitative testing to calculate the fair value is necessary. When the qualitative evaluation indicates that impairment is more likely than not, quantitative testing is required whereby the fair value of each reporting unit is calculated and compared to the recorded book value, “step one.” If the calculated fair value of the reporting unit exceeds its carrying value, goodwill is not considered impaired and “step two” is not considered necessary. If the carrying value of a reporting unit exceeds its calculated fair value, the impairment test continues (“step two”) by comparing the carrying value of the reporting unit’s goodwill to the implied fair value of goodwill. The implied fair value is computed by adjusting all assets and liabilities of the reporting unit to current fair value with the offset adjustment to goodwill.
75
The adjusted goodwill balance is the implied fair value of the goodwill. An impairment charge is recognized if the carrying value of goodwill exceeds the implied fair value of goodwill. See Note 5 for additional information on goodwill and other intangible assets.
Mortgage Servicing Rights: The Corporation sells residential mortgage loans in the secondary market and typically retains the right to service the loans sold. Upon sale, a mortgage servicing rights asset is capitalized, which represents the then current fair value of future net cash flows expected to be realized for performing servicing activities. Mortgage servicing rights, when purchased, are initially recorded at fair value. As the Corporation has not elected to subsequently measure any class of servicing assets under the fair value measurement method, the Corporation follows the amortization method. Mortgage servicing rights are amortized in proportion to and over the period of estimated net servicing income, and assessed for impairment at each reporting date. Mortgage servicing rights are carried at the lower of the initial capitalized amount, net of accumulated amortization, or estimated fair value, in the consolidated balance sheets.
Amounts provided for income tax expense are based on income reported for financial statement purposes and do not necessarily represent amounts currently payable under tax laws. Deferred income taxes, which arise principally from temporary differences between the amounts reported in the financial statements and the tax bases of assets and liabilities, are included in the amounts provided for income taxes. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income and tax planning strategies which will create taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, the amount of taxes paid in available carryback years, projected future taxable income, and, if necessary, tax planning strategies in making this assessment.
The Corporation files a consolidated federal income tax return and separate or combined state income tax returns. Accordingly, amounts equal to tax benefits of those subsidiaries having taxable federal or state losses or credits are offset by other subsidiaries that incur federal or state tax liabilities.
Derivative instruments, including derivative instruments embedded in other contracts, are carried at fair value on the consolidated balance sheets with changes in the fair value recorded to earnings or accumulated other comprehensive income, as appropriate. On the date the derivative contract is entered into, the Corporation designates the derivative as a fair value hedge (i.e., a hedge of the fair value of a recognized asset or liability), a cash flow hedge (i.e., a hedge of the variability of cash flows to be received or paid related to a recognized asset or liability), or a free-standing derivative instrument. For a derivative designated as a fair value hedge, the changes in the fair value of the derivative instrument and the changes in the fair value of the hedged asset or liability are recognized in current period earnings as an increase or decrease to the carrying value of the hedged item on the balance sheet and in the related income statement account. For a derivative designated as a cash flow hedge, the effective portions of changes
76
in the fair value of a derivative instrument are recorded in other comprehensive income and the ineffective portions of changes in the fair value of a derivative instrument are recognized in current period earnings as an adjustment to the related income statement account. Amounts within accumulated other comprehensive income are reclassified into earnings in the period the hedged item affects earnings. For a derivative designated as a free-standing derivative instrument, changes in fair value are reported in current period earnings. At December 31, 2017 and 2016, the Corporation only had free-standing derivative instruments to facilitate customer borrowing activity. These free-standing derivative instruments included: interest rate risk management, commodity hedging, and foreign currency exchange solutions. See Note 14 for additional information on derivative and hedging activities.
Fair value represents the estimated price at which an orderly transaction to sell an asset or to transfer a liability would take place between market participants at the measurement date under current market conditions (i.e., an exit price concept). As there is no active market for many of the Corporation’s financial instruments, estimates are made using discounted cash flow or other valuation techniques. Inputs into the valuation methods are subjective in nature, involve uncertainties, and require significant judgment and therefore cannot be determined with precision. Accordingly, the derived fair value estimates presented herein are not necessarily indicative of the amounts the Corporation could realize in a current market exchange. Assets and liabilities are categorized into 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. In instances where the determination of the fair value measurement is based on inputs from different levels of the fair value hierarchy, the level in the fair value hierarchy in which the entire fair value measurement falls is based on the lowest level input that is significant to the fair value measurement in its entirety. The Corporation’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability. See Note 18 for additional information on fair value measurements. Below is a brief description of each fair value level.
Level 1 — Level 1 inputs utilize quoted prices (unadjusted) in active markets for identical assets or liabilities that the Corporation has the ability to access.
Level 2 — Level 2 inputs are inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs may include quoted prices for similar assets and liabilities in active markets, as well as inputs that are observable for the asset or liability (other than quoted prices), such as interest rates, foreign exchange rates, and yield curves that are observable at commonly quoted intervals.
77
Standard | Description | Date of adoption | Effect on financial statements |
ASU 2017-08 Receivables - Nonrefundable Fees and Other Costs (Subtopic 310-20), Premium Amortization on Purchased Callable Debt Securities | The FASB issued amendments to require that certain purchased callable debt securities held at a premium be amortized to the earliest call date. The amendments do not require an accounting change for securities held at a discount, which continue to be amortized to maturity. | 1st Quarter 2017 | The Corporation early adopted the accounting standard with no material impact on results of operations, financial position, or liquidity. |
ASU 2017-03 Accounting Changes and Error Corrections (Topic 250) and Investments - Equity Method and Joint Ventures (Topic 323) | The FASB issues amendments to require, for ASUs that have not been adopted yet, registrants to determine the potential effects (if material) of those ASUs on their financial statements when adopted and include the appropriate disclosures in the financial statements. If the impact of adoption is unknown or cannot be estimated, a registrant should include a statement noting this and consider adding qualitative disclosures to the financial statements to assist the reader in evaluating the impact of the ASUs, when adopted, on the financial statements. | 1st Quarter 2017 | No material impact on results of operations, financial position, or liquidity. |
ASU 2016-17 Consolidation (Topic 810): Interests Held through Related Parties That Are Under Common Control | The FASB issued an amendment to address how a reporting entity that is a single decision maker of a variable interest entity treats indirect interests in the entity held through related parties that are under common control with the reporting entity. | 1st Quarter 2017 | No material impact on results of operations, financial position, or liquidity. |
ASU 2016-07 Investments - Equity Method and Joint Ventures (Topic 323): Simplifying the Transition to the Equity Method of Accounting | The FASB issued an amendment to eliminate the requirement that when an investment qualifies for use of the equity method as a result of an increase in the level of ownership interest or degree of influence, an investor must adjust the investment, results of operations, and retained earnings retroactively on a step-by-step basis as if the equity method had been in effect during all previous periods that the investment had been held. The amendment requires that the equity method investor add the cost of acquiring the additional interests in the investee to the current basis of the investor’s previously held interest and adopt the equity method of accounting as of the date the investment becomes qualified for equity method accounting. Therefore, upon qualifying for the equity method of accounting, no retroactive adjustment of the investment is required. The amendment requires that an entity that has an available-for-sale equity security that becomes qualified for the equity method of accounting recognize through earnings the unrealized holding gain or loss in accumulated other comprehensive income at the date the investment becomes qualified for use of the equity method. Entities should apply the amendment prospectively to increases in the level of ownership interest or degree of influence that result in the adoption of the equity method. | 1st Quarter 2017 | No material impact on results of operations, financial position, or liquidity. |
78
Note 2 Acquisitions
On October 2, 2017, the Corporation completed its previously announced acquisition of Whitnell & Co., a wealth management family office services firm based in Oak Brook, IL. The Corporation recorded goodwill of $4 million and other intangibles of $2 million related to the Whitnell & Co. acquisition.
During the first quarter of 2017, the Corporation completed a small insurance acquisition to complement its existing insurance and benefits related products and services provided by Associated Benefits and Risk Consulting. The Corporation recorded goodwill of $55,000 and other intangibles of $162,000 related to the insurance acquisition.
See Note 5 for additional information on goodwill and other intangible assets
On February 1, 2018, the Corporation acquired Bank Mutual Corporation ("Bank Mutual") pursuant to an Agreement and Plan of Merger, dated as of July 20, 2017 (the "Merger Agreement") under which Bank Mutual merged with and into the Corporation. Under the terms of the Merger Agreement, Bank Mutual’s shareholders received 0.422 shares of the Corporation's common stock for each share of Bank Mutual’s common stock. The Corporation expects to issue approximately 19.6 million shares for a total deal value of approximately $485 million based on the closing sale price of a share of Associated common stock on January 31, 2018. We expect to merge Bank Mutual's banking subsidiary into Associated Bank in late June or July 2018.
79
Note 3 Investment Securities
Investment securities are generally classified as available for sale or held to maturity at the time of purchase. See Note 1 for the Corporation’s accounting policy for investment securities. The majority of the Corporation's investment securities are mortgage-related securities issued by the Government National Mortgage Association (“GNMA”) or GSEs such as the Federal National Mortgage Association (“FNMA”) and the Federal Home Loan Mortgage Corporation (“FHLMC”).
December 31, 2017 | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | |||||||||
($ in Thousands) | |||||||||||||
Investment securities available for sale | |||||||||||||
U.S. Treasury securities | $ | $ | $ | ( | ) | $ | |||||||
Residential mortgage-related securities | |||||||||||||
FNMA / FHLMC | ( | ) | |||||||||||
GNMA | ( | ) | |||||||||||
Private-label | ( | ) | |||||||||||
GNMA commercial mortgage-related securities | ( | ) | |||||||||||
FFELP asset backed securities | ( | ) | |||||||||||
Other securities (debt and equity) | ( | ) | |||||||||||
Total investment securities available for sale | $ | $ | $ | ( | ) | $ | |||||||
Investment securities held to maturity | |||||||||||||
Obligations of state and political subdivisions (municipal securities) | $ | $ | $ | ( | ) | $ | |||||||
Residential mortgage-related securities | |||||||||||||
FNMA / FHLMC | ( | ) | |||||||||||
GNMA | ( | ) | |||||||||||
GNMA commercial mortgage-related securities | ( | ) | |||||||||||
Total investment securities held to maturity | $ | $ | $ | ( | ) | $ | |||||||
December 31, 2016 | Amortized Cost | Gross Unrealized Gains | Gross Unrealized Losses | Fair Value | |||||||||
($ in Thousands) | |||||||||||||
Investment securities available for sale | |||||||||||||
U.S. Treasury securities | $ | $ | $ | $ | |||||||||
Residential mortgage-related securities: | |||||||||||||
FNMA / FHLMC | ( | ) | |||||||||||
GNMA | ( | ) | |||||||||||
Private-label | ( | ) | |||||||||||
GNMA commercial mortgage-related securities | ( | ) | |||||||||||
Other securities (debt and equity) | ( | ) | |||||||||||
Total investment securities available for sale | $ | $ | $ | ( | ) | $ | |||||||
Investment securities held to maturity | |||||||||||||
Obligations of state and political subdivisions (municipal securities) | $ | $ | $ | ( | ) | $ | |||||||
Residential mortgage-related securities | |||||||||||||
FNMA / FHLMC | ( | ) | |||||||||||
GNMA | ( | ) | |||||||||||
Total investment securities held to maturity | $ | $ | $ | ( | ) | $ | |||||||
80
Available for Sale | Held to Maturity | ||||||||||||||
Amortized Cost | Fair Value | Amortized Cost | Fair Value | ||||||||||||
($ in Thousands) | |||||||||||||||
Due in one year or less | $ | $ | $ | $ | |||||||||||
Due after one year through five years | |||||||||||||||
Due after five years through ten years | |||||||||||||||
Due after ten years | |||||||||||||||
Total debt securities | |||||||||||||||
Residential mortgage-related securities | |||||||||||||||
FNMA / FHLMC | |||||||||||||||
GNMA | |||||||||||||||
Private-label | |||||||||||||||
GNMA commercial mortgage-related securities | |||||||||||||||
FFELP asset backed securities | |||||||||||||||
Equity securities | |||||||||||||||
Total investment securities | $ | $ | $ | $ | |||||||||||
Ratio of Fair Value to Amortized Cost | % | % | |||||||||||||
During the year ended December 31, 2017, the Corporation reclassified GNMA residential mortgage-related securities and GNMA commercial mortgage-related securities from available for sale to held to maturity with an amortized cost of approximately $1 billion. The GNMA residential and commercial mortgage-related securities are principally securities with a CRA component in the underlying collateral. The reclassification of these investment securities was accounted for at fair value. Management elected to transfer these investment securities as the Corporation has the positive intent and ability to hold these investment securities to maturity.
2017 | 2016 | 2015 | |||||||
($ in Thousands) | |||||||||
Gross gains on available for sale securities | $ | $ | $ | ||||||
Gross gains on held to maturity securities | |||||||||
Total gains | |||||||||
Gross losses on available for sale securities | ( | ) | ( | ) | |||||
Gross losses on held to maturity securities | ( | ) | |||||||
Total losses | ( | ) | ( | ) | ( | ) | |||
Investment securities gains, net | $ | $ | $ | ||||||
Proceeds from sales of investment securities | $ | $ | $ | ||||||
During 2017, the Corporation sold approximately $18 million of municipal securities classified as held to maturity due to significant credit concerns and negative actions taken by credit rating agencies, primarily as a result of budgetary pressures in the State of Illinois and State of Connecticut. These sales resulted in a net gain of approximately $434,000 .
During 2016 and 2015, the Corporation restructured its investment securities portfolio from FNMA and FHLMC mortgage-related securities and reinvested into GNMA mortgage-related securities. The Corporation sold approximately $550 million of FNMA and FHLMC mortgage-related securities in 2016 and sold approximately $1.6 billion in 2015, generating net gains on sales of $9 million and $8 million, respectively. The sales of FNMA and FHLMC mortgage-related securities and the subsequent purchase of GNMA mortgage-related securities lowered risk weighted assets and related capital requirements.
Securities with a carrying value of approximately $3.1 billion and $1.8 billion at December 31, 2017, and December 31, 2016, respectively, were pledged to secure certain deposits or for other purposes as required or permitted by law.
81
Less than 12 months | 12 months or more | Total | ||||||||||||||||||||
December 31, 2017 | Number of Securities | Unrealized Losses | Fair Value | Number of Securities | Unrealized Losses | Fair Value | Unrealized Losses | Fair Value | ||||||||||||||
($ in Thousands) | ||||||||||||||||||||||
Investment securities available for sale | ||||||||||||||||||||||
U.S. Treasury securities | $ | ( | ) | $ | $ | $ | $ | ( | ) | $ | ||||||||||||
Residential mortgage-related securities | ||||||||||||||||||||||
FNMA / FHLMC | ( | ) | ( | ) | ( | ) | ||||||||||||||||
GNMA | ( | ) | ( | ) | ( | ) | ||||||||||||||||
Private-label | ( | ) | ( | ) | ||||||||||||||||||
GNMA commercial mortgage-related securities | ( | ) | ( | ) | ( | ) | ||||||||||||||||
FFELP asset backed securities | ( | ) | ( | ) | ||||||||||||||||||
Other securities (debt and equity) | ( | ) | ( | ) | ||||||||||||||||||
Total | $ | ( | ) | $ | $ | ( | ) | $ | $ | ( | ) | $ | ||||||||||
Investment securities held to maturity | ||||||||||||||||||||||
Obligations of state and political subdivisions (municipal securities) | $ | ( | ) | $ | $ | ( | ) | $ | $ | ( | ) | $ | ||||||||||
Residential mortgage-related securities | ||||||||||||||||||||||
FNMA / FHLMC | ( | ) | ( | ) | ( | ) | ||||||||||||||||
GNMA | ( | ) | ( | ) | ( | ) | ||||||||||||||||
GNMA commercial mortgage-related securities | ( | ) | ( | ) | ( | ) | ||||||||||||||||
Total | $ | ( | ) | $ | $ | ( | ) | $ | $ | ( | ) | $ | ||||||||||
For comparative purposes, the following represents gross unrealized losses and the related fair value of investment securities available for sale and held to maturity, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2016.
Less than 12 months | 12 months or more | Total | ||||||||||||||||||||
December 31, 2016 | Number of Securities | Unrealized Losses | Fair Value | Number of Securities | Unrealized Losses | Fair Value | Unrealized Losses | Fair Value | ||||||||||||||
($ in Thousands) | ||||||||||||||||||||||
Investment securities available for sale | ||||||||||||||||||||||
Residential mortgage-related securities | ||||||||||||||||||||||
FNMA / FHLMC | $ | ( | ) | $ | $ | $ | $ | ( | ) | $ | ||||||||||||
GNMA | ( | ) | ( | ) | ||||||||||||||||||
Private-label | ( | ) | ( | ) | ||||||||||||||||||
GNMA commercial mortgage-related securities | ( | ) | ( | ) | ( | ) | ||||||||||||||||
Other securities (debt and equity) | ( | ) | ( | ) | ||||||||||||||||||
Total | $ | ( | ) | $ | $ | ( | ) | $ | $ | ( | ) | $ | ||||||||||
Investment securities held to maturity | ||||||||||||||||||||||
Obligations of state and political subdivisions (municipal securities) | $ | ( | ) | $ | $ | ( | ) | $ | $ | ( | ) | $ | ||||||||||
Residential mortgage-related securities | ||||||||||||||||||||||
FNMA / FHLMC | ( | ) | ( | ) | ( | ) | ||||||||||||||||
GNMA | ( | ) | ( | ) | ||||||||||||||||||
Total | $ | ( | ) | $ | $ | ( | ) | $ | $ | ( | ) | $ | ||||||||||
The Corporation reviews the investment securities portfolio on a quarterly basis to monitor its exposure to other-than-temporary impairment. A determination as to whether a security’s decline in fair value is other-than-temporary takes into consideration
82
numerous factors and the relative significance of any single factor can vary by security. Some factors the Corporation may consider in the other-than-temporary impairment analysis include, the length of time and extent to which the security has been in an unrealized loss position, changes in security ratings, financial condition and near-term prospects of the issuer, as well as security and industry specific economic conditions.
Based on the Corporation’s evaluation, management does not believe any unrealized loss at December 31, 2017, represents an other-than-temporary impairment as these unrealized losses are primarily attributable to changes in interest rates and the current market conditions, and not credit deterioration. The unrealized losses reported for municipal securities relate to various state and local political subdivisions and school districts. The unrealized losses at December 31, 2017 for mortgage-related securities is due to the increase in overall interest rates. The U.S. Treasury 3-year and 5-year rates increased by 51 bp and 27 bp, respectively, from December 31, 2016. The Corporation currently does not intend to sell nor does it believe that it will be required to sell the securities contained in the above unrealized losses table before recovery of their amortized cost basis.
83
Note 4 Loans
2017 | 2016 | ||||||
($ in Thousands) | |||||||
Commercial and industrial | $ | $ | |||||
Commercial real estate - owner occupied | |||||||
Commercial and business lending | |||||||
Commercial real estate - investor | |||||||
Real estate construction | |||||||
Commercial real estate lending | |||||||
Total commercial | |||||||
Residential mortgage | |||||||
Home equity | |||||||
Other consumer | |||||||
Total consumer | |||||||
Total loans | $ | $ | |||||
2017 | 2016 | |||||
($ in Thousands) | ||||||
Balance at beginning of year | $ | $ | ||||
New loans | ||||||
Repayments | ( | ) | ( | ) | ||
Change due to status of executive officers and directors | ( | ) | ( | ) | ||
Balance at end of year | $ | $ | ||||
Pass | Special Mention | Potential Problem | Nonaccrual | Total | |||||||||||||||
($ in Thousands) | |||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | ||||||||||||||
Commercial real estate - owner occupied | |||||||||||||||||||
Commercial and business lending | |||||||||||||||||||
Commercial real estate - investor | |||||||||||||||||||
Real estate construction | |||||||||||||||||||
Commercial real estate lending | |||||||||||||||||||
Total commercial | |||||||||||||||||||
Residential mortgage | |||||||||||||||||||
Home equity | |||||||||||||||||||
Other consumer | |||||||||||||||||||
Total consumer | |||||||||||||||||||
Total loans | $ | $ | $ | $ | $ | ||||||||||||||
84
The following table presents commercial and consumer loans by credit quality indicator at December 31, 2016.
Pass | Special Mention | Potential Problem | Nonaccrual | Total | |||||||||||||||
($ in Thousands) | |||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | ||||||||||||||
Commercial real estate - owner occupied | |||||||||||||||||||
Commercial and business lending | |||||||||||||||||||
Commercial real estate - investor | |||||||||||||||||||
Real estate construction | |||||||||||||||||||
Commercial real estate lending | |||||||||||||||||||
Total commercial | |||||||||||||||||||
Residential mortgage | |||||||||||||||||||
Home equity | |||||||||||||||||||
Other consumer | |||||||||||||||||||
Total consumer | |||||||||||||||||||
Total loans | $ | $ | $ | $ | $ | ||||||||||||||
Factors that are important to managing overall credit quality are sound loan underwriting and administration, systematic monitoring of existing loans and commitments, effective loan review on an ongoing basis, early identification of potential problems, an appropriate allowance for loan losses, allowance for unfunded commitments, nonaccrual, and charge off policies. See Note 1 for the Corporation's accounting policy for loans.
For commercial loans, management has determined the pass credit quality indicator to include credits that exhibit acceptable financial statements, cash flow, and leverage. If any risk exists, it is mitigated by the loan structure, collateral, monitoring, or control. For consumer loans, performing loans include credits that are performing in accordance with the original contractual terms. Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. Special mention credits have potential weaknesses that deserve management’s attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the credit. Potential problem loans are considered inadequately protected by the current net worth and paying capacity of the obligor or the collateral pledged. These loans generally have a well-defined weakness, or weaknesses, that may jeopardize liquidation of the debt and are characterized by the distinct possibility that the Corporation will sustain some loss if the deficiencies are not corrected. Lastly, management considers a loan to be impaired when it is probable that the Corporation will be unable to collect all amounts due according to the original contractual terms of the note agreement, including both principal and interest. Management has determined that commercial and consumer loan relationships that have nonaccrual status or have had their terms restructured in a troubled debt restructuring meet this impaired loan definition. Commercial loans classified as special mention, potential problem, and nonaccrual loans are reviewed at a minimum on a quarterly basis, while pass rated credits are reviewed on an annual basis or more frequently if the loan renewal is less than one year or if otherwise warranted.
85
Current | 30-59 Days Past Due | 60-89 Days Past Due | 90 Days or More Past Due (a) | Nonaccrual (b) | Total | ||||||||||||||||||
($ in Thousands) | |||||||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | $ | |||||||||||||||||
Commercial real estate - owner occupied | |||||||||||||||||||||||
Commercial and business lending | |||||||||||||||||||||||
Commercial real estate - investor | |||||||||||||||||||||||
Real estate construction | |||||||||||||||||||||||
Commercial real estate lending | |||||||||||||||||||||||
Total commercial | |||||||||||||||||||||||
Residential mortgage | |||||||||||||||||||||||
Home equity | |||||||||||||||||||||||
Other consumer | |||||||||||||||||||||||
Total consumer | |||||||||||||||||||||||
Total loans | $ | $ | $ | $ | $ | $ | |||||||||||||||||
(a) | The recorded investment in loans past due 90 days or more and still accruing totaled $ |
(b) | Of the total nonaccrual loans, $ |
The following table presents loans by past due status at December 31, 2016.
Current | 30-59 Days Past Due | 60-89 Days Past Due | 90 Days or More Past Due (a) | Nonaccrual (b) | Total | ||||||||||||||||||
($ in Thousands) | |||||||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | $ | |||||||||||||||||
Commercial real estate - owner occupied | |||||||||||||||||||||||
Commercial and business lending | |||||||||||||||||||||||
Commercial real estate - investor | |||||||||||||||||||||||
Real estate construction | |||||||||||||||||||||||
Commercial real estate lending | |||||||||||||||||||||||
Total commercial | |||||||||||||||||||||||
Residential mortgage | |||||||||||||||||||||||
Home equity | |||||||||||||||||||||||
Other consumer | |||||||||||||||||||||||
Total consumer | |||||||||||||||||||||||
Total loans | $ | $ | $ | $ | $ | $ | |||||||||||||||||
(a) | The recorded investment in loans past due 90 days or more and still accruing totaled $ |
(b) |
86
Recorded Investment | Unpaid Principal Balance | Related Allowance | Average Recorded Investment | Interest Income Recognized | |||||||||||||||
($ in Thousands) | |||||||||||||||||||
Loans with a related allowance | |||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | ||||||||||||||
Commercial real estate - owner occupied | |||||||||||||||||||
Commercial and business lending | |||||||||||||||||||
Commercial real estate - investor | |||||||||||||||||||
Real estate construction | |||||||||||||||||||
Commercial real estate lending | |||||||||||||||||||
Total commercial | |||||||||||||||||||
Residential mortgage | |||||||||||||||||||
Home equity | |||||||||||||||||||
Other consumer | |||||||||||||||||||
Total consumer | |||||||||||||||||||
Total loans | $ | $ | $ | $ | $ | ||||||||||||||
Loans with no related allowance | |||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | ||||||||||||||
Commercial real estate - owner occupied | |||||||||||||||||||
Commercial and business lending | |||||||||||||||||||
Commercial real estate - investor | |||||||||||||||||||
Real estate construction | |||||||||||||||||||
Commercial real estate lending | |||||||||||||||||||
Total commercial | |||||||||||||||||||
Residential mortgage | |||||||||||||||||||
Home equity | |||||||||||||||||||
Other consumer | |||||||||||||||||||
Total consumer | |||||||||||||||||||
Total loans | $ | $ | $ | $ | $ | ||||||||||||||
Total | |||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | ||||||||||||||
Commercial real estate - owner occupied | |||||||||||||||||||
Commercial and business lending | |||||||||||||||||||
Commercial real estate - investor | |||||||||||||||||||
Real estate construction | |||||||||||||||||||
Commercial real estate lending | |||||||||||||||||||
Total commercial | |||||||||||||||||||
Residential mortgage | |||||||||||||||||||
Home equity | |||||||||||||||||||
Other consumer | |||||||||||||||||||
Total consumer | |||||||||||||||||||
Total loans (a) | $ | $ | $ | $ | $ | ||||||||||||||
(a) | The net recorded investment (defined as recorded investment, net of the related allowance) of the impaired loans represented |
87
The following table presents impaired loans individually evaluated under ASC Topic 310 at December 31, 2016.
Recorded Investment | Unpaid Principal Balance | Related Allowance | Average Recorded Investment | Interest Income Recognized | |||||||||||||||
($ in Thousands) | |||||||||||||||||||
Loans with a related allowance | |||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | ||||||||||||||
Commercial real estate - owner occupied | |||||||||||||||||||
Commercial and business lending | |||||||||||||||||||
Commercial real estate - investor | |||||||||||||||||||
Real estate construction | |||||||||||||||||||
Commercial real estate lending | |||||||||||||||||||
Total commercial | |||||||||||||||||||
Residential mortgage | |||||||||||||||||||
Home equity | |||||||||||||||||||
Other consumer | |||||||||||||||||||
Total consumer | |||||||||||||||||||
Total loans | $ | $ | $ | $ | $ | ||||||||||||||
Loans with no related allowance | |||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | ||||||||||||||
Commercial real estate - owner occupied | |||||||||||||||||||
Commercial and business lending | |||||||||||||||||||
Commercial real estate - investor | |||||||||||||||||||
Real estate construction | |||||||||||||||||||
Commercial real estate lending | |||||||||||||||||||
Total commercial | |||||||||||||||||||
Residential mortgage | |||||||||||||||||||
Home equity | |||||||||||||||||||
Other consumer | |||||||||||||||||||
Total consumer | |||||||||||||||||||
Total loans | $ | $ | $ | $ | $ | ||||||||||||||
Total | |||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | ||||||||||||||
Commercial real estate - owner occupied | |||||||||||||||||||
Commercial and business lending | |||||||||||||||||||
Commercial real estate - investor | |||||||||||||||||||
Real estate construction | |||||||||||||||||||
Commercial real estate lending | |||||||||||||||||||
Total commercial | |||||||||||||||||||
Residential mortgage | |||||||||||||||||||
Home equity | |||||||||||||||||||
Other consumer | |||||||||||||||||||
Total consumer | |||||||||||||||||||
Total loans (a) | $ | $ | $ | $ | $ | ||||||||||||||
(a) |
88
Troubled Debt Restructurings (“Restructured Loans”)
Loans are considered restructured loans if concessions have been granted to borrowers that are experiencing financial difficulty. See Note 1 for the Corporation's accounting policy for troubled debt restructurings. The Corporation had a recorded investment of approximately $9 million in loans modified in troubled debt restructurings for the year ended December 31, 2017, of which approximately $6 million were in accrual status and $3 million were in nonaccrual pending a sustained period of repayment. As of December 31, 2017 there was approximately $9 million of commitments to lend additional funds to borrowers with restructured loans. The following table presents nonaccrual and performing restructured loans by loan portfolio.
December 31, 2017 | December 31, 2016 | December 31, 2015 | ||||||||||||||||
Performing Restructured Loans | Nonaccrual Restructured Loans(a) | Performing Restructured Loans | Nonaccrual Restructured Loans(a) | Performing Restructured Loans | Nonaccrual Restructured Loans(a) | |||||||||||||
($ in Thousands) | ||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | $ | ||||||||||||
Commercial real estate - owner occupied | ||||||||||||||||||
Commercial real estate - investor | ||||||||||||||||||
Real estate construction | ||||||||||||||||||
Residential mortgage | ||||||||||||||||||
Home equity | ||||||||||||||||||
Other consumer | ||||||||||||||||||
Total restructured loans | $ | $ | $ | $ | $ | $ | ||||||||||||
(a) |
Year Ended December 31, 2017 | Year Ended December 31, 2016 | Year Ended December 31, 2015 | ||||||||||||||||||||||
Number of Loans | Recorded Investment(a) | Unpaid Principal Balance(b) | Number of Loans | Recorded Investment(a) | Unpaid Principal Balance(b) | Number of Loans | Recorded Investment(a) | Unpaid Principal Balance(b) | ||||||||||||||||
($ in Thousands) | ||||||||||||||||||||||||
Commercial and industrial | $ | $ | $ | $ | $ | $ | ||||||||||||||||||
Commercial real estate - owner occupied | ||||||||||||||||||||||||
Commercial real estate - investor | ||||||||||||||||||||||||
Real estate construction | ||||||||||||||||||||||||
Residential mortgage | ||||||||||||||||||||||||
Home equity | ||||||||||||||||||||||||
Other consumer | ||||||||||||||||||||||||
Total | $ | $ | $ | $ | $ | $ | ||||||||||||||||||
(a) | Represents post-modification outstanding recorded investment. |
(b) |
Restructured loan modifications may include payment schedule modifications, interest rate concessions, maturity date extensions, modification of note structure (A/B Note), non-reaffirmed Chapter 7 bankruptcies, principal reduction, or some combination of these concessions. For the year ended December 31, 2017, restructured loan modifications of commercial and industrial, commercial real estate, and real estate construction loans primarily included maturity date extensions, interest rate concessions, payment schedule modifications, or a combination of these concessions. Restructured loan modifications of home equity and residential mortgage loans primarily included maturity date extensions, interest rate concessions, non-reaffirmed Chapter 7 bankruptcies, or a combination of these concessions for the year ended December 31, 2017.
89
Year Ended December 31, 2017 | Year Ended December 31, 2016 | Year Ended December 31, 2015 | |||||||||||||
Number of Loans | Recorded Investment | Number of Loans | Recorded Investment | Number of Loans | Recorded Investment | ||||||||||
($ in Thousands) | |||||||||||||||
Commercial and industrial | $ | $ | $ | ||||||||||||
Residential mortgage | |||||||||||||||
Home equity | |||||||||||||||
Other consumer | |||||||||||||||
Total | $ | $ | $ | ||||||||||||
All loans modified in a troubled debt restructuring are evaluated for impairment. The nature and extent of the impairment of restructured loans, including those which have experienced a subsequent payment default, is considered in the determination of an appropriate level of the allowance for loan losses.
Allowance for Credit Losses
The allowance for credit losses is comprised of the allowance for loan losses and the allowance for unfunded commitments. The level of the allowance for loan losses represents management’s estimate of an amount appropriate to provide for probable credit losses in the loan portfolio at the balance sheet date. See Note 1 for the Corporation's accounting policy on the allowance for loan losses. The allowance for unfunded commitments is maintained at a level believed by management to be sufficient to absorb estimated probable losses related to unfunded credit facilities (including unfunded loan commitments and letters of credit) and is included in accrued expenses and other liabilities on the consolidated balance sheets. See Note 16 for additional information on the allowance for unfunded commitments.
Commercial and industrial | Commercial real estate - owner occupied | Commercial real estate - investor | Real estate construction | Residential mortgage | Home equity | Other consumer | Total | |||||||||||||||||
($ in Thousands) | ||||||||||||||||||||||||
December 31, 2016 | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Charge offs | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ||||||||
Recoveries | ||||||||||||||||||||||||
Net charge offs | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ||||||||||
Provision for loan losses | ( | ) | ( | ) | ||||||||||||||||||||
December 31, 2017 | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Allowance for loan losses | ||||||||||||||||||||||||
Individually evaluated for impairment | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Collectively evaluated for impairment | ||||||||||||||||||||||||
Total allowance for loan losses | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Loans | ||||||||||||||||||||||||
Individually evaluated for impairment | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Collectively evaluated for impairment | ||||||||||||||||||||||||
Total loans | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
90
For comparison purposes, a summary of the changes in the allowance for loan losses by portfolio segment for the year ended December 31, 2016, was as follows.
Commercial and industrial | Commercial real estate - owner occupied | Commercial real estate - investor | Real estate construction | Residential mortgage | Home equity | Other consumer | Total | |||||||||||||||||
($ in Thousands) | ||||||||||||||||||||||||
December 31, 2015 | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Charge offs | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ||||||||
Recoveries | ||||||||||||||||||||||||
Net charge offs | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ( | ) | ||||||||||
Provision for loan losses | ( | ) | ( | ) | ||||||||||||||||||||
December 31, 2016 | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Allowance for loan losses | ||||||||||||||||||||||||
Individually evaluated for impairment | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Collectively evaluated for impairment | ||||||||||||||||||||||||
Total allowance for loan losses | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Loans | ||||||||||||||||||||||||
Individually evaluated for impairment | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Collectively evaluated for impairment | ||||||||||||||||||||||||
Total loans | $ | $ | $ | $ | $ | $ | $ | $ | ||||||||||||||||
Year Ended December 31, 2017 | Year Ended December 31, 2016 | |||||
($ in Millions) | ||||||
Balance at beginning of period | $ | $ | ||||
Charge offs | ( | ) | ( | ) | ||
Recoveries | ||||||
Net Charge offs | ( | ) | ( | ) | ||
Provision for loan losses | ||||||
Balance at end of period | $ | $ | ||||
Allowance for loan losses | ||||||
Individually evaluated for impairment | $ | $ | ||||
Collectively evaluated for impairment | ||||||
Total allowance for loan losses | $ | $ | ||||
Loans | ||||||
Individually evaluated for impairment | $ | $ | ||||
Collectively evaluated for impairment | ||||||
Total loans | $ | $ | ||||
91
The allowance for unfunded commitments is maintained at a level believed by management to be sufficient to absorb estimated probable losses related to unfunded credit facilities (including unfunded loan commitments and letters of credit) and is included in accrued expenses and other liabilities on the consolidated balance sheets. See Note 16 for additional information on the allowance for unfunded commitments and see Note 1 for the Corporation's accounting policy for allowance for unfunded commitments. A summary of the changes in the allowance for unfunded commitments was as follows.
Years Ended December 31, | |||||||||
2017 | 2016 | 2015 | |||||||
($ in Thousands) | |||||||||
Allowance for Unfunded Commitments | |||||||||
Balance at beginning of period | $ | $ | $ | ||||||
Provision for unfunded commitments | ( | ) | ( | ) | |||||
Balance at end of period | $ | $ | $ | ||||||
92
Note 5 Goodwill and Other Intangible Assets
Goodwill: Goodwill is not amortized but, instead, is subject to impairment tests on at least an annual basis, and more frequently if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. See Note 1 for the Corporation’s accounting policy for goodwill and other intangible assets.
The Corporation conducted its most recent annual impairment testing in May 2017, utilizing a qualitative assessment. Factors that management considered in this assessment included macroeconomic conditions, industry and market considerations, overall financial performance of the Corporation and each reporting unit (both current and projected), changes in management strategy, and changes in the composition or carrying amount of net assets. In addition, management considered the increases in both the Corporation’s common stock price and in the overall bank common stock index (based on the S&P 400 Regional Bank Sub-Industry Index), as well as the Corporation’s earnings per common share trend over the past year. Based on these assessments, management concluded that the 2017 annual qualitative impairment assessment indicated that it is more likely than not that the estimated fair value exceeded the carrying value (including goodwill) for each reporting unit. Therefore, a step one quantitative analysis was not required. There were no events since the May 2017 impairment testing that have changed the Corporation's impairment assessment conclusion. There were no impairment charges recorded in 2017, 2016, or 2015.
At December 31, 2017, the Corporation had goodwill of $976 million, compared to $972 million at December 31, 2016 including goodwill of $428 million assigned to the Corporate and Commercial Specialty segment and the remaining assigned to the Community, Consumer and Business segment. There was an addition to the carrying amount of goodwill of approximately $55,000 as a result of a small insurance acquisition during the first quarter of 2017, along with an addition of approximately $4 million in fourth quarter 2017 from the Whitnell acquisition. See Note 2 for additional information on the Corporation's acquisitions.
Other Intangible Assets: The Corporation has other intangible assets that are amortized, consisting of core deposit intangibles, other intangibles (primarily related to customer relationships acquired in connection with the Corporation’s insurance agency acquisitions), and mortgage servicing rights. During the first and fourth quarter of 2017, the Corporation added approximately$162,000 and $2 million of other intangibles, respectively, relating to customer relationships associated with one small insurance acquisition in first quarter 2017, and the Whitnell acquisition in fourth quarter 2017. See Note 2 for additional information on the Corporation's acquisitions. For core deposit intangibles and other intangibles, changes in the gross carrying amount, accumulated amortization, and net book value were as follows.
2017 | 2016 | 2015 | |||||||||
($ in Thousands) | |||||||||||
Core deposit intangibles | |||||||||||
Gross carrying amount | $ | $ | $ | ||||||||
Accumulated amortization | ( | ) | ( | ) | ( | ) | |||||
Net book value | $ | $ | $ | ||||||||
Amortization during the year | $ | $ | $ | ||||||||
Other intangibles | |||||||||||
Gross carrying amount | $ | $ | $ | ||||||||
Accumulated amortization | ( | ) | ( | ) | ( | ) | |||||
Net book value | $ | $ | $ | ||||||||
Additions during the period | $ | $ | $ | ||||||||
Amortization during the year | $ | $ | $ | ||||||||
Mortgage Servicing Rights: The Corporation sells residential mortgage loans in the secondary market and typically retains the right to service the loans sold. Mortgage servicing rights are amortized in proportion to and over the period of estimated net servicing income, and assessed for impairment at each reporting date. See Note 1 for the Corporation’s accounting policy for mortgage servicing rights. See Note 16 for a discussion of the recourse provisions on sold residential mortgage loans. See Note 18 which further discusses fair value measurement relative to the mortgage servicing rights asset.
93
2017 | 2016 | 2015 | |||||||||
($ in Thousands) | |||||||||||
Mortgage servicing rights | |||||||||||
Mortgage servicing rights at beginning of year | $ | $ | $ | ||||||||
Additions | |||||||||||
Amortization | ( | ) | ( | ) | ( | ) | |||||
Mortgage servicing rights at end of year | $ | $ | $ | ||||||||
Valuation allowance at beginning of year | ( | ) | ( | ) | ( | ) | |||||
(Additions) recoveries, net | ( | ) | |||||||||
Valuation allowance at end of year | ( | ) | ( | ) | ( | ) | |||||
Mortgage servicing rights, net | $ | $ | $ | ||||||||
Fair value of mortgage servicing rights | $ | $ | $ | ||||||||
Portfolio of residential mortgage loans serviced for others (“servicing portfolio”) | $ | $ | $ | ||||||||
Mortgage servicing rights, net to servicing portfolio | % | % | % | ||||||||
Mortgage servicing rights expense (a) | $ | $ | $ | ||||||||
(a) |
Estimated Amortization Expense | Other Intangibles | Mortgage Servicing Rights | |||||
($ in Thousands) | |||||||
Year ending December 31, | |||||||
2018 | $ | $ | |||||
2019 | |||||||
2020 | |||||||
2021 | |||||||
2022 | |||||||
Beyond 2022 | |||||||
Total Estimated Amortization Expense | $ | $ | |||||
94
Note 6 Premises and Equipment
See Note 1 for the Corporation’s accounting policy for premises and equipment. A summary of premises and equipment at December 31 was as follows.
2017 | 2016 | |||||||||||||
($ in Thousands) | Estimated Useful Lives | Cost | Accumulated Depreciation | Net Book Value | Net Book Value | |||||||||
Land | — | $ | $ | $ | $ | |||||||||
Land improvements | 3 – 15 years | |||||||||||||
Buildings and improvements | 5 – 39 years | |||||||||||||
Computers | 3 – 5 years | |||||||||||||
Furniture, fixtures and other equipment | 3 – 15 years | |||||||||||||
Leasehold improvements | 3 – 15 years | |||||||||||||
Total premises and equipment | $ | $ | $ | $ | ||||||||||
Depreciation and amortization of premises and equipment totaled $32 million in 2017, $32 million in 2016, and $33 million in 2015.
The Corporation conducts a portion of its business through certain facilities and equipment under noncancelable operating leases. The Corporation also leases a subdivision of some of its facilities and receives rental income from such lease agreements. The approximate minimum annual rental payments and rental receipts under noncancelable agreements and leases with remaining terms in excess of one year are as follows.
($ in Thousands) | Payments | Receipts | ||||
2018 | $ | $ | ||||
2019 | ||||||
2020 | ||||||
2021 | ||||||
2022 | ||||||
Thereafter | ||||||
Total | $ | $ | ||||
95
Note 7 Deposits
2017 | 2016 | |||||
($ in Thousands) | ||||||
Noninterest-bearing demand | $ | $ | ||||
Savings | ||||||
Interest-bearing demand | ||||||
Money market | ||||||
Brokered CDs | ||||||
Other time | ||||||
Total deposits | $ | $ | ||||
Time deposits of $100,000 or more were $1.4 billion and $571 million at December 31, 2017 and 2016, respectively. Time deposits of $250,000 or more were $1.1 billion and $235 million at December 31, 2017 and 2016, respectively.
Maturities During Year Ending December 31, | ($ in Thousands) | ||
2018 | $ | ||
2019 | |||
2020 | |||
2021 | |||
2022 | |||
Thereafter | |||
Total | $ | ||
Note 8 Short-Term Funding
2017 | 2016 | |||||
($ in Thousands) | ||||||
Federal funds purchased | $ | $ | ||||
Securities sold under agreements to repurchase | ||||||
Federal funds purchased and securities sold under agreements to repurchase | ||||||
FHLB advances | ||||||
Commercial paper | ||||||
Other short-term funding | ||||||
Total short-term funding | $ | $ | ||||
Securities Sold Under Agreements to Repurchase ("Repurchase Agreements")
The Corporation enters into agreements under which it sells securities subject to an obligation to repurchase the same or similar securities. Under these arrangements, the Corporation may transfer legal control over the assets but still retain effective control through an agreement that both entitles and obligates the Corporation to repurchase the assets. The obligation to repurchase the securities is reflected as a liability on the Corporation’s consolidated balance sheets, while the securities underlying the repurchase agreements remain in the respective investment securities asset accounts (i.e., there is no offsetting or netting of the investment securities assets with the repurchase agreement liabilities).
The Corporation utilizes securities sold under agreements to repurchase to facilitate the needs of its customers. As of December 31, 2017, the Corporation pledged agency mortgage-related securities with a fair value of $325 million as collateral for the repurchase agreements. Securities pledged as collateral under repurchase agreements are maintained with the Corporation's safekeeping agents and are monitored on a daily basis due to the market risk of fair value changes in the underlying securities. The Corporation
96
generally pledges excess securities to ensure there is sufficient collateral to satisfy short-term fluctuations in both the repurchase agreement balances and the fair value of the underlying securities.
Remaining Contractual Maturity of the Agreements | |||||||||||||||
Overnight and Continuous | Up to 30 days | 30-90 days | Greater than 90 days | Total | |||||||||||
($ in Thousands) | |||||||||||||||
December 31, 2017 | |||||||||||||||
Repurchase agreements | |||||||||||||||
Agency mortgage-related securities | $ | $ | $ | $ | $ | ||||||||||
Total | $ | $ | $ | $ | $ | ||||||||||
December 31, 2016 | |||||||||||||||
Repurchase agreements | |||||||||||||||
Agency mortgage-related securities | $ | $ | $ | $ | $ | ||||||||||
Total | $ | $ | $ | $ | $ | ||||||||||
Note 9 Long-Term Funding
2017 | 2016 | |||||
($ in Thousands) | ||||||
FHLB advances | $ | $ | ||||
Senior notes, at par | ||||||
Subordinated notes, at par | ||||||
Other long-term funding and capitalized costs | ( | ) | ( | ) | ||
Total long-term funding | $ | $ | ||||
FHLB Advances: At December 31, 2017, the long-term FHLB advances had maturity or call dates primarily ranging from 2018 through 2019, and had an average interest rate of 1.26 %, compared to 0.50 % at December 31, 2016. The majority of FHLB advances are indexed to the FHLB discount note and re-price at varying intervals. The advances offer flexible, relatively low cost, long-term funding that improves the Corporation’s liquidity profile.
Senior Notes: In November 2014, the Corporation issued $250 million of senior notes, due November 2019, and callable October 2019. The senior notes have a fixed coupon interest rate of 2.75 % and were issued at a discount.
Subordinated Notes: In November 2014, the Corporation issued $250 million of 10 -year subordinated notes, due January 2025, and callable October 2024. The subordinated notes have a fixed coupon interest rate of 4.25 % and were issued at a discount.
Under agreements with the Federal Home Loan Bank of Chicago, FHLB advances (short-term and long-term) are secured by qualifying mortgages of the subsidiary bank (such as residential mortgage, residential mortgage loans held for sale, home equity, and commercial real estate). At December 31, 2017, the Corporation had $6.6 billion of total collateral capacity supported by residential mortgage and home equity loans. Total short-term and long-term FHLB advances outstanding at December 31, 2017, was $3.2 billion.
97
Year | ($ in Thousands) | ||
2018 | $ | ||
2019 | |||
2020 | |||
2021 | |||
2022 | |||
Thereafter | |||
Total long-term funding | $ | ||
Note 10 Stockholders' Equity
Preferred Equity: In September 2011, the Corporation issued 2,600,000 depositary shares, each representing a 1/40th interest in a share of the Corporation’s 8.00 % Non-Cumulative Perpetual Preferred Stock, Series B, liquidation preference $1,000 per share (the “Series B Preferred Stock”). On July 23, 2013, the Board of Directors authorized the purchase of up to $10 million of the Corporation’s Series B Preferred Stock. During 2015, the Corporation repurchased approximately 50,000 depositary shares for $1 million. On September 15, 2016, the Corporation redeemed all remaining depositary shares for $59 million.
In June 2015, the Corporation issued 2,600,000 depositary shares, each representing a 1/40th interest in a share of the Corporation’s 6.125 % Non-Cumulative Perpetual Preferred Stock, Series C, liquidation preference $1,000 per share (the “Series C Preferred Stock”). Dividends on the Series C Preferred Stock are payable quarterly in arrears only when, as and if declared by the Board of Directors at a rate per annum equal to 6.125 %. Shares of the Series C Preferred Stock have priority over the Corporation’s common stock with regard to the payment of dividends and distributions upon liquidation, dissolution or winding up. As such, the Corporation may not pay dividends on or repurchase, redeem, or otherwise acquire for consideration shares of its common stock unless dividends for the Series C Preferred Stock have been declared for that period, and sufficient funds have been set aside to make payment. The Series C Preferred Stock may be redeemed by the Corporation at its option (i) either in whole or in part, from time to time, on any dividend payment date on or after the dividend payment date occurring on June 15, 2020 , or (ii) in whole but not in part, at any time within 90 days following certain regulatory capital treatment events, in each case at a redemption price of $1,000 per share (equivalent to $25 per depositary share), plus any applicable dividends. Except in certain limited circumstances, the Series C Preferred Stock does not have any voting rights.
On August 28, 2015, the Board of Directors authorized the repurchase of up to $10 million of the Corporation's Series C Preferred Stock. As of December 31, 2017, $10 million remained available under this repurchase authorization.
In September 2016, the Corporation issued 4,000,000 depositary shares, each representing a 1/40th interest in a share of the Corporation’s 5.375 % Non-Cumulative Perpetual Preferred Stock, Series D, liquidation preference $1,000 per share (the “Series D Preferred Stock”). Dividends on the Series D Preferred Stock are payable quarterly in arrears only when, as and if declared by the Board of Directors at a rate per annum equal to 5.375 %. Shares of the Series D Preferred Stock have priority over the Corporation’s common stock with regard to the payment of dividends and distributions upon liquidation, dissolution or winding up. As such, the Corporation may not pay dividends on or repurchase, redeem, or otherwise acquire for consideration shares of its common stock unless dividends for the Series D Preferred Stock have been declared for that period, and sufficient funds have been set aside to make payment. The Series D Preferred Stock may be redeemed by the Corporation at its option (i) either in whole or in part, from time to time, on any dividend payment date on or after the dividend payment date occurring on September 15, 2021 , or (ii) in whole but not in part, at any time within 90 days following certain regulatory capital treatment events, in each case at a redemption price of $1,000 per share (equivalent to $25 per depositary share), plus any applicable dividends. Except in certain limited circumstances, the Series D Preferred Stock does not have any voting rights.
On July 25, 2017, the Board of Directors authorized the repurchase of up to $15 million of the Corporation's Series D Preferred Stock. As of December 31, 2017, $15 million remained available under this repurchase authorization.
Common Stock Warrants: In November 2008, under the Capital Purchase Program, the Corporation issued a 10 year warrant to purchase approximately 4 million shares of common stock. The Common Stock Warrants have a term of 10 years and are exercisable at any time, in whole or in part, at an exercise price of $19.77 per share (subject to certain anti-dilution adjustments). On December 6, 2011, the U.S. Department of Treasury closed an underwritten secondary public offering of the warrants, each representing the right to purchase one share of common stock, par value $0.01 per share, of the Corporation. The public offering price and the allocation of the warrants in the secondary public warrant offering by the U.S. Treasury were determined by an auction process and the Corporation received no proceeds from the public offering.
98
Subsidiary Equity: At December 31, 2017, subsidiary equity equaled $3.3 billion. See Note 19 for additional information on regulatory requirements for the Bank.
Common Stock Repurchases: The Board of Directors authorized the repurchase of common stock during 2015. During 2017, the Corporation repurchased approximately 1.6 million shares for $37 million (or an average cost per common share of $23.59 ), all of which were returned to authorized but unissued shares. During 2016, the Corporation repurchased 1 million shares for $20 million (or an average cost per common share of $17.10 ), all of which were returned to authorized but unissued shares.
The Corporation also repurchased shares for minimum tax withholding settlements on equity compensation totaling approximately $9 million (370,000 shares at an average cost per common share of $25.08 ) during 2017 compared to repurchases of shares for minimum tax withholding settlements on equity compensation totaling approximately $5 million (293,000 shares at an average cost per common share of $17.30 ) for 2016.
As of December 31, 2017, approximately $51 million remained available to repurchase shares of common stock under previously approved Board of Director authorizations. The repurchase of shares will be based on market and investment opportunities, capital levels, growth prospects, and regulatory constraints. Such repurchases may occur from time to time in open market purchases, block transactions, private transactions, accelerated share repurchase programs, or similar facilities.
Note 11 Stock-Based Compensation
Stock-Based Compensation Plan
In March 2013, the Board of Directors, with subsequent approval of the Corporation’s shareholders, approved the adoption of the 2013 Incentive Compensation Plan (“2013 Plan”).
In February 2017, the Board of Directors, with subsequent approval of the Corporation’s shareholders, approved the adoption of the 2017 Incentive Compensation Plan (“2017 Plan”). All remaining shares available for grant under the 2013 Plan were rolled into the 2017 Plan. As of December 31, 2017, approximately 14 million shares remained available for grant under the 2017 Plan.
Under the 2017 Plan, options are generally exercisable up to 10 years from the date of grant, have an exercise price that is equal to the closing price of the Corporation’s stock on the grant date, and vest ratably over four years .
The Corporation also issues restricted common stock and restricted common stock units to certain key employees (collectively referred to as “restricted stock awards”) under the 2017 Plan. The shares of restricted stock are restricted as to transfer, but are not restricted as to dividend payment or voting rights. Restricted stock units receive dividend equivalents but do not have voting rights. The transfer restrictions lapse over three years or four years , depending upon whether the awards are performance-based or service-based. Performance-based awards are based on earnings per share performance goals, relative total shareholder return, and continued employment or meeting the requirements for retirement and service-based awards are contingent upon continued employment or meeting the requirements for retirement. Performance-based restricted stock awards vest over a performance period of three years and service-based restricted stock awards vest ratably over four years .
The 2017 Plan provides that restricted stock awards and stock options will immediately become fully vested upon retirement from the Corporation of those colleagues whose retirement meets the early retirement or normal retirement definitions under the plan (“retirement eligible colleagues”). See Note 1 for the Corporation’s accounting policy for stock based compensation.
Accounting for Stock-Based Compensation
Assumptions are used in estimating the fair value of stock options granted. The weighted average expected life of the stock option represents the period of time that stock options are expected to be outstanding and is estimated using historical data of stock option exercises and forfeitures. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant. The expected volatility is based on the implied volatility of the Corporation’s stock. The following assumptions were used in estimating the fair value for options granted in 2017, 2016 and 2015.
99
2017 | 2016 | 2015 | ||||
Dividend yield | % | % | % | |||
Risk-free interest rate | % | % | % | |||
Weighted average expected volatility | % | % | % | |||
Weighted average expected life | ||||||
Weighted average per share fair value of options | $ | $ | $ | |||
Stock Options | Shares | Weighted Average Exercise Price | Weighted Average Remaining Contractual Term | Aggregate Intrinsic Value (000s) | |||||
Outstanding at December 31, 2016 | $ | $ | |||||||
Granted | |||||||||
Exercised | ( | ) | |||||||
Forfeited or expired | ( | ) | |||||||
Outstanding at December 31, 2017 | $ | $ | |||||||
Options Exercisable at December 31, 2017 | $ | $ | |||||||
Restricted Stock | Shares | Weighted Average Grant Date Fair Value | |||
Outstanding at December 31, 2016 | $ | ||||
Granted | |||||
Vested | ( | ) | |||
Forfeited | ( | ) | |||
Outstanding at December 31, 2017 | $ | ||||
100
Note 12 Retirement Plan
The Corporation has a noncontributory defined benefit retirement plan (the Retirement Account Plan) covering substantially all employees who meet participation requirements. The benefits are based primarily on years of service and the employee’s compensation paid. Employees of acquired entities generally participate in the RAP after consummation of the business combinations. Any retirement plans of acquired entities are typically merged into the RAP after completion of the mergers, and credit is usually given to employees for years of service at the acquired institution for vesting and eligibility purposes.
The Corporation also provides legacy healthcare access to a limited group of retired employees from a previous acquisition in the Postretirement Plan. There are no other active retiree healthcare plans.
Retirement Account Plan | Postretirement Plan | Retirement Account Plan | Postretirement Plan | |||||||||
($ in Thousands) | 2017 | 2017 | 2016 | 2016 | ||||||||
Change in Fair Value of Plan Assets | ||||||||||||
Fair value of plan assets at beginning of year | $ | $ | $ | $ | ||||||||
Actual return on plan assets | ||||||||||||
Employer contributions | ||||||||||||
Gross benefits paid | ( | ) | ( | ) | ( | ) | ( | ) | ||||
Fair value of plan assets at end of year (a) | $ | $ | $ | $ | ||||||||
Change in Benefit Obligation | ||||||||||||
Net benefit obligation at beginning of year | $ | $ | $ | $ | ||||||||
Service cost | ||||||||||||
Interest cost | ||||||||||||
Plan amendments | ( | ) | ( | ) | ||||||||
Actuarial (gain) loss | ||||||||||||
Gross benefits paid | ( | ) | ( | ) | ( | ) | ( | ) | ||||
Net benefit obligation at end of year (a) | $ | $ | $ | $ | ||||||||
Funded (unfunded) status | $ | $ | ( | ) | $ | $ | ( | ) | ||||
Noncurrent assets | ||||||||||||
Current liabilities | ( | ) | ( | ) | ||||||||
Noncurrent liabilities | ( | ) | ( | ) | ||||||||
Asset (Liability) Recognized in the Consolidated Balance Sheets | $ | $ | ( | ) | $ | $ | ( | ) | ||||
(a) |
Retirement Account Plan | Postretirement Plan | Retirement Account Plan | Postretirement Plan | |||||||||
($ in Thousands) | 2017 | 2017 | 2016 | 2016 | ||||||||
Prior service cost | $ | ( | ) | $ | ( | ) | $ | ( | ) | $ | ( | ) |
Net actuarial loss | ||||||||||||
Amount not yet recognized in net periodic benefit cost, but recognized in accumulated other comprehensive loss | $ | $ | ( | ) | $ | $ | ( | ) | ||||
101
Retirement Account Plan | Postretirement Plan | Retirement Account Plan | Postretirement Plan | |||||||||
($ in Thousands) | 2017 | 2017 | 2016 | 2016 | ||||||||
Net gain (loss) | $ | $ | ( | ) | $ | ( | ) | $ | ( | ) | ||
Amortization of prior service cost | ( | ) | ( | ) | ( | ) | ||||||
Amortization of actuarial loss (gain) | ||||||||||||
Plan amendments | ||||||||||||
Income tax (expense) benefit | ( | ) | ( | ) | ||||||||
Total Recognized in OCI | $ | $ | ( | ) | $ | ( | ) | $ | ||||
Retirement Account Plan | Postretirement Plan | Retirement Account Plan | Postretirement Plan | Retirement Account Plan | Postretirement Plan | |||||||||||||
($ in Thousands) | 2017 | 2017 | 2016 | 2016 | 2015 | 2015 | ||||||||||||
Service cost | $ | $ | $ | $ | $ | $ | ||||||||||||
Interest cost | ||||||||||||||||||
Expected return on plan assets | ( | ) | — | ( | ) | — | ( | ) | — | |||||||||
Amortization of: | ||||||||||||||||||
Prior service cost | ( | ) | ( | ) | ( | ) | ||||||||||||
Actuarial (gain) loss | ||||||||||||||||||
Total net pension cost | $ | ( | ) | $ | $ | ( | ) | $ | $ | ( | ) | $ | ||||||
As of December 31, 2017, the estimated actuarial losses and prior service cost that will be amortized during 2018 from accumulated other comprehensive income into net periodic benefit cost for the Retirement Account Plan includes expense of $1.9 million for actuarial losses and income of $75,000 for the prior service cost. For the Postretirement Plan, the estimated actuarial losses and prior service cost that will be amortized during 2018 from accumulated other comprehensive income into net periodic benefit cost includes income of $75,000 for the prior service cost. Actuarial loss expense is estimated to be negligible.
Retirement Account Plan | Postretirement Plan | Retirement Account Plan | Postretirement Plan | |||||
2017 | 2017 | 2016 | 2016 | |||||
Weighted average assumptions used to determine benefit obligations | ||||||||
Discount rate | % | % | % | % | ||||
Rate of increase in compensation levels | % | N/A | % | N/A | ||||
Weighted average assumptions used to determine net periodic benefit costs | ||||||||
Discount rate | % | % | % | % | ||||
Rate of increase in compensation levels | % | N/A | % | N/A | ||||
Expected long-term rate of return on plan assets | % | N/A | % | N/A | ||||
The overall expected long-term rates of return on the Retirement Account Plan assets were 6.50 % for 2017 and 7.00 % for 2016. The expected long-term (more than 20 years) rate of return was estimated using market benchmarks for equities and bonds applied to the Retirement Account Plan’s anticipated asset allocations. The expected return on equities was computed utilizing a valuation framework, which projected future returns based on current equity valuations rather than historical returns. The actual rate of return for the Retirement Account Plan assets was 14.60 % and 6.36 % for 2017 and 2016, respectively.
102
The Retirement Account Plan’s investments are exposed to various risks, such as interest rate, market, and credit risks. Due to the level of risks associated with certain investments and the level of uncertainty related to changes in the value of the investments, it is at least reasonably possible that changes in risks in the near term could materially affect the amounts reported. The investment objective for the Retirement Account Plan is to maximize total return with a tolerance for average risk. The plan has a diversified portfolio designed to provide liquidity, current income, and growth of income and principal, with anticipated asset allocation ranges of: equity securities 50 to 70 %, fixed income securities 30 to 50 %, other cash equivalents 0 to 10 %, and alternative securities 0 to 15 %. Based on changes in economic and market conditions, the Corporation could be outside of the allocation ranges for brief periods of time. The asset allocation for the Retirement Account Plan as of the December 31, 2017 and 2016 measurement dates, respectively, by asset category were as follows.
Asset Category | 2017 | 2016 | ||
Equity securities | % | % | ||
Fixed income securities | % | % | ||
Other | % | % | ||
Total | % | % | ||
The Retirement Account Plan assets include cash equivalents, such as money market accounts, mutual funds, and common / collective trust funds (which include investments in equity and bond securities). Money market accounts are stated at cost plus accrued interest, mutual funds are valued at quoted market prices and investments in common / collective trust funds are valued at the amount at which units in the funds can be withdrawn. Based on these inputs, the following table summarizes the fair value of the Retirement Account Plan’s investments as of December 31, 2017 and 2016.
Fair Value Measurements Using | ||||||||||||
($ in Thousands) | December 31, 2017 | Level 1 | Level 2 | Level 3 | ||||||||
Retirement Account Plan Investments | ||||||||||||
Money market account | $ | $ | $ | $ | ||||||||
Common /collective trust funds | ||||||||||||
Mutual funds | ||||||||||||
Total Retirement Account Plan Investments | $ | $ | $ | $ | ||||||||
Fair Value Measurements Using | ||||||||||||
($ in Thousands) | December 31, 2016 | Level 1 | Level 2 | Level 3 | ||||||||
Retirement Account Plan Investments | ||||||||||||
Money market account | $ | $ | $ | $ | ||||||||
Common /collective trust funds | ||||||||||||
Mutual funds | ||||||||||||
Total Retirement Account Plan Investments | $ | $ | $ | $ | ||||||||
The Corporation’s funding policy is to pay at least the minimum amount required by the funding requirements of federal law and regulations, with consideration given to the maximum funding amounts allowed. The Corporation regularly reviews the funding of its Retirement Account Plan. The Corporation made contributions of $6 million to its Retirement Account Plan in 2017.
103
($ in Thousands) | Retirement Account Plan | Postretirement Plan | ||||
Estimated future benefit payments | ||||||
2018 | $ | $ | ||||
2019 | ||||||
2020 | ||||||
2021 | ||||||
2022 | ||||||
2023-2027 | ||||||
The health care trend rate is an assumption as to how much the Postretirement Plan’s medical costs will increase each year in the future. The health care trend rate assumption for pre-65 coverage is 7.5 % for 2017, and 0.5 % to 0.25 % lower in each succeeding year, to an ultimate rate of 5 % for 2024 and future years. The actual increase in 2017 health care premium rates for post-65 coverage was 17 %. The health care trend rate assumption for post-65 coverage is 6.5 % in 2018 and 0.5 % to 0.25 % lower in each succeeding year, to an ultimate rate of 5 % for 2024 and future years.
2017 | 2016 | |||||||||||
($ in Thousands) | 100 bp Increase | 100 bp Decrease | 100 bp Increase | 100 bp Decrease | ||||||||
Effect on total of service and interest cost | $ | $ | ( | ) | $ | $ | ( | ) | ||||
Effect on postretirement benefit obligation | $ | $ | ( | ) | $ | $ | ( | ) | ||||
104
Note 13 Income Taxes
Years Ended December 31, | |||||||||
2017 | 2016 | 2015 | |||||||
($ in Thousands) | |||||||||
Current | |||||||||
Federal | $ | $ | $ | ||||||
State | |||||||||
Total current | |||||||||
Deferred | |||||||||
Federal | ( | ) | |||||||
State | |||||||||
Total deferred | ( | ) | |||||||
Total income tax expense | $ | $ | $ | ||||||
2017 | 2016 | |||||
($ in Thousands) | ||||||
Deferred tax assets | ||||||
Allowance for loan losses | $ | $ | ||||
Allowance for other losses | ||||||
Accrued liabilities | ||||||
Deferred compensation | ||||||
Benefit of tax loss and credit carryforwards | ||||||
Nonaccrual interest | ||||||
Net unrealized losses on available-for-sale securities | ||||||
Net unrealized losses on pension and postretirement benefits | ||||||
Other | ||||||
Total deferred tax assets | ||||||
Valuation allowance for deferred tax assets | ( | ) | ||||
Total deferred tax assets after valuation allowance | ||||||
Deferred tax liabilities | ||||||
Prepaid expenses | ||||||
Goodwill | ||||||
Mortgage banking activities | ||||||
Deferred loan fee income | ||||||
State deferred taxes | ||||||
Lease financing | ||||||
Bank premises and equipment | ||||||
Other | ||||||
Total deferred tax liabilities | ||||||
Net deferred tax assets | $ | $ | ||||
At December 31, 2016, there was no valuation allowance for deferred tax assets. Management had determined that it was more likely than not that these assets could be realized through carry back to taxable income in prior years, future reversals of existing taxable temporary differences and future taxable income. The conclusion was based on the Corporation's historical earnings, its current level of earnings and prospects for continued growth and profitability. At December 31, 2017 the valuation allowance for deferred tax assets of approximately $269,000 was related to the deferred tax benefit of specific federal tax loss carryforwards of $3 million from the acquisition of Whitnell & Co. in 2017.
105
2017 | 2016 | |||||
($ in Thousands) | ||||||
Valuation allowance for deferred tax assets, beginning of year | $ | $ | ||||
Increase (decrease) in current year | ||||||
Valuation allowance for deferred tax assets, end of year | $ | $ | ||||
At December 31, 2017 the Corporation had state net operating loss carryforwards of $78 million (of which $16 million was acquired from various acquisitions) that will begin expiring in 2032. The Corporation acquired Whitnell & Co. in October of 2017 which had federal net operating loss carryforwards at the time of acquisition. As a result of the change in control of the acquired subsidiary, Section 382 of the Internal Revenue Code places an annual limitation on the use of the subsidiary's net operating loss carryforwards. At December 31, 2017 the Corporation had federal net operating loss carryforwards from this acquisition of $3 million. The federal carryforwards, if unused, expire in calendar years 2029 through 2032.
2017 | 2016 | 2015 | ||||
Federal income tax rate at statutory rate | % | % | % | |||
Increases (decreases) resulting from: | ||||||
Tax-exempt interest and dividends | ( | )% | ( | )% | ( | )% |
State income taxes (net of federal benefit) | % | % | % | |||
Bank owned life insurance | ( | )% | ( | )% | ( | )% |
Tax effect of tax credits and benefits, net of related expenses | ( | )% | ( | )% | ( | )% |
Tax reserve adjustments | ( | )% | % | ( | )% | |
Net tax benefit from stock-based compensation | ( | )% | ( | )% | % | |
Tax Cuts and Jobs Act impact on deferred remeasurement | % | % | % | |||
Other | ( | )% | % | % | ||
Effective income tax rate | % | % | % | |||
Included in the Company’s income tax expense as of December 31, 2017 is tax expense from the remeasurement of deferred taxes totaling $12 million and an acceleration of amortization expense on the low income housing tax credit investment portfolio of $1 million related to the enactment of the Tax Act.
Savings banks acquired by the Corporation in 1997 and 2004 qualified under provisions of the Internal Revenue Code that permitted them to deduct from taxable income an allowance for bad debts that differed from the provision for such losses charged to income for financial reporting purposes. Accordingly, no provision for income taxes has been made for $100 million of retained income at December 31, 2017. If income taxes had been provided, the deferred tax liability would have been approximately $25 million. Management does not expect this amount to become taxable in the future; therefore, no provision for income taxes has been made.
The Corporation and its subsidiaries file income tax returns in the U.S. federal jurisdiction and various state jurisdictions. The Corporation’s federal income tax returns are open and subject to examination from the 2014 tax return year and forward. The years open to examination by state and local government authorities varies by jurisdiction.
2017 | 2016 | |||||
($ in Millions) | ||||||
Balance at beginning of year | $ | $ | ||||
Subtractions for tax positions related to prior years | ( | ) | ||||
Subtractions for settlements with tax authorities | ( | ) | ||||
Additions for tax positions related to current year | ||||||
Balance at end of year | $ | $ | ||||
At December 31, 2017 and 2016, the total amount of unrecognized tax benefits that, if recognized, would affect the effective tax rate was $3 million and $7 million, respectively.
106
Note 14 Derivative and Hedging Activities
The Corporation facilitates customer borrowing activity by providing various interest rate risk management, commodity hedging, and foreign currency exchange solutions through its capital markets area. To date, all of the notional amounts of customer transactions have been matched with a mirror hedge with another counterparty. The Corporation has used, and may use again in the future, derivative instruments to hedge the variability in interest payments or protect the value of certain assets and liabilities recorded on its consolidated balance sheets from changes in interest rates. The predominant derivative and hedging activities include interest rate-related instruments (swaps and caps), foreign currency exchange forwards, commodity contracts, written options, purchased options, and certain mortgage banking activities.
The contract or notional amount of a derivative is used to determine, along with the other terms of the derivative, the amounts to be exchanged between the counterparties. The Corporation is exposed to credit risk in the event of nonperformance by counterparties to financial instruments. To mitigate the counterparty risk, interest rate and commodity-related instruments generally contain language outlining collateral pledging requirements for each counterparty. Collateral must be posted when the market value exceeds certain mutually agreed upon threshold limits. Federal regulations require the Corporation to clear all LIBOR interest rate swaps through a clearing house ("centrally cleared") if possible. Securities are often pledged as collateral for centrally cleared interest rate swaps and derivatives. The Corporation pledged $24 million of investment securities as collateral at December 31, 2017, and pledged $40 million of investment securities as collateral at December 31, 2016. Cash is often pledged as collateral for interest rate swaps and derivatives that are not centrally cleared. At December 31, 2017, the Corporation posted $22 million cash collateral for the margin compared to none at December 31, 2016.
See Note 18 for fair value information and disclosures and see Note 1 for the Corporation's accounting policy for derivative and hedging activities.
Derivatives to Accommodate Customer Needs
The Corporation enters into various derivative contracts which are designated as free standing derivative contracts. Free standing derivative products are entered into primarily for the benefit of commercial customers seeking to manage their exposures to interest rate risk, foreign currency, and commodity prices. These derivative contracts are not designated against specific assets and liabilities on the balance sheet or forecasted transactions and, therefore, do not qualify for hedge accounting treatment. Such derivative contracts are carried at fair value on the consolidated balance sheets with changes in the fair value recorded as a component of capital market fees, net, and typically include interest rate-related instruments (swaps and caps), foreign currency exchange forwards, and commodity contracts. See Note 15 for additional information and disclosures on balance sheet offsetting.
Interest Rate-related Instruments: The Corporation provides interest rate risk management services to commercial customers, primarily forward interest rate swaps and caps. The Corporation’s market risk from unfavorable movements in interest rates related to these derivative contracts is generally economically hedged by concurrently entering into offsetting derivative contracts. The offsetting derivative contracts have identical notional values, terms and indices.
Foreign Currency Exchange Forwards: The Corporation provides foreign currency exchange services to customers, primarily forward contracts. Our customers enter into a foreign currency exchange forward with the Corporation as a means for them to mitigate exchange rate risk. The Corporation mitigates its risk by then entering into an offsetting foreign currency exchange derivative contract.
Commodity Contracts: Commodity contracts are entered into primarily for the benefit of commercial customers seeking to manage their exposure to fluctuating commodity prices. The Corporation mitigates its risk by then entering into an offsetting commodity derivative contract.
107
December 31, 2017 | December 31, 2016 | |||||||||||||
($ in Thousands) | Notional Amount | Fair Value | Balance Sheet Category | Notional Amount | Fair Value | Balance Sheet Category | ||||||||
Interest rate-related instruments — customer and mirror | $ | $ | Trading assets | $ | $ | Trading assets | ||||||||
Interest rate-related instruments — customer and mirror | ( | ) | Trading liabilities | ( | ) | Trading liabilities | ||||||||
Foreign currency exchange forwards | Trading assets | Trading assets | ||||||||||||
Foreign currency exchange forwards | ( | ) | Trading liabilities | ( | ) | Trading liabilities | ||||||||
Commodity contracts | Trading assets | Trading assets | ||||||||||||
Commodity contracts | ( | ) | Trading liabilities | ( | ) | Trading liabilities | ||||||||
Mortgage Derivatives
Interest rate lock commitments to originate residential mortgage loans held for sale and forward commitments to sell residential mortgage loans are considered derivative instruments, and the fair value of these commitments is recorded on the consolidated balance sheets with the changes in fair value recorded as a component of mortgage banking, net.
Written and Purchased Options (Time Deposit)
Historically, the Corporation had entered into written and purchased option derivative instruments to facilitate an equity linked time deposit product (the “Power CD”), which the Corporation ceased offering in September 2013. The Power CD was a time deposit that provided the purchaser a guaranteed return of principal at maturity plus a potential equity return (a written option), while the Corporation received a known stream of funds based on the equity return (a purchased option). The written and purchased options are mirror derivative instruments which are carried at fair value on the consolidated balance sheets.
December 31, 2017 | December 31, 2016 | |||||||||||||
($ in Thousands) | Notional Amount | Fair Value | Balance Sheet Category | Notional Amount | Fair Value | Balance Sheet Category | ||||||||
Interest rate lock commitments (mortgage) | $ | $ | Other assets | $ | $ | Other assets | ||||||||
Forward commitments (mortgage) | ( | ) | Other liabilities | Other assets | ||||||||||
Purchased options (time deposit) | Other assets | Other assets | ||||||||||||
Written options (time deposit) | ( | ) | Other liabilities | ( | ) | Other liabilities | ||||||||
Income Statement Category of Gain / (Loss) Recognized in Income | For the Year Ended December 31, | ||||||
($ in Thousands) | 2017 | 2016 | |||||
Derivative Instruments | |||||||
Interest rate-related instruments — customer and mirror, net | Capital market fees, net | $ | ( | ) | $ | ||
Interest rate lock commitments (mortgage) | Mortgage banking, net | ( | ) | ||||
Forward commitments (mortgage) | Mortgage banking, net | ( | ) | ||||
Foreign currency exchange forwards | Capital market fees, net | ( | ) | ||||
Commodity contracts | Capital market fees, net | ||||||
108
Note 15 Balance Sheet Offsetting
Interest Rate-Related Instruments and Commodity Contracts (“Interest and Commodity Agreements”)
The Corporation enters into interest rate-related instruments to facilitate the interest rate risk management strategies of commercial customers. The Corporation also enters into commodity contracts to manage commercial customers exposure to fluctuating commodity prices. The Corporation mitigates these risks by entering into equal and offsetting interest and commodity agreements with highly rated third party financial institutions. The Corporation is party to master netting arrangements with its financial institution counterparties that creates a single net settlement of all legal claims or obligations to pay or receive the net amount of settlement of the individual interest and commodity agreements. Collateral, usually in the form of investment securities and cash, is posted by the counterparty with net liability positions in accordance with contract thresholds. The Corporation does not offset assets and liabilities under these arrangements for financial statement presentation purposes. See Note 14 for additional information on the Corporation’s derivative and hedging activities.
Securities Sold Under Agreements to Repurchase (“Repurchase Agreements”)
The Corporation enters into agreements under which it sells securities subject to an obligation to repurchase the same or similar securities. These repurchase agreements are accounted for as collateralized financing arrangements (i.e., secured borrowings) and not as a sale and subsequent repurchase of securities (i.e., there is no offsetting or netting of the investment securities assets with the repurchase agreement liabilities). The right of set-off for a repurchase agreement resembles a secured borrowing, whereby the collateral would be used to settle the fair value of the repurchase agreement should the Corporation be in default (e.g., fails to make an interest payment to the counterparty). In addition, the Corporation does not enter into reverse repurchase agreements; therefore, there is no such offsetting to be done with the repurchase agreements. See Note 8 for additional disclosures on repurchase agreements.
Gross amounts not offset in the balance sheet | ||||||||||||||||||
($ in Thousands) | Gross amounts recognized | Gross amounts offset in the balance sheet | Net amounts presented in the balance sheet | Financial instruments | Collateral | Net amount | ||||||||||||
December 31, 2017 | ||||||||||||||||||
Derivative assets | ||||||||||||||||||
Interest and commodity agreements | $ | $ | $ | $ | ( | ) | $ | $ | ||||||||||
Derivative liabilities | ||||||||||||||||||
Interest and commodity agreements | $ | $ | $ | $ | ( | ) | $ | ( | ) | $ | ||||||||
December 31, 2016 | ||||||||||||||||||
Derivative assets | ||||||||||||||||||
Interest and commodity agreements | $ | $ | $ | $ | ( | ) | $ | $ | ||||||||||
Derivative liabilities | ||||||||||||||||||
Interest and commodity agreements | $ | $ | $ | $ | ( | ) | $ | ( | ) | $ | ||||||||
109
Note 16 Commitments, Off-Balance Sheet Arrangements, and Legal Proceedings
The Corporation utilizes a variety of financial instruments in the normal course of business to meet the financial needs of its customers and to manage its own exposure to fluctuations in interest rates. These financial instruments include lending-related and other commitments (see below) as well as derivative instruments (see Note 14). The following is a summary of lending-related commitments.
2017 | 2016 | |||||
($ in Thousands) | ||||||
Commitments to extend credit, excluding commitments to originate residential mortgage loans held for sale (a) (b) | $ | $ | ||||
Commercial letters of credit (a) | ||||||
Standby letters of credit (c) | ||||||
(a) | These off-balance sheet financial instruments are exercisable at the market rate prevailing at the date the underlying transaction will be completed and, thus, are deemed to have |
(b) | Interest rate lock commitments to originate residential mortgage loans held for sale are considered derivative instruments and are disclosed in Note 14. |
(c) |
Lending-related Commitments
As a financial services provider, the Corporation routinely enters into commitments to extend credit. Such commitments are subject to the same credit policies and approval process accorded to loans made by the Corporation, with each customer’s creditworthiness evaluated on a case-by-case basis. The commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee. The Corporation’s exposure to credit loss in the event of nonperformance by the other party to these financial instruments is represented by the contractual amount of those instruments. The amount of collateral obtained, if deemed necessary by the Corporation upon extension of credit, is based on management’s credit evaluation of the customer. Since a significant portion of commitments to extend credit are subject to specific restrictive loan covenants or may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash flow requirements. An allowance for unfunded commitments is maintained at a level believed by management to be sufficient to absorb estimated probable losses related to unfunded commitments (including unfunded loan commitments and letters of credit). The allowance for unfunded commitments totaled $24 million at December 31, 2017 compared to $25 million at December 31, 2016, and is included in accrued expenses and other liabilities on the consolidated balance sheets. See Note 1 for the Corporation’s accounting policy on the allowance for unfunded commitments. See Note 4 for additional information on the allowance for unfunded commitments.
Lending-related commitments include commitments to extend credit, commitments to originate residential mortgage loans held for sale, commercial letters of credit, and standby letters of credit. Commitments to extend credit are legally binding agreements to lend to customers at predetermined interest rates, as long as there is no violation of any condition established in the contracts. Interest rate lock commitments to originate residential mortgage loans held for sale and forward commitments to sell residential mortgage loans are considered derivative instruments, and the fair value of these commitments is recorded on the consolidated balance sheets. The Corporation’s derivative and hedging activity is further described in Note 14. Commercial and standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. Commercial letters of credit are issued specifically to facilitate commerce and typically result in the commitment being drawn on when the underlying transaction is consummated between the customer and the third party, while standby letters of credit generally are contingent upon the failure of the customer to perform according to the terms of the underlying contract with the third party.
Other Commitments
The Corporation invests in unconsolidated projects including low-income housing, new market tax credit projects, and historic tax credit projects to promote the revitalization of primarily low-to-moderate-income neighborhoods throughout the local communities of its bank subsidiary. As a limited partner in these unconsolidated projects, the Corporation is allocated tax credits and deductions associated with the underlying projects. The aggregate carrying value of these investments at December 31, 2017, was $147 million, compared to $68 million at December 31, 2016.
The Corporation has principal investment commitments to provide capital-based financing to private and public companies through either direct investments in specific companies or through investment funds and partnerships. The timing of future cash requirements to fund such commitments is generally dependent on the investment cycle, whereby privately held companies are funded by private equity investors and ultimately sold, merged, or taken public through an initial offering, which can vary based on overall market conditions, as well as the nature and type of industry in which the companies operate. The aggregate carrying value of these investments at December 31, 2017, was $23 million, compared to $17 million at December 31, 2016, included in other assets on the consolidated balance sheets.
110
Related to these investments, the Corporation had remaining commitments to fund $119 million at December 31, 2017, and $69 million at December 31, 2016.
Legal Proceedings
The Corporation is party to various pending and threatened claims and legal proceedings arising in the normal course of business activities, some of which involve claims for substantial amounts. Although there can be no assurance as to the ultimate outcomes, the Corporation believes it has meritorious defenses to the claims asserted against it in its currently outstanding matters, including the matters described below, and with respect to such legal proceedings, intends to continue to defend itself vigorously. The Corporation will consider settlement of cases when, in management’s judgment, it is in the best interests of both the Corporation and its shareholders.
On at least a quarterly basis, the Corporation assesses its liabilities and contingencies in connection with all pending or threatened claims and litigation, utilizing the most recent information available. On a matter by matter basis, an accrual for loss is established for those matters which the Corporation believes it is probable that a loss may be incurred and that the amount of such loss can be reasonably estimated. Once established, each accrual is adjusted as appropriate to reflect any subsequent developments. Accordingly, management’s estimate will change from time to time, and actual losses may be more or less than the current estimate. For matters where a loss is not probable, or the amount of the loss cannot be estimated, no accrual is established.
Resolution of legal claims is inherently unpredictable, and in many legal proceedings various factors exacerbate this inherent unpredictability, including where the damages sought are unsubstantiated or indeterminate, it is unclear whether a case brought as a class action will be allowed to proceed on that basis, discovery is not complete, the proceeding is not yet in its final stages, the matters present legal uncertainties, there are significant facts in dispute, there are a large number of parties (including where it is uncertain how liability, if any, will be shared among multiple defendants), or there is a wide range of potential results.
A lawsuit, R.J. ZAYED v. Associated Bank, N.A., was filed in the United States District Court for the District of Minnesota on January 29, 2013. The lawsuit relates to a Ponzi scheme perpetrated by Oxford Global Partners and related entities (“Oxford”) and individuals and was brought by the receiver for Oxford. Oxford was a depository customer of Associated Bank (the "Bank"). The lawsuit claims that the Bank is liable for failing to uncover the Oxford Ponzi scheme, and specifically alleges the Bank aided and abetted (1) the fraudulent scheme; (2) a breach of fiduciary duty; (3) conversion; and (4) false representations and omissions. The lawsuit seeks unspecified consequential and punitive damages. The District Court granted the Bank’s motion to dismiss the complaint on September 30, 2013. On March 2, 2015, the U.S. Court of Appeals for the Eighth Circuit reversed the District Court and remanded the case back to the District Court for further proceedings. On January 31, 2017, the District Court granted the Bank’s motion for summary judgment. The receiver has appealed the District Court’s summary judgment decision to the Eighth Circuit Court of Appeals. On January 23, 2018, the District Court approved a settlement agreement between the parties. Based on the terms of the settlement agreement, the Bank expects that the litigation will not have a material adverse impact on the Bank regardless of the outcome of the appeal to the Eighth Circuit Court of Appeals. A lawsuit by investors in the same Ponzi scheme, Herman Grad, et al v. Associated Bank, N.A., brought in Brown County, Wisconsin in October 2009 was dismissed by the circuit court, and the dismissal was affirmed by the Wisconsin Court of Appeals in June 2011 in an unpublished opinion.
Subsequent to the announcement on July 20, 2017, of the Merger Agreement between the Corporation and Bank Mutual, several lawsuits were filed in connection with the proposed merger. On July 28, 2017, two substantially identical purported class action complaints, each by various individual plaintiffs, were filed with the Wisconsin Circuit Court for Milwaukee County on behalf of the respective named plaintiffs and other Bank Mutual shareholders against Bank Mutual, the members of the Bank Mutual board, and the Corporation. The lawsuits are captioned Schumel et al v. Bank Mutual Corporation et al. and Paquin et al. v. Bank Mutual
111
Corporation et al. Both complaints allege state law breach of fiduciary duty claims against the Bank Mutual board for, among other things, seeking to sell Bank Mutual through an allegedly defective process, for an allegedly unfair price and on allegedly unfair terms. On August 30, 2017, a third purported class action complaint, captioned Wollenburg et al. v. Bank Mutual Corporation et al., was filed in the Wisconsin Circuit Court for Milwaukee County, on behalf of the same class of shareholders and against the same defendants as the prior two complaints. The Wollenburg complaint asserts similar allegations as the prior two complaints, and further alleges that the preliminary proxy statement/prospectus filed with the SEC contains various alleged misstatements or omissions under federal securities law. The Paquin, Schumel and Wollenburg complaints allege that the Corporation aided and abetted Bank Mutual's directors' alleged breaches of fiduciary duty. The parties have entered into a stipulation seeking to consolidate the three actions. On September 13, 2017, the Corporation filed a notice of removal of the Paquin, Schumel and Wollenburg actions to the United States District Court for the Eastern District of Wisconsin. On September 15, 2017, the plaintiffs in the Paquin, Schumel and Wollenburg actions filed identical motions to remand the three cases back to state court, and on September 27, 2017, the defendants filed oppositions to the motions to remand. On October 3, 2017, the defendants filed motions to dismiss the three actions. On September 6, 2017, a fourth purported class action complaint, captioned Parshall et al., v. Bank Mutual Corporation et al., was filed in the U.S. District Court for the Eastern District of Wisconsin, on behalf of the same class of shareholders and against the same defendants as the prior complaints. The Parshall complaint criticizes the adequacy of the merger consideration and alleges that Bank Mutual, the members of the Bank Mutual board and the Corporation allegedly omitted and/or misrepresented certain information in the registration statement on Form S-4 filed in connection with the proposed merger in violation of the federal securities laws. The lawsuits seek, among other things, to enjoin the consummation of the transaction and damages. The Corporation believes the allegations are without merit. On October 13, 2017, Bank Mutual and the Corporation reached agreement with the plaintiffs in each of the four cases whereby Bank Mutual issued certain additional disclosures in a Form 8-K, and each of the plaintiffs have agreed to dismiss their actions with prejudice as to the named plaintiffs and without prejudice as to the rest of the purported class members.
Regulatory Matters
On May 22, 2015, the Bank entered into a Conciliation Agreement ("Conciliation Agreement") with the U.S. Department of Housing and Urban Development ("HUD") which resolved the HUD investigation into the Bank's lending practices during the years 2008-2010. The Bank's commitments under the Conciliation Agreement are spread over 3 years and include commitments to do the following in minority communities: make mortgage loans of approximately $196 million; open one branch and four loan production offices; establish special financing programs; make affordable home repair grants; engage in affirmative marketing outreach; provide financial education programs; and make grants to support community reinvestment training and education. The cost of these commitments will be spread over four calendar years and is not expected to have a material impact on the Corporation's financial condition or results of operation.
A variety of consumer products, including mortgage and deposit products, and certain fees and charges related to such products, have come under increased regulatory scrutiny. It is possible that regulatory authorities could bring enforcement actions, including civil money penalties, or take other actions against the Corporation and the Bank in regard to these consumer products. The Bank could also determine of its own accord, or be required by regulators, to refund or otherwise make remediation payments to customers in connection with these products. It is not possible at this time for management to assess the probability of a material adverse outcome or reasonably estimate the amount of any potential loss related to such matters.
On March 27, 2017, the Bank received a Community Reinvestment Act ("CRA") rating from the Office of the Comptroller of the Currency of "Satisfactory" for the period from January 1, 2011 through July 27, 2015. As a result of this rating, the restrictions on certain of the Bank's activities that had been imposed under the previous "Needs to Improve" CRA rating are no longer applicable.
Mortgage Repurchase Reserve
The Corporation sells residential mortgage loans to investors in the normal course of business. Residential mortgage loans sold to others are predominantly conventional residential first lien mortgages originated under our usual underwriting procedures, and are most often sold on a nonrecourse basis, primarily to the GSEs. The Corporation’s agreements to sell residential mortgage loans in the normal course of business usually require certain representations and warranties on the underlying loans sold, related to credit information, loan documentation, collateral, and insurability. Subsequent to being sold, if a material underwriting deficiency or documentation defect is discovered, the Corporation may be obligated to repurchase the loan or reimburse the GSEs for losses incurred (collectively, “make whole requests”). The make whole requests and any related risk of loss under the representations and warranties are largely driven by borrower performance.
As a result of make whole requests, the Corporation has repurchased loans with principal balances of approximately $1 million and $2 million during the years ended December 31, 2017 and 2016, respectively. The loss reimbursement and settlement claims paid for the years ended December 31, 2017 and 2016, respectively, were negligible. Make whole requests during 2016 and 2017 generally arose from loans sold during the period of January 1, 2012 to December 31, 2017, which totaled $10 billion at the time
112
of sale, and consisted primarily of loans sold to GSEs. As of December 31, 2017, approximately $6.1 billion of these sold loans remain outstanding.
The balance in the mortgage repurchase reserve at the balance sheet date reflects the estimated amount of potential loss the Corporation could incur from repurchasing a loan, as well as loss reimbursements, indemnifications, and other settlement resolutions. The following summarizes the changes in the mortgage repurchase reserve for the years ended as follows.
2017 | 2016 | |||||
($ in Thousands) | ||||||
Balance at beginning of year | $ | $ | ||||
Repurchase provision expense | ||||||
Adjustments to provision expense | ( | ) | ||||
Charge offs, net | ( | ) | ( | ) | ||
Balance at end of year | $ | $ | ||||
The Corporation may also sell residential mortgage loans with limited recourse (limited in that the recourse period ends prior to the loan’s maturity, usually after certain time and / or loan paydown criteria have been met), whereby repurchase could be required if the loan had defined delinquency issues during the limited recourse periods. At December 31, 2017, and December 31, 2016, there were approximately $44 million and $62 million, respectively, of residential mortgage loans sold with such recourse risk. There have been limited instances and immaterial historical losses on repurchases for recourse under the limited recourse criteria.
Note 17 Parent Company Only Financial Information
Presented below are condensed financial statements for the Parent Company.
December 31, | ||||||
2017 | 2016 | |||||
($ in Thousands) | ||||||
Assets | ||||||
Cash and due from banks | $ | $ | ||||
Investment securities available for sale, at fair value | ||||||
Notes and interest receivable from subsidiaries | ||||||
Investments in and receivable due from subsidiaries | ||||||
Other assets | ||||||
Total assets | $ | $ | ||||
Liabilities and Stockholders' Equity | ||||||
Commercial paper | $ | $ | ||||
Senior notes, at par | ||||||
Subordinated notes, at par | ||||||
Long-term funding capitalized costs | ( | ) | ( | ) | ||
Total long-term funding | ||||||
Accrued expenses and other liabilities | ||||||
Total liabilities | ||||||
Preferred equity | ||||||
Common equity | ||||||
Total stockholders’ equity | ||||||
Total liabilities and stockholders’ equity | $ | $ | ||||
113
For the Years Ended December 31, | |||||||||
2017 | 2016 | 2015 | |||||||
($ in Thousands) | |||||||||
Income | |||||||||
Dividends from subsidiaries | $ | $ | $ | ||||||
Interest income on notes receivable from subsidiaries | |||||||||
Other income | |||||||||
Total income | |||||||||
Expense | |||||||||
Interest expense on short and long-term funding | |||||||||
Other expense | |||||||||
Total expense | |||||||||
Income before income tax expense (benefit) and equity in undistributed net income (loss) of subsidiaries | |||||||||
Income tax expense (benefit) | ( | ) | |||||||
Income before equity in undistributed net income (loss) of subsidiaries | |||||||||
Equity in undistributed net income (loss) of subsidiaries | |||||||||
Net income | |||||||||
Preferred stock dividends | |||||||||
Net income available to common equity | $ | $ | $ | ||||||
114
For the Years Ended December 31, | |||||||||
2017 | 2016 | 2015 | |||||||
($ in Thousands) | |||||||||
Cash Flows from Operating Activities | |||||||||
Net income | $ | $ | $ | ||||||
Adjustments to reconcile net income to net cash provided by operating activities: | |||||||||
(Increase) decrease in equity in undistributed net income (loss) of subsidiaries | ( | ) | ( | ) | ( | ) | |||
(Gain) loss on sales of investment securities, net of impairment write-downs | ( | ) | |||||||
(Gain) loss on sales of assets, net | ( | ) | ( | ) | ( | ) | |||
Net change in other assets and other liabilities | ( | ) | ( | ) | |||||
Net cash provided by operating activities | |||||||||
Cash Flows from Investing Activities | |||||||||
Proceeds from sales of investment securities | |||||||||
Net increase in notes receivable from subsidiaries | ( | ) | |||||||
Purchase of other assets, net of disposals | |||||||||
Net cash provided by (used in) investing activities | ( | ) | |||||||
Cash Flows from Financing Activities | |||||||||
Net increase (decrease) in commercial paper | ( | ) | ( | ) | |||||
Repayment of long-term funding | ( | ) | |||||||
Proceeds from issuance of common stock for stock-based compensation plans | |||||||||
Proceeds from issuance of preferred stock | |||||||||
Redemption of preferred stock | ( | ) | |||||||
Purchase of preferred stock | ( | ) | ( | ) | |||||
Purchase of common stock returned to authorized but unissued | ( | ) | ( | ) | ( | ) | |||
Purchase of treasury stock for tax withholding | ( | ) | ( | ) | ( | ) | |||
Cash dividends on common stock | ( | ) | ( | ) | ( | ) | |||
Cash dividends on preferred stock | ( | ) | ( | ) | ( | ) | |||
Net cash used in financing activities | ( | ) | ( | ) | ( | ) | |||
Net increase (decrease) in cash and cash equivalents | ( | ) | ( | ) | |||||
Cash and cash equivalents at beginning of year | |||||||||
Cash and cash equivalents at end of year | |||||||||
115
Note 18 Fair Value Measurements
Fair value represents the estimated price at which an orderly transaction to sell an asset or to transfer a liability would take place between market participants at the measurement date under current market conditions (i.e., an exit price concept). See Note 1 for the Corporation’s accounting policy for fair value measurements.
Following is a description of the valuation methodologies used for the Corporation’s more significant instruments measured on a recurring basis at fair value, including the general classification of such instruments pursuant to the valuation hierarchy.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
Investment Securities Available For Sale: Where quoted prices are available in an active market, investment securities are classified in Level 1 of the fair value hierarchy. If quoted market prices are not available for the specific security, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics or discounted cash flows, with consideration given to the nature of the quote and the relationship of recently evidenced market activity to the fair value estimate, and are classified in Level 2 of the fair value hierarchy. Lastly, in certain cases where there is limited activity or less transparency around inputs to the estimated fair value, securities are classified within Level 3 of the fair value hierarchy. To validate the fair value estimates, assumptions, and controls, the Corporation looks to transactions for similar instruments and utilizes independent pricing provided by third party vendors or brokers and relevant market indices. While none of these sources are solely indicative of fair value, they serve as directional indicators for the appropriateness of the Corporation’s fair value estimates. The Corporation has determined that the fair value measures of its investment securities are classified predominantly within Level 1 or 2 of the fair value hierarchy. See Note 3 for additional disclosure regarding the Corporation’s investment securities.
Residential Loans Held For Sale: Loans held for sale, which consist generally of current production of certain fixed-rate, first-lien residential mortgage loans, are carried at estimated fair value. Effective January 1, 2017, management elected the fair value option to account for all newly originated mortgage loans held for sale which results in the financial impact of changing market conditions being reflected currently in earnings as opposed to being dependent upon the timing of sales. Therefore, the continually adjusted values going forward will better reflect the price the Corporation expects to receive from the sale of such loans. The estimated fair value was based on what secondary markets are currently offering for portfolios with similar characteristics, which the Corporation classifies as a Level 2 fair value measurement.
Derivative Financial Instruments (Interest Rate-Related Instruments): The Corporation has used, and may use again in the future, interest rate swaps to manage its interest rate risk. In addition, the Corporation offers interest rate-related instruments (swaps and caps) to service our customers’ needs, for which the Corporation simultaneously enters into offsetting derivative financial instruments (i.e., mirror interest rate-related instruments) with third parties to manage its interest rate risk associated with these financial instruments. The valuation of the Corporation’s derivative financial instruments is determined using discounted cash flow analysis on the expected cash flows of each derivative and also includes a nonperformance / credit risk component (credit valuation adjustment). See Note 14 for additional disclosure regarding the Corporation’s interest rate-related instruments.
The discounted cash flow analysis component in the fair value measurement reflects the contractual terms of the derivative financial instruments, including the period to maturity, and uses observable market-based inputs, including interest rate curves and implied volatilities. More specifically, the fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments), with the variable cash payments (or receipts) based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves. Likewise, the fair values of interest rate options (i.e., interest rate caps) are determined using the market standard methodology of discounting the future expected cash receipts that would occur if variable interest rates fall below (or rise above) the strike rate of the floors (or caps), with the variable interest rates used in the calculation of projected receipts on the floor (or cap) based on an expectation of future interest rates derived from observable market interest rate curves and volatilities.
The Corporation also incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements. In adjusting the fair value of its derivative financial instruments for the effect of nonperformance risk, the Corporation has considered the impact of netting and any applicable credit enhancements, such as collateral postings, thresholds, mutual puts, and guarantees.
While the Corporation has determined that the majority of the inputs used to value its derivative financial instruments fall within Level 2 of the fair value hierarchy, the credit valuation adjustments utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by itself and its counterparties. The Corporation has assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative positions as of December 31, 2017 and 2016, and has determined that the credit valuation adjustments are not significant to the overall valuation of its derivative financial instruments. Therefore, the Corporation has determined that the fair value measures of its derivative financial instruments in their entirety are classified within Level 2 of the fair value hierarchy.
116
Derivative Financial Instruments (Foreign Currency Exchange Forwards): The Corporation provides foreign currency exchange services to customers. In addition, the Corporation may enter into a foreign currency exchange forward to mitigate the exchange rate risk attached to the cash flows of a loan or as an offsetting contract to a forward entered into as a service to our customer. The valuation of the Corporation’s foreign currency exchange forwards is determined using quoted prices of foreign currency exchange forwards with similar characteristics, with consideration given to the nature of the quote and the relationship of recently evidenced market activity to the fair value estimate, and are classified in Level 2 of the fair value hierarchy. See Note 14 for additional disclosures regarding the Corporation’s foreign currency exchange forwards.
Derivative Financial Instruments (Commodity Contracts): The Corporation enters into commodity contracts to manage commercial customers' exposure to fluctuating commodity prices, for which the Corporation simultaneously enters into offsetting derivative financial instruments (i.e., mirror commodity contracts) with third parties to manage its risk associated with these financial instruments. The valuation of the Corporation’s commodity contracts is determined using quoted prices of the underlying instruments, and are classified in Level 2 of the fair value hierarchy. See Note 14 for additional disclosures regarding the Corporation’s commodity contracts.
Fair Value Hierarchy | December 31, 2017 | December 31, 2016 | |||||
($ in Thousands) | |||||||
Assets | |||||||
Investment securities available for sale | |||||||
U.S. Treasury securities | Level 1 | $ | $ | ||||
Residential mortgage-related securities | |||||||
FNMA / FHLMC | Level 2 | ||||||
GNMA | Level 2 | ||||||
Private-label | Level 2 | ||||||
GNMA commercial mortgage-related securities | Level 2 | ||||||
FFELP asset backed securities | Level 2 | ||||||
Other securities (debt and equity) | Level 1 | ||||||
Other securities (debt and equity) | Level 2 | ||||||
Other securities (debt and equity) | Level 3 | ||||||
Total investment securities available for sale | Level 1 | ||||||
Total investment securities available for sale | Level 2 | ||||||
Total investment securities available for sale | Level 3 | ||||||
Residential loans held for sale (a) | Level 2 | ||||||
Interest rate-related instruments | Level 2 | ||||||
Foreign currency exchange forwards | Level 2 | ||||||
Interest rate lock commitments to originate residential mortgage loans held for sale | Level 3 | ||||||
Forward commitments to sell residential mortgage loans | Level 3 | ||||||
Commodity contracts | Level 2 | ||||||
Purchased options (time deposit) | Level 2 | ||||||
Liabilities | |||||||
Interest rate-related instruments | Level 2 | $ | $ | ||||
Foreign currency exchange forwards | Level 2 | ||||||
Forward commitments to sell residential mortgage loans | Level 3 | ||||||
Commodity contracts | Level 2 | ||||||
Written options (time deposit) | Level 2 | ||||||
(a) |
117
Investment Securities Available for Sale | Derivative Financial Instruments | |||||
($ in Thousands) | ||||||
Balance December 31, 2015 | $ | $ | ||||
Total net gains (losses) included in income | ||||||
Mortgage derivative gain (loss) | ||||||
Balance December 31, 2016 | $ | $ | ||||
Total net gains (losses) included in income | ||||||
Mortgage derivative gain (loss) | ( | ) | ||||
Transfer out of level 3 securities (a) | $ | ( | ) | $ | ||
Balance December 31, 2017 | $ | $ | ||||
For Level 3 assets and liabilities measured at fair value on a recurring basis as of December 31, 2017, the Corporation utilized the following valuation techniques and significant unobservable inputs.
Derivative Financial Instruments (Mortgage Derivative — Interest Rate lock Commitments to Originate Residential Mortgage Loans Held For Sale): The fair value is determined by the change in value from each loan's rate lock date to the expected rate lock expiration date based on the underlying loan attributes, estimated closing ratios, and investor price matrix determined to be reasonably applicable to each loan commitment. The closing ratio calculation takes into consideration historical experience and loan-level attributes, particularly the change in the current interest rates from the time of initial rate lock. The closing ratio is periodically reviewed for reasonableness and reported to the Associated Mortgage Risk Management Committee. At December 31, 2017, the closing ratio was 85 %.
Derivative Financial Instruments (Mortgage Derivative—Forward Commitments to Sell Mortgage Loans): Mortgage derivatives include forward commitments to deliver closed end residential mortgage loans into conforming Agency Mortgage Backed Securities (To be Announced, "TBA") or conforming Cash Forward sales. The fair value of such instruments is determined by the difference of current market prices for such traded instruments or available from forward cash delivery commitments and the original traded price for such commitments.
The Corporation also relies on an internal valuation model to estimate the fair value of its forward commitments to sell residential mortgage loans (i.e., an estimate of what the Corporation would receive or pay to terminate the forward delivery contract based on market prices for similar financial instruments), which includes matching specific terms and maturities of the forward commitments against applicable investor pricing available. While there are Level 2 and 3 inputs used in the valuation models, the Corporation has determined that the majority of the inputs significant in the valuation of both of the mortgage derivatives fall within Level 3 of the fair value hierarchy. See Note 14 for additional disclosure regarding the Corporation’s mortgage derivatives.
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
Following is a description of the valuation methodologies used for the Corporation’s more significant instruments measured on a nonrecurring basis at the lower of amortized cost or estimated fair value, including the general classification of such instruments pursuant to the valuation hierarchy.
Commercial Loans Held For Sale: Loans held for sale are carried at the lower of cost or estimated fair value. The estimated fair value is based on a discounted cash flow analysis, which the Corporation classifies as a Level 2 nonrecurring fair value measurement.
Other Real Estate Owned: Certain other real estate owned, upon initial recognition, was re-measured and reported at fair value through a charge off to the allowance for loan losses based upon the estimated fair value of the other real estate owned, less estimated selling costs. The fair value of other real estate owned, upon initial recognition or subsequent impairment, was estimated using appraised values, which the Corporation classifies as a Level 2 nonrecurring fair value measurement.
118
For Level 3 assets and liabilities measured at fair value on a nonrecurring basis as of December 31, 2017, the Corporation utilized the following valuation techniques and significant unobservable inputs.
Impaired Loans: The Corporation considers a loan impaired when it is probable that the Corporation will be unable to collect all amounts due according to the original contractual terms of the note agreement, including both principal and interest. Management has determined that commercial and consumer loan relationships that have nonaccrual status or have had their terms restructured in a troubled debt restructuring meet this impaired loan definition. For individually evaluated impaired loans, the amount of impairment is based upon the present value of expected future cash flows discounted at the loan’s effective interest rate, the estimated fair value of the underlying collateral for collateral-dependent loans, or the estimated liquidity of the note. See Note 4 for additional information regarding the Corporation’s impaired loans.
Mortgage Servicing Rights: Mortgage servicing rights do not trade in an active, open market with readily observable prices. While sales of mortgage servicing rights do occur, the precise terms and conditions typically are not readily available to allow for a “quoted price for similar assets” comparison. Accordingly, the Corporation utilizes an independent valuation from a third party which uses a discounted cash flow model to estimate the fair value of its mortgage servicing rights. The valuation model incorporates prepayment assumptions to project mortgage servicing rights cash flows based on the current interest rate scenario, which is then discounted to estimate an expected fair value of the mortgage servicing rights. The valuation model considers portfolio characteristics of the underlying mortgages, contractually specified servicing fees, prepayment assumptions, discount rate assumptions, delinquency rates, late charges, other ancillary revenue, costs to service, and other economic factors. The Corporation periodically reviews and assesses the underlying inputs and assumptions used in the model. In addition, the Corporation compares its fair value estimates and assumptions to observable market data for mortgage servicing rights, where available, and to recent market activity and actual portfolio experience. Due to the nature of the valuation inputs, mortgage servicing rights are classified within Level 3 of the fair value hierarchy. The Corporation uses the amortization method (i.e., lower of amortized cost or estimated fair value measured on a nonrecurring basis), not fair value measurement accounting, for its mortgage servicing rights assets.
The discounted cash flow analyses that generate expected market prices utilize the observable characteristics of the mortgage servicing rights portfolio, as well as certain unobservable valuation parameters. The significant unobservable inputs used in the fair value measurement of the Corporation’s mortgage servicing rights are the weighted average constant prepayment rate and weighted average discount rate. Significant increases (decreases) in any of those inputs in isolation could result in a significantly lower (higher) fair value measurement.
These parameter assumptions fall within a range that the Corporation, in consultation with an independent third party, believes purchasers of servicing would apply to such portfolios sold into the current secondary servicing market. Discussions are held with members from Treasury and the Community, Consumer, and Business segment to reconcile the fair value estimates and the key assumptions used by the respective parties in arriving at those estimates. The Associated Mortgage Risk Management Committee is responsible for providing control over the valuation methodology and key assumptions. To assess the reasonableness of the fair value measurement, the Corporation also compares the fair value and constant prepayment rate to a value calculated by an independent third party on an annual basis. See Note 5 for additional disclosure regarding the Corporation’s mortgage servicing rights.
119
Income Statement Category of Adjustment Recognized in Income | Adjustment Recognized in Income | |||||||
Fair Value Hierarchy | Fair Value | |||||||
($ in Thousands) | ||||||||
December 31, 2017 | ||||||||
Assets | ||||||||
Impaired loans (a) | Level 3 | $ | Provision for credit losses (c) | $ | ( | ) | ||
Other real estate owned | Level 2 | Foreclosure / OREO expense, net | ( | ) | ||||
Mortgage servicing rights | Level 3 | Mortgage banking, net | ( | ) | ||||
December 31, 2016 | ||||||||
Assets | ||||||||
Commercial loans held for sale | Level 2 | $ | Provision for credit losses | $ | ( | ) | ||
Residential loans held for sale (b) | Level 2 | Mortgage banking, net | ( | ) | ||||
Impaired loans (a) | Level 3 | Provision for credit losses (c) | ( | ) | ||||
Other real estate owned | Level 2 | Foreclosure / OREO expense, net | ( | ) | ||||
Mortgage servicing rights | Level 3 | Mortgage banking, net | ||||||
(a) | Represents individually evaluated impaired loans, net of the related allowance for loan losses. |
(b) Effective January 1, 2017, residential loans originated for sale are accounted for under the fair value option. Prior periods have not been restated. For more information on this accounting policy change, please refer to Note 3.
(c) |
The change in provision for credit loss is primarily due to the oil and gas portfolio. For more information on the oil and gas portfolio, see Note 4.
Certain nonfinancial assets and nonfinancial liabilities measured at fair value on a nonrecurring basis include the fair value analysis in the second step of a goodwill impairment test, and intangible assets and other nonfinancial long-lived assets measured at fair value for impairment assessment.
The Corporation's significant Level 3 measurements which employ unobservable inputs that are readily quantifiable pertain to mortgage servicing rights and impaired loans.
December 31, 2017 | Valuation Technique | Significant Unobservable Input | Weighted Average Input Applied |
Mortgage servicing rights | Discounted cash flow | Discount rate | |
Mortgage servicing rights | Discounted cash flow | Constant prepayment rate | |
Impaired loans | Appraisals / Discounted cash flow | Collateral / Discount factor | |
120
Fair Value of Financial Instruments
The Corporation is required to disclose estimated fair values for its financial instruments.
December 31, 2017 | December 31, 2016 | ||||||||||||||||
Fair Value Hierarchy Level | Carrying Amount | Fair Value | Carrying Amount | Fair Value | |||||||||||||
($ in Thousands) | |||||||||||||||||
Financial assets | |||||||||||||||||
Cash and due from banks | Level 1 | $ | $ | $ | $ | ||||||||||||
Interest-bearing deposits in other financial institutions | Level 1 | ||||||||||||||||
Federal funds sold and securities purchased under agreements to resell | Level 1 | ||||||||||||||||
Investment securities held to maturity | Level 2 | ||||||||||||||||
Investment securities available for sale | Level 1 | ||||||||||||||||
Investment securities available for sale | Level 2 | ||||||||||||||||
Investment securities available for sale | Level 3 | ||||||||||||||||
FHLB and Federal Reserve Bank stocks | Level 2 | ||||||||||||||||
Commercial loans held for sale | Level 2 | ||||||||||||||||
Residential loans held for sale | Level 2 | ||||||||||||||||
Loans, net | Level 3 | ||||||||||||||||
Bank and corporate owned life insurance | Level 2 | ||||||||||||||||
Derivatives (trading and other assets) | Level 2 | ||||||||||||||||
Derivatives (trading and other assets) | Level 3 | ||||||||||||||||
Financial liabilities | |||||||||||||||||
Noninterest-bearing demand, savings, interest-bearing demand, and money market accounts | Level 3 | $ | $ | $ | $ | ||||||||||||
Brokered CDs and other time deposits | Level 2 | ||||||||||||||||
Short-term funding | Level 2 | ||||||||||||||||
Long-term funding | Level 2 | ||||||||||||||||
Standby letters of credit (a) | Level 2 | ||||||||||||||||
Derivatives (trading and other liabilities) | Level 2 | ||||||||||||||||
Derivatives (trading and other liabilities) | Level 3 | ||||||||||||||||
(a) |
Cash and due from banks, interest-bearing deposits in other financial institutions, and federal funds sold and securities purchased under agreements to resell: For these short-term instruments, the carrying amount is a reasonable estimate of fair value.
Investment securities (held to maturity and available for sale): The fair value of investment securities is based on quoted prices in active markets, or if quoted prices are not available for a specific security, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics, or discounted cash flows.
FHLB and Federal Reserve Bank stocks: The carrying amount is a reasonable fair value estimate for the Federal Reserve Bank and FHLB stocks given their “restricted” nature (i.e., the stock can only be sold back to the respective institutions (FHLB or Federal Reserve Bank) or another member institution at par).
Loans held for sale: The fair value estimation process for the loans held for sale portfolio is segregated by loan type. The estimated fair value for residential loans held for sale was based on what secondary markets are currently offering for portfolios with similar characteristics. The estimated fair value for commercial loans held for sale was based on a discounted cash flow analysis.
Loans, net: The fair value estimation process for the loan portfolio uses an exit price concept and reflects discounts the Corporation believes are consistent with liquidity discounts in the market place. Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial and industrial, real estate construction, commercial real
121
estate (owner occupied and investor), residential mortgage, home equity, and other consumer. The fair value of loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for similar maturities. The fair value analysis also included other assumptions to estimate fair value, intended to approximate those a market participant would use in an orderly transaction, with adjustments for discount rates, interest rates, liquidity, and credit spreads, as appropriate.
Bank and corporate owned life insurance ("BOLI" and "COLI"): The fair value of BOLI and COLI approximates the carrying amount, because upon liquidation of these investments, the Corporation would receive the cash surrender value which equals the carrying amount. The Corporation has not purchased any new BOLI or COLI policies since 2008.
Deposits: The fair value of deposits with no stated maturity such as noninterest-bearing demand, savings, interest-bearing demand, and money market accounts, is equal to the amount payable on demand as of the balance sheet date. The fair value of Brokered CDs and other time deposits is based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities. However, if the estimated fair value of Brokered CDs and other time deposits is less than the carrying value, the carrying value is reported as the fair value.
Short-term funding: The carrying amount is a reasonable estimate of fair value for existing short-term funding.
Long-term funding: Rates currently available to the Corporation for debt with similar terms and remaining maturities are used to estimate the fair value of existing long-term funding.
Standby letters of credit: The fair value of standby letters of credit represents deferred fees arising from the related off-balance sheet financial instruments. These deferred fees approximate the fair value of these instruments and are based on several factors, including the remaining terms of the agreement and the credit standing of the customer.
Derivatives (trading and other): A detailed description of the Corporation's derivative instruments can be found under the "Assets and Liabilities Measured at Fair Value on a Recurring Basis" section of this footnote.
122
Note 19 Regulatory Matters
Restrictions on Cash and Due From Banks
The Corporation’s bank subsidiary is required to maintain certain vault cash and reserve balances with the Federal Reserve Bank to meet specific reserve requirements. These requirements approximated $73 million at December 31, 2017.
Regulatory Capital Requirements
The Corporation and its subsidiary bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Corporation’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Corporation must meet specific capital guidelines that involve quantitative measures of the Corporation’s assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Corporation’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Corporation to maintain minimum amounts and ratios (set forth in the table below) of total and Common equity Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). Management believes, as of December 31, 2017 and 2016, that the Corporation meets all capital adequacy requirements to which it is subject.
For additional information on the capital requirements applicable for the Corporation and the Bank, please see Part I, Item 1.
123
As of December 31, 2017 and 2016, the most recent notifications from the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation categorized the subsidiary bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the subsidiary bank must maintain minimum ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the institution’s category. The actual capital amounts and ratios of the Corporation and its significant subsidiary are presented below. No deductions from capital were made for interest rate risk in 2017 or 2016.
Actual | For Capital Adequacy Purposes | To Be Well Capitalized Under Prompt Corrective Action Provisions (b) | |||||||||||||||
Amount | Ratio (a) | Amount | Ratio (a) | Amount | Ratio (a) | ||||||||||||
($ in Thousands) | |||||||||||||||||
As of December 31 , 2017 | |||||||||||||||||
Associated Banc-Corp | |||||||||||||||||
Total capital | $ | % | $ | ≥ | % | ||||||||||||
Tier 1 capital | % | ≥ | % | ||||||||||||||
Common equity Tier 1 capital | % | ≥ | % | ||||||||||||||
Leverage | % | ≥ | % | ||||||||||||||
Associated Bank, N.A. | |||||||||||||||||
Total capital | $ | % | $ | ≥ | % | $ | ≥ | % | |||||||||
Tier 1 capital | % | ≥ | % | ≥ | % | ||||||||||||
Common equity Tier 1 capital | % | ≥ | % | ≥ | % | ||||||||||||
Leverage | % | ≥ | % | ≥ | % | ||||||||||||
As of December 31 , 2016 | |||||||||||||||||
Associated Banc-Corp | |||||||||||||||||
Total capital | $ | % | $ | ≥ | % | ||||||||||||
Tier 1 capital | % | ≥ | % | ||||||||||||||
Common equity Tier 1 capital | % | ≥ | % | ||||||||||||||
Leverage | % | ≥ | % | ||||||||||||||
Associated Bank, N.A. | |||||||||||||||||
Total capital | $ | % | $ | ≥ | % | $ | ≥ | % | |||||||||
Tier 1 capital | % | ≥ | % | ≥ | % | ||||||||||||
Common equity Tier 1 capital | % | ≥ | % | ≥ | % | ||||||||||||
Leverage | % | ≥ | % | ≥ | % | ||||||||||||
(a) | When fully phased-in on January 1, 2019, the Basel III capital rules include a capital conservation buffer of 2.5% that is added on top of each of the minimum risk-based capital ratios noted above. Implementation began on January 1, 2016 at the 0.625% level and will increase each subsequent January 1, until it reaches 2.5% on January 1, 2019. |
124
Note 20 Earnings Per Common Share
See Note 1 for the Corporation’s accounting policy on earnings per common share. Presented below are the calculations for basic and diluted earnings per common share.
For the Years Ended December 31, | |||||||||||
2017 | 2016 | 2015 | |||||||||
($ in Thousands, Except Per Share Data) | |||||||||||
Net income | $ | $ | $ | ||||||||
Preferred stock dividends | ( | ) | ( | ) | ( | ) | |||||
Net income available to common equity | $ | $ | $ | ||||||||
Common shareholder dividends | ( | ) | ( | ) | ( | ) | |||||
Unvested share-based payment awards | ( | ) | ( | ) | ( | ) | |||||
Undistributed earnings | $ | $ | $ | ||||||||
Undistributed earnings allocated to common shareholders | |||||||||||
Undistributed earnings allocated to unvested share-based payment awards | |||||||||||
Undistributed earnings | $ | $ | $ | ||||||||
Basic | |||||||||||
Distributed earnings to common shareholders | $ | $ | $ | ||||||||
Undistributed earnings allocated to common shareholders | |||||||||||
Total common shareholders earnings, basic | $ | $ | $ | ||||||||
Diluted | |||||||||||
Distributed earnings to common shareholders | $ | $ | $ | ||||||||
Undistributed earnings allocated to common shareholders | |||||||||||
Total common shareholders earnings, diluted | $ | $ | $ | ||||||||
Weighted average common shares outstanding | |||||||||||
Effect of dilutive common stock awards | $ | $ | $ | ||||||||
Effect of dilutive common stock warrants | |||||||||||
Diluted weighted average common shares outstanding | |||||||||||
Basic earnings per common share | $ | $ | $ | ||||||||
Diluted earnings per common share | $ | $ | $ | ||||||||
125
Note 21 Segment Reporting
The Corporation utilizes a risk-based internal profitability measurement system to provide strategic business unit reporting. The profitability measurement system is based on internal management methodologies designed to produce consistent results and reflect the underlying economics of the units. Certain strategic business units have been combined for segment information reporting purposes where the nature of the products and services, the type of customer and the distribution of those products and services are similar. The three reportable segments are Corporate and Commercial Specialty; Community, Consumer, and Business; and Risk Management and Shared Services. The financial information of the Corporation’s segments has been compiled utilizing the accounting policies described in Note 1, with certain exceptions. The more significant of these exceptions are described herein.
The Corporation allocates net interest income using an internal FTP methodology that charges users of funds (assets) and credits providers of funds (liabilities, primarily deposits) based on the maturity, prepayment and / or repricing characteristics of the assets and liabilities. The net effect of this allocation is recorded in the Risk Management and Shared Services segment.
A credit provision is allocated to segments based on the expected long-term annual net charge off rates attributable to the credit risk of loans managed by the segment during the period. In contrast, the level of the consolidated provision for credit losses is determined based on an incurred loss model using the methodologies described in Note 1 to assess the overall appropriateness of the allowance for loan losses and the allowance for unfunded commitments. The net effect of the credit provision is recorded in Risk Management and Shared Services. Indirect expenses incurred by certain centralized support areas are allocated to segments based on actual usage (for example, volume measurements) and other criteria. Certain types of administrative expense and bank-wide expense accruals (including amortization of core deposit and other intangible assets associated with acquisitions) are generally not allocated to segments. Income taxes are allocated to segments based on the Corporation’s tax rate, with certain segments adjusted for any tax-exempt income or non-deductible expenses, the net tax residual is recorded in Risk Management and Shared Services. Equity is allocated to the segments based on regulatory capital requirements and in proportion to an assessment of the inherent risks associated with the business of the segment (including interest, credit and operating risk).
The management accounting policies and processes utilized in compiling segment financial information are highly subjective and, unlike financial accounting, are not based on authoritative guidance similar to U.S. generally accepted accounting principles. As a result, reported segments and the financial information of the reported segments are not necessarily comparable with similar information reported by other financial institutions. Furthermore, changes in management structure or allocation methodologies and procedures may result in changes in previously reported segment financial data. During 2016, certain presentation changes were made and, accordingly, 2015 results have been restated and presented on a comparable basis, except as noted above for the enhanced FTP methodology.
A description of each business segment is presented below.
Corporate and Commercial Specialty: The Corporate and Commercial Specialty segment serves a wide range of customers including larger businesses, developers, not-for-profits, municipalities, and financial institutions. In serving this segment we compete based on an in-depth understanding of our customers’ financial needs, the ability to match market competitive solutions to those needs, and the highest standards of relationship and service excellence in the delivery of these services. Delivery of services is provided through our corporate and commercial units, our commercial real estate unit, as well as our specialized industries and commercial financial services units. Within this segment we provide the following products and services: (1) lending solutions, such as commercial loans and lines of credit, commercial real estate financing, construction loans, letters of credit, leasing, asset based lending, and, for our larger clients, loan syndications; (2) deposit and cash management solutions such as commercial checking and interest-bearing deposit products, cash vault and night depository services, liquidity solutions, payables and receivables solutions, and information services, and (3) specialized financial services such as interest rate risk management, foreign exchange solutions, and commodity hedging.
Community, Consumer, and Business: The Community, Consumer, and Business segment serves individuals, as well as small and mid-sized businesses. In serving this segment we compete based on providing a broad range of solutions to meet the needs of our customers in their entire financial lifecycle, convenient access to our services through multiple channels such as branches, phone based services, online and mobile banking, and a relationship based business model which assists our customers in navigating any changes and challenges in their financial circumstances. Delivery of services is provided through our various consumer banking, community banking, and private client units. Within this segment we provide the following products and services: (1) lending solutions such as residential mortgages, home equity loans and lines of credit, personal and installment loans, real estate financing, business loans, and business lines of credit; (2) deposit and transactional solutions such as checking, credit, debit and pre-paid cards, online banking and bill pay, and money transfer services; (3) investable funds solutions such as savings, money market deposit accounts, IRA accounts, certificates of deposit, fixed and variable annuities, full-service, discount and on-line investment brokerage; investment advisory services; trust and investment management accounts; (4) insurance and benefits related products
126
and services; and (5) fiduciary services such as administration of pension, profit-sharing and other employee benefit plans, fiduciary and corporate agency services, and institutional asset management.
Risk Management and Shared Services: The Risk Management and Shared Services segment includes Corporate Risk Management, Credit Administration, Finance, Treasury, Operations and Technology, which are key shared functions. The segment also includes Parent Company activity, intersegment eliminations and residual revenue and expenses, representing the difference between actual amounts incurred and the amounts allocated to operating segments, including interest rate risk residuals (FTP mismatches) and credit risk and provision residuals (long term credit charge mismatches). The earning assets within this segment include the Corporation’s investment portfolio, and capital includes both allocated and any remaining unallocated capital.
Segment Income Statement Data | ||||||||||||
Corporate and Commercial Specialty | Community, Consumer, and Business | Risk Management and Shared Services | Consolidated Total | |||||||||
For the Years Ended December 31, | ($ in Thousands) | |||||||||||
2017 | ||||||||||||
Net interest income | $ | $ | $ | $ | ||||||||
Noninterest income | ||||||||||||
Total revenue | ||||||||||||
Credit provision (a) | ( | ) | ||||||||||
Noninterest expense | ||||||||||||
Income before income taxes | ||||||||||||
Income tax expense (benefit) | ( | ) | ||||||||||
Net income | $ | $ | $ | $ | ||||||||
Return on average allocated capital (ROCET1) (b) | % | % | % | % | ||||||||
2016 | ||||||||||||
Net interest income | $ | $ | $ | $ | ||||||||
Noninterest income | ||||||||||||
Total revenue | ||||||||||||
Credit provision (a) | ( | ) | ||||||||||
Noninterest expense | ||||||||||||
Income before income taxes | ||||||||||||
Income tax expense (benefit) | ( | ) | ||||||||||
Net income | $ | $ | $ | $ | ||||||||
Return on average allocated capital (ROCET1) (b) | % | % | % | % | ||||||||
2015 | ||||||||||||
Net interest income | $ | $ | $ | $ | ||||||||
Noninterest income | ||||||||||||
Total revenue | ||||||||||||
Credit provision (a) | ( | ) | ||||||||||
Noninterest expense | ||||||||||||
Income before income taxes | ||||||||||||
Income tax expense | ( | ) | ||||||||||
Net income | $ | $ | $ | $ | ||||||||
Return on average allocated capital (ROCET1) (b) | % | % | % | % | ||||||||
127
Segment Balance Sheet Data | ||||||||||||
Corporate and Commercial Specialty | Community, Consumer, and Business | Risk Management and Shared Services | Consolidated Total | |||||||||
($ in Thousands) | ||||||||||||
Average Balances | ||||||||||||
2017 | ||||||||||||
Average earning assets | $ | $ | $ | $ | ||||||||
Average loans | ||||||||||||
Average deposits | ||||||||||||
Average allocated capital (CET1) (b) | $ | $ | $ | $ | ||||||||
2016 | ||||||||||||
Average earning assets | $ | $ | $ | $ | ||||||||
Average loans | ||||||||||||
Average deposits | ||||||||||||
Average allocated capital (CET1) (b) | $ | $ | $ | $ | ||||||||
2015 | ||||||||||||
Average earning assets | $ | $ | $ | $ | ||||||||
Average loans | ||||||||||||
Average deposits | ||||||||||||
Average allocated capital (CET1) (b) | $ | $ | $ | $ | ||||||||
(a) | The consolidated credit provision is equal to the actual reported provision for credit losses. |
(b) |
128
Note 22 Accumulated Other Comprehensive Income (Loss)
Investments Securities Available For Sale | Defined Benefit Pension and Postretirement Obligations | Accumulated Other Comprehensive Income (Loss) | |||||||
($ in Thousands) | |||||||||
Balance, December 31, 2014 | $ | $ | ( | ) | $ | ( | ) | ||
Other comprehensive income (loss) before reclassifications | ( | ) | ( | ) | ( | ) | |||
Amounts reclassified from accumulated other comprehensive income (loss) | |||||||||
Investment securities gain (loss), net | ( | ) | ( | ) | |||||
Personnel expense | |||||||||
Interest income (amortization of net unrealized losses (gains) on available for sale securities transferred to held to maturity securities) | ( | ) | ( | ) | |||||
Income tax (expense) benefit | |||||||||
Net other comprehensive income (loss) during period | ( | ) | ( | ) | ( | ) | |||
Balance, December 31, 2015 | $ | $ | ( | ) | $ | ( | ) | ||
Other comprehensive income (loss) before reclassifications | ( | ) | ( | ) | ( | ) | |||
Amounts reclassified from accumulated other comprehensive income (loss) | |||||||||
Investment securities gain (loss), net | ( | ) | ( | ) | |||||
Personnel expense | |||||||||
Interest income (amortization of net unrealized losses (gains) on available for sale securities transferred to held to maturity securities) | ( | ) | ( | ) | |||||
Income tax (expense) benefit | |||||||||
Net other comprehensive income (loss) during period | ( | ) | ( | ) | ( | ) | |||
Balance, December 31, 2016 | $ | ( | ) | $ | ( | ) | $ | ( | ) |
Other comprehensive income (loss) before reclassifications | ( | ) | ( | ) | |||||
Amounts reclassified from accumulated other comprehensive income (loss) | |||||||||
Personnel expense | |||||||||
Interest income (amortization of net unrealized losses (gains) on available for sale securities transferred to held to maturity securities) | ( | ) | ( | ) | |||||
Income tax (expense) benefit | ( | ) | |||||||
Net other comprehensive income (loss) during period | ( | ) | ( | ) | |||||
Balance, December 31, 2017 | $ | ( | ) | $ | ( | ) | $ | ( | ) |
On February 6, 2018, the Corporation's Board of Directors declared a regular quarterly cash dividend of $0.15 per common share, payable on March 15, 2018 to shareholders of record at the close of business on March 1, 2018. This is an increase of $0.01 from the previous quarterly dividend of $0.14 per common share. The Board of Directors also declared a regular quarterly cash dividend of $0.3828125 per depositary share on the Corporation's 6.125% Series C Perpetual Preferred Stock, payable on March 15, 2018 to shareholders of record at the close of business on March 1, 2018. The Board of Directors also declared a regular quarterly cash dividend of $0.3359375 per depositary share on the Corporation's 5.375% Series D Perpetual Preferred Stock, payable on March 15, 2018 to shareholders of record at the close of business on March 1, 2018.
129
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
Associated Banc-Corp:
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of Associated Banc-Corp and subsidiaries (the “Company”) as of December 31, 2017 and 2016, the related consolidated statements of income, comprehensive income, changes in stockholders’ equity, and cash flows for each of the years in the three‑year period ended December 31, 2017, and the related notes (collectively, the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2017 and 2016, and the results of its operations and its cash flows for each of the years in the three‑year period ended December 31, 2017, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated February 6, 2018 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ KPMG LLP
We have served as the Company’s auditor since 1983.
Chicago, Illinois
February 6, 2018
130
ITEM 9. | CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE |
None.
ITEM 9A. | CONTROLS AND PROCEDURES |
The Corporation maintains disclosure controls and procedures as required under Rule 13a-15(e) and Rule 15d-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to the Corporation’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
As of December 31, 2017, the Corporation’s management carried out an evaluation, under the supervision and with the participation of the Corporation’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of its disclosure controls and procedures. Based on the foregoing, its Chief Executive Officer and Chief Financial Officer concluded that the Corporation’s disclosure controls and procedures were effective as of December 31, 2017. No changes were made to the Corporation’s internal control over financial reporting (as defined Rule 13a-15(f) and Rule 15d-15(f) promulgated under the Exchange Act) during the last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Corporation’s internal control over financial reporting.
Management’s Annual Report on Internal Control Over Financial Reporting
Management of Associated Banc-Corp is responsible for establishing and maintaining adequate internal control over financial reporting. The Corporation’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Corporation’s financial statements for external purposes in accordance with generally accepted accounting principles. Internal control over financial reporting is defined in Rules 13a-15(f) and 15d-15(f) promulgated under the Exchange Act.
As of December 31, 2017, management assessed the effectiveness of the Corporation’s internal control over financial reporting based on criteria for effective internal control over financial reporting established in Internal Control — Integrated Framework (2013), issued by the Committee of Sponsoring Organization of the Treadway Commission (COSO). Based on this assessment, management has determined that the Corporation’s internal control over financial reporting as of December 31, 2017, was effective.
KPMG LLP, the independent registered public accounting firm that audited the consolidated financial statements of the Corporation included in this Annual Report on Form 10-K, has issued an attestation report on the effectiveness of the Corporation’s internal control over financial reporting as of December 31, 2017. The report, which expresses an unqualified opinion on the effectiveness of the Corporation’s internal control over financial reporting as of December 31, 2017, is included below under the heading Report of Independent Registered Public Accounting Firm.
131
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
Associated Banc-Corp:
Opinion on Internal Control Over Financial Reporting
We have audited Associated Banc-Corp and subsidiaries’ (the “Company”) internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the consolidated balance sheets of the Company as of December 31, 2017 and 2016, the related consolidated statements of income, comprehensive income, changes in stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2017, and the related notes (collectively, the “consolidated financial statements”), and our report dated February 6, 2018 expressed an unqualified opinion on those consolidated financial statements.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Annual Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ KPMG LLP
Chicago, Illinois
February 6, 2018
132
ITEM 9B. | OTHER INFORMATION |
None.
PART III
ITEM 10. | DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE |
The information in the Corporation’s definitive Proxy Statement, prepared for the 2018 Annual Meeting of Shareholders, which contains information concerning this item under the captions Election of Directors and Information About the Board of Directors; and information concerning Section 16(a) compliance under the caption Section 16(a) Beneficial Ownership Reporting Compliance is incorporated herein by reference. Information relating to the Corporation’s executive officers is set forth in Part I of this report.
Our Code of Business Conduct and Ethics, Corporate Governance Guidelines, committee charters for standing committees of the Board and other governance documents are all available on our website, www.associatedbank.com, "Investor Relations," "Governance Documents." We will disclose on our website amendments to or waivers from our Code of Ethics in accordance with all applicable laws and regulations. Information contained on any of our websites is not deemed to be a part of this Annual Report.
ITEM 11. | EXECUTIVE COMPENSATION |
The information in the Corporation’s definitive Proxy Statement, prepared for the 2018 Annual Meeting of Shareholders, which contains information concerning this item, under the captions Executive Compensation — Compensation Discussion and Analysis, Director Compensation, Compensation and Benefits Committee Interlocks and Insider Participation, and Compensation and Benefits Committee Report is incorporated herein by reference.
ITEM 12. | SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS |
The information in the Corporation’s definitive Proxy Statement, prepared for the 2018 Annual Meeting of Shareholders, which contains information concerning this item, under the captions Stock Ownership and Equity Compensation Plan Information, is incorporated herein by reference.
ITEM 13. | CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE |
The information in the Corporation’s definitive Proxy Statement, prepared for the 2018 Annual Meeting of Shareholders, which contains information concerning this item under the captions Related Party Transactions, and Information about the Board of Directors, is incorporated herein by reference.
ITEM 14. | PRINCIPAL ACCOUNTING FEES AND SERVICES |
The information in the Corporation’s definitive Proxy Statement, prepared for the 2018 Annual Meeting of Shareholders, which contains information concerning this item under the caption Fees Paid to Independent Registered Public Accounting Firm, is incorporated herein by reference.
133
PART IV
ITEM 15. | EXHIBITS AND FINANCIAL STATEMENT SCHEDULES |
(a) 1 and 2 Financial Statements and Financial Statement Schedules
The following financial statements and financial statement schedules are included under a separate caption Financial Statements and Supplementary Data in Part II, Item 8 hereof and are incorporated herein by reference.
Consolidated Balance Sheets — December 31, 2017 and 2016
Consolidated Statements of Income — For the Years Ended December 31, 2017, 2016, and 2015
Consolidated Statements of Comprehensive Income — For the Years Ended December 31, 2017, 2016, and 2015
Consolidated Statements of Changes in Stockholders’ Equity — For the Years Ended December 31, 2017, 2016, and 2015
Consolidated Statements of Cash Flows — For the Years Ended December 31, 2017, 2016, and 2015
Notes to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
(a) 3 Exhibits Required by Item 601 of Regulation S-K
Exhibit Number | Description | |
(2) | Agreement and Plan of Merger dated as of July 20, 2017, by and between Associated Banc-Corp and Bank Mutual | |
(3)(a) | Amended and Restated Articles of Incorporation | |
(3)(b) | Articles of Amendment to the Amended and Restated Articles of Incorporation of Associated Banc-Corp with respect to its 8.00% Perpetual Preferred Stock, Series B, dated September 12, 2011 | |
(3)(c) | Articles of Amendment to the Amended and Restated Articles of Incorporation of Associated Banc-Corp with respect to its 6.125% Non-Cumulative Perpetual Preferred Stock, Series C, dated June 4, 2015 | |
(3)(d) | Articles of Amendment to the Amended and Restated Articles of Incorporation of Associated Banc-Corp regarding the rights and preferences of preferred stock, effective April 25, 2012 | |
(3)(e) | Articles of Amendment to the Amended and Restated Articles of Incorporation of Associated Banc-Corp with respect to its 6.125% Non-Cumulative Perpetual Preferred Stock, Series C, dated June 4, 2015 | |
(3)(f) | Articles of Correction filed with the Wisconsin Department of Financial Institutions on June 14, 2016 | |
(3)(g) | Certificate Related to Series A Preferred Stock dated August 15, 2016 | |
(3)(h) | Articles of Amendment to the Amended and Restated Articles of Incorporation of Associated Banc-Corp with respect to its 5.375% Non-Cumulative Perpetual Preferred Stock, Series D, dated September 12, 2016 | |
(3)(i) | Amended and Restated Bylaws | |
(3)(j) | Amended and Restated Bylaws of Associated Banc-Corp | |
(4)(a) | Instruments Defining the Rights of Security Holders, Including Indentures | |
The Parent Company, by signing this report, agrees to furnish the SEC, upon its request, a copy of any instrument that defines the rights of holders of long-term debt of the Corporation and its consolidated and unconsolidated subsidiaries for which consolidated or unconsolidated financial statements are required to be filed and that authorizes a total amount of securities not in excess of 10% of the total assets of the Corporation on a consolidated basis | ||
134
Exhibit Number | Description | |
(4)(b) | Indenture, dated as of March 14, 2011, between Associated Banc-Corp and The Bank of New York Mellon Trust Company, N.A. | |
(4)(c) | Global Note dated as of March 28, 2011 representing $300,000,000 5.125% Senior Notes due 2016 | |
(4)(d) | Global Note dated as of September 13, 2011 representing $130,000,000 5.125% Senior Notes due 2016 | |
(4)(e) | Deposit Agreement, dated September 14, 2011, among Associated Banc-Corp, Wells Fargo Bank, N.A. and the holders from time to time of the Depositary Receipts described therein, and Form of Depositary Receipt | |
(4)(f) | Warrant Agreement for 3,983,308 Warrants, dated as of November 30, 2011, between Associated Banc-Corp and Wells Fargo Bank, N.A. | |
(4)(g) | Specimen Warrant for 3,983,308 Warrants | |
(4)(h) | Subordinated Indenture, dated as of November 13, 2014, between Associated Banc-Corp and The Bank of New York Mellon Trust Company, N.A., as trustee | |
(4)(i) | Global Note dated as of November 13, 2014 representing $250,000,000 2.750% Senior Notes due 2019 | |
(4)(j) | Global Note dated as of November 13, 2014 representing $250,000,000 4.250% Subordinated Note due 2025 | |
(4)(k) | Deposit Agreement, dated June 8, 2015, among Associated Banc-Corp, Wells Fargo Bank, N.A. and the holders from time to time of the Depositary Receipts described therein, and form of Depositary Receipt | |
(4)(l) | Deposit Agreement, dated September 15, 2016, among Associated Banc-Corp, Wells Fargo Bank, N.A., and the holders from time to time of the Depositary Receipts described therein, and form of Depositary Receipt | |
*(10)(a) | Associated Banc-Corp 1987 Long-Term Incentive Stock Plan, Amended and Restated Effective January 1, 2008 | |
*(10)(b) | Associated Banc-Corp 1999 Long-Term Incentive Stock Plan, Amended and Restated Effective January 1, 2008 | |
*(10)(c) | Associated Banc-Corp 2003 Long-Term Incentive Stock Plan, Amended and Restated Effective January 1, 2008 | |
135
Exhibit Number | Description | |
*(10)(d) | Associated Banc-Corp Deferred Compensation Plan | |
*(10)(e) | Associated Banc-Corp Directors’ Deferred Compensation Plan, Restated Effective January 1, 2008 | |
*(10)(f) | Associated Banc-Corp Deferred Compensation Plan, Restated Effective November 16, 2015 | |
*(10)(g) | Amendment to Associated Banc-Corp 2003 Long-Term Incentive Stock Plan effective November 15, 2009 | |
*(10)(h) | Associated Banc-Corp 2010 Incentive Compensation Plan | |
*(10)(i) | Associated Banc-Corp 2013 Incentive Compensation Plan | |
*(10)(j) | Associated Banc-Corp 2017 Incentive Compensation Plan | |
*(10)(k) | Form of Non-Qualified Stock Option Agreement | |
*(10)(l) | Associated Banc-Corp Change of Control Plan, Restated Effective September 28, 2011 | |
*(10)(m) | Associated Banc-Corp Supplemental Executive Retirement Plan for Philip B. Flynn | |
*(10)(n) | Form of Performance-Based Restricted Stock Unit Agreement | |
*(10)(o) | Supplemental Executive Retirement Plan, Restated Effective January 22, 2013 | |
*(10)(p) | Supplemental Executive Retirement Plan, Restated Effective November 16, 2015 | |
*(10)(q) | Form of 2013 Incentive Compensation Plan Restricted Unit Agreement | |
*(10)(r) | Form of Amendment to 2013 Incentive Compensation Plan Restricted Unit Agreement | |
*(10)(s) | James K. Simons Separation Agreement and General Release dated August 4, 2017 | |
*(10)(t) | Form of Change of Control Agreement | |
(11) | Statement Re Computation of Per Share Earnings | See Note 20 in Part II Item 8 |
(21) | Subsidiaries of Associated Banc-Corp | |
(23) | Consent of Independent Registered Public Accounting Firm | |
(24) | Powers of Attorney | |
(31.1) | Certification Under Section 302 of Sarbanes-Oxley by Philip B. Flynn, Chief Executive Officer | |
(31.2) | Certification Under Section 302 of Sarbanes-Oxley by Christopher J. Del Moral-Niles, Chief Financial Officer | |
(32) | Certification by the Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of Sarbanes-Oxley. | |
(101) | Interactive data files pursuant to Rule 405 of Regulation S-T: (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Income, (iii) Consolidated Statements of Comprehensive Income, (iv) Consolidated Statements of Changes in Stockholders’ Equity, (v) Consolidated Statements of Cash Flows, and (vi) Notes to Consolidated Financial Statements. | Filed herewith |
* | Management contracts and arrangements. |
Schedules and exhibits other than those listed are omitted for the reasons that they are not required, are not applicable or that equivalent information has been included in the financial statements, and notes thereto, or elsewhere within.
136
ITEM 16. | FORM 10-K SUMMARY |
Not applicable.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
ASSOCIATED BANC-CORP | |||
Date: February 6, 2018 | By: | /s/ Philip B. Flynn | |
Philip B. Flynn | |||
President and Chief Executive Officer | |||
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Signature | Title | Date | ||
/s/ Philip B. Flynn | President and Chief Executive Officer (Principal Executive Officer) | February 6, 2018 | ||
Philip B. Flynn | ||||
/s/ Christopher J. Del Moral-Niles | Chief Financial Officer (Principal Financial Officer) | February 6, 2018 | ||
Christopher J. Del Moral-Niles | ||||
/s/ Tammy C. Stadler | Principal Accounting Officer | February 6, 2018 | ||
Tammy C. Stadler | ||||
Directors: Michael T. Crowley Jr., Philip B. Flynn, R. Jay Gerken, Judith P. Greffin, Robert A. Jeffe, Eileen A. Kamerick, Gale E. Klappa, Richard T. Lommen, Cory L. Nettles, Karen T. van Lith, and John (Jay) B. Williams
By: | /s/ Randall J. Erickson | |
Randall J. Erickson | ||
As Attorney-In-Fact* | ||
* | Pursuant to authority granted by powers of attorney, copies of which are filed herewith. |
137