Covered Assets and FDIC Loss-sharing Asset

6 Months Ended

Jun. 30, 2011

Covered Assets and FDIC Loss-sharing Asset

Covered Assets and FDIC Loss sharing Asset

8. Covered Assets and FDIC Loss-sharing Asset

Covered Assets

Covered assets consist of loans and OREO acquired in FDIC assisted acquisitions during 2010 and 2011, for which the Bank entered into loss-sharing agreements, whereby the FDIC will cover a substantial portion of any future losses on loans (and related unfunded loan commitments), OREO and certain accrued interest on loans. Under the terms of the loss-sharing agreements, the FDIC will absorb 80% of losses and share in 80% of loss recoveries up to specified amounts and, with respect to loss-sharing agreements for two acquisitions completed in 2010, will absorb 95% of losses and share in 95% of loss recoveries thereafter. The loss-sharing provisions of the agreements for commercial and single-family mortgage loans are in effect for five and ten years, respectively, from the acquisition dates and the loss recovery provisions are in effect for eight and ten years, respectively, from the acquisition dates.

Ten years and forty-five days after the acquisition dates, the Bank shall pay to the FDIC a clawback in the event the losses from the acquisitions fail to reach stated levels. This clawback shall be in the amount of 50% of the excess, if any, of 20% of the stated threshold amounts, less the sum of 25% of the asset premium (discount), 20% or 25% of the cumulative loss-sharing payments (depending on the particular agreement), and the cumulative servicing amount. As of June 30, 2011, the net present value of the Bank's estimated clawback liability is $2.1 million, which is included in other liabilities on the consolidated condensed financial statements.

The following is an analysis of our covered loans, net of related allowance for losses on covered loans as of June 30, 2011 and December 31, 2010:

		$241,391		$241,391		$241,391
(dollars in thousands)	Covered Loans June 30, 2011		Weighted- Average Risk Rating		Allowance for Loan Losses
Commercial Business	$	241,391		5.82	$	3,156
Real Estate 1-4 Family		84,568		4.68		508
Real Estate Commercial & Multifamily		365,099		5.72		3,861
Construction 1-4 Family		57,638		7.44		0
Construction Commercial & Multifamily		32,203		6.65		382
Consumer		65,936		4.60		41
Subtotal of covered loans		846,835			$	7,948
Less:
Valuation discount resulting from acquisition accounting		231,577
Allowance for loan losses		7,948
Covered loans, net of allowance for loan losses	$	607,310
(dollars in thousands)	Covered Loans December 31, 2010		Weighted- Average Risk Rating		Allowance for Loan Losses
Commercial Business	$	165,255		5.74	$	2,903
Real Estate 1-4 Family		68,700		4.77		1,013
Real Estate Commercial & Multifamily		341,063		5.70		821
Construction 1-4 Family		39,754		7.29		98
Construction Commercial & Multifamily		41,624		6.79		469
Consumer		58,337		4.49		751
Subtotal of covered loans		714,733			$	6,055
Less:
Valuation discount resulting from acquisition accounting		191,617
Allowance for loan losses		6,055
Covered loans, net of allowance for loan losses	$	517,061

Acquired loans are accounted for under ASC 310-30 and initially measured at fair value based on expected future cash flows over the life of the loans or market-based information for comparable loans. Management monitors and estimates expected future cash flows of acquired loans on a quarterly basis. Acquired loans are also subject to the Company's internal and external credit review and are risk rated using the same criteria as loans originated by the Company. However, risk ratings are not a clear indicator of losses on acquired loans as a majority of the losses are recoverable from the FDIC under the loss-sharing agreements.

Draws on acquired loans, advanced subsequent to the loan acquisition date, are accounted for under ASC 450-20 and those amounts are also subject to the Company's internal and external credit review. An allowance for loan losses is estimated in a similar manner as the originated loan portfolio, and a provision for loan losses is charged to earnings as necessary.

During the six months ended June 30, 2011, the Company recorded a provision expense for losses on covered loans of $1.9 million. Of this amount, $2.3 million was impairment expense calculated in accordance with ASC 310-30 and $462 thousand was a negative provision to adjust the allowance for loss calculated under ASC 450-20 for draws on acquired loans. The impact to earnings of the $1.9 million of provision expense for covered loans was partially offset through noninterest income by a $1.5 million increase in the FDIC loss-sharing asset.

The following table shows the changes in accretable yield for acquired loans for three and six months ended June 30, 2011. Due to the provisional measurement of loans acquired from Summit Bank and First Heritage Bank acquisitions, the table below does not include accretable yield arising from those two acquisitions:

(in thousands)	Three months ended June 30, 2011			Six months ended June 30, 2011
Balance at beginning of period	$	217,351		$	256,572
Accretion		(15,458	)		(36,761	)
Cash receipts, disposals and change in cash flows		52,629			34,711
Balance at end of period	$	254,522		$	254,522

The excess of cash flows expected to be collected over the initial fair value of acquired loans is referred to as the accretable yield and is accreted into interest income over the estimated life of the acquired loans using the effective yield method. Other adjustments to the accretable yield include changes in the estimated remaining life of the acquired loans, changes in expected cash flows and changes of indices for acquired loans with variable interest rates.

The following table sets forth activity in covered OREO at carrying value for the three and six months ended June 30, 2011:

(in thousands)	Three Months Ended June 30, 2011			Six Months Ended June 30, 2011
Covered OREO:
Balance, beginning of period	$	13,527		$	14,443
Established through acquisitions		10,896			10,896
Transfers in, net of write-downs ($23 and $441, respectively)		1,668			5,092
OREO improvements		0			0
Additional OREO write-downs		(99	)		(113	)
Proceeds from sale of OREO property		(4,122	)		(11,081	)
Gain on sale of OREO		2,369			5,002
Total covered OREO, end of period	$	24,239		$	24,239

The covered OREO is covered by loss-sharing agreements with the FDIC in which the FDIC will assume 80% of additional write-downs and losses on covered OREO sales, or 95%, if applicable, of additional write-downs and losses on covered OREO sales if the minimum loss share thresholds are met.

FDIC Loss-sharing Asset

The FDIC loss-sharing asset as of June 30, 2011 is comprised of a $199.3 million FDIC indemnification asset and a $6.9 million FDIC receivable. The indemnification is the present value of the cash flows the Company expects to collect from the FDIC under the loss-sharing agreements and the FDIC receivable represents 80% of reimbursable amounts from the FDIC that have not yet been received.

	Three months ended June 30,						Six months ended June 30,
(in thousands)	2011			2010			2011			2010
Balance at beginning of period	$	193,053		$	210,405		$	205,991		$	0
Adjustments not reflected in income
Established through acquistions		65,278			0			65,278			210,405
Cash received from the FDIC		(44,892	)		0			(44,892	)		0
FDIC share of additional estimated losses		991			13,947			2,295			13,947
Other		(1,773	)		(1,006	)		(1,241	)		(1,006	)
Adjustments reflected in income
(Amortization) accretion		(6,638	)		3,952			(15,641	)		3,952
Loan loss provision		1,841			0			1,503			0
Other		(1,622	)		(553	)		(7,055	)		(553	)
Balance at end of period	$	206,238		$	226,745		$	206,238		$	226,745