form10q.htm




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

FORM 10-Q
Mark One
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2010

or

¨
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 000-24939


EAST WEST BANCORP, INC.
(Exact name of registrant as specified in its charter)

Delaware
95-4703316
(State or other jurisdiction of
(I.R.S. Employer
incorporation or organization)
Identification No.)

135 N. Los Robles Ave, 7th Floor, Pasadena, California 91101
(Address of principal executive offices) (Zip Code)

(626) 768-6000
(Registrant's telephone number, including area code)

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 Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes ¨   No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filed, a non-accelerated filer or a smaller reporting company.  See definition of “large accelerated filer and accelerated filer” in Rule 12b-2 of the Exchange Act.

Large accelerated filer þ
Accelerated filer ¨
Non-accelerated filer ¨
Smaller reporting company ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨   No þ

Number of shares outstanding of the issuer’s common stock on the latest practicable date: 147,948,240 shares of common stock as of April 30, 2010.

 
 

 

TABLE OF CONTENTS


PART I - FINANCIAL INFORMATION
 
5
 
Item 1.
Condensed Consolidated Financial Statements (Unaudited)
5-8
 
   
Notes to Condensed Consolidated Financial Statements (Unaudited)
9-36
 
 
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
37-70
 
 
Item 3.
Quantitative and Qualitative Disclosures About Market Risks
70
 
 
Item 4.
Controls and Procedures
70-71
 
PART II - OTHER INFORMATION
72
 
 
Item 1.
Legal Proceedings
72
 
 
Item 1A.
Risk Factors
72
 
 
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
73
 
 
Item 3.
Defaults Upon Senior Securities
73
 
 
Item 4.
Submission of Matters to a Vote of Security Holders
73
 
 
Item 5.
Other Information
73
 
 
Item 6.
Exhibits
73
 
SIGNATURE
74
 

 
2

 

Forward-Looking Statements

Certain matters discussed in this Quarterly Report may constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “1933 Act”) and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and as such, may involve risks and uncertainties. These forward-looking statements relate to, among other things, expectations of the environment in which the Company operates and projections of future performance including future earnings and financial condition. The Company’s actual results, performance, or achievements may differ significantly from the results, performance, or achievements expected or implied in such forward-looking statements. Such risk and uncertainties and other factors include, but are not limited to, adverse developments or conditions related to or arising from:

 
·  
our ability to integrate the former United Commercial Bank (“UCB”) operations and to achieve expected synergies, operating efficiencies or other benefits within expected time frames, or at all, or within expected cost projections;
 
·  
our ability to integrate and retain former depositors and borrowers of United Commercial Bank;
 
·  
our ability to manage the loan portfolio acquired from United Commercial Bank within the limits of the loss protection provided by the Federal Deposit Insurance Corporation (“FDIC”);
 
·  
changes in our borrowers’ performance on loans;
 
·  
changes in the commercial and consumer real estate markets;
 
·  
changes in our costs of operation, compliance and expansion;
 
·  
changes in the economy, including inflation;
 
·  
changes in government interest rate policies;
 
·  
changes in laws or the regulatory environment;
 
·  
changes in critical accounting policies and judgments;
 
·  
changes in accounting policies or procedures as may be required by the Financial Accounting Standards Board or other regulatory agencies;
 
·  
changes in the equity and debt securities markets;
 
·  
changes in competitive pressures on financial institutions;
 
·  
effect of additional provision for loan losses;
 
·  
effect of any goodwill impairment;
 
·  
fluctuations of our stock price;
 
·  
success and timing of our business strategies;
 
·  
impact of reputational risk created by these developments on such matters as business generation and retention, funding and liquidity;
 
·  
changes in our ability to receive dividends from our subsidiaries; and
 
·  
political developments, wars or other hostilities may disrupt or increase volatility in securities or otherwise affect economic conditions.
 

 
3

 

For a more detailed discussion of some of the factors that might cause such differences, see the Company’s 2009 Form 10-K under the heading “ITEM 1A. RISK FACTORS” and the information set forth under “RISK FACTORS” in this Form 10-Q. The Company does not undertake, and specifically disclaims any obligation to update any forward-looking statements to reflect the occurrence of events or circumstances after the date of such statements except as required by law.

 
4

 

PART I - FINANCIAL INFORMATION
EAST WEST BANCORP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
(Unaudited)

   
March 31,
   
December 31,
 
   
2010
   
2009
 
ASSETS
           
Cash and cash equivalents
  $ 1,180,735     $ 835,141  
Short-term investments
    457,184       510,788  
Securities purchased under resale agreements
    380,000       227,444  
Investment securities available for sale, at fair value (with amortized cost of $2,187,882 at
  March 31, 2010 and $2,563,043 at December 31, 2009)
    2,191,527       2,564,081  
Loans held for sale, at fair value
    17,540       28,014  
                 
Loans receivable, excluding covered loans (net of allowance for loan losses of $250,517 at
  March 31, 2010 and $238,833 at December 31, 2009)
    8,233,268       8,218,671  
Covered loans
    5,220,721       5,598,155  
Total loans receivable, net
    13,453,989       13,816,826  
                 
FDIC indemnification asset
    980,950       1,091,814  
                 
Other real estate owned, net
    6,907       13,832  
Other real estate owned covered, net
    78,354       44,273  
Total other real estate owned
    85,261       58,105  
                 
Accrued interest receivable
    78,659       82,370  
Due from customer acceptances
    51,411       40,550  
Investment in affordable housing partnerships
    101,837       84,833  
Premises and equipment
    135,168       59,099  
Premiums on deposits acquired, net
    86,351       89,735  
Goodwill
    337,438       337,438  
Other assets
    761,126       732,974  
TOTAL
  $ 20,299,176     $ 20,559,212  
                 
LIABILITIES AND STOCKHOLDERS' EQUITY
               
Customer deposit accounts:
               
Noninterest-bearing
  $ 2,289,933     $ 2,291,259  
Interest-bearing
    12,316,769       12,696,354  
Total deposits
    14,606,702       14,987,613  
Federal Home Loan Bank advances
    1,769,452       1,805,387  
Securities sold under repurchase agreements
    1,032,511       1,026,870  
Notes payable and other borrowings
    65,262       74,406  
Bank acceptances outstanding
    51,411       40,550  
Long-term debt
    235,570       235,570  
Accrued interest payable, accrued expenses and other liabilities
    232,479       104,157  
Total liabilities
    17,993,387       18,274,553  
                 
COMMITMENTS AND CONTINGENCIES (Note 9)
               
                 
STOCKHOLDERS' EQUITY
               
Preferred stock, $0.001 par value, 5,000,000 shares authorized; Series A, non-cumulative
  convertible, 200,000 shares issued and 85,741 shares outstanding in 2010 and  2009;
  Series B, cumulative, 306,546 shares issued and outstanding in 2010 and 2009; Series C,
  cumulative convertible, 335,047 issued and outstanding in 2009.
    369,095       693,803  
Common stock, $0.001 par value, 200,000,000 shares authorized; 154,811,496 and 116,754,403
  shares issued in 2010 and 2009, respectively; 147,907,806 and 109,962,965 shares
  outstanding in 2010 and 2009, respectively.
    155       117  
Additional paid in capital
    1,418,648       1,091,047  
Retained earnings
    621,896       604,223  
Treasury stock, at cost - 6,903,690 shares in 2010 and 6,791,438 shares in 2009
    (106,088 )     (105,130 )
Accumulated other comprehensive income, net of tax
    2,083       599  
Total stockholders' equity
    2,305,789       2,284,659  
TOTAL
  $ 20,299,176     $ 20,559,212  
See accompanying notes to condensed consolidated financial statements.

 
5

 

EAST WEST BANCORP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)

   
Three Months Ended March 31,
 
   
2010
   
2009
 
INTEREST AND DIVIDEND INCOME
           
Loans receivable, including fees
  $ 287,944     $ 110,816  
Investment securities
    20,176       29,375  
Securities purchased under resale agreements
    6,263       1,250  
Short-term investments
    3,541       2,976  
Investment in Federal Reserve Bank stock
    657       506  
Investment in Federal Home Loan Bank stock
    122       -  
Total interest and dividend income
    318,703       144,923  
                 
INTEREST EXPENSE
               
Customer deposit accounts
    33,448       37,073  
Securities sold under repurchase agreements
    12,541       11,872  
Federal Home Loan Bank advances
    9,005       13,877  
Long-term debt
    1,547       2,417  
Other borrowings
    438       3  
Total interest expense
    56,979       65,242  
                 
Net interest income before provision for loan losses
    261,724       79,681  
Provision for loan losses
    76,421       78,000  
Net interest income after provision for loan losses
    185,303       1,681  
                 
NONINTEREST (LOSS) INCOME
               
Decrease in FDIC indemnification asset and receivable
    (43,572 )     -  
                 
Impairment loss on investment securities
    (4,799 )     (13,380 )
Less: non-credit related impairment loss recorded in other comprehensive income
    -       13,180  
Net impairment loss on investment securities recognized in earnings
    (4,799 )     (200 )
                 
Net gain on sale of investment securities
    16,111       3,521  
Branch fees
    8,758       4,793  
Gain on acquisition of United Commercial Bank
    8,095       -  
Letters of credit fees and commissions
    2,740       1,854  
Ancillary loan fees
    1,689       2,229  
Income from life insurance policies
    1,105       1,083  
Net gain on sale of loans
    -       8  
Other operating income
    1,422       506  
Total noninterest (loss) income
    (8,451 )     13,794  
                 
NONINTEREST EXPENSE
               
Compensation and employee benefits
    50,779       17,108  
Other real estate owned expense
    18,012       7,031  
Occupancy and equipment expense
    11,944       7,391  
Deposit insurance premiums and regulatory assessments
    11,581       3,325  
Prepayment penalty for FHLB advances
    9,932       -  
Amortization of premiums on deposits acquired
    3,384       1,125  
Amortization of investments in affordable housing partnerships
    3,037       1,760  
Loan related expenses
    2,997       1,435  
Legal expense
    2,907       1,778  
Data processing
    2,482       1,142  
Consulting expense
    2,141       448  
Deposit-related expenses
    1,009       901  
Other operating expenses
    18,705       7,962  
Total noninterest expense
    138,910       51,406  
                 
INCOME (LOSS) BEFORE PROVISION (BENEFIT) FOR INCOME TAXES
    37,942       (35,931 )
PROVISION (BENEFIT) FOR INCOME TAXES
    13,026       (13,465 )
NET INCOME (LOSS)
    24,916       (22,466 )
PREFERRED STOCK DIVIDENDS AND AMORTIZATION OF
  PREFERRED STOCK DISCOUNT
    6,138       8,743  
NET INCOME (LOSS) AVAILABLE TO COMMON STOCKHOLDERS
  $ 18,778     $ (31,209 )
                 
EARNINGS (LOSS) PER SHARE AVAILABLE TO COMMON STOCKHOLDERS
         
BASIC
  $ 0.17     $ (0.50 )
DILUTED
  $ 0.13     $ (0.50 )
DIVIDENDS DECLARED PER COMMON SHARE
  $ 0.01     $ 0.02  
                 
WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING
               
BASIC
    109,961       62,998  
DILUTED
    146,865       62,998  

See accompanying notes to condensed consolidated financial statements.

 
6

 

EAST WEST BANCORP, INC. AND SUBSIDIARIES
 CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
(In thousands, except share data)
(Unaudited)

         
Additional
                           
Accumulated
             
         
Paid In
                           
Other
             
         
Capital
         
Additional
               
Comprehensive
         
Total
 
   
Preferred
   
Preferred
   
Common
   
Paid In
   
Retained
   
Treasury
   
Loss,
   
Comprehensive
   
Stockholders'
 
   
Stock
   
Stock
   
Stock
   
Capital
   
Earnings
   
Stock
   
Net of Tax
   
Income (Loss)
   
Equity
 
                                                       
BALANCE, DECEMBER 31, 2008
  $ -     $ 472,311     $ 70     $ 695,521     $ 572,172     $ (102,817 )   $ (86,491 )         $ 1,550,766  
Cumulative effect adjustment for
  reclassification of  the previously recognized
  noncredit-related impairment loss  on
  investment securities
                                    8,110               (8,110 )           -  
BALANCE, JANUARY 1, 2009
    -       472,311       70       695,521       580,282       (102,817 )     (94,601 )           1,550,766  
Comprehensive loss
                                                                     
Net loss
                                    (22,466 )                   $ (22,466 )     (22,466 )
Net unrealized gain on investment securities
  available-for-sale
                                                    22,175       22,175       22,175  
Noncredit-related impairment loss on
  investment securities recorded in the
  current year
                                                    (7,644 )     (7,644 )     (7,644 )
Total comprehensive loss
                                                          $ (7,935 )        
Stock compensation costs
                            1,428                                       1,428  
Tax benefit from stock plans
                            (403 )                                     (403 )
Preferred stock issuance cost
            (41 )                                                     (41 )
Issuance of 290,296 shares pursuant to various
  stock plans and agreements
                            15                                       15  
Cancellation of 24,134 shares due to forfeitures
  of issued restricted stock
                            577               (577 )                     -  
Purchase of 8,882 shares of treasury stock due
  to the vesting of restricted stock
                                            (35 )                     (35 )
Amortization of Series B preferred stock discount
      1,070                       (1,070 )                             -  
Preferred stock dividends
                                    (7,673 )                             (7,673 )
Common stock dividends
                                    (929 )                             (929 )
BALANCE, MARCH 31, 2009
  $ -     $ 473,340     $ 70     $ 697,138     $ 548,144     $ (103,429 )   $ (80,070 )           $ 1,535,193  
                                                                         
BALANCE, JANUARY 1, 2010
  $ -     $ 693,803     $ 117     $ 1,091,047     $ 604,223     $ (105,130 )   $ 599             $ 2,284,659  
Comprehensive income
                                                                       
Net income
                                    24,916                     $ 24,916       24,916  
Net unrealized gain on investment securities
  available-for-sale
                                                    1,484       1,484       1,484  
Noncredit-related impairment loss on
  investment securities recorded in the
  current year
                                                    -       -       -  
Total comprehensive income
                                                          $ 26,400          
Stock compensation costs
                            1,565                                       1,565  
Tax benefit from stock plans
                            (341 )                                     (341 )
Issuance of 953,359 shares pursuant to various
  stock plans and agreements
                    1       576                                       577  
Conversion of 335,047 shares of Series C
  Preferred Stock into 37,103,734 shares of
  common stock
            (325,299 )     37       325,262                                       -  
Cancellation of 89,795 shares due to forfeitures
  of issued restricted stock
                            539               (539 )                     -  
Purchase of 22,457 shares of treasury stock due
  to the vesting of restricted stock
                                            (419 )                     (419 )
Amortization of Series B preferred stock discount
      591                       (591 )                             -  
Preferred stock dividends
                                    (5,547 )                             (5,547 )
Common stock dividends
                                    (1,105 )                             (1,105 )
BALANCE, MARCH 31, 2010
  $ -     $ 369,095     $ 155     $ 1,418,648     $ 621,896     $ (106,088 )   $ 2,083             $ 2,305,789  
                                                                         
                                                           
Three Months Ended March 31,
 
                                                              2010       2009  
                                                           
(In thousands)
 
Disclosure of reclassification amounts:
                                                                 
Unrealized holding gain on securities arising during the period, net of tax expense of $5,826 in 2010 and $17,453 in 2009
            $ 8,045     $ 24,101  
Less: Reclassification adjustment for gain included in net income (loss), net of tax expense of $4,751 in 2010 and $1,395 in 2009
              (6,561 )     (1,926 )
Net unrealized (loss) gain on securities, net of tax expense of $1,075 in 2010 and $16,058 in 2009
                            $ 1,484     $ 22,175  
See accompanying notes to condensed consolidated financial statements.

 
7

 

EAST WEST BANCORP, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
   
Three Months Ended March 31,
 
   
2010
   
2009
 
CASH FLOWS FROM OPERATING ACTIVITIES
           
Net income (loss)
  $ 24,916     $ (22,466 )
   Adjustments to reconcile net income (loss) to net cash provided by operating activities:
         
Depreciation and amortization
    16,077       5,807  
Accretion of discount and premium
    (96,692 )     -  
           Decrease in FDIC indemnification asset and receivable     43,572       -  
Gain related to the fair value of investments from the acquisition of United
  Commercial Bank
    (8,095 )     -  
Impairment writedown on investment securities available-for-sale
    4,799       200  
Stock compensation costs
    1,447       1,428  
Deferred tax benefit
    (2,874 )     (2,033 )
Provision for loan losses
    76,421       78,000  
Impairment on other real estate owned
    13,294       3,184  
Net gain on sales of investment securities, loans and other assets
    (16,052 )     (600 )
Originations of loans held for sale
    (6,382 )     (12,078 )
Proceeds from sale of loans held for sale
    13,695       12,111  
FHLB advance prepayment penalty
    9,932       -  
Tax benefit from stock plans
    (341 )     (403
Net change in accrued interest receivable and other assets
    44,994       (1,407 )
Net change in accrued expenses and other liabilities
    142,509       (22,022 )
Total adjustments
    236,304       62,187  
Net cash provided by operating activities
    261,220       39,721  
                 
CASH FLOWS FROM INVESTING ACTIVITIES
               
Net decrease in loans
    458,384       100,111  
Net decrease (increase) in short-term investments
    53,604       (100,847 )
Purchases of:
               
Securities purchased under resale agreements
    (300,000 )     -  
Investment securities held-to-maturity
    -       (466,018 )
Investment securities available-for-sale
    (712,031 )     (867,221 )
Loans receivable
    (179,386 )     (4,511 )
Federal Reserve Bank stock
    (10,500 )     (9,196 )
Investments in affordable housing partnerships
    (539 )     -  
Premises and equipment
    (79,872 )     (194 )
Proceeds from sale of:
               
Investment securities
    615,843       185,775  
Securities purchased under resale agreements
    150,000       -  
Loans receivable
    24,478       9,396  
Other real estate owned
    31,195       9,799  
Premises and equipment
    28       -  
Repayments, maturity and redemption of investment securities available-for-sale
    482,270       610,984  
Dividends/redemption of Federal Home Loan Bank stock
    93       -  
Net cash provided by (used in) investing activities
    533,567       (531,922 )
                 
CASH FLOWS FROM FINANCING ACTIVITIES
               
Net (payment for) proceeds from:
               
Deposits
    (380,911 )     312,100  
Short-term borrowings
    (14,643 )     (28,369 )
Proceeds from:
               
Issuance of short-term borrowings
    5,641       -  
Issuance of long-term borrowings
    350,000       -  
Issuance of common stock pursuant to various stock plans and agreements
    695       15  
Payment for:
               
Repayment of long-term borrowings
    (389,064 )     (119,999 )
Repayment of notes payable and other borrowings
    (14,181 )     (1,909 )
Repurchase of treasury shares
    (419 )     (35 )
Issuance and conversion costs of preferred stock & common stock
    -       (41 )
Cash dividends on preferred stock
    (5,547 )     (6,822 )
Cash dividends on common stock
    (1,105 )     (929 )
Tax benefit from stock plans
    341       403  
Net cash (used in) provided by financing activities
    (449,193 )     154,414  
                 
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
    345,594       (337,787 )
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD
    835,141       878,853  
CASH AND CASH EQUIVALENTS, END OF PERIOD
  $ 1,180,735     $ 541,066  
                 
SUPPLEMENTAL CASH FLOW INFORMATION:
               
Cash paid during the period for:
               
Interest
  $ 54,396     $ 71,370  
Income tax (refunds) payments
    (1,946 )     50  
Noncash investing and financing activities:
               
Transfers to real estate owned/affordable housing partnership
    76,552       30,561  
Conversion of preferred stock to common stock
    325,299       -  

See accompanying notes to condensed consolidated financial statements.

 
8

 

EAST WEST BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
For Three Months Ended March 31, 2010 and 2009
(Unaudited)

1.  
BASIS OF PRESENTATION

The condensed consolidated financial statements include the accounts of East West Bancorp, Inc. (referred to herein on an unconsolidated basis as “East West” and on a consolidated basis as the “Company”) and its wholly-owned subsidiaries, East West Bank and subsidiaries (the “Bank”) and East West Insurance Services, Inc. Intercompany transactions and accounts have been eliminated in consolidation.  East West also has nine wholly-owned subsidiaries that are statutory business trusts (the “Trusts”).  In accordance with Financial Accounting Standards Board Accounting Standards Codification (“ASC”) 810, (previously FASB Interpretation No. 46(R), Consolidation of Variable Interest Entities, and Statement of Financial Accounting Standards No. 167, Amendments to FASB Interpretation No. 46(R)), the Trusts are not consolidated into the accounts of East West Bancorp, Inc.

The interim condensed consolidated financial statements, presented in accordance with accounting principles generally accepted in the United States of America (“GAAP”), are unaudited and reflect all adjustments which, in the opinion of management, are necessary for a fair statement of financial condition and results of operations for the interim periods.  All adjustments are of a normal and recurring nature.  Results for the three months ended March 31, 2010 are not necessarily indicative of results that may be expected for any other interim period or for the year as a whole.  Certain information and note disclosures normally included in annual financial statements prepared in accordance with GAAP have been condensed or omitted.  Events subsequent to the condensed consolidated balance sheet date have been evaluated through the date the financial statements are issued for inclusion in the accompanying financial statements.  The unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2009.

Certain prior year balances have been reclassified to conform to current year presentation.

2.  
SIGNIFICANT ACCOUNTING POLICIES

 
Recent Accounting Standards

In June 2009, the FASB issued ASC 860 (previously SFAS No. 166, Accounting for Transfers of Financial Assets, which amends Statement 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities), which requires more information about transfers of financial assets, including securitization transactions, and where companies have continuing exposure to the risks related to transferred financial assets. It eliminates the concept of a “qualifying special-purpose entity,” changes the requirements for derecognizing financial assets, and requires additional disclosures. It was effective for the Company on January 1, 2010. The adoption of this guidance did not have a material impact to the Company’s condensed consolidated financial statements.

In June 2009, the FASB issued ASC 810 (previously SFAS No. 167, Amendments to FASB Interpretation No. 46(R)), which is a revision to FASB Interpretation No. 46(R), Consolidation of Variable Interest Entities, and changes how a company determines when an entity that is insufficiently capitalized or is not controlled through voting (or similar rights) should be consolidated. The determination of whether a company is required to consolidate an entity is based on, among other things, an entity’s purpose and design and a company’s ability to direct the activities of the entity that most significantly impact the entity’s economic performance. It was effective for the Company on January 1,

 
9

 

2010. The adoption of this guidance does not have a material effect on its financial condition, results of operations, or cash flows.

In January 2010, the FASB issued ASU 2010-06, Improving Disclosures about Fair Value Measurements. ASU 2010-06 requires separate disclosure of the amounts of significant transfers in and out of Level 1 and Level 2 fair value measurements and reasons for the transfers and separate presentation of information about purchases, sales, issuances, and settlements in the reconciliation for Level 3 fair value measurements. Additionally, ASU 2010-06 clarifies existing disclosures regarding level of disaggregation and inputs and valuation techniques. The new disclosures and clarifications of existing disclosures under ASU 2010-06 are effective for interim and annual reporting periods beginning after December 15, 2009, except for the disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements. Those disclosures are effective for fiscal years ending after December 15, 2010 and for interim periods within those fiscal years. The Company adopted the disclosure requirements of significant transfers in and out of Level 1 and Level 2 fair value measurements (see Note 3). The Company does not expect the adoption of the disclosure requirements to have a material effect on its financial condition, results of operations, or cash flows.

3.  
FAIR VALUE

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In determining fair value, the Company uses various methods including market and income approaches. Based on these approaches, the Company utilizes certain assumptions that market participants would use in pricing the asset or liability. These inputs can be readily observable, market corroborated, or generally unobservable inputs. The Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. Based on the observability of the inputs used in the valuation techniques, the Company is required to provide the information according to the fair value hierarchy noted below. The hierarchy is based on the quality and reliability of the information used to determine fair values. The hierarchy gives the highest priority to quoted prices available in active markets and the lowest priority to data lacking transparency. Financial assets and liabilities carried at fair value will be classified and disclosed in one of the following three categories:

·  
Level 1 – Quoted prices for identical instruments that are highly liquid, observable and actively traded in over-the-counter markets. Level 1 financial instruments typically include U.S. Treasury securities.
 
·  
Level 2 – Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable and can be corroborated by market data. Level 2 financial instruments typically include U.S. Government debt and agency mortgage-backed securities, municipal securities, U.S. Government sponsored enterprise preferred stock securities, single issue trust preferred securities, equity swap agreements, and OREO.
 
·  
Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. This category typically includes mortgage servicing assets, impaired loans, private label mortgage-backed securities, pooled trust preferred securities, and derivatives payable.

In determining the appropriate hierarchy levels, the Company performs a detailed analysis of assets and liabilities that are subject to fair value disclosure. The following tables present both financial

 
10

 

and non-financial assets and liabilities that are measured at fair value on a recurring and non-recurring basis. These assets and liabilities are reported on the condensed consolidated balance sheets at their fair values as of March 31, 2010 and December 31, 2009. Financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to their fair value measurement. There were no transfers in and out of Levels 1 and 2 during the first quarter of 2010, also there were no transfers in and out of levels 1 and 3 or levels 2 and 3.
 
   
Assets (Liabilities) Measured at Fair Value on a Recurring Basis as of March 31, 2010
 
   
Fair Value Measurements
March 31, 2010
   
Quoted Prices in Active Markets for Identical Assets
(Level 1)
   
Significant Other Observable Inputs
(Level 2)
   
Significant Unobservable Inputs
(Level 3)
 
   
(In thousands)
 
Investment securities available-for-sale
                       
U.S. Treasury securities
  $ 53,952     $ 53,952     $ -     $ -  
U.S. Government agency and U.S. Government
  sponsored enterprise debt securities
    1,066,441       -       1,066,441       -  
U.S. Government agency and U.S. Government
  sponsored enterprise mortgage-backed securities:
                               
Commercial mortgage-backed securities
    26,101       -       26,101       -  
Residential mortgage-backed securities
    678,327       -       678,327       -  
Municipal securities
    5,523       -       5,523       -  
Other residential mortgage-backed securities,
  non-investment grade
    12,203       -       -       12,203  
Corporate debt securities:
                               
Investment grade
    317,044       -       315,604       1,440  
Non-investment grade
    25,603       -       23,506       2,097  
U.S. Government sponsored enterprise equity securities
    1,828       -       1,828       -  
Other securities
    4,505       4,505       -       -  
Total investment securities available-for-sale
  $ 2,191,527     $ 58,457     $ 2,117,330     $ 15,740  
                                 
Equity swap agreements
  $ 5,951     $ -     $ 5,951     $ -  
Derivatives payable
    (5,955 )     -       -       (5,955 )
FX option
    1,841       -       1,841       -  
 
 
11

 
 
   
Assets (Liabilities) Measured at Fair Value on a Recurring Basis as of December 31, 2009
 
   
Fair Value Measurements
December 31, 2009
   
Quoted Prices in Active Markets for Identical Assets
(Level 1)
   
Significant Other Observable Inputs
(Level 2)
   
Significant Unobservable Inputs
(Level 3)
 
   
(In thousands)
 
Investment securities available-for-sale
                       
U.S. Treasury securities
  $ 303,472     $ 303,472     $ -     $ -  
U.S. Government agency and U.S. Government
  sponsored enterprise debt securities
    832,025       -       832,025       -  
U.S. Government agency and U.S. Government
  sponsored enterprise mortgage-backed securities:
                               
Commercial mortgage-backed securities
    26,355       -       26,355       -  
Residential mortgage-backed securities
    724,348       -       724,348       -  
Municipal securities
    60,193       -       60,193       -  
Other residential mortgage-backed securities:
                               
Investment grade
    95,517       -       95,517       -  
Non-investment grade
    41,610       -       28,872       12,738  
Corporate debt securities:
                               
Investment grade
    460,895       -       459,917       978  
Non-investment grade
    8,861       -       6,906       1,955  
U.S. Government sponsored enterprise equity securities
    1,782       -       1,782       -  
Other securities
    9,023       9,023       -       -  
Total investment securities available-for-sale
  $ 2,564,081     $ 312,495     $ 2,235,915     $ 15,671  
                                 
Equity swap agreements
  $ 14,177     $ -     $ 14,177     $ -  
Derivatives payable
    (14,185 )     -       -       (14,185 )
 
   
Assets Measured at Fair Value on a Non-Recurring Basis for the Three Months Ended March 31, 2010
 
   
Fair Value Measurements
March 31, 2010
   
Quoted Prices in Active Markets for Identical Assets
(Level 1)
   
Significant Other Observable Inputs
(Level 2)
   
Significant Unobservable Inputs
(Level 3)
   
Total Gains (Losses)
 
   
(In thousands)
 
                               
Mortgage servicing assets
  (single and multi family,
  commercial)
  $ 12,154     $ -     $ -     $ 12,154     $ (34 )
                                         
Non-covered impaired loans:
                                       
Residential single family
    3,428       -       -       3,428       (1,858 )
Residential multifamily
    9,259       -       -       9,259       (4,459 )
Commercial and industrial real
  estate, land
    55,187       -       -       55,187       (19,130 )
Construction
    6,666       -       -       6,666       (1,921 )
Commercial business
    11,310       -       -       11,310       (6,486 )
Trade finance
    379       -       -       379       (126 )
Other consumer
    167       -       -       167       (82 )
Total non-covered impaired loans
    86,396       -       -       86,396       (34,062 )
                                         
Non-covered OREO
    6,907       -       6,907       -       (2,247 )
 
 
12

 
 
   
Assets Measured at Fair Value on a Non-Recurring Basis for the Three Months Ended March 31, 2009
 
   
Fair Value Measurements
March 31, 2009
   
Quoted Prices in Active Markets for Identical Assets
(Level 1)
   
Significant Other Observable Inputs
(Level 2)
   
Significant Unobservable Inputs
(Level 3)
   
Total Gains (Losses)
 
   
(In thousands)
 
                               
Mortgage servicing assets
  (single and multi family,
  commercial)
  $ 16,664     $ -     $ -     $ 16,664     $ 766  
                                         
Non-covered impaired loans:
                                       
Residential single family
    3,765       -       -       3,765       (1,035 )
Residential multifamily
    1,060       -       -       1,060       (116 )
Commercial and industrial real
  estate, land
    55,410       -       -       55,410       (8,940 )
Construction
    36,842       -       -       36,842       (5,548 )
Commercial business
    16,831       -       -       16,831       (18,119 )
Trade finance
    177       -       -       177       (262 )
Other consumer
    250       -       -       250       (15 )
Total non-covered impaired loans
    114,335       -       -       114,335       (34,035 )
                                         
Non-covered OREO
    11,333       -       11,333       -       (2,738 )

At each reporting period, all assets and liabilities for which the fair value measurement is based on significant unobservable inputs are classified as Level 3. The following tables provide a reconciliation of the beginning and ending balances for available-for-sale investment securities by major security type and for major asset and liability categories measured at fair value using significant unobservable inputs (Level 3) for the three months ended March 31, 2010 and 2009:
 
   
Investment Securities Available-for-Sale
       
         
Other Residential Mortgage-Backed Securities, Non-Investment Grade
   
Corporate Debt Securities
       
   
Total
   
Investment Grade
   
Non-Investment Grade
   
Derivatives Payable
 
   
(In thousands)
 
                               
Beginning balance, January 1, 2010
  $ 15,671     $ 12,738     $ 978     $ 1,955     $ (14,185 )
Total gains or (losses): (1)
                                       
Included in earnings
    (4,750 )     -       3       (4,753 )     (3 )
Included in other comprehensive loss (unrealized) (2)
    4,735       (535 )     465       4,805       -  
Purchases, issuances, sales, settlements (3)
    84       -       (6 )     90       8,233  
Transfers in and/or out of Level 3 (4)
    -       -       -       -       -  
Ending balance, March 31, 2010
  $ 15,740     $ 12,203     $ 1,440     $ 2,097     $ (5,955 )
                                         
Changes in unrealized losses included in earnings relating to
                                       
assets and liabilities still held at March 31, 2010
  $ (4,799 )   $ -     $ -     $ (4,799 )   $ 3  
                                         
 
 
13

 

   
Investment Securities Available-for-Sale
       
         
Other Residential Mortgage-Backed Securities
   
Corporate Debt Securities
             
   
Total
   
Investment Grade
   
Non-Investment Grade
   
Investment Grade
   
Non-Investment Grade
   
Residual Securities
   
Derivatives Payable
 
   
(In thousands)
 
                                           
Beginning balance, January 1, 2009
  $ 624,351     $ 527,109     $ 10,216     $ 1,294     $ 35,670     $ 50,062     $ (14,142 )
Total gains or (losses): (1)
                                                       
Included in earnings
    2,903       168       1       4       (198 )     2,928       2,633  
Included in other comprehensive loss (unrealized) (2)
    22,452       30,240       1,108       20       (14,794 )     5,878       -  
Purchases, issuances, sales, settlements (3)
    (14,697 )     (10,997 )     -       (12 )     1,252       (4,940 )     -  
Transfers in and/or out of Level 3 (4)
    -       -       -       -       -       -       -  
Ending balance, March 31, 2009
  $ 635,009     $ 546,520     $ 11,325     $ 1,306     $ 21,930     $ 53,928     $ (11,509 )
                                                         
Changes in unrealized losses included in earnings relating to
                                                 
assets and liabilities still held at March 31, 2009
  $ (200 )   $ -     $ -     $ -     $ (200 )   $ -     $ (2,633 )

(1)  
Total gains or losses represent the total realized and unrealized gains and losses recorded for Level 3 assets and liabilities.  Realized gains or losses are reported in the condensed consolidated statements of operations.
(2)  
Unrealized gains or losses as well as the noncredit portion of OTTI on investment securities are reported in accumulated other comprehensive loss, net of tax, in the condensed consolidated statements of changes in stockholders’ equity and comprehensive income.
(3)  
Purchases, issuances, sales and settlements represent Level 3 assets and liabilities that were either purchased, issued, sold, or settled during the period.  The amounts are recorded at their end of period fair values.
(4)  
Transfers in and/or out represent existing assets and liabilities that were either previously categorized as a higher level and the inputs to the model became unobservable or assets and liabilities that were previously classified as Level 3 and the lowest significant input became observable during the period.  These assets and liabilities are recorded at their end of period fair values.

Valuation Methodologies

Investment Securities Available-for-Sale – The fair values of available-for-sale investment securities are generally determined by reference to the average of at least two quoted market prices obtained from independent external brokers or prices obtained from independent external pricing service providers who have experience in valuing these securities.  In obtaining such valuation information from third parties, the Company has reviewed the methodologies used to develop the resulting fair values.

The Company’s Level 3 available-for-sale securities include one private-label mortgage-backed security and four pooled trust preferred securities. The fair values of these investment securities represent less than 1% of the total available-for-sale investment securities. The fair values of the private-label mortgage-backed security and pooled trust preferred securities have traditionally been based on the average of at least two quoted market prices obtained from independent external brokers since broker quotes in an active market are given the highest priority. However, as a result of the global financial crisis and illiquidity in the U.S. markets, the market for these securities has been inactive since mid-2007. It is the Company’s view that current broker prices (which are typically non-binding) on the private-label mortgage-backed security and certain pooled trust preferred securities are based on forced liquidation or distressed sale values in very inactive markets that are not representative of the fair value of these securities. As such, the Company considered what weight, if any, to place on transactions that are not orderly when estimating fair value.

For the private-label mortgage-backed security, the Company determined fair value by using the appropriate combination of the market approach reflecting current broker prices and a discounted cash flow approach. The values resulting from each approach (i.e. market and income approaches) were weighted to derive the final fair value on the private-label mortgage-backed security. For the pooled trust preferred securities, the fair value was derived based on discounted cash flow analyses (the income method) prepared by management. In order to determine the appropriate discount rate used in calculating fair values derived from the income method for the private-label mortgage-backed security and pooled trust preferred securities, the Company has made assumptions using an exit pricing approach related to the implied rate of return which have been adjusted for general changes in market rates, estimated changes in credit quality and liquidity risk premium, specific non-performance and default experience in
 
 
14

 

the collateral underlying the securities. The losses recorded in the period are recognized in noninterest income.
 
Equity Swap Agreements—The Company has entered into several equity swap agreements with a major investment brokerage firm to hedge against market fluctuations in a promotional equity index certificate of deposit product offered to bank customers. This deposit product, which has a term of 5 years or 51/2 years, pays interest based on the performance of the Hang Seng China Enterprises Index (“HSCEI”). The fair value of these equity swap agreements is based on the income approach. The fair value is based on the change in the value of the HSCEI and the volatility of the call option over the life of the individual swap agreement. The option value is derived based on the volatility, the interest rate and the time remaining to maturity of the call option. The Company’s consideration of its counterparty’s credit risk resulted in a $6 thousand adjustment to the valuation of the equity swap agreements for the quarter ended March 31, 2010. The valuation of equity swap agreements falls within Level 2 of the fair value hierarchy due to the observable nature of the inputs used in deriving the fair value of these derivative contracts. The fair value of the derivative contracts is provided by a third party which the Company places reliance on.

Derivatives Payable—The Company’s derivatives payable are recorded in conjunction with the certificate of deposits (“host instrument”) that pays interest based on changes in the HSCEI and are included in interest-bearing deposits on the condensed consolidated balance sheets. The fair value of these embedded derivatives is based on the income approach. The Company’s consideration of its own credit risk resulted in a $2 thousand adjustment to the valuation of the derivative liabilities for the quarter ended March 31, 2010. The valuation of the derivatives payable falls within Level 3 of the fair value hierarchy since the significant inputs used in deriving the fair value of these derivative contracts are not directly observable.

FX Option—The Company has entered into a foreign exchange option contract with a major investment firm. The settlement amount is determined based upon the performance of the Renminbi (“RMB”) relative to the US Dollar (“USD”) over the 5-year term of the contract. The performance amount is computed based on the average quarterly value of the RMB per the USD as compared to the initial value. The fair value of the derivative contract is provided by a third party and is determined based on the change in the RMB and the volatility of the option over the life of the agreement. The option value is derived based on the volatility of the option, interest rate and time remaining to the maturity. The Company has also considered the counterparty’s credit risk in determining the valuation. The valuation of the option contract falls within Level 2 of the fair value hierarchy due to the observable nature of the inputs used in deriving the fair value of this derivative contract.

Mortgage Servicing Assets (“MSAs”)—The Company records MSAs in conjunction with its loan sale and securitization activities since the servicing of the underlying loans is retained by the Bank. MSAs are initially measured at fair value using an income approach. The initial fair value of MSAs is determined based on the present value of estimated net future cash flows related to contractually specified servicing fees. The valuation for MSAs falls within Level 3 of the fair value hierarchy since there are no quoted prices for MSAs and the significant inputs used to determine fair value are not directly observable. The valuation of MSAs is determined using a discounted cash flow approach utilizing the appropriate yield curve and several market-derived assumptions including prepayment speeds, servicing cost, delinquency and foreclosure costs and behavior, and float earnings rate. Net cash flows are present valued using a market-derived discount rate. The resulting fair value is then compared to recently observed bulk market transactions with similar characteristics.

Impaired Loans—The Company’s impaired loans are generally measured using the fair value of the underlying collateral, which is determined based on the most recent valuation information received, which may be adjusted based on factors such as the Company’s historical knowledge and changes in
 
 
15

 

market conditions from the time of valuation. Impaired loans fall within Level 3 of the fair value
hierarchy since they are measured at fair value based on the most recent valuation information received on the underlying collateral.

Other Real Estate Owned (“OREO”)—The Company’s OREO represents properties acquired through foreclosure or through full or partial satisfaction of loans, are considered held-for-sale, and are recorded at the lower of cost or estimated fair value at the time of foreclosure. The fair values of OREO properties are based on third-party appraisals, broker price opinions or accepted written offers. These valuations are reviewed and approved by the Company’s appraisal department, credit review, or OREO department. OREO properties are classified as Level 2 assets in the fair value hierarchy. The non-covered OREO balance of $6.9 million included in the condensed consolidated balance sheets as of March 31, 2010 is recorded net of estimated disposal costs.

Fair Value of Financial Instruments

The carrying amounts and fair values of the Company’s financial instruments as of March 31, 2010 and December 31, 2009, were as follows:
 
   
March 31, 2010
   
December 31, 2009
 
   
Carrying
         
Carrying
       
   
Notional or
   
Estimated
   
Notional or
   
Estimated
 
   
Contract Amount
   
Fair Value
   
Contract Amount
   
Fair Value
 
   
(In thousands)
 
Financial Assets:
                       
Cash and cash equivalents
  $ 1,180,735     $ 1,180,735     $ 835,141     $ 835,141  
Short-term investments
    457,184       457,184       510,788       510,788  
Securities purchased under resale agreements
    380,000       396,432       227,444       232,693  
Investment securities available-for-sale
    2,191,527       2,191,527       2,564,081       2,564,081  
Loans receivable, net
    13,471,529       13,396,993       13,844,840       13,519,060  
Investment in Federal Home Loan Bank stock
    180,124       180,124       180,217       180,217  
Investment in Federal Reserve Bank stock
    47,285       47,285       36,785       36,785  
Accrued interest receivable
    78,659       78,659       82,370       82,370  
Equity swap agreements
    30,038       5,951       38,828       14,177  
FX option
    30,000       1,841       -       -  
                                 
Financial Liabilities:
                               
Customer deposit accounts:
                               
Demand, savings and money market deposits
    7,745,686       6,780,364       7,088,822       6,214,848  
Time deposits
    6,861,016       6,866,730       7,898,791       7,912,384  
Federal funds purchased
    22       22       22