ITEM 1B.
UNRESOLVED STAFF COMMENTS
None.
The Corporation operated approximately 254 facilities, including 213 banking branches at December 31, 2017. Our corporate headquarters is located at 433 Main Street in Green Bay, Wisconsin and is approximately 118,000 square feet. The Corporation owns two dedicated operations centers, located in Green Bay and Stevens Point, Wisconsin, with approximately 91,000 and 96,000 square feet, respectively. The Corporation also owns a 28 story, 374,000 square foot office tower located at 111 E. Kilbourn Avenue in Milwaukee, Wisconsin (the "Milwaukee Center") and a 95,000 square foot office building located at 6000 Clearwater Drive, Minnetonka, Minnesota. Based on rentable square feet, at December 31, 2017, Associated Bank owned 84% of our total property portfolio.
At December 31, 2017, Associated Bank operated 213 banking branches serving over 100 different communities within Illinois, Minnesota and Wisconsin. The main office of Associated Bank is at 200 North Adams Street in Green Bay, Wisconsin, and is owned by the Corporation. Most of the banking locations are freestanding buildings with a drive thru and a parking lot; a
smaller subset resides in supermarkets and office towers, which are generally leased. Associated Bank also operated loan production offices in Indiana, Michigan, Missouri, Ohio and Texas.
ITEM 3.
ITEM 3.
LEGAL PROCEEDINGS
The information required by this item is set forth in Part II, Item 8, Financial Statements and Supplementary Data, under Note 16 Commitments, Off-Balance Sheet Arrangements, and Legal Proceedings.
ITEM 4.
ITEM 4.
MINE SAFETY DISCLOSURES
Not applicable.
INFORMATION ABOUT THE EXECUTIVE OFFICERS
The following is a list of names and ages of executive officers of Associated indicating all positions and offices held by each such person and each such person’s principal occupation(s) or employment during the past five years. Officers are appointed annually by the Board of Directors at the meeting of directors immediately following the annual meeting of shareholders. There are no family relationships among these officers, nor any arrangement or understanding between any officer and any other person pursuant to which the officer was selected. No person other than those listed below has been chosen to become an executive officer of Associated. The information presented below is as of February 6, 2018.
Philip B. Flynn - Age: 60
Philip B. Flynn has been President and Chief Executive Officer of Associated and Associated Bank and a member of the Board of Directors since December 2009. Prior to joining Associated, he served as Vice Chairman and Chief Operating Officer of Union Bank. During his nearly 30-year career with Union Bank, he held a broad range of executive positions, including chief credit officer and head of commercial banking, specialized lending and wholesale banking. He served as a member of Union Bank’s board of directors from 2004 to 2009.
William M. Bohn - Age: 51
William M. Bohn has been Executive Vice President, Head of Private Client and Institutional Services of Associated and Associated Bank since July 2014. Mr. Bohn also serves as Chairman of the Board of Associated Benefits and Risk Consulting (“ABRC”), Whitnell & Co., and Associated Investment Services, Inc., and Chief Executive Officer of Associated Trust Company, N.A. He joined Associated in 1997 and most recently served as President and Chief Executive Officer of ABRC from 2004 to 2015.
Matthew R. Braeger - 43
Matthew R. Braeger has been Executive Vice President and Chief Audit Executive of Associated and Associated Bank, National Association since February 2018. He served as Deputy Chief Audit Executive from October 2017 to February 2018. He joined Associated in April 2013 as Senior Vice President, Business Support Audit Director. Previously, he held audit management positions with Fiserv, Inc. and public accounting audit roles with Ernst & Young, LLP. He has more than 17 years of auditing experience, primarily in banking technology and financial services.
Christopher J. Del Moral-Niles - Age: 47
Christopher J. Del Moral-Niles has been Executive Vice President, Chief Financial Officer of Associated and Associated Bank since March 2012. He joined Associated in July 2010 and previously served as Associated’s Deputy Chief Financial Officer and Corporate Treasurer. From 2006 to 2010, he held various leadership roles for The First American Corporation and its subsidiaries, including serving as Corporate Treasurer and as divisional President of First American Trust, FSB. From 2003 to 2006, Mr. Niles held various positions with Union Bank, including serving as Senior Vice President and Director of Liability Management. Prior to his time with Union Bank, Mr. Niles spent a decade as a financial services investment banker supporting mergers and acquisitions of financial institutions, bank and thrift capital issuances, and bank funding transactions.
Patrick J. Derpinghaus - Age: 62
Patrick J. Derpinghaus has been Executive Vice President of Associated and Associated Bank, National Association since April 2011. He served as Chief Audit Executive from April 2011 to February 2018. Mr. Derpinghaus has over 33 years of banking experience serving in various executive finance and audit positions. From March 2008 until March 2011, Mr. Derpinghaus served as Audit Director for U.S. Bank in Minneapolis, Minnesota. Prior to his position at U.S. Bank, Mr. Derpinghaus served as Executive Vice President and Chief Financial Officer of The Bankers Bank in Atlanta, Georgia from October 2005 to December 2007.
Judith M. Docter - Age: 56
Judith M. Docter has been Executive Vice President, Chief Human Resources Officer of Associated and Associated Bank since November 2005. Ms. Docter was Senior Vice President, Director of Organizational Development, for Associated from May 2002 to November 2005. From March 1992 to May 2002, she served as Director of Human Resources for Associated Bank, Fox Valley Region and Wealth Management.
Randall J. Erickson - Age: 58
Randall J. Erickson has been Executive Vice President, General Counsel and Corporate Secretary of Associated and Associated Bank since April 2012, and served as Chief Risk Officer from May 2016 to February 2018. Prior to joining Associated, he served as senior vice president, chief administrative officer and general counsel of Milwaukee-based bank holding company Marshall & Ilsley Corporation ("M&I") from 2002 until it was acquired by BMO Financial in 2011. Upon leaving M&I, he became a member of Milwaukee law firm Godfrey & Kahn, S.C.’s securities practice group. He had been a partner at Godfrey & Kahn, S.C. from 1990 to 2002 prior to joining M&I as its general counsel. Mr. Erickson served as a director of Renaissance Learning, Inc., a publicly-held educational software company, from 2009 until it was acquired by Permira Funds in 2011.
John P. Hankerd - Age: 58
John P. Hankerd has been Executive Vice President, Chief Credit Officer of Associated and Associated Bank, National Association since August 2017. He joined Associated in 2002 and has held multiple leadership roles in commercial and corporate banking and credit functions, including Executive Vice President, Head of Specialized Industries from January 2017 to August 2017 and Senior Vice President, Corporate Banking Credit Manager from March 2011 to January 2017. Previously he spent 12 years in commercial lending at U.S. Bank.
Nicole M. Kitowski - Age 42
Nicole M. Kitowski has been Executive Vice President and Chief Risk Officer of Associated since February 2018. She joined Associated in 1992 and has held leadership roles in Consumer Banking, Operations and Technology, and Corporate Risk, including Deputy Chief Risk Officer from March 2016 to February 2018 and Corporate BSA, AML, OFAC Officer from June 2014 to March 2016.
Timothy J. Lau - Age: 55
Timothy J. Lau has been Executive Vice President, Head of Community Markets of Associated and Associated Bank, National Association since June 2014. Mr. Lau previously served as Executive Vice President, Head of Private Client and Institutional Services from December 2010 to June 2014. He is also a director of Associated Banc-Corp Foundation, Associated Investment Services, Inc. and Associated Benefits and Risk Consulting ("ABRC"). He joined Associated in 1989 and has held a number of senior management positions in Consumer and Small Business Banking, Residential Lending, and Commercial Banking.
James S. Payne - Age: 64
James S. Payne has been Executive Vice President, Chief Information and Operations Officer of Associated and Associated Bank since January 2017. He joined Associated in 2015 and most recently served as Executive Vice President, Deputy Chief Information
and Operations Officer. He brings more than 30 years of operations and technology experience to Associated Bank. Previously, he held the position of Chief Technology Officer at Huntington National Bank in Columbus, Ohio from 2010 to 2015. Before that, he held executive technology management positions at Bank of America and JPMorgan Chase & Co.
Christopher C. Piotrowski - Age: 43
Christopher C. Piotrowski has been Executive Vice President and Chief Marketing Officer of Associated and Associated Bank since December 2014. Prior to joining Associated, he was a Senior Director of Marketing at S.C. Johnson & Son, Inc. from 2009 to December 2014.
Paul G. Schmidt - Age: 55
Paul G. Schmidt has been Executive Vice President, Head of Commercial Real Estate of Associated and Associated Bank since January 2016. He joined Associated in April 2015 as Executive Vice President of Commercial Real Estate and was named Deputy Head of Commercial Real Estate in September 2015. Mr. Schmidt brings more than 31 years of banking experience to Associated. Most recently, he held the position of Executive Vice President, Division Manager, Commercial Real Estate at Wells Fargo from 2002 to 2015.
David L. Stein - Age: 54
David L. Stein has been Executive Vice President, Head of Consumer and Business Banking of Associated and Associated Bank since January 2017. He was previously Executive Vice President, Head of Consumer and Commercial Banking from April 2014 until January 2017 and Executive Vice President, Head of Retail Banking from June 2007 until April 2014. He is a director of Associated Investment Services, Inc., ABRC, and Associated Banc-Corp Foundation. He was the President of the Southwest Region of Associated Bank from January 2005 until June 2007. He held various positions with JP Morgan Chase & Co., and one of its predecessors, Bank One Corporation, from 1989 until joining Associated in 2005.
John A. Utz - Age: 49
John A. Utz has been Executive Vice President, Head of Corporate Banking and Milwaukee Market President of Associated and Associated Bank since September 2015. He joined Associated in March 2010 with upwards of 20 years of banking experience, having previously served as President of Union Bank’s UnionBanCal Equities and head of its Capital Markets division from September 2007 to March 2010, and as head of the National Banking and Asset Management teams from October 2002 to September 2007.
PART II
ITEM 5.
ITEM 5.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Information in response to this item is incorporated by reference to the discussion of dividend restrictions under Part I, Item 1, Business - Holding Company Dividends, and in Note 10 Stockholders' Equity of the notes to consolidated financial statements included under Part II, Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K. The Corporation’s common stock is traded on the New York Stock Exchange under the symbol ASB.
The number of shareholders of record of the Corporation’s common stock, $0.01 par value, as of January 31, 2018, was approximately 7,050. Certain of the Corporation’s shares are held in “nominee” or “street” name and the number of beneficial owners of such shares is approximately 19,494.
Payment of future dividends is within the discretion of the Board of Directors and will depend, among other factors, on earnings, capital requirements, and the operating and financial condition of the Corporation. The Board of Directors makes the dividend determination on a quarterly basis. The aggregate amount of the quarterly dividends was $0.50 per common share for 2017 and $0.45 per common share for 2016.
Other than 26,606 shares of common stock repurchased to satisfy minimum tax withholding on settlements of equity compensation awards, the Corporation did not make any common stock or depositary share purchases during the fourth quarter of 2017. For a detailed discussion of the common stock and depositary share purchases during 2017 and 2016, see Part II, Item 8, Note 10 Stockholders' Equity of the notes to consolidated financial statements.
Market Information
The following represents selected market information of the Corporation’s common stock for 2017 and 2016.
Total Shareholder Return Performance Graph
Set forth below is a line graph (and the underlying data points) comparing the yearly percentage change in the cumulative total shareholder return (change in year-end stock price plus reinvested dividends) on the Corporation’s common stock with the cumulative total return of the S&P 500 Index and the S&P 400 Regional Banks Sub-Industry Index for the period of five fiscal years commencing on January 1, 2013, and ending December 31, 2017. The S&P 400 Regional Banks Sub-Industry Index is comprised of stocks on the S&P Total Market Index that are classified in the regional banks sub-industry. The graph assumes that the value of the investment in the Corporation’s common stock and in each index was $100 on December 31, 2012. Historical stock price performance shown on the graph is not necessarily indicative of the future price performance.
5 Year Trend
Source: Bloomberg
The Total Shareholder Return Performance Graph shall not be deemed incorporated by reference by any general statement incorporating by reference this Annual Report on Form 10-K into any filing under the Securities Act or under the Exchange Act, except to the extent the Corporation specifically incorporates this information by reference, and shall not otherwise be deemed filed under such Acts.
ITEM 6.
ITEM 6.
SELECTED FINANCIAL DATA
Table 1 Summary Results of Operations: Trends
(a)
The Federal Reserve establishes regulatory capital requirements, including well-capitalized standards for the Corporation. Prior to 2015, the regulatory capital requirements effective for the Corporation followed the Capital Accord of the Basel Committee on Banking Supervision ("Basel I"). Beginning January 1, 2015, the regulatory capital requirements effective for the Corporation follow Basel III, subject to certain transition provisions. These regulatory capital measurements are used by management, regulators, investors, and analysts to assess, monitor and compare the quality and composition of our capital with the capital of other financial services companies. See Table 26 for a reconciliation of common equity Tier 1 and average common equity Tier 1.
ITEM 7.
ITEM 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion is management’s analysis to assist in the understanding and evaluation of the consolidated financial condition and results of operations of the Corporation. It should be read in conjunction with the consolidated financial statements and footnotes and the selected financial data presented elsewhere in this report.
The detailed financial discussion that follows focuses on 2017 results compared to 2016. A discussion of 2016 results compared to 2015 is predominantly presented in section 2016 Compared to 2015.
Overview
The Corporation is a bank holding company headquartered in Wisconsin, providing a broad array of banking and nonbanking products and services to businesses and consumers primarily within our three-state footprint. The Corporation’s primary sources of revenue, through the Bank, are net interest income (predominantly from loans and investment securities), and noninterest income, principally fees and other revenue from financial services provided to customers or ancillary services tied to loans and deposits.
Performance Summary and 2018 Outlook
•
Diluted earnings per common share of $1.42 in 2017 increased $0.16 (13%) from 2016.
•
Average loans of $20.6 billion for 2017 grew $942 million (5%) from a year ago. Average deposits of $21.9 billion for 2017 grew $918 million (4%) from a year ago. For 2018, the Corporation expects mid-single digit annual average loan growth and to maintain a loan to deposit ratio under 100%.
•
Net interest income of $741 million in 2017 increased $34 million (5%) from 2016. Net interest margin of 2.82% in 2017 increased from 2.80% in 2016. For 2018, the Corporation expects a stable to modestly improving year over year net interest margin trend.
•
Provision for credit losses of $26 million in 2017 decreased $44 million (63%) from 2016. For 2018, the Corporation expects the provision for credit losses to adjust with changes to risk grade, other indications of credit quality, and loan volume.
•
Noninterest income of $333 million in 2017 decreased $20 million (6%) from 2016, as expected, on lower mortgage banking income. For 2018, the Corporation expects improving fee-based revenues and approximately $360 million to $370 million full year noninterest income.
•
Noninterest expenses of $709 million in 2017 increased $7 million (1%) from 2016. For 2018, the Corporation expects full year noninterest expense to be approximately $820 million, which includes $40 million of restructuring costs related to the acquisition of Bank Mutual. The Corporation also expects improvement in the efficiency ratio, as well as a lower effective tax rate.
Income Statement Analysis
Net Interest Income
Table 2 Average Balances and Interest Rates (interest and rates on a fully tax-equivalent basis)
(a)
The yield on tax-exempt loans and securities is computed on a fully tax-equivalent basis using a tax rate of 35% for all periods presented and is net of the effects of certain disallowed interest deductions.
(b)
Nonaccrual loans and loans held for sale have been included in the average balances.
(c)
Interest income includes net loan fees.
Net interest income is the primary source of the Corporation’s revenue. Net interest income is the difference between interest income on interest-earning assets, such as loans and investment securities, and the interest expense on interest-bearing deposits and other borrowings used to fund interest-earning and other assets or activities. Net interest income is affected by the amount and composition of earning assets and interest-bearing liabilities, as well as the sensitivity of the balance sheet to changes in interest rates, including characteristics such as the fixed or variable nature of the financial instruments, contractual maturities, re-pricing frequencies, loan prepayment behavior, and the use of interest rate derivative financial instruments.
Interest rate spread and net interest margin are utilized to measure and explain changes in net interest income. Interest rate spread is the difference between the yield on earning assets and the rate paid on interest-bearing liabilities that fund those assets. The net
interest margin is expressed as the percentage of net interest income to average earning assets. The net interest margin exceeds the interest rate spread because noninterest-bearing sources of funds (“net free funds”), principally noninterest-bearing demand deposits and stockholders’ equity, also support earning assets. To compare tax-exempt asset yields to taxable yields, the yield on tax-exempt loans and investment securities is computed on a fully tax-equivalent basis. Net interest income, interest rate spread, and net interest margin are discussed on a fully tax-equivalent basis.
Table 2 provides average balances of earning assets and interest-bearing liabilities, the associated interest income and expense, and the corresponding interest rates earned and paid, as well as net interest income, interest rate spread, and net interest margin on a fully tax-equivalent basis for the years ended December 31, 2017, 2016 and 2015. Tables 3 and 4 present additional information to facilitate the review and discussion of fully tax-equivalent net interest income, interest rate spread, and net interest margin.
The Corporation expects that as a result of the Tax Act, the fully tax-equivalent adjustment will be somewhat reduced in future periods.
Notable Contributions to the Change in 2017 Net Interest Income
•
Net interest income in the consolidated statements of income (which excludes the fully tax-equivalent adjustment) was $741 million in 2017 compared to $707 million in 2016. See sections Interest Rate Risk and Quantitative and Qualitative Disclosures about Market Risk, for a discussion of interest rate risk and market risk.
•
Fully tax-equivalent net interest income of $762 million for 2017 was $34 million higher than 2016.
•
Average earning assets of $27.0 billion in 2017 were $973 million (4%) higher than 2016. Average loans increased $942 million (5%), primarily attributed to growth in residential mortgage loans.
•
Average interest-bearing liabilities of $21.0 billion in 2017 were up $923 million (5%) versus 2016. On average, interest-bearing deposits increased $1.0 billion, while noninterest-bearing demand deposits (a principal component of net free funds) decreased by $110 million. Average short and long-term funding decreased $105 million from 2016, including a $259 million decrease in short-term funding, partially offset by a $154 million increase in long-term funding.
•
The net interest margin for 2017 was 2.82%, compared to 2.80% in 2016.
•
For 2017, loan yields increased 28 bp to 3.66%. This increase was primarily due to total commercial loan yields increasing 44 bps to 3.76%, as adjustable rate loans re-priced. The yield on investment securities and other short-term investments increased 8 bp to 2.42%.
•
The average cost of interest-bearing liabilities was 0.69% in 2017, 27 bp higher than 2016. The increase was primarily due to a 24 bp increase in the average cost of interest-bearing deposits (to 0.56%) and a 45 bp increase in the cost of short and long-term funding (to 1.25%), both primarily due to increases in the Federal Reserve interest rate.
•
The Federal Reserve increased the targeted federal funds rate on December 13, 2017 to a range of 1.25% to 1.50% from 1.00% to 1.25%. The Federal Reserve has indicated it expects gradual increases in the Federal Funds rate. However, the timing and magnitude of any such increases are uncertain and will depend on domestic and global economic conditions.
Table 3 Rate/Volume Analysis (a)
(a)
The change in interest due to both rate and volume has been allocated in proportion to the relationship to the dollar amounts of the change in each.
(b)
The yield on tax-exempt loans and securities is computed on a fully tax-equivalent basis using a tax rate of 35% for all periods presented and is net of the effects of certain disallowed interest deductions.
Table 4 Interest Rate: Spread and Interest Margin (on a fully tax-equivalent basis)
(a)
Source: Bloomberg
Provision for Credit Losses
The provision for credit losses (which includes the provision for loan losses and the provision for unfunded commitments) in 2017 was $26 million, compared to $70 million in 2016. Net charge offs were $39 million (representing 0.19% of average loans) for 2017, compared to $65 million (representing 0.33% of average loans) for 2016. The ratio of the allowance for loan losses to total loans was 1.28% and 1.39% at December 31, 2017 and 2016, respectively.
The provision for credit losses is predominantly a function of the Corporation’s reserving methodology and judgments as to other qualitative and quantitative factors used to determine the appropriate level of the allowance for loan losses and the allowance for unfunded commitments, which focuses on changes in the size and character of the loan portfolio, changes in levels of impaired and other nonaccrual loans, historical losses and delinquencies in each portfolio category, the level of loans sold or transferred to held for sale, the risk inherent in specific loans, concentrations of loans to specific borrowers or industries, existing economic conditions, the fair value of underlying collateral, and other factors which could affect potential credit losses. See additional discussion under sections: Loans, Credit Risk, Nonperforming Assets, and Allowance for Credit Losses.
Noninterest Income
Table 5 Noninterest Income
N/M = Not Meaningful
(a)
Excludes assets held in brokerage accounts.
Notable Contributions to the Change in 2017 Noninterest Income
•
Fee-based revenue was $269 million in 2017, an increase of $8 million (3%) compared to 2016. The increase was driven primarily by a $7 million increase in brokerage and asset management fees, reflecting a strong equity market and the acquisition of Whitnell & Co. in the fourth quarter of 2017.
•
Net mortgage banking income for 2017 was $19 million, down $19 million (49%) compared to 2016. Net mortgage banking consists of gross mortgage banking income less mortgage servicing rights expense. Gross mortgage banking income includes servicing fees, the gain or loss on sales of mortgage loans to the secondary market, changes to the mortgage repurchase reserve, and the fair value adjustments on the mortgage derivatives. Net mortgage banking income was down $19 million primarily due to a shift in the Corporation's strategy to hold some longer-dated production on balance sheet during the first half of 2017.
•
Bank and corporate owned life insurance income was $16 million for 2017, an increase of $2 million (13%) compared to 2016, primarily due to proceeds from policy redemptions.
Noninterest Expense
Table 6 Noninterest Expense
Notable Contributions to the Change in 2017 Noninterest Expense
•
Personnel expense (which includes salary-related expenses and fringe benefit expenses) was $420 million for 2017, up $5 million (1%) from 2016. This increase was in part due to higher management incentive plan expense and $1 million of one-time hourly, non-commission bonus payments recorded during the fourth quarter of 2017.
•
Technology expense of $63 million increased $6 million (10%) compared to 2016. The increase is due to the Corporation's investment in technology solutions to increase efficiency and meet the evolving banking delivery channel demands of our customers.
•
FDIC assessment was $3 million (10%) lower compared to 2016 reflecting decreased criticized and classified assets year over year.
Income Taxes
The Corporation recognized income tax expense of $110 million for 2017 compared to income tax expense of $87 million for 2016. The change in income tax expense was primarily due to the increase in the level of pretax income between the years and amounts recorded due to the enactment of the Tax Act. The effective tax rate was 32.3% for 2017, compared to an effective tax rate of 30.4% for 2016. Income tax expense is also impacted by ongoing federal and state income tax audits and changes in tax law and rates.
The Tax Act was enacted on December 22, 2017 and requires the Corporation to reflect the changes associated with the law’s provisions in its 2017 fourth quarter. The law is complex and has extensive implications for the Corporation’s federal and state current and deferred taxes and income tax expense. The Corporation has recorded and reported the effects of the law’s impacts in its financial statements for the period ended December 31, 2017. See Note 13 Income Taxes of the notes to consolidated financial statements for more information.
See Note 1 Summary of Significant Accounting Policies of the notes to consolidated financial statements for the Corporation’s income tax accounting policy and section Critical Accounting Policies. Income tax expense recorded in the consolidated statements of income involves the interpretation and application of certain accounting pronouncements and federal and state tax laws and regulations, and is therefore considered a critical accounting policy. The Corporation is subject to examination by various taxing authorities. Examination by taxing authorities may impact the amount of tax expense and / or the reserve for uncertainty in income taxes if their interpretations differ from those of management, based on their judgments about information available to them at the time of their examinations. See Note 13 Income Taxes of the notes to consolidated financial statements for more information.
Balance Sheet Analysis
•
At December 31, 2017, total assets were $30.5 billion, up $1.3 billion (5%) from December 31, 2016.
•
Loans of $20.8 billion at December 31, 2017 were up $730 million (4%) from December 31, 2016. See Note 4 Loans for additional information on loans.
•
At December 31, 2017, investment securities were $6.3 billion, up $373 million (6%) from December 31, 2016.
•
At December 31, 2017, total deposits of $22.8 billion were up $898 million (4%) from December 31, 2016. See Note 7 Deposits for additional information on deposits.
•
Short and long-term funding of $4.1 billion at December 31, 2017 increased $220 million (6%) since year-end 2016. See Note 8 Short-Term Funding and Note 9 Long-Term Funding to the notes to the consolidated financial statements for additional information on short- and long-term funding.
Loans
Table 7 Loan Composition
•
Commercial and business lending was $7.2 billion and represented 35% of total loans at December 31, 2017, a decrease of $185 million (3%) from December 31, 2016.
•
Commercial real estate lending totaled $4.8 billion at December 31, 2017 and represented 23% of total loans, a decrease of $240 million (5%) from December 31, 2016. This is consistent with the Corporation's plan to moderate commercial real estate growth in anticipation for the pending Bank Mutual transaction
•
Consumer loans were $8.8 billion and represented 42% of total loans at December 31, 2017, an increase of $1.2 billion (15%) from December 31, 2016, primarily driven by the Corporation's on balance sheet mortgage retention strategy.
The Corporation has long-term guidelines relative to the proportion of Commercial and Business, Commercial Real Estate, and Consumer loans within the overall loan portfolio, with each targeted to represent 30-40% of the overall loan portfolio. The targeted
long-term guidelines were unchanged during 2017 and 2016. Furthermore, certain sub-asset classes within the respective portfolios were further defined and dollar limitations were placed on these sub-portfolios. These guidelines and limits are reviewed quarterly and approved annually by the Enterprise Risk Committee of the Corporation’s Board of Directors. These guidelines and limits are designed to create balance and diversification within the loan portfolios.
Credit Risk
An active credit risk management process is used for commercial loans to ensure that sound and consistent credit decisions are made. Credit risk is controlled by detailed underwriting procedures, comprehensive loan administration, and periodic review of borrowers’ outstanding loans and commitments. Borrower relationships are formally reviewed and graded on an ongoing basis for early identification of potential problems. Further analysis by customer, industry, and geographic location are performed to monitor trends, financial performance, and concentrations. See Note 4 Loans for additional information on managing overall credit quality.
The loan portfolio is widely diversified by types of borrowers, industry groups, and market areas within our branch footprint. Significant loan concentrations are considered to exist when there are amounts loaned to numerous borrowers engaged in similar activities that would cause them to be similarly impacted by economic or other conditions. At December 31, 2017, no significant concentrations existed in the Corporation’s loan portfolio in excess of 10% of total loans.
Commercial and Business Lending: The commercial and business lending classification primarily includes commercial loans to large corporations, middle market companies, small businesses, and lease financing. At December 31, 2017, the largest industry group within the commercial and business lending category was manufacturing and wholesale trade which represented 9% of total loans and 25% of the total commercial and business lending portfolio. The next largest industry group within the commercial and business lending category was the power and utilities portfolio, which represented 5% of total loans and represented 14% of the total commercial and business lending portfolio at December 31, 2017. The remaining commercial and business lending portfolio is spread over a diverse range of industries, none of which exceed 5% of total loans. The credit risk related to commercial loans is largely influenced by general economic conditions and the resulting impact on a borrower’s operations or on the value of underlying collateral, if any. Currently, a higher risk segment of the commercial and business lending portfolio is loans to borrowers supporting oil and gas exploration and production, which are further discussed under Oil and Gas Lending below.
Oil and Gas Lending: The Corporation provides reserve based loans to oil and gas exploration and production firms. At December 31, 2017, the oil and gas portfolio was comprised of 56 credits, totaling $600 million of outstanding balances. The Corporation's oil and gas lending team is based in Houston and focuses on serving the funding needs of small and mid-sized companies in the upstream oil and gas business. The oil and gas loans are generally first lien, reserve-based, and borrowing base dependent lines of credit. A small portion of the portfolio is in a second lien position to which the Corporation also holds the first lien position. The portfolio is diversified across all major U.S. geographic basins. The portfolio is supported by both oil and gas collateral, with approximately 58% of the collateral in oil and 42% in gas at December 31, 2017. Borrowing base re-determinations for the portfolio are completed at least twice a year and are based on detailed engineering reports and discounted cash flow analysis.
The following table summarizes information about the Corporation's oil and gas loan portfolio.
Table 8 Oil and Gas Loan Portfolio
During 2016, lower market pricing and increased market volatility led to downward credit migration within the portfolio. However, the market stabilized during 2017 leading to improvements across the oil and gas portfolio. At December 31, 2017, nonaccrual oil and gas related loans totaled approximately $77 million, representing 13% of the oil and gas loan portfolio, a decrease of $70 million from December 31, 2016.
Commercial Real Estate - Investor: Commercial real estate-investor is comprised of loans secured by various non-owner occupied or investor income producing property types. At December 31, 2017, the largest property type exposures within the commercial real estate-investor portfolio were loans secured by multi-family properties which represented 5% of total loans and 29% of the total commercial real estate-investor portfolio and loans secured by retail properties which represented of 4% total loans and 28%of the total commercial real estate-investor portfolio. The remaining commercial real estate-investor portfolio was spread over various other property types, none of which exceeded 4% of total loans. Of the exposure in the Corporation's commercial real estate retailer portfolio, our largest tenant exposure is less than 5%, spread over six loans, to a national investment grade grocer. Credit risk is managed in a similar manner to commercial and business lending by employing sound underwriting guidelines, lending primarily to borrowers in local markets and businesses, periodically evaluating the underlying collateral, and formally reviewing the borrower’s financial soundness and relationship on an ongoing basis.
Real Estate Construction: Real estate construction loans are primarily short-term or interim loans that provide financing for the acquisition or development of commercial income properties, multi-family projects or residential development, both single family and condominium. Real estate construction loans are made to developers and project managers who are generally well known to the Corporation and have prior successful project experience. The credit risk associated with real estate construction loans is generally confined to specific geographic areas but is also influenced by general economic conditions. The Corporation controls the credit risk on these types of loans by making loans in familiar markets to developers, reviewing the merits of individual projects, controlling loan structure, and monitoring project progress and construction advances.
The Corporation’s current lending standards for commercial real estate and real estate construction lending are determined by property type and specifically address many criteria, including: maximum loan amounts, maximum loan-to-value (“LTV”), requirements for pre-leasing and / or pre-sales, minimum borrower equity, and maximum loan-to-cost. Currently, the maximum standard for LTV is 80%, with lower limits established for certain higher risk types, such as raw land which has a 50% LTV maximum. The Corporation’s LTV guidelines are more conservative than regulatory supervisory limits. In most cases, for real estate construction loans, the loan amounts include interest reserves, which are built into the loans and sized to fund loan payments through construction and lease up and / or sell out.
Table 9 Commercial Loan Distribution and Interest Rate Sensitivity
(a)
Demand loans, past due loans, and overdrafts are reported in the “Within 1 Year” category.
The total commercial loans that were floating or adjustable rate was $6.6 billion (55%) at December 31, 2017. Including the $4.3 billion of fixed rate loans due within one year, 91% of the commercial loan portfolio noted above matures, re-prices or resets within one year.
Residential Mortgage: Residential mortgage loans are primarily first lien home mortgages with a maximum loan to collateral value without credit enhancement (e.g., private mortgage insurance) of 80%. At December 31, 2017, the residential mortgage portfolio was comprised of $2.6 billion of fixed-rate residential real estate mortgages and $4.9 billion of variable-rate residential real estate mortgages, compared to $1.8 billion of fixed-rate mortgages and $4.5 billion variable-rate mortgages at December 31, 2016. The residential mortgage portfolio is focused primarily in our three-state branch footprint, with approximately 88% of the outstanding loan balances in our branch footprint at December 31, 2017. The majority of the on balance sheet residential mortgage portfolio consists of hybrid, adjustable rate mortgage loans with initial fixed rate terms of 3, 5, 7, or 10 years.
Based upon outstanding balances at December 31, 2017, the following table presents the next contractual repricing year for the Corporation's adjustable rate mortgage portfolio.
Table 10 Adjustable Rate Mortgage Repricing (a)
(a)
Based on contractual loan terms for 3/1, 5/1, 7/1, and 10/1 adjustable rate mortgages; does not factor in early prepayments or amortization
The Corporation generally retains certain fixed-rate residential real estate mortgages in its loan portfolio, including retail and private banking jumbo mortgages and CRA-related mortgages. As part of management's historical practice of originating and servicing residential mortgage loans, generally the Corporation's 30 year, agency conforming, fixed-rate residential real estate mortgage loans have been sold in the secondary market with the servicing rights retained. Subject to management's analysis of the current interest rate environment, among other market factors, the Corporation may choose to retain 30 year mortgage loan production on its balance sheet.
The Corporation’s underwriting and risk-based pricing guidelines for residential mortgage loans include minimum borrower FICO and maximum LTV of the property securing the loan. Residential mortgage products generally are underwritten using Federal Home Loan Mortgage Corporation (“FHLMC”) and Federal National Mortgage Association (“FNMA”) secondary marketing guidelines.
Home Equity: Home equity consists of both home equity lines of credit and closed-end home equity loans. Approximately 25% are first lien positions. Home equity loans and lines in a junior position at December 31, 2017 included approximately 50% for which the Corporation also owned or serviced the related first lien loan and approximately 50% where the Corporation did not service the related first lien loan.
The Corporation’s credit risk monitoring guidelines for home equity is based on an ongoing review of loan delinquency status, as well as a quarterly review of FICO score deterioration and property devaluation. The Corporation does not routinely obtain appraisals on performing loans to update LTV ratios after origination; however, the Corporation monitors the local housing markets by reviewing the various home price indices and incorporates the impact of the changing market conditions in its ongoing credit monitoring process. For junior lien home equity loans, the Corporation is unable to track the performance of the first lien loan if it does not own or service the first lien loan. However, the Corporation obtains a refreshed FICO score on a quarterly basis and monitors this as part of its assessment of the home equity portfolio.
The Corporation’s underwriting and risk-based pricing guidelines for home equity lines and loans consist of a combination of both borrower FICO and the original cumulative LTV against the property securing the loan. Currently, our policy sets the maximum acceptable LTV at 90% and the minimum acceptable FICO at 670. The Corporation's current home equity line of credit offering is priced based on floating rate indices and generally allows 10 years of interest-only payments followed by a 20-year amortization of the outstanding balance. The Corporation has significantly curtailed its offerings of fixed-rate, closed end home equity loans. The loans in the Corporation's portfolio generally have an original term of 20 years with principal and interest payments required.
Based upon outstanding balances at December 31, 2017, the following table presents the periods when home equity lines of credit revolving periods are scheduled to end.
Table 11 Home Equity Line of Credit - Revolving Period End Dates
Other Consumer: Other consumer consists of student loans, as well as short-term and other personal installment loans and credit cards. The Corporation had $183 million and $214 million of student loans at December 31, 2017, and December 31, 2016,
respectively, the majority of which are government guaranteed. Credit risk for non-government guaranteed student, short-term and personal installment loans and credit cards is influenced by general economic conditions, the characteristics of individual borrowers, and the nature of the loan collateral. Risks of loss are generally on smaller average balances per loan spread over many borrowers. Once charged off, there is usually less opportunity for recovery of these smaller consumer loans. Credit risk is primarily controlled by reviewing the creditworthiness of the borrowers, monitoring payment histories, and taking appropriate collateral and guarantee positions. The student loan portfolio is in run-off and no new student loans are being originated.
Nonperforming Assets
Management is committed to a proactive nonaccrual and problem loan identification philosophy. This philosophy is implemented through the ongoing monitoring and review of all pools of risk in the loan portfolio to ensure that problem loans are identified quickly and the risk of loss is minimized. The following table provides detailed information regarding nonperforming assets.
Table 12 Nonperforming Assets
Table 12 Nonperforming Assets (continued)
Nonaccrual Loans: Nonaccrual loans are considered to be one indicator of potential future loan losses. The ratio of nonaccrual loans to total loans at December 31, 2017 was 1.00%, as compared to 1.37% at December 31, 2016. See management’s accounting policy for nonaccrual loans in Note 1 Summary of Significant Accounting Policies and Note 4 Loans of the notes to consolidated financial statements for additional nonaccrual loan disclosures.
Accruing Loans Past Due 90 Days or More: Loans past due 90 days or more but still accruing interest are classified as such where the underlying loans are both well secured (the collateral value is sufficient to cover principal and accrued interest) and are in the process of collection. Accruing loans 90 days or more past due at December 31, 2017 were relatively unchanged from December 31, 2016.
Restructured Loans: Loans are considered restructured loans if concessions have been granted to borrowers that are experiencing financial difficulty. See also Note 4 Loans, of the notes to consolidated financial statements for additional restructured loans disclosures.
Potential Problem Loans: The level of potential problem loans is another predominant factor in determining the relative level of risk in the loan portfolio and in determining the appropriate level of the allowance for loan losses. Potential problem loans are generally defined by management to include loans rated as substandard by management but that are not considered impaired (i.e., nonaccrual loans and accruing troubled debt restructurings); however, there are circumstances present to create doubt as to the ability of the borrower to comply with present repayment terms. The decision of management to include performing loans in potential problem loans does not necessarily mean that the Corporation expects losses to occur, but that management recognizes a higher degree of risk associated with these loans.
OREO: Management actively seeks to ensure OREO properties held are monitored to minimize the Corporation's risk of loss.
Other Nonperforming Assets: Other nonperforming assets at December 31, 2017 were unchanged from December 31, 2016. The asset represents the Bank’s ownership interest in a profit participation agreement in an entity created to own certain oil and gas assets obtained as a result of the bankruptcy and liquidation of borrower in partial satisfaction of their loan.
Foregone Loan Interest: The following table shows, for those loans accounted for on a nonaccrual basis and restructured loans for the years ended as indicated, the approximate gross interest that would have been recorded if the loans had been current in accordance with their original terms and the amount of interest income that was included in interest income for the period.
Table 13 Foregone Loan Interest
Allowance for Credit Losses
Credit risks within the loan portfolio are inherently different for each loan type. Credit risk is controlled and monitored through the use of lending standards, a thorough review of potential borrowers, and ongoing review of loan payment performance. Active asset quality administration, including early problem loan identification and timely resolution of problems, aids in the management of credit risk and minimization of loan losses. Credit risk management for each loan type is discussed briefly in the section entitled Credit Risk.
The allowance for credit losses is comprised of the allowance for loan losses and the allowance for unfunded commitments. The level of the allowance for loan losses represents management’s estimate of an amount appropriate to provide for probable credit losses in the loan portfolio at the balance sheet date. The allowance for unfunded commitments is maintained at a level believed by management to be sufficient to absorb estimated probable losses related to unfunded credit facilities (including unfunded loan commitments and letters of credit) and is included in accrued expenses and other liabilities on the consolidated balance sheets.
The Corporation’s allowance for loan losses methodology considers an estimate of the historical loss emergence period (which is the period of time between the event that triggers a loss and the confirmation and / or charge off of that loss), probability of default, and loss given default for each loan portfolio segment. To assess the appropriateness of the allowance for loan losses, an allocation methodology is applied by the Corporation which focuses on evaluation of many factors, including but not limited to: evaluation of facts and issues related to specific loans, management’s ongoing review and grading of the loan portfolio, consideration of historical loan loss and delinquency experience on each portfolio category, trends in past due and nonaccrual loans, the level of potential problem loans, the risk characteristics of the various classifications of loans, changes in the size and character of the loan portfolio, concentrations of loans to specific borrowers or industries, existing economic conditions, the fair value of underlying collateral, and other qualitative and quantitative factors which could affect potential credit losses. Assessing these factors involves significant judgment. Because each of the criteria used is subject to change, the allowance for loan losses is not necessarily indicative of the trend of future loan losses in any particular category. Therefore, management considers the allowance for loan losses a critical accounting policy (see section Critical Accounting Policies). See section, Nonperforming Assets, for a detailed discussion on asset quality. See also management’s allowance for loan losses accounting policy in Note 1 Summary of Significant Accounting Policies and see Note 4 Loans of the notes to consolidated financial statements for additional allowance for loan losses disclosures. Table 7 provides information on loan growth and composition, Tables 14 and 16 provide additional information regarding activity in the allowance for loan losses, and Table 12 provides additional information regarding nonperforming assets.
The methodology used for the allocation of the allowance for loan losses at December 31, 2017, 2016, and 2015 was generally comparable, whereby the Corporation segregated its loss factors (used for both criticized and non-criticized loans) into a component primarily based on historical loss rates and a component primarily based on other qualitative factors that are probable to affect loan collectability. The allocation methodology consists of the following components: First, a valuation allowance estimate is established for specifically identified commercial and consumer loans determined by the Corporation to be impaired, using discounted cash flows, estimated fair value of underlying collateral, and / or other data available. Second, management allocates the allowance for loan losses with loss factors, for criticized loan pools by loan type as well as for non-criticized loan pools by loan type, primarily based on historical loss rates after considering loan type, historical loss and delinquency experience, and industry statistics. Loans that have been criticized are considered to have a higher risk of default than non-criticized loans, as circumstances were present to support the lower loan grade, warranting higher loss factors. The loss factors applied in the methodology are periodically re-evaluated and adjusted to reflect changes in historical loss levels or other risks. Lastly, management allocates allowance for loan losses to absorb unrecognized losses that may not be provided for by the other components due to
other factors evaluated by management, such as limitations within the credit risk grading process, known current economic or business conditions that may not yet show in trends, industry or other concentrations with current issues that impose higher inherent risks than are reflected in the loss factors, and other relevant considerations. The total allowance is available to absorb losses from any segment of the loan portfolio. The allocation of the Corporation’s allowance for loan losses for the last five years is shown in Table 16.
During the second quarter of 2016, in conjunction with the annual stress testing processes and continual review of the allowance for loan losses methodology, the Corporation further segmented its commercial and industrial loan portfolio into more refined risk categories. Specifically, the Corporation isolated certain mortgage warehouse lines structured as repurchase facilities as we own the underlying mortgage loan; thus, the inherent risk is lower in these transactions. As a result, the loss factors for these mortgage warehouse lines were updated to align more closely with those of similar portfolio mortgage loans, resulting in a $6 million reduction to the allowance for credit losses during the second quarter of 2016.
Table 14 Allowance for Credit Losses
Table 14 Allowance for Credit Losses (continued)
(a)
Includes the allowance for loan losses and the allowance for unfunded commitments.
(b)
Includes the provision for loan losses and the provision for unfunded commitments.
Table 15 Net (Charge Offs) Recoveries (a)
(a)
Ratio of net charge offs to average loans by loan type.
N/M = Not Meaningful
At December 31, 2017, the allowance for credit losses was $290 million, compared to $304 million at December 31, 2016. At December 31, 2017, the allowance for loan losses to total loans was 1.28% and covered 127% of nonaccrual loans, compared to 1.39% and 101%, respectively, at December 31, 2016. Management believes the level of allowance for loan losses to be appropriate at December 31, 2017 and December 31, 2016.
Key contributors to the decrease in the allowance for credit losses and the related provision for credit losses during December 31, 2017 were as follows.
•
At December 31, 2017, net charge offs of $39 million decreased $25 million from the comparable period in December 31, 2016. See Tables 14, 15 and 16 for additional information regarding the activity in the allowance for loan losses.
•
Total loans increased $730 million (4%) from December 31, 2016, primarily driven by a $1.2 billion (15%) increase in total consumer lending. See section Loans for additional information on the changes in the loan portfolio and see section Credit Risk for discussion about credit risk management for each loan type.
•
Total nonaccrual loans decreased $67 million from December 31, 2016 primarily due to the risk migration of oil and gas related credits. See Table 8 for additional information on the oil and gas portfolio. See also Note 4 Loans of the notes to consolidated financial statements and section Nonperforming Assets for additional disclosures on the changes in asset quality.
•
Potential problem loans decreased $174 million from December 31, 2016, primarily due to the risk migration on general commercial loans. See Table 12 for additional information on the changes in potential problem loans.
•
The allowance for loan losses attributable to oil and gas related credits (included within the commercial and industrial allowance for loan losses) was $27 million at December 31, 2017, compared to $38 million at December 31, 2016. See also oil and gas lending within the Credit Risk section for additional information.
•
The allowance for unfunded commitments of $24 million decreased $1 million from December 31, 2016.
Table 16 Allocation of the Allowance for Loan Losses
(a)
Allowance for loan losses category as a percentage of total loans by category.
Consolidated net income and stockholders’ equity could be affected if management’s estimate of the allowance for loan losses is subsequently materially different, requiring additional or less provision for loan losses to be recorded. Management carefully considers numerous detailed and general factors, its assumptions, and the likelihood of materially different conditions that could alter its assumptions. While management uses currently available information to recognize losses on loans, future adjustments to the allowance for loan losses may be necessary based on newly received appraisals, updated commercial customer financial statements, rapidly deteriorating customer cash flow, and changes in economic conditions that affect our customers. Additionally, larger credit relationships do not inherently create more risk, but can create wider fluctuations in net charge offs and asset quality measures. As an integral part of their examination process, various federal and state regulatory agencies also review the allowance for loan losses. These agencies may require additions to the allowance for loan losses or may require that certain loan balances be charged off or downgraded into criticized loan categories when their credit evaluations differ from those of management, based on their judgments about information available to them at the time of their examination.
Investment Securities Portfolio
Management of the investment securities portfolio involves the maximization of income while actively monitoring the portfolio's liquidity, market risk, quality of the investment securities, and its role in balance sheet and capital management. The Corporation classifies its investment securities as available for sale or held to maturity at time of purchase. Securities classified as available for sale may be sold from time to time in order to help manage interest rate risk, liquidity, credit quality, capital levels, or to take advantage of relative value opportunities in the marketplace. Investment securities classified as available for sale are carried at fair value in the consolidated balance sheets, while investment securities classified as held to maturity are carried at amortized cost in the consolidated balance sheets. The majority of the Corporation's investment securities are mortgage-related securities issued by the Government National Mortgage Association (“GNMA”) or GSEs such as FNMA and FHLMC.
Table 17 Investment Securities Portfolio
During 2017, the Corporation purchased approximately $144 million of FFELP asset backed securities, which are collateralized with government guaranteed student loans.
At December 31, 2017, the Corporation’s investment securities portfolio did not contain securities of any single non-government or non-GSE issuer that were payable from and secured by the same source of revenue or taxing authority where the aggregate carrying value of such securities exceeded 5% of stockholders’ equity or approximately $162 million.
The Corporation did not recognize any credit-related other-than-temporary impairment write-downs during 2017, 2016, or 2015. See Note 1 Summary of Significant Accounting Policies for management's accounting policy for investment securities and Note 3 Investment Securities of the notes to consolidated financial statements for additional investment securities disclosures.
Available for Sale
Residential and Commercial Mortgage-Related Securities: Residential mortgage-related securities include predominantly FNMA and FHLMC mortgage-backed securities and collateralized mortgage obligations. The commercial mortgage-related securities are GNMA securities. The fair value of mortgage-related securities is subject to inherent risks based upon the future performance of the underlying collateral (i.e., mortgage loans) for these securities, such as prepayment risk and interest rate changes. The Corporation regularly assesses valuation and credit quality underlying these securities.
Asset Backed Securities: Assets backed securities are comprised of government guaranteed FFELP securities.
Other Securities (Debt and Equity): Other securities are primarily comprised of debt securities that mature within 3 years and have a rating of A.
Held to Maturity
Municipal Securities: The municipal securities relate to various state and political subdivisions and school districts. The municipal securities portfolio is regularly assessed for credit quality and deterioration.
Residential Mortgage-Related Securities: The mortgage-related securities in held to maturity were comprised of select CRA mortgage-backed securities and select collateralized mortgage obligations.
Commercial Mortgage-Related Securities: The commercial mortgage-related securities are classified in held to maturity when a component qualifies for CRA purposes.
Regulatory Stock (Federal Home Loan Bank "FHLB" and Federal Reserve System)
In addition to the available for sale and held to maturity investment securities noted above, the Corporation is also required to hold certain regulatory stock. The Corporation is required to maintain Federal Reserve stock and FHLB stock as a member of both the Federal Reserve and the FHLB, and in amounts as required by these institutions. See Note 3 Investment Securities of the notes to consolidated financial statements for additional information on the regulatory stock.
Table 18 Investment Securities Portfolio Maturity Distribution (a)
(a)
Expected maturities will differ from contractual maturities, as borrowers may have the right to call or repay obligations with or without call or prepayment penalties.
(b)
Yields on tax-exempt securities are computed on a fully tax-equivalent basis using a tax rate of 35% and have not been adjusted for certain disallowed interest deductions.
Analysis of Deposits and Funding
Deposits and Customer Funding
The following table summarizes the composition of our deposits and customer funding at December 31, 2017, 2016 and 2015.
Table 19 Period End Deposit and Customer Funding Composition
(a)
Securities sold under agreement to repurchase and commercial paper.
(b) Included above in interest-bearing demand and money markets.
•
Deposits are the Corporation's largest source of funds.
•
Total deposits increased $898 million (4%) from December 31, 2016.
•
Non-maturity deposit accounts, comprised of savings, money market, and demand (both interest and non-interest bearing demand) accounts accounted for 90% of our total deposits at December 31, 2017.
•
Included in the above amounts were $2.5 billion of network deposits, primarily sourced from other financial institutions and intermediaries. Network deposits represented 11% of our deposits at December 31, 2017.
•
Other time deposits increased $777 million (50%) from December 31, 2016, primarily due to an increase in CDs issued to public entities.
Table 20 Maturity Distribution-Certificates of Deposit and Other Time Deposits of $100,000 or More
•
Selected period-end deposit information is detailed in Note 7 Deposits of the notes to consolidated financial statements, including a maturity distribution of all time deposits at December 31, 2017. See Table 2 for additional information on average deposit balances and deposit rates.
Other Funding Sources
Short-Term Funding: Short-term funding is comprised primarily of short-term FHLB advances; securities sold under agreements to repurchase; federal funds purchased and commercial paper. Many short-term funding sources are expected to be reissued and, therefore, do not represent an immediate need for cash. See Note 8 Short-Term Funding of the notes to consolidated financial statements for additional information on short-term funding. See Table 2 for additional information on average funding and rates.
Short-term funding sources at December 31, 2017 were approximately $676 million, a decrease of $416 million from December 31, 2016. The decrease in short-term funding was primarily due to decreases in FHLB advances and securities sold under an agreement to repurchase.
Long-Term Funding: Long-term funding is comprised primarily of long-term FHLB advances, senior notes and subordinated notes. See Note 9 Long-Term Funding of the notes to consolidated financial statements for additional information on long-term funding. See Table 2 for additional information on average funding and rates.
Long-term funding at December 31, 2017, was approximately $3.4 billion, an increase of $636 million from December 31, 2016, primarily due to an increase in long-term FHLB advances.
Liquidity
The objective of liquidity risk management is to ensure that the Corporation has the ability to generate sufficient cash or cash equivalents in a timely and cost effective manner to satisfy the cash flow requirements of depositors and borrowers and to meet its other commitments as they become due. The Corporation’s liquidity risk management process is designed to identify, measure, and manage the Corporation’s funding and liquidity risk to meet its daily funding needs in the ordinary course of business, as well as to address expected and unexpected changes in its funding requirements. The Corporation engages in various activities to manage its liquidity risk, including diversifying its funding sources, stress testing, and holding readily-marketable assets which can be used as a source of liquidity, if needed.
The Corporation performs dynamic scenario analysis in accordance with industry best practices. Measures have been established to ensure the Corporation has sufficient high quality short-term liquidity to meet cash flow requirements under stressed scenarios. In addition, the Corporation also reviews static measures such as deposit funding as a percent of total assets and liquid asset levels. Strong capital ratios, credit quality, and core earnings are also essential to maintaining cost effective access to wholesale funding markets. At December 31, 2017, the Corporation was in compliance with its internal liquidity objectives and has sufficient asset based liquidity to meet its obligations under a stressed scenario.
The Corporation maintains diverse and readily available liquidity sources shown below.
•
Investment securities are an important tool to the Corporation’s liquidity objective, and can be pledged or sold to enhance liquidity, if necessary. See Note 3 Investment Securities of the notes to consolidated financial statements for additional information on the Corporation's investment securities portfolio, including investment securities pledged.
•
The Bank pledges eligible loans to both the Federal Reserve and the FHLB as collateral to establish lines of credit and borrow from these entities. Based on the amount of collateral pledged, the FHLB established a collateral value from which the Bank may draw advances against the collateral. The collateral is also used to enable the FHLB to issue letters of credit in favor of public fund depositors of the Bank. As of December 31, 2017, the Bank had $2.8 billion available for future advances. The Federal Reserve also establishes a collateral value of assets to support borrowings from the discount window. As of December 31, 2017, the Bank had $2.1 billion available for discount window borrowings.
•
The Parent Company has a $200 million commercial paper program, of which $67 million was outstanding at December 31, 2017.
•
Dividends and service fees from subsidiaries, as well as the proceeds from issuance of capital, are also funding sources for the Parent Company.
•
The Parent Company has filed a shelf registration statement with the SEC under which the Parent Company may, from time to time, offer shares of the Corporation’s common stock in connection with acquisitions of businesses, assets or securities of other companies.
•
The Parent Company also has filed a universal shelf registration statement with the SEC, under which the Parent Company may offer the following securities, either separately or in units: debt securities, preferred stock, depositary shares, common stock, and warrants.
•
The Bank may also issue institutional certificates of deposit, network transaction deposits, and brokered certificates of deposit.
Credit ratings relate to the Corporation’s ability to issue debt securities and the cost to borrow money, and should not be viewed as an indication of future stock performance or a recommendation to buy, sell, or hold securities. Adverse changes in these factors could result in a negative change in credit ratings and impact not only the ability to raise funds in the capital markets but also the cost of these funds. The credit ratings of the Parent Company and the Bank at December 31, 2017 are displayed below.
Table 21 Credit Ratings
(a)
Standard and Poor's
For the year ended December 31, 2017, net cash provided by operating and financing activities was $458 million and $1.0 billion, respectively, while investing activities used net cash of $1.4 billion, for a net increase in cash and cash equivalents of $74 million since year-end 2016. During 2017, net assets increased to $30.5 billion (up $1.3 billion or 5%) compared to year-end 2016, primarily due to a $862 million net increase in loans. On the funding side, deposits increased $898 million while short-term funding decreased $416 million and long-term funding increased $635 million.
For the year ended December 31, 2016, net cash provided by operating and financing activities was $641 million and $1.2 billion, respectively, while investing activities used net cash of $1.7 billion, for a net increase in cash and cash equivalents of $169 million since year-end 2015. During 2016, net assets increased to $29.1 billion (up $1.4 billion or 5%) compared to year-end 2015, primarily due to a $1.7 billion net increase in loans. On the funding side, deposits increased $881 million while short-term and long-term funding increased $258 million and $85 million, respectively.
Quantitative and Qualitative Disclosures about Market Risk
Market risk and interest rate risk are managed centrally. Market risk is the potential for loss arising from adverse changes in the fair value of fixed income securities, equity securities, other earning assets and derivative financial instruments as a result of changes in interest rates or other factors. Interest rate risk is the potential for reduced net interest income resulting from adverse changes in the level of interest rates. As a financial institution that engages in transactions involving an array of financial products, the Corporation is exposed to both market risk and interest rate risk. In addition to market risk, interest rate risk is measured and managed through a number of methods. The Corporation uses financial modeling simulation techniques that measure the sensitivity of future earnings due to changing rate environments to measure interest rate risk.
Policies established by the Corporation’s Asset / Liability Committee (“ALCO”) and approved by the Board of Directors are intended to limit these risks. The Board has delegated day-to-day responsibility for managing market and interest rate risk to ALCO. The primary objectives of market risk management is to minimize any adverse effect that changes in market risk factors may have on net interest income and to offset the risk of price changes for certain assets recorded at fair value.
Interest Rate Risk
The primary goal of interest rate risk management is to control exposure to interest rate risk, within policy limits approved by the Board of Directors. These limits and guidelines reflect our risk appetite for interest rate risk over both short-term and long-term horizons. No limit breaches occurred during 2017.
The major sources of our non-trading interest rate risk are timing differences in the maturity and re-pricing characteristics of assets and liabilities, changes in the shape of the yield curve, and the potential exercise of explicit or embedded options. We measure these risks and their impact by identifying and quantifying exposures through the use of sophisticated simulation and valuation models, which, as described in additional detail below, are employed by management to understand net interest income ("NII") at risk, interest rate sensitive earnings at risk ("EAR"), and market value of equity ("MVE") at risk. The Corporation’s interest rate risk profile is such that a higher or steeper yield curve adds to income while a flatter yield curve is relatively neutral, and a lower or inverted yield curve generally has a negative impact on earnings. Based on current rate expectations for a flattening yield curve, our earnings at risk profile is neutral at December 31, 2017. While the modeled outcome of instantaneous and sustained parallel
rate shocks of 100 bps or more indicate asset sensitivity, which would provide increased earnings, we see a low probability of a sustained parallel shift occurring in the near term.
MVE and EAR are complementary interest rate risk metrics and should be viewed together. Net interest income and EAR sensitivity capture asset and liability re-pricing mismatches for the first year inclusive of forecast balance sheet changes and are considered shorter term measures, while MVE sensitivity captures mismatches within the period end balance sheets through the financial instruments’ respective maturities and is considered a longer term measure.
A positive NII and EAR sensitivity in a rising rate environment indicates that over the forecast horizon of one year, asset based income will increase more quickly than liability based expense due to the balance sheet composition. A negative MVE sensitivity in a rising rate environment indicates that the value of financial assets will decrease more than the value of financial liabilities.
One of the primary methods that we use to quantify and manage interest rate risk is simulation analysis, which we use to model NII and rate sensitive noninterest items from the Corporation’s balance sheet and derivative positions under various interest rate scenarios. As the future path of interest rates is not known with certainty, we use simulation analysis to project rate sensitive income under many scenarios including implied forward and deliberately extreme and perhaps unlikely scenarios. The analyses may include rapid and gradual ramping of interest rates, rate shocks, basis risk analysis, and yield curve twists. Specific balance sheet management strategies are also analyzed to determine their impact on NII and EAR.
Key assumptions in the simulation analysis (and in the valuation analysis discussed below) relate to the behavior of interest rates and pricing spreads, the changes in product balances, and the behavior of loan and deposit clients in different rate environments. This analysis incorporates several assumptions, the most material of which relate to the re-pricing characteristics and balance fluctuations of deposits with indeterminate or non-contractual maturities, and prepayment of loans and securities.
The sensitivity analysis included below is measured as a percentage change in NII and EAR due to instantaneous moves in benchmark interest rates from a baseline scenario. Estimated changes set forth below are dependent upon material assumptions such as those previously discussed. We evaluate the sensitivity using: 1) a dynamic forecast incorporating expected growth in the balance sheet, and 2) a static forecast where the current balance sheet is held constant.
Table 22 Estimated % Change in Rate Sensitive Earnings at Risk (EAR) Over 12 Months
We also perform valuation analysis, which we use for discerning levels of risk present in the balance sheet and derivative positions that might not be taken into account in the NII simulation analysis. Whereas NII and EAR simulation highlights exposures over a relatively short time horizon, valuation analysis incorporates all cash flows over the estimated remaining life of all balance sheet and derivative positions. The valuation of the balance sheet, at a point in time, is defined as the discounted present value of all asset cash flows and derivative cash flows minus the discounted present value of all liability cash flows, the net of which is referred to as MVE. The sensitivity of MVE to changes in the level of interest rates is a measure of the longer-term re-pricing risk and options risk embedded in the balance sheet. Similar to the NII simulation, MVE uses instantaneous changes in rates. However, MVE values only the current balance sheet and does not incorporate the growth assumptions that are used in the NII and EAR simulations. As with NII and EAR simulations, assumptions about the timing and variability of balance sheet cash flows are critical in the MVE analysis. Particularly important are the assumptions driving prepayments and the expected changes in balances and pricing of the indeterminate deposit portfolios. At December 31, 2017, the MVE profile indicates a decline in net balance sheet value due to instantaneous upward changes in rates. MVE sensitivity is reported in both upward and downward rate shocks.
Table 23 Market Value of Equity Sensitivity
The decrease in MVE sensitivity from December 31, 2016 was primarily attributable to the duration of mortgage-related assets extending. While an instantaneous and severe shift in interest rates was used in this analysis to provide an estimate of exposure
under an extremely adverse scenario, the Corporation believes that a gradual shift in interest rates would have a much more modest impact. Since MVE measures the discounted present value of cash flows over the estimated lives of instruments, the change in MVE does not directly correlate to the degree that earnings would be impacted over a shorter time horizon (i.e., the current year). Further, MVE does not take into account factors such as future balance sheet growth, changes in product mix, changes in yield curve relationships, and changing product spreads that could mitigate the adverse impact of changes in interest rates.
The above NII, EAR, and MVE measures do not include all actions that management may undertake to manage this risk in response to anticipated changes in interest rates.
Contractual Obligations, Commitments, Off-Balance Sheet Arrangements, and Contingent Liabilities
Table 24 Contractual Obligations and Other Commitments
Through the normal course of operations, the Corporation has entered into certain contractual obligations and other commitments, including but not limited to those most usually related to funding of operations through deposits or funding, commitments to extend credit, derivative contracts to assist management of interest rate exposure, and to a lesser degree leases for premises and equipment. Table 24 summarizes significant contractual obligations and other commitments at December 31, 2017, and those amounts contractually due to the recipient, including any unamortized premiums or discounts, hedge basis adjustments, or other similar carrying value adjustments. Further discussion of the nature of each obligation is included in the referenced note to the consolidated financial statements.
The Corporation also has obligations under its retirement plans as described in Note 12 Retirement Plan of the notes to consolidated financial statements.
As of December 31, 2017, the net liability for uncertainty in income taxes, including associated interest and penalties, was $3 million. This liability represents an estimate of tax positions that the Corporation has taken in its tax returns which may ultimately not be sustained upon examination by the tax authorities. Since the ultimate amount and timing of any future cash settlements cannot be predicted with reasonable certainty, this estimated liability has been excluded from Table 24. See Note 13 Income Taxes of the notes to consolidated financial statements for additional information and disclosure related to uncertainty in income taxes.
The Corporation may have a variety of financial transactions that, under GAAP, are either not recorded on the balance sheet or are recorded on the balance sheet in amounts that differ from the full contract or notional amounts.
The Corporation routinely enters into lending-related commitments, including commitments to extend credit, interest rate lock commitments to originate residential mortgage loans held for sale (discussed further below), commercial letters of credit, and standby letters of credit. See Note 16 Commitments, Off-Balance Sheet Arrangements, and Legal Proceedings of the notes to consolidated financial statements for further information on lending-related commitments.
The Corporation’s derivative financial instruments, under which the Corporation is required to either receive cash from or pay cash to counterparties depending on changes in interest rates applied to notional amounts, are carried at fair value on the consolidated balance sheets. Because neither the derivative assets and liabilities, nor their notional amounts, represent the amounts that may ultimately be paid under these contracts, they are not included in Table 24. For further information and discussion of derivative contracts, see Note 1 Summary of Significant Accounting Policies and Note 14 Derivative and Hedging Activities of the notes to consolidated financial statements.
The Corporation sells residential mortgage loans to investors in the normal course of business. Residential mortgage loans sold to others are predominantly conventional residential first lien mortgages originated under our usual underwriting procedures, and are most often sold on a nonrecourse basis primarily to the GSEs. See Note 16 Commitments, Off-Balance Sheet Arrangements, and Legal Proceedings of the notes to consolidated financial statements for additional information on residential mortgage loans sold.
The Corporation has principal investment commitments to provide capital-based financing to private and public companies and also invests in low-income housing, and various credit projects. See Note 16 Commitments, Off-Balance Sheet Arrangements, and Legal Proceedings of the notes to consolidated financial statements for additional information on these investments. The Volcker Rule prohibits insured depository institutions and their holding companies from engaging in proprietary trading except in limited circumstances, and prohibits them from owning equity interests in excess of three percent of Tier 1 Capital in private equity and hedge funds. Complying with the Volcker Rule is not expected to have a material impact on the Corporation. See Part I, Item 1, Business, for additional information on the Volcker Rule.
Capital
Management actively reviews capital strategies for the Corporation and each of its subsidiaries in light of perceived business risks, future growth opportunities, industry standards, and compliance with regulatory requirements. The assessment of overall capital adequacy depends on a variety of factors, including asset quality, liquidity, stability of earnings, changing competitive forces, economic condition in markets served, and strength of management. At December 31, 2017, the capital ratios of the Corporation and its banking subsidiary were in excess of regulatory minimum requirements. The Corporation’s capital ratios are summarized in Table 25.
Table 25 Capital Ratios
(a)
The Federal Reserve establishes regulatory capital requirements, including well-capitalized standards for the Corporation. The Corporation follows Basel III, subject to certain transition provisions. These regulatory capital measurements are used by management, regulators, investors, and analysts to assess, monitor and compare the quality and composition of our capital with the capital of other financial services companies. See Table 26 for a reconciliation of common equity Tier 1 and average common equity Tier 1.
(b)
Ratio is based upon basic earnings per common share.
Table 26 Non-GAAP Measures
(a)
The ratio tangible common equity to tangible assets excludes goodwill and other intangible assets, net, which is a non-GAAP financial measure. This financial measure has been included as it is considered to be a critical metric with which to analyze and evaluate financial condition and capital strength.
(b)
The Federal Reserve establishes regulatory capital requirements, including well-capitalized standards for the Corporation. Prior to 2015, the regulatory capital requirements effective for the Corporation followed Basel I. Beginning January 1, 2015, the regulatory capital requirements effective for the Corporation follow Basel III, subject to certain transition provisions. These regulatory capital measurements are used by management, regulators, investors, and analysts to assess, monitor and compare the quality and composition of our capital with the capital of other financial services companies.
(c)
The efficiency ratio as defined by the Federal Reserve guidance is noninterest expense (which includes the provision for unfunded commitments) divided by the sum of net interest income plus noninterest income, excluding investment securities gains / losses, net. The fully tax-equivalent efficiency ratio is noninterest expense (which includes the provision for unfunded commitments), excluding other intangible amortization, divided by the sum of fully tax-equivalent net interest income plus noninterest income, excluding investment securities gains / losses, net. Management believes the fully tax-equivalent efficiency ratio, which adjusts net interest income for the tax-favored status of certain loans and investment securities, to be the preferred industry measurement as it enhances the comparability of net interest income arising from taxable and tax-exempt sources.
See Note 10 Stockholders' Equity and Note 19 Regulatory Matters for additional capital disclosures.
Segment Review
As discussed in Note 21 Segment Reporting of the notes to consolidated financial statements, the Corporation’s reportable segments have been determined based upon its internal profitability reporting system, which is organized by strategic business unit. Certain strategic business units have been combined for segment information reporting purposes where the nature of the products and services, the type of customer, and the distribution of those products and services are similar. The three reportable segments are Corporate and Commercial Specialty; Community, Consumer and Business; and Risk Management and Shared Services.
The financial information of the Corporation’s segments was compiled utilizing the accounting policies described in Note 1 Summary of Significant Accounting Policies and Note 21 Segment Reporting of the notes to consolidated financial statements.
Funds Transfer Pricing ("FTP") is an important tool for managing the Corporation’s balance sheet structure and measuring risk-adjusted profitability. By appropriately allocating the cost of funding and contingent liquidity to business units, the FTP process improves product pricing which influences the volume and terms of new business and helps to optimize the risk / reward profile of the balance sheet. This process helps align the Corporation’s funding and contingent liquidity risk with its risk appetite and complements broader liquidity and interest rate risk management programs. FTP methodologies are designed to promote more resilient, sustainable business models and centralize the management of funding and contingent liquidity risks. Through FTP, the Corporation transfers these risks to a central management function that can take advantage of natural off-sets, centralized hedging activities, and a broader view of these risks across business units.
Segment Review 2017 Compared to 2016
The Corporate and Commercial Specialty segment consists of lending and deposit solutions to larger businesses, developers, not-for-profits, municipalities, and financial institutions, and the support to deliver, fund and manage such banking solutions. The Corporate and Commercial Specialty segment had net income of $139 million in 2017, up $21 million compared to $118 million in 2016. Segment revenue increased $33 million to $409 million in 2017 compared to $376 million in 2016, primarily due to higher net interest income from the growth in average loan balances and the interest rate increases. The credit provision decreased $8 million in 2017. Average loan balances were $10.8 billion for 2017, up $643 million from an average balance of $10.2 billion for 2016. Average deposit balances were $6.9 billion for 2017, up $1.0 billion from average deposits of $5.9 billion in 2016. Average allocated capital increased $47 million to $1.1 billion in 2017, reflecting the increase in segment's loan balances.
The Community, Consumer, and Business segment consists of lending and deposit solutions to individuals and small to mid-sized businesses and also provides a variety of investment and fiduciary products and services. The Community, Consumer, and Business segment had net income of $76 million in 2017, up $10 million compared to $66 million in 2016. Segment revenue decreased $1 million to $628 million in 2017. Noninterest expense decreased $11 million to $491 million in 2017, primarily due to decreased personnel expenses relating to the restructuring of the Corporation's commercial and business lending areas in 2016. Average loan balances were $9.5 billion for 2017, up $145 million from an average balance of $9.3 billion for 2016. Average deposit balances were $11.7 billion in 2017, up $260 million from average deposits of $11.5 billion in 2016. Average allocated capital decreased $43 million to $586 million in 2017.
The Risk Management and Shared Services segment had net income of $15 million in 2017, down $1 million compared to $16 million in 2016. Net interest income decreased $5 million, primarily due to recent changes in the rate environment, as well as an adjustment of FTP rate assumptions that increased the interest income allocated to the lines of business with an offsetting decrease in the interest income allocated to the Risk Management and Shared Services segment. Noninterest income decreased $13 million, primarily due to a $9 million gain on the sales of FNMA and FHLMC securities in the twelve months ended December 31, 2016. The credit provision was $37 million in 2017, improved $32 million from 2016 due to improvement in credit quality. Average earning asset balances were $6.7 billion for 2017, up $184 million from an average balance of $6.5 billion in 2016. Average deposits were $3.3 billion in 2017, down $376 million from 2016. Average allocated capital increased $165 million to $405 million for 2017.
Segment Review 2016 Compared to 2015
The Corporate and Commercial Specialty segment consists of lending and deposit solutions to larger businesses, developers, not-for-profits, municipalities, and financial institutions, and the support to deliver, fund and manage such banking solutions. The Corporate and Commercial Specialty segment had net income of $118 million in 2016, up $4 million compared to $114 million in 2015. Segment revenue increased $20 million to $376 million in 2016 compared to $357 million in 2015, primarily due to higher net interest income from the growth in average loan balances and the interest rate increase at the end of 2015. The credit provision increased $8 million in 2016 due to loan growth and a decrease in loan credit quality in the oil and gas portfolio. Average loan balances were $10.2 billion for 2016, up $795 million from an average balance of $9.4 billion for 2015. Average allocated capital increased $93 million to $1.1 billion in 2016, reflecting the increase in segment's loan balances.
The Community, Consumer, and Business segment consists of lending and deposit solutions to individuals and small to mid-sized businesses and also provides a variety of investment and fiduciary products and services. The Community, Consumer, and Business segment had net income of $66 million in 2016, up $3 million compared to $63 million in 2015. Segment revenue increased $14 million to $628 million in 2016, primarily due to a $7 million increase in insurance commissions, a $6 million increase in mortgage banking income, partially offset by a $2 million decrease in trust service fees. Noninterest expense increased $10 million to $502 million in 2016, primarily due to increased severance relating to the restructuring of the Corporation's commercial and business lending areas. Average loan balances were $9.3 billion for 2016, up $498 million from an average balance of $8.8 billion for 2015. Average deposit balances were $11.5 billion in 2016, up $553 million from average deposits of $10.9 billion in 2015. Average allocated capital decreased $11 million to $630 million in 2016.
The Risk Management and Shared Services segment had net income of $16 million in 2016, up $4 million compared to $12 million in 2015. Net interest income increased $11 million primarily due to an increase in the volume of funding provided to the Corporate and Commercial Specialty segment (as loan growth exceeded deposit growth within this segment), as well as a higher interest rate charged on this funding due to the interest rate increase at the end of 2015. Noninterest income increased $10 million primarily due to an increase in proceeds from bank and corporate owned life insurance policy redemptions of $5 million and an increase in net gains on the sale of assets of $4 million. The credit provision improved $25 million. Average earning asset balances were $6.5 billion for 2016, up $162 million from an average balance of $6.4 billion in 2015, primarily due to increases in commercial and business lending and investment securities. Average deposits were $3.6 billion in 2016, up $502 million from 2015. Average allocated capital increased $24 million to $240 million for 2016.
Table 27 Selected Quarterly Financial Data
The following is selected financial data summarizing the results of operations for each quarter in the years ended December 31, 2017 and 2016.
2016 Compared to 2015
Net income available to common equity for 2016 was $191 million, or diluted earnings per common share of $1.26. In comparison, net income available to common equity for 2015 was $181 million, or diluted earnings per common share of $1.19. Cash dividends increased to $0.45 per common share in 2016 an increase of 10% compared to cash dividends of $0.41 per common share in 2015. Key factors behind these results are discussed below.
•
At December 31, 2016, total loans were $20.1 billion, up $1.3 billion (7%) from December 31, 2015, with growth in both commercial real estate and total consumer loans. See section Loans for additional information on the changes in the loan portfolio and see section Credit Risk for discussion about credit risk management for each loan type. Total deposits at December 31, 2016 were $21.9 billion, up $881 million (4%) from December 31, 2015, primarily due to an increase in interest bearing demand deposits.
•
Average earning assets of $26.0 billion in 2016 were $1.5 billion (6%) higher than 2015. Average loans increased $1.4 billion (8%), including an $862 million increase in commercial loans and a $618 million increase in residential mortgage loans.
Average interest-bearing liabilities of $20.1 billion in 2016 were up $792 million (4%) versus 2015. On average, interest-bearing deposits increased $538 million and average noninterest-bearing demand deposits increased by $565 million. Average short and long-term funding increased $254 million, consisting of a $463 million increase in short-term funding, partially offset by a $209 million decrease in long-term funding.
•
The provision for credit losses increased to $70 million in 2016, an increase of $33 million from 2015. See Table 14 for additional information on provision for credit losses. Total nonaccrual loans increased $97 million from December 31, 2015, primarily due to the risk migration of oil and gas related credits. Potential problem loans increased to $351 million, an increase of $49 million (16%) from December 31, 2015. See Table 12 for additional information on nonaccrual loans and the changes in potential problem loans. See also Table 8 for additional information on the oil and gas portfolio. At December 31, 2016, the allowance for loan losses to total loans ratio was 1.39%, covering 101% of nonaccrual loans, compared to 1.47% at December 31, 2015, covering 154% of nonaccrual loans. Net charge offs to average loans increased to 0.33%, compared to a net charge off ratio of 0.16% for 2015.
•
Fully tax-equivalent net interest income was $728 million for 2016, an increase of $31 million from 2015, including favorable volume variances (increasing fully tax-equivalent net interest income by $48 million), partially offset by unfavorable rate variances (decreasing fully tax-equivalent net interest income by $17 million). The net interest margin for 2016 was 2.80%, 4 bp lower than 2.84% in 2015, attributable to a 5 bp decrease in interest rate spread, and a 1 bp increase in contribution from net free funds.
•
Noninterest income was $353 million for 2016, up $24 million (7%) from 2015. Insurance commissions were $81 million, an increase of $5 million (7%) compared to 2015. The increase in insurance commissions was primarily attributable to property and casualty and employee benefit related commissions. Net mortgage banking income was $38 million for 2016, up $6 million (18%) from 2015, primarily due to gains on portfolio loan sales. Net capital market fees of $22 million for 2016 were up $8 million (52%) compared to 2015. This increase was primarily due to higher customer hedging transactions and higher loan syndication activity.
•
Noninterest expense for 2016 was $703 million, up $4 million or 1% from 2015. Personnel expense was $415 million, up $10 million (2%) versus 2015, and was primarily attributable to annual merit increases, higher production increasing sales commissions, and increased severance in 2016. Nonpersonnel noninterest expenses on a combined basis were down $6 million (2%) compared to 2015.
•
Income tax expense for 2016 was $87 million, compared to income tax expense of $81 million for 2015. The effective tax rate was 30.4% for 2016, compared to an effective rate of 30.2% for 2015.
Critical Accounting Policies
In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ significantly from those estimates. Estimates that are particularly susceptible to significant change include the determination of the allowance for loan losses, goodwill impairment assessment, mortgage servicing rights valuation, and income taxes.
The consolidated financial statements of the Corporation are prepared in conformity with U.S. generally accepted accounting principles and follow general practices within the industries in which it operates. This preparation requires management to make estimates, assumptions, and judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions, and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, actual results could differ from the estimates, assumptions, and judgments reflected in the financial statements. Certain policies inherently have a greater reliance on the use of estimates, assumptions, and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported. Management believes the following policies are both important to the portrayal of the Corporation’s financial condition and results of operations and require subjective or complex judgments and, therefore, management considers the following to be critical accounting policies. The critical accounting policies are discussed directly with the Audit Committee of the Corporation’s Board of Directors.
Allowance for Loan Losses: Management’s evaluation process used to determine the appropriateness of the allowance for loan losses is subject to the use of estimates, assumptions, and judgments. The evaluation process combines many factors: management’s ongoing review and grading of the loan portfolio, consideration of historical loan loss and delinquency experience, trends in past due and nonaccrual loans, risk characteristics of the various classifications of loans, concentrations of loans to specific borrowers or industries, existing economic conditions, the fair value of underlying collateral, and other qualitative and quantitative factors which could affect probable credit losses. Because current economic conditions can change and future events are inherently difficult to predict, the anticipated amount of estimated loan losses, and therefore the appropriateness of the allowance for loan losses,
could change significantly. As an integral part of their examination process, various regulatory agencies also review the allowance for loan losses. Such agencies may require additions to the allowance for loan losses or may require that certain loan balances be charged off or downgraded into criticized loan categories when their credit evaluations differ from those of management, based on their judgments about information available to them at the time of their examination. The Corporation believes the level of the allowance for loan losses is appropriate. See Note 1 Summary of Significant Accounting Policies and Note 4 Loans of the notes to consolidated financial statements as well as the Allowance for Credit Losses section.
Goodwill Impairment Assessment: Goodwill is not amortized but, instead, is subject to impairment tests on at least an annual basis, and more frequently if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. The Corporation conducted its most recent annual impairment test in May 2017, utilizing a qualitative assessment. See Note 1 Summary of Significant Accounting Policies for the Corporation's accounting policy on goodwill and see Note 5 Goodwill and Other Intangible Assets of the notes to consolidated financial statements for a detailed discussion of the factors considered by management in the qualitative assessment. Based on this assessment, management concluded that the 2017 annual qualitative impairment assessment indicated that it is more likely than not that the estimated fair value exceeded the carrying value (including goodwill) for each reporting unit. Therefore, a step one quantitative analysis was not required. There were no events since the May 2017 impairment testing that have changed the Corporation's impairment assessment conclusion. There were no impairment charges recorded in 2017, 2016, or 2015.
Mortgage Servicing Rights Valuation: The fair value of the Corporation’s mortgage servicing rights asset is important to the presentation of the consolidated financial statements since the mortgage servicing rights are carried on the consolidated balance sheet at the lower of amortized cost or estimated fair value. Mortgage servicing rights do not trade in an active open market with readily observable prices. As such, like other participants in the mortgage banking business, the Corporation relies on an independent valuation from a third party which uses a discounted cash flow model to estimate the fair value of its mortgage servicing rights. The use of a discounted cash flow model involves judgment, particularly of estimated prepayment speeds of underlying mortgages serviced and the overall level of interest rates. Loan type and note interest rate are the predominant risk characteristics of the underlying loans used to stratify capitalized mortgage servicing rights for purposes of measuring impairment. The Corporation periodically reviews the assumptions underlying the valuation of mortgage servicing rights. While the Corporation believes that the values produced by the discounted cash flow model are indicative of the fair value of its mortgage servicing rights portfolio, these values can change significantly depending upon key factors, such as the then current interest rate environment, estimated prepayment speeds of the underlying mortgages serviced, and other economic conditions. The proceeds that might be received should the Corporation actually consider a sale of some or all of the mortgage servicing rights portfolio could differ from the amounts reported at any point in time.
To better understand the sensitivity of the impact of prepayment speeds and refinance rates on the value of the mortgage servicing rights asset at December 31, 2017, (holding all other factors unchanged), if refinance rates were to decrease 50 bp, the estimated value of the mortgage servicing rights asset would have been approximately $8 million (or 13%) lower. Conversely, if refinance rates were to increase 50 bp, the estimated value of the mortgage servicing rights asset would have been approximately $7 million (or 10%) higher. However, the Corporation’s potential recovery recognition due to valuation improvement is limited to the balance of the mortgage servicing rights valuation reserve, which was approximately $1 million at December 31, 2017. The potential recovery recognition is constrained as the Corporation has elected to use the amortization method of accounting (rather than fair value measurement accounting). Under the amortization method, mortgage servicing rights are carried at the lower of the initial capitalized amount, net of accumulated amortization, or estimated fair value. Therefore, the mortgage servicing right asset may only be marked up to the extent of the previously recognized valuation reserve. The Corporation believes the mortgage servicing rights asset is properly recorded in the consolidated balance sheets. See Note 1 Summary of Significant Accounting Policies and Note 5 Goodwill and Other Intangible Assets of the notes to consolidated financial statements.
Income Taxes: The assessment of tax assets and liabilities involves the use of estimates, assumptions, interpretations, and judgment concerning certain accounting pronouncements and federal and state tax codes and regulations. There can be no assurance that future events, such as court decisions or positions of federal and state taxing authorities, will not differ from management’s current assessment, the impact of which could be significant to the consolidated results of operations and reported earnings. Quarterly assessments are performed to determine if valuation allowances are necessary against any portion of the Corporation’s deferred tax assets. Assessing the need for, or sufficiency of, a valuation allowance requires management to evaluate all available evidence, both positive and negative, including the recent trend of quarterly earnings. Positive evidence necessary to overcome the negative evidence includes whether future taxable income in sufficient amounts and character within the carryback and carryforward periods is available under the tax law, including the use of tax planning strategies. When negative evidence (e.g., cumulative losses in recent years, history of operating loss or tax credit carryforwards expiring unused) exists, more positive evidence than negative evidence will be necessary. The Corporation has concluded that based on the level of positive evidence, it is more likely than not that the deferred tax asset will be realized. However, there is no guarantee that the tax benefits associated with the deferred tax
assets will be fully realized. The Corporation believes the tax assets and liabilities are properly recorded in the consolidated balance sheets. See Note 13 Income Taxes of the notes to consolidated financial statements and section Income Taxes.
Future Accounting Pronouncements
New accounting policies adopted by the Corporation are discussed in Note 1 Summary of Significant Accounting Policies of the notes to consolidated financial statements. The expected impact of accounting pronouncements recently issued or proposed but not yet required to be adopted are discussed in the table below. To the extent the adoption of new accounting standards materially affects the Corporation’s financial condition, results of operations, or liquidity, the impacts are discussed in the applicable sections of this financial review and the notes to consolidated financial statements.
Standard
Description
Date of adoption
Effect on financial statements
ASU 2017-12 Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities
The FASB issued an amendment to better align a company’s financial reporting for hedging activities with the economic objectives of those activities for both financial (e.g., interest rate) and commodity risks. The provisions create more transparency around how economic results are presented, both on the face of the financial statements and in the footnotes. It also contains targeted improvements to simplify the application of hedge accounting guidance. This amendment is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Entities should apply the amendment on a modified retrospective transition method in which the cumulative effect of the change will be recognized within equity in the consolidated balance sheet as of the date of adoption. Early adoption is permitted, including in an interim period. If an entity early adopts in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes the interim period.
1st Quarter 2019
For the Corporation to date, all notional amounts of customer derivative transactions have been matched with a mirror derivative transaction with another counterparty. The Corporation has used, and may use again in the future, derivative instruments to hedge the variability in interest payments or protect the value of certain assets and liabilities recorded on its consolidated balance sheets from changes in interest rates. Therefore, the new ASU is not currently applicable; however, there is the potential the standard could apply in the future if such arrangements begin to occur.
ASU 2017-07 Compensation - Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost
The FASB issued an amendment to improve the presentation of net periodic pension cost and net periodic postretirement benefit cost, including a requirement that employers disaggregate the service cost component from the other components of net benefit cost. In addition, the amendment provides explicit guidance on how to present the service cost component and the other components of net benefit cost in the income statement and allow only the service cost component of net benefit cost to be eligible for capitalization. This amendment is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities should apply the amendment retrospectively to each period presented and prospectively only for the capitalization component. Early adoption is permitted, but should be within the first interim period if interim financial statements are issued.
1st Quarter 2018
Upon adoption, the Corporation will have a slight change in presentation, and an immaterial impact to its results of operations, financial position, and liquidity.
ASU 2017-04 Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment
The FASB issued an amendment to simplify the subsequent quantitative measurement of goodwill by eliminating step two from the goodwill impairment test. Instead, an entity will perform only step one of its quantitative goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount, and then recognizing an impairment charge for the amount by which the carrying amount exceeds the reporting unit's fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. An entity will still have the option to perform a qualitative assessment for a reporting unit to determine if the quantitative step one impairment test is necessary. This amendment is effective for annual or interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Entities should apply the amendment prospectively. Early adoption is permitted, including in an interim period, for impairment tests performed after January 1, 2017. The Corporation has not had to perform a step one quantitative analysis since 2012, which concluded no impairment was necessary.
2nd Quarter 2020, consistent with the Corporation's annual impairment test in May of each year.
The Corporation is currently evaluating the impact on its results of operations, financial position, and liquidity.
ASU 2017-01 Business Combinations (Topic 805): Clarifying the Definition of a Business
The FASB issued amendments to clarify the definition of a business in order to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets versus businesses. The new standard narrows the definition of a business by adding three principal clarifications if: (1) substantially all the fair value of the gross assets in the asset group is concentrated in either a single identifiable asset or group of similar identifiable assets the transaction does not involve a business, (2) the asset group does not include a minimum of an input and a substantive process, it does not represent a business, and (3) the integrated set of activities (including its inputs and processes) does not create, or have the ability to create, goods or services to customers, investment income (e,g. dividends or interest) or other revenues, it is not a business. The overall intention is to provide consistency in applying the guidance, reduce the costs of application, and make the definition of a business more operable.
1st Quarter 2018
The Corporation has evaluated adoption of the new guidance and determined it will not have a material impact on its results of operations, financial position, or liquidity.
Standard
Description
Date of adoption
Effect on financial statements
ASU 2016-18 Statement of Cash Flows (Topic 230): Restricted Cash
The FASB issued an amendment to improve GAAP by providing guidance on the presentation of restricted cash or restricted cash equivalents in the statement of cash flows, in order to reduce diversity in practice. The amendment requires that a statement of cash flow explain the change during the period in the total cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included in cash and cash equivalents when reconciling the beginning and end of period total amounts shown on the statement of cash flow. This amendment is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities should apply the amendment retrospectively to each period presented. Early adoption is permitted, including in an interim period.
1st Quarter 2018
Upon adoption, the Corporation will have a slight change in presentation, and an immaterial impact to its results of operations or financial position.
ASU 2016-16 Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory
The FASB issued an amendment requiring an entity to recognize income tax consequences on an intra-entity transfer of an asset other than inventory at the time the transaction occurs. This amendment is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities should apply the amendment by means of a cumulative-effect adjustment to retained earnings as of the beginning of the fiscal year of adoption. Early adoption is permitted for all entities in the first interim period if an entity issues interim financial statements.
1st Quarter 2018
The Corporation has evaluated adoption of the new guidance and determined it will not have a material impact on its results of operations, financial position, or liquidity.
ASU 2016-15 Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments
The FASB issued an amendment to provide clarification on where to classify cash flows involving certain cash receipts and cash payments. Under the new guidance, cash payments for debt prepayment or debt extinguishment costs should be classified as cash outflows for financing activities. The new guidance also details the specific classification of contingent consideration cash payments made after a business combination depending on the timing of payments. Lastly, cash proceeds received from corporate owned life insurance policies (including BOLI) should be classified as cash inflows from investing, while the cash payments for the premiums may be classified as cash outflows for investing, operating, or a combination of both. This amendment is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities should apply the amendment retrospectively to each period presented. Early adoption is permitted, including in an interim period; however, all of the amendments must be adopted in the same period.
1st Quarter 2018
The Corporation has evaluated adoption of the new guidance and determined it will not have a material impact on its results of operations or financial position upon adoption.
ASU 2016-13 Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments
The FASB issued an amendment to replace the current incurred loss impairment methodology. Under the new guidance, entities will be required to measure expected credit losses by utilizing forward-looking information to assess an entity's allowance for credit losses. The guidance also requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. The measurement of expected credit losses is based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. An entity must use judgment in determining the relevant information and estimation methods that are appropriate in its circumstances. This amendment is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Entities should apply the amendment by means of a cumulative-effect adjustment to retained earnings as of the beginning of the fiscal year of adoption. Early adoption is permitted.
1st Quarter 2020
The Corporation is currently evaluating the impact on its results of operations, financial position, and liquidity. A cross-functional team has been established to assess and implement the standard.
ASU 2016-02; ASU 2018-01 Leases (Topic 842)
The FASB issued an amendment to provide transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. This amendment will require lessees to recognize the following for all leases (with the exception of short-term leases) at the commencement date: 1) a lease liability, which is a lessee's obligation to make lease payments arising from a lease, measured on a discounted basis; and 2) a right-of-use asset, which is an asset that represents the lessee's right to use, or control the use of, a specified asset for the lease term. Under the new guidance, lessor accounting is largely unchanged. This amendment is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2018. Entities are required to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. The modified retrospective approach includes a number of optional practical expedients that entities may elect to apply. These practical expedients relate to the identification and classification of leases that commenced before the effective date, initial direct costs for leases that commenced before the effective date, and the ability to use hindsight in evaluating lessee options to extend or terminate a lease or to purchase the underlying asset. Early adoption is permitted. In January 2018, the FASB issued an amendment to provide entities with the optional practical expedient to not evaluate existing or expired land easements that were previously not accounted for as leases under Topic 840.
1st Quarter 2019
The Corporation is currently evaluating the impact on its results of operations, financial position, and liquidity. A cross-functional team has been established to assess and implement the standard.
Standard
Description
Date of adoption
Effect on financial statements
ASU 2016-01 Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities
The FASB issued an amendment to address certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. This amendment supersedes the guidance to classify equity securities with readily determinable fair values into different categories, requires equity securities to be measured at fair value with changes in the fair value recognized through net income, and simplifies the impairment assessment of equity investments without readily determinable fair values. The amendment requires public business entities that are required to disclose the fair value of financial instruments measured at amortized cost on the balance sheet to measure that fair value using the exit price notion. The amendment requires an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option. The amendment requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset on the balance sheet or in the accompanying notes to the financial statements. The amendment reduces diversity in current practice by clarifying that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available for sale securities in combination with the entity’s other deferred tax assets. This amendment is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Entities are required to apply the amendment by means of a cumulative-effect adjustment as of the beginning of the fiscal year of adoption, with the exception of the amendment related to equity securities without readily determinable fair values, which should be applied prospectively to equity investments that exist as of the date of adoption.
1st Quarter 2018
The Corporation has evaluated adoption of the new guidance and determined it will not have a material impact on its results of operations, financial position, or liquidity.
ASU 2014-09 Revenue from Contracts with Customers (Topic 606)
The FASB issued an amendment to clarify the principles for recognizing revenue and to develop a common revenue standard. The standard outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The core principle of the revenue model is that “an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.” In applying the revenue model to contracts within its scope, an entity should apply the following steps: (1) identify the contract(s) with a customer, (2) identify the performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract, and (5) recognize revenue when (or as) the entity satisfies a performance obligation. The standard applies to all contracts with customers except those that are within the scope of other topics in the FASB Codification. The standard also requires significantly expanded disclosures about revenue recognition. The FASB continues to release new accounting guidance related to the adoption of this standard, which could impact the Corporation's preliminary materiality analysis and may change the conclusions reached as to the application of this new guidance. The amendment was originally to be effective for annual reporting periods beginning after December 15, 2016 (including interim reporting periods within those periods); however, in July 2015, the FASB approved a one year deferral of the effective date to December 31, 2017.
1st Quarter 2018
Approximately 70% of the Corporation’s revenue comes from net interest income and is explicitly out of scope of the guidance. Other out-of-scope revenue streams excluded approximately 10% of additional revenue. The primary contracts subject to the guidance include service charges and deposit account fees, card-based and loan fees, trust and asset management fees, brokerage commissions and fees, and insurance commissions and fees. The Corporation has concluded the adoption of the accounting standard will not have a material impact on the Corporation's revenue recognition patterns or financial presentation and disclosures. The new standard is largely consistent with the existing guidance and current practices applied by our businesses. We will adopt this guidance using the modified retrospective approach in first quarter of 2018.
ITEM 7A.
ITEM 7A.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Information required by this item is set forth in Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, under the captions Quantitative and Qualitative Disclosures about Market Risk and Interest Rate Risk.
ITEM 8.
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ASSOCIATED BANC-CORP
CONSOLIDATED BALANCE SHEETS
(a)
Effective January 1, 2017, residential loans held for sale are accounted for under the fair value option method of accounting. Prior periods have not been restated. For more information on this accounting policy change, please refer to Note 1 to Notes to the Consolidated Financial Statements.
See accompanying notes to consolidated financial statements.
ASSOCIATED BANC-CORP
CONSOLIDATED STATEMENTS OF INCOME
See accompanying notes to consolidated financial statements.
ASSOCIATED BANC-CORP
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
See accompanying notes to consolidated financial statements.
ASSOCIATED BANC-CORP
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
See accompanying notes to consolidated financial statements.
ASSOCIATED BANC-CORP
CONSOLIDATED STATEMENTS OF CASH FLOWS
See accompanying notes to consolidated financial statements.
ASSOCIATED BANC-CORP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2017, 2016, and 2015
Note 1 Summary of Significant Accounting Policies
The accounting and reporting policies of the Corporation conform to U.S. generally accepted accounting principles and to general practice within the financial services industry. The following is a description of the more significant of those policies.
Business
Associated Banc-Corp (individually referred to herein as the "Parent Company" and together with all of its subsidiaries and affiliates, collectively referred to herein as the "Corporation") is a bank holding company headquartered in Wisconsin. The Corporation provides a full range of banking and related financial services to consumer and commercial customers through its network of bank and nonbank subsidiaries. The Corporation is subject to competition from other financial and non-financial institutions that offer similar or competing products and services. The Corporation is regulated by federal and state agencies and is subject to periodic examinations by those agencies.
Basis of Financial Statement Presentation
The consolidated financial statements include the accounts of the Parent Company and its wholly-owned subsidiaries. Investments in unconsolidated entities (none of which are considered to be variable interest entities in which the Corporation is the primary beneficiary) are accounted for using the cost method of accounting when the Corporation has determined that the cost method is appropriate. Investments not meeting the criteria for cost method accounting are accounted for using the equity method of accounting. Investments in unconsolidated entities are included in other assets, and the Corporation’s share of income or loss is recorded in other noninterest income, while distributions in excess of the investment are recorded in gain on assets.
All significant intercompany balances and transactions have been eliminated in consolidation.
In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ significantly from those estimates. Estimates that are particularly susceptible to significant change include the determination of the allowance for loan losses, goodwill impairment assessment, mortgage servicing rights valuation, and income taxes. Management has evaluated subsequent events for potential recognition or disclosure.
Investment Securities
Securities are classified as held to maturity or available for sale at the time of purchase. Investment securities classified as held to maturity, which management has the positive intent and ability to hold to maturity, are reported at amortized cost. Investment securities classified as available for sale, which management has the intent and ability to hold for an indefinite period of time, but not necessarily to maturity, are carried at fair value, with unrealized gains and losses, net of related deferred income taxes, included in stockholders’ equity as a separate component of other comprehensive income. Any decision to sell investment securities available for sale would be based on various factors, including, but not limited to, asset / liability management strategies, changes in interest rates or prepayment risks, liquidity needs, or regulatory capital considerations. Realized gains or losses on investment security sales (using specific identification method) are included in investment securities gains (losses), net, in the consolidated statements of income. Premiums and discounts are amortized or accreted into interest income over the estimated life (earlier of call date, maturity, or estimated life) of the related security, using a prospective method that approximates level yield.
In certain situations, management may elect to transfer certain investment securities from the available for sale classification to the held to maturity classification. In such cases, the investment securities are reclassified at fair value at the time of transfer. Any unrealized gain or loss included in accumulated other comprehensive income (loss) at the time of transfer is retained therein and amortized over the remaining life of the investment security as an adjustment to yield.
Declines in the fair value of investment securities (with certain exceptions for debt securities noted below) that are deemed to be other-than-temporary are charged to earnings as a realized loss, and a new cost basis for the investment security is established. In evaluating other-than-temporary impairment, management considers the length of time and extent to which the security has been in an unrealized loss position, changes in security ratings, the financial condition and near-term prospects of the issuer, as well as security and industry specific economic conditions. In addition, the Corporation considers the intent and ability to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value in the near term. Declines in the fair value of debt securities below amortized cost are deemed to be other-than-temporary in circumstances where: (1) the Corporation has the intent to sell a security; (2) it is more likely than not that the Corporation will be required to sell the security
before recovery of its amortized cost basis; or (3) the Corporation does not expect to recover the entire amortized cost basis of the security. If the Corporation intends to sell a security or if it is more likely than not that the Corporation will be required to sell the security before recovery, an other-than-temporary impairment write-down is recognized in earnings equal to the difference between the security’s amortized cost basis and its fair value. If an entity does not intend to sell the security or it is more likely than not that it will not be required to sell the security before recovery, the other-than-temporary impairment write-down is separated into an amount representing credit loss, which is recognized in earnings, and an amount related to all other factors, which is recognized in other comprehensive income. Declines in value determined to be other-than-temporary are included in investment securities gains (losses), net, in the consolidated statements of income. See Note 3 for additional information on investment securities.
Federal Home Loan Bank (“FHLB”) and Federal Reserve Bank Stocks
The Corporation is required to maintain Federal Reserve stock and FHLB stock as a member of both the Federal Reserve System and the FHLB, and in amounts as required by these institutions. These equity securities are “restricted” in that they can only be sold back to the respective institutions or another member institution at par. Therefore, they are less liquid than other marketable equity securities and their fair value is equal to amortized cost. See Note 3 for additional information on the FHLB and Federal Reserve Bank Stocks.
Loans Held for Sale
Residential Loans Held for Sale: Loans held for sale, which consist generally of current production of certain fixed-rate, first-lien residential mortgage loans, are now carried at estimated fair value. Effective January 1, 2017, management elected the fair value option to account for all newly originated mortgage loans held for sale which results in the financial impact of changing market conditions being reflected currently in earnings as opposed to being dependent upon the timing of sales. The estimated fair value was based on what secondary markets are currently offering for portfolios with similar characteristics, which the Corporation classifies as a Level 2 fair value measurement.
Commercial Loans Held for Sale: Loans held for sale are carried at the lower of cost or estimated fair value. The estimated fair value is based on a discounted cash flow analysis, which the Corporation classifies as a Level 2 nonrecurring fair value measurement.
Loans
Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are reported at their outstanding principal balances, net of any deferred fees and costs on originated loans. Origination fee income received on loans and amounts representing the estimated direct costs of origination are deferred and amortized to interest income over the life of the loan using the effective interest method. An allowance for loan losses is established for estimated credit losses in the loan portfolio. See Allowance for Loan Losses below for further policy discussion.
Nonaccrual Loans: Management considers a loan to be impaired when it is probable that the Corporation will be unable to collect all amounts due according to the original contractual terms of the note agreement, including both principal and interest. This determination is based on management's review of current information and other events regarding the borrowers’ ability to repay their obligations. Management has determined that commercial and consumer loan relationships that have nonaccrual status or have had their terms restructured in a troubled debt restructuring meet this impaired loan definition.
Interest income on loans is based on the principal balance outstanding computed using the effective interest method. The accrual of interest income for commercial loans is discontinued when there is a clear indication that the borrower’s cash flow may not be sufficient to meet payments as they become due, while the accrual of interest income for consumer loans is discontinued when loans reach specific delinquency levels. Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. Loans are generally placed on nonaccrual status when contractually past due 90 days or more as to interest or principal payments, unless the loan is well secured and in the process of collection. Additionally, whenever management becomes aware of facts or circumstances that may adversely impact the collectability of principal or interest on loans, it is management’s practice to place such loans on a nonaccrual status immediately, rather than delaying such action until the loans become 90 days past due. When a loan is placed on nonaccrual status, previously accrued and uncollected interest is reversed, amortization of related deferred loan fees or costs is suspended, and income is recorded only to the extent that interest payments are subsequently received in cash and a determination has been made that the principal and interest of the loan is collectible. If collectability of the principal and interest is in doubt, payments received are applied to loan principal.
While a loan is in nonaccrual status, some or all of the cash interest payments received may be treated as interest income on a cash basis as long as the remaining recorded investment in the loan (i.e., after charge off of identified losses, if any) is deemed to be fully collectible. The determination as to the ultimate collectability of the loan's remaining recorded investment must be supported by a current, well documented credit evaluation of the borrower’s financial condition and prospects for repayment, including consideration of the borrower’s sustained historical repayment performance and other relevant factors. A nonaccrual loan is returned
to accrual status when all delinquent principal and interest payments become current in accordance with the terms of the loan agreement, the borrower has demonstrated a period of sustained repayment performance, and the ultimate collectability of the total contractual principal and interest is no longer in doubt. A sustained period of repayment performance generally would be a minimum of six months. See Note 4 for additional information on loans.
Troubled Debt Restructurings (“Restructured Loans”): Loans are considered restructured loans if concessions have been granted to borrowers that are experiencing financial difficulty. The concessions granted generally involve the modification of terms of the loan, such as changes in payment schedule or interest rate, which generally would not otherwise be considered. Restructured loans can involve loans remaining on nonaccrual, moving to nonaccrual, or continuing on accrual status, depending on the individual facts and circumstances of the borrower. Nonaccrual restructured loans are included and treated with all other nonaccrual loans. In addition, all accruing restructured loans are reported as troubled debt restructurings, which are considered and accounted for as impaired loans. Generally, restructured loans remain on nonaccrual until the customer has attained a sustained period of repayment performance under the modified loan terms (generally a minimum of six months). However, performance prior to the restructuring, or significant events that coincide with the restructuring, are considered in assessing whether the borrower can meet the new terms and whether the loan should be returned to or maintained on accrual status. If the borrower’s ability to meet the revised payment schedule is not reasonably assured, the loan remains on nonaccrual status. See Note 4 for additional information on restructured loans.
Allowance for Loan Losses: The allowance for loan losses is a reserve for estimated credit losses on individually evaluated loans determined to be impaired as well as estimated credit losses inherent in the loan portfolio, and is based on quarterly evaluations of the collectability and historical loss experience of loans. Actual credit losses, net of recoveries, are deducted from the allowance for loan losses. A provision for loan losses, which is a charge against earnings, is recorded to bring the allowance for loan losses to a level that, in management’s judgment, is appropriate to absorb probable losses in the loan portfolio.
The methodology applied by the Corporation, designed to assess the appropriateness of the allowance for loan losses, is based upon management’s ongoing review and grading of the loan portfolio into criticized loan categories (defined as specific loans warranting either specific allocation, or a criticized status of special mention, substandard, doubtful, or loss). The methodology also focuses on evaluation of several factors, including but not limited to: evaluation of facts and issues related to specific loans, management’s ongoing review and grading of the loan portfolio, consideration of historical loan loss and delinquency experience on each portfolio category, trends in past due and nonaccrual loans, the level of potential problem loans, the risk characteristics of the various classifications of loans, changes in the size and character of the loan portfolio, concentrations of loans to specific borrowers or industries, existing economic conditions, the fair value of underlying collateral, and other qualitative and quantitative factors which could affect potential credit losses. Because each of the criteria used is subject to change, the analysis of the allowance for loan losses is not necessarily indicative of the trend of future loan losses in any particular loan category. The total allowance for loan losses is available to absorb losses from any segment of the loan portfolio.
When an individual loan is determined to be impaired, the allowance for loan losses attributable to the loan is allocated based on management’s estimate of the borrower’s ability to repay the loan given the availability of collateral, other sources of cash flows, as well as evaluation of legal options available to the Corporation. The amount of impairment is measured based upon the present value of expected future cash flows discounted at the loan’s effective interest rate, the fair value of the underlying collateral less applicable selling costs, or the observable market price of the loan. If foreclosure is probable or the loan is collateral dependent, impairment is measured using the fair value of the loan’s collateral, less costs to sell. Large groups of homogeneous loans, such as residential mortgage, home equity, and other consumer, are collectively evaluated for impairment.
Management believes that the level of the allowance for loan losses is appropriate. While management uses currently available information to recognize losses on loans, future adjustments to the allowance for loan losses may be necessary based on newly received appraisals, updated commercial customer financial statements, rapidly deteriorating cash flow, and changes in economic conditions that affect our customers. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Corporation’s allowance for loan losses. Such agencies may require additions to the allowance for loan losses or may require that certain loan balances be charged off or downgraded into criticized loan categories when their credit evaluations differ from those of management based on their judgments about information available to them at the time of their examinations. See Loans and Troubled Debt Restructurings above for further policy discussion and see Note 4 for additional information on the allowance for loan losses.
Other Real Estate Owned
Other real estate owned is included in other assets in the consolidated balance sheets and is comprised of property acquired through a foreclosure proceeding or acceptance of a deed-in-lieu of foreclosure, and loans classified as in-substance foreclosure. Other real estate owned is recorded at the fair value of the underlying property collateral, less estimated selling costs. This fair value becomes the new cost basis for the foreclosed asset. The initial write-down, if any, will be recorded as a charge off against the
allowance for loan losses. Any subsequent write-downs to reflect current fair value, as well as gains and losses on disposition and revenues and expenses incurred in maintaining such properties, are expensed as incurred. Other real estate owned also includes bank premises formerly but no longer used for banking as well as property originally acquired for future expansion but no longer intended to be used for that purpose. Banking premises are transferred at the lower of carrying value or fair value, less estimated selling costs and any write-down is expensed as incurred.
Allowance for Unfunded Commitments
The allowance for unfunded commitments is maintained at a level believed by management to be sufficient to absorb estimated probable losses related to unfunded credit facilities (including unfunded loan commitments and letters of credit) and is included in accrued expenses and other liabilities in the consolidated balance sheets. The determination of the appropriate level of the allowance for unfunded commitments is based upon an evaluation of the unfunded credit facilities, including an assessment of historical commitment utilization experience and credit risk grading of the loan. Net adjustments to the allowance for unfunded commitments are included in the provision for credit losses in the consolidated statements of income. See Note 4 and Note 16 for additional information on the allowance for unfunded commitments.
Mortgage Repurchase Reserve
The Corporation sells residential mortgage loans to investors in the normal course of business. Residential mortgage loans sold to investors are predominantly conventional residential first lien mortgages originated under the usual underwriting procedures, and are most often sold on a nonrecourse basis, primarily to the Government Sponsored Enterprises ("GSE"). The Corporation’s agreements to sell residential mortgage loans usually require certain representations and warranties on the underlying loans sold, related to credit information, loan documentation, collateral, and insurability, which if subsequently untrue or breached, could require the Corporation to indemnify or repurchase certain loans affected. To a much lesser degree, the Corporation may sell residential mortgage loans with limited recourse (limited in that the recourse period ends prior to the loan’s maturity, usually after certain time and / or loan paydown criteria have been met), whereby indemnification or repurchase could be required if the loan had defined delinquency issues during the limited recourse periods. The balance in the repurchase reserve at the balance sheet date reflects the estimated amount of potential loss the Corporation could incur from repurchasing a loan (“put back” requests), as well as loss reimbursements, indemnification, and other settlement resolutions (“make whole” payments). See Note 16 for additional information on the mortgage repurchase reserve.
Premises and Equipment and Software
Premises and equipment are stated at cost less accumulated depreciation and amortization. Depreciation and amortization are computed on the straight-line method over the estimated useful lives of the related assets or the lease term. Maintenance and repairs are charged to expense as incurred, while additions or major improvements are capitalized and depreciated over the estimated useful lives. Leasehold improvements are amortized on a straight-line basis over the lesser of the lease terms or the estimated useful lives of the improvements. Software, included in other assets in the consolidated balance sheets, is amortized on a straight-line basis over the lesser of the contract terms or the estimated useful life of the software. See Note 6 for additional information on premises and equipment.
Goodwill and Intangible Assets
Goodwill and Other Intangible Assets: The excess of the cost of an acquisition over the fair value of the net assets acquired consists primarily of goodwill, core deposit intangibles, and other identifiable intangibles (primarily related to customer relationships acquired). Core deposit intangibles have estimated finite lives and are amortized on an accelerated basis to expense over a 10-year period. The other intangibles have estimated finite lives and are amortized on an accelerated basis to expense over their weighted average life (a weighted average life of 11 years for 2017 and 12 years for 2016). The Corporation reviews long-lived assets and certain identifiable intangibles for impairment at least annually, or whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable, in which case an impairment charge would be recorded.
Goodwill is not amortized but, instead, is subject to impairment tests on at least an annual basis, and more frequently if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. The impairment testing process is conducted by assigning net assets and goodwill to each reporting unit. An initial qualitative evaluation is made to assess the likelihood of impairment and determine whether further quantitative testing to calculate the fair value is necessary. When the qualitative evaluation indicates that impairment is more likely than not, quantitative testing is required whereby the fair value of each reporting unit is calculated and compared to the recorded book value, “step one.” If the calculated fair value of the reporting unit exceeds its carrying value, goodwill is not considered impaired and “step two” is not considered necessary. If the carrying value of a reporting unit exceeds its calculated fair value, the impairment test continues (“step two”) by comparing the carrying value of the reporting unit’s goodwill to the implied fair value of goodwill. The implied fair value is computed by adjusting all assets and liabilities of the reporting unit to current fair value with the offset adjustment to goodwill.
The adjusted goodwill balance is the implied fair value of the goodwill. An impairment charge is recognized if the carrying value of goodwill exceeds the implied fair value of goodwill. See Note 5 for additional information on goodwill and other intangible assets.
Mortgage Servicing Rights: The Corporation sells residential mortgage loans in the secondary market and typically retains the right to service the loans sold. Upon sale, a mortgage servicing rights asset is capitalized, which represents the then current fair value of future net cash flows expected to be realized for performing servicing activities. Mortgage servicing rights, when purchased, are initially recorded at fair value. As the Corporation has not elected to subsequently measure any class of servicing assets under the fair value measurement method, the Corporation follows the amortization method. Mortgage servicing rights are amortized in proportion to and over the period of estimated net servicing income, and assessed for impairment at each reporting date. Mortgage servicing rights are carried at the lower of the initial capitalized amount, net of accumulated amortization, or estimated fair value, in the consolidated balance sheets.
The Corporation periodically evaluates its mortgage servicing rights asset for impairment. Impairment is assessed based on fair value at each reporting date using estimated prepayment speeds of the underlying mortgage loans serviced and stratifications based on the risk characteristics of the underlying loans (predominantly loan type and note interest rate). As mortgage interest rates fall, prepayment speeds are usually faster and the value of the mortgage servicing rights asset generally decreases, requiring additional valuation reserve. Conversely, as mortgage interest rates rise, prepayment speeds are usually slower and the value of the mortgage servicing rights asset generally increases, requiring less valuation reserve. A valuation allowance is established, through a charge to earnings, to the extent the amortized cost of the mortgage servicing rights exceeds the estimated fair value by stratification. If it is later determined that all or a portion of the temporary impairment no longer exists for a stratification, the valuation is reduced through a recovery to earnings. An other-than-temporary impairment (i.e., recoverability is considered remote when considering interest rates and loan pay off activity) is recognized as a write-down of the mortgage servicing rights asset and the related valuation allowance (to the extent a valuation allowance is available) and then against earnings. A direct write-down permanently reduces the carrying value of the mortgage servicing rights asset and valuation allowance, precluding subsequent recoveries. See Note 5 for additional information on mortgage servicing rights.
Income Taxes
Amounts provided for income tax expense are based on income reported for financial statement purposes and do not necessarily represent amounts currently payable under tax laws. Deferred income taxes, which arise principally from temporary differences between the amounts reported in the financial statements and the tax bases of assets and liabilities, are included in the amounts provided for income taxes. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income and tax planning strategies which will create taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, the amount of taxes paid in available carryback years, projected future taxable income, and, if necessary, tax planning strategies in making this assessment.
The Corporation files a consolidated federal income tax return and separate or combined state income tax returns. Accordingly, amounts equal to tax benefits of those subsidiaries having taxable federal or state losses or credits are offset by other subsidiaries that incur federal or state tax liabilities.
It is the Corporation’s policy to provide for uncertainty in income taxes as a part of income tax expense based upon management’s assessment of whether a tax benefit is more likely than not to be sustained upon examination by tax authorities. At December 31, 2017 and 2016, the Corporation believes it has appropriately accounted for any unrecognized tax benefits. To the extent the Corporation prevails in matters for which a liability for an unrecognized tax benefit was established or is required to pay amounts in excess of the liability established, the Corporation’s effective tax rate in a given financial statement period may be impacted. See Note 13 for additional information on income taxes.
Derivative and Hedging Activities
Derivative instruments, including derivative instruments embedded in other contracts, are carried at fair value on the consolidated balance sheets with changes in the fair value recorded to earnings or accumulated other comprehensive income, as appropriate. On the date the derivative contract is entered into, the Corporation designates the derivative as a fair value hedge (i.e., a hedge of the fair value of a recognized asset or liability), a cash flow hedge (i.e., a hedge of the variability of cash flows to be received or paid related to a recognized asset or liability), or a free-standing derivative instrument. For a derivative designated as a fair value hedge, the changes in the fair value of the derivative instrument and the changes in the fair value of the hedged asset or liability are recognized in current period earnings as an increase or decrease to the carrying value of the hedged item on the balance sheet and in the related income statement account. For a derivative designated as a cash flow hedge, the effective portions of changes
in the fair value of a derivative instrument are recorded in other comprehensive income and the ineffective portions of changes in the fair value of a derivative instrument are recognized in current period earnings as an adjustment to the related income statement account. Amounts within accumulated other comprehensive income are reclassified into earnings in the period the hedged item affects earnings. For a derivative designated as a free-standing derivative instrument, changes in fair value are reported in current period earnings. At December 31, 2017 and 2016, the Corporation only had free-standing derivative instruments to facilitate customer borrowing activity. These free-standing derivative instruments included: interest rate risk management, commodity hedging, and foreign currency exchange solutions. See Note 14 for additional information on derivative and hedging activities.
Retirement Plans
The funded status of the retirement plans are recognized as an asset or liability in the consolidated balance sheets, and changes in that funded status are recognized in the year in which the changes occur through other comprehensive income. Plan assets and benefit obligations are measured as of fiscal year end. The measurement of the projected benefit obligation and pension expense involve actuarial valuation methods and the use of various actuarial and economic assumptions. The Corporation monitors the assumptions and updates them periodically. Due to the long-term nature of the pension plan obligation, actual results may differ significantly from estimations. Such differences are adjusted over time as the assumptions are replaced by facts and values are recalculated. See Note 12 for additional information on the Corporation’s retirement plans.
Stock-Based Compensation
The fair value of stock options granted is estimated on the date of grant using a Black-Scholes option pricing model, while the fair value of restricted common stock awards is their fair market value on the date of grant. The fair values of stock options and restricted stock awards are amortized as compensation expense on a straight-line basis over the vesting period of the grants. Expenses related to stock options and restricted stock awards are fully recognized on the date the colleague meets the definition of normal or early retirement. Compensation expense recognized is included in personnel expense in the consolidated statements of income. See Note 11 for additional information on stock-based compensation.
Comprehensive Income
Comprehensive income includes all changes in stockholders’ equity during a period, except those resulting from transactions with stockholders. In addition to net income, other components of the Corporation’s comprehensive income include the after tax effect of changes in net unrealized gain / loss on securities available for sale and changes in net actuarial gain / loss on defined benefit postretirement plans. Comprehensive income is reported in the accompanying consolidated statements of changes in stockholder’s equity and consolidated statements of comprehensive income. See Note 22 for additional information on accumulated other comprehensive income (loss).
Fair Value Measurements
Fair value represents the estimated price at which an orderly transaction to sell an asset or to transfer a liability would take place between market participants at the measurement date under current market conditions (i.e., an exit price concept). As there is no active market for many of the Corporation’s financial instruments, estimates are made using discounted cash flow or other valuation techniques. Inputs into the valuation methods are subjective in nature, involve uncertainties, and require significant judgment and therefore cannot be determined with precision. Accordingly, the derived fair value estimates presented herein are not necessarily indicative of the amounts the Corporation could realize in a current market exchange. Assets and liabilities are categorized into three levels based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. In instances where the determination of the fair value measurement is based on inputs from different levels of the fair value hierarchy, the level in the fair value hierarchy in which the entire fair value measurement falls is based on the lowest level input that is significant to the fair value measurement in its entirety. The Corporation’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability. See Note 18 for additional information on fair value measurements. Below is a brief description of each fair value level.
Level 1 - Level 1 inputs utilize quoted prices (unadjusted) in active markets for identical assets or liabilities that the Corporation has the ability to access.
Level 2 - Level 2 inputs are inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs may include quoted prices for similar assets and liabilities in active markets, as well as inputs that are observable for the asset or liability (other than quoted prices), such as interest rates, foreign exchange rates, and yield curves that are observable at commonly quoted intervals.
Level 3 - Level 3 inputs are unobservable inputs for the asset or liability, which are typically based on an entity’s own assumptions, as there is little, if any, related market activity.
Cash and Cash Equivalents
For purposes of the consolidated statements of cash flows, cash and cash equivalents are considered to include cash and due from banks, interest-bearing deposits in other financial institutions, federal funds sold and securities purchased under agreements to resell.
Earnings Per Common Share
Earnings per common share are calculated utilizing the two-class method. Basic earnings per common share are calculated by dividing the sum of distributed earnings to common shareholders and undistributed earnings allocated to common shareholders by the weighted average number of common shares outstanding. Diluted earnings per common share are calculated by dividing the sum of distributed earnings to common shareholders and undistributed earnings allocated to common shareholders by the weighted average number of common shares outstanding adjusted for the dilutive effect of common stock awards (outstanding stock options and unvested restricted stock awards) and common stock warrants. See Note 20 for additional information on earnings per common share.
Accounting Policy Election
Effective January 1, 2017, residential mortgage loans that are classified as held for sale are accounted using the fair value option method of accounting. Management has elected the fair value option to mitigate accounting mismatches between held for sale loan valuations and corresponding derivative commitments. Prior to January 1, 2017, residential mortgage loans that were classified as held for sale were accounted for at the lower of cost or market method of accounting.
New Accounting Pronouncements Adopted
Standard
Description
Date of adoption
Effect on financial statements
ASU 2017-08 Receivables - Nonrefundable Fees and Other Costs (Subtopic 310-20), Premium Amortization on Purchased Callable Debt Securities
The FASB issued amendments to require that certain purchased callable debt securities held at a premium be amortized to the earliest call date. The amendments do not require an accounting change for securities held at a discount, which continue to be amortized to maturity.
1st Quarter 2017
The Corporation early adopted the accounting standard with no material impact on results of operations, financial position, or liquidity.
ASU 2017-03 Accounting Changes and Error Corrections (Topic 250) and Investments - Equity Method and Joint Ventures (Topic 323)
The FASB issues amendments to require, for ASUs that have not been adopted yet, registrants to determine the potential effects (if material) of those ASUs on their financial statements when adopted and include the appropriate disclosures in the financial statements. If the impact of adoption is unknown or cannot be estimated, a registrant should include a statement noting this and consider adding qualitative disclosures to the financial statements to assist the reader in evaluating the impact of the ASUs, when adopted, on the financial statements.
1st Quarter 2017
No material impact on results of operations, financial position, or liquidity.
ASU 2016-17 Consolidation (Topic 810): Interests Held through Related Parties That Are Under Common Control
The FASB issued an amendment to address how a reporting entity that is a single decision maker of a variable interest entity treats indirect interests in the entity held through related parties that are under common control with the reporting entity.
1st Quarter 2017
No material impact on results of operations, financial position, or liquidity.
ASU 2016-07 Investments - Equity Method and Joint Ventures (Topic 323): Simplifying the Transition to the Equity Method of Accounting
The FASB issued an amendment to eliminate the requirement that when an investment qualifies for use of the equity method as a result of an increase in the level of ownership interest or degree of influence, an investor must adjust the investment, results of operations, and retained earnings retroactively on a step-by-step basis as if the equity method had been in effect during all previous periods that the investment had been held. The amendment requires that the equity method investor add the cost of acquiring the additional interests in the investee to the current basis of the investor’s previously held interest and adopt the equity method of accounting as of the date the investment becomes qualified for equity method accounting. Therefore, upon qualifying for the equity method of accounting, no retroactive adjustment of the investment is required. The amendment requires that an entity that has an available-for-sale equity security that becomes qualified for the equity method of accounting recognize through earnings the unrealized holding gain or loss in accumulated other comprehensive income at the date the investment becomes qualified for use of the equity method. Entities should apply the amendment prospectively to increases in the level of ownership interest or degree of influence that result in the adoption of the equity method.
1st Quarter 2017
No material impact on results of operations, financial position, or liquidity.
Note 2 Acquisitions
On October 2, 2017, the Corporation completed its previously announced acquisition of Whitnell & Co., a wealth management family office services firm based in Oak Brook, IL. The Corporation recorded goodwill of $4 million and other intangibles of $2 million related to the Whitnell & Co. acquisition.
During the first quarter of 2017, the Corporation completed a small insurance acquisition to complement its existing insurance and benefits related products and services provided by Associated Benefits and Risk Consulting. The Corporation recorded goodwill of $55,000 and other intangibles of $162,000 related to the insurance acquisition.
See Note 5 for additional information on goodwill and other intangible assets
On February 1, 2018, the Corporation acquired Bank Mutual Corporation ("Bank Mutual") pursuant to an Agreement and Plan of Merger, dated as of July 20, 2017 (the "Merger Agreement") under which Bank Mutual merged with and into the Corporation. Under the terms of the Merger Agreement, Bank Mutual’s shareholders received 0.422 shares of the Corporation's common stock for each share of Bank Mutual’s common stock. The Corporation expects to issue approximately 19.6 million shares for a total deal value of approximately $485 million based on the closing sale price of a share of Associated common stock on January 31, 2018. We expect to merge Bank Mutual's banking subsidiary into Associated Bank in late June or July 2018.
See Note 23 for additional information on recent developments related to the Bank Mutual acquisition.
Note 3 Investment Securities
Investment securities are generally classified as available for sale or held to maturity at the time of purchase. See Note 1 for the Corporation’s accounting policy for investment securities. The majority of the Corporation's investment securities are mortgage-related securities issued by the Government National Mortgage Association (“GNMA”) or GSEs such as the Federal National Mortgage Association (“FNMA”) and the Federal Home Loan Mortgage Corporation (“FHLMC”).
The expected maturities of investment securities available for sale and held to maturity at December 31, 2017, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
During the year ended December 31, 2017, the Corporation reclassified GNMA residential mortgage-related securities and GNMA commercial mortgage-related securities from available for sale to held to maturity with an amortized cost of approximately $1 billion. The GNMA residential and commercial mortgage-related securities are principally securities with a CRA component in the underlying collateral. The reclassification of these investment securities was accounted for at fair value. Management elected to transfer these investment securities as the Corporation has the positive intent and ability to hold these investment securities to maturity.
Total proceeds and gross realized gains and losses from sales of investment securities for each of the three years ended December 31 were as follows. There were no other-than-temporary impairment write-downs on investment securities for 2017, 2016, or 2015.
During 2017, the Corporation sold approximately $18 million of municipal securities classified as held to maturity due to significant credit concerns and negative actions taken by credit rating agencies, primarily as a result of budgetary pressures in the State of Illinois and State of Connecticut. These sales resulted in a net gain of approximately $434,000.
During 2016 and 2015, the Corporation restructured its investment securities portfolio from FNMA and FHLMC mortgage-related securities and reinvested into GNMA mortgage-related securities. The Corporation sold approximately $550 million of FNMA and FHLMC mortgage-related securities in 2016 and sold approximately $1.6 billion in 2015, generating net gains on sales of $9 million and $8 million, respectively. The sales of FNMA and FHLMC mortgage-related securities and the subsequent purchase of GNMA mortgage-related securities lowered risk weighted assets and related capital requirements.
Securities with a carrying value of approximately $3.1 billion and $1.8 billion at December 31, 2017, and December 31, 2016, respectively, were pledged to secure certain deposits or for other purposes as required or permitted by law.
The following represents gross unrealized losses and the related fair value of investment securities available for sale and held to maturity, aggregated by investment category and length of time individual securities have been in a continuous unrealized loss position, at December 31, 2017.
For comparative purposes, the following represents gross unrealized losses and the related fair value of investment securities available for sale and held to maturity, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2016.
The Corporation reviews the investment securities portfolio on a quarterly basis to monitor its exposure to other-than-temporary impairment. A determination as to whether a security’s decline in fair value is other-than-temporary takes into consideration
numerous factors and the relative significance of any single factor can vary by security. Some factors the Corporation may consider in the other-than-temporary impairment analysis include, the length of time and extent to which the security has been in an unrealized loss position, changes in security ratings, financial condition and near-term prospects of the issuer, as well as security and industry specific economic conditions.
Based on the Corporation’s evaluation, management does not believe any unrealized loss at December 31, 2017, represents an other-than-temporary impairment as these unrealized losses are primarily attributable to changes in interest rates and the current market conditions, and not credit deterioration. The unrealized losses reported for municipal securities relate to various state and local political subdivisions and school districts. The unrealized losses at December 31, 2017 for mortgage-related securities is due to the increase in overall interest rates. The U.S. Treasury 3-year and 5-year rates increased by 51 bp and 27 bp, respectively, from December 31, 2016. The Corporation currently does not intend to sell nor does it believe that it will be required to sell the securities contained in the above unrealized losses table before recovery of their amortized cost basis.
FHLB and Federal Reserve Bank Stocks: The Corporation is required to maintain Federal Reserve stock and FHLB stock as a member of both the Federal Reserve System and the FHLB, and in amounts as required by these institutions. These equity securities are “restricted” in that they can only be sold back to the respective institutions or another member institution at par. Therefore, they are less liquid than other marketable equity securities and their fair value is equal to amortized cost. At December 31, 2017, and 2016, the Corporation had FHLB stock of $89 million and $65 million, respectively. The Corporation had Federal Reserve Bank stock of $76 million and $75 million at December 31, 2017 and 2016, respectively.
Note 4 Loans
Loans at December 31 are summarized below.
The Corporation has granted loans to its directors, executive officers, or their related interests. These loans were made on substantially the same terms, including rates and collateral, as those prevailing at the time for comparable transactions with other unrelated customers, and do not involve more than a normal risk of collection. These loans to related parties are summarized below.
The following table presents commercial and consumer loans by credit quality indicator at December 31, 2017.
The following table presents commercial and consumer loans by credit quality indicator at December 31, 2016.
Factors that are important to managing overall credit quality are sound loan underwriting and administration, systematic monitoring of existing loans and commitments, effective loan review on an ongoing basis, early identification of potential problems, an appropriate allowance for loan losses, allowance for unfunded commitments, nonaccrual, and charge off policies. See Note 1 for the Corporation's accounting policy for loans.
For commercial loans, management has determined the pass credit quality indicator to include credits that exhibit acceptable financial statements, cash flow, and leverage. If any risk exists, it is mitigated by the loan structure, collateral, monitoring, or control. For consumer loans, performing loans include credits that are performing in accordance with the original contractual terms. Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. Special mention credits have potential weaknesses that deserve management’s attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the credit. Potential problem loans are considered inadequately protected by the current net worth and paying capacity of the obligor or the collateral pledged. These loans generally have a well-defined weakness, or weaknesses, that may jeopardize liquidation of the debt and are characterized by the distinct possibility that the Corporation will sustain some loss if the deficiencies are not corrected. Lastly, management considers a loan to be impaired when it is probable that the Corporation will be unable to collect all amounts due according to the original contractual terms of the note agreement, including both principal and interest. Management has determined that commercial and consumer loan relationships that have nonaccrual status or have had their terms restructured in a troubled debt restructuring meet this impaired loan definition. Commercial loans classified as special mention, potential problem, and nonaccrual loans are reviewed at a minimum on a quarterly basis, while pass rated credits are reviewed on an annual basis or more frequently if the loan renewal is less than one year or if otherwise warranted.
The following table presents loans by past due status at December 31, 2017.
(a)
The recorded investment in loans past due 90 days or more and still accruing totaled $2 million at December 31, 2017 (the same as the reported balances for the accruing loans noted above).
(b)
Of the total nonaccrual loans, $135 million or 65% were current with respect to payment at December 31, 2017.
The following table presents loans by past due status at December 31, 2016.
(a)
The recorded investment in loans past due 90 days or more and still accruing totaled $2 million at December 31, 2016 (the same as the reported balances for the accruing loans noted above).
(b)
Of the total nonaccrual loans, $224 million or 81% were current with respect to payment at December 31, 2016.
The following table presents impaired loans individually evaluated under ASC Topic 310 at December 31, 2017.
(a)
The net recorded investment (defined as recorded investment, net of the related allowance) of the impaired loans represented 80% of the unpaid principal balance at December 31, 2017.
The following table presents impaired loans individually evaluated under ASC Topic 310 at December 31, 2016.
(a)
The net recorded investment (defined as recorded investment, net of the related allowance) of the impaired loans represented 81% of the unpaid principal balance at December 31, 2016.
Troubled Debt Restructurings (“Restructured Loans”)
Loans are considered restructured loans if concessions have been granted to borrowers that are experiencing financial difficulty. See Note 1 for the Corporation's accounting policy for troubled debt restructurings. The Corporation had a recorded investment of approximately $9 million in loans modified in troubled debt restructurings for the year ended December 31, 2017, of which approximately $6 million were in accrual status and $3 million were in nonaccrual pending a sustained period of repayment. As of December 31, 2017 there was approximately $9 million of commitments to lend additional funds to borrowers with restructured loans. The following table presents nonaccrual and performing restructured loans by loan portfolio.
(a)
Nonaccrual restructured loans have been included within nonaccrual loans.
The following table provides the number of loans modified in a troubled debt restructuring by loan portfolio during the years ended December 31, 2017, 2016 and 2015, respectively, and the recorded investment and unpaid principal balance as of December 31, 2017, 2016 and 2015, respectively.
(a)
Represents post-modification outstanding recorded investment.
(b)
Represents pre-modification outstanding recorded investment.
Restructured loan modifications may include payment schedule modifications, interest rate concessions, maturity date extensions, modification of note structure (A/B Note), non-reaffirmed Chapter 7 bankruptcies, principal reduction, or some combination of these concessions. For the year ended December 31, 2017, restructured loan modifications of commercial and industrial, commercial real estate, and real estate construction loans primarily included maturity date extensions, interest rate concessions, payment schedule modifications, or a combination of these concessions. Restructured loan modifications of home equity and residential mortgage loans primarily included maturity date extensions, interest rate concessions, non-reaffirmed Chapter 7 bankruptcies, or a combination of these concessions for the year ended December 31, 2017.
The following table provides the number of loans modified in a troubled debt restructuring during the previous twelve months which subsequently defaulted during the year ended December 31, 2017, 2016 and 2015, respectively, as well as the recorded investment in these restructured loans as of December 31, 2017, 2016 and 2015, respectively.
All loans modified in a troubled debt restructuring are evaluated for impairment. The nature and extent of the impairment of restructured loans, including those which have experienced a subsequent payment default, is considered in the determination of an appropriate level of the allowance for loan losses.
Allowance for Credit Losses
The allowance for credit losses is comprised of the allowance for loan losses and the allowance for unfunded commitments. The level of the allowance for loan losses represents management’s estimate of an amount appropriate to provide for probable credit losses in the loan portfolio at the balance sheet date. See Note 1 for the Corporation's accounting policy on the allowance for loan losses. The allowance for unfunded commitments is maintained at a level believed by management to be sufficient to absorb estimated probable losses related to unfunded credit facilities (including unfunded loan commitments and letters of credit) and is included in accrued expenses and other liabilities on the consolidated balance sheets. See Note 16 for additional information on the allowance for unfunded commitments.
A summary of the changes in the allowance for loan losses by portfolio segment for the year ended December 31, 2017, was as follows.
For comparison purposes, a summary of the changes in the allowance for loan losses by portfolio segment for the year ended December 31, 2016, was as follows.
The allowance related to the oil and gas portfolio was $27 million at December 31, 2017 and represented 4.5% of total oil and gas loans.
The allowance for unfunded commitments is maintained at a level believed by management to be sufficient to absorb estimated probable losses related to unfunded credit facilities (including unfunded loan commitments and letters of credit) and is included in accrued expenses and other liabilities on the consolidated balance sheets. See Note 16 for additional information on the allowance for unfunded commitments and see Note 1 for the Corporation's accounting policy for allowance for unfunded commitments. A summary of the changes in the allowance for unfunded commitments was as follows.
Note 5 Goodwill and Other Intangible Assets
Goodwill: Goodwill is not amortized but, instead, is subject to impairment tests on at least an annual basis, and more frequently if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. See Note 1 for the Corporation’s accounting policy for goodwill and other intangible assets.
The Corporation conducted its most recent annual impairment testing in May 2017, utilizing a qualitative assessment. Factors that management considered in this assessment included macroeconomic conditions, industry and market considerations, overall financial performance of the Corporation and each reporting unit (both current and projected), changes in management strategy, and changes in the composition or carrying amount of net assets. In addition, management considered the increases in both the Corporation’s common stock price and in the overall bank common stock index (based on the S&P 400 Regional Bank Sub-Industry Index), as well as the Corporation’s earnings per common share trend over the past year. Based on these assessments, management concluded that the 2017 annual qualitative impairment assessment indicated that it is more likely than not that the estimated fair value exceeded the carrying value (including goodwill) for each reporting unit. Therefore, a step one quantitative analysis was not required. There were no events since the May 2017 impairment testing that have changed the Corporation's impairment assessment conclusion. There were no impairment charges recorded in 2017, 2016, or 2015.
At December 31, 2017, the Corporation had goodwill of $976 million, compared to $972 million at December 31, 2016 including goodwill of $428 million assigned to the Corporate and Commercial Specialty segment and the remaining assigned to the Community, Consumer and Business segment. There was an addition to the carrying amount of goodwill of approximately $55,000 as a result of a small insurance acquisition during the first quarter of 2017, along with an addition of approximately $4 million in fourth quarter 2017 from the Whitnell acquisition. See Note 2 for additional information on the Corporation's acquisitions.
Other Intangible Assets: The Corporation has other intangible assets that are amortized, consisting of core deposit intangibles, other intangibles (primarily related to customer relationships acquired in connection with the Corporation’s insurance agency acquisitions), and mortgage servicing rights. During the first and fourth quarter of 2017, the Corporation added approximately$162,000 and $2 million of other intangibles, respectively, relating to customer relationships associated with one small insurance acquisition in first quarter 2017, and the Whitnell acquisition in fourth quarter 2017. See Note 2 for additional information on the Corporation's acquisitions. For core deposit intangibles and other intangibles, changes in the gross carrying amount, accumulated amortization, and net book value were as follows.
Mortgage Servicing Rights: The Corporation sells residential mortgage loans in the secondary market and typically retains the right to service the loans sold. Mortgage servicing rights are amortized in proportion to and over the period of estimated net servicing income, and assessed for impairment at each reporting date. See Note 1 for the Corporation’s accounting policy for mortgage servicing rights. See Note 16 for a discussion of the recourse provisions on sold residential mortgage loans. See Note 18 which further discusses fair value measurement relative to the mortgage servicing rights asset.
A summary of changes in the balance of the mortgage servicing rights asset and the mortgage servicing rights valuation allowance was as follows.
(a)
Includes the amortization of mortgage servicing rights and additions / recoveries to the valuation allowance of mortgage servicing rights, and is a component of mortgage banking, net in the consolidated statements of income.
The following table shows the estimated future amortization expense for amortizing intangible assets. The projections of amortization expense are based on existing asset balances, the current interest rate environment, and prepayment speeds as of December 31, 2017. The actual amortization expense the Corporation recognizes in any given period may be significantly different depending upon acquisition or sale activities, changes in interest rates, prepayment speeds, market conditions, regulatory requirements, and events or circumstances that indicate the carrying amount of an asset may not be recoverable.
Note 6 Premises and Equipment
See Note 1 for the Corporation’s accounting policy for premises and equipment. A summary of premises and equipment at December 31 was as follows.
Depreciation and amortization of premises and equipment totaled $32 million in 2017, $32 million in 2016, and $33 million in 2015.
The Corporation conducts a portion of its business through certain facilities and equipment under noncancelable operating leases. The Corporation also leases a subdivision of some of its facilities and receives rental income from such lease agreements. The approximate minimum annual rental payments and rental receipts under noncancelable agreements and leases with remaining terms in excess of one year are as follows.
Total rental expense under leases, net of lease income, totaled $6 million in 2017, $8 million in 2016, and $13 million in 2015, respectively. The reduction of rental expense was mainly driven by leasing income generated by the Milwaukee Center (purchased April 2016) of $5 million in 2017 and $4 million in 2016, respectively.
Note 7 Deposits
The distribution of deposits at December 31 was as follows.
Time deposits of $100,000 or more were $1.4 billion and $571 million at December 31, 2017 and 2016, respectively. Time deposits of $250,000 or more were $1.1 billion and $235 million at December 31, 2017 and 2016, respectively.
Aggregate annual maturities of all time deposits at December 31, 2017, are as follows.
Note 8 Short-Term Funding
The components of short-term funding (funding with original contractual maturities of one year or less) at December 31 were as follows.
Securities Sold Under Agreements to Repurchase ("Repurchase Agreements")
The Corporation enters into agreements under which it sells securities subject to an obligation to repurchase the same or similar securities. Under these arrangements, the Corporation may transfer legal control over the assets but still retain effective control through an agreement that both entitles and obligates the Corporation to repurchase the assets. The obligation to repurchase the securities is reflected as a liability on the Corporation’s consolidated balance sheets, while the securities underlying the repurchase agreements remain in the respective investment securities asset accounts (i.e., there is no offsetting or netting of the investment securities assets with the repurchase agreement liabilities).
The Corporation utilizes securities sold under agreements to repurchase to facilitate the needs of its customers. As of December 31, 2017, the Corporation pledged agency mortgage-related securities with a fair value of $325 million as collateral for the repurchase agreements. Securities pledged as collateral under repurchase agreements are maintained with the Corporation's safekeeping agents and are monitored on a daily basis due to the market risk of fair value changes in the underlying securities. The Corporation
generally pledges excess securities to ensure there is sufficient collateral to satisfy short-term fluctuations in both the repurchase agreement balances and the fair value of the underlying securities.
The remaining contractual maturity of the securities sold under agreements to repurchase in the consolidated balance sheets are presented in the following table.
Note 9 Long-Term Funding
The components of long-term funding (funding with original contractual maturities greater than one year) at December 31 were as follows.
FHLB Advances: At December 31, 2017, the long-term FHLB advances had maturity or call dates primarily ranging from 2018 through 2019, and had an average interest rate of 1.26%, compared to 0.50% at December 31, 2016. The majority of FHLB advances are indexed to the FHLB discount note and re-price at varying intervals. The advances offer flexible, relatively low cost, long-term funding that improves the Corporation’s liquidity profile.
Senior Notes: In November 2014, the Corporation issued $250 million of senior notes, due November 2019, and callable October 2019. The senior notes have a fixed coupon interest rate of 2.75% and were issued at a discount.
Subordinated Notes: In November 2014, the Corporation issued $250 million of 10-year subordinated notes, due January 2025, and callable October 2024. The subordinated notes have a fixed coupon interest rate of 4.25% and were issued at a discount.
Under agreements with the Federal Home Loan Bank of Chicago, FHLB advances (short-term and long-term) are secured by qualifying mortgages of the subsidiary bank (such as residential mortgage, residential mortgage loans held for sale, home equity, and commercial real estate). At December 31, 2017, the Corporation had $6.6 billion of total collateral capacity supported by residential mortgage and home equity loans. Total short-term and long-term FHLB advances outstanding at December 31, 2017, was $3.2 billion.
The table below summarizes the maturities of the Corporation’s long-term funding at December 31, 2017.
Note 10 Stockholders' Equity
Preferred Equity: In September 2011, the Corporation issued 2,600,000 depositary shares, each representing a 1/40th interest in a share of the Corporation’s 8.00% Non-Cumulative Perpetual Preferred Stock, Series B, liquidation preference $1,000 per share (the “Series B Preferred Stock”). On July 23, 2013, the Board of Directors authorized the purchase of up to $10 million of the Corporation’s Series B Preferred Stock. During 2015, the Corporation repurchased approximately 50,000 depositary shares for $1 million. On September 15, 2016, the Corporation redeemed all remaining depositary shares for $59 million.
In June 2015, the Corporation issued 2,600,000 depositary shares, each representing a 1/40th interest in a share of the Corporation’s 6.125% Non-Cumulative Perpetual Preferred Stock, Series C, liquidation preference $1,000 per share (the “Series C Preferred Stock”). Dividends on the Series C Preferred Stock are payable quarterly in arrears only when, as and if declared by the Board of Directors at a rate per annum equal to 6.125%. Shares of the Series C Preferred Stock have priority over the Corporation’s common stock with regard to the payment of dividends and distributions upon liquidation, dissolution or winding up. As such, the Corporation may not pay dividends on or repurchase, redeem, or otherwise acquire for consideration shares of its common stock unless dividends for the Series C Preferred Stock have been declared for that period, and sufficient funds have been set aside to make payment. The Series C Preferred Stock may be redeemed by the Corporation at its option (i) either in whole or in part, from time to time, on any dividend payment date on or after the dividend payment date occurring on June 15, 2020, or (ii) in whole but not in part, at any time within 90 days following certain regulatory capital treatment events, in each case at a redemption price of $1,000 per share (equivalent to $25 per depositary share), plus any applicable dividends. Except in certain limited circumstances, the Series C Preferred Stock does not have any voting rights.
On August 28, 2015, the Board of Directors authorized the repurchase of up to $10 million of the Corporation's Series C Preferred Stock. As of December 31, 2017, $10 million remained available under this repurchase authorization.
In September 2016, the Corporation issued 4,000,000 depositary shares, each representing a 1/40th interest in a share of the Corporation’s 5.375% Non-Cumulative Perpetual Preferred Stock, Series D, liquidation preference $1,000 per share (the “Series D Preferred Stock”). Dividends on the Series D Preferred Stock are payable quarterly in arrears only when, as and if declared by the Board of Directors at a rate per annum equal to 5.375%. Shares of the Series D Preferred Stock have priority over the Corporation’s common stock with regard to the payment of dividends and distributions upon liquidation, dissolution or winding up. As such, the Corporation may not pay dividends on or repurchase, redeem, or otherwise acquire for consideration shares of its common stock unless dividends for the Series D Preferred Stock have been declared for that period, and sufficient funds have been set aside to make payment. The Series D Preferred Stock may be redeemed by the Corporation at its option (i) either in whole or in part, from time to time, on any dividend payment date on or after the dividend payment date occurring on September 15, 2021, or (ii) in whole but not in part, at any time within 90 days following certain regulatory capital treatment events, in each case at a redemption price of $1,000 per share (equivalent to $25 per depositary share), plus any applicable dividends. Except in certain limited circumstances, the Series D Preferred Stock does not have any voting rights.
On July 25, 2017, the Board of Directors authorized the repurchase of up to $15 million of the Corporation's Series D Preferred Stock. As of December 31, 2017, $15 million remained available under this repurchase authorization.
Common Stock Warrants: In November 2008, under the Capital Purchase Program, the Corporation issued a 10 year warrant to purchase approximately 4 million shares of common stock. The Common Stock Warrants have a term of 10 years and are exercisable at any time, in whole or in part, at an exercise price of $19.77 per share (subject to certain anti-dilution adjustments). On December 6, 2011, the U.S. Department of Treasury closed an underwritten secondary public offering of the warrants, each representing the right to purchase one share of common stock, par value $0.01 per share, of the Corporation. The public offering price and the allocation of the warrants in the secondary public warrant offering by the U.S. Treasury were determined by an auction process and the Corporation received no proceeds from the public offering.
Subsidiary Equity: At December 31, 2017, subsidiary equity equaled $3.3 billion. See Note 19 for additional information on regulatory requirements for the Bank.
Common Stock Repurchases: The Board of Directors authorized the repurchase of common stock during 2015. During 2017, the Corporation repurchased approximately 1.6 million shares for $37 million (or an average cost per common share of $23.59), all of which were returned to authorized but unissued shares. During 2016, the Corporation repurchased 1 million shares for $20 million (or an average cost per common share of $17.10), all of which were returned to authorized but unissued shares.
The Corporation also repurchased shares for minimum tax withholding settlements on equity compensation totaling approximately $9 million (370,000 shares at an average cost per common share of $25.08) during 2017 compared to repurchases of shares for minimum tax withholding settlements on equity compensation totaling approximately $5 million (293,000 shares at an average cost per common share of $17.30) for 2016.
As of December 31, 2017, approximately $51 million remained available to repurchase shares of common stock under previously approved Board of Director authorizations. The repurchase of shares will be based on market and investment opportunities, capital levels, growth prospects, and regulatory constraints. Such repurchases may occur from time to time in open market purchases, block transactions, private transactions, accelerated share repurchase programs, or similar facilities.
Other Comprehensive Income (Loss): See the Consolidated Statements of Comprehensive Income for a summary of activity in other comprehensive income (loss) and see Note 22 for a summary of the components of accumulated other comprehensive income (loss).
Note 11 Stock-Based Compensation
Stock-Based Compensation Plan
In March 2013, the Board of Directors, with subsequent approval of the Corporation’s shareholders, approved the adoption of the 2013 Incentive Compensation Plan (“2013 Plan”).
In February 2017, the Board of Directors, with subsequent approval of the Corporation’s shareholders, approved the adoption of the 2017 Incentive Compensation Plan (“2017 Plan”). All remaining shares available for grant under the 2013 Plan were rolled into the 2017 Plan. As of December 31, 2017, approximately 14 million shares remained available for grant under the 2017 Plan.
Under the 2017 Plan, options are generally exercisable up to 10 years from the date of grant, have an exercise price that is equal to the closing price of the Corporation’s stock on the grant date, and vest ratably over four years.
The Corporation also issues restricted common stock and restricted common stock units to certain key employees (collectively referred to as “restricted stock awards”) under the 2017 Plan. The shares of restricted stock are restricted as to transfer, but are not restricted as to dividend payment or voting rights. Restricted stock units receive dividend equivalents but do not have voting rights. The transfer restrictions lapse over three years or four years, depending upon whether the awards are performance-based or service-based. Performance-based awards are based on earnings per share performance goals, relative total shareholder return, and continued employment or meeting the requirements for retirement and service-based awards are contingent upon continued employment or meeting the requirements for retirement. Performance-based restricted stock awards vest over a performance period of three years and service-based restricted stock awards vest ratably over four years.
The 2017 Plan provides that restricted stock awards and stock options will immediately become fully vested upon retirement from the Corporation of those colleagues whose retirement meets the early retirement or normal retirement definitions under the plan (“retirement eligible colleagues”). See Note 1 for the Corporation’s accounting policy for stock based compensation.
Accounting for Stock-Based Compensation
Assumptions are used in estimating the fair value of stock options granted. The weighted average expected life of the stock option represents the period of time that stock options are expected to be outstanding and is estimated using historical data of stock option exercises and forfeitures. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant. The expected volatility is based on the implied volatility of the Corporation’s stock. The following assumptions were used in estimating the fair value for options granted in 2017, 2016 and 2015.
A summary of the Corporation’s stock option activity for the year ended December 31, 2017 is presented below.
Intrinsic value represents the amount by which the fair market value of the underlying stock exceeds the exercise price of the stock option. For the years ended December 31, 2017, 2016, and 2015 the intrinsic value of stock options exercised was $13 million, $9 million, and $7 million, respectively. The total fair value of stock options that vested was $4 million, $3 million and $6 million, respectively, for the years ended December 31, 2017, 2016, and 2015. For the years ended December 31, 2017, 2016, and 2015, the Corporation recognized compensation expense of $4 million for each of the three years, for the vesting of stock options. Included in compensation expense for 2017 was $650,000 of expense for the accelerated vesting of stock options granted to retirement eligible colleagues. At December 31, 2017, the Corporation had $5 million of unrecognized compensation expense related to stock options that is expected to be recognized over the remaining requisite service periods that extend predominantly through the first quarter 2021.
The following table summarizes information about the Corporation’s restricted stock activity for the year ended December 31, 2017.
The Corporation amortizes the expense related to restricted stock awards as compensation expense over the vesting period specified in the grant. Expense for restricted stock awards of approximately $18 million was recorded for both the years ended December 31, 2017 and 2016, and $15 million was recorded for the year ended December 31, 2015. Included in compensation expense for 2017 was approximately $3 million of expense for the accelerated vesting of restricted stock awards granted to retirement eligible colleagues. The Corporation had $18 million of unrecognized compensation costs related to restricted stock awards at December 31, 2017, that is expected to be recognized over the remaining requisite service periods that extend predominantly through first quarter 2021.
The Corporation has the ability to issue shares from treasury or new shares upon the exercise of stock options or the granting of restricted stock awards. As described in Note 10, the Board of Directors has authorized management to repurchase shares of the Corporation’s common stock each quarter in the market, to be made available for issuance in connection with the Corporation’s employee incentive plans and for other corporate purposes. The repurchase of shares will be based on market and investment opportunities, capital levels, growth prospects, and regulatory constraints. Such repurchases may occur from time to time in open market purchases, block transactions, private transactions, accelerated share repurchase programs, or similar facilities.
Note 12 Retirement Plan
The Corporation has a noncontributory defined benefit retirement plan (the Retirement Account Plan) covering substantially all employees who meet participation requirements. The benefits are based primarily on years of service and the employee’s compensation paid. Employees of acquired entities generally participate in the RAP after consummation of the business combinations. Any retirement plans of acquired entities are typically merged into the RAP after completion of the mergers, and credit is usually given to employees for years of service at the acquired institution for vesting and eligibility purposes.
The Corporation also provides legacy healthcare access to a limited group of retired employees from a previous acquisition in the Postretirement Plan. There are no other active retiree healthcare plans.
The funded status and amounts recognized in the 2017 and 2016 consolidated balance sheets, as measured on December 31, 2017 and 2016, respectively, for the Retirement Account and Postretirement Plan were as follows.
(a)
The fair value of the plan assets represented 178% and 167% of the net benefit obligation of the pension plan at December 31, 2017 and 2016, respectively.
Amounts recognized in accumulated other comprehensive loss, net of tax, as of December 31, 2017 and 2016 follow.
Other changes in plan assets and benefit obligations recognized in other comprehensive income (loss) (“OCI”), net of tax, in 2017 and 2016 were as follows.
The components of net periodic benefit cost for the Retirement Account Plan and Postretirement Plans for 2017, 2016, and 2015 were as follows.
As of December 31, 2017, the estimated actuarial losses and prior service cost that will be amortized during 2018 from accumulated other comprehensive income into net periodic benefit cost for the Retirement Account Plan includes expense of $1.9 million for actuarial losses and income of $75,000 for the prior service cost. For the Postretirement Plan, the estimated actuarial losses and prior service cost that will be amortized during 2018 from accumulated other comprehensive income into net periodic benefit cost includes income of $75,000 for the prior service cost. Actuarial loss expense is estimated to be negligible.
The overall expected long-term rates of return on the Retirement Account Plan assets were 6.50% for 2017 and 7.00% for 2016. The expected long-term (more than 20 years) rate of return was estimated using market benchmarks for equities and bonds applied to the Retirement Account Plan’s anticipated asset allocations. The expected return on equities was computed utilizing a valuation framework, which projected future returns based on current equity valuations rather than historical returns. The actual rate of return for the Retirement Account Plan assets was 14.60% and 6.36% for 2017 and 2016, respectively.
The Retirement Account Plan’s investments are exposed to various risks, such as interest rate, market, and credit risks. Due to the level of risks associated with certain investments and the level of uncertainty related to changes in the value of the investments, it is at least reasonably possible that changes in risks in the near term could materially affect the amounts reported. The investment objective for the Retirement Account Plan is to maximize total return with a tolerance for average risk. The plan has a diversified portfolio designed to provide liquidity, current income, and growth of income and principal, with anticipated asset allocation ranges of: equity securities 50 to 70%, fixed income securities 30 to 50%, other cash equivalents 0 to 10%, and alternative securities 0 to 15%. Based on changes in economic and market conditions, the Corporation could be outside of the allocation ranges for brief periods of time. The asset allocation for the Retirement Account Plan as of the December 31, 2017 and 2016 measurement dates, respectively, by asset category were as follows.
The Retirement Account Plan assets include cash equivalents, such as money market accounts, mutual funds, and common / collective trust funds (which include investments in equity and bond securities). Money market accounts are stated at cost plus accrued interest, mutual funds are valued at quoted market prices and investments in common / collective trust funds are valued at the amount at which units in the funds can be withdrawn. Based on these inputs, the following table summarizes the fair value of the Retirement Account Plan’s investments as of December 31, 2017 and 2016.
The Corporation’s funding policy is to pay at least the minimum amount required by the funding requirements of federal law and regulations, with consideration given to the maximum funding amounts allowed. The Corporation regularly reviews the funding of its Retirement Account Plan. The Corporation made contributions of $6 million to its Retirement Account Plan in 2017.
The projected benefit payments for the Retirement Account and Postretirement Plans at December 31, 2017, reflecting expected future services, were as follows. The projected benefit payments were calculated using the same assumptions as those used to calculate the benefit obligations listed above.
The health care trend rate is an assumption as to how much the Postretirement Plan’s medical costs will increase each year in the future. The health care trend rate assumption for pre-65 coverage is 7.5% for 2017, and 0.5% to 0.25% lower in each succeeding year, to an ultimate rate of 5% for 2024 and future years. The actual increase in 2017 health care premium rates for post-65 coverage was 17%. The health care trend rate assumption for post-65 coverage is 6.5% in 2018 and 0.5% to 0.25% lower in each succeeding year, to an ultimate rate of 5% for 2024 and future years.
A one percentage point change in the assumed health care cost trend rate would have the following effect.
The Corporation also has a 401(k) and Employee Stock Ownership Plan (the “401(k) plan”). The Corporation’s contribution is determined by the Compensation and Benefits Committee of the Board of Directors. Total expense related to contributions to the 401(k) plan was $14 million, $14 million, and $11 million in 2017, 2016, and 2015, respectively.
Note 13 Income Taxes
The current and deferred amounts of income tax expense (benefit) were as follows.
Temporary differences between the amounts reported in the financial statements and the tax bases of assets and liabilities resulted in deferred taxes. Deferred tax assets and liabilities at December 31 were as follows.
At December 31, 2016, there was no valuation allowance for deferred tax assets. Management had determined that it was more likely than not that these assets could be realized through carry back to taxable income in prior years, future reversals of existing taxable temporary differences and future taxable income. The conclusion was based on the Corporation's historical earnings, its current level of earnings and prospects for continued growth and profitability. At December 31, 2017 the valuation allowance for deferred tax assets of approximately $269,000 was related to the deferred tax benefit of specific federal tax loss carryforwards of $3 million from the acquisition of Whitnell & Co. in 2017.
At December 31, 2017 the Corporation had state net operating loss carryforwards of $78 million (of which $16 million was acquired from various acquisitions) that will begin expiring in 2032. The Corporation acquired Whitnell & Co. in October of 2017 which had federal net operating loss carryforwards at the time of acquisition. As a result of the change in control of the acquired subsidiary, Section 382 of the Internal Revenue Code places an annual limitation on the use of the subsidiary's net operating loss carryforwards. At December 31, 2017 the Corporation had federal net operating loss carryforwards from this acquisition of $3 million. The federal carryforwards, if unused, expire in calendar years 2029 through 2032.
The effective income tax rate differs from the statutory federal tax rate. The major reasons for this difference were as follows.
Included in the Company’s income tax expense as of December 31, 2017 is tax expense from the remeasurement of deferred taxes totaling $12 million and an acceleration of amortization expense on the low income housing tax credit investment portfolio of $1 million related to the enactment of the Tax Act.
Savings banks acquired by the Corporation in 1997 and 2004 qualified under provisions of the Internal Revenue Code that permitted them to deduct from taxable income an allowance for bad debts that differed from the provision for such losses charged to income for financial reporting purposes. Accordingly, no provision for income taxes has been made for $100 million of retained income at December 31, 2017. If income taxes had been provided, the deferred tax liability would have been approximately $25 million. Management does not expect this amount to become taxable in the future; therefore, no provision for income taxes has been made.
The Corporation and its subsidiaries file income tax returns in the U.S. federal jurisdiction and various state jurisdictions. The Corporation’s federal income tax returns are open and subject to examination from the 2014 tax return year and forward. The years open to examination by state and local government authorities varies by jurisdiction.
A reconciliation of the beginning and ending amount of unrecognized tax benefits was as follows.
At December 31, 2017 and 2016, the total amount of unrecognized tax benefits that, if recognized, would affect the effective tax rate was $3 million and $7 million, respectively.
The Corporation recognizes interest and penalties accrued related to unrecognized tax benefits in the income tax expense line of the consolidated statements of income. Interest and penalty benefit was $1 million as of December 31, 2017 and none as of December 31, 2016. Accrued interest and penalties were $1 million and $2 million at December 31, 2017 and 2016, respectively. Management does not anticipate significant adjustments to the total amount of unrecognized tax benefits within the next twelve months.
Note 14 Derivative and Hedging Activities
The Corporation facilitates customer borrowing activity by providing various interest rate risk management, commodity hedging, and foreign currency exchange solutions through its capital markets area. To date, all of the notional amounts of customer transactions have been matched with a mirror hedge with another counterparty. The Corporation has used, and may use again in the future, derivative instruments to hedge the variability in interest payments or protect the value of certain assets and liabilities recorded on its consolidated balance sheets from changes in interest rates. The predominant derivative and hedging activities include interest rate-related instruments (swaps and caps), foreign currency exchange forwards, commodity contracts, written options, purchased options, and certain mortgage banking activities.
The contract or notional amount of a derivative is used to determine, along with the other terms of the derivative, the amounts to be exchanged between the counterparties. The Corporation is exposed to credit risk in the event of nonperformance by counterparties to financial instruments. To mitigate the counterparty risk, interest rate and commodity-related instruments generally contain language outlining collateral pledging requirements for each counterparty. Collateral must be posted when the market value exceeds certain mutually agreed upon threshold limits. Federal regulations require the Corporation to clear all LIBOR interest rate swaps through a clearing house ("centrally cleared") if possible. Securities are often pledged as collateral for centrally cleared interest rate swaps and derivatives. The Corporation pledged $24 million of investment securities as collateral at December 31, 2017, and pledged $40 million of investment securities as collateral at December 31, 2016. Cash is often pledged as collateral for interest rate swaps and derivatives that are not centrally cleared. At December 31, 2017, the Corporation posted $22 million cash collateral for the margin compared to none at December 31, 2016.
See Note 18 for fair value information and disclosures and see Note 1 for the Corporation's accounting policy for derivative and hedging activities.
Derivatives to Accommodate Customer Needs
The Corporation enters into various derivative contracts which are designated as free standing derivative contracts. Free standing derivative products are entered into primarily for the benefit of commercial customers seeking to manage their exposures to interest rate risk, foreign currency, and commodity prices. These derivative contracts are not designated against specific assets and liabilities on the balance sheet or forecasted transactions and, therefore, do not qualify for hedge accounting treatment. Such derivative contracts are carried at fair value on the consolidated balance sheets with changes in the fair value recorded as a component of capital market fees, net, and typically include interest rate-related instruments (swaps and caps), foreign currency exchange forwards, and commodity contracts. See Note 15 for additional information and disclosures on balance sheet offsetting.
Interest Rate-related Instruments: The Corporation provides interest rate risk management services to commercial customers, primarily forward interest rate swaps and caps. The Corporation’s market risk from unfavorable movements in interest rates related to these derivative contracts is generally economically hedged by concurrently entering into offsetting derivative contracts. The offsetting derivative contracts have identical notional values, terms and indices.
Foreign Currency Exchange Forwards: The Corporation provides foreign currency exchange services to customers, primarily forward contracts. Our customers enter into a foreign currency exchange forward with the Corporation as a means for them to mitigate exchange rate risk. The Corporation mitigates its risk by then entering into an offsetting foreign currency exchange derivative contract.
Commodity Contracts: Commodity contracts are entered into primarily for the benefit of commercial customers seeking to manage their exposure to fluctuating commodity prices. The Corporation mitigates its risk by then entering into an offsetting commodity derivative contract.
The table below identifies the balance sheet category and fair values of the Corporation’s derivative instruments to accommodate customer needs which are not designated as hedging instruments.
Mortgage Derivatives
Interest rate lock commitments to originate residential mortgage loans held for sale and forward commitments to sell residential mortgage loans are considered derivative instruments, and the fair value of these commitments is recorded on the consolidated balance sheets with the changes in fair value recorded as a component of mortgage banking, net.
Written and Purchased Options (Time Deposit)
Historically, the Corporation had entered into written and purchased option derivative instruments to facilitate an equity linked time deposit product (the “Power CD”), which the Corporation ceased offering in September 2013. The Power CD was a time deposit that provided the purchaser a guaranteed return of principal at maturity plus a potential equity return (a written option), while the Corporation received a known stream of funds based on the equity return (a purchased option). The written and purchased options are mirror derivative instruments which are carried at fair value on the consolidated balance sheets.
The table below identifies the balance sheet category and fair values of the Corporation’s derivative instruments which are not designated as hedging instruments.
The table below identifies the income statement category of the gains and losses recognized in income on the Corporation’s derivative instruments not designated as hedging instruments.
Note 15 Balance Sheet Offsetting
Interest Rate-Related Instruments and Commodity Contracts (“Interest and Commodity Agreements”)
The Corporation enters into interest rate-related instruments to facilitate the interest rate risk management strategies of commercial customers. The Corporation also enters into commodity contracts to manage commercial customers exposure to fluctuating commodity prices. The Corporation mitigates these risks by entering into equal and offsetting interest and commodity agreements with highly rated third party financial institutions. The Corporation is party to master netting arrangements with its financial institution counterparties that creates a single net settlement of all legal claims or obligations to pay or receive the net amount of settlement of the individual interest and commodity agreements. Collateral, usually in the form of investment securities and cash, is posted by the counterparty with net liability positions in accordance with contract thresholds. The Corporation does not offset assets and liabilities under these arrangements for financial statement presentation purposes. See Note 14 for additional information on the Corporation’s derivative and hedging activities.
Securities Sold Under Agreements to Repurchase (“Repurchase Agreements”)
The Corporation enters into agreements under which it sells securities subject to an obligation to repurchase the same or similar securities. These repurchase agreements are accounted for as collateralized financing arrangements (i.e., secured borrowings) and not as a sale and subsequent repurchase of securities (i.e., there is no offsetting or netting of the investment securities assets with the repurchase agreement liabilities). The right of set-off for a repurchase agreement resembles a secured borrowing, whereby the collateral would be used to settle the fair value of the repurchase agreement should the Corporation be in default (e.g., fails to make an interest payment to the counterparty). In addition, the Corporation does not enter into reverse repurchase agreements; therefore, there is no such offsetting to be done with the repurchase agreements. See Note 8 for additional disclosures on repurchase agreements.
The following table presents the assets and liabilities subject to an enforceable master netting arrangement. The interest and commodity agreements we have with our commercial customers are not subject to an enforceable master netting arrangement, and therefore, are excluded from this table.
Note 16 Commitments, Off-Balance Sheet Arrangements, and Legal Proceedings
The Corporation utilizes a variety of financial instruments in the normal course of business to meet the financial needs of its customers and to manage its own exposure to fluctuations in interest rates. These financial instruments include lending-related and other commitments (see below) as well as derivative instruments (see Note 14). The following is a summary of lending-related commitments.
(a)
These off-balance sheet financial instruments are exercisable at the market rate prevailing at the date the underlying transaction will be completed and, thus, are deemed to have no current fair value, or the fair value is based on fees currently charged to enter into similar agreements and is not material at December 31, 2017 and 2016.
(b)
Interest rate lock commitments to originate residential mortgage loans held for sale are considered derivative instruments and are disclosed in Note 14.
(c)
The Corporation has established a liability of $2 million at December 31, 2017 and $3 million at December 31, 2016, as an estimate of the fair value of these financial instruments.
Lending-related Commitments
As a financial services provider, the Corporation routinely enters into commitments to extend credit. Such commitments are subject to the same credit policies and approval process accorded to loans made by the Corporation, with each customer’s creditworthiness evaluated on a case-by-case basis. The commitments generally have fixed expiration dates or other termination clauses and may require the payment of a fee. The Corporation’s exposure to credit loss in the event of nonperformance by the other party to these financial instruments is represented by the contractual amount of those instruments. The amount of collateral obtained, if deemed necessary by the Corporation upon extension of credit, is based on management’s credit evaluation of the customer. Since a significant portion of commitments to extend credit are subject to specific restrictive loan covenants or may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash flow requirements. An allowance for unfunded commitments is maintained at a level believed by management to be sufficient to absorb estimated probable losses related to unfunded commitments (including unfunded loan commitments and letters of credit). The allowance for unfunded commitments totaled $24 million at December 31, 2017 compared to $25 million at December 31, 2016, and is included in accrued expenses and other liabilities on the consolidated balance sheets. See Note 1 for the Corporation’s accounting policy on the allowance for unfunded commitments. See Note 4 for additional information on the allowance for unfunded commitments.
Lending-related commitments include commitments to extend credit, commitments to originate residential mortgage loans held for sale, commercial letters of credit, and standby letters of credit. Commitments to extend credit are legally binding agreements to lend to customers at predetermined interest rates, as long as there is no violation of any condition established in the contracts. Interest rate lock commitments to originate residential mortgage loans held for sale and forward commitments to sell residential mortgage loans are considered derivative instruments, and the fair value of these commitments is recorded on the consolidated balance sheets. The Corporation’s derivative and hedging activity is further described in Note 14. Commercial and standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party. Commercial letters of credit are issued specifically to facilitate commerce and typically result in the commitment being drawn on when the underlying transaction is consummated between the customer and the third party, while standby letters of credit generally are contingent upon the failure of the customer to perform according to the terms of the underlying contract with the third party.
Other Commitments
The Corporation invests in unconsolidated projects including low-income housing, new market tax credit projects, and historic tax credit projects to promote the revitalization of primarily low-to-moderate-income neighborhoods throughout the local communities of its bank subsidiary. As a limited partner in these unconsolidated projects, the Corporation is allocated tax credits and deductions associated with the underlying projects. The aggregate carrying value of these investments at December 31, 2017, was $147 million, compared to $68 million at December 31, 2016.
The Corporation has principal investment commitments to provide capital-based financing to private and public companies through either direct investments in specific companies or through investment funds and partnerships. The timing of future cash requirements to fund such commitments is generally dependent on the investment cycle, whereby privately held companies are funded by private equity investors and ultimately sold, merged, or taken public through an initial offering, which can vary based on overall market conditions, as well as the nature and type of industry in which the companies operate. The aggregate carrying value of these investments at December 31, 2017, was $23 million, compared to $17 million at December 31, 2016, included in other assets on the consolidated balance sheets.
Related to these investments, the Corporation had remaining commitments to fund $119 million at December 31, 2017, and $69 million at December 31, 2016.
Legal Proceedings
The Corporation is party to various pending and threatened claims and legal proceedings arising in the normal course of business activities, some of which involve claims for substantial amounts. Although there can be no assurance as to the ultimate outcomes, the Corporation believes it has meritorious defenses to the claims asserted against it in its currently outstanding matters, including the matters described below, and with respect to such legal proceedings, intends to continue to defend itself vigorously. The Corporation will consider settlement of cases when, in management’s judgment, it is in the best interests of both the Corporation and its shareholders.
On at least a quarterly basis, the Corporation assesses its liabilities and contingencies in connection with all pending or threatened claims and litigation, utilizing the most recent information available. On a matter by matter basis, an accrual for loss is established for those matters which the Corporation believes it is probable that a loss may be incurred and that the amount of such loss can be reasonably estimated. Once established, each accrual is adjusted as appropriate to reflect any subsequent developments. Accordingly, management’s estimate will change from time to time, and actual losses may be more or less than the current estimate. For matters where a loss is not probable, or the amount of the loss cannot be estimated, no accrual is established.
Resolution of legal claims is inherently unpredictable, and in many legal proceedings various factors exacerbate this inherent unpredictability, including where the damages sought are unsubstantiated or indeterminate, it is unclear whether a case brought as a class action will be allowed to proceed on that basis, discovery is not complete, the proceeding is not yet in its final stages, the matters present legal uncertainties, there are significant facts in dispute, there are a large number of parties (including where it is uncertain how liability, if any, will be shared among multiple defendants), or there is a wide range of potential results.
A lawsuit, R.J. ZAYED v. Associated Bank, N.A., was filed in the United States District Court for the District of Minnesota on January 29, 2013. The lawsuit relates to a Ponzi scheme perpetrated by Oxford Global Partners and related entities (“Oxford”) and individuals and was brought by the receiver for Oxford. Oxford was a depository customer of Associated Bank (the "Bank"). The lawsuit claims that the Bank is liable for failing to uncover the Oxford Ponzi scheme, and specifically alleges the Bank aided and abetted (1) the fraudulent scheme; (2) a breach of fiduciary duty; (3) conversion; and (4) false representations and omissions. The lawsuit seeks unspecified consequential and punitive damages. The District Court granted the Bank’s motion to dismiss the complaint on September 30, 2013. On March 2, 2015, the U.S. Court of Appeals for the Eighth Circuit reversed the District Court and remanded the case back to the District Court for further proceedings. On January 31, 2017, the District Court granted the Bank’s motion for summary judgment. The receiver has appealed the District Court’s summary judgment decision to the Eighth Circuit Court of Appeals. On January 23, 2018, the District Court approved a settlement agreement between the parties. Based on the terms of the settlement agreement, the Bank expects that the litigation will not have a material adverse impact on the Bank regardless of the outcome of the appeal to the Eighth Circuit Court of Appeals. A lawsuit by investors in the same Ponzi scheme, Herman Grad, et al v. Associated Bank, N.A., brought in Brown County, Wisconsin in October 2009 was dismissed by the circuit court, and the dismissal was affirmed by the Wisconsin Court of Appeals in June 2011 in an unpublished opinion.
Two complaints were filed against the Bank on January 11, 2016 in the United States Bankruptcy Court for the Northern District of Illinois, Eastern Division in connection with the In re: World Marketing Chicago, LLC, et al Chapter 11 bankruptcy proceeding. In the first complaint, The Official Committee of Unsecured Creditors of World Marketing Chicago, LLC, et al v. Associated Bank, N.A., the plaintiff seeks to avoid guarantees and pledges of collateral given by the debtors to secure a revolving financing commitment of $6 million to the debtors’ parent company from the Bank. The plaintiff alleges a variety of legal theories under federal and state law, including fraudulent conveyance, preferential transfer and conversion, in support of its position. The plaintiff seeks return of approximately $4 million paid to the Bank and the avoidance of the security interest in the collateral securing the remaining indebtedness to the Bank. The Bank intends to vigorously defend this lawsuit. In the second complaint, American Funds Service Company v. Associated Bank, N.A., the plaintiff alleges that approximately $600,000 of funds it had advanced to the World Marketing entities to apply towards future postage fees was swept by the Bank from World Marketing’s bank accounts. Plaintiff seeks the return of such funds from the Bank under several theories, including Sec. 541(d) of the Bankruptcy Code, the creation of a resulting trust, and unjust enrichment. The Bank intends to vigorously defend this lawsuit. It is not possible for management to assess the probability of a material adverse outcome or reasonably estimate the amount of any potential loss at this time with respect to these two lawsuits.
Subsequent to the announcement on July 20, 2017, of the Merger Agreement between the Corporation and Bank Mutual, several lawsuits were filed in connection with the proposed merger. On July 28, 2017, two substantially identical purported class action complaints, each by various individual plaintiffs, were filed with the Wisconsin Circuit Court for Milwaukee County on behalf of the respective named plaintiffs and other Bank Mutual shareholders against Bank Mutual, the members of the Bank Mutual board, and the Corporation. The lawsuits are captioned Schumel et al v. Bank Mutual Corporation et al. and Paquin et al. v. Bank Mutual
Corporation et al. Both complaints allege state law breach of fiduciary duty claims against the Bank Mutual board for, among other things, seeking to sell Bank Mutual through an allegedly defective process, for an allegedly unfair price and on allegedly unfair terms. On August 30, 2017, a third purported class action complaint, captioned Wollenburg et al. v. Bank Mutual Corporation et al., was filed in the Wisconsin Circuit Court for Milwaukee County, on behalf of the same class of shareholders and against the same defendants as the prior two complaints. The Wollenburg complaint asserts similar allegations as the prior two complaints, and further alleges that the preliminary proxy statement/prospectus filed with the SEC contains various alleged misstatements or omissions under federal securities law. The Paquin, Schumel and Wollenburg complaints allege that the Corporation aided and abetted Bank Mutual's directors' alleged breaches of fiduciary duty. The parties have entered into a stipulation seeking to consolidate the three actions. On September 13, 2017, the Corporation filed a notice of removal of the Paquin, Schumel and Wollenburg actions to the United States District Court for the Eastern District of Wisconsin. On September 15, 2017, the plaintiffs in the Paquin, Schumel and Wollenburg actions filed identical motions to remand the three cases back to state court, and on September 27, 2017, the defendants filed oppositions to the motions to remand. On October 3, 2017, the defendants filed motions to dismiss the three actions. On September 6, 2017, a fourth purported class action complaint, captioned Parshall et al., v. Bank Mutual Corporation et al., was filed in the U.S. District Court for the Eastern District of Wisconsin, on behalf of the same class of shareholders and against the same defendants as the prior complaints. The Parshall complaint criticizes the adequacy of the merger consideration and alleges that Bank Mutual, the members of the Bank Mutual board and the Corporation allegedly omitted and/or misrepresented certain information in the registration statement on Form S-4 filed in connection with the proposed merger in violation of the federal securities laws. The lawsuits seek, among other things, to enjoin the consummation of the transaction and damages. The Corporation believes the allegations are without merit. On October 13, 2017, Bank Mutual and the Corporation reached agreement with the plaintiffs in each of the four cases whereby Bank Mutual issued certain additional disclosures in a Form 8-K, and each of the plaintiffs have agreed to dismiss their actions with prejudice as to the named plaintiffs and without prejudice as to the rest of the purported class members.
Regulatory Matters
On May 22, 2015, the Bank entered into a Conciliation Agreement ("Conciliation Agreement") with the U.S. Department of Housing and Urban Development ("HUD") which resolved the HUD investigation into the Bank's lending practices during the years 2008-2010. The Bank's commitments under the Conciliation Agreement are spread over 3 years and include commitments to do the following in minority communities: make mortgage loans of approximately $196 million; open one branch and four loan production offices; establish special financing programs; make affordable home repair grants; engage in affirmative marketing outreach; provide financial education programs; and make grants to support community reinvestment training and education. The cost of these commitments will be spread over four calendar years and is not expected to have a material impact on the Corporation's financial condition or results of operation.
A variety of consumer products, including mortgage and deposit products, and certain fees and charges related to such products, have come under increased regulatory scrutiny. It is possible that regulatory authorities could bring enforcement actions, including civil money penalties, or take other actions against the Corporation and the Bank in regard to these consumer products. The Bank could also determine of its own accord, or be required by regulators, to refund or otherwise make remediation payments to customers in connection with these products. It is not possible at this time for management to assess the probability of a material adverse outcome or reasonably estimate the amount of any potential loss related to such matters.
On March 27, 2017, the Bank received a Community Reinvestment Act ("CRA") rating from the Office of the Comptroller of the Currency of "Satisfactory" for the period from January 1, 2011 through July 27, 2015. As a result of this rating, the restrictions on certain of the Bank's activities that had been imposed under the previous "Needs to Improve" CRA rating are no longer applicable.
Mortgage Repurchase Reserve
The Corporation sells residential mortgage loans to investors in the normal course of business. Residential mortgage loans sold to others are predominantly conventional residential first lien mortgages originated under our usual underwriting procedures, and are most often sold on a nonrecourse basis, primarily to the GSEs. The Corporation’s agreements to sell residential mortgage loans in the normal course of business usually require certain representations and warranties on the underlying loans sold, related to credit information, loan documentation, collateral, and insurability. Subsequent to being sold, if a material underwriting deficiency or documentation defect is discovered, the Corporation may be obligated to repurchase the loan or reimburse the GSEs for losses incurred (collectively, “make whole requests”). The make whole requests and any related risk of loss under the representations and warranties are largely driven by borrower performance.
As a result of make whole requests, the Corporation has repurchased loans with principal balances of approximately $1 million and $2 million during the years ended December 31, 2017 and 2016, respectively. The loss reimbursement and settlement claims paid for the years ended December 31, 2017 and 2016, respectively, were negligible. Make whole requests during 2016 and 2017 generally arose from loans sold during the period of January 1, 2012 to December 31, 2017, which totaled $10 billion at the time
of sale, and consisted primarily of loans sold to GSEs. As of December 31, 2017, approximately $6.1 billion of these sold loans remain outstanding.
The balance in the mortgage repurchase reserve at the balance sheet date reflects the estimated amount of potential loss the Corporation could incur from repurchasing a loan, as well as loss reimbursements, indemnifications, and other settlement resolutions. The following summarizes the changes in the mortgage repurchase reserve for the years ended as follows.
The Corporation may also sell residential mortgage loans with limited recourse (limited in that the recourse period ends prior to the loan’s maturity, usually after certain time and / or loan paydown criteria have been met), whereby repurchase could be required if the loan had defined delinquency issues during the limited recourse periods. At December 31, 2017, and December 31, 2016, there were approximately $44 million and $62 million, respectively, of residential mortgage loans sold with such recourse risk. There have been limited instances and immaterial historical losses on repurchases for recourse under the limited recourse criteria.
The Corporation has a subordinate position to the FHLB in the credit risk on residential mortgage loans it sold to the FHLB in exchange for a monthly credit enhancement fee. The Corporation has not sold loans to the FHLB with such credit risk retention since February 2005. At December 31, 2017 and December 31, 2016, there were $73 million and $98 million, respectively, of such residential mortgage loans with credit risk recourse, upon which there have been negligible historical losses to the Corporation.
Note 17 Parent Company Only Financial Information
Presented below are condensed financial statements for the Parent Company.
BALANCE SHEETS
STATEMENTS OF INCOME
STATEMENTS OF CASH FLOWS
Note 18 Fair Value Measurements
Fair value represents the estimated price at which an orderly transaction to sell an asset or to transfer a liability would take place between market participants at the measurement date under current market conditions (i.e., an exit price concept). See Note 1 for the Corporation’s accounting policy for fair value measurements.
Following is a description of the valuation methodologies used for the Corporation’s more significant instruments measured on a recurring basis at fair value, including the general classification of such instruments pursuant to the valuation hierarchy.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
Investment Securities Available For Sale: Where quoted prices are available in an active market, investment securities are classified in Level 1 of the fair value hierarchy. If quoted market prices are not available for the specific security, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics or discounted cash flows, with consideration given to the nature of the quote and the relationship of recently evidenced market activity to the fair value estimate, and are classified in Level 2 of the fair value hierarchy. Lastly, in certain cases where there is limited activity or less transparency around inputs to the estimated fair value, securities are classified within Level 3 of the fair value hierarchy. To validate the fair value estimates, assumptions, and controls, the Corporation looks to transactions for similar instruments and utilizes independent pricing provided by third party vendors or brokers and relevant market indices. While none of these sources are solely indicative of fair value, they serve as directional indicators for the appropriateness of the Corporation’s fair value estimates. The Corporation has determined that the fair value measures of its investment securities are classified predominantly within Level 1 or 2 of the fair value hierarchy. See Note 3 for additional disclosure regarding the Corporation’s investment securities.
Residential Loans Held For Sale: Loans held for sale, which consist generally of current production of certain fixed-rate, first-lien residential mortgage loans, are carried at estimated fair value. Effective January 1, 2017, management elected the fair value option to account for all newly originated mortgage loans held for sale which results in the financial impact of changing market conditions being reflected currently in earnings as opposed to being dependent upon the timing of sales. Therefore, the continually adjusted values going forward will better reflect the price the Corporation expects to receive from the sale of such loans. The estimated fair value was based on what secondary markets are currently offering for portfolios with similar characteristics, which the Corporation classifies as a Level 2 fair value measurement.
Derivative Financial Instruments (Interest Rate-Related Instruments): The Corporation has used, and may use again in the future, interest rate swaps to manage its interest rate risk. In addition, the Corporation offers interest rate-related instruments (swaps and caps) to service our customers’ needs, for which the Corporation simultaneously enters into offsetting derivative financial instruments (i.e., mirror interest rate-related instruments) with third parties to manage its interest rate risk associated with these financial instruments. The valuation of the Corporation’s derivative financial instruments is determined using discounted cash flow analysis on the expected cash flows of each derivative and also includes a nonperformance / credit risk component (credit valuation adjustment). See Note 14 for additional disclosure regarding the Corporation’s interest rate-related instruments.
The discounted cash flow analysis component in the fair value measurement reflects the contractual terms of the derivative financial instruments, including the period to maturity, and uses observable market-based inputs, including interest rate curves and implied volatilities. More specifically, the fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments), with the variable cash payments (or receipts) based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves. Likewise, the fair values of interest rate options (i.e., interest rate caps) are determined using the market standard methodology of discounting the future expected cash receipts that would occur if variable interest rates fall below (or rise above) the strike rate of the floors (or caps), with the variable interest rates used in the calculation of projected receipts on the floor (or cap) based on an expectation of future interest rates derived from observable market interest rate curves and volatilities.
The Corporation also incorporates credit valuation adjustments to appropriately reflect both its own nonperformance risk and the respective counterparty’s nonperformance risk in the fair value measurements. In adjusting the fair value of its derivative financial instruments for the effect of nonperformance risk, the Corporation has considered the impact of netting and any applicable credit enhancements, such as collateral postings, thresholds, mutual puts, and guarantees.
While the Corporation has determined that the majority of the inputs used to value its derivative financial instruments fall within Level 2 of the fair value hierarchy, the credit valuation adjustments utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by itself and its counterparties. The Corporation has assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative positions as of December 31, 2017 and 2016, and has determined that the credit valuation adjustments are not significant to the overall valuation of its derivative financial instruments. Therefore, the Corporation has determined that the fair value measures of its derivative financial instruments in their entirety are classified within Level 2 of the fair value hierarchy.
Derivative Financial Instruments (Foreign Currency Exchange Forwards): The Corporation provides foreign currency exchange services to customers. In addition, the Corporation may enter into a foreign currency exchange forward to mitigate the exchange rate risk attached to the cash flows of a loan or as an offsetting contract to a forward entered into as a service to our customer. The valuation of the Corporation’s foreign currency exchange forwards is determined using quoted prices of foreign currency exchange forwards with similar characteristics, with consideration given to the nature of the quote and the relationship of recently evidenced market activity to the fair value estimate, and are classified in Level 2 of the fair value hierarchy. See Note 14 for additional disclosures regarding the Corporation’s foreign currency exchange forwards.
Derivative Financial Instruments (Commodity Contracts): The Corporation enters into commodity contracts to manage commercial customers' exposure to fluctuating commodity prices, for which the Corporation simultaneously enters into offsetting derivative financial instruments (i.e., mirror commodity contracts) with third parties to manage its risk associated with these financial instruments. The valuation of the Corporation’s commodity contracts is determined using quoted prices of the underlying instruments, and are classified in Level 2 of the fair value hierarchy. See Note 14 for additional disclosures regarding the Corporation’s commodity contracts.
The table below presents the Corporation’s financial instruments measured at fair value on a recurring basis as of December 31, 2017 and 2016, aggregated by the level in the fair value hierarchy within which those measurements fall.
(a)
Effective January 1, 2017, residential loans originated for sale are accounted for under the fair value option. Prior periods have not been restated. For more information on this accounting policy change, please refer to Note 1.
The table below presents a rollforward of the balance sheet amounts for the years ended December 31, 2017 and 2016, for financial instruments measured on a recurring basis and classified within Level 3 of the fair value hierarchy.
(a) During the first quarter of 2017, the $200,000 level 3 investment security was transferred to level 2 based upon new pricing information.
For Level 3 assets and liabilities measured at fair value on a recurring basis as of December 31, 2017, the Corporation utilized the following valuation techniques and significant unobservable inputs.
Derivative Financial Instruments (Mortgage Derivative - Interest Rate lock Commitments to Originate Residential Mortgage Loans Held For Sale): The fair value is determined by the change in value from each loan's rate lock date to the expected rate lock expiration date based on the underlying loan attributes, estimated closing ratios, and investor price matrix determined to be reasonably applicable to each loan commitment. The closing ratio calculation takes into consideration historical experience and loan-level attributes, particularly the change in the current interest rates from the time of initial rate lock. The closing ratio is periodically reviewed for reasonableness and reported to the Associated Mortgage Risk Management Committee. At December 31, 2017, the closing ratio was 85%.
Derivative Financial Instruments (Mortgage Derivative-Forward Commitments to Sell Mortgage Loans): Mortgage derivatives include forward commitments to deliver closed end residential mortgage loans into conforming Agency Mortgage Backed Securities (To be Announced, "TBA") or conforming Cash Forward sales. The fair value of such instruments is determined by the difference of current market prices for such traded instruments or available from forward cash delivery commitments and the original traded price for such commitments.
The Corporation also relies on an internal valuation model to estimate the fair value of its forward commitments to sell residential mortgage loans (i.e., an estimate of what the Corporation would receive or pay to terminate the forward delivery contract based on market prices for similar financial instruments), which includes matching specific terms and maturities of the forward commitments against applicable investor pricing available. While there are Level 2 and 3 inputs used in the valuation models, the Corporation has determined that the majority of the inputs significant in the valuation of both of the mortgage derivatives fall within Level 3 of the fair value hierarchy. See Note 14 for additional disclosure regarding the Corporation’s mortgage derivatives.
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
Following is a description of the valuation methodologies used for the Corporation’s more significant instruments measured on a nonrecurring basis at the lower of amortized cost or estimated fair value, including the general classification of such instruments pursuant to the valuation hierarchy.
Commercial Loans Held For Sale: Loans held for sale are carried at the lower of cost or estimated fair value. The estimated fair value is based on a discounted cash flow analysis, which the Corporation classifies as a Level 2 nonrecurring fair value measurement.
Other Real Estate Owned: Certain other real estate owned, upon initial recognition, was re-measured and reported at fair value through a charge off to the allowance for loan losses based upon the estimated fair value of the other real estate owned, less estimated selling costs. The fair value of other real estate owned, upon initial recognition or subsequent impairment, was estimated using appraised values, which the Corporation classifies as a Level 2 nonrecurring fair value measurement.
For Level 3 assets and liabilities measured at fair value on a nonrecurring basis as of December 31, 2017, the Corporation utilized the following valuation techniques and significant unobservable inputs.
Impaired Loans: The Corporation considers a loan impaired when it is probable that the Corporation will be unable to collect all amounts due according to the original contractual terms of the note agreement, including both principal and interest. Management has determined that commercial and consumer loan relationships that have nonaccrual status or have had their terms restructured in a troubled debt restructuring meet this impaired loan definition. For individually evaluated impaired loans, the amount of impairment is based upon the present value of expected future cash flows discounted at the loan’s effective interest rate, the estimated fair value of the underlying collateral for collateral-dependent loans, or the estimated liquidity of the note. See Note 4 for additional information regarding the Corporation’s impaired loans.
Mortgage Servicing Rights: Mortgage servicing rights do not trade in an active, open market with readily observable prices. While sales of mortgage servicing rights do occur, the precise terms and conditions typically are not readily available to allow for a “quoted price for similar assets” comparison. Accordingly, the Corporation utilizes an independent valuation from a third party which uses a discounted cash flow model to estimate the fair value of its mortgage servicing rights. The valuation model incorporates prepayment assumptions to project mortgage servicing rights cash flows based on the current interest rate scenario, which is then discounted to estimate an expected fair value of the mortgage servicing rights. The valuation model considers portfolio characteristics of the underlying mortgages, contractually specified servicing fees, prepayment assumptions, discount rate assumptions, delinquency rates, late charges, other ancillary revenue, costs to service, and other economic factors. The Corporation periodically reviews and assesses the underlying inputs and assumptions used in the model. In addition, the Corporation compares its fair value estimates and assumptions to observable market data for mortgage servicing rights, where available, and to recent market activity and actual portfolio experience. Due to the nature of the valuation inputs, mortgage servicing rights are classified within Level 3 of the fair value hierarchy. The Corporation uses the amortization method (i.e., lower of amortized cost or estimated fair value measured on a nonrecurring basis), not fair value measurement accounting, for its mortgage servicing rights assets.
The discounted cash flow analyses that generate expected market prices utilize the observable characteristics of the mortgage servicing rights portfolio, as well as certain unobservable valuation parameters. The significant unobservable inputs used in the fair value measurement of the Corporation’s mortgage servicing rights are the weighted average constant prepayment rate and weighted average discount rate. Significant increases (decreases) in any of those inputs in isolation could result in a significantly lower (higher) fair value measurement.
These parameter assumptions fall within a range that the Corporation, in consultation with an independent third party, believes purchasers of servicing would apply to such portfolios sold into the current secondary servicing market. Discussions are held with members from Treasury and the Community, Consumer, and Business segment to reconcile the fair value estimates and the key assumptions used by the respective parties in arriving at those estimates. The Associated Mortgage Risk Management Committee is responsible for providing control over the valuation methodology and key assumptions. To assess the reasonableness of the fair value measurement, the Corporation also compares the fair value and constant prepayment rate to a value calculated by an independent third party on an annual basis. See Note 5 for additional disclosure regarding the Corporation’s mortgage servicing rights.
The table below presents the Corporation’s assets measured at fair value on a nonrecurring basis, aggregated by the level in the fair value hierarchy within which those measurements fall.
(a)
Represents individually evaluated impaired loans, net of the related allowance for loan losses.
(b) Effective January 1, 2017, residential loans originated for sale are accounted for under the fair value option. Prior periods have not been restated. For more information on this accounting policy change, please refer to Note 3.
(c)
Represents provision for credit losses on individually evaluated impaired loans.
The change in provision for credit loss is primarily due to the oil and gas portfolio. For more information on the oil and gas portfolio, see Note 4.
Certain nonfinancial assets and nonfinancial liabilities measured at fair value on a nonrecurring basis include the fair value analysis in the second step of a goodwill impairment test, and intangible assets and other nonfinancial long-lived assets measured at fair value for impairment assessment.
The Corporation's significant Level 3 measurements which employ unobservable inputs that are readily quantifiable pertain to mortgage servicing rights and impaired loans.
The table below presents information about these inputs and further discussion is found above.
Fair Value of Financial Instruments
The Corporation is required to disclose estimated fair values for its financial instruments.
Fair value estimates, methods, and assumptions are set forth below for the Corporation’s financial instruments.
(a)
The commitment on standby letters of credit was $235 million and $260 million at December 31, 2017 and 2016, respectively. See Note 16 for additional information on the standby letters of credit and for information on the fair value of lending-related commitments.
Cash and due from banks, interest-bearing deposits in other financial institutions, and federal funds sold and securities purchased under agreements to resell: For these short-term instruments, the carrying amount is a reasonable estimate of fair value.
Investment securities (held to maturity and available for sale): The fair value of investment securities is based on quoted prices in active markets, or if quoted prices are not available for a specific security, then fair values are estimated by using pricing models, quoted prices of securities with similar characteristics, or discounted cash flows.
FHLB and Federal Reserve Bank stocks: The carrying amount is a reasonable fair value estimate for the Federal Reserve Bank and FHLB stocks given their “restricted” nature (i.e., the stock can only be sold back to the respective institutions (FHLB or Federal Reserve Bank) or another member institution at par).
Loans held for sale: The fair value estimation process for the loans held for sale portfolio is segregated by loan type. The estimated fair value for residential loans held for sale was based on what secondary markets are currently offering for portfolios with similar characteristics. The estimated fair value for commercial loans held for sale was based on a discounted cash flow analysis.
Loans, net: The fair value estimation process for the loan portfolio uses an exit price concept and reflects discounts the Corporation believes are consistent with liquidity discounts in the market place. Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial and industrial, real estate construction, commercial real
estate (owner occupied and investor), residential mortgage, home equity, and other consumer. The fair value of loans is estimated by discounting the future cash flows using the current rates at which similar loans would be made to borrowers with similar credit ratings and for similar maturities. The fair value analysis also included other assumptions to estimate fair value, intended to approximate those a market participant would use in an orderly transaction, with adjustments for discount rates, interest rates, liquidity, and credit spreads, as appropriate.
Bank and corporate owned life insurance ("BOLI" and "COLI"): The fair value of BOLI and COLI approximates the carrying amount, because upon liquidation of these investments, the Corporation would receive the cash surrender value which equals the carrying amount. The Corporation has not purchased any new BOLI or COLI policies since 2008.
Deposits: The fair value of deposits with no stated maturity such as noninterest-bearing demand, savings, interest-bearing demand, and money market accounts, is equal to the amount payable on demand as of the balance sheet date. The fair value of Brokered CDs and other time deposits is based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities. However, if the estimated fair value of Brokered CDs and other time deposits is less than the carrying value, the carrying value is reported as the fair value.
Short-term funding: The carrying amount is a reasonable estimate of fair value for existing short-term funding.
Long-term funding: Rates currently available to the Corporation for debt with similar terms and remaining maturities are used to estimate the fair value of existing long-term funding.
Standby letters of credit: The fair value of standby letters of credit represents deferred fees arising from the related off-balance sheet financial instruments. These deferred fees approximate the fair value of these instruments and are based on several factors, including the remaining terms of the agreement and the credit standing of the customer.
Derivatives (trading and other): A detailed description of the Corporation's derivative instruments can be found under the "Assets and Liabilities Measured at Fair Value on a Recurring Basis" section of this footnote.
Limitations: Fair value estimates are made at a specific point 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 Corporation’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Corporation’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
Note 19 Regulatory Matters
Restrictions on Cash and Due From Banks
The Corporation’s bank subsidiary is required to maintain certain vault cash and reserve balances with the Federal Reserve Bank to meet specific reserve requirements. These requirements approximated $73 million at December 31, 2017.
Regulatory Capital Requirements
The Corporation and its subsidiary bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possible additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Corporation’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Corporation must meet specific capital guidelines that involve quantitative measures of the Corporation’s assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Corporation’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy require the Corporation to maintain minimum amounts and ratios (set forth in the table below) of total and Common equity Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average assets (as defined). Management believes, as of December 31, 2017 and 2016, that the Corporation meets all capital adequacy requirements to which it is subject.
For additional information on the capital requirements applicable for the Corporation and the Bank, please see Part I, Item 1.
As of December 31, 2017 and 2016, the most recent notifications from the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation categorized the subsidiary bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the subsidiary bank must maintain minimum ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the institution’s category. The actual capital amounts and ratios of the Corporation and its significant subsidiary are presented below. No deductions from capital were made for interest rate risk in 2017 or 2016.
(a)
When fully phased-in on January 1, 2019, the Basel III capital rules include a capital conservation buffer of 2.5% that is added on top of each of the minimum risk-based capital ratios noted above. Implementation began on January 1, 2016 at the 0.625% level and will increase each subsequent January 1, until it reaches 2.5% on January 1, 2019.
(b) Prompt corrective action provisions are not applicable at the bank holding company level.
Note 20 Earnings Per Common Share
See Note 1 for the Corporation’s accounting policy on earnings per common share. Presented below are the calculations for basic and diluted earnings per common share.
Anti-dilutive common stock options of approximately 1 million at the year ended December 31, 2017, 2016 and 2015 were excluded from the earnings per common share calculation. Warrants to purchase approximately 4 million at both the years ended December 31, 2016 and 2015 were outstanding, but excluded from the calculation of diluted earnings per common shares as the effect would have been anti-dilutive.
Note 21 Segment Reporting
The Corporation utilizes a risk-based internal profitability measurement system to provide strategic business unit reporting. The profitability measurement system is based on internal management methodologies designed to produce consistent results and reflect the underlying economics of the units. Certain strategic business units have been combined for segment information reporting purposes where the nature of the products and services, the type of customer and the distribution of those products and services are similar. The three reportable segments are Corporate and Commercial Specialty; Community, Consumer, and Business; and Risk Management and Shared Services. The financial information of the Corporation’s segments has been compiled utilizing the accounting policies described in Note 1, with certain exceptions. The more significant of these exceptions are described herein.
The Corporation allocates net interest income using an internal FTP methodology that charges users of funds (assets) and credits providers of funds (liabilities, primarily deposits) based on the maturity, prepayment and / or repricing characteristics of the assets and liabilities. The net effect of this allocation is recorded in the Risk Management and Shared Services segment.
A credit provision is allocated to segments based on the expected long-term annual net charge off rates attributable to the credit risk of loans managed by the segment during the period. In contrast, the level of the consolidated provision for credit losses is determined based on an incurred loss model using the methodologies described in Note 1 to assess the overall appropriateness of the allowance for loan losses and the allowance for unfunded commitments. The net effect of the credit provision is recorded in Risk Management and Shared Services. Indirect expenses incurred by certain centralized support areas are allocated to segments based on actual usage (for example, volume measurements) and other criteria. Certain types of administrative expense and bank-wide expense accruals (including amortization of core deposit and other intangible assets associated with acquisitions) are generally not allocated to segments. Income taxes are allocated to segments based on the Corporation’s tax rate, with certain segments adjusted for any tax-exempt income or non-deductible expenses, the net tax residual is recorded in Risk Management and Shared Services. Equity is allocated to the segments based on regulatory capital requirements and in proportion to an assessment of the inherent risks associated with the business of the segment (including interest, credit and operating risk).
The management accounting policies and processes utilized in compiling segment financial information are highly subjective and, unlike financial accounting, are not based on authoritative guidance similar to U.S. generally accepted accounting principles. As a result, reported segments and the financial information of the reported segments are not necessarily comparable with similar information reported by other financial institutions. Furthermore, changes in management structure or allocation methodologies and procedures may result in changes in previously reported segment financial data. During 2016, certain presentation changes were made and, accordingly, 2015 results have been restated and presented on a comparable basis, except as noted above for the enhanced FTP methodology.
A description of each business segment is presented below.
Corporate and Commercial Specialty: The Corporate and Commercial Specialty segment serves a wide range of customers including larger businesses, developers, not-for-profits, municipalities, and financial institutions. In serving this segment we compete based on an in-depth understanding of our customers’ financial needs, the ability to match market competitive solutions to those needs, and the highest standards of relationship and service excellence in the delivery of these services. Delivery of services is provided through our corporate and commercial units, our commercial real estate unit, as well as our specialized industries and commercial financial services units. Within this segment we provide the following products and services: (1) lending solutions, such as commercial loans and lines of credit, commercial real estate financing, construction loans, letters of credit, leasing, asset based lending, and, for our larger clients, loan syndications; (2) deposit and cash management solutions such as commercial checking and interest-bearing deposit products, cash vault and night depository services, liquidity solutions, payables and receivables solutions, and information services, and (3) specialized financial services such as interest rate risk management, foreign exchange solutions, and commodity hedging.
Community, Consumer, and Business: The Community, Consumer, and Business segment serves individuals, as well as small and mid-sized businesses. In serving this segment we compete based on providing a broad range of solutions to meet the needs of our customers in their entire financial lifecycle, convenient access to our services through multiple channels such as branches, phone based services, online and mobile banking, and a relationship based business model which assists our customers in navigating any changes and challenges in their financial circumstances. Delivery of services is provided through our various consumer banking, community banking, and private client units. Within this segment we provide the following products and services: (1) lending solutions such as residential mortgages, home equity loans and lines of credit, personal and installment loans, real estate financing, business loans, and business lines of credit; (2) deposit and transactional solutions such as checking, credit, debit and pre-paid cards, online banking and bill pay, and money transfer services; (3) investable funds solutions such as savings, money market deposit accounts, IRA accounts, certificates of deposit, fixed and variable annuities, full-service, discount and on-line investment brokerage; investment advisory services; trust and investment management accounts; (4) insurance and benefits related products
and services; and (5) fiduciary services such as administration of pension, profit-sharing and other employee benefit plans, fiduciary and corporate agency services, and institutional asset management.
Risk Management and Shared Services: The Risk Management and Shared Services segment includes Corporate Risk Management, Credit Administration, Finance, Treasury, Operations and Technology, which are key shared functions. The segment also includes Parent Company activity, intersegment eliminations and residual revenue and expenses, representing the difference between actual amounts incurred and the amounts allocated to operating segments, including interest rate risk residuals (FTP mismatches) and credit risk and provision residuals (long term credit charge mismatches). The earning assets within this segment include the Corporation’s investment portfolio, and capital includes both allocated and any remaining unallocated capital.
Information about the Corporation’s segments is presented below.
(a)
The consolidated credit provision is equal to the actual reported provision for credit losses.
(b)
The Federal Reserve establishes capital adequacy requirements for the Corporation. Average allocated capital represents average common equity Tier 1, as defined by the Federal Reserve. For segment reporting purposes, the ROCET1, a non-GAAP financial measure, reflects return on average allocated common equity Tier 1 (“CET1”). The ROCET1 for the Risk Management and Shared Services segment and the Consolidated Total is inclusive of the annualized effect of the preferred stock dividends.
Note 22 Accumulated Other Comprehensive Income (Loss)
The following table summarizes the components of accumulated other comprehensive income (loss) at December 31, 2017, 2016, and 2015, changes during the years then ended, and reclassifications out of accumulated other comprehensive income (loss) during the years ended December 31, 2017, 2016, and 2015, respectively.
Note 23 Recent Developments
On February 1, 2018, the Corporation acquired Bank Mutual Corporation ("Bank Mutual") pursuant to an Agreement and Plan of Merger, dated as of July 20, 2017 (the "Merger Agreement"), under which Bank Mutual merged with and into the Corporation. Under the terms of the Merger Agreement, Bank Mutual’s shareholders received 0.422 shares of Corporation common stock for each share of Bank Mutual’s common stock. The Corporation expects to issue approximately 19.6 million shares for a total deal value of approximately $485 million based on the closing sale price of a share of Associated common stock on January 31, 2018. We expect to merge Bank Mutual's banking subsidiary into Associated Bank in late June or July 2018.
On February 6, 2018, the Corporation's Board of Directors declared a regular quarterly cash dividend of $0.15 per common share, payable on March 15, 2018 to shareholders of record at the close of business on March 1, 2018. This is an increase of $0.01 from the previous quarterly dividend of $0.14 per common share. The Board of Directors also declared a regular quarterly cash dividend of $0.3828125 per depositary share on the Corporation's 6.125% Series C Perpetual Preferred Stock, payable on March 15, 2018 to shareholders of record at the close of business on March 1, 2018. The Board of Directors also declared a regular quarterly cash dividend of $0.3359375 per depositary share on the Corporation's 5.375% Series D Perpetual Preferred Stock, payable on March 15, 2018 to shareholders of record at the close of business on March 1, 2018.
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
Associated Banc-Corp:
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of Associated Banc-Corp and subsidiaries (the “Company”) as of December 31, 2017 and 2016, the related consolidated statements of income, comprehensive income, changes in stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2017, and the related notes (collectively, the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2017 and 2016, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2017, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company’s internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated February 6, 2018 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ KPMG LLP
We have served as the Company’s auditor since 1983.
Chicago, Illinois
February 6, 2018
ITEM 9.
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A.
ITEM 9A.
CONTROLS AND PROCEDURES
The Corporation maintains disclosure controls and procedures as required under Rule 13a-15(e) and Rule 15d-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to the Corporation’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
As of December 31, 2017, the Corporation’s management carried out an evaluation, under the supervision and with the participation of the Corporation’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of its disclosure controls and procedures. Based on the foregoing, its Chief Executive Officer and Chief Financial Officer concluded that the Corporation’s disclosure controls and procedures were effective as of December 31, 2017. No changes were made to the Corporation’s internal control over financial reporting (as defined Rule 13a-15(f) and Rule 15d-15(f) promulgated under the Exchange Act) during the last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Corporation’s internal control over financial reporting.
Management’s Annual Report on Internal Control Over Financial Reporting
Management of Associated Banc-Corp is responsible for establishing and maintaining adequate internal control over financial reporting. The Corporation’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Corporation’s financial statements for external purposes in accordance with generally accepted accounting principles. Internal control over financial reporting is defined in Rules 13a-15(f) and 15d-15(f) promulgated under the Exchange Act.
As of December 31, 2017, management assessed the effectiveness of the Corporation’s internal control over financial reporting based on criteria for effective internal control over financial reporting established in Internal Control - Integrated Framework (2013), issued by the Committee of Sponsoring Organization of the Treadway Commission (COSO). Based on this assessment, management has determined that the Corporation’s internal control over financial reporting as of December 31, 2017, was effective.
KPMG LLP, the independent registered public accounting firm that audited the consolidated financial statements of the Corporation included in this Annual Report on Form 10-K, has issued an attestation report on the effectiveness of the Corporation’s internal control over financial reporting as of December 31, 2017. The report, which expresses an unqualified opinion on the effectiveness of the Corporation’s internal control over financial reporting as of December 31, 2017, is included below under the heading Report of Independent Registered Public Accounting Firm.
Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
Associated Banc-Corp:
Opinion on Internal Control Over Financial Reporting
We have audited Associated Banc-Corp and subsidiaries’ (the “Company”) internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the consolidated balance sheets of the Company as of December 31, 2017 and 2016, the related consolidated statements of income, comprehensive income, changes in stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2017, and the related notes (collectively, the “consolidated financial statements”), and our report dated February 6, 2018 expressed an unqualified opinion on those consolidated financial statements.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Annual Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ KPMG LLP
Chicago, Illinois
February 6, 2018
ITEM 9B.
ITEM 9B.
OTHER INFORMATION
None.
PART III
ITEM 10.
ITEM 10.
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information in the Corporation’s definitive Proxy Statement, prepared for the 2018 Annual Meeting of Shareholders, which contains information concerning this item under the captions Election of Directors and Information About the Board of Directors; and information concerning Section 16(a) compliance under the caption Section 16(a) Beneficial Ownership Reporting Compliance is incorporated herein by reference. Information relating to the Corporation’s executive officers is set forth in Part I of this report.
Our Code of Business Conduct and Ethics, Corporate Governance Guidelines, committee charters for standing committees of the Board and other governance documents are all available on our website, www.associatedbank.com, "Investor Relations," "Governance Documents." We will disclose on our website amendments to or waivers from our Code of Ethics in accordance with all applicable laws and regulations. Information contained on any of our websites is not deemed to be a part of this Annual Report.
The information in the Corporation’s definitive Proxy Statement, prepared for the 2018 Annual Meeting of Shareholders, which contains information concerning this item, under the captions Executive Compensation - Compensation Discussion and Analysis, Director Compensation, Compensation and Benefits Committee Interlocks and Insider Participation, and Compensation and Benefits Committee Report is incorporated herein by reference.
ITEM 12.
ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The information in the Corporation’s definitive Proxy Statement, prepared for the 2018 Annual Meeting of Shareholders, which contains information concerning this item, under the captions Stock Ownership and Equity Compensation Plan Information, is incorporated herein by reference.
ITEM 13.
ITEM 13.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
The information in the Corporation’s definitive Proxy Statement, prepared for the 2018 Annual Meeting of Shareholders, which contains information concerning this item under the captions Related Party Transactions, and Information about the Board of Directors, is incorporated herein by reference.
ITEM 14.
ITEM 14.
PRINCIPAL ACCOUNTING FEES AND SERVICES
The information in the Corporation’s definitive Proxy Statement, prepared for the 2018 Annual Meeting of Shareholders, which contains information concerning this item under the caption Fees Paid to Independent Registered Public Accounting Firm, is incorporated herein by reference.
PART IV
ITEM 15.
ITEM 15.
EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) 1 and 2 Financial Statements and Financial Statement Schedules
The following financial statements and financial statement schedules are included under a separate caption Financial Statements and Supplementary Data in Part II, Item 8 hereof and are incorporated herein by reference.
Consolidated Balance Sheets - December 31, 2017 and 2016
Consolidated Statements of Income - For the Years Ended December 31, 2017, 2016, and 2015
Consolidated Statements of Comprehensive Income - For the Years Ended December 31, 2017, 2016, and 2015
Consolidated Statements of Changes in Stockholders’ Equity - For the Years Ended December 31, 2017, 2016, and 2015
Consolidated Statements of Cash Flows - For the Years Ended December 31, 2017, 2016, and 2015
Notes to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
(a) 3 Exhibits Required by Item 601 of Regulation S-K
*
Management contracts and arrangements.
Schedules and exhibits other than those listed are omitted for the reasons that they are not required, are not applicable or that equivalent information has been included in the financial statements, and notes thereto, or elsewhere within.
Not applicable.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
ASSOCIATED BANC-CORP
Date: February 6, 2018
By:
/s/ Philip B. Flynn
Philip B. Flynn
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Signature
Title
Date
/s/ Philip B. Flynn
President and Chief Executive Officer
(Principal Executive Officer)
February 6, 2018
Philip B. Flynn
/s/ Christopher J. Del Moral-Niles
Chief Financial Officer
(Principal Financial Officer)
February 6, 2018
Christopher J. Del Moral-Niles
/s/ Tammy C. Stadler
Principal Accounting Officer
February 6, 2018
Tammy C. Stadler
Directors: Michael T. Crowley Jr., Philip B. Flynn, R. Jay Gerken, Judith P. Greffin, Robert A. Jeffe, Eileen A. Kamerick, Gale E. Klappa, Richard T. Lommen, Cory L. Nettles, Karen T. van Lith, and John (Jay) B. Williams
By:
/s/ Randall J. Erickson
Randall J. Erickson
As Attorney-In-Fact*
*
Pursuant to authority granted by powers of attorney, copies of which are filed herewith.