caty20150331_10q.htm

UNITED STATES

securities and exchange commission

Washington, D.C. 20549

 

form 10-q

(Mark One)

[ X ]

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF  

 

 THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended

March 31, 2015                                                        

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 001-31830

 Cathay General Bancorp

 (Exact name of registrant as specified in its charter)

 Delaware

 

 95-4274680

 (State of other jurisdiction of incorporation

 

 (I.R.S. Employer

 or organization)

 

 Identification No.)

 777 North Broadway, Los Angeles, California

 

 90012

 (Address of principal executive offices)

 

 (Zip Code)

Registrant's telephone number, including area code:

(213) 625-4700  

 


(Former name, former address and former fiscal year, if changed since last report)

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 ☑          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 filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer    ☑

Accelerated filer   ☐

Non-accelerated filer      ☐ (Do not check if a smaller reporting company)

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 ☑

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Common stock, $.01 par value, 79,912,799 shares outstanding as of April 30, 2015.

 

 
1

 

 

CATHAY GENERAL BANCORP AND SUBSIDIARies

1st quarter 2015 REPORT ON FORM 10-Q

table of contents

 

 

PART I – FINANCIAL INFORMATION

  5
     

Item 1.

FINANCIAL STATEMENTS (Unaudited).   5
 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited).

8

Item 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.   35

Item 3.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK   58

Item 4.

CONTROLS AND PROCEDURES.   59
     

PART II - OTHER INFORMATION

  60
     

Item 1.

LEGAL PROCEEDINGS.

60

Item 1A

RISK FACTORS.   60

Item 2.

UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.

60

Item 3.

DEFAULTS UPON SENIOR SECURITIES.

60

Item 4.

MINE SAFETY DISCLOSURES.

61

Item 5.

OTHER INFORMATION.

61

Item 6.

EXHIBITS.

61

     
     
     
     

SIGNATURES

62

 

 
2

 

 

 

Forward-Looking Statements

 

In this Quarterly Report on Form 10-Q, the term “Bancorp” refers to Cathay General Bancorp and the term “Bank” refers to Cathay Bank. The terms “Company,” “we,” “us,” and “our” refer to Bancorp and the Bank collectively.

 

The statements in this report include forward-looking statements within the meaning of the applicable provisions of the Private Securities Litigation Reform Act of 1995 regarding management’s beliefs, projections, and assumptions concerning future results and events. We intend such forward-looking statements to be covered by the safe harbor provision for forward-looking statements in these provisions. All statements other than statements of historical fact are “forward-looking statements” for purposes of federal and state securities laws, including statements about anticipated future operating and financial performance, financial position and liquidity, growth opportunities and growth rates, growth plans, acquisition and divestiture opportunities, business prospects, strategic alternatives, business strategies, financial expectations, regulatory and competitive outlook, investment and expenditure plans, financing needs and availability, and other similar forecasts and statements of expectation and statements of assumptions underlying any of the foregoing. Words such as “aims,” “anticipates,” “believes,” “can,” “continue,” “could,” “estimates,” “expects,” “hopes,” “intends,” “may,” “optimistic,” “plans,” “potential,” “possible,” “predicts,” “projects,” “seeks,” “shall,” “should,” “will,” and variations of these words and similar expressions are intended to identify these forward-looking statements. Forward-looking statements by us are based on estimates, beliefs, projections, and assumptions of management and are not guarantees of future performance. These forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from our historical experience and our present expectations or projections. Such risks and uncertainties and other factors include, but are not limited to, adverse developments or conditions related to or arising from:

 

 

U.S. and international business and economic conditions;

 

 

possible additional provisions for loan losses and charge-offs;

 

 

credit risks of lending activities and deterioration in asset or credit quality;

 

 

extensive laws and regulations and supervision that we are subject to, including potential supervisory action by bank supervisory authorities;

 

 

increased costs of compliance and other risks associated with changes in regulation, including the implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”);

 

 

higher capital requirements from the implementation of the Basel III capital standards;

 

 

compliance with the Bank Secrecy Act and other money laundering statutes and regulations;

 

 

potential goodwill impairment;

 

 

liquidity risk;

 

 

fluctuations in interest rates;

 

 

risks associated with acquisitions and the expansion of our business into new markets;

 

 

inflation and deflation;

 

 

real estate market conditions and the value of real estate collateral;

 

 

environmental liabilities;

 

 

 
3

 

 

 

our ability to compete with larger competitors;

 

 

our ability to retain key personnel;

 

 

successful management of reputational risk;

 

 

natural disasters and geopolitical events;

 

 

general economic or business conditions in Asia, and other regions where the Bank has operations;

 

 

failures, interruptions, or security breaches of our information systems;

 

 

our ability to adapt our systems to technological changes;

 

 

risk management processes and strategies;

 

 

adverse results in legal proceedings;

 

 

certain provisions in our charter and bylaws that may affect acquisition of the Company;

 

 

changes in accounting standards or tax laws and regulations;

 

 

market disruption and volatility;

 

 

restrictions on dividends and other distributions by laws and regulations and by our regulators and our capital structure;

 

 

issuance of preferred stock;

 

 

successfully raising additional capital, if needed, and the resulting dilution of interests of holders of our common stock; and

 

 

the soundness of other financial institutions.

 

 

These and other factors are further described in Bancorp’s Annual Report on Form 10-K for the year ended December 31, 2014 (Item 1A in particular), other reports and registration statements filed with the Securities and Exchange Commission (“SEC”), and other filings it makes with the SEC from time to time. Actual results in any future period may also vary from the past results discussed in this report. Given these risks and uncertainties, readers are cautioned not to place undue reliance on any forward-looking statements, which speak to the date of this report. We have no intention and undertake no obligation to update any forward-looking statement or to publicly announce any revision of any forward-looking statement to reflect future developments or events, except as required by law.

 

Bancorp’s filings with the SEC are available at the website maintained by the SEC at http://www.sec.gov, or by request directed to Cathay General Bancorp, 9650 Flair Drive, El Monte, California 91731, Attention: Investor Relations (626) 279-3286.

 

 
4

 

 

PART I – FINANCIAL INFORMATION

 

Item 1. FINANCIAL STATEMENTS (Unaudited)

 

CATHAY GENERAL BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

 

(In thousands, except share and per share data)

 

March 31, 2015

   

December 31, 2014

 
                 

Assets

               

Cash and due from banks

  $ 182,159     $ 176,830  

Short-term investments and interest bearing deposits

    618,726       489,614  

Securities available-for-sale (amortized cost of $1,197,922 in 2015 and $1,324,408 in 2014)

    1,203,682       1,318,935  

Loans held for sale

    -       973  

Loans

    9,224,797       8,914,080  

Less:  Allowance for loan losses

    (156,089 )     (161,420 )

Unamortized deferred loan fees, net

    (11,116 )     (12,392 )

Loans, net

    9,057,592       8,740,268  

Federal Home Loan Bank stock

    25,000       30,785  

Other real estate owned, net

    30,799       31,477  

Affordable housing investments, net

    129,829       104,579  

Premises and equipment, net

    98,512       99,682  

Customers’ liability on acceptances

    17,956       35,656  

Accrued interest receivable

    26,584       25,364  

Goodwill

    316,340       316,340  

Other intangible assets, net

    3,084       3,237  

Other assets

    199,826       143,106  

Total assets

  $ 11,910,089     $ 11,516,846  
                 

Liabilities and Stockholders’ Equity

               

Deposits

               

Non-interest-bearing demand deposits

  $ 1,691,173     $ 1,664,914  

Interest-bearing deposits:

               

NOW deposits

    822,940       778,691  

Money market deposits

    1,551,453       1,538,187  

Savings deposits

    557,924       533,940  

Time deposits under $100,000

    1,241,529       1,162,547  

Time deposits of $100,000 or more

    3,248,231       3,105,181  

Total deposits

    9,113,250       8,783,460  
                 

Securities sold under agreements to repurchase

    400,000       450,000  

Advances from the Federal Home Loan Bank

    485,000       425,000  

Other borrowings for affordable housing investments

    22,482       19,934  

Long-term debt

    119,136       119,136  

Acceptances outstanding

    17,956       35,656  

Other liabilities

    118,019       80,772  

Total liabilities

    10,275,843       9,913,958  

Commitments and contingencies

    -       -  

Stockholders’ Equity

               

Common stock, $0.01 par value, 100,000,000 shares authorized, 84,108,607 issued and 79,901,042 outstanding at March 31, 2015, and 84,022,118 issued and 79,814,553 outstanding at December 31, 2014

    841       840  

Additional paid-in-capital

    787,956       789,519  

Accumulated other comprehensive loss, net

    (646 )     (5,569 )

Retained earnings

    971,831       943,834  

Treasury stock, at cost (4,207,565 shares at March 31, 2015, and at December 31, 2014)

    (125,736 )     (125,736 )

Total equity

    1,634,246       1,602,888  

Total liabilities and equity

  $ 11,910,089     $ 11,516,846  

 

See accompanying notes to unaudited condensed consolidated financial statements

 

 
5

 

 

CATHAY GENERAL BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND

COMPREHENSIVE INCOME

(Unaudited)

 

   

Three months ended March 31,

 
   

2015

   

2014

 
   

(In thousands, except share and per share data)

 

Interest and Dividend Income

               

Loans receivable, including loan fees

  $ 100,100     $ 92,732  

Investment securities

    3,774       7,576  

Federal Home Loan Bank stock

    581       450  

Deposits with banks

    479       449  

Total interest and dividend income

    104,934       101,207  
                 

Interest Expense

               

Time deposits of $100,000 or more

    6,773       6,664  

Other deposits

    4,793       4,028  

Securities sold under agreements to repurchase

    3,925       6,930  

Advances from Federal Home Loan Bank

    93       199  

Long-term debt

    1,424       728  

Total interest expense

    17,008       18,549  
                 

Net interest income before provision for credit losses

    87,926       82,658  

Reversal of provision for loan losses

    (5,000 )     -  
                 

Net interest income after credit for loan losses

    92,926       82,658  
                 

Non-Interest Income

               

Securities (losses)/gains, net

    (21 )     5,960  

Letters of credit commissions

    1,268       1,468  

Depository service fees

    1,301       1,363  

Other operating income

    6,001       5,768  

Total non-interest income

    8,549       14,559  
                 

Non-Interest Expense

               

Salaries and employee benefits

    22,616       23,451  

Occupancy expense

    4,021       3,862  

Computer and equipment expense

    2,502       2,302  

Professional services expense

    5,352       5,156  

FDIC and State assessments

    2,260       2,154  

Marketing expense

    820       564  

Other real estate owned expense

    483       759  

Operations of affordable housing investments, net

    2,383       2,436  

Amortization of core deposit intangibles

    177       172  

Costs associated with debt redemption

    -       3,376  

Other operating expense

    3,517       3,836  

Total non-interest expense

    44,131       48,068  
                 

Income before income tax expense

    57,344       49,149  

Income tax expense

    21,364       17,890  

Net income

    35,980       31,259  
                 

Other comprehensive income, net of tax

               

Unrealized holding gain on securities available-for-sale

    6,499       11,094  

Less: reclassification adjustments included in net income

    (12 )     3,455  

Unrealized holding loss on cash flow hedge derivatives

    (1,588 )     -  

Total other comprehensive gain, net of tax

    4,923       7,639  

Total comprehensive income

  $ 40,903     $ 38,898  
                 

Net income per common share:

               

Basic

  $ 0.45     $ 0.39  

Diluted

  $ 0.45     $ 0.39  

Cash dividends paid per common share

  $ 0.10     $ 0.05  

Average common shares outstanding

               

Basic

    79,835,628       79,595,757  

Diluted

    80,309,383       80,039,382  

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

 
6

 

 

CATHAY GENERAL BANCORP AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

   

Three months ended March 31

 
   

2015

   

2014

 
   

(In thousands)

 

Cash Flows from Operating Activities

               

Net income

  $ 35,980     $ 31,259  

Adjustments to reconcile net income to net cash provided by/(used in) operating activities:

         

Credit for loan losses

    (5,000 )     -  

Provision for losses on other real estate owned

    181       617  

Deferred tax liability

    6,840       6,012  

Depreciation

    1,732       1,742  

Net losses/(gains) on sale and transfer of other real estate owned

    154       (559 )

Net gains on sale of loans

    (596 )     (128 )

Proceeds from sales of loans

    10,360       4,525  

Originations of loans held-for-sale

    (8,791 )     (4,397 )

Net change in trading securities

    -       4,936  

Write-downs on venture capital investments

    224       75  

Net losses/(gains) on sales and calls of securities

    21       (5,960 )

Amortization/accretion of security premiums/discounts, net

    502       867  

Amortization of other intangible assets

    197       196  

Excess tax short-fall from share-based payment arrangements

    4,395       1,227  

Stock based compensation and stock issued to officers as compensation

    1,570       1,353  

Net change in accrued interest receivable and other assets

    6,631       3,285  

Net change in other liabilities

    1,379       1,374  

Net cash provided by operating activities

    55,779       46,424  
                 

Cash Flows from Investing Activities

               

Increase in short-term investments

    (129,112 )     (103,368 )

Purchase of investment securities available-for-sale

    (703,305 )     (246,498 )

Proceeds from sale of investment securities available-for-sale

    741,992       139,671  

Proceeds from repayments, maturities and calls of investment securities available-for-sale

    12,102       133,369  

Purchase of Federal Home Loan Bank stock

    -       (4,901 )

Redemptions of Federal Home Loan Bank stock

    5,785       -  

Net increase in loans

    (305,651 )     (220,402 )

Purchase of premises and equipment

    (562 )     (2,081 )

Proceeds from sales of other real estate owned

    1,043       6,379  

Net increase in investment in affordable housing

    (1,351 )     (1,894 )

Net cash used in investing activities

    (379,059 )     (299,725 )
                 

Cash Flows from Financing Activities

               
                 

Net increase in deposits

    329,724       251,032  

Net decrease in federal funds purchased and securities sold under agreements to repurchase

    (50,000 )     (100,000 )

Advances from Federal Home Loan Bank

    2,242,000       5,127,400  

Repayment of Federal Home Loan Bank borrowings

    (2,182,000 )     (5,012,400 )

Cash dividends paid

    (7,983 )     (3,980 )

Proceeds from shares issued under Dividend Reinvestment Plan

    1,289       386  

Proceeds from exercise of stock options

    88       -  

Taxes paid related to net share settlement of RSUs

    (114 )     -  

Excess tax short-fall from share-based payment arrangements

    (4,395 )     (1,227 )

Net cash provided by financing activities

    328,609       261,211  
                 

Increase in cash and cash equivalents

    5,329       7,910  

Cash and cash equivalents, beginning of the period

    176,830       153,747  

Cash and cash equivalents, end of the period

  $ 182,159     $ 161,657  
                 

Supplemental disclosure of cash flow information

               

Cash paid during the period:

               

Interest

  $ 17,370     $ 19,533  

Income taxes paid

  $ 11,884     $ 12,444  

Non-cash investing and financing activities:

               

Net change in unrealized holding gain on securities available-for-sale, net of tax

  $ 6,511     $ 7,639  

Net change in unrealized holding loss on interest rate swaps

  $ (1,588 )   $ -  

Transfers to other real estate owned from loans held for investment

  $ 701     $ -  

 

See accompanying notes to unaudited condensed consolidated financial statements.    

 

 
7

 

 

CATHAY GENERAL BANCORP AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

1. Business

 

Cathay General Bancorp (“Bancorp”) is the holding company for Cathay Bank (the “Bank” and, together, the “Company”), seven limited partnerships investing in affordable housing investments in which the Bank is the sole limited partner, and GBC Venture Capital, Inc. Bancorp also owns 100% of the common stock of five statutory business trusts created for the purpose of issuing capital securities. The Bank was founded in 1962 and offers a wide range of financial services. As of March 31, 2015, the Bank operated 21 branches in Southern California, 12 branches in Northern California, nine branches in New York State, three branches in Illinois, three branches in Washington State, two branches in Texas, one branch in Massachusetts, one branch in New Jersey, one branch in Nevada, one branch in Hong Kong, and a representative office in Shanghai and in Taipei. Deposit accounts at the Hong Kong branch are not insured by the Federal Deposit Insurance Corporation (the “FDIC”).

 

2. Basis of Presentation

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the interim periods presented are not necessarily indicative of the results that may be expected for the year ending December 31, 2015. For further information, refer to the audited consolidated financial statements and notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

 

The preparation of the condensed consolidated financial statements in accordance with GAAP requires management of the Company to make a number of estimates and assumptions relating to the reported amount of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the period. Actual results could differ from those estimates. The most significant estimates subject to change are the allowance for loan losses, goodwill impairment, and other-than-temporary impairment.

 

3. Recent Accounting Pronouncements

 

In June 2014, the Financial Accounting Standards Board (“FASB”) issued ASU 2014-12, “Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period.” ASU No. 2014-12 requires that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. An entity should recognize compensation cost in the period in which it becomes probable that the performance target will be achieved and should represent the compensation cost attributable to the periods for which the requisite service has already been rendered. If the performance target becomes probable of being achieved before the end of requisite service period, the remaining unrecognized compensation cost should be recognized prospectively over the remaining requisite service period. The total amount of compensation cost recognized during and after the requisite service period should reflect the number of awards that are expected to vest and should be adjusted to reflect those awards that ultimately vest. ASU 2014-12 becomes effective for interim and annual periods beginning on or after December 15, 2015. Adoption of ASU 2014-12 is not expected to have a significant impact on the Company’s consolidated financial statements.

 

 
8

 

 

ASU 2014-15, “Presentation of Financial Statements-Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern”, issued by the FASB in August 2014, requires an entity’s management to evaluate and disclose conditions or events that raise substantial doubt about the entity’s ability to continue as a going concern within one year after the date that the financial statements are issued.  In addition, an entity’s management is to disclose management’s plans that alleviated or that are intended to mitigate the conditions or events that raise substantial doubt about the entity’s ability to continue as a going concern.  ASU 2014-15 becomes effective for interim and annual periods beginning on or after December 15, 2016.  Adoption of ASU 2014-15 is not expected to have a significant impact on the Company’s consolidated financial statements.

 

In February 2015, the FASB issued ASU 2015-02, “Consolidation (Topic 810).” This update requires that limited partnerships or similar legal entities must provide partners with either substantive kick-out rights or substantive participating rights over the general partner to be qualified as voting interest entities (“VIE”). Limited partnerships that qualify as voting interest entities and with a controlling financial interest should consolidate a limited partnership. ASU 2015-02 eliminates the specialized consolidate model and guidance for limited partnerships. There is no longer a presumption that a general partner should consolidate a limited partnership. This update specifies that fees paid to a decision maker are excluded from the evaluation of the economics criterion if the fees are both customary and commensurate with the level of effort required for the services provided. In instances in which no single party has a controlling financial interest in a VIE, related party relationships must be considered indirectly on a proportionate basis, rather than in their entirety. ASU 2015-02 becomes effective for interim and annual periods beginning on or after December 15, 2015.  Adoption of ASU 2015-02 is not expected to have a significant impact on the Company’s consolidated financial statements.

 

In April 2015, the FASB issued ASU 2015-03, “Interest- Imputation of Interest (Subtopic 835-30).” This update simplifies the presentation of debt issuance costs and requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability. ASU 2015-03 becomes effective for interim and annual periods beginning on or after December 15, 2015.  Adoption of ASU 2015-03 is not expected to have a significant impact on the Company’s consolidated financial statements.

 

4. Earnings per Share

 

Basic earnings per share excludes dilution and is computed by dividing net income available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock and resulted in the issuance of common stock that then shared in earnings.

 

 
9

 

 

Outstanding stock options with anti-dilutive effect were not included in the computation of diluted earnings per share. The following table sets forth earnings per common share calculations:

 

   

Three months ended March 31,

 

(Dollars in thousands, except share and per share data)

 

2015

   

2014

 

Net income

  $ 35,980     $ 31,259  
                 

Weighted-average shares:

               

Basic weighted-average number of common shares outstanding

    79,835,628       79,595,757  

Dilutive effect of weighted-average outstanding common share equivalents

               

Warrants

    344,919       298,535  

Options

    108,457       101,698  

Restricted stock units

    20,379       43,392  

Diluted weighted-average number of common shares outstanding

    80,309,383       80,039,382  
                 

Average stock options and warrants with anti-dilutive effect

    1,670,231       1,985,848  

Earnings per common share:

               

Basic

  $ 0.45     $ 0.39  

Diluted

  $ 0.45     $ 0.39  

 

 

5. Stock-Based Compensation

 

Under the Company’s equity incentive plans, directors and eligible employees may be granted incentive or non-statutory stock options and/or restricted stock units, or awarded non-vested stock. As of March 31, 2015, the only options granted by the Company were non-statutory stock options to selected Bank officers and non-employee directors at exercise prices equal to the fair market value of a share of the Company’s common stock on the date of grant. Such options have a maximum ten-year term and vest in 20% annual increments (subject to early termination in certain events) except certain options granted to the Chief Executive Officer of the Company in 2005 and 2008. If such options expire or terminate without having been exercised, any shares not purchased will again be available for future grants or awards. There were no options granted during the first quarter of 2015 or during 2014.

 

 
10

 

 

Option compensation expense was zero for the three months ended March 31, 2015, and for the three months ended March 31, 2014. Stock-based compensation was fully recognized over the requisite service period for all awards. For the first quarter ended March 31, stock options covering 3,750 shares were exercised in 2015 compared to zero in the first quarter of 2014. Cash received totaled $88,000 and the aggregate intrinsic value totaled $10,000 from the exercise of stock options during the first quarter ended March 31, 2015. The table below summarizes stock option activity for the periods indicated:

  

                   

Weighted-average

     
           

Weighted-average

   

Remaining

Contractual

   

Aggregate

Intrinsic

 
   

Shares

   

Exercise Price

   

Life (in years)

   

Value (in thousands)

 

Balance, December 31, 2014

    2,332,904     $ 32.34       1.2     $ 1,388  

Exercised

    (3,750 )     23.37                  

Forfeited

    (808,670 )     35.63                  

Balance, March 31, 2015

    1,520,484     $ 30.62       1.6     $ 3,156  
                                 

Exercisable, March 31, 2015

    1,520,484     $ 30.62       1.6     $ 3,156  

 

In addition to stock options, the Company also grants restricted stock units to eligible employees which vest subject to continued employment at the vesting dates.

 

The Company granted restricted stock units of 37,675 shares at an average closing price of $27.53 per share in the first quarter of 2015 compared to 17,601 shares at an average closing price of $24.66 per share in 2014. The restricted stock units granted are scheduled to vest two years from grant date for 2014 grants and to vest three years from grant date for 2015 grants.

 

The Company granted performance share unit awards in which the number of units earned is calculated based on the relative total shareholder return (“TSR”) of the Company’s common stock as compared to the TSR of the KBW Regional Banking Index. In addition, the Company granted performance share unit awards in which the number of units earned is determined by comparison to the targeted EPS as defined in the award for the next three years. In December 2014, the Company granted performance TSR restricted stock units for 60,456 shares and performance EPS restricted stock units for 57,642 shares to six executive officers. Both the performance TSR and performance EPS units awarded in 2014 are scheduled to vest at December 31, 2017.

 

The following table presents restricted stock unit activity from December 31, 2014, to March 31, 2015:

 

   

Units

 

Balance at December 31, 2014

    386,465  

Granted

    37,675  

Vested

    (16,709 )

Forfeited

    (7,265 )

Balance at March 31, 2015

    400,166  

 

The compensation expense recorded for restricted stock units was $1.1 million for the first quarter ended March 31, 2015, compared to $1.0 million in the same period a year ago. Unrecognized stock-based compensation expense related to restricted stock units was $6.5 million at March 31, 2015, and is expected to be recognized over the next 2.3 years.

 

At March 31, 2015, 3,562,168 shares were available under the Company’s 2005 Incentive Plan for future grants calculated based on maximum number of earned shares from TSR and EPS restricted stock units.

 

 

 
11

 

 

The following table summarizes the tax benefit (short-fall) from share-based payment arrangements:

 

 

   

Three months ended March 31,

 

(Dollars in thousands)

 

2015

   

2014

 

Short-fall of tax deductions in excess of grant-date fair value

  $ (4,395 )   $ (1,227 )

Benefit of tax deductions on grant-date fair value

    4,442       1,227  

Total benefit of tax deductions

  $ 47     $ -  

 

 

6. Investment Securities

 

 

Investment securities were $1.20 billion at March 31, 2015, compared to $1.32 billion at December 31, 2014. The following tables reflect the amortized cost, gross unrealized gains, gross unrealized losses, and fair value of investment securities as of March 31, 2015, and December 31, 2014:

 

 

   

March 31, 2015

 
           

Gross

   

Gross

         
   

Amortized

   

Unrealized

   

Unrealized

         
   

Cost

   

Gains

   

Losses

   

Fair Value

 
   

(In thousands)

 
                                 

Securities Available-for-Sale

                               

U.S. treasury securities

  $ 349,830     $ 353     $ -     $ 350,183  

Mortgage-backed securities

    756,758       3,904       333       760,329  

Collateralized mortgage obligations

    74       -       32       42  

Corporate debt securities

    74,946       730       1,165       74,511  

Mutual funds

    6,000       -       79       5,921  

Preferred stock of government sponsored entities

    6,686       844       3,584       3,946  

Other equity securities

    3,628       5,125       3       8,750  

Total

  $ 1,197,922     $ 10,956     $ 5,196     $ 1,203,682  

 

 

 

   

December 31, 2014

 
           

Gross

   

Gross

         
   

Amortized

   

Unrealized

   

Unrealized

         
   

Cost

   

Gains

   

Losses

   

Fair Value

 
   

(In thousands)

 

Securities Available-for-Sale

                               

U.S. treasury securities

  $ 664,206     $ 63     $ 265     $ 664,004  

Mortgage-backed securities

    549,296       1,393       6,386       544,303  

Collateralized mortgage obligations

    79       -       34       45  

Corporate debt securities

    94,943       776       1,247       94,472  

Mutual funds

    6,000       -       134       5,866  

Preferred stock of government sponsored entities

    6,276       681       3,733       3,224  

Other equity securities

    3,608       3,413       -       7,021  

Total

  $ 1,324,408     $ 6,326     $ 11,799     $ 1,318,935  

 

 

The amortized cost and fair value of investment securities at March 31, 2015, by contractual maturities, are shown below. Actual maturities may differ from contractual maturities because borrowers may have the right to call or repay obligations with or without call or repayment penalties.  

 

 
12

 

 

   

Securities Available-For-Sale

 
   

Amortized cost

   

Fair value

 
   

(In thousands)

 

Due in one year or less

  $ 174,987     $ 175,062  

Due after one year through five years

    194,247       195,198  

Due after five years through ten years

    65,595       65,057  

Due after ten years (1)

    763,093       768,365  

Total

  $ 1,197,922     $ 1,203,682  
                 
                 

(1) Equity securities are reported in this category

         

 

 

Proceeds from sales of mortgage-backed securities were $406.9 million and from repayments, maturities and calls of mortgage-backed securities were $12.1 million during the first quarter of 2015 compared to proceeds from sales of $123.7 million and proceeds of $20.5 million from repayments, maturities, and calls during the same period a year ago. Proceeds from sales of other investment securities were $335.1 million during the first quarter of 2015 compared to $16.0 million during the same period a year ago. Proceeds from maturities and calls of other investment securities were zero during the first quarter of 2015 compared to $112.9 million during the same period a year ago. Gains of $1.7 million and losses of $1.7 million were realized on sales of investment securities during the first quarter of 2015 compared to gains of $6.0 million and losses of $67,000 realized during the same period a year ago.

 

The tables below show the fair value and unrealized losses of the temporarily impaired securities in our investment securities portfolio as of March 31, 2015, and December 31, 2014:

 

 

   

March 31, 2015

 
   

Temporarily impaired securities

 
   

Less than 12 months

   

12 months or longer

   

Total

 
   

Fair

   

Unrealized

   

Fair

   

Unrealized

   

Fair

   

Unrealized

 
   

Value

   

Losses

   

Value

   

Losses

   

Value

   

Losses

 
   

(Dollars in thousands)

 
                                                 

Securities Available-for-Sale

                                               

Mortgage-backed securities

  $ 145,297     $ 332     $ 7     $ 1     $ 145,304     $ 333  

Collateralized mortgage obligations

    -       -       41       32       41       32  

Corporate debt securities

    -       -       43,835       1,165       43,835       1,165  

Mutual funds

    -       -       5,921       79       5,921       79  

Preferred stock of government sponsored entities

    2,597       3,584       -       -       2,597       3,584  

Other equity securities

    17       3       -       -       17       3  

Total

  $ 147,911     $ 3,919     $ 49,804     $ 1,277     $ 197,715     $ 5,196  

 

 

 
13

 

 


   

December 31, 2014

 
   

Temporarily impaired securities

 
   

Less than 12 months

   

12 months or longer

   

Total

 
   

Fair

   

Unrealized

   

Fair

   

Unrealized

   

Fair

   

Unrealized

 
   

Value

   

Losses

   

Value

   

Losses

   

Value

   

Losses

 
   

(Dollars in thousands)

 
                                                 

Securities Available-for-Sale

                                               

U.S. treasury securities

  $ 374,153     $ 265     $ -     $ -     $ 374,153     $ 265  

Mortgage-backed securities

    -       -       425,090       6,386       425,090       6,386  

Collateralized mortgage obligations

    -       -       45       34       45       34  

Corporate debt securities

    -       -       63,753       1,247       63,753       1,247  

Mutual funds

    -       -       5,866       134       5,866       134  

Preferred stock of government sponsored entities

    2,448       3,733       -       -       2,448       3,733  

Total

  $ 376,601     $ 3,998     $ 494,754     $ 7,801     $ 871,355     $ 11,799  

 

 

At March 31, 2015, management believed the impairment was temporary and, accordingly, no impairment loss on debt securities has been recognized in our condensed consolidated statements of operations. The Company expects to recover the amortized cost basis of its debt securities, and has no intent to sell and will not be required to sell available-for-sale debt securities that have declined below their cost before their anticipated recovery.

 

Investment securities having a carrying value of $575.5 million at March 31, 2015, and $591.3 million at December 31, 2014, were pledged to secure public deposits, other borrowings, treasury tax and loan, and securities sold under agreements to repurchase. 

 

7. Loans 

 

Most of the Company’s business activity is with Asian customers located in Southern and Northern California; New York City, New York; Houston and Dallas, Texas; Seattle, Washington; Boston, Massachusetts; Chicago, Illinois; Edison, New Jersey; Las Vegas, Nevada, and Hong Kong. The Company has no specific industry concentration, and generally its loans are secured by real property or other collateral of the borrowers. Loans are generally expected to be paid off from the operating profits of the borrowers, from refinancing by other lenders, or through sale by the borrowers of the secured collateral.

 

 

 
14

 

 

The components of loans in the condensed consolidated balance sheets as of March 31, 2015, and December 31, 2014, were as follows:

 

 

   

March 31, 2015

   

December 31, 2014

 
   

(In thousands)

 

Type of Loans:

               

Commercial loans

  $ 2,434,550     $ 2,382,493  

Residential mortgage loans

    1,600,269       1,570,059  

Commercial mortgage loans

    4,663,051       4,486,443  

Equity lines

    175,997       172,879  

Real estate construction loans

    345,560       298,654  

Installment and other loans

    5,370       3,552  

Gross loans

    9,224,797       8,914,080  

Less:

               

Allowance for loan losses

    (156,089 )     (161,420 )

Unamortized deferred loan fees

    (11,116 )     (12,392 )

Total loans, net

  $ 9,057,592     $ 8,740,268  

Loans held for sale

  $ -     $ 973  

 

 

At March 31, 2015, recorded investment in impaired loans totaled $180.7 million and was comprised of non-accrual loans of $80.3 million and accruing troubled debt restructured loans (“TDRs) of $100.4 million. At December 31, 2014, recorded investment in impaired loans totaled $174.5 million and was comprised of non-accrual loans of $70.2 million and accruing TDRs of $104.3 million. For impaired loans, the amounts previously charged off represent 17.0% at March 31, 2015, and 17.1% at December 31, 2014, of the contractual balances for impaired loans. The following table presents the average balance and interest income recognized related to impaired loans for the periods indicated:

 

   

Impaired Loans

 
   

Average Recorded Investment

   

Interest Income Recognized

 
   

Three months ended

   

Three months ended

 
   

March 31,

   

March 31,

 
   

2015

   

2014

   

2015

   

2014

 
   

(In thousands)

 

Commercial loans

  $ 25,426     $ 30,844     $ 229     $ 226  

Real estate construction loans

    22,990       34,060       65       65  

Commercial mortgage loans

    110,293       111,305       917       1,134  

Residential mortgage loans and equity lines

    17,280       19,156       124       95  

Total impaired loans

  $ 175,989     $ 195,365     $ 1,335     $ 1,520  

 

 
15

 

 

The following tables present impaired loans and the related allowance for credit losses as of the dates indicated:

 

 

   

Impaired Loans

 
   

March 31, 2015

   

December 31, 2014

 
   

Unpaid Principal Balance

   

Recorded Investment

   

Allowance

   

Unpaid Principal Balance

   

Recorded Investment

   

Allowance

 
   

(In thousands)

 
                                                 

With no allocated allowance

                                               

Commercial loans

  $ 14,176     $ 13,148     $ -     $ 19,479     $ 18,452     $ -  

Real estate construction loans

    49,076       22,874       -       32,924       17,025       -  

Commercial mortgage loans

    93,468       85,142       -       77,474       75,172       -  

Residential mortgage loans and equity lines

    2,496       2,496       -       2,518       2,518       -  

Subtotal

  $ 159,216     $ 123,660     $ -     $ 132,395     $ 113,167     $ -  

With allocated allowance

                                               

Commercial loans

  $ 15,677     $ 15,660     $ 3,911     $ 7,003     $ 5,037     $ 1,263  

Real estate construction loans

    -       -       -       19,006       8,703       1,077  

Commercial mortgage loans

    27,529       26,581       6,635       38,197       34,022       8,993  

Residential mortgage loans and equity lines

    15,393       14,816       498       14,019       13,590       465  

Subtotal

  $ 58,599     $ 57,057     $ 11,044     $ 78,225     $ 61,352     $ 11,798  

Total impaired loans

  $ 217,815     $ 180,717     $ 11,044     $ 210,620     $ 174,519     $ 11,798  

 

 

The following tables present the aging of the loan portfolio by type as of March 31, 2015, and as of December 31, 2014:

 

 

   

March 31, 2015

 
   

30-59 Days

Past Due

   

60-89 Days

Past Due

   

90 Days or

More Past

Due

   

Non-accrual Loans

   

Total Past Due

   

Loans Not

Past Due

   

Total

 

Type of Loans:

 

(In thousands)

 

Commercial loans

  $ 3,530     $ 50     $ 787     $ 12,086     $ 16,453     $ 2,418,097     $ 2,434,550  

Real estate construction loans

    -       -       -       17,126       17,126       328,434       345,560  

Commercial mortgage loans

    22,041       1,738       -       43,079       66,858       4,596,193       4,663,051  

Residential mortgage loans and equity lines

    2,175       -       -       8,033       10,208       1,766,058       1,776,266  

Installment and other loans

    -       -       -       -       -       5,370       5,370  

Total loans

  $ 27,746     $ 1,788     $ 787     $ 80,324     $ 110,645     $ 9,114,152     $ 9,224,797  

 

   

December 31, 2014

 
   

30-59 Days

Past Due

   

60-89 Days

Past Due

   

90 Days or

More Past

Due

   

Non-accrual Loans

   

Total Past Due

   

Loans Not

Past Due

   

Total

 

Type of Loans:

 

(In thousands)

 

Commercial loans

  $ 11,595     $ 1,238     $ -     $ 6,983     $ 19,816     $ 2,362,677     $ 2,382,493  

Real estate construction loans

    1,416       -       -       19,963       21,379       277,275       298,654  

Commercial mortgage loans

    17,654       3,909       -       35,606       57,169       4,429,274       4,486,443  

Residential mortgage loans and equity lines

    5,634       732       -       7,611       13,977       1,728,961       1,742,938  

Installment and other loans

    60       -       -       -       60       3,492       3,552  

Total loans

  $ 36,359     $ 5,879     $ -     $ 70,163     $ 112,401     $ 8,801,679     $ 8,914,080  

 

 

The determination of the amount of the allowance for credit losses for impaired loans is based on management’s current judgment about the credit quality of the loan portfolio and takes into consideration known relevant internal and external factors that affect collectability when determining the appropriate level for the allowance for credit losses. The nature of the process by which the Bank determines the appropriate allowance for credit losses requires the exercise of considerable judgment. This allowance evaluation process is also applied to troubled debt restructurings since they are considered to be impaired loans.

 

 

 
16

 

 

 

A troubled debt restructuring is a formal modification of the terms of a loan when the lender, for economic or legal reasons related to the borrower’s financial difficulties, grants a concession to the borrower. The concessions may be granted in various forms, including a change in the stated interest rate, a reduction in the loan balance or accrued interest, or an extension of the maturity date that causes significant delay in payment.

 

TDRs on accrual status are comprised of the loans that have, pursuant to the Bank’s policy, performed under the restructured terms and have demonstrated sustained performance under the modified terms for six months before being returned to accrual status. The sustained performance considered by management pursuant to its policy includes the periods prior to the modification if the prior performance met or exceeded the modified terms. This would include cash paid by the borrower prior to the restructure to set up interest reserves.

 

At March 31, 2015, accruing TDRs were $100.4 million and non-accrual TDRs were $44.5 million compared to accruing TDRs of $104.3 million and non-accrual TDRs of $41.6 million at December 31, 2014. The Company allocated specific reserves of $2.1 million to accruing TDRs and $6.9 million to non-accrual TDRs at March 31, 2015, and $6.5 million to accruing TDRs and $4.9 million to non-accrual TDRs at December 31, 2014. The following tables present TDRs that were modified during the first quarter of 2015 and of 2014, their specific reserves at March 31, 2015, and 2014, and charge-offs during the first quarter of 2015 and of 2014:

 

   

Three months ended March 31, 2015

   

March 31, 2015

 
   

No. of

Contracts

 

Pre-Modification Outstanding

Recorded Investment

   

Post-Modification Outstanding Recorded Investment

   

Charge-offs

   

Specific Reserve

 
   

(Dollars in thousands)

 
                                         

Commercial loans

    1     $ 850     $ 850     $ -     $ -  

Commercial mortgage loans

    3       8,613       8,613       -       -  

Residential mortgage loans and equity lines

    4       1,522       1,374       148       46  

Total

    8     $ 10,985     $ 10,837     $ 148     $ 46  

 

   

Three months ended March 31, 2014

   

March 31, 2014

 
   

No. of Contracts

   

Pre-Modification Outstanding Recorded Investment

   

Post-Modification Outstanding Recorded Investment

   

Charge-offs

   

Specific Reserve

 
   

(Dollars in thousands)

 
                                         

Commercial loans

    2       8,243       8,243     $ -     $ 1,035  

Residential mortgage loans and equity lines

    2       671       671       -       36  

Total

    4     $ 8,914     $ 8,914     $ -     $ 1,071  

 

 
17

 

 

 

Modifications of the loan terms during the first quarter of 2015 were in the form of changes in the stated interest rate, and/or extension of maturity dates, and/or reduction in monthly payment amount. The length of time for which modifications involving a reduction of the stated interest rate or changes in payment terms that were documented ranged from seven months to two years from the modification date. 

 

We expect that the TDRs on accruing status as of March 31, 2015, which were all performing in accordance with their restructured terms, will continue to comply with the restructured terms because of the reduced principal or interest payments on these loans.  A summary of TDRs by type of concession and by type of loan, as of March 31, 2015, and December 31, 2014, is shown below:

 

`

 

   

March 31, 2015

 

Accruing TDRs

 

Payment Deferral

   

Rate

Reduction

   

 

Rate Reduction

and Payment

Deferral

   

Total

 
   

(In thousands)

 

Commercial loans

  $ 13,108     $ 1,520     $ 2,094     $ 16,722  

Commercial mortgage loans

    17,430       6,101       50,861       74,392  

Residential mortgage loans

    5,233       1,008       3,038       9,279  

Total accruing TDRs

  $ 35,771     $ 8,629     $ 55,993     $ 100,393  

 

 

 

   

March 31, 2015

 

Non-accrual TDRs

 

Payment

Deferral

   

Forgiveness of Principal

   

 

Rate Reduction

and Payment

Deferral

   

Total

 
   

(In thousands)

 

Commercial loans

  $ 2,323     $ 1,144     $ -     $ 3,467  

Commercial mortgage loans

    12,344       -       26,834       39,178  

Residential mortgage loans

    622       -       1,274       1,896  

Total non-accrual TDRs

  $ 15,289     $ 1,144     $ 28,108     $ 44,541  

 

 

   

December 31, 2014

 

Accruing TDRs

 

Payment

Deferral

   

Rate

Reduction

   

Rate Reduction

and Forgiveness

of Principal

   

 

Rate Reduction

and Payment

Deferral

   

Total

 
                                         

Commercial loans

  $ 11,572     $ -     $ -     $ 4,934     $ 16,506  

Real estate construction loans

    5,765       -       -       -       5,765  

Commercial mortgage loans

    20,543       26,694       -       26,351       73,588  

Residential mortgage loans

    3,316       -       410       4,771       8,497  

Total accruing TDRs

  $ 41,196     $ 26,694     $ 410     $ 36,056     $ 104,356  

 

 

 
18

 

 

   

December 31, 2014

 

Non-accrual TDRs

 

Payment

Deferral

   

Rate

Reduction

   

 

Rate Reduction and Payment Deferral

   

Total

 
   

(In thousands)

 

Commercial loans

  $ 1,423     $ 860     $ 1,269     $ 3,552  

Real estate construction loans

    -       -       19,462       19,462  

Commercial mortgage loans

    15,917       -       973       16,890  

Residential mortgage loans

    1,026       -       688       1,714  

Total non-accrual TDRs

  $ 18,366     $ 860     $ 22,392     $ 41,618  

 

 

 

The activity within our TDRs for the periods indicated are shown below:

 

   

Three months ended March 31,

 

Accruing TDRs

 

2015

   

2014

 
   

(In thousands)

 

Beginning balance

  $ 104,356     $ 117,597  

New restructurings

    10,628       7,375  

Restructured loans restored to accrual status

    -       962  

Charge-offs

    (148 )     -  

Payments

    (4,254 )     (7,012 )

Restructured loans placed on nonaccrual

    (10,189 )     -  

Ending balance

  $ 100,393     $ 118,922  

 

 

   

Three months ended March 31,

 

Non-accrual TDRs

 

2015

   

2014

 
   

(In thousands)

 

Beginning balance

  $ 41,618     $ 38,769  

New restructurings

    209       1,539  

Restructured loans placed on nonaccrual

    10,189       -  

Charge-offs

    (2,754 )     (4 )

Payments

    (4,721 )     (1,545 )

Restructured loans restored to accrual status

    -       (962 )

Ending balance

  $ 44,541     $ 37,797  

 

 

A loan is considered to be in payment default once it is 60 to 90 days contractually past due under the modified terms.  The Company did not have any loans that were modified as TDRs during the previous twelve months and which subsequently defaulted as of March 31, 2015.  However, the Company took a charge off in the amount of $598,000 on a $10.2 million commercial mortgage loan, which was modified as a TDR during the previous twelve months.  As a result, the Company placed that loan on non-accrual status and the charge off taken was due to a decrease in collateral value based on an updated appraisal report.

 

Under the Company’s internal underwriting policy, an evaluation is performed of the probability that the borrower will be in payment default on any of its debt in the foreseeable future without the modification in order to determine whether a borrower is experiencing financial difficulty.

 

 
19

 

 

As of March 31, 2015, there were no commitments to lend additional funds to those borrowers whose loans had been restructured, were considered impaired, or were on non-accrual status.

 

As part of the on-going monitoring of the credit quality of our loan portfolio, the Company utilizes a risk grading matrix to assign a risk grade to each loan. The risk rating categories can be generally described by the following grouping for non-homogeneous loans: 

 

 

Pass/Watch – These loans range from minimal credit risk to lower than average, but still acceptable, credit risk. 

 

 

Special Mention  Borrower is fundamentally sound and loan is currently protected but adverse trends are apparent that, if not corrected, may affect ability to repay. Primary source of loan repayment remains viable but there is increasing reliance on collateral or guarantor support.

 

 

Substandard  These loans are inadequately protected by current sound net worth, paying capacity, or collateral. Well-defined weaknesses exist that could jeopardize repayment of debt. Loss may not be imminent, but if weaknesses are not corrected, there is a good possibility of some loss.

 

 

Doubtful – The possibility of loss is extremely high, but due to identifiable and important pending events (which may strengthen the loan), a loss classification is deferred until the situation is better defined.

 

 

Loss – These loans are considered uncollectible and of such little value that to continue to carry the loan as an active asset is no longer warranted.

 

The Company had no loans held for sale as of March 31, 2015. The following tables present the loan portfolio by risk rating as of March 31, 2015, and as of December 31, 2014:

 

 

   

March 31, 2015

 
   

Pass/Watch

   

Special Mention

   

Substandard

   

Doubtful

   

Total

 
                                         

Commercial loans

  $ 2,314,983     $ 50,083     $ 67,662     $ 1,822     $ 2,434,550  

Real estate construction loans

    328,434       -       16,626       500       345,560  

Commercial mortgage loans

    4,375,229       123,384       154,848       9,590       4,663,051  

Residential mortgage loans and equity lines

    1,765,727       304       10,235       -       1,776,266  

Installment and other loans

    5,370       -       -       -       5,370  

Total gross loans

  $ 8,789,743     $ 173,771     $ 249,371     $ 11,912     $ 9,224,797  

  

 
20

 

 

   

December 31, 2014

 
   

Pass/Watch

   

Special Mention

   

Substandard

   

Doubtful

   

Total

 
                                         

Commercial loans

  $ 2,260,474     $ 47,619     $ 72,561     $ 1,839     $ 2,382,493  

Real estate construction loans

    272,927       -       25,227       500       298,654  

Commercial mortgage loans

    4,213,453       105,970       167,020       -       4,486,443  

Residential mortgage loans and equity lines

    1,733,248       -       9,690       -       1,742,938  

Installment and other loans

    3,552       -       -       -       3,552  

Total gross loans

  $ 8,483,654     $ 153,589     $ 274,498     $ 2,339     $ 8,914,080  
                                         

Loans held for sale

  $ -     $ -     $ 973     $ -     $ 973  

 

 

The allowance for loan losses and the reserve for off-balance sheet credit commitments are significant estimates that can and do change based on management’s process in analyzing the loan portfolio and on management’s assumptions about specific borrowers, underlying collateral, and applicable economic and environmental conditions, among other factors.

 

The following table presents the balance in the allowance for loan losses by portfolio segment and based on impairment method as of March 31, 2015, and as of December 31, 2014:

 

 

           

Real Estate

   

Commercial

   

Residential

                 
   

Commercial

   

Construction

   

Mortgage

   

Mortgage Loans

   

Installment and

         
   

Loans

   

Loans

   

Loans

   

and Equity Lines

   

Other Loans

   

Total

 
   

(In thousands)

 

March 31, 2015

                                               

Loans individually evaluated for impairment

                                 

Allowance

  $ 3,911     $ -     $ 6,635     $ 498     $ -     $ 11,044  

Balance

  $ 28,808     $ 22,873     $ 111,724     $ 17,312     $ -     $ 180,717  
                                                 

Loans collectively evaluated for impairment

                                 

Allowance

  $ 45,794     $ 23,270     $ 64,683     $ 11,279     $ 19     $ 145,045  

Balance

  $ 2,405,742     $ 322,687     $ 4,551,327     $ 1,758,954     $ 5,370     $ 9,044,080  
                                                 

Total allowance

  $ 49,705     $ 23,270     $ 71,318     $ 11,777     $ 19     $ 156,089  

Total balance

  $ 2,434,550     $ 345,560     $ 4,663,051     $ 1,776,266     $ 5,370     $ 9,224,797  
                                                 

December 31, 2014

                                               

Loans individually evaluated for impairment

                                 

Allowance

  $ 1,263     $ 1,077     $ 8,993     $ 465     $ -     $ 11,798  

Balance

  $ 23,489     $ 25,728     $ 109,194     $ 16,108     $ -     $ 174,519  
                                                 

Loans collectively evaluated for impairment

                                 

Allowance

  $ 46,238     $ 26,575     $ 65,680     $ 11,113     $ 16     $ 149,622  

Balance

  $ 2,359,004     $ 272,926     $ 4,377,249     $ 1,726,830     $ 3,552     $ 8,739,561  
                                                 

Total allowance

  $ 47,501     $ 27,652     $ 74,673     $ 11,578     $ 16     $ 161,420  

Total balance

  $ 2,382,493     $ 298,654     $ 4,486,443     $ 1,742,938     $ 3,552     $ 8,914,080  

 

 
21

 

 

 

The following table details activity in the allowance for loan losses by portfolio segment for the three months ended March 31, 2015, and March 31, 2014. Allocation of a portion of the allowance to one category of loans does not preclude its availability to absorb losses in other categories.

 

 

           

Real Estate

   

Commercial

   

Residential

   

Installment

         
   

Commercial

   

Construction

   

Mortgage

   

Mortgage Loans

   

and Other

         
   

Loans

   

Loans

   

Loans

   

and Equity Lines

   

Loans

   

Total

 
   

(In thousands)

 
                                                 

2015 Beginning Balance

  $ 47,501     $ 27,652     $ 74,673     $ 11,578     $ 16     $ 161,420  
                                                 

Provision/(credit) for possible credit losses

    793       (4,427 )     (1,697 )     328       3       (5,000 )
                                                 

Charge-offs

    (864 )     -       (3,452 )     (148 )     -       (4,464 )

Recoveries

    2,275       45       1,794       19       -       4,133  

Net (charge-offs)/recoveries

    1,411       45       (1,658 )     (129 )     -       (331 )

March 31, 2015 Ending Balance

  $ 49,705     $ 23,270     $ 71,318     $ 11,777     $ 19     $ 156,089  

Reserve for impaired loans

  $ 3,911     $ -     $ 6,635     $ 498     $ -     $ 11,044  

Reserve for non-impaired loans

  $ 45,794     $ 23,270     $ 64,683     $ 11,279     $ 19     $ 145,045  

Reserve for off-balance sheet credit commitments

  $ 903     $ 527     $ 181     $ 40     $ 1     $ 1,652  
                                                 

2014 Beginning Balance

  $ 65,103     $ 11,999     $ 84,753     $ 12,005     $ 29     $ 173,889  

Provision/(credit) for possible credit losses

    4,888       (1,398 )     (4,306 )     447       (2 )     (371 )

Charge-offs

    (7,226 )     -       (1,698 )     (78 )     -       (9,002 )

Recoveries

    2,017       25       2,577       3       -       4,622  

Net (charge-offs)/recoveries

    (5,209 )     25       879       (75 )     -       (4,380 )
                                                 

March 31, 2014 Ending Balance

  $ 64,782     $ 10,626     $ 81,326     $ 12,377     $ 27     $ 169,138  

Reserve for impaired loans

  $ 4,663     $ 3,129     $ 6,165     $ 538     $ -     $ 14,495  

Reserve for non-impaired loans

  $ 60,119     $ 7,497     $ 75,161     $ 11,839     $ 27     $ 154,643  

Reserve for off-balance sheet credit commitments

  $ 929     $ 326     $ 445     $ 33     $ 1     $ 1,734  

 

 

8. Commitments and Contingencies

 

The Company is involved in various litigation concerning transactions entered into in the normal course of business. Management, after consultation with legal counsel, does not believe that the resolution of such litigation will have a material effect upon its consolidated financial condition, results of operations, or liquidity taken as a whole. Although the Company establishes accruals for legal proceedings when information related to the loss contingencies represented by those matters indicates both that a loss is probable and that the amount of loss can be reasonably estimated, the Company does not have accruals for all legal proceedings where there is a risk of loss. In addition, amounts accrued may not represent the ultimate loss to the Company from the legal proceedings in question. Thus, ultimate losses may be higher or lower, and possibly significantly so, than the amounts accrued for legal loss contingencies.

 

In the normal course of business, the Company becomes a party to financial instruments with off-balance sheet risk to meet the financing needs of its customers. These financial instruments include commitments to extend credit in the form of loans, or through commercial or standby letters of credit and financial guarantees. These instruments represent varying degrees of exposure to risk in excess of the amounts included in the accompanying condensed consolidated balance sheets. The contractual or notional amount of these instruments indicates a level of activity associated with a particular class of financial instrument and is not a reflection of the level of expected losses, if any.

 

 

 
22

 

 

9. Borrowed Funds

 

Securities Sold Under Agreements to Repurchase. Securities sold under agreements to repurchase were $400.0 million with a weighted average rate of 3.89% at March 31, 2015, compared to $450.0 million with a weighted average rate of 3.85% at December 31, 2014. In the first quarter of 2014, the Company prepaid securities sold under agreements to repurchase totaling $100.0 million with a weighted average rate of 3.50% and incurred prepayment penalties of $3.4 million. As of March 31, 2015, four floating-to-fixed rate agreements totaling $200.0 million with weighted average rate of 5.0% and final maturity in January 2017 have initial floating rates for one year, with floating rates of three-month LIBOR rate minus 340 basis points. Thereafter, the rates are fixed for the remainder of the term, with interest rates ranging from 4.89% to 5.07%. As of March, 31, 2015, and December 31, 2014, four fixed rate non-callable securities sold under agreements to repurchase totaled $200.0 million with a weighted average rate of $2.78%. Final maturity for the four fixed rate non-callable securities sold under agreements is $50.0 million in August 2016, $50.0 million in July 2017, $50.0 million in June 2018, and $50.0 million in July 2018.

 

These transactions are accounted for as collateralized financing transactions and recorded at the amounts at which the securities were sold. The Company may have to provide additional collateral for the repurchase agreements, as necessary. The underlying collateral pledged for the repurchase agreements consists of U.S. Treasury securities and mortgage-backed securities with a fair value of $467.5 million as of March 31, 2015, and $516.3 million as of December 31, 2014.

 

Borrowing from the FHLB. As of March 31, 2015, over-night borrowings from the FHLB were $460.0 million at a rate of 0.24% compared to $400.0 million at a rate of 0.27% at December 31, 2014. As of March 31, 2015, and December 31, 2014, the long-term advance from the FHLB of $25.0 million was at a rate of 1.13% and will mature in March 2018.

 

10. Income Taxes

 

Income tax expense totaled $21.4 million, or an effective tax rate of 37.3%, for the first quarter of 2015, compared to an income tax expense of $17.9 million, or an effective tax rate of 36.4%, for the same period a year ago. The effective tax rate includes the impact of the utilization of low income housing tax credits for both periods.

 

As of December 31, 2014, the Company had income tax refunds receivable of $18.1 million. These income tax receivables are included in other assets in the accompanying condensed consolidated balance sheets.

 

The Company’s tax returns are open for audits by the Internal Revenue Service back to 2011 and by the California Franchise Tax Board back to 2003. The Company is under audit by the California Franchise Tax Board for the years 2003 to 2007. As the Company is presently under audit by a number of tax authorities, it is reasonably possible that unrecognized tax benefits could change significantly over the next twelve months. The Company does not expect that any such changes would have a material impact on its annual effective tax rate.

 

 

 
23

 

 

11. Fair Value Measurements

 

The Company adopted ASC Topic 820 on January 1, 2008, and determined the fair values of our financial instruments based on the following:

 

 

Level 1 - Quoted prices in active markets for identical assets or liabilities.

 

Level 2 - Observable prices in active markets for similar assets or liabilities; prices for identical or similar assets or liabilities in markets that are not active; directly observable market inputs for substantially the full term of the asset and liability; market inputs that are not directly observable but are derived from or corroborated by observable market data.

 

Level 3 – Unobservable inputs based on the Company’s own judgment about the assumptions that a market participant would use.

 

The Company uses the following methodologies to measure the fair value of its financial assets and liabilities on a recurring basis:

 

Securities Available for Sale. For certain actively traded agency preferred stocks, mutual funds, and U.S. Treasury securities, the Company measures the fair value based on quoted market prices in active exchange markets at the reporting date, a Level 1 measurement. The Company also measures securities by using quoted market prices for similar securities or dealer quotes, a Level 2 measurement. This category generally includes U.S. Government agency securities, state and municipal securities, mortgage-backed securities (“MBS”), commercial MBS, collateralized mortgage obligations, asset-backed securities, corporate bonds and trust preferred securities.

 

Warrants. The Company measures the fair value of warrants based on unobservable inputs based on assumption and management judgment, a Level 3 measurement.

 

Foreign Exchange Contracts. The Company measures the fair value of foreign exchange contracts based on dealer quotes on a recurring basis, a Level 2 measurement.

 

Interest Rate Swaps. Fair value of interest rate swaps is derived from third party models with observable market data, a Level 2 measurement.

 

The valuation techniques for the assets and liabilities valued on a nonrecurring basis are as follows:

 

Impaired Loans. The Company does not record loans at fair value on a recurring basis. However, from time to time, nonrecurring fair value adjustments to collateral dependent impaired loans are recorded based on either the current appraised value of the collateral, a Level 2 measurement, or management’s judgment and estimation of value reported on older appraisals that are then adjusted based on recent market trends, a Level 3 measurement.

 

 

 
24

 

 

Goodwill. The Company first assesses qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test described in ASC Topic 350. The two-step impairment testing process, if needed, begins by assigning net assets and goodwill to the two reporting unitsCommercial Lending and Retail Banking.  The Company then completes “step one” of the impairment test by comparing the fair value of each reporting unit (as determined based on the discussion below) with the recorded book value (or “carrying amount”) of its net assets, with goodwill included in the computation of the carrying amount.  If the fair value of a reporting unit exceeds its carrying amount, goodwill of that reporting unit is not considered impaired, and “step two” of the impairment test is not necessary.  If the carrying amount of a reporting unit exceeds its fair value, step two of the impairment test is performed to determine the amount of impairment.  Step two of the impairment test compares the carrying amount of the reporting unit’s goodwill to the “implied fair value” of that goodwill.  The implied fair value of goodwill is computed by assuming that all assets and liabilities of the reporting unit would be adjusted to the current fair value, with the offset as an adjustment to goodwill.  This adjusted goodwill balance is the implied fair value used in step two.  An impairment charge is recognized for the amount by which the carrying amount of goodwill exceeds its implied fair value. In connection with the determination of fair value, certain data and information is utilized, including earnings forecasts at the reporting unit level for the next four years.  Other key assumptions include terminal values based on future growth rates and discount rates for valuing the cash flows, which have inputs for the risk-free rate, market risk premium, and adjustments to reflect inherent risk and required market returns. Because of the significance of unobservable inputs in the valuation of goodwill impairment, goodwill subject to nonrecurring fair value adjustments is classified as a Level 3 measurement.

 

Core Deposit Intangibles. Core deposit intangibles is initially recorded at fair value based on a valuation of the core deposits acquired and is amortized over its estimated useful life to its residual value in proportion to the economic benefits consumed. The Company assesses the recoverability of this intangible asset on a nonrecurring basis using the core deposits remaining at the assessment date and the fair value of cash flows expected to be generated from the core deposits, a Level 3 measurement.

 

Other Real Estate Owned. Real estate acquired in the settlement of loans is initially recorded at fair value based on the appraised value of the property on the date of transfer, less estimated costs to sell, a Level 2 measurement. From time to time, nonrecurring fair value adjustments are made to other real estate owned based on the current updated appraised value of the property, also a Level 2 measurement, or management’s judgment and estimation of value reported on older appraisals that are then adjusted based on recent market trends, a Level 3 measurement.

 

Investments in Venture Capital. The Company periodically reviews its investments in venture capital for other-than-temporary impairment on a nonrecurring basis. Investments in venture capital were written down to their fair value based on available financial reports from venture capital partnerships and management’s judgment and estimation, a Level 3 measurement.

 

Equity Investments. The Company records equity investments at fair value on a nonrecurring basis based on quoted market prices in active exchange markets at the reporting date, a Level 1 measurement.

 

 
25

 

 

The following tables present the Company’s hierarchy for its assets and liabilities measured at fair value on a recurring basis as of March 31, 2015, and December 31, 2014:

 

 

March 31, 2015

 

Fair Value Measurements Using

   

Total at

 
   

Level 1

   

Level 2

   

Level 3

   

Fair Value

 

Assets

 

(In thousands)

 
                                 

Securities available-for-sale

                               

U.S. Treasury securities

  $ 350,183     $ -     $ -     $ 350,183  

Mortgage-backed securities

    -       760,329       -       760,329  

Collateralized mortgage obligations

    -       42       -       42  

Corporate debt securities

    -       74,511       -       74,511  

Mutual funds

    5,921       -       -       5,921  

Preferred stock of government sponsored entities

    -       3,946       -       3,946  

Other equity securities

    -       8,750       -       8,750  

Total securities available-for-sale

    356,104       847,578       -       1,203,682  

Warrants

    -       -       21       21  

Foreign exchange contracts

    -       1,615       -       1,615  

Total assets

  $ 356,104     $ 849,193     $ 21     $ 1,205,318  
                                 

Liabilities

                               
                                 

Interest rate swaps

  $ -     $ 8,610     $ -     $ 8,610  

Foreign exchange contracts

    -       4,959       -       4,959  

Total liabilities

  $ -     $ 13,569     $ -     $ 13,569  

 

 

  

December 31, 2014

 

Fair Value Measurements Using

   

Total at

 
   

Level 1

   

Level 2

   

Level 3

   

Fair Value

 

Assets

 

(In thousands)

 
                                 

Securities available-for-sale

                               

U.S. Treasury securities

  $ 664,004     $ -     $ -     $ 664,004  

Mortgage-backed securities

    -       544,303       -       544,303  

Collateralized mortgage obligations

    -       45       -       45  

Corporate debt securities

    -       94,472       -       94,472  

Mutual funds

    5,866       -       -       5,866  

Preferred stock of government sponsored entities

    -       3,224       -       3,224  

Other equity securities

    -       7,021       -       7,021  

Total securities available-for-sale

    669,870       649,065       -       1,318,935  

Warrants

    -       -       27       27  

Foreign exchange contracts

    -       1,876       -       1,876  

Total assets

  $ 669,870     $ 650,941     $ 27     $ 1,320,838  
                                 

Liabilities

                               
                                 

Interest rate swaps

  $ -     $ 4,626     $ -     $ 4,626  

Foreign exchange contracts

    -       5,007       -       5,007  

Total liabilities

  $ -     $ 9,633     $ -     $ 9,633  

 

 

The Company measured the fair value of its warrants on a recurring basis using significant unobservable inputs. The fair value of warrants was $21,000 at March 31, 2015, compared to $27,000 at December 31, 2014. The fair value adjustment of warrants was included in other operating income in the first quarter of 2015. The significant unobservable inputs in the Black-Scholes option pricing model for the fair value of warrants are their expected life ranging from 1 to 5 years, risk-free interest rate from 0.57% to 1.40%, and stock volatility from 10.9% to 15.0%.

 

 

 
26

 

 

For financial assets measured at fair value on a nonrecurring basis that were still reflected in the condensed consolidated balance sheets at March 31, 2015, the following tables provide the level of valuation assumptions used to determine each adjustment, the carrying value of the related individual assets as of March 31, 2015, and December 31, 2014, and the total losses/(gains) for the periods indicated:

 

   

March 31, 2015

           

Total Losses

 
   

Fair Value Measurements Using

   

Total at

   

Three Months Ended

 
   

Level 1

   

Level 2

   

Level 3

   

Fair Value

   

March 31, 2015

   

March 31, 2014

 
   

(In thousands)

 
Assets                                                
                                                 

Impaired loans by type:

                                               

Commercial loans

  $ -     $ -     $ 11,749     $ 11,749     $ -     $ -  

Commercial mortgage loans

    -       -       19,947       19,947       56       -  

Residential mortgage loans and equity lines

    -       -       14,318       14,318       148       -  

Total impaired loans

    -       -       46,014       46,014       204       -  

Other real estate owned (1

    -       10,868       4,110       14,978       181       183  

Investments in venture capital

    -       -       5,371       5,371       224       111  

Total assets

  $ -     $ 10,868     $ 55,495     $ 66,363     $ 609     $ 294  

 

(1) Other real estate owned balance of $30.8 million in the condensed consolidated balance sheet is net of estimated disposal costs.

         

 

 

 

 

 

 

   

December 31, 2014

   

Total Losses / (Gains)

 
   

Fair Value Measurements Using

   

Total at

   

Twelve Months Ended

 
   

Level 1

   

Level 2

   

Level 3

   

Fair Value

   

December 31, 2014

   

December 31, 2013

 
   

(In thousands)

 
Assets                                                
                                                 

Impaired loans by type:

                                               

Commercial loans

  $ -     $ -     $ 3,774     $ 3,774     $ 17     $ 5,731  

Commercial mortgage loans

    -       -       25,029       25,029       3,914       125  

Construction- other

    -       -       7,625       7,625       -       -  

Residential mortgage loans and equity lines

    -       -       13,126       13,126       27       213  

Total impaired loans

    -       -       49,554       49,554       3,958       6,069  

Other real estate owned (1

    -       16,458       4,110       20,568       202       (3,134 )

Investments in venture capital

    -       -       5,495       5,495       436       409  

Equity investments

    -       -       617       617       -       -  

Total assets

  $ -     $ 16,458     $ 59,776     $ 76,234     $ 4,596     $ 3,344  

 

(1) Other real estate owned balance of $31.5 million in the consolidated balance sheet is net of estimated disposal costs.

         

 

 

The significant unobservable (Level 3) inputs used in the fair value measurement of collateral for collateral-dependent impaired loans was primarily based on the appraised value of collateral adjusted by estimated sales cost and commissions. The Company generally obtains new appraisal reports every nine months. As the Company’s primary objective in the event of default would be to monetize the collateral to settle the outstanding balance of the loan, less marketable collateral would receive a larger discount. During the reported periods, collateral discounts ranged from 55% in the case of accounts receivable collateral to 65% in the case of inventory collateral.

 

The significant unobservable inputs used in the fair value measurement of loans held for sale was primarily based on the quoted price or sale price adjusted by estimated sales cost and commissions. The significant unobservable inputs used in the fair value measurement of other real estate owned (“OREO”) was primarily based on the appraised value of OREO adjusted by estimated sales cost and commissions.

 

 

 
27

 

 

The Company applies estimated sales cost and commissions ranging from 3% to 6% to collateral value of impaired loans, quoted price, or loan sale price of loans held for sale, and appraised value of OREO.

 

12. Fair Value of Financial Instruments

 

 

The following methods and assumptions were used to estimate the fair value of each class of financial instruments.

 

      Cash and Cash Equivalents. For cash and cash equivalents, the carrying amount was assumed to be a reasonable estimate of fair value, a Level 1 measurement.

 

      Short-term Investments. For short-term investments, the carrying amount was assumed to be a reasonable estimate of fair value, a Level 1 measurement.

 

  Securities Purchased under Agreements to Resell. The fair value of securities purchased under agreements to resell is based on dealer quotes, a Level 2 measurement.

 

      Securities. For securities, including securities held-to-maturity, available-for-sale, and for trading, fair values were based on quoted market prices at the reporting date. If a quoted market price was not available, fair value was estimated using quoted market prices for similar securities or dealer quotes. For certain actively traded agency preferred stocks and U.S. Treasury securities, the Company measures the fair value based on quoted market prices in active exchange markets at the reporting date, a Level 1 measurement. The Company also measures securities by using quoted market prices for similar securities or dealer quotes, a Level 2 measurement. This category generally includes U.S. Government agency securities, state and municipal securities, mortgage-backed securities (“MBS”), commercial MBS, collateralized mortgage obligations, asset-backed securities, and corporate bonds.

 

  Loans held for sale. The Company records loans held for sale at fair value based on quoted price from third party sources, or appraisal reports adjusted by sales commission assumptions.

 

  Loans. Fair values were estimated for portfolios of loans with similar financial characteristics. Each loan category was further segmented into fixed and adjustable rate interest terms and by performing and non-performing categories.

 

      The fair value of performing loans was calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk inherent in the loan, a Level 3 measurement.

 

The fair value of impaired loans was calculated based on the net realizable fair value of the collateral or the observable market price of the most recent sale or quoted price from loans held for sale. The Company does not record loans at fair value on a recurring basis. Nonrecurring fair value adjustments to collateral dependent impaired loans are recorded based on the current appraised value of the collateral, a Level 2 measurement.

 

      Deposit Liabilities. The fair value of demand deposits, savings accounts, and certain money market deposits was assumed to be the amount payable on demand at the reporting date. The fair value of fixed-maturity certificates of deposit was estimated using the rates currently offered for deposits with similar remaining maturities, a Level 3 measurement.

 

 
28

 

 

      Securities Sold under Agreements to Repurchase. The fair value of securities sold under agreements to repurchase is based on dealer quotes, a Level 2 measurement.

 

      Advances from Federal Home Loan Bank (“FHLB”). The fair value of the advances is based on quotes from the FHLB to settle the advances, a Level 2 measurement.

 

  Other Borrowings. This category includes borrowings from other financial institutions.  The fair value of other borrowings is calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk, a Level 3 measurement. 

 

  Long-term Debt. The fair value of long-term debt is estimated based on the quoted market prices or dealer quotes, a Level 2 measurement.

 

  Foreign Exchange Contracts. The Company measures the fair value of foreign exchange contracts based on dealer quotes, a Level 2 measurement.

 

  Interest Rate Swaps. Fair value of interest rate swaps is derived from third party models with observable market data, a Level 2 measurement.

 

  Off-Balance-Sheet Financial Instruments. The fair value of commitments to extend credit, standby letters of credit, and financial guarantees written were estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the counterparties. The fair value of guarantees and letters of credit was based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligations with the counterparties at the reporting date. The fair value of off-balance-sheet financial instruments was based on the assumptions that a market participant would use, a Level 3 measurement.

 

Fair value was estimated in accordance with ASC Topic 825. Fair value estimates were made at specific points in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Bank’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Bank’s financial instruments, fair value estimates were based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates were subjective in nature and involved uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

 

 
29

 

 

The following table presents the estimated fair value of financial instruments as of March 31, 2015, and as of December 31, 2014:

 

   

March 31, 2015

   

December 31, 2014

 
   

Carrying

           

Carrying

         
   

Amount

   

Fair Value

   

Amount

   

Fair Value

 
   

(In thousands)

 

Financial Assets

                               

Cash and due from banks

  $ 182,159     $ 182,159     $ 176,830     $ 176,830  

Short-term investments

    618,726       618,726       489,614       489,614  

Securities available-for-sale

    1,203,682       1,203,682       1,318,935       1,318,935  

Loans held for sale

    -       -       973       1,225  

Loans, net

    9,057,592       9,001,232       8,740,268       8,688,072  

Investment in Federal Home Loan Bank stock

    25,000       25,000       30,785       30,785  

Warrants

    21       21       27       27  

 

   

Notional

           

Notional

         
   

Amount

   

Fair Value

   

Amount

   

Fair Value

 

Foreign exchange contracts

  $ 127,172     $ 1,615     $ 167,005     $ 1,876  
                                 

 

Financial Liabilities

 

Carrying

           

Carrying

         
   

Amount

   

Fair Value

   

Amount

   

Fair Value

 
                                 

Deposits

  $ 9,113,250     $ 9,114,489     $ 8,783,460     $ 8,785,342  

Securities sold under agreements to repurchase

    400,000       422,161       450,000       473,816  

Advances from Federal Home Loan Bank

    485,000       484,983       425,000       424,974  

Other borrowings

    22,482       19,396       19,934       17,978  

Long-term debt

    119,136       60,020       119,136       59,425  

 

   

Notional

           

Notional

         
   

Amount

   

Fair Value

   

Amount

   

Fair Value

 

Foreign exchange contracts

  $ 158,331     $ 4,959     $ 178,868     $ 5,007  

Interest rate swaps

    299,497       8,610       300,480       4,626  
                                 

 

   

Notional

           

Notional

         
   

Amount

   

Fair Value

   

Amount

   

Fair Value

 

Off-Balance Sheet Financial Instruments

                         

Commitments to extend credit

  $ 2,027,773     $ (3,740 )   $ 2,071,766     $ (3,442 )

Standby letters of credit

    49,585       (238 )     53,910       (243 )

Other letters of credit

    50,558       (34 )     48,142       (29 )

Bill of lading guarantees

    159       -       108       -  

  

 

The following tables present the level in the fair value hierarchy for the estimated fair values of only financial instruments that are not already included on the condensed consolidated balance sheets at fair value as of March 31, 2015, and December 31, 2014.

 

   

March 31, 2015

 
   

Estimated

                         
   

Fair Value

                         
   

Measurements

   

Level 1

   

Level 2

   

Level 3

 
   

(In thousands)

 

Financial Assets

                               

Cash and due from banks

  $ 182,159     $ 182,159     $ -     $ -  

Short-term investments

    618,726       618,726       -       -  

Securities available-for-sale

    1,203,682       356,104       847,578       -  

Loans, net

    9,001,232       -       -       9,001,232  

Investment in Federal Home Loan Bank stock

    25,000       -       25,000       -  

Warrants

    21       -       -       21  

Financial Liabilities

                               

Deposits

    9,114,489       -       -       9,114,489  

Securities sold under agreements to repurchase

    422,161       -       422,161       -  

Advances from Federal Home Loan Bank

    484,983       -       484,983       -  

Other borrowings

    19,396       -       -       19,396  

Long-term debt

    60,020       -       60,020       -  

 

 
30

 

 

 

   

December 31, 2014

 
   

Estimated

                         
   

Fair Value

                         
   

Measurements

   

Level 1

   

Level 2

   

Level 3

 
   

(In thousands)

 

Financial Assets

                               

Cash and due from banks

  $ 176,830     $ 176,830     $ -     $ -  

Short-term investments

    489,614       489,614       -       -  

Securities available-for-sale

    1,318,935       669,870       649,065       -  

Loans held-for-sale

    1,225       -       -       1,225  

Loans, net

    8,688,072       -       -       8,688,072  

Investment in Federal Home Loan Bank stock

    30,785       -       30,785       -  

Warrants

    27       -       -       27  

Financial Liabilities

                               

Deposits

    8,785,342       -       -       8,785,342  

Securities sold under agreements to repurchase

    473,816       -       473,816       -  

Advances from Federal Home Loan Bank

    424,974       -       424,974       -  

Other borrowings

    17,978       -       -       17,978  

Long-term debt

    59,425       -       59,425       -  

 

 

13. Goodwill and Goodwill Impairment

 

The Company’s policy is to assess goodwill for impairment at the reporting unit level on an annual basis or between annual assessments if a triggering event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount.  Impairment is the condition that exists when the carrying amount of goodwill exceeds its implied fair value.  

 

The Company first assesses qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test described in ASC Topic 350. The two-step impairment testing process, if needed, begins by assigning net assets and goodwill to our two reporting unitsCommercial Lending and Retail Banking.  The Company then completes “step one” of the impairment test by comparing the fair value of each reporting unit (as determined based on the discussion below) with the recorded book value (or “carrying amount”) of its net assets, with goodwill included in the computation of the carrying amount.  If the fair value of a reporting unit exceeds its carrying amount, goodwill of that reporting unit is not considered impaired, and “step two” of the impairment test is not necessary.  If the carrying amount of a reporting unit exceeds its fair value, step two of the impairment test is performed to determine the amount of impairment.  Step two of the impairment test compares the carrying amount of the reporting unit’s goodwill to the “implied fair value” of that goodwill.  The implied fair value of goodwill is computed by assuming that all assets and liabilities of the reporting unit would be adjusted to the current fair value, with the offset as an adjustment to goodwill.  This adjusted goodwill balance is the implied fair value used in step two.  An impairment charge is recognized for the amount by which the carrying amount of goodwill exceeds its implied fair value.

 

At March 31, 2015, the Company’s market capitalization was above book value and there was no triggering event that required the Company to assess goodwill for impairment as of an interim date.

 

 
31

 

 

14. Financial Derivatives

 

 

It is the policy of the Company not to speculate on the future direction of interest rates. However, the Company enters into financial derivatives in order to seek mitigation of exposure to interest rate risks related to our interest-earning assets and interest-bearing liabilities. We believe that these transactions, when properly structured and managed, may provide a hedge against inherent interest rate risk in the Company’s assets or liabilities and against risk in specific transactions. In such instances, the Company may enter into interest rate swap contracts or other types of financial derivatives. Prior to considering any hedging activities, we seek to analyze the costs and benefits of the hedge in comparison to other viable alternative strategies. All hedges must be approved by the Bank’s Investment Committee.

 

The Company follows ASC Topic 815 that establishes accounting and reporting standards for financial derivatives, including certain financial derivatives embedded in other contracts, and hedging activities. It requires the recognition of all financial derivatives as assets or liabilities in the Company’s consolidated balance sheet and measurement of those financial derivatives at fair value. The accounting treatment of changes in fair value is dependent upon whether or not a financial derivative is designated as a hedge and, if so, the type of hedge. Fair value is determined using third-party models with observable market data. For derivatives designated as cash flow hedges, changes in fair value are recognized in other comprehensive income and are reclassified to earnings when the hedged transaction is reflected in earnings. For derivatives designated as fair value hedges, changes in the fair value of the derivatives are reflected in current earnings, together with changes in the fair value of the related hedged item if there is a highly effective correlation between changes in the fair value of the interest rate swaps and changes in the fair value of the underlying asset or liability that is intended to be hedged. If there is not a highly effective correlation between changes in the fair value of the interest rate swap and changes in the fair value of the underlying asset or liability that is intended to be hedged, then only the changes in the fair value of the interest rate swaps are reflected in the Company’s consolidated financial statements.

 

In May 2014, Bancorp entered into five interest rate swap contracts in the notional amount of $119.1 million for a period of ten years. The objective of these interest rate swap contracts, which were designated as hedging instruments in cash flow hedges, was to hedge the quarterly interest payments on Bancorp’s $119.1 million of Junior Subordinated Debentures that had been issued to five trusts throughout the ten-year period beginning in June 2014 and ending in June 2024, from the risk of variability of these payments resulting from changes in the three-month LIBOR interest rate. Bancorp pays a weighted average fixed interest rate of 2.61% and receives a variable interest rate of three-month LIBOR at a weighted average rate of 0.27%. As of March 31, 2015, the notional amount of cash flow interest rate swaps was $119.1 million and their unrealized loss of $4.0 million, net of taxes, was included in other comprehensive income. The amount of periodic net settlement of interest rate swaps included in interest expense was $703,000 for the three months ended March 31, 2015, compared to zero for the same quarter a year ago.

 

 

 
32

 

 

In June 2014, the Bank entered into ten interest rate swap contracts in the notional amount of $148.1 million for various terms from four to eight years. In October 2014, the Bank entered into four additional interest rate swap contracts in the notional amount of $34.9 million. These interest rate swap contracts that are matched to individual fixed-rate commercial real estate loans in the Bank’s loan portfolio. These contracts have been designated as hedging instruments to hedge the risk of changes in the fair value of the underlying commercial real estate loan due to changes in interest rates. The swap contracts are structured so that the notional amounts reduce over time to match the contractual amortization of the underlying loan and allow prepayments with the same pre-payment penalty amounts as the related loan. The Bank pays a weighted average fixed rate of 4.60% and receives a variable rate at one month LIBOR rate plus a weighted average spread of 292 basis points, or at a weighted average rate of 3.10%. As of March 31, 2015, the notional amount of fair value interest rate swaps was $180.4 million and their unrealized loss of $1.7 million was included in other non-interest income. The amount of periodic net settlement of interest rate swaps reducing interest income was $683,000 for the three months ended March 31, 2015. As of March 31, 2015, the ineffective portion of these interest rate swaps was not significant.

 

Interest rate swap contracts involve the risk of dealing with institutional derivative counterparties and their ability to meet contractual terms. Institutional counterparties must have a strong credit profile and be approved by the Company’s Board of Directors. The Company’s credit exposure on interest rate swaps is limited to the net favorable value and interest payments of all swaps by each counterparty. Credit exposure may be reduced by the amount of collateral pledged by the counterparty. Bancorp’s interest rate swaps have been assigned by the counterparties to a derivatives clearing organization and daily margin is indirectly maintained with the derivatives clearing organization. Cash posted as collateral by Bancorp related to derivative contracts totaled $11.4 million as of March 31, 2015.

 

The Company enters into foreign exchange forward contracts with various counterparties to mitigate the risk of fluctuations in foreign currency exchange rates for foreign exchange certificates of deposit or foreign exchange contracts entered into with our clients. These contracts are not designated as hedging instruments and are recorded at fair value in our condensed consolidated balance sheets. Changes in the fair value of these contracts as well as the related foreign exchange certificates of deposit and foreign exchange contracts are recognized immediately in net income as a component of non-interest income. Period end gross positive fair values are recorded in other assets and gross negative fair values are recorded in other liabilities. At March 31, 2015, spot, forward, and swap contracts in the total notional amount of $127.2 million had a positive fair value of $1.6 million. Spot, forward, and swap contracts in the total notional amount of $158.3 million had a negative fair value of $5.0 million at March 31, 2015. At December 31, 2014, spot, forward, and swap contracts in the total notional amount of $167.0 million had a positive fair value of $1.9 million at. Spot, forward, and swap contracts in the total notional amount of $178.9 million had a negative fair value of $5.0 million at December 31, 2014.

 

15. Balance Sheet Offsetting

 

Certain financial instruments, including resell and repurchase agreements, securities lending arrangements and derivatives, may be eligible for offset in the consolidated balance sheet and/or subject to master netting arrangements or similar agreements. The Company’s securities sold with agreements to repurchase and derivative transactions with upstream financial institution counterparties are generally executed under International Swaps and Derivative Association master agreements which include “right of set-off” provisions. In such cases there is generally a legally enforceable right to offset recognized amounts and there may be an intention to settle such amounts on a net basis. Nonetheless, the Company does not generally offset such financial instruments for financial reporting purposes.

 

 

 
33

 

 

Financial instruments that are eligible for offset in the condensed consolidated balance sheets, as of March 31, 2015, and December 31, 2014, are presented in the following table:

 

 

                           

Gross Amounts Not Offset in the Balance Sheet

 
   

Gross Amounts of Recognized

   

Gross Amounts Offset in the Balance Sheet

   

Net Amounts Presented in the Balance Sheet

   

Financial Instruments

   

Collateral Posted

   

Net Amount

 

March 31, 2015

 

(In thousands)

 
                                                 

Liabilities:

                                               

Securities sold under agreements to repurchase

  $ 400,000     $ -     $ 400,000     $ -     $ (400,000 )   $ -  

Derivatives

  $ 8,610     $ -     $ 8,610     $ -     $ (8,610 )   $ -  
                                                 

December 31, 2014

                                               
                                                 

Liabilities:

                                               

Securities sold under agreements to repurchase

  $ 450,000     $ -     $ 450,000     $ -     $ (450,000 )   $ -  

Derivatives

  $ 4,626     $ -     $ 4,626     $ -     $ (4,626 )   $ -  

 

 

16. Stockholders’ Equity

 

Total equity was $1.63 billion at March 31, 2015, an increase of $31.4 million, or 2.0%, from $1.60 billion at December 31, 2014, primarily due to increases in net income of $36.0 million and increases in other comprehensive income of $4.9 million offset by common stock cash dividends of $8.0 million.

 

Activity in accumulated other comprehensive income, net of tax, and reclassification out of accumulated other comprehensive income for the three months ended March 31, 2015, and March 31, 2014, was as follows:

 

 

 
34

 

 

 

 

   

Three months ended March 31, 2015

   

Three months ended March 31, 2014

 
   

Pre-tax

   

Tax

expense/

(benefit)

   

Net-of-tax

   

Pre-tax

   

Tax expense/

(benefit)

   

Net-of-tax

 

Beginning balance, loss, net of tax

 

(In thousands)

 

Securities available-for sale

                  $ (3,172 )                   $ (29,729 )

Cash flow hedge derivatives

                    (2,397 )                     -  

Total

                  $ (5,569 )                   $ (29,729 )
Net unrealized gains/(losses) arising during the period                                                

Securities available-for sale

  $ 11,213     $ 4,714     $ 6,499     $ 19,141     $ 8,047     $ 11,094  

Cash flow hedge derivatives

    (2,740 )     (1,152 )     (1,588 )     -       -       -  

Total

    8,473       3,562       4,911       19,141       8,047     $ 11,094  
Reclassification adjustment for net losses/(gains) in net income                                                

Securities available-for sale

    21       9       12       (5,961 )     (2,506 )     (3,455 )

Cash flow hedge derivatives

    -       -       -       -       -       -  

Total

    21       9       12       (5,961 )     (2,506 )     (3,455 )

Total other comprehensive income/(loss)

                                               

Securities available-for sale

    11,234       4,723       6,511       13,180       5,541       7,639  

Cash flow hedge derivatives

    (2,740 )     (1,152 )     (1,588 )     -       -       -  

Total

  $ 8,494     $ 3,571     $ 4,923     $ 13,180     $ 5,541     $ 7,639  

Ending balance, income/(loss), net of tax

                                               

Securities available-for sale

                  $ 3,339                     $ (22,090 )

Cash flow hedge derivatives

                    (3,985 )                     -  

Total

                  $ (646 )                   $ (22,090 )

 

 

 

Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

 

The following discussion is based on the assumption that the reader has access to and has read the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

 

Critical Accounting Policies

 

The discussion and analysis of the Company’s unaudited condensed consolidated balance sheets and results of operations are based upon its unaudited condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these condensed consolidated financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues, and expenses, and related disclosures of contingent assets and liabilities at the date of our financial statements. Actual results may differ from these estimates under different assumptions or conditions.

 

Management of the Company considers the following to be critical accounting policies:

 

Accounting for the allowance for credit losses involves significant judgments and assumptions by management, which have a material impact on the carrying value of net loans. The judgments and assumptions used by management are based on historical experience and other factors, which are believed to be reasonable under the circumstances as described in “Allowance for Credit Losses” under “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

 

 
35

 

 

Accounting for investment securities involves significant judgments and assumptions by management, which have a material impact on the carrying value of securities and the recognition of any “other-than-temporary” impairment to our investment securities. The judgments and assumptions used by management are described in “Investment Securities” under “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

 

Accounting for income taxes involves significant judgments and assumptions by management, which have a material impact on the amount of taxes currently payable and the income tax expense recorded in the financial statements. The judgments and assumptions used by management are described in “Income Taxes” under “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

 

Accounting for goodwill and goodwill impairment involves significant judgments and assumptions by management, which have a material impact on the amount of goodwill and noninterest expense recorded in the financial statements. The judgments and assumptions used by management are described in “Goodwill and Goodwill Impairment” under “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

 

 

Highlights

 

 

Diluted earnings per share increased 15.4% to $0.45 per share for the first quarter of 2015 compared to $0.39 per share for the same quarter a year ago.

 

 

Total loans increased $309.7 million, or 3.5%, in the first quarter of 2015, to $9.2 billion at March 31, 2015, compared to $8.9 billion at December 31, 2014.

 

Quarterly Statement of Operations Review

 

Net Income

 

Net income for the quarter ended March 31, 2015, was $36.0 million, an increase of $4.7 million, or 15.1%, compared to net income of $31.3 million for the same quarter a year ago. Diluted earnings per share available to common stockholders for the quarter ended March 31, 2015, was $0.45 compared to $0.39 for the same quarter a year ago due primarily to an increase in net interest income and a negative provision for credit losses in 2015.

 

Return on average stockholders’ equity was 8.97% and return on average assets was 1.30% for the quarter ended March 31, 2015, compared to a return on average stockholders’ equity of 8.53% and a return on average assets of 1.19% for the same quarter a year ago.

 

 

 
36

 

 

Financial Performance

 

   

Three months ended March 31,

 
   

2015

   

2014

 

Net income (in millions)

 

$

36.0    

$

31.3  

Net income available to common stockholders (in millions)

 

$

36.0    

$

31.3  

Basic earnings per common share

  $ 0.45     $ 0.39  

Diluted earnings per common share

  $ 0.45     $ 0.39  

Return on average assets

    1.30 %     1.19 %

Return on average total stockholders' equity

    8.97 %     8.53 %

Efficiency ratio

    45.74 %     49.44 %

 

 

Net Interest Income Before Provision for Credit Losses

 

Net interest income before provision for credit losses increased $5.3 million, or 6.4%, to $87.9 million during the first quarter of 2015 compared to $82.7 million during the same quarter a year ago. The increase was due primarily to the increase in loan interest income and the decrease in interest expense from securities sold under agreements to repurchase, offset by the decrease in interest income from available-for-sale securities.

 

The net interest margin, on a fully taxable-equivalent basis, was 3.41% for the first quarter of 2015, compared to 3.36% for the fourth quarter of 2014 and 3.38% for the first quarter of 2014. The increase in the net interest margin was due to the impact from the increase in loans and the decrease in securities sold under agreements to repurchase, offset by decreases in investment securities.

 

For the first quarter of 2015, the yield on average interest-earning assets was 4.08%, the cost of funds on average interest-bearing liabilities was 0.88%, and the cost of interest bearing deposits was 0.65%. In comparison, for the first quarter of 2014, the yield on average interest-earning assets was 4.14%, the cost of funds on average interest-bearing liabilities was 0.99%, and the cost of interest bearing deposits was 0.65%. The net interest spread, defined as the difference between the yield on average interest-earning assets and the cost of funds on average interest-bearing liabilities, increased to 3.20% for the quarter ended March 31, 2015, from 3.15% for the same quarter a year ago.

 

 

 
37

 

 

The following table sets forth information concerning average interest-earning assets, average interest-bearing liabilities, and the average yields and rates paid on those assets and liabilities for the three months ended March 31, 2015, and March 31, 2014. Average outstanding amounts included in the table are daily averages.

 

 

Interest-Earning Assets and Interest-Bearing Liabilities

 
   

Three months ended March 31,

 
   

2015

   

2014

 
           

Interest

   

Average

           

Interest

   

Average

 
   

Average

   

Income/

   

Yield/

   

Average

   

Income/

   

Yield/

 

(Dollars in thousands)

 

Balance

   

Expense

   

Rate (1)(2)

   

Balance

   

Expense

   

Rate (1)(2)

 

Interest earning assets:

                                               

Commercial loans

  $ 2,443,541     $ 23,297       3.87 %   $ 2,260,590     $ 21,312       3.82 %

Residential mortgage loans

    1,753,532       20,150       4.60       1,567,706       18,470       4.71  

Commercial mortgage loans

    4,563,911       51,980       4.62       4,075,694       49,614       4.94  

Real estate construction loans

    313,635       4,654       6.02       233,245       3,310       5.76  

Other loans and leases

    3,558       19       2.17       19,951       26       0.53  

Total loans and leases (1)

    9,078,177       100,100       4.47       8,157,186       92,732       4.61  

Taxable securities

    1,164,032       3,774       1.31       1,581,642       7,576       1.94  

Federal Home Loan Bank stock

    30,271       581       7.78       25,054       450       7.28  

Interest bearing deposits

    169,633       479       1.15       148,241       449       1.23  

Total interest-earning assets

    10,442,113       104,934       4.08       9,912,123       101,207       4.14  

Non-interest earning assets:

                                               

Cash and due from banks

    194,634                       136,063                  

Other non-earning assets

    741,288                       786,069                  

Total non-interest earning assets

    935,922                       922,132                  

Less: Allowance for loan losses

    (163,452 )                     (174,934 )                

Deferred loan fees

    (11,722 )                     (13,341 )                

Total assets

  $ 11,202,861                     $ 10,645,980                  
                                                 

Interest bearing liabilities:

                                               

Interest bearing demand accounts

  $ 798,985     $ 319       0.16     $ 682,765     $ 273       0.16  

Money market accounts

    1,538,722       2,264       0.60       1,275,726       1,927       0.61  

Savings accounts

    532,372       190       0.14       498,390       92       0.07  

Time deposits

    4,304,872       8,793       0.83       4,171,061       8,400       0.82  

Total interest-bearing deposits

    7,174,951       11,566       0.65       6,627,942       10,692       0.65  
                                                 

Securities sold under agreements to repurchase

    403,333       3,925       3.95       707,222       6,930       3.97  

Other borrowings

    100,072       93       0.38       175,252       199       0.46  

Long-term debt

    119,136       1,424       4.85       121,136       728       2.44  

Total interest-bearing liabilities

    7,797,492       17,008       0.88       7,631,552       18,549       0.99  

Non-interest bearing liabilities:

                                               

Demand deposits

    1,665,791                       1,445,269                  

Other liabilities

    112,241                       82,954                  

Total equity

    1,627,337                       1,486,205                  

Total liabilities and equity

  $ 11,202,861                     $ 10,645,980                  

Net interest spread

                    3.20 %                     3.15 %

Net interest income

          $ 87,926                     $ 82,658          

Net interest margin

                    3.41 %                     3.38 %

 

(1) Yields and amounts of interest earned include loan fees. Non-accrual loans are included in the average balance.

(2) Calculated by dividing net interest income by average outstanding interest-earning assets.

 

 
38

 

 

 

The following table summarizes the changes in interest income and interest expense attributable to changes in volume and changes in interest rates:

 

Taxable-Equivalent Net Interest Income — Changes Due to Rate and Volume(1)  
   

Three months ended March 31,

 
    2015-2014  
   

Increase (Decrease) in

 
   

Net Interest Income Due to:

 

(Dollars in thousands)

 

Changes in Volume

   

Changes in Rate

   

Total Change

 
                         

Interest-earning assets:

                       

Loans and leases

    10,283       (2,915 )     7,368  

Taxable securities

    (1,710 )     (2,092 )     (3,802 )

Federal Home Loan Bank stock

    98       33       131  

Deposits with other banks

    63       (33 )     30  

Total changes in interest income

    8,734       (5,007 )     3,727  
                         

Interest-bearing liabilities:

                       

Interest bearing demand accounts

    46       -       46  

Money market accounts

    389       (52 )     337  

Savings accounts

    7       91       98  

Time deposits

    272       121       393  

Securities sold under agreements to repurchase

    (2,958 )     (47 )     (3,005 )

Other borrowed funds

    (74 )     (32 )     (106 )

Long-term debt

    (13 )     709       696  

Total changes in interest expense

    (2,331 )     790       (1,541 )

Changes in net interest income

  $ 11,065     $ (5,797 )   $ 5,268  

 

 

(1)

Changes in interest income and interest expense attributable to changes in both volume and rate have been  allocated proportionately to changes due to volume and changes due to rate.     

        

        

 

 

Provision for Credit Losses

 

Provision for credit losses was a credit of $5.0 million for the first quarter of 2015 compared to zero for the first quarter of 2014. The provision for credit losses was based on the review of the adequacy of the allowance for loan losses at March 31, 2015. The provision or reversal for credit losses represents the charge against or benefit toward current earnings that is determined by management, through a credit review process, as the amount needed to establish an allowance that management believes to be sufficient to absorb credit losses inherent in the Company’s loan portfolio, including unfunded commitments. The following table summarizes the charge-offs and recoveries for the periods indicated:

  

   

Three months ended

 
   

March 31, 2015

   

December 31, 2014

   

March 31, 2014

 
   

(In thousands)

 

Charge-offs:

                       

Commercial loans

  $ 864     $ 283     $ 7,226  

Construction loans

    -       4,934       -  

Real estate loans (1)

    3,600       4,286       1,776  

Total charge-offs

    4,464       9,503       9,002  

Recoveries:

                       

Commercial loans

    2,275       867       2,017  

Construction loans

    45       2,409       25  

Real estate loans (1)

    1,813       449       2,580  

Total recoveries

    4,133       3,725       4,622  

Net charge-offs

  $ 331     $ 5,778     $ 4,380  

 

(1) Real estate loans include commercial mortgage loans, residential mortgage loans, and equity lines.

 

 

 
39

 

 

Non-Interest Income

 

Non-interest income, which includes revenues from depository service fees, letters of credit commissions, securities gains (losses), gains (losses) on loan sales, wire transfer fees, and other sources of fee income, was $8.5 million for the first quarter of 2015, a decrease of $6.1 million, or 41.3%, compared to $14.6 million for the first quarter of 2014. The decrease in non-interest income in the first quarter of 2015 was primarily due to a decrease of $6.0 million in gains on sale of securities.

 

Non-Interest Expense

 

Non-interest expense decreased $4.0 million, or 8.2%, to $44.1 million in the first quarter of 2015 compared to $48.1 million in the same quarter a year ago. The decrease in non-interest expense in the first quarter of 2015 was primarily due to a decrease of $3.4 million in costs associated with debt redemptions and a decrease of $835,000 in salaries and employee benefits. The efficiency ratio was 45.74% in the first quarter of 2015 compared to 49.44% for the same quarter a year ago.

 

Income Taxes

 

The effective tax rate for the first quarter of 2015 was 37.3% compared to 36.4% for the first quarter of 2014. The effective tax rate includes the impact of the utilization of low income housing tax credits for both periods.

 

Balance Sheet Review

 

Assets

 

Total assets were $11.9 billion at March 31, 2015, an increase of $393.2 million, or 3.4%, from $11.5 billion at December 31, 2014, primarily due to a $309.7 million increase in loans and a $129.1 million increase in short-term investments offset by a $115.3 million decrease in securities available-for-sale.

 

Investment Securities

 

Investment securities represented 10.1% of total assets at March 31, 2015, compared with 11.5% of total assets at December 31, 2014. The carrying value of investment securities at March 31, 2015, was $1.20 billion compared with $1.32 billion at December 31, 2014. Securities available-for-sale are carried at fair value and had a net unrealized gain, net of tax, of $3.3 million at March 31, 2015, compared with a net unrealized loss, net of tax, of $5.6 million at December 31, 2014.

 

 
40

 

 

The following tables reflect the amortized cost, gross unrealized gains, gross unrealized losses, and fair value of investment securities as of March 31, 2015, and December 31, 2014:

 

 

   

March 31, 2015

 
           

Gross

   

Gross

         
   

Amortized

   

Unrealized

   

Unrealized

         
   

Cost

   

Gains

   

Losses

   

Fair Value

 
   

(In thousands)

 
                                 

Securities Available-for-Sale

                               

U.S. treasury securities

  $ 349,830     $ 353     $ -     $ 350,183  

Mortgage-backed securities

    756,758       3,904       333       760,329  

Collateralized mortgage obligations

    74       -       32       42  

Corporate debt securities

    74,946       730       1,165       74,511  

Mutual funds

    6,000       -       79       5,921  

Preferred stock of government sponsored entities

    6,686       844       3,584       3,946  

Other equity securities

    3,628       5,125       3       8,750  

Total

  $ 1,197,922     $ 10,956     $ 5,196     $ 1,203,682  

 

 

   

December 31, 2014

 
           

Gross

   

Gross

         
   

Amortized

   

Unrealized

   

Unrealized

         
   

Cost

   

Gains

   

Losses

   

Fair Value

 
   

(In thousands)

 
                                 

Securities Available-for-Sale

                               

U.S. treasury securities

  $ 664,206     $ 63     $ 265     $ 664,004  

Mortgage-backed securities

    549,296       1,393       6,386       544,303  

Collateralized mortgage obligations

    79       -       34       45  

Corporate debt securities

    94,943       776       1,247       94,472  

Mutual funds

    6,000       -       134       5,866  

Preferred stock of government sponsored entities

    6,276       681       3,733       3,224  

Other equity securities

    3,608       3,413       -       7,021  

Total

  $ 1,324,408     $ 6,326     $ 11,799     $ 1,318,935  

 

 

For additional information, see Note 6 to the Company’s condensed consolidated financial statements presented elsewhere in this report.

 

Investment securities having a carrying value of $575.5 million at March 31, 2015, and $591.3 million at December 31, 2014, were pledged to secure public deposits, other borrowings, treasury tax and loan, and securities sold under agreements to repurchase. 

 

 
41

 

 

Loans

 

Gross loans, excluding loans held for sale, were $9.22 billion at March 31, 2015, an increase of $310.7 million, or 3.5%, from $8.91 billion at December 31, 2014, primarily due to increases of $176.6 million, or 3.9%, in commercial mortgage loans, $52.1 million, or 2.2%, in commercial loans, $46.9 million, or 15.7%, in real estate construction loans, and $30.2 million, or 1.9%, in residential mortgage loans. The following table sets forth the classification of loans by type, mix, and percentage change as of the dates indicated:

 

 

   

March 31, 2015

   

% of Gross Loans

   

December 31, 2014

   

% of Gross Loans

   

% Change

 

Type of Loans

 

(Dollars in thousands)

 

Commercial loans

  $ 2,434,550       26.4 %   $ 2,382,493       26.7 %     2.2 %

Residential mortgage loans

    1,600,269       17.3       1,570,059       17.6       1.9  

Commercial mortgage loans

    4,663,051       50.6       4,486,443       50.3       3.9  

Equity lines

    175,997       1.9       172,879       2.0       1.8  

Real estate construction loans

    345,560       3.7       298,654       3.4       15.7  

Installment and other loans

    5,370       0.1       3,552       0.0       51.2  

Gross loans

  $ 9,224,797       100 %   $ 8,914,080       100 %     3.5 %
                                         

Allowance for loan losses

    (156,089 )             (161,420 )             (3.3 )

Unamortized deferred loan fees

    (11,116 )             (12,392 )             (10.3 )
                                         

Total loans, net

  $ 9,057,592             $ 8,740,268               3.6 %
                                         

Loans held for sale

  $ -             $ 973               (100% )

 

 

 

Non-performing Assets

 

Non-performing assets include loans past due 90 days or more and still accruing interest, non-accrual loans, and other real estate owned. The Company’s policy is to place loans on non-accrual status if interest and/or principal is past due 90 days or more, or in cases where management deems the full collection of principal and interest unlikely. After a loan is placed on non-accrual status, any previously accrued but unpaid interest is reversed and charged against current income and subsequent payments received are generally first applied towards the outstanding principal balance of the loan. Depending on the circumstances, management may elect to continue the accrual of interest on certain past due loans if partial payment is received and/or the loan is well collateralized and in the process of collection. The loan is generally returned to accrual status when the borrower has brought the past due principal and interest payments current and, in the opinion of management, the borrower has demonstrated the ability to make future payments of principal and interest as scheduled.

 

Management reviews the loan portfolio regularly for problem loans. During the ordinary course of business, management becomes aware of borrowers that may not be able to meet the contractual requirements of the loan agreements. Such loans are placed under closer supervision with consideration given to placing the loans on non-accrual status, the need for an additional allowance for loan losses, and (if appropriate) partial or full charge-off.

 

The ratio of non-performing assets, excluding non-accrual loans held for sale, to total assets was 0.9% at March 31, 2015, compared to 0.9% at December 31, 2014. Total non-performing assets increased $10.3 million, or 10.1%, to $111.9 million at March 31, 2015, compared to $101.6 million at December 31, 2014, primarily due to a $10.2 million, or 14.5%, increase in non-accrual loans.

 

As a percentage of gross loans plus OREO, our non-performing assets increased to 1.21% at March 31, 2015, from 1.14% at December 31, 2014. The non-performing portfolio loan coverage ratio, defined as the allowance for credit losses to non-performing loans, decreased to 194.5% at March 31, 2015, from 232.8% at December 31, 2014.

 

 
42

 

 

The following table presents the changes in non-performing assets and troubled debt restructurings (TDRs) at March 31, 2015, compared to December 31, 2014, and to March 31, 2014:

 

 

(Dollars in thousands)

 

March 31, 2015

   

December 31, 2014

   

% Change

   

March 31, 2014

   

% Change

 

Non-performing assets

                                       

Accruing loans past due 90 days or more

  $ 787     $ -       100     $ 974       (19 )

Non-accrual loans:

                                       

Construction loans

    17,126       19,963       (14 )     28,042       (39 )

Commercial real estate loans

    43,079       35,606       21       17,042       153  

Commercial loans

    12,086       6,983       73       13,806       (12 )

Residential mortgage loans

    8,033       7,611       6       11,498       (30 )

Total non-accrual loans:

  $ 80,324     $ 70,163       14     $ 70,388       14  

Total non-performing loans

    81,111       70,163       16       71,362       14  

Other real estate owned

    30,799       31,477       (2 )     44,853       (31 )

Total non-performing assets

  $ 111,910     $ 101,640       10     $ 116,215       (4 )

Accruing troubled debt restructurings (TDRs)

  $ 100,393     $ 104,356       (4 )   $ 118,922       (16 )

Non-accrual loans held for sale

  $ -     $ 973       (100 )   $ -       -  
                                         

Allowance for loan losses

  $ 156,089     $ 161,420       (3 )   $ 169,138       (8 )

Allowance for off-balance sheet credit commitments

    1,652       1,949       (15 )     1,734       (5 )

Allowance for credit losses

  $ 157,741     $ 163,369       (3 )   $ 170,872       (8 )
                                         

Total gross loans outstanding, at period-end (1)

  $ 9,224,797     $ 8,914,080       3     $ 8,302,282       11  
                                         

Allowance for loan losses to non-performing loans, at period-end (2)

    192.44 %     230.06 %             237.01 %        

Allowance for loan losses to gross loans, at period-end (1)

    1.69 %     1.81 %             2.04 %        

Allowance for credit losses to gross loans, at period-end (1)

    1.71 %     1.83 %             2.06 %        

 

(1) Excludes loans held for sale at period-end         

(2) Excludes non-accrual loans held for sale at period-end         

 

 

Non-accrual Loans

 

At March 31, 2015, total non-accrual loans were $80.3 million, an increase of $9.9 million, or 14.1%, from $70.4 million at March 31, 2014, and an increase of $10.2 million, or 14.5% from $70.2 million at December 31, 2014. The allowance for the collateral-dependent loans is calculated based on the difference between the outstanding loan balance and the value of the collateral as determined by recent appraisals, sales contracts, or other available market price information. The allowance for collateral-dependent loans varies from loan to loan based on the collateral coverage of the loan at the time of designation as non-performing. We continue to monitor the collateral coverage, based on recent appraisals, of these loans on a quarterly basis and adjust the allowance accordingly. Non-accrual loans also include those TDRs that do not qualify for accrual status.

 

 
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The following tables present the type of properties securing the non-accrual portfolio loans and the type of businesses the borrowers engaged in as of the dates indicated:

 

 

    March 31, 2015     December 31, 2014  
   

Real

           

Real

         
   

Estate (1)

   

Commercial

   

Estate (1)

   

Commercial

 
   

(In thousands)

 

Type of Collateral

                               

Single/multi-family residence

  $ 9,491     $ 1,143     $ 9,068     $ 1,184  

Commercial real estate

    43,426       841       48,256       903  

Land

    15,321       -       5,856       -  

Unsecured

    -       10,102       -       4,896  

Total

  $ 68,238     $ 12,086     $ 63,180     $ 6,983  

 

(1) Real estate includes commercial mortgage loans, real estate construction loans, residential mortgage loans and equity lines.        

 

 

   

Real

           

Real

         
   

Estate (1)

   

Commercial

   

Estate (1)

   

Commercial

 
   

(In thousands)

 

Type of Business

                               

Real estate development

  $ 38,008     $ 841     $ 35,299     $ 860  

Wholesale/Retail

    22,579       9,403       20,658       4,078  

Food/Restaurant

    933       144       650       144  

Import/Export

    -       1,698       -       1,901  

Other

    6,718       -       6,573       -  

Total

  $ 68,238     $ 12,086     $ 63,180     $ 6,983  

 

(1) Real estate includes commercial mortgage loans, real estate construction loans, residential mortgage loans and equity lines.        

 

 

 

Other Real Estate Owned 

 

At March 31, 2015, OREO totaled $30.8 million, which decreased $678,000, or 2.2%, compared to $31.5 million at December 31, 2014, and decreased $14.1 million, or 31.3%, compared to $44.9 million at March 31, 2014.

 

 
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Impaired Loans

 

A loan is considered impaired when it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement based on current circumstances and events. The assessment for impairment occurs when and while such loans are on non-accrual as a result of delinquency status of over 90 days or receipt of information indicating that full collection of principal is doubtful, or when the loan has been restructured in a troubled debt restructuring. Those loans with a balance less than our defined selection criteria, generally a loan amount less than $500,000 (less than $100,000 for quarters before June 30, 2012), are treated as a homogeneous portfolio. If loans meeting the defined criteria are not collateral dependent, we measure the impairment based on the present value of the expected future cash flows discounted at the loan’s effective interest rate. If loans meeting the defined criteria are collateral dependent, we measure the impairment by using the loan’s observable market price or the fair value of the collateral. We obtain an appraisal to determine the amount of impairment at the date that the loan becomes impaired. The appraisals are based on “as is” or bulk sale valuations. To ensure that appraised values remain current, we generally obtain an updated appraisal every twelve months from qualified independent appraisers. If the fair value of the collateral, less cost to sell, is less than the recorded amount of the loan, we then recognize impairment by creating or adjusting an existing valuation allowance with a corresponding charge to the provision for loan losses. If an impaired loan is expected to be collected through liquidation of the collateral, the amount of impairment, excluding disposal costs, which range between 3% to 6% of the fair value, depending on the size of the impaired loan, is charged off against the allowance for loan losses. Non-accrual impaired loans, including TDRs, are not returned to accrual status unless the unpaid interest has been brought current and full repayment of the recorded balance is expected or if the borrower has made six consecutive monthly payments of the scheduled amounts due, and TDRs are reviewed for continued impairment until they are no longer reported as TDRs.

 

At March 31, 2015, recorded investment in impaired loans totaled $180.7 million and was comprised of non-accrual loans of $80.3 million and accruing TDRs of $100.4 million. At December 31, 2014, recorded investment in impaired loans totaled $174.5 million and was comprised of non-accrual loans of $70.2 million and accruing TDRs of $104.3 million. For impaired loans, the amounts previously charged off represent 17.0% at March 31, 2015, and 17.1% at December 31, 2014, of the contractual balances for impaired loans. As of March 31, 2015, $68.2 million, or 85.0%, of the $80.3 million of non-accrual loans was secured by real estate compared to $63.2 million, or 90.1%, of the $70.2 million of non-accrual loans, excluding loans held for sale, that was secured by real estate at December 31, 2014. The Bank obtains current appraisals, sales contracts, or other available market price information which provide updated factors in evaluating potential loss.

 

At March 31, 2015, $11.0 million of the $156.1 million allowance for loan losses was allocated for impaired loans and $145.1 million was allocated to the general allowance. At December 31, 2014, $11.8 million of the $161.4 million allowance for loan losses was allocated for impaired loans and $149.6 million was allocated to the general allowance.

 

The allowance for credit losses to non-accrual loans increased to 192.4% at March 31, 2015, from 230.1% at December 31, 2014, primarily due to decreases in non-accrual loans. Non-accrual loans also include those TDRs that do not qualify for accrual status.    

 

 
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The following table presents impaired loans and related allowance as of the dates indicated:

 

 

   

Impaired Loans

 
   

March 31, 2015

   

December 31, 2014

 
   

Unpaid Principal Balance

   

Recorded Investment

   

Allowance

   

Unpaid Principal Balance

   

Recorded Investment

   

Allowance

 
   

(In thousands)

 
                                                 

With no allocated allowance

                                               

Commercial loans

  $ 14,176     $ 13,148     $ -     $ 19,479     $ 18,452     $ -  

Real estate construction loans

    49,076       22,874       -       32,924       17,025       -  

Commercial mortgage loans

    93,468       85,142       -       77,474       75,172       -  

Residential mortgage loans and equity lines

    2,496       2,496       -       2,518       2,518       -  

Subtotal

  $ 159,216     $ 123,660     $ -     $ 132,395     $ 113,167     $ -  

With allocated allowance

                                               

Commercial loans

  $ 15,677     $ 15,660     $ 3,911     $ 7,003     $ 5,037     $ 1,263  

Real estate construction loans

    -       -       -       19,006       8,703       1,077  

Commercial mortgage loans

    27,529       26,581       6,635       38,197       34,022       8,993  

Residential mortgage loans and equity lines

    15,393       14,816       498       14,019       13,590       465  

Subtotal

  $ 58,599     $ 57,057     $ 11,044     $ 78,225     $ 61,352     $ 11,798  

Total impaired loans

  $ 217,815     $ 180,717     $ 11,044     $ 210,620     $ 174,519     $ 11,798  

 

 

Loan Interest Reserves 

 

In accordance with customary banking practice, construction loans and land development loans are originated where interest on the loan is disbursed from pre-established interest reserves included in the total original loan commitment. Our construction and land development loans generally include optional renewal terms after the maturity of the initial loan term. New appraisals are obtained prior to extension or renewal of these loans in part to determine the appropriate interest reserve to be established for the new loan term. Loans with interest reserves are underwritten to the same criteria, including loan to value and, if applicable, pro forma debt service coverage ratios, as loans without interest reserves. Construction loans with interest reserves are monitored on a periodic basis to gauge progress towards completion. Interest reserves are frozen if it is determined that additional draws would result in a loan to value ratio that exceeds policy maximums based on collateral property type. Our policy limits in this regard are consistent with supervisory limits and range from 65% in the case of land to 85% in the case of one to four family residential construction projects.

 

 

As of March 31, 2015, construction loans of $276.9 million were disbursed with pre-established interest reserves of $39.2 million compared to $211.5 million of such loans disbursed with pre-established interest reserves of $35.6 million at December 31, 2014.  The balance for construction loans with interest reserves which have been extended was $58.9 million with pre-established interest reserves of $1.6 million at March 31, 2015, compared to $55.2 million with pre-established interest reserves of $3.1 million at December 31, 2014.  Land loans of $101.0 million were disbursed with pre-established interest reserves of $2.1 million at March 31, 2015, compared to $76.4 million land loans disbursed with pre-established interest reserves of $3.8 million at December 31, 2014.  The balance for land loans with interest reserves which have been extended was $13.2 million with pre-established interest reserves of $170,000 at March 31, 2015, compared to $4.0 million land loans with pre-established interest reserves of $56,000 at December 31, 2014. 

 

 
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At March 31, 2015, the Bank had no loans on non-accrual status with available interest reserves.  At March 31, 2015, $0.5 million of non-accrual residential construction loans, $31.9 million of non-accrual non-residential construction loans, and no non-accrual land loans had been originated with pre-established interest reserves.  At December 31, 2014, the Bank had no loans on non-accrual status with available interest reserves.  At December 31, 2014, $0.5 million of non-accrual residential construction loans, $19.5 million of non-accrual non-residential construction loans, and no non-accrual land loans had been originated with pre-established interest reserves.   While loans with interest reserves are typically expected to be repaid in full according to the original contractual terms, some loans require one or more extensions beyond the original maturity.  Typically, these extensions are required due to construction delays, delays in the sale or lease of property, or some combination of these two factors.

 

 

Loan Concentration

 

Most of the Company’s business activities are with customers located in the predominantly Asian areas of Southern and Northern California; New York City, New York; Dallas and Houston, Texas; Seattle, Washington; Boston, Massachusetts; Chicago, Illinois; Edison, New Jersey; Las Vegas, Nevada, and Hong Kong. The Company has no specific industry concentration, and generally its loans are collateralized with real property or other pledged collateral of the borrowers. Loans are generally expected to be paid off from the operating profits of the borrowers, refinancing by another lender, or through sale by the borrowers of the collateral. There were no loan concentrations to multiple borrowers in similar activities which exceeded 10% of total loans as of March 31, 2015, or as of December 31, 2014.

 

The federal banking regulatory agencies issued final guidance on December 6, 2006, regarding risk management practices for financial institutions with high or increasing concentrations of commercial real estate (“CRE”) loans on their balance sheets. The regulatory guidance reiterates the need for sound internal risk management practices for those institutions that have experienced rapid growth in CRE lending, have notable exposure to specific types of CRE, or are approaching or exceeding the supervisory criteria used to evaluate the CRE concentration risk, but the guidance is not to be construed as a limit for CRE exposure. The supervisory criteria are: (1) total reported loans for construction, land development, and other land represent 100% of the institution’s total risk-based capital, and (2) both total CRE loans represent 300% or more of the institution’s total risk-based capital and the institution’s CRE loan portfolio has increased 50% or more within the last thirty-nine months. Total loans for construction, land development, and other land represented 32% of the Bank’s total risk-based capital as of March 31, 2015, and 30% as of December 31, 2014. Total CRE loans represented 263% of total risk-based capital as of March 31, 2015, and 256% as of December 31, 2014 and were below the Bank’s internal limit for CRE loans of 300% of total capital at both dates.

 

Allowance for Credit Losses

 

The Bank maintains the allowance for credit losses at a level that is considered appropriate to absorb the estimated and known risks in the loan portfolio and off-balance sheet unfunded credit commitments. Allowance for credit losses is comprised of the allowance for loan losses and the reserve for off-balance sheet unfunded credit commitments. With this risk management objective, the Bank’s management has an established monitoring system that is designed to identify impaired and potential problem loans, and to permit periodic evaluation of impairment and the appropriate level of the allowance for credit losses in a timely manner.

 

 
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In addition, the Bank’s Board of Directors has established a written credit policy that includes a credit review and control system which it believes should be effective in ensuring that the Bank maintains an appropriate allowance for credit losses. The Board of Directors provides oversight for the allowance evaluation process, including quarterly evaluations, and determines whether the allowance is appropriate to absorb losses in the credit portfolio. The determination of the amount of the allowance for credit losses and the provision for credit losses is based on management’s current judgment about the credit quality of the loan portfolio and takes into consideration known relevant internal and external factors that affect collectability when determining the appropriate level for the allowance for credit losses. The nature of the process by which the Bank determines the appropriate allowance for credit losses requires the exercise of considerable judgment. Additions to the allowance for credit losses are made by charges to the provision for credit losses. While management utilizes its best judgment based on the information available, the ultimate appropriateness of the allowance is dependent upon a variety of factors beyond the Bank’s control, including the performance of the Bank’s loan portfolio, the economy, changes in interest rates, and the view of the regulatory authorities toward loan classifications. Identified credit exposures that are determined to be uncollectible are charged against the allowance for credit losses. Recoveries of previously charged off amounts, if any, are credited to the allowance for credit losses. A weakening of the economy or other factors that adversely affect asset quality could result in an increase in the number of delinquencies, bankruptcies, or defaults, and a higher level of non-performing assets, net charge-offs, and provision for credit losses in future periods.

 

 
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The allowance for loan losses was $156.1 million and the allowance for off-balance sheet unfunded credit commitments was $1.7 million at March 31, 2015, which represented the amount believed by management to be appropriate to absorb credit losses inherent in the loan portfolio, including unfunded commitments. The allowance for loan losses of $156.1 million at March 31, 2015, a decrease of $5.3 million, or 3.3%, from $161.4 million at December 31, 2014. The allowance for loan losses represented 1.69% of period-end gross loans, and 192.4% of non-performing loans at March 31, 2015. The comparable ratios were 1.81% of period-end gross loans, excluding loans held for sale, and 230.1% of non-performing loans at December 31, 2014. The following table sets forth information relating to the allowance for loan losses, charge-offs, recoveries, and the reserve for off-balance sheet credit commitments for the periods indicated:

 

 

   

For the three months ended

 
   

March 31, 2015

   

March 31, 2014

   

December 31, 2014

 

Allowance for Loan Losses

 

(Dollars in thousands)

 
                         

Balance at beginning of period

  $ 161,420     $ 173,889     $ 169,198  

Reversal for credit losses

    (5,000 )     -       (2,000 )

Transfers to reserve for off-balance sheet credit commitments

    -       (371 )     -  

Charge-offs :

                       

Commercial loans

    (864 )     (7,226 )     (283 )

Construction loans

    -       -       (4,934 )

Real estate loans

    (3,600 )     (1,776 )     (4,286 )

Total charge-offs

    (4,464 )     (9,002 )     (9,503 )

Recoveries:

                       

Commercial loans

    2,275       2,017       867  

Construction loans

    45       25       2,409  

Real estate loans

    1,813       2,580       449  

Total recoveries

    4,133       4,622       3,725  
                         

Balance at end of period

  $ 156,089     $ 169,138     $ 161,420  

Reserve for off-balance sheet credit commitments

                 

Balance at beginning of period

  $ 1,949     $ 1,362     $ 1,844  

Provision/(reversal) for credit losses/transfers

    (297 )     372       105  

Balance at end of period

  $ 1,652     $ 1,734     $ 1,949  
                         

Average loans outstanding during period ended

  $ 9,078,177     $ 8,157,186     $ 8,846,861  

Total gross loans outstanding, at period-end

  $ 9,224,797     $ 8,302,282     $ 8,914,080  

Total non-performing loans, at period-end

  $ 81,111     $ 71,362     $ 70,163  

Ratio of net charge-offs to average loans outstanding during the period

    0.01 %     0.22 %     0.26 %

Provision for credit losses to average loans outstanding during the period

    -0.24 %     0.02 %     -0.08 %

Allowance for credit losses to non-performing loans at period-end

    194.48 %     239.44 %     232.84 %

Allowance for credit losses to gross loans at period-end

    1.71 %     2.06 %     1.83 %

 

 

 

 

Our allowance for loan losses consists of the following:

 

 

 

 • 

Specific allowance: For impaired loans, we provide specific allowances for loans that are not collateral dependent based on an evaluation of the present value of the expected future cash flows discounted at the loan’s effective interest rate and for loans that are collateral dependent based on the fair value of the underlying collateral determined by the most recent valuation information received, which may be adjusted based on factors such as changes in market conditions from the time of valuation. If the measure of the impaired loan is less than the recorded investment in the loan, the deficiency will be charged off against the allowance for loan losses or, alternatively, a specific allocation will be established.

 

 
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General allowance: The unclassified portfolio is segmented on a group basis. Segmentation is determined by loan type and common risk characteristics. The non-impaired loans are grouped into 19 segments: two commercial segments, ten commercial real estate segments, one residential construction segment, one non-residential construction segment, one SBA segment, one installment loans segment, one residential mortgage segment, one equity lines of credit segment, and one overdrafts segment. The allowance is provided for each segmented group based on the group’s historical loan loss experience aggregated based on loan risk classifications which take into account the current financial condition of the borrowers and guarantors, the prevailing value of the underlying collateral if collateral dependent, charge-off history, management’s knowledge of the portfolio, general economic conditions, environmental factors including the trends in delinquency and non-accrual, and other significant factors, such as the national and local economy, volume and composition of the portfolio, strength of management and loan staff, underwriting standards, and concentration of credit. In addition, management reviews reports on past-due loans to ensure appropriate classification. In the second quarter of 2010, management increased the weighting given to the most recent four quarters to 50%, and reduced the weighting of the earliest and second earliest four quarters to 10% and 15%, respectively, for pass rated loans, to place greater emphasis on losses taken by the Bank during the economic downturn. In the third quarter of 2014, management reevaluated the look-back period and restored the five year look-back period in order to capture a sufficient history of loss data. Additionally, risk factor calculations for pass rated loans included a specified loss emergence period and were determined based on the higher of the not-weighted five year average or weighted at 50.0 percent for the most recent four quarters, 25.0 percent for the next four quarters,12.5 percent for the next four quarters, 7.5% for the next four quarters and 5.0% for the next four quarters. In light of the changes above, the relevant environmental factors were reduced. These refinements maintained the Bank’s allowance at a level consistent with the prior quarter.

 

The table set forth below reflects management’s allocation of the allowance for loan losses by loan category and the ratio of each loan category to the total average loans as of the dates indicated:

 

 

 

March 31, 2015

   

December 31, 2014

 
             

Percentage of

           

Percentage of

 
             

Loans in Each

           

Loans in Each

 
             

Category

           

Category

 
             

to Average

           

to Average

 

Type of Loan:

 

Amount

   

Gross Loans

   

Amount

   

Gross Loans

 
    (Dollars in thousands)  

Commercial loans

  $ 49,705       26.9 %   $ 47,501       27.2 %

Residential mortgage loans (1)

    11,777       19.3       11,578       19.2  

Commercial mortgage loans

    71,318       50.3       74,673       50.2  

Real estate construction loans

    23,270       3.5       27,652       3.2  

Installment and other loans

    19       0.0       16       0.2  

Total

  $ 156,089       100 %   $ 161,420       100 %

 

(1) Residential mortgage loans includes equity lines.  

 

 

 

 

The allowance allocated to commercial loans was $49.7 million at March 31, 2015, compared to $47.5 million at December 31, 2014. The increase is due primarily to increases during the first quarter of 2015 in specific reserves on two commercial loans.

 

The allowance allocated to commercial mortgage loans decreased from $74.7 million at December 31, 2014, to $71.3 million at March 31, 2015, which was due primarily to partial chargeoffs on two impaired loans against reserves established in prior quarters. The overall allowance for total commercial mortgage loans was 1.5% at March 31, 2015, and 1.7% at December 31, 2014.

 

 
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The allowance allocated for construction loans decreased to $23.3 million, or 6.7%, of construction loans at March 31, 2015, compared to $27.7 million, or 9.3%, of construction loans at December 31, 2014, primarily due to the decrease in construction loans categorized as substandard.

 

Deposits

 

Total deposits were $9.11 billion at March 31, 2015, an increase of $329.8 million, or 3.8%, from $8.78 billion at December 31, 2014, primarily due to a $143.1 million, or 4.6%, increase in time deposits of $100,000 or more, a $79.0 million, or 6.8%, increase in time deposits under $100,000, and a $44.2 million, or 5.7%, increase in NOW deposits. The following table displays the deposit mix as of the dates indicated:

 

 

   

March 31, 2015

   

% of Total

   

December 31, 2014

   

% of Total

   

% Change

 

Deposits

 

(Dollars in thousands)

         

Non-interest-bearing demand deposits

  $ 1,691,173       18.6 %   $ 1,664,914       19.0 %     1.6 %

NOW deposits

    822,940       9.0       778,691       8.9       5.7  

Money market deposits

    1,551,453       17.0       1,538,187       17.5       0.9  

Savings deposits

    557,924       6.1       533,940       6.1       4.5  

Time deposits under $100,000

    1,241,529       13.6       1,162,547       13.2       6.8  

Time deposits of $100,000 or more

    3,248,231       35.7       3,105,181       35.3       4.6  

Total deposits

  $ 9,113,250       100.0 %   $ 8,783,460       100.0 %     3.8 %

 

 

Borrowings

 

Borrowings include federal funds purchased, securities sold under agreements to repurchase, funds obtained as advances from the Federal Home Loan Bank (“FHLB”) of San Francisco, and borrowings from other financial institutions.

 

Securities Sold Under Agreements to Repurchase. Securities sold under agreements to repurchase were $400.0 million with a weighted average rate of 3.89% at March 31, 2015, compared to $450.0 million with a weighted average rate of 3.85% at December 31, 2014. In the first quarter of 2014, the Company prepaid securities sold under agreements to repurchase totaling $100.0 million with a weighted average rate of 3.50% and incurred prepayment penalties of $3.4 million. As of March 31, 2015, four floating-to-fixed rate agreements totaling $200.0 million with weighted average rate of 5.0% and final maturity in January 2017 have initial floating rates for one year, with floating rates of three-month LIBOR rate minus 340 basis points. Thereafter, the rates are fixed for the remainder of the term, with interest rates ranging from 4.89% to 5.07%. As of March, 31, 2015 and December 31, 2014, four fixed rate non-callable securities sold under agreements to repurchase totaled $200.0 million with a weighted average rate of $2.78%. Final maturity for the four fixed rate non-callable securities sold under agreements is $50.0 million in August 2016, $50.0 million in July 2017, $50.0 million in June 2018, and $50.0 million in July 2018.

 

These transactions are accounted for as collateralized financing transactions and recorded at the amounts at which the securities were sold. The Company may have to provide additional collateral for the repurchase agreements, as necessary. The underlying collateral pledged for the repurchase agreements consists of U.S. Treasury securities and mortgage-backed securities with a fair value of $467.5 million as of March 31, 2015, and $516.3 million as of December 31, 2014.

 

 
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Borrowing from the FHLB. As of March 31, over-night borrowings from the FHLB were $460.0 million at a rate of 0.24% compared to $400.0 million at a rate of 0.27% at December 31, 2014. As of March 31, 2015, and December 31, 2014, the long-term advance from the FHLB of $25.0 million was at rate of 1.13% and will mature in March 2018.

 

 

Long-term Debt

 

Long-term debt was $119.1 million at March 31, 2015, compared to $119.1 million at December 31, 2014. Long-term debt is comprised of Junior Subordinated Notes, which qualify as Tier I capital for regulatory purposes, issued in connection with our various pooled trust preferred securities offerings.

 

Off-Balance-Sheet Arrangements and Contractual Obligations

 

The following table summarizes the Company’s contractual obligations to make future payments as of March 31, 2015. Payments for deposits and borrowings do not include interest. Payments related to leases are based on actual payments specified in the underlying contracts.

  

   

Payment Due by Period

 
           

More than

   

3 years or

                 
           

1 year but

   

more but

                 
   

1 year

   

less than

   

less than

   

5 years

         
   

or less

   

3 years

   

5 years

   

or more

   

Total

 
   

(In thousands)

 
                                         

Contractual obligations:

                                       

Deposits with stated maturity dates

  $ 3,587,712     $ 718,897     $ 183,140     $ 11     $ 4,489,760  

Securities sold under agreements to repurchase (1)

    -       200,000       -       -       200,000  

Securities sold under agreements to repurchase (2)

    -       100,000       100,000       -       200,000  

Advances from the Federal Home Loan Bank

    460,000       25,000       -       -       485,000  

Other borrowings

    -       -       -       22,482       22,482  

Long-term debt

    -       -       -       119,136       119,136  

Operating leases

    6,827       10,359       6,203       5,556       28,945  

Total contractual obligations and other commitments

  $ 4,054,539     $ 1,054,256     $ 289,343     $ 147,185     $ 5,545,323  

 

(1)

These repurchase agreements have a final maturity of 10-years from origination date but are callable on a quarterly basis after one year.         

(2)

These repurchase agreements are non-callable.

 

 

In the normal course of business, we enter into various transactions, which, in accordance with U.S. generally accepted accounting principles, are not included in our consolidated balance sheets. We enter into these transactions to meet the financing needs of our customers. These transactions include commitments to extend credit and standby letters of credit, which involve, to varying degrees, elements of credit risk and interest rate risk in excess of the amounts recognized in the condensed consolidated balance sheets.

 

 
52

 

 

Loan Commitments. We enter into contractual commitments to extend credit, normally with fixed expiration dates or termination clauses, at specified rates and for specific purposes. Substantially all of our commitments to extend credit are contingent upon customers maintaining specific credit standards at the time of loan funding. We minimize our exposure to loss under these commitments by subjecting them to credit approval and monitoring procedures. Management assesses the credit risk associated with certain commitments to extend credit in determining the level of the allowance for credit losses.

 

Standby Letters of Credit. Standby letters of credit are written conditional commitments issued by us to secure the obligations of a customer to a third party. In the event the customer does not perform in accordance with the terms of an agreement with the third party, we would be required to fund the commitment. The maximum potential amount of future payments we could be required to make is represented by the contractual amount of the commitment. If the commitment is funded, we would be entitled to seek reimbursement from the customer. Our policies generally require that standby letter of credit arrangements contain security and debt covenants similar to those contained in loan agreements.

 

Capital Resources

 

Total equity was $1.63 billion at March 31, 2015, an increase of $31.4 million, or 2.0%, from $1.60 billion at December 31, 2014, primarily due to increases in net income of $36.0 million and increases in other comprehensive income of $4.9 million offset by common stock cash dividends of $8.0 million.

 

The following table summarizes changes in total equity for the three months ended March 31, 2015:

 

 

   

Three months ended

 

(In thousands)

 

March 31, 2015

 

Net income

  $ 35,980  

Stock issued to directors

    495  

Stock options exercised

    88  

Proceeds from shares issued through the Dividend Reinvestment Plan

    1,289  

Shares withheld related to net share settlement of RSUs

    (114 )

Net tax short-fall from stock-based compensation expense

    (4,395 )

Share-based compensation

    1,075  

Other comprehensive income

    4,923  

Cash dividends paid to common stockholders

    (7,983 )

Net increase in total equity

  $ 31,358  

 

Capital Adequacy Review

 

Management seeks to maintain the Company’s capital at a level sufficient to support future growth, protect depositors and stockholders, and comply with various regulatory requirements.

 

Both Bancorp’s and the Bank’s regulatory capital continued to exceed the regulatory minimum requirements under Basel III rules became effective January 1, 2015, with transitional provisions, as of March 31, 2015. In addition, the capital ratios of the Bank place it in the “well capitalized” category which is defined as institutions with a common equity tier 1 capital ratio equal to or greater than 6.5%, a Tier 1 risk-based capital ratio equal to or greater than 8%, a total risk-based capital ratio equal to or greater than 10%, and a Tier 1 leverage capital ratio equal to or greater than 5%.

 

 
53

 

 

The following table presents Bancorp’s and the Bank’s capital and leverage ratios as of March 31, 2015, and December 31, 2014:

 

   

Cathay General Bancorp

   

Cathay Bank

 
   

March 31, 2015

   

December 31, 2014

   

March 31, 2015

   

December 31, 2014

 

(Dollars in thousands)

 

Balance

   

%

   

Balance

   

%

   

Balance

   

%

   

Balance

   

%

 
                                                                 

Common equtiy Tier 1 capital ( to risk-weighted assets)

  $ 1,317,239       13.35    

n/a

   

n/a

    $ 1,392,191       14.14    

n/a

   

n/a

 

Common equtiy Tier 1 capital minimum requirement

    64,473       4.50    

n/a

   

n/a

      62,649       4.50    

n/a

   

n/a

 

Excess

  $ 1,252,766       8.85    

n/a

   

n/a

    $ 1,329,542       9.64    

n/a

   

n/a

 
                                                                 

Tier 1 capital (to risk-weighted assets)

  $ 1,432,739       14.52     $ 1,406,511       14.96     $ 1,392,191       14.14     $ 1,353,481       14.42  

Tier 1 capital minimum requirement

    85,964       6.00       56,260       4.00       83,531       6.00       54,139       4.00  

Excess

  $ 1,346,775       8.52     $ 1,350,251       10.96     $ 1,308,660       8.14     $ 1,299,342       10.42  
                                                                 

Total capital (to risk-weighted assets)

  $ 1,557,515       15.79     $ 1,524,702       16.22     $ 1,515,648       15.40     $ 1,471,337       15.68  

Total capital minimum requirement

    114,619       8.00       112,521       8.00       111,375       8.00       108,278       8.00  

Excess

  $ 1,442,896       7.79     $ 1,412,181       8.22     $ 1,404,273       7.40     $ 1,363,059       7.68  
                                                                 

Tier 1 capital (to average assets) – Leverage ratio

  $ 1,432,739       13.16     $ 1,406,511       12.99     $ 1,392,191       12.83     $ 1,353,481       12.52  

Minimum leverage requirement

    435,434       4.00       433,121       4.00       434,036       4.00       432,350       4.00  

Excess

  $ 997,305       9.16     $ 973,390       8.99     $ 958,155       8.83     $ 921,131       8.52  
                                                                 

Risk-weighted assets

  $ 9,865,246             $ 9,401,803             $ 9,842,331             $ 9,382,961          

Total average assets (1)

  $ 10,885,854             $ 10,828,015             $ 10,850,908             $ 10,808,747          

 

(1)

The quarterly total average assets reflect all debt securities at amortized cost, equity security with readily determinable fair values at the lower of cost or fair value, and equity securities without readily determinable fair values at historical cost.      

* Basel III rules became effective January 1, 2015, with transitional provisions. All prior period data is based on Basel I rules.      

 

In July 2013, the federal bank regulatory agencies adopted final regulations which revised their risk-based and leverage capital requirements for banking organizations to meet requirements of the Dodd-Frank Act and to implement international agreements reached by the Basel Committee on Banking Supervision that were intended to improve both the quality and quantity of banking organizations’ capital (“Basel III”). Although many of the rules contained in these final regulations are applicable only to large, internationally active banks, some of them will apply on a phased-in basis to all banking organizations, including Bancorp and the Bank.

 

The following are among the new requirements that will be phased in beginning January 1, 2015:

 

 

An increase in the minimum Tier 1 capital ratio from 4.00%, to 6.00% of risk-weighted assets.

 

 

A new category and a required 4.50% of risk-weighted assets ratio is established for “common equity Tier 1” as a subset of Tier 1 capital limited to common equity.

 

 

A minimum non-risk-based leverage ratio is set at 4.00% eliminating a 3.00% exception for higher rated banks.

 

 

Changes in the permitted composition of Tier 1 capital to exclude trust preferred securities, mortgage servicing rights and certain deferred tax assets, and to include unrealized gains and losses on available-for-sale debt and equity securities.

 

 
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A new additional capital conservation buffer of 2.5% of risk weighted assets over each of the required capital ratios that will be phased in from 2016 to 2019 must be met to avoid limitations in the ability of the Company to pay dividends, repurchase shares or pay discretionary bonuses.

 

 

The risk-weights of certain assets for purposes of calculating the risk-based capital ratios are changed for high volatility commercial real estate acquisition, development and construction loans, certain past due non-residential mortgage loans and certain mortgage-backed and other securities exposures.

 

 

An additional “countercyclical capital buffer” is required for larger and more complex institutions.

 

 

Dividend Policy

 

Holders of common stock are entitled to dividends as and when declared by our Board of Directors out of funds legally available for the payment of dividends. Although we have historically paid cash dividends on our common stock, we are not required to do so. The amount of future dividends will depend on our earnings, financial condition, capital requirements and other factors, and will be determined by our Board of Directors. We are subject to Federal Reserve supervisory policies, including informing and consulting with the Federal Reserve Bank of San Francisco sufficiently in advance of any planned capital actions (i.e. increased dividend payments or stock redemptions). After prior notification to the Federal Reserve Bank of San Francisco, our Board of Directors increased the common stock dividend to $.07 per share in June 2014 and $0.10 per share in December 2014. There can be no assurance that our regulators will not object to any capital actions. The terms of our Junior Subordinated Notes also limit our ability to pay dividends.

 

The Company declared a cash dividend of $.10 per share on 79,823,624 shares outstanding on March 12, 2015, for distribution to holders of our common stock on March 2, 2015. Total cash dividends of $8.0 million were paid during the first quarter of 2015.

 

Country Risk Exposures

 

The Company’s total assets were $11.9 billion and total foreign country risk net exposures were $722.5 million at March 31, 2015. Total foreign country risk net exposures at March 31, 2015, were comprised primarily of $328.8 million from Hong Kong, $127.1 million from China, $65.3 million from England, $24.1 million from France, $44.3 million from Switzerland, $30.0 million from Australia, $20.0 million from the Philippines, $22.5 million from Taiwan, $26.8 million from Germany, $7.9 million from Singapore, $4.5 million from Canada, and $1.8 million from Macau. Risk is determined based on location of the borrowers, issuers, and counterparties.

 

All foreign country risk net exposures were to non-sovereign counterparties except $17.2 million due from the Hong Kong Monetary Authority at March 31, 2015.

 

Unfunded loans to foreign entities exposures were $40.5 million at March 31, 2015, and were comprised primarily of $39.8 million unfunded loans to three financial institution in China and a $720,000 unfunded loan to a borrower of Taiwan residence.

 

 
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Financial Derivatives

 

It is the policy of the Company not to speculate on the future direction of interest rates. However, the Company enters into financial derivatives in order to seek mitigation of exposure to interest rate risks related to our interest-earning assets and interest-bearing liabilities. We believe that these transactions, when properly structured and managed, may provide a hedge against inherent interest rate risk in the Company’s assets or liabilities and against risk in specific transactions. In such instances, the Company may enter into interest rate swap contracts or other types of financial derivatives. Prior to considering any hedging activities, we seek to analyze the costs and benefits of the hedge in comparison to other viable alternative strategies. All hedges must be approved by the Bank’s Investment Committee.

 

The Company follows ASC Topic 815 that establishes accounting and reporting standards for financial derivatives, including certain financial derivatives embedded in other contracts, and hedging activities. It requires the recognition of all financial derivatives as assets or liabilities in the Company’s consolidated balance sheet and measurement of those financial derivatives at fair value. The accounting treatment of changes in fair value is dependent upon whether or not a financial derivative is designated as a hedge and, if so, the type of hedge. Fair value is determined using third-party models with observable market data. For derivatives designated as cash flow hedges, changes in fair value are recognized in other comprehensive income and are reclassified to earnings when the hedged transaction is reflected in earnings. For derivatives designated as fair value hedges, changes in the fair value of the derivatives are reflected in current earnings, together with changes in the fair value of the related hedged item if there is a highly effective correlation between changes in the fair value of the interest rate swaps and changes in the fair value of the underlying asset or liability that is intended to be hedged. If there is not a highly effective correlation between changes in the fair value of the interest rate swap and changes in the fair value of the underlying asset or liability that is intended to be hedged, then only the changes in the fair value of the interest rate swaps are reflected in the Company’s consolidated financial statements.

 

In May 2014, the Bancorp entered into five interest rate swap contracts in the notional amount of $119.1 million for a period of ten years. The objective of these interest rate swap contracts, which were designated as hedging instruments in cash flow hedges, was to hedge the quarterly interest payments on Bancorp’s $119.1 million of Junior Subordinated Debentures that had been issued to five trusts throughout the ten-year period beginning in June 2014 and ending in June 2024, from the risk of variability of these payments resulting from changes in the three-month LIBOR interest rate. Bancorp pays a weighted average fixed interest rate of 2.61% and receives a variable interest rate of three-month LIBOR at a weighted average rate of 0.27%. As of March 31, 2015, the notional amount of cash flow interest rate swaps was $119.1 million and their unrealized loss of $4.0 million, net of taxes, was included in other comprehensive income. The amount of periodic net settlement of interest rate swaps included in interest expense was $703,000 for the three months ended March 31, 2015, compared to zero for the same quarter a year ago.

 

 
56

 

 

In June 2014, the Bank entered into ten interest rate swap contracts in the notional amount of $148.1 million for various terms from four to eight years. In October 2014, the Bank entered into four additional interest rate swap contracts in the notional amount of $34.9 million. These interest rate swap contracts that are matched to individual fixed-rate commercial real estate loans in the Bank’s loan portfolio. These contracts have been designated as hedging instruments to hedge the risk of changes in the fair value of the underlying commercial real estate loan due to changes in interest rates. The swap contracts are structured so that the notional amounts reduce over time to match the contractual amortization of the underlying loan and allow prepayments with the same pre-payment penalty amounts as the related loan. The Bank pays a weighted average fixed rate of 4.60% and receives a variable rate at one month LIBOR rate plus a weighted average spread of 292 basis points, or at a weighted average rate of 3.10%. As of March 31, 2015, the notional amount of fair value interest rate swaps was $180.4 million and their unrealized loss of $1.7 million was included in other non-interest income. The amount of periodic net settlement of interest rate swaps reducing interest income was $683,000 for the three months ended March 31, 2015. As of March 31, 2015, the ineffective portion of these interest rate swaps was not significant.

 

Interest rate swap contracts involve the risk of dealing with institutional derivative counterparties and their ability to meet contractual terms. Institutional counterparties must have a strong credit profile and be approved by the Company’s Board of Directors. The Company’s credit exposure on interest rate swaps is limited to the net favorable value and interest payments of all swaps by each counterparty. Credit exposure may be reduced by the amount of collateral pledged by the counterparty. Bancorp’s interest rate swaps have been assigned by the counterparties to a derivatives clearing organization and daily margin is indirectly maintained with the derivatives clearing organization. Cash posted as collateral by Bancorp related to derivative contracts totaled $11.4 million as of March 31, 2015.

 

The Company enters into foreign exchange forward contracts with various counterparties to mitigate the risk of fluctuations in foreign currency exchange rates for foreign exchange certificates of deposit or foreign exchange contracts entered into with our clients. These contracts are not designated as hedging instruments and are recorded at fair value in our condensed consolidated balance sheets. Changes in the fair value of these contracts as well as the related foreign exchange certificates of deposit and foreign exchange contracts are recognized immediately in net income as a component of non-interest income. Period end gross positive fair values are recorded in other assets and gross negative fair values are recorded in other liabilities. At March 31, 2015, spot, forward, and swap contracts in the total notional amount of $127.2 million had a positive fair value of $1.6 million. Spot, forward, and swap contracts in the total notional amount of $158.3 million had a negative fair value of $5.0 million at March 31, 2015. At December 31, 2014, spot, forward, and swap contracts in the total notional amount of $167.0 million had a positive fair value of $1.9 million. Spot, forward, and swap contracts in the total notional amount of $178.9 million had a negative fair value of $5.0 million at December 31, 2014.

 

Liquidity

 

Liquidity is our ability to maintain sufficient cash flow to meet maturing financial obligations and customer credit needs, and to take advantage of investment opportunities as they are presented in the marketplace. Our principal sources of liquidity are growth in deposits, proceeds from the maturity or sale of securities and other financial instruments, repayments from securities and loans, federal funds purchased, securities sold under agreements to repurchase, and advances from the FHLB. At March 31, 2015, our liquidity ratio (defined as net cash plus short-term and marketable securities to net deposits and short-term liabilities) was 15.4% compared to 14.9% at December 31, 2014.

 

 
57

 

 

The Bank is a shareholder of the FHLB of San Francisco, enabling it to have access to lower cost FHLB financing when necessary. As of March 31, 2015, the Bank had an approved credit line with the FHLB totaling $3.9 billion. Advances from the FHLB were $485.0 million and standby letter of credits issued by FHLB on the Company’s behalf were $110.0 million at March 31, 2015. The Bank expects to be able to access this source of funding, if required, in the near term. The Bank has pledged a portion of its commercial loans to the Federal Reserve Bank’s Discount Window under the Borrower-in-Custody program to secure these borrowings. At March 31, 2015, the borrowing capacity under the Borrower-in-Custody program was $109.8 million.

 

Liquidity can also be provided through the sale of liquid assets, which consist of federal funds sold, securities sold under agreements to repurchase, and unpledged investment securities. At March 31, 2015, investment securities totaled $1.20 billion, with $575.5 million pledged as collateral for borrowings and other commitments. The remaining $628.2 million was available as additional liquidity or to be pledged as collateral for additional borrowings.

 

Approximately 79.9% of the Company’s time deposits mature within one year or less as of March 31, 2015. Management anticipates that there may be some outflow of these deposits upon maturity due to the keen competition in the Bank’s marketplace. However, based on our historical run-off experience, we expect that the outflow will be minimal and can be replenished through our normal growth in deposits. Management believes the above-mentioned sources will provide adequate liquidity to the Bank to meet its daily operating needs.

 

The business activities of Bancorp consist primarily of the operation of the Bank and limited activities in other investments. The Bank paid dividends to Bancorp totaling $30.0 million in 2014. The Bank did not pay dividends to Bancorp in the first quarter of 2015.

 

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

We use a net interest income simulation model to measure the extent of the differences in the behavior of the lending and funding rates to changing interest rates, so as to project future earnings or market values under alternative interest rate scenarios. Interest rate risk arises primarily through the Company’s traditional business activities of extending loans and accepting deposits. Many factors, including economic and financial conditions, movements in interest rates, and consumer preferences affect the spread between interest earned on assets and interest paid on liabilities. The net interest income simulation model is designed to measure the volatility of net interest income and net portfolio value, defined as net present value of assets and liabilities, under immediate rising or falling interest rate scenarios in 100 basis point increments.

 

Although the modeling is very helpful in managing interest rate risk, it does require significant assumptions for the projection of loan prepayment rates on mortgage related assets, loan volumes and pricing, and deposit and borrowing volume and pricing, that might prove inaccurate. Because these assumptions are inherently uncertain, the model cannot precisely estimate net interest income, or precisely predict the effect of higher or lower interest rates on net interest income. Actual results will differ from simulated results due to the timing, magnitude, and frequency of interest rate changes, the differences between actual experience and the assumed volume, changes in market conditions, and management strategies, among other factors. The Company monitors its interest rate sensitivity and attempts to reduce the risk of a significant decrease in net interest income caused by a change in interest rates.

 

 
58

 

 

We have established a tolerance level in our policy to define and limit net interest income volatility to a change of plus or minus 5% when the hypothetical rate change is plus or minus 200 basis points. When the net interest rate simulation projects that our tolerance level will be met or exceeded, we seek corrective action after considering, among other things, market conditions, customer reaction, and the estimated impact on profitability. The Company’s simulation model also projects the net economic value of our portfolio of assets and liabilities. We have established a tolerance level in our policy to limit the loss in the net economic value of our portfolio of assets and liabilities to zero when the hypothetical rate change is plus or minus 200 basis points.

 

The table below shows the estimated impact of changes in interest rate on net interest income and market value of equity as of March 31, 2015:

 

 

   

Net Interest

   

Market Value

 
   

Income

   

of Equity

 

Change in Interest Rate (Basis Points)

 

Volatility (1)

   

Volatility (2)

 

+200

    11.4       2.0  

+100

    4.9       1.1  

-100

    -1.2       0.3  

-200

    -1.6       2.8  

 

(1)

The percentage change in this column represents net interest income of the Company for 12 months in a stable interest rate environment versus the net interest income in the various rate scenarios. 

(2)

The percentage change in this column represents net portfolio value of the Company in a stable interest rate environment versus the net portfolio value in the various rate scenarios. 

 

 

Item 4. CONTROLS AND PROCEDURES.

 

 

The Company’s principal executive officer and principal financial officer have evaluated the effectiveness of the Company’s “disclosure controls and procedures,” as such term is defined in Rule 13a-15(e) or 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the period covered by this quarterly report. Based upon their evaluation, the principal executive officer and principal financial officer have concluded that the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in the reports filed or submitted by it under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and include controls and procedures designed to ensure that information required to be disclosed by the Company in such reports is accumulated and communicated to the Company’s management, including its principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.

 

There has not been any change in our internal control over financial reporting that occurred during the first fiscal quarter of 2015 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

 
59

 

 

PART II - OTHER INFORMATION

 

Item 1.        LEGAL PROCEEDINGS.

 

Bancorp’s wholly-owned subsidiary, Cathay Bank, is a party to ordinary routine litigation from time to time incidental to various aspects of its operations. Management does not believe that any such litigation is expected to have a material adverse impact on the Company’s consolidated financial condition or results of operations.

 

Item 1A.     RISK FACTORS.

 

There is no material change in the risk factors as previously disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014, in response to Item 1A in Part I of Form 10-K.

 

Item 2.        UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.

 

 

ISSUER PURCHASES OF EQUITY SECURITIES

 

Period

 

(a) Total Number of Shares (or Units) Purchased

   

(b) Average Price Paid per Share (or Unit)

   

(c) Total Number of Shares (or Units) Purchased as Part of Publicly Announced Plans or Programs

   

(d) Maximum Number (or Approximate Dollar Value) of Shares (or Units) that May Yet Be Purchased Under the Plans or Programs

 

Month #1 (January 1, 2015 - January 31, 2015)

    0     $ 0       0       622,500  

Month #2 (February 1, 2015 - February 28, 2015)

    0     $ 0       0       622,500  

Month #3 (March 1, 2015 - March 31, 2015)

    0     $ 0       0       622,500  

Total

    0     $ 0       0       622,500  

 

For a discussion of limitations on the payment of dividends, see “Dividend Policy,” and “Liquidity” under Part I—Item 2—“Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

Item 3.     DEFAULTS UPON SENIOR SECURITIES.

 

Not applicable.

 

 
60

 

 

Item 4.     MINE SAFETY DISCLOSURES.

 

Not applicable.

 

Item 5.     OTHER INFORMATION.

 

None.

 

 

Item 6.     EXHIBITS.

 

 

Exhibit 31.1

Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

Exhibit 31.2

Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

Exhibit 32.1

Certification of the Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

Exhibit 32.2

Certification of the Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

Exhibit 101.INS

XBRL Instance Document *

 

Exhibit 101.SCH

XBRL Taxonomy Extension Schema Document*

 

Exhibit 101.CAL

XBRL Taxonomy Extension Calculation Linkbase Document*

 

Exhibit 101.DEF

XBRL Taxonomy Extension Definition Linkbase Document*

 

Exhibit 101.LAB

XBRL Taxonomy Extension Label Linkbase Document*

 

Exhibit 101.PRE

XBRL Taxonomy Extension Presentation Linkbase Document*

 

____________________

*

XBRL (Extensible Business Reporting Language) information shall not be deemed to be filed or part of a registration statement or prospectus for purposes of sections 11 or 12 of the Securities Act of 1933, shall not be deemed to be filed for purposes of section 18 of the Securities Exchange Act of 1934, and otherwise shall not be subject to liability under these sections, and shall not be incorporated by reference into any registration statement or other document filed under the Securities Act of 1933, except as expressly set forth by specific reference in such filing.

 

 
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SIGNATURES

 

Pursuant to the requirements 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.

 

 

 

Cathay General Bancorp

(Registrant)

 

 

 

Date: May 7, 2015

 

 

/s/ Dunson K. Cheng                            .

Dunson K. Cheng

Chairman, President, and

Chief Executive Officer

   

 

 

Date: May 7, 2015

 

/s/ Heng W. Chen                                  .

Heng W. Chen

Executive Vice President and

Chief Financial Officer

 

 

62