enterprise_10q.htm
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
 
FORM 10-Q
 
[X]       
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended March 31, 2011.
     
[   ]  
Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from ______ to ______
     
    Commission file number 001-15373
 
ENTERPRISE FINANCIAL SERVICES CORP
 
Incorporated in the State of Delaware
I.R.S. Employer Identification # 43-1706259
Address: 150 North Meramec
Clayton, MO 63105
Telephone: (314) 725-5500
___________________
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes [X]  No [   ] 
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files ). Yes [   ]  No [   ]
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer o Accelerated filer þ   Non-accelerated filer o Smaller reporting company o
    (Do not check if a smaller  
         reporting company)  

 
Indicate by check mark whether the registrant is a shell company as defined in Rule 12b-2 of the Exchange Act
Yes [   ]  No [X]
 
As of May 6, 2011, the Registrant had 14,945,038 shares of outstanding common stock.
 
This document is also available through our website at http://www.enterprisebank.com.

 

 


ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
TABLE OF CONTENTS
 
          Page
PART I - FINANCIAL INFORMATION        
           
       Item 1.  Financial Statements        
         
              Condensed Consolidated Balance Sheets (Unaudited)     1  
         
              Condensed Consolidated Statements of Operations (Unaudited)     2  
         
              Condensed Consolidated Statement of Shareholders Equity (Unaudited)     3  
         
              Condensed Consolidated Statements of Cash Flows (Unaudited)     4  
         
              Notes to Condensed Consolidated Financial Statements (Unaudited)     5  
           
       Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations     25  
           
       Item 3. Quantitative and Qualitative Disclosures About Market Risk     37  
           
       Item 4. Controls and Procedures     39  
         
PART II - OTHER INFORMATION        
           
       Item 1.  Legal Proceedings     39  
           
       Item 1A.  Risk Factors     40  
           
       Item 6. Exhibits     41  
         
       Signatures     42  
         
       Certifications     46  


 

PART 1 – ITEM 1 – FINANCIAL STATEMENTS
ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
Condensed Consolidated Balance Sheets (Unaudited)
 
    March 31,      December 31,
(In thousands, except share and per share data)      2011   2010
Assets                
Cash and due from banks (including $1,500 pledged as collateral)   $       18,542     $       23,413  
Federal funds sold     1,464       3,153  
Interest-bearing deposits     185,805       267,102  
                     Total cash and cash equivalents     205,811       293,668  
Interest-bearing deposits greater than 90 days     1,751       1,751  
Securities available for sale     481,989       361,546  
Mortgage loans held for sale     3,142       5,640  
Portfolio loans not covered under FDIC loss share     1,761,034       1,766,351  
Portfolio loans covered under FDIC loss share at fair value     191,447       126,711  
       Less: Allowance for loan losses     42,822       42,759  
                     Portfolio loans, net
    1,909,659       1,850,303  
Other real estate not covered under FDIC loss share     28,443       25,373  
Other real estate covered under FDIC loss share     22,862       10,835  
Other investments, at cost     14,430       12,278  
Fixed assets, net     20,035       20,499  
Accrued interest receivable     7,839       7,464  
State tax credits, held for sale, including $30,494 and $31,576                
       carried at fair value, respectively     59,928       61,148  
FDIC loss share receivable     103,529       88,292  
Goodwill     3,879       2,064  
Intangibles, net     1,921       1,223  
Other assets     60,098       63,756  
                     Total assets   $ 2,925,316     $ 2,805,840  
                 
Liabilities and Shareholders' Equity                
Deposits:                
       Demand deposits   $ 448,012     $ 366,086  
       Interest-bearing transaction accounts     198,152       204,687  
       Money market accounts     942,009       855,522  
       Savings     10,789       10,181  
       Certificates of deposit:                
              $100 and over     593,791       543,898  
              Other     237,677       317,347  
                     Total deposits     2,430,430       2,297,721  
Subordinated debentures     85,081       85,081  
Federal Home Loan Bank advances     107,300       107,300  
Other borrowings     97,898       119,333  
Accrued interest payable     1,545       1,488  
Other liabilities     12,047       11,569  
                     Total liabilities     2,734,301       2,622,492  
                 
Shareholders' equity:                
       Preferred stock, $0.01 par value;                
              5,000,000 shares authorized;
               
              35,000 shares issued and outstanding
    32,707       32,519  
       Common stock, $0.01 par value;                
              30,000,000 shares authorized; 15,016,977 and                
              14,965,401 shares issued, respectively     150       150  
       Treasury stock, at cost; 76,000 shares     (1,743 )     (1,743 )
       Additional paid in capital     134,664       133,673  
       Retained earnings     24,992       19,322  
       Accumulated other comprehensive income (loss)     245       (573 )
                     Total shareholders' equity     191,015       183,348  
                     Total liabilities and shareholders' equity   $ 2,925,316     $ 2,805,840  
                 
See accompanying notes to condensed consolidated financial statements.
 
1
 

 

ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
Condensed Consolidated Statements of Operations (Unaudited)
 
  Three months ended March 31,
(In thousands, except per share data) 2011      2010
Interest income:            
       Interest and fees on loans $           31,661   $            25,244  
       Interest on debt securities:            
              Taxable   2,570     1,850  
              Nontaxable   110     10  
       Interest on federal funds sold   1     8  
       Interest on interest-bearing deposits   148     80  
       Dividends on equity securities   73     83  
              Total interest income   34,563     27,275  
Interest expense:            
       Interest-bearing transaction accounts   189     219  
       Money market accounts   2,082     1,393  
       Savings   9     8  
       Certificates of deposit:            
              $100 and over   2,357     2,850  
              Other   1,053     1,785  
       Subordinated debentures   1,121     1,230  
       Federal Home Loan Bank advances   900     1,108  
       Notes payable and other borrowings   114     59  
              Total interest expense   7,825     8,652  
              Net interest income   26,738     18,623  
Provision for loan losses   3,600     13,800  
       Net interest income after provision for loan losses   23,138     4,823  
Noninterest income:            
       Wealth Management revenue   1,683     1,297  
       Service charges on deposit accounts   1,137     1,174  
       Other service charges and fee income   310     278  
       Gain (loss) on sale of other real estate   423     (12 )
       Gain on state tax credits, net   155     518  
       Gain on sale of investment securities   174     557  
       Miscellaneous income   1,081     244  
              Total noninterest income   4,963     4,056  
Noninterest expense:            
       Employee compensation and benefits   8,688     6,598  
       Occupancy   1,139     1,173  
       Furniture and equipment   354     370  
       Data processing   626     578  
       FDIC and other insurance   1,222     1,047  
       Loan legal and other real estate expense   2,436     1,272  
       Other   3,000     2,617  
              Total noninterest expense   17,465     13,655  
             
Income (loss) before income tax expense (benefit)   10,636     (4,776 )
       Income tax expense (benefit)   3,557     (1,762 )
Net income (loss) $ 7,079   $ (3,014 )
             
Net income (loss) available to common shareholders $ 6,453   $ (3,626 )
             
Earnings (loss) per common share            
       Basic $ 0.43   $ (0.25 )
       Diluted   0.42     (0.25 )

See accompanying notes to condensed consolidated financial statements.
 
2
 

 

ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
Condensed Consolidated Statements of Shareholders’ Equity (Unaudited)
 
                          Accumulated    
                          other   Total
    Preferred   Common   Treasury   Additional paid   Retained   comprehensive   shareholders'
(in thousands, except per share data)         Stock         in capital    earnings    income (loss)    equity
Balance January 1, 2010   $   31,802   $   130   $   (1,743 )   $   117,000     $   15,790     $   933     $   163,912  
       Net loss     -     -     -       -       (3,014 )     -       (3,014 )
       Change in fair value of available for sale securities, net of tax     -     -     -       -       -       577       577  
       Reclassification adjustment for realized gain                                                    
              on sale of securities included in net income, net of tax     -     -     -       -       -       (356 )     (356 )
       Reclassification of cash flow hedge, net of tax     -     -     -       -       -       (40 )     (40 )
              Total comprehensive loss                                                 (2,833 )
       Cash dividends paid on common shares, $0.0525 per share     -     -     -       -       (781 )     -       (781 )
       Cash dividends paid on preferred stock     -     -     -       -       (437 )     -       (437 )
       Preferred stock accretion of discount     174     -     -       -       (174 )     -       -  
       Issuance under equity compensation plans, net, 37,845 shares     -     -     -       258       -       -       258  
       Issuance under private stock offering 1,931,610 shares           19     -       14,883       -               14,902  
       Share-based compensation     -     -     -       473       -       -       473  
       Excess tax expense related to equity compensation plans     -     -     -       (260 )     -       -       (260 )
Balance March 31, 2010   $ 31,976   $ 149   $ (1,743 )   $ 132,354     $ 11,384     $ 1,114     $ 175,234  
                                                     
                          Accumulated    
                          other   Total
    Preferred   Common   Treasury   Additional paid   Retained   comprehensive   shareholders'
(in thousands, except share and per share data)         Stock         in capital    earnings    income (loss)    equity
January 1, 2011   $   32,519   $   150   $   (1,743 )   $   133,673   $   19,322     $   (573 )   $   183,348  
       Net income     -     -     -       -     7,079       -       7,079  
       Change in fair value of available for sale securities, net of tax     -     -     -       -     -       958       958  
       Reclassification adjustment for realized gain                                                  
              on sale of securities included in net income, net of tax     -     -     -       -     -       (112 )     (112 )
       Reclassification of cash flow hedge, net of tax     -     -     -       -     -       (28 )     (28 )
              Total comprehensive income                                               7,897  
       Cash dividends paid on common shares, $0.0525 per share     -     -     -        -     (783 )     -       (783 )
       Cash dividends paid on preferred stock     -     -     -       -     (438 )     -       (438 )
       Preferred stock accretion of discount     188     -     -       -     (188 )     -       -  
       Issuance under equity compensation plans, net, 51,576 shares     -     -     -       611     -       -       611  
       Share-based compensation     -     -     -       374     -       -       374  
       Excess tax benefit related to equity compensation plans     -     -     -       6     -       -       6  
Balance March 31, 2011   $ 32,707   $ 150   $ (1,743 )   $ 134,664   $ 24,992     $ 245     $ 191,015  
                                                   
See accompanying notes to condensed consolidated financial statements.
 
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ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows (Unaudited)
 
  Three months ended March 31,
(in thousands) 2011      2010
Cash flows from operating activities:              
       Net income (loss) $        7,079     $        (3,014 )
       Adjustments to reconcile net income (loss) to net cash provided by operating activities              
              Depreciation   694       747  
              Provision for loan losses   3,600       13,800  
              Deferred income taxes   2,732       (5,616 )
              Net amortization of debt securities   1,251       804  
              Amortization of intangible assets   135       112  
              Gain on sale of investment securities   (174 )     (557 )
              Mortgage loans originated for sale   (14,897 )     (11,306 )
              Proceeds from mortgage loans sold   17,360       13,989  
              (Gain) loss on sale of other real estate   (423 )     12  
              Gain on state tax credits, net   (155 )     (518 )
              Excess tax (benefit) expense of share-based compensation   (6 )     260  
              Share-based compensation   374       649  
              Valuation adjustment on other real estate   442       574  
              Net accretion of loan discount and indemnification asset   (5,595 )     (381 )
              Changes in:              
                     Accrued interest receivable
  (12 )     522  
                     Accrued interest payable
  18       148  
                     Prepaid FDIC insurance
  852       760  
                     Other assets
  (1,553 )     2,996  
                     Other liabilities
  26       840  
                     Net cash provided by operating activities
  11,748       14,821  
               
Cash flows from investing activities:              
       Cash received from sale of Millennium Brokerage Group   -       4,000  
       Cash received from acquisition of Legacy Bank   8,926       -  
       Net decrease in loans   3,670       19,237  
       Net cash proceeds received from FDIC loss share receivable   11,785       -  
       Proceeds from the sale of debt and equity securities, available for sale   5,299       80,645  
       Proceeds from the maturity of debt and equity securities, available for sale   31,021       20,280  
       Proceeds from the sale of other investments   -       59  
       Proceeds from the redemption of other investments   78       1,359  
       Proceeds from the sale of state tax credits held for sale   1,527       2,661  
       Proceeds from the sale of other real estate   4,382       3,541  
       Recoveries of loans previously charged off   428       247  
       Payments for the purchase/origination of:              
              Available for sale debt and equity securities   (147,040 )     (85,535 )
              Other investments   (261 )     (1,388 )
              Bank owned life insurance   -       (20,000 )
              State tax credits held for sale   -       (2,387 )
              Fixed assets   (212 )     (98 )
                     Net cash (used in) provided by investing activities   (80,397 )     22,621  
               
Cash flows from financing activities:              
       Net increase in noninterest-bearing deposit accounts   52,074       11,177  
       Net increase in interest-bearing deposit accounts   (32,987 )     (48,539 )
       Repayments of Federal Home Loan Bank advances   (16,256 )     -  
       Net (decrease) increase in other borrowings   (21,435 )     21,099  
       Cash dividends paid on common stock   (783 )     (781 )
       Excess tax benefit (expense) benefit of share-based compensation   6       (260 )
       Cash dividends paid on preferred stock   (438 )     (437 )
       Issuance of common stock   -       14,902  
       Proceeds from the issuance of equity instruments   611       -  
                     Net cash used in financing activities
  (19,208 )     (2,839 )
                     Net (decrease) increase in cash and cash equivalents
  (87,857 )     34,603  
Cash and cash equivalents, beginning of period   293,668       106,966  
Cash and cash equivalents, end of period $ 205,811     $ 141,569  
               
Supplemental disclosures of cash flow information:              
       Cash paid (received) during the period for:              
              Interest $ 7,767     $ 8,801  
              Income taxes   696       (57 )
       Noncash transactions:              
              Transfer to other real estate owned in settlement of loans
$ 11,229     $ 5,701  
              Sales of other real estate financed
  442       5,685  

See accompanying notes to condensed consolidated financial statements.
 
4
 

 

ENTERPRISE FINANCIAL SERVICES CORP AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (Unaudited)
 
NOTE 1—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
The significant accounting policies used by Enterprise Financial Services Corp (the “Company” or “Enterprise”) in the preparation of the condensed consolidated financial statements are summarized below:
 
Basis of Financial Statement Presentation
Enterprise is a financial holding company that provides a full range of banking and wealth management services to individuals and corporate customers located in the St. Louis, Kansas City and Phoenix metropolitan markets through its banking subsidiary, Enterprise Bank & Trust (the “Bank”).
 
The condensed consolidated financial statements of the Company and its subsidiaries have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. They do not include all information and footnotes required by U.S. GAAP for annual financial statements. The condensed consolidated financial statements include the accounts of the Company and its subsidiaries, all of which are wholly owned. All intercompany accounts and transactions have been eliminated. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included.
 
On January 7, 2011, the Bank entered into a purchase and assumption agreement with the Federal Deposit Insurance Corporation (“FDIC”) and acquired certain assets and assumed certain liabilities of Legacy Bank, a full service community bank that was headquartered in Scottsdale, Arizona. For more information on this transaction, see Note 3 – Acquisitions and Divestitures in this report.
 
Operating results for the three months ended March 31, 2011 are not necessarily indicative of the results that may be expected for any other interim period or for the year ending December 31, 2011. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010.
 
5
 

 

NOTE 2—EARNINGS (LOSS) PER SHARE
Basic earnings (loss) per common share data is calculated by dividing net income (loss) available to common shareholders by the weighted average number of common shares outstanding during the period. Diluted earnings (loss) per common share gives effect to all dilutive potential common shares outstanding during the period using the treasury stock method and the if-converted method for convertible securities related to the issuance of trust preferred securities. The following table presents a summary of per common share data and amounts for the periods indicated.
 
  Three months ended March 31,
(in thousands, except per share data) 2011      2010
Net income (loss) as reported $          7,079     $          (3,014 )
       Preferred stock dividend   (438 )     (437 )
       Accretion of preferred stock discount   (188 )     (175 )
Net income (loss) available to common shareholders $ 6,453     $ (3,626 )
               
Impact of assumed conversions              
       Interest on 9% convertible trust preferred securities, net of income tax   371       -  
Net income (loss) available to common shareholders and assumed conversions $ 6,824     $ (3,626 )
               
Weighted average common shares outstanding   14,920       14,418  
Incremental shares from assumed conversions of              
       convertible trust preferred securities   1,439       -  
Additional dilutive common stock equivalents   16       -  
Diluted common shares outstanding   16,375       14,418  
               
Basic earnings (loss) per common share $ 0.43     $ (0.25 )
Diluted earnings (loss) per common share: $ 0.42     $ (0.25 )

For the three months ended March 31, 2011 and 2010, there were 604,000 and 2.3 million of weighted average common stock equivalents excluded from the per share calculations because their effect was anti-dilutive. In addition, at March 31, 2011 and 2010, the Company had outstanding warrants to purchase 324,074 shares of common stock associated with the U.S. Treasury Capital Purchase Program which were excluded from the per common share calculation because their effect was also anti-dilutive.
 
NOTE 3—ACQUISITIONS AND DIVESTITURES
 
Acquisition of Legacy Bank
 
On January 7, 2011, the Bank entered into a purchase and assumption agreement with the FDIC and acquired certain assets and assumed certain liabilities of Legacy Bank (“Legacy”), a full service community bank that was headquartered in Scottsdale, Arizona. The acquisition consisted of tangible assets with estimated fair values of approximately $128.6 million and tangible liabilities with estimated fair values of approximately $130.4 million. The Bank acquired the assets at a discount of 7.6% and approximately $43.5 million of the deposits were assumed at a premium of 1%. The Bank also acquired approximately $55.6 million of discretionary and $13.6 million of non-discretionary trust assets.
 
As part of the acquisition, the Company provided the FDIC with a Value Appreciation Instrument (“VAI”) whereby 372,500 units were awarded to the FDIC at an exercise price of $10.63 per unit. The units were exercisable at any time from January 14, 2011 until January 6, 2012. The FDIC exercised the units on January 20, 2011 at a settlement price of $11.8444. A cash payment of $452,364 was made to the FDIC on January 21, 2011.
 
In connection with the acquisition, the Bank also entered into a loss share agreement whereby the FDIC will reimburse the Bank for 80% of all losses incurred on certain loans and other real estate covered under the agreement (“Covered Assets”). The loss share agreement is subject to the servicing procedures as specified in the agreement with the FDIC.
 
6
 

 

The reimbursable losses from the FDIC are based on the book value of the Covered Assets as determined by the FDIC as of the date of the acquisition. A majority of these loans were valued based on the liquidation value of the underlying collateral because the future cash flows are primarily based on the liquidation of underlying collateral. The expected reimbursements under the loss share agreement were recorded as a FDIC loss share receivable at their estimated fair value.
 
The loans and other real estate acquired are recorded at estimated fair value. As such, there was no allowance for credit losses established related to the acquired loans at January 7, 2011 and no carryover of the related allowance from Legacy. The loans are accounted for in accordance with guidance for certain loans acquired in a transfer, when the loans have evidence of credit deterioration and it is probable at the date of acquisition that the acquirer will not collect all contractually required principal and interest payments. The difference between contractually required payments and the cash flows expected to be collected at acquisition is referred to as the non-accretable difference. Subsequent decreases to the expected cash flows will generally result in a provision for loan losses. Subsequent increases in cash flows result in a reversal of the provision for loan losses to the extent of prior charges and an adjustment in accretable yield, which will have a positive impact on interest income.
 
The table below summarizes the estimated fair values of the assets acquired and liabilities assumed at the date of acquisition. These fair value estimates are considered preliminary, and are subject to change for up to one year after the closing date of the acquisition as additional information relative to closing date fair values becomes available.
 
(in thousands) Amount
Cash and cash equivalents $       8,926  
Securities available for sale $ 9,569  
Other investments   1,969  
Portfolio loans   73,214  
Other real estate   8,612  
FDIC loss share receivable   24,963  
Other assets   1,299  
Total deposits   (113,620 )
Federal Home Loan Bank Advances   (16,256 )
Other liabilities   (491 )
Goodwill $ (1,815 )
       
Management concluded that it is impracticable to present pro forma financial results due to the lack of documentation and objective information about significant estimates and management’s intent in prior periods.
 
7
 

 

NOTE 4INVESTMENTS
 
The following table presents the amortized cost, gross unrealized gains and losses and fair value of securities available-for-sale:
 
  March 31, 2011
            Gross       Gross          
  Amortized   Unrealized   Unrealized      
(in thousands) Cost   Gains   Losses   Fair Value
Available for sale securities:                        
    Obligations of U.S. Government sponsored enterprises $       40,645   $       14   $       (422 )   $       40,237
    Obligations of states and political subdivisions   26,303     160     (695 )     25,768
    Residential mortgage-backed securities   414,619     2,706     (1,341 )     415,984
  $ 481,567   $ 2,880   $ (2,458 )   $ 481,989
                         
   
  December 31, 2010
        Gross   Gross      
  Amortized   Unrealized   Unrealized      
(in thousands) Cost   Gains   Losses   Fair Value
Available for sale securities:                        
    Obligations of U.S. Government agencies $ 444   $ 9   $ -     $ 453
    Obligations of U.S. Government sponsored enterprises   32,880     9     (770 )     32,119
    Obligations of states and political subdivisions   18,486     45     (855 )     17,676
    Residential mortgage-backed securities   310,636     2,656     (1,994 )     311,298
  $ 362,446   $ 2,719   $ (3,619 )   $ 361,546
                         
At March 31, 2011 and December 31, 2010, there were no holdings of securities of any one issuer in an amount greater than 10% of shareholders’ equity, other than the U.S. government agencies and sponsored enterprises. The residential mortgage-backed securities are all issued by U.S. government sponsored enterprises. Available for sale securities having a carrying value of $243.9 million and $249.6 million at March 31, 2011 and December 31, 2010, respectively, were pledged as collateral to secure deposits of public institutions and for other purposes as required by law or contract provisions.
 
The amortized cost and estimated fair value of debt securities classified as available for sale at March 31, 2011, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. The weighted average life of the mortgage-backed securities is approximately 3.5 years.
 
  Amortized       Estimated
(in thousands) Cost   Fair Value
Due in one year or less $       8,624   $       8,636
Due after one year through five years   33,669     33,302
Due after five years through ten years   20,348     20,063
Due after ten years   4,307     4,004
Mortgage-backed securities   414,619     415,984
  $ 481,567   $ 481,989
           
8
 

 

The following table represents a summary of available-for-sale investment securities that had an unrealized loss:
 
  March 31, 2011
  Less than 12 months   12 months or more   Total
            Unrealized                 Unrealized                 Unrealized
(in thousands) Fair Value   Losses   Fair Value   Losses   Fair Value   Losses
Obligations of U.S. government sponsored enterprises $       30,689   $       422   $       -   $       -   $       30,689   $       422
Obligations of the state and political subdivisions   12,820     267     2,972     428     15,792     695
Residential mortgage-backed securities   163,010     1,341     -     -     163,010     1,341
  $ 206,519   $ 2,030   $ 2,972   $ 428   $ 209,491   $ 2,458
   
  December 31, 2010
  Less than 12 months   12 months or more   Total
        Unrealized         Unrealized         Unrealized
(in thousands) Fair Value   Losses   Fair Value   Losses   Fair Value   Losses
Obligations of U.S. government sponsored enterprises $ 27,100   $ 770   $ -   $ -   $ 27,100   $ 770
Obligations of the state and political subdivisions   11,329     420     2,965     435     14,294     855
Residential mortgage-backed securities   133,893     1,994     -     -     133,893     1,994
  $ 172,322   $ 3,184   $ 2,965   $ 435   $ 175,287   $ 3,619
                                   
The unrealized losses at both March 31, 2011 and December 31, 2010, were attributable to changes in market interest rates since the securities were purchased. Management systematically evaluates investment securities for other-than-temporary declines in fair value on a quarterly basis. This analysis requires management to consider various factors, which include (1) the present value of the cash flows expected to be collected compared to the amortized cost of the security, (2) duration and magnitude of the decline in value, (3) the financial condition of the issuer or issuers, (4) structure of the security and (5) the intent to sell the security or whether it is more likely than not that the Company would be required to sell the security before its anticipated recovery in market value. At March 31, 2011, management performed its quarterly analysis of all securities with an unrealized loss and concluded no individual securities were other-than-temporarily impaired.
 
The gross gains and gross losses realized from sales of available-for-sale investment securities were as follows:
 
        Three months ended March 31,
(in thousands)   2011       2010
Gross gains realized   $       174   $       557
Gross losses realized     -     -
Proceeds from sales     5,299     80,645

9
 

 

NOTE 5—GOODWILL AND INTANGIBLE ASSETS
 
Goodwill is tested for impairment annually and more frequently if events or changes in circumstances indicate that the asset might be impaired.
 
Below is a summary of the goodwill in the Banking segment.
 
        Reporting Unit
    Banking
(in thousands)   Goodwill
Balance at January 1, 2011   $            2,064
    Goodwill from purchase of Legacy Bank     1,815
Balance at March 31, 2011   $ 3,879
       
The table below summarizes the changes to core deposit intangible asset balances in the Banking segment.
 
        Core Deposit
(in thousands)   Intangible
Balance at January 1, 2011   $                   1,223  
    Intangibles from purchase of Legacy Bank     833  
    Amortization expense     (135 )
Balance at March 31, 2011   $ 1,921  
         
The following table reflects the expected amortization schedule for the core deposit intangibles.
 
          Core Deposit
Year   Intangible
2011   $        374
2012     432
2013     355
2014     278
2015     201
              After 2015     281
    $ 1,921
       
10
 

 

NOTE 6—PORTFOLIO LOANS
 
Below is a summary of loans by category at March 31, 2011 and December 31, 2010:
 
  March 31,
  2011
  Portfolio       Portfolio          
  Loans not   Loans      
  Covered   Covered      
  under FDIC   under FDIC      
(in thousands) loss share   loss share   Total
Real Estate Loans:                
    Construction and land development $       176,249   $       43,022   $       219,271
    Farmland   8,379     894     9,273
    1-4 Family residential   174,405     36,984     211,389
    Multifamily residential   52,513     117     52,630
    Other real estate loans   719,872     90,522     810,394
Total real estate loans $ 1,131,418   $ 171,539   $ 1,302,957
Commercial and industrial   612,970     18,590     631,560
Other   16,469     1,318     17,787
    Portfolio Loans $ 1,760,857   $ 191,447   $ 1,952,304
                 
Unearned loan costs, net   177     -     177
    Portfolio loans, including unearned loan costs $ 1,761,034   $ 191,447   $ 1,952,481
   
  December 31,
  2010
  Portfolio   Portfolio      
  Loans not   Loans      
  Covered   Covered      
  under FDIC   under FDIC      
(in thousands) loss share   loss share   Total
Real Estate Loans:                
    Construction and land development $ 190,285   $ 32,748   $ 223,033
    Farmland   10,980     811     11,791
    1-4 Family residential   189,484     10,201     199,685
    Multifamily residential   53,111     129     53,240
    Other real estate loans   712,177     72,280     784,457
Total real estate loans $ 1,156,037   $ 116,169   $ 1,272,206
Commercial and industrial   593,938     10,036     603,974
Other   16,308     506     16,814
    Portfolio Loans $ 1,766,283   $ 126,711   $ 1,892,994
                 
Unearned loan costs, net   68     -     68
    Portfolio loans, including unearned loan costs $ 1,766,351   $ 126,711   $ 1,893,062
                 
11
 

 

The Company grants commercial, residential, and consumer loans primarily in the St. Louis, Kansas City and Phoenix metropolitan areas. The Company has a diversified loan portfolio, with no particular concentration of credit in any one economic sector; however, a substantial portion of the portfolio is concentrated in and secured by real estate. The ability of the Company’s borrowers to honor their contractual obligations is partially dependent upon the local economy and its effect on the real estate market.
 
A summary of activity in the allowance for loan losses and the recorded investment in loans by portfolio class and category based on impairment method for the quarter ended March 31, 2011 is as follows:
 
              Commercial    Commercial                                    Portfolio       
            Real Estate   Real Estate                               loans covered      
    Commercial   Owner   Non-Owner   Construction   Residential   Consumer           under FDIC      
(in thousands)   & Industrial   Occupied   Occupied   Real Estate   Real Estate   & Other   Unallocated   loss share   Total
Allowance for Loan Losses:                                                            
Balance, beginning of year   $    12,727     $    5,060   $    5,629   $    8,407   $    5,485     $    93   $      5,358     $    -   $    42,759
     Provision charged to expense     (62 )     691     1,524     2,964     (361 )     9     (1,165 )     -     3,600
     Losses charged off     400       378     360     2,716     111       -     -       -     3,965
     Recoveries     125       -     15     178     89       21     -       -     428
Balance, end of year   $ 12,390     $ 5,373   $ 6,808   $ 8,833   $ 5,102     $ 123   $ 4,193     $ -   $ 42,822
                                                             
Allowance for Loan Losses - Ending Balance:                                                            
Individually evaluated for impairment   $ 3,417     $ 348   $ 1,899   $ 3,672   $ 2,045     $ -   $ -     $ -   $ 11,381
Collectively evaluated for impairment     8,973       5,025     4,909     5,161     3,057       123     4,193       -     31,441
Loans acquired with deteriorated credit quality     -       -     -     -     -       -     -       -     -
Total   $ 12,390     $ 5,373   $ 6,808   $ 8,833   $ 5,102     $ 123   $ 4,193     $ -   $ 42,822
                                                             
Loans - Ending Balance:                                                            
Individually evaluated for impairment   $ 6,559     $ 1,219   $ 9,393   $ 16,808   $ 9,508     $ -   $ -     $ -   $ 43,487
Collectively evaluated for impairment     606,411       323,861     446,291     159,441     164,897       16,646             7,665     1,725,212
Loans acquired with deteriorated credit quality     -       -     -     -     -       -     -       183,782     183,782
Total   $ 612,970     $ 325,080   $ 455,684   $ 176,249   $ 174,405     $ 16,646   $ -     $ 191,447   $ 1,952,481
                                                             
A summary of loans individually evaluated for impairment by category as of March 31, 2011 is as follows:
 
  Unpaid       Recorded       Recorded                              
  Contractual   Investment   Investment   Total         Average
  Principal   With No   With   Recorded   Related   Recorded
(in thousands) Balance   Allowance   Allowance   Investment   Allowance   Investment
Commercial & Industrial $       6,604   $       402   $       6,157   $       6,559   $       3,417   $       9,209
Real Estate:                                  
    Commercial - Owner Occupied   1,390     -     1,219     1,219     348     1,913
    Commercial - Non-Owner Occupied   15,096     376     9,017     9,393     1,899     10,369
    Construction   21,603     2,294     14,514     16,808     3,672     15,607
    Residential   9,695     2,486     7,022     9,508     2,045     9,508
Consumer & Other   -     -     -     -     -     -
Total $ 54,388   $ 5,558   $ 37,929   $ 43,487   $ 11,381   $ 46,606
                                   
There were no loans over 90 days past due and still accruing interest at March 31, 2011. If interest on impaired loans would have been accrued based upon the original contractual terms, such income would have been $703,000 for the quarter ended March 31, 2011. The cash amount collected and recognized as interest income on impaired loans was $130,000, for the quarter ended March 31, 2011. The amount recognized as interest income on impaired loans continuing to accrue interest was $150,000 for the quarter ended March 31, 2011. At March 31, 2011 there were $1.3 million of unadvanced commitments on impaired loans. Other Liabilities include approximately $268,000 for estimated losses attributable to the unadvanced commitments on impaired loans.
 
12
 

 

The recorded investment in impaired loans by category at March 31, 2011 is as follows:
 
(in thousands) Non-accrual       Restructured       Total
Commercial & Industrial $       6,559   $       -   $       6,559
                 
Real Estate:                
    Commercial - Owner Occupied   1,219     -     1,219
    Commercial - Non-Owner Occupied   4,609     4,784     9,393
    Construction   16,211     597     16,808
    Residential   5,184     4,324     9,508
                  
Consumer & Other   -     -     -
       Total $ 33,782   $ 9,705   $ 43,487
                 
The aging of the recorded investment in past due loans by portfolio class and category at March 31, 2011 is shown below.
 
        90 or More                  
  30-89 Days       Days       Total                    
(in thousands) Past Due   Past Due   Past Due   Current   Total
Portfolio loans not covered under FDIC loss share                            
    Commercial & Industrial $       530   $       4,630   $       5,160   $       607,810   $       612,970
                             
    Real Estate:                            
       Commercial - Owner Occupied   -     1,219     1,219     323,861     325,080
       Commercial - Non-Owner Occupied   2,901     2,815     5,716     449,968     455,684
       Construction   216     7,210     7,426     168,823     176,249
       Residential   422     4,645     5,067     169,338     174,405
                              
    Consumer & Other   -     -     -     16,646     16,646
          Total $ 4,069   $ 20,519   $ 24,588   $ 1,736,446   $ 1,761,034
                              
Portfolio loans covered under FDIC loss share                            
    Commercial & Industrial $ 343   $ 2,034   $ 2,377   $ 16,213   $ 18,590
                              
    Real Estate:                            
       Commercial - Owner Occupied   -     6,000     6,000     38,467     44,467
       Commercial - Non-Owner Occupied   4,131     3,111     7,242     39,824     47,066
       Construction   2,104     14,052     16,156     26,866     43,022
       Residential   2,175     1,205     3,380     33,604     36,984
                              
    Consumer & Other   264     200     464     854     1,318
          Total $ 9,017   $ 26,602   $ 35,619   $ 155,828   $ 191,447
                             
Portfolio loans, total                            
    Commercial & Industrial $ 873   $ 6,664   $ 7,537   $ 624,023   $ 631,560
                              
    Real Estate:                            
       Commercial - Owner Occupied   -     7,219     7,219     362,328     369,547
       Commercial - Non-Owner Occupied   7,032     5,926     12,958     489,792     502,750
       Construction   2,320     21,262     23,582     195,689     219,271
       Residential   2,597     5,850     8,447     202,942     211,389
                              
    Consumer & Other   264     200     464     17,500     17,964
          Total $ 13,086   $ 47,121   $ 60,207   $ 1,892,274   $ 1,952,481
                             
13
 

 

The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt, such as current financial information, historical payment experience, credit documentation, and current economic factors among other factors. This analysis is performed on a quarterly basis. The Company uses the following definitions for risk ratings:
14
 

 

The recorded investment by risk category of the loans by portfolio class and category at March 31, 2011, which is based upon the most recent analysis performed, is as follows:
 
                Commercial      Commercial                                    
          Real Estate   Real Estate                        
    Commercial   Owner   Non-owner   Construction   Residential   Consumer      
(in thousands)   & Industrial   Occupied   Occupied   Real Estate   Real Estate   & Other   Total
Portfolio loans not covered under FDIC loss share                                          
    Outstanding (1-3)   $       88,565   $       18,785   $       6,796   $       1,136   $       1,497   $       2,999   $       119,778
    Above Average (4)     62,995     65,596     37,076     9,046     16,931     1,633     193,277
    Average (5)     277,224     144,911     266,961     74,833     115,961     11,447     891,337
    Below Average (6)     107,294     48,114     76,538     27,407     11,382     111     270,846
    Watch List (7)     42,674     32,751     52,333     29,486     7,477     7     164,728
    Substandard (8)     31,546     14,923     15,755     34,033     20,865     449     117,571
    Doubtful (9)     2,672     -     225     308     292     -     3,497
       Total   $ 612,970   $ 325,080   $ 455,684   $ 176,249   $ 174,405   $ 16,646   $ 1,761,034
                                            
Portfolio loans covered under FDIC loss share                                          
    Outstanding (1-3)   $ -   $ -   $ -   $ -   $ -   $ 83   $ 83
    Above Average (4)     1,315     2,628     -     78     5,494     56     9,571
    Average (5)     8,796     15,989     17,571     15,964     21,860     878     81,058
    Below Average (6)     5,802     8,038     8,203     1,640     1,718     44     25,445
    Watch List (7)     54     3,288     8,260     346     1,477     -     13,425
    Substandard (8)     2,623     14,524     10,620     16,849     5,918     257     50,791
    Doubtful (9)     -     -     2,412     8,145     517     -     11,074
       Total   $ 18,590   $ 44,467   $ 47,066   $ 43,022   $ 36,984   $ 1,318   $ 191,447
                                            
Portfolio loans, total                                          
    Outstanding (1-3)   $ 88,565   $ 18,785   $ 6,796   $ 1,136   $ 1,497   $ 3,082   $ 119,861
    Above Average (4)     64,310     68,224     37,076     9,124     22,425     1,689     202,848
    Average (5)     286,020     160,900     284,532     90,797     137,821     12,325     972,395
    Below Average (6)     113,096     56,152     84,741     29,047     13,100     155     296,291
    Watch List (7)     42,728     36,039     60,593     29,832     8,954     7     178,153
    Substandard (8)     34,169     29,447     26,375     50,882     26,783     706     168,362
    Doubtful (9)     2,672     -     2,637     8,453     809     -     14,571
       Total   $ 631,560   $ 369,547   $ 502,750   $ 219,271   $ 211,389   $ 17,964   $ 1,952,481
                                           
Portfolio loans covered under FDIC loss share
Purchased loans acquired in a business combination, including loans purchased in our FDIC-assisted transactions, are recorded at estimated fair value on their purchase date without a carryover of the related allowance for loan losses. Purchased credit-impaired loans are loans that have evidence of credit deterioration since origination and it is probable at the date of acquisition that the Company will not collect all contractually required principal and interest payments. Evidence of credit quality deterioration as of the purchase date may include factors such as past due and non-accrual status. The difference between contractually required payments at acquisition and the cash flows expected to be collected at acquisition is referred to as the non-accretable difference. Subsequent decreases to the expected cash flows will generally result in a provision for loan losses. Subsequent increases in cash flows result in a reversal of the provision for loan losses to the extent of prior charges or a reclassification of the difference from non-accretable to accretable with a positive impact on interest income. Further, any excess of cash flows expected at acquisition over the estimated fair value is referred to as the accretable yield and is recognized into interest income over the remaining life of the loan when there is a reasonable expectation about the amount and timing of such cash flows.
 
Changes in the accretable yield for purchased loans were as follows for the quarters ended March 31, 2011 and 2010:
 
  March 31,       March 31,
(in thousands) 2011   2010
Balance at beginning of period $       46,460     $       3,708  
Additions   10,875       -  
Accretion   (3,956 )     (235 )
Balance at end of period $ 53,379     $ 3,473  
               
Outstanding balances on purchased loans from the FDIC were $293.0 million as of March 31, 2011 and $219.5 million at December 31, 2010, respectively. In the first quarter of 2011, the Bank received payments of $11.8 million for loss share claims under the terms of the FDIC loss share agreements.
 
15
 

 

Legacy acquisition
The following table presents information regarding the contractually required payments receivable, the cash flows expected to be collected, and the estimated fair value of the loans acquired in the Legacy acquisition, as of the closing date of the transaction:
 
  January 7, 2011
  Purchased
  Credit-Impaired
(In thousands) Loans
Contractually required payments (principal and interest): $            106,286
Cash flows expected to be collected (principal and interest):   84,089
Fair value of loans acquired:   73,214

These amounts were determined based upon the estimated remaining life of the underlying loans, which includes the effects of estimated prepayments. The majority of the purchased credit-impaired loans were valued based on the liquidation value of the underlying collateral. There was no allowance for credit losses on purchased loans related to FDIC-assisted transactions at March 31, 2011.
 
The determination of the initial fair value of loans and other real estate acquired in the transaction and the initial fair value of the related FDIC loss share receivable involve a high degree of judgment and complexity. The carrying value of the acquired loans and other real estate and the FDIC indemnification asset reflect management’s best estimate of the fair value of each of these assets as of the date of acquisition. However, the amount that the Bank realizes on these assets could differ materially from the carrying value reflected in these financial statements, based upon the timing and amount of collections on the acquired loans in future periods. To the extent the actual values realized for the acquired loans are different from the estimate, the FDIC loss share receivable will generally be affected in an offsetting manner due to the indemnification obligations of the FDIC, thus limiting the Bank’s loss exposure.
 
NOTE 7—COMMITMENTS AND CONTINGENCIES
 
The Company issues financial instruments with off balance sheet risk in the normal course of the business of meeting the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments may involve, to varying degrees, elements of credit and interest rate risk in excess of the amounts recognized in the consolidated balance sheets.
 
The Company’s extent of involvement and maximum potential exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual amount of these instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for financial instruments included on its consolidated balance sheets. At March 31, 2011 there were $1.3 million of unadvanced commitments on impaired loans. Other liabilities include approximately $268,000 for estimated losses attributable to the unadvanced commitments on impaired loans.
 
The contractual amounts of off-balance-sheet financial instruments as of March 31, 2011 and December 31, 2010 are as follows:
 
  March 31,         December 31,
(in thousands) 2011   2010
Commitments to extend credit $       435,206   $       429,411
Standby letters of credit   42,706     42,113

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments usually have fixed expiration dates or other termination clauses and may require payment of a fee. Of the total commitments to extend credit at March 31, 2011 and December 31, 2010, approximately $59.1 million and $67.0 million, respectively, represent fixed rate loan commitments. Since certain of the commitments may expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Company evaluates each customer’s credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on management’s credit evaluation of the borrower. Collateral held varies, but may include accounts receivable, inventory, premises and equipment, and real estate.
 
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Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. These standby letters of credit are issued to support contractual obligations of the Company’s customers. The credit risk involved in issuing letters of credit is essentially the same as the risk involved in extending loans to customers. The approximate remaining term of standby letters of credit range from 6 months to 5 years at March 31, 2011.
 
Contingencies
The Bank, along with other co-defendants has been named as a defendant in two lawsuits filed by persons alleging to be clients of the Banks Trust division who invested in promissory notes issued by Distinctive Properties (UK) Limited (Distinctive Properties), a company involved in the purchase and development of real estate in the United Kingdom. Plaintiffs allege that the promissory notes were part of a multi-million dollar Ponzi scheme. Plaintiffs allege to hold such promissory notes in accounts with the Trust division and that, among other things, the Bank was negligent, breached its fiduciary duties and breached its contracts. Plaintiffs also allege that the Bank violated the Racketeer Influenced and Corrupt Organizations Act (“RICO). Plaintiffs, in the aggregate, are seeking damages from defendants, including the Bank, of approximately $27.0 million as well as their costs and attorneys’ fees and trebled damages under RICO.

The Company is unable to estimate a reasonably possible loss for the cases described above because the proceedings are in early stages and there are significant factual issues to be determined and resolved. The Company denies Plaintiffs’ allegations and intends to vigorously defend the lawsuits.
 
NOTE 8—DERIVATIVE FINANCIAL INSTRUMENTS
 
The Company is a party to various derivative financial instruments that are used in the normal course of business to meet the needs of its clients and as part of its risk management activities. These instruments include interest rate swaps and option contracts. The Company does not enter into derivative financial instruments for trading or speculative purposes.
 
Interest rate swap contracts involve the exchange of fixed and floating rate interest payment obligations without the exchange of the underlying principal amounts. The Company enters into interest rate swap contracts on behalf of its clients and also utilizes such contracts to reduce or eliminate the exposure to changes in the cash flows or fair value of hedged assets or liabilities due to changes in interest rates. Interest rate option contracts consist of caps and provide for the transfer or reduction of interest rate risk in exchange for a fee.
 
All derivative financial instruments, whether designated as hedges or not, are recorded on the consolidated balance sheet at fair value within Other assets or Other liabilities. The accounting for changes in the fair value of a derivative in the consolidated statement of operations depends on whether the contract has been designated as a hedge and qualifies for hedge accounting. At March 31, 2011, the Company did not have any derivatives designated as cash flow or fair value hedges.
 
Using derivative instruments means assuming counterparty credit risk. Counterparty credit risk relates to the loss the Company could incur if a counterparty were to default on a derivative contract. Notional amounts of derivative financial instruments do not represent credit risk, and are not recorded in the consolidated balance sheet. They are used merely to express the volume of this activity. The overall credit risk and exposure to individual counterparties is monitored. The Company does not anticipate nonperformance by any counterparties. The amount of counterparty credit exposure is the unrealized gains, if any, on such derivative contracts. At March 31, 2011, the Company had pledged cash of $1.5 million and accepted pledged securities of $2.2 million as collateral in connection with our interest rate swap agreements. At December 31, 2010, the Company had accepted cash of $530,000, pledged cash of $1.5 million, and accepted pledged securities of $2.2 million as collateral in connection with our interest rate swap agreements.
 
Risk Management Instruments. The Company enters into certain derivative contracts to economically hedge state tax credits and certain loans.
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The table below summarizes the notional amounts and fair values of the derivative instruments used to manage risk.
 
                Asset Derivatives   Liability Derivatives
                (Other Assets)   (Other Liabilities)
    Notional Amount   Fair Value   Fair Value
        March 31,       December 31,       March 31,       December 31,       March 31,       December 31,
(in thousands)   2011   2010   2011   2010   2011   2010
Non-designated hedging instruments                                    
       Interest rate cap contracts   $     99,300   $     314,300   $     495   $     528   $     -   $     -

The following table shows the location and amount of gains and losses related to derivatives used for risk management purposes that were recorded in the condensed consolidated statements of operations for the three months ended March 31, 2011 and 2010.
 
        Amount of Gain or (Loss)
    Location of Gain or (Loss)   Recognized in Operations on
    Recognized in Operations on   Derivative
(in thousands)       Derivative       2011       2010
Non-designated hedging instruments                    
       Interest rate cap contracts   Gain on state tax credits, net   $     (33 )   $     (565 )
       Interest rate swap contracts   Miscellaneous income   $ 44     $ 62  

Client-Related Derivative Instruments. As an accommodation to certain customers, the Company enters into interest rate swaps to economically hedge changes in fair value of certain loans. The table below summarizes the notional amounts and fair values of the client-related derivative instruments.
 
                Asset Derivatives   Liability Derivatives
                (Other Assets)   (Other Liabilities)
    Notional Amount   Fair Value   Fair Value
       March 31,      December 31,      March 31,      December 31,      March 31,      December 31,
(in thousands)   2011   2010   2011   2010   2011   2010
Non-designated hedging instruments                                    
       Interest rate swap contracts   $     108,680   $     109,012   $     1,077   $     1,514   $     2,032   $     2,607

Changes in the fair value of client-related derivative instruments are recognized currently in operations. The following table shows the location and amount of gains and losses recorded in the condensed consolidated statements of operations for the three months ended March 31, 2011 and 2010.
 
        Amount of Gain or (Loss)
    Location of Gain or (Loss)   Recognized in Operations on
        Recognized in Operations on       Derivative
(in thousands)   Derivative   2011   2010
Non-designated hedging instruments                    
       Interest rate swap contracts   Interest and fees on loans   $     (150 )   $     (154 )

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NOTE 9—COMPENSATION PLANS
 
The Company maintains a number of share-based incentive programs, which are discussed in more detail in Note 16 of the Company’s Annual Report on Form 10-K for the year ended December 31, 2010. There were no stock options, stock-settled stock appreciation rights, or restricted stock units granted in the first three months of 2011. The share-based compensation expense was $545,000 and $649,000 for the three months ended March 31, 2011 and 2010, respectively.
 
Employee Stock Options and Stock-settled Stock Appreciation Rights (“SSAR”)
At March 31, 2011, there was $1.6 million of total unrecognized compensation costs related to SSAR’s which is expected to be recognized over a weighted average period of 2.5 years. Following is a summary of the employee stock option and SSAR activity for the first three months of 2011.
 
              Weighted      
        Weighted   Average      
        Average   Remaining   Aggregate
            Exercise       Contractual       Intrinsic
(Dollars in thousands, except share data) Shares   Price   Term   Value
Outstanding at January 1, 2011 902,932     $     15.71          
Granted -       -          
Exercised (15,200 )     11.73          
Forfeited (2,438 )     20.27          
Outstanding at March 31, 2011 885,294     $ 15.77   5.3 years   $     -
Exercisable at March 31, 2011 583,389     $ 16.11   3.8 years   $ -
Vested and expected to vest at March 31, 2011 794,675     $ 15.32   5.3 years   $ -
                     
Restricted Stock Units (“RSU”)
At March 31, 2011, there was $689,000 of total unrecognized compensation costs related to the RSU’s, which is expected to be recognized over a weighted average period of 1.4 years. A summary of the Company's restricted stock unit activity for the first three months of 2011 is presented below.
 
        Weighted
        Average
        Grant Date
  Shares       Fair Value
Outstanding at January 1, 2011 36,173     $     22.14
Granted -       -
Vested (200 )     10.69
Forfeited (286 )     22.36
Outstanding at March 31, 2011 35,687     $ 22.20
           
Stock Plan for Non-Management Directors
Shares are issued twice a year and compensation expense is recorded as the shares are earned, therefore, there is no unrecognized compensation expense related to this plan. The Company recognized $167,000 and $143,000 of share-based compensation expense for the directors for the three months ended March 31, 2011 and 2010, respectively. Pursuant to this plan, the Company issued 13,900 and 15,491 shares in the first three months of 2011 and 2010, respectively.
 
Employee Stock Issuance
Restricted stock was granted to certain key employees as part of their compensation. The restricted stock may be in a form of a one-time award or in paid pro-rata installments. The stock is restricted for 2 years and upon issuance may be fully vested or vest over five years. The Company recognized $4,600 and $33,000 of share-based compensation related to these awards and issued 4,831 and 8,694 shares, for the three months ended March 31, 2011 and 2010, respectively.
 
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In conjunction with the Company’s short-term incentive plan, the Company issued 14,329 and 13,660 restricted shares to certain key employees in the first three months ended March 31, 2011 and 2010, respectively. The compensation expense related to these shares was expensed in 2010 and 2009, respectively. For further information on the short-term incentive plan, refer to the Compensation Discussion and Analysis in the Company’s Proxy Statement for the 2011 Annual Meeting of Stockholders.
 
Moneta Plan
As of December 31, 2006, the fair value of all Moneta options had been expensed. As a result, there have been no option-related expenses for Moneta in 2011 or 2010. Following is a summary of the Moneta stock option activity for the first three months of 2011.
 
                Weighted      
          Weighted   Average      
          Average   Remaining   Aggregate
          Exercise   Contractual   Intrinsic
(Dollars in thousands, except share data)       Shares       Price       Term       Value
Outstanding at January 1, 2011   26,105     $     13.58          
Granted   -       -          
Exercised   (3,194 )     11.50          
Forfeited   (8,792 )     15.50          
Outstanding at March 31, 2011   14,119     $ 12.87   1.7 years   $     17
Exercisable at March 31, 2011   14,119     $ 12.87   1.7 years   $ 17
                       
NOTE 10—FAIR VALUE MEASUREMENTS
 
Below is a description of certain assets and liabilities measured at fair value.
 
The following table summarizes financial instruments measured at fair value on a recurring basis as of March 31, 2011, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value.
 
  March 31, 2011
    Quoted Prices in   Significant   Significant      
    Active Markets   Other   Unobservable      
    for Identical   Observable   Inputs   Total Fair
(in thousands)      Assets (Level 1)      Inputs (Level 2)      (Level 3)      Value
Assets                        
       Securities available for sale                        
              Obligations of U.S. Government sponsored enterprises   $ -   $     40,237   $     -   $     40,237
              Obligations of states and political subdivisions     -     22,796     2,972     25,768
              Residential mortgage-backed securities     -     415,984     -     415,984
                     Total securities available for sale   $ -   $ 479,017   $ 2,972   $ 481,989
       Portfolio loans     -     15,588     -     15,588
       State tax credits held for sale     -     -     30,494     30,494
       Derivative financial instruments     -     1,572     -     1,572
Total assets   $ -   $ 496,177   $ 33,467   $ 529,643
                         
Liabilities                        
       Derivative financial instruments   $ -   $ 2,032   $ -   $ 2,032
Total liabilities   $ -   $ 2,032   $ -   $ 2,032
                         
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Level 3 financial instruments
The following table presents the changes in Level 3 financial instruments measured at fair value on a recurring basis as of March 31, 2011.
  Three months ended March 31,
  2011   2010   2011   2010
  Securities   Securities                
  available for   available for   State tax   State tax
  sale, at fair       sale, at fair       credits held for       credits held for
(in thousands) value   value   sale   sale
Beginning balance $     7,520     $     2,830   $         31,576     $         32,485  
       Total gains or (losses) (realized and unrealized):                            
              Included in earnings   -       -     142       652  
              Included in other comprehensive income   7       4     -       -  
       Purchases, sales, issuances and settlements:                            
              Purchases   -       100     -       -  
              Sales   -       -     (1,224 )     (1,377 )
       Transfer in and/or out of Level 3   (4,555 )     -     -       -  
Ending balance $ 2,972     $ 2,934   $ 30,494     $ 31,760  
                             
Change in unrealized gains relating to                            
assets still held at the reporting date $ 7     $ 4   $ (164 )   $ 308  
                             
From time to time, the Company measures certain assets at fair value on a nonrecurring basis. These include assets that are measured at the lower of cost or fair value that were recognized at fair value below cost at the end of the period. The following table presents financial instruments and non-financial assets measured at fair value on a non-recurring basis as of March 31, 2011.
 
        (1)          
        Quoted          
        Prices in   (1)    
        Active   Significant   (1)          
        Markets for   Other   Significant     Total (losses)
        Identical   Observable   Unobservable     gains for the three
  (1)   Assets   Inputs   Inputs     months ended
(in thousands) Total Fair Value      (Level 1)      (Level 2)      (Level 3)       March 31, 2011
Impaired loans $     768   $     -   $     -   $     768     $              (3,966 )
Other real estate   3,898     -     -     3,898       (442 )
Total $ 4,666   $ -   $ -   $ 4,666     $ (4,408 )
 

(1) The amounts represent only balances measured at fair value during the period and still held as of the reporting date.
 
Impaired loans are reported at the fair value of the underlying collateral. Fair values for impaired loans are obtained from current appraisals by qualified licensed appraisers or independent valuation specialists. Other real estate owned is adjusted to fair value upon foreclosure of the underlying loan. Subsequently, foreclosed assets are carried at the lower of carrying value or fair value less costs to sell. Fair value of other real estate is based upon the current appraised values of the properties as determined by qualified licensed appraisers and the Company’s judgment of other relevant market conditions. Certain state tax credits are reported at cost.
 
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Following is a summary of the carrying amounts and fair values of the Company’s financial instruments on the consolidated balance sheets at March 31, 2011 and December 31, 2010.
 
    March 31, 2011   December 31, 2010
    Carrying   Estimated   Carrying   Estimated
(in thousands)       Amount       fair value       Amount       fair value
Balance sheet assets                        
       Cash and due from banks   $     18,542   $     18,542   $     23,413   $     23,413
       Federal funds sold     1,464     1,464     3,153     3,153
       Interest-bearing deposits     187,556     187,556     268,853     268,853
       Securities available for sale     481,989     481,989     361,546     361,546
       Other investments, at cost     14,430     14,430     12,278     12,278
       Loans held for sale     3,142     3,142     5,640     5,640
       Derivative financial instruments     1,572     1,572     2,042     2,042
       Portfolio loans, net     1,909,659     1,917,132     1,850,303     1,855,338
       State tax credits, held for sale     59,928     59,928     61,148     61,148
       Accrued interest receivable     7,839     7,839     7,464     7,464
                         
Balance sheet liabilities                        
       Deposits     2,430,430     2,433,738     2,297,721     2,301,387
       Subordinated debentures     85,081     45,189     85,081     44,866
       Federal Home Loan Bank advances     107,300     108,828     107,300     118,602
       Other borrowings     97,898     97,905     119,333     119,366
       Derivative financial instruments     2,032     2,032     2,607     2,607
       Accrued interest payable     1,545     1,545     1,488     1,488

For information regarding the methods and assumptions used to estimate the fair value of each class of financial instruments for which it is practical to estimate such value, refer to Note 19 – Fair Value Measurements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010.
 
NOTE 11—SEGMENT REPORTING
 
The Company has two primary operating segments, Banking and Wealth Management, which are delineated by the products and services that each segment offers. The segments are evaluated separately on their individual performance, as well as their contribution to the Company as a whole.
 
The Banking operating segment consists of a full-service commercial bank, with locations in St. Louis, Kansas City, and Phoenix. The majority of the Company’s assets and income result from the Banking segment. All banking locations have the same product and service offerings, have similar types and classes of customers and utilize similar service delivery methods. Pricing guidelines and operating policies for products and services are the same across all regions.
 
The Wealth Management segment includes the Trust division of the Bank and the state tax credit brokerage activities. The Trust division provides estate planning, investment management, and retirement planning as well as consulting on management compensation, strategic planning and management succession issues. State tax credits are part of a fee initiative designed to augment the Company’s wealth management segment and banking lines of business.
 
The Corporate segment’s principal activities include the direct ownership of the Company’s banking subsidiary and the issuance of debt and equity. Its principal source of liquidity is dividends from its subsidiaries and stock option exercises.
 
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The financial information for each business segment reflects that information which is specifically identifiable or which is allocated based on an internal allocation method. There were no material intersegment revenues among the three segments. Management periodically makes changes to methods of assigning costs and income to its business segments to better reflect operating results. When appropriate, these changes are reflected in prior year information presented below.
 
Following are the financial results for the Company’s operating segments.
 
            Wealth   Corporate and        
(in thousands)      Banking      Management      Intercompany      Total
Balance Sheet Information   March 31, 2011
       Portfolio loans   $     1,952,481     $     -     $     -     $     1,952,481  
       Goodwill     3,879       -       -       3,879  
       Intangibles, net     1,921       -       -       1,921  
       Deposits     2,444,549       -       (14,119 )     2,430,430  
       Borrowings     152,051       55,647       82,581       290,279  
       Total assets     2,854,503       60,522       10,291       2,925,316  
                         
    December 31, 2010
            Wealth   Corporate and        
    Banking   Management   Intercompany   Total
       Portfolio loans   $ 1,893,062     $ -     $ -     $ 1,893,062  
       Goodwill     2,064       -       -       2,064  
       Intangibles, net     1,223       -       -       1,223  
       Deposits     2,313,117       -       (15,396 )     2,297,721  
       Borrowings     172,431       56,702       82,581       311,714  
       Total assets     2,729,930       61,770       14,140       2,805,840  
                         
Income Statement Information   Three months ended March 31, 2011
       Net interest income (expense)   $ 28,086     $ (322 )   $ (1,026 )   $ 26,738  
       Provision for loan losses     3,600       -       -       3,600  
       Noninterest income     3,077       1,838       48       4,963  
       Noninterest expense     14,480       1,846       1,139       17,465  
       Income (loss) before income tax expense (benefit)     13,083       (330 )     (2,117 )     10,636  
       Income tax expense (benefit)     4,375       (110 )     (708 )     3,557  
       Net income (loss)   $ 8,708     $ (220 )   $ (1,409 )   $ 7,079  
                         
    Three months ended March 31, 2010
       Net interest income (expense)   $ 20,053     $ (298 )   $ (1,132 )   $ 18,623  
       Provision for loan losses     13,800       -       -       13,800  
       Noninterest income     2,207       1,816       33       4,056  
       Noninterest expense     10,869       1,670       1,116       13,655  
       Loss before income tax benefit     (2,409 )     (152 )     (2,215 )     (4,776 )
       Income tax benefit     (890 )     (56 )     (816 )     (1,762 )
       Net loss   $ (1,519 )   $ (96 )   $ (1,399 )   $ (3,014 )
                                 
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ITEM 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
 
Some of the information in this report contains “forward-looking statements” within the meaning of and are intended to be covered by the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements typically are identified with use of terms such as “may,” “might,” “will,” “should,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” “could,” “continue” and the negative of these terms and similar words, although some forward-looking statements are expressed differently. Our ability to predict results or the actual effect of future plans or strategies is inherently uncertain. You should be aware that our actual results could differ materially from those contained in the forward-looking statements due to a number of factors, including, but not limited to: credit risk; changes in the appraised valuation of real estate securing impaired loans; outcomes of litigation and other contingencies; exposure to general and local economic conditions; risks associated with rapid increases or decreases in prevailing interest rates; consolidation within the banking industry; competition from banks and other financial institutions; our ability to attract and retain relationship officers and other key personnel; burdens imposed by federal and state regulation; changes in accounting regulation or standards applicable to banks; and other risks discussed under the caption “Risk Factors” of our most recently filed Form 10-K and in Part II, 1A of this Form 10-Q, all of which could cause the Company’s actual results to differ from those set forth in the forward-looking statements.
 
Readers are cautioned not to place undue reliance on our forward-looking statements, which reflect management’s analysis and expectations only as of the date of such statements. Forward-looking statements speak only as of the date they are made, and the Company does not intend, and undertakes no obligation, to publicly revise or update forward-looking statements after the date of this report, whether as a result of new information, future events or otherwise, except as required by federal securities law. You should understand that it is not possible to predict or identify all risk factors. Readers should carefully review all disclosures we file from time to time with the Securities and Exchange Commission which are available on our website at www.enterprisebank.com.
 
Introduction
The following discussion describes the significant changes to the financial condition of the Company that have occurred during the first three months of 2011 compared to the financial condition as of December 31, 2010. In addition, this discussion summarizes the significant factors affecting the condensed consolidated results of operations, liquidity and cash flows of the Company for the three months ended March 31, 2011, compared to the same period in 2010. This discussion should be read in conjunction with the accompanying consolidated financial statements included in this report and our Annual Report on Form 10-K for the year ended December 31, 2010.
 
Executive Summary
The Company reported net income of $7.1 million for the three months ended March 31, 2011, compared to a net loss of $3.0 million for the same period in 2010. After deducting dividends on preferred stock, the Company reported net income per fully diluted share of $0.42, compared to a net loss of $0.25 per fully diluted share for the prior year period.
 
On January 7, 2011, the Bank entered into a purchase and assumption agreement with the FDIC and acquired certain assets and assumed certain liabilities of Legacy Bank, a full service community bank that was headquartered in Scottsdale, Arizona. The acquisition consisted of assets with an estimated fair value of approximately $128.6 million and liabilities with an estimated fair value of approximately $130.4 million. In connection with the acquisition, the Bank also entered into a loss share agreement whereby the FDIC will reimburse the Bank for 80% of all losses incurred on certain loans and other real estate covered under the agreement. The Bank acquired the assets at a discount of 7.6% and approximately $43.5 million of the deposits were assumed at a premium of 1%. The two branches of Legacy opened as branches of the Bank. The Bank also acquired approximately $55.6 million of discretionary and $13.6 million of non-discretionary trust assets. See Note 3 – Acquisitions and Divestitures and Note 6 – Portfolio Loans for more information.
 
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Our pre-tax, pre-provision income for the first quarter of 2011 was $14.1 million, compared to pre-tax, pre-provision income of $9.1 million, an increase of 56% from the first quarter of 2010. Pre-tax, pre-provision income, which is a non-GAAP (Accounting Principles Generally Accepted in the United States of America) financial measure, is presented because the Company believes adjusting its results to exclude loan loss provision expense, sales and fair value writedowns of other real estate, and sales of securities provides shareholders with a more comparable basis for evaluating period-to-period operating results. A schedule reconciling GAAP pre-tax income (loss) to pre-tax, pre-provision income is provided in the table below.
 
  For the Quarter Ended
  Mar 31,       Dec 31,       Sep 30,       Jun 30,       Mar 31,
(In thousands) 2011   2010   2010   2010   2010
Pre-tax income (loss) $     10,636     $     8,347     $     7,233     $     537     $     (4,776 )
       Sales and fair value writedowns of other real estate   19       2,683       1,606       678       586  
       Sale of securities   (174 )     (781 )     (124 )     (525 )     (557 )
Income (loss) before income tax   10,481       10,249       8,715       690       (4,747 )
       Provision for loan losses   3,600       3,325       7,650       8,960       13,800  
Pre-tax, pre-provision income $ 14,081     $ 13,574     $ 16,365     $ 9,650     $ 9,053  
                                       
Below are highlights of our Banking and Wealth Management segments. For more information on our segments, see Note 11 –Segment Reporting.
 
Banking Segment
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Provision for loan losses was $3.6 million in the first quarter of 2011 compared to $3.3 million in the fourth quarter of 2010 and $13.8 million in the first quarter of 2010. The large provision for loan losses in the first quarter of 2010 was due to higher levels of loan risk rating downgrades. See Note 6 – Portfolio Loans above and Provision for Loan Losses and Nonperforming Assets in this section for more information.
 
Wealth Management Segment
Fee income from the Wealth Management segment, including results from state tax credit brokerage activity, totaled $1.8 million in the first quarter of 2011 consistent with the same quarter of 2010. See Noninterest Income in this section for more information.
 
Net Interest Income
 
Three months ended March 31, 2011 and 2010
Net interest income (on a tax-equivalent basis) was $27.0 million for the three months ended March 31, 2011 compared to $18.9 million for the same period of 2010, an increase of $8.1 million, or 43%. Total interest income increased $7.4 million and total interest expense decreased $827,000.
 
Average interest-earning assets increased $410.4 million, or 19%, to $2.6 billion for the quarter ended March 31, 2011 from $2.2 billion for the quarter ended March 31, 2010. Average loans increased $140.8 million, or 8%, to $2.0 billion at March 31, 2011 from $1.8 billion at March 31, 2010. Average investment securities increased $136.4 million, or 48%, to $423.1 million from the first quarter of 2010 as increased core deposits were deployed to offset weak loan demand. Average short-term investments, including cash balances at the Federal Reserve, increased $133.2 million to $231.2 million from $98.0 million in the same period of 2010. Interest income on earning assets increased $3.1 million due to higher volume and $4.2 million due to higher rates, for a net increase of $7.4 million versus the first quarter of 2010.
 
For the quarter ended March 31, 2011, average interest-bearing liabilities increased $404.8 million, or 22%, to $2.3 billion compared to $1.9 billion for the quarter ended March 31, 2010. The increase in average interest-bearing liabilities resulted from a $350.4 million increase in average interesting bearing core deposits, primarily consisting of $248.5 million increase in average money market accounts and a $101.0 million increase in average certificates of deposit, and a $44.8 million increase in borrowings. For the first quarter of 2011, interest expense on interest-bearing liabilities decreased $2.2 million due to declining rates partially offset by an increase of $1.4 million due to the impact of higher volumes, for a net decrease of $827,000 versus the first quarter of 2010.
 
The tax-equivalent net interest rate margin was 4.19% for the first quarter of 2011, compared to 4.70% for the fourth quarter of 2010 and 3.47% in the first quarter of 2010. The net interest rate margin for the fourth quarter of 2010 was significantly impacted by the yield on the loans covered under FDIC loss share. Loans covered under FDIC loss share yielded 29.7% in the fourth quarter of 2010 primarily due to cash flows on paid off covered loans that exceeded expectations. In the first quarter of 2011, the loans covered under FDIC loss share yielded 16.8%. Absent the FDIC loss share loans, the net interest rate margin was 3.34% for the first quarter of 2011 compared to 3.57% for the fourth quarter of 2010. The reduction in the net interest rate margin, excluding the effect of loans covered under FDIC loss share, was primarily due to the Company’s increasingly strong liquidity position.
 
The Company expects low to mid-single digit growth in portfolio loans not covered under FDIC loss share. The growth is expected to be primarily in the Commercial & Industrial loan category. Pipelines for new loan activity have been strengthening over the past several months.
 
27
 

 

Average Balance Sheet
The following table presents, for the periods indicated, certain information related to our average interest-earning assets and interest-bearing liabilities, as well as, the corresponding interest rates earned and paid, all on a tax equivalent basis.
 
    Three months ended March 31,
            2011                 2010      
            Interest   Average           Interest   Average
    Average   Income/   Yield/   Average   Income/   Yield/
(in thousands)       Balance       Expense       Rate       Balance       Expense       Rate
Assets                                        
Interest-earning assets:                                        
              Taxable loans (1)
  $ 1,736,608     $ 23,321   5.45 %   $ 1,779,735     $ 24,296   5.54 %
              Tax-exempt loans (2)
    35,153       681   7.86       28,817       632   8.89  
              Covered loans (3)
    190,625       7,903   16.81       13,012       543   16.92  
       Total loans     1,962,386       31,905   6.59       1,821,564       25,471   5.67  
              Taxable investments in debt and equity securities
    407,943       2,642   2.63       285,527       1,933   2.75  
              Non-taxable investments in debt and equity
                                       
                     securities (2)     15,174       172   4.60       1,173       16   5.53  
              Short-term investments
    231,208       149   0.26       98,039       88   0.36  
       Total securities and short-term investments     654,325       2,963   1.84       384,739       2,037   2.15  
Total interest-earning assets     2,616,711       34,868   5.40       2,206,303       27,508   5.06  
Noninterest-earning assets:                                        
              Cash and due from banks
    11,220                   11,283              
              Other assets
    311,912                   163,912              
              Allowance for loan losses
    (43,558 )                 (44,711 )            
              Total assets
  $ 2,896,285                 $ 2,336,787              
                                         
Liabilities and Shareholders' Equity                                        
Interest-bearing liabilities:                                        
              Interest-bearing transaction accounts
  $ 194,340     $ 189   0.39 %   $ 185,244     $ 219   0.48 %
              Money market accounts
    896,185       2,082   0.94       647,676       1,393   0.87  
              Savings
    10,751       9   0.34       9,373       8   0.35  
              Certificates of deposit
    880,966       3,410   1.57       779,940       4,635   2.41  
Total interest-bearing deposits     1,982,242       5,690   1.16       1,622,233       6,255   1.56  
              Subordinated debentures
    85,081       1,121   5.34       85,081       1,230   5.86  
              Borrowed funds
    217,858       1,014   1.89       173,028       1,167   2.74  
Total interest-bearing liabilities     2,285,181       7,825   1.39       1,880,342       8,652   1.87  
Noninterest bearing liabilities:                                        
              Demand deposits
    408,766                   273,702              
              Other liabilities
    14,151                   7,520              
              Total liabilities
    2,708,098                   2,161,564              
              Shareholders' equity
    188,187                   175,223              
              Total liabilities & shareholders' equity
  $      2,896,285                 $      2,336,787              
Net interest income           $      27,043                 $      18,856      
Net interest spread                 4.01 %                 3.19 %
Net interest rate margin (4)                      4.19                        3.47  

(1)       Average balances include non-accrual loans. The income on such loans is included in interest but is recognized only upon receipt. Loan fees, net of amortization of deferred loan origination fees and costs, included in interest income are approximately $146,000 and $624,000 for the quarters ended March 31, 2011 and 2010, respectively.
(2)   Non-taxable income is presented on a fully tax-equivalent basis using a 36% tax rate. The tax-equivalent adjustments were $305,000 and $233,000 for the quarters ended March 31, 2011 and 2010, respectively.
(3)   Covered loans are loans covered under FDIC loss share agreements and are recorded at fair value.
(4)   Net interest income divided by average total interest-earning assets.
 
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Rate/Volume
The following table sets forth, on a tax-equivalent basis for the periods indicated, a summary of the changes in interest income and interest expense resulting from changes in yield/rates and volume.
 
    2011 compared to 2010
    Three months ended March 31,
    Increase (decrease) due to
(in thousands)       Volume(1)       Rate(2)       Net
Interest earned on:                      
       Taxable loans   $ 1,960   $ 4,425     $ 6,385  
       Tax-exempt loans (3)     129     (80 )     49  
       Taxable investments in debt                      
              and equity securities     796     (87 )     709  
       Non-taxable investments in debt                      
              and equity securities (3)     159     (3 )     156  
Short-term investments     92     (31 )     61  
              Total interest-earning assets   $ 3,136   $ 4,224     $ 7,360  
                       
Interest paid on:                      
       Interest-bearing transaction accounts   $ 11   $ (41 )   $ (30 )
       Money market accounts     570     119       689  
       Savings     1     -       1  
       Certificates of deposit     543     (1,768 )     (1,225 )
       Subordinated debentures     -     (109 )     (109 )
       Borrowed funds     260     (413 )     (153 )
              Total interest-bearing liabilities     1,385     (2,212 )     (827 )
Net interest income   $       1,751   $       6,436     $       8,187  
                       
(1)       Change in volume multiplied by yield/rate of prior period.
(2)   Change in yield/rate multiplied by volume of prior period.
(3)   Nontaxable income is presented on a fully-tax equivalent basis using a 36% tax rate.
NOTE: The change in interest due to both rate and volume has been allocated to rate and volume changes in proportion to the relationship of the absolute dollar amounts of the change in each.
 
29
 

 

Provision and Allowance for Loan Losses
The provision for loan losses in the first quarter of 2011 was $3.6 million compared to $3.3 million in the fourth quarter of 2010 and $13.8 million in the first quarter of 2010. The large provision for loan losses in the first quarter of 2010 was due to higher levels of loan risk rating downgrades. The allowance for loan losses as a percentage of total loans was 2.19% at March 31, 2011 compared to 2.26% at December 31, 2010 and 2.45% at March 31, 2010. The allowance for loan losses represented 98% of nonperforming loans at March 31, 2011 compared to 79% at March 31, 2010 and 92% at December 31, 2010. Management believes that the allowance for loan losses is adequate to absorb inherent losses in the loan portfolio.
 
During the first quarter of 2011, the Company recorded net charge-offs of $3.5 million, or 0.73%, of average portfolio loans on an annualized basis, compared to $7.6 million, or 1.57%, for the fourth quarter of 2010 and $12.7 million, or 2.83%, for the first quarter of 2010. Approximately 72% of the charge-offs in the first quarter of 2011 were related to Construction Land Acquisition and Development loans, 21% were related to Commercial Real Estate loans and the remaining 7% were related to Commercial & Industrial loans.
 
The following table summarizes changes in the allowance for loan losses arising from loans charged off and recoveries on loans previously charged off, by loan category, and additions to the allowance charged to expense.
 
    Three months ended March 31,
(in thousands)   2011   2010
Allowance at beginning of period       $ 42,759         $ 42,995  
Loans charged off:                
       Commercial and industrial     400       530  
       Real estate:                
              Commercial     738       7,285  
              Construction     2,716       4,701  
              Residential     111       355  
       Consumer and other     -       92  
       Total loans charged off     3,965       12,963  
Recoveries of loans previously charged off:                
       Commercial and industrial     125       42  
       Real estate:                
              Commercial     15       167  
              Construction     178       2  
              Residential     89       36  
       Consumer and other     21       -  
       Total recoveries of loans     428       247  
Net loan chargeoffs     3,537       12,716  
Provision for loan losses     3,600       13,800  
                 
Allowance at end of period   $ 42,822     $ 44,079  
                 
Excludes loans covered under FDIC loss share agreements                
Average loans   $ 1,771,761     $ 1,808,552  
Total portfolio loans     1,761,034       1,786,097  
Net chargeoffs to average loans     0.81 %     2.85 %
Allowance for loan losses to loans     2.43       2.47  
                 
Includes loans covered under FDIC loss share agreements                
Average loans   $      1,962,386     $      1,821,564  
Total portfolio loans     1,952,481       1,799,224  
Net chargeoffs to average loans     0.73 %     2.83 %
Allowance for loan losses to loans     2.19       2.45  
 
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Nonperforming assets
 
The following table presents the categories of nonperforming assets and other ratios as of the dates indicated.
 
    March 31,   March 31,
(in thousands)   2011   2010
Non-accrual loans        $ 33,782          $ 53,190  
Loans past due 90 days or more and still accruing interest     -       885  
Restructured loans     9,705       1,710  
              Total nonperforming loans     43,487       55,785  
Foreclosed property (1)     28,443       18,669  
Other bank owned assets     600       936  
Total nonperforming assets (1)   $ 72,530     $ 75,390  
                 
Excludes assets covered under FDIC loss share agreements                
       Total assets   $ 2,925,316     $ 2,361,405  
       Total portfolio loans     1,761,034       1,786,097  
       Total loans plus foreclosed property     1,790,077       1,805,702  
       Nonperforming loans to total loans     2.47 %     3.12 %
       Nonperforming assets to total loans plus foreclosed property     4.05       4.18  
       Nonperforming assets to total assets (1)     2.48       3.19  
                 
Includes assets covered under FDIC loss share agreements                
       Total assets   $      2,925,316     $      2,361,405  
       Total portfolio loans     1,952,481       1,799,224  
       Total loans plus foreclosed property     2,004,386       1,821,108  
       Nonperforming loans to total loans     2.23 %     3.10 %
       Nonperforming assets to total loans plus foreclosed property     4.76       4.26  
       Nonperforming assets to total assets     3.26       3.29  
                 
Allowance for loan losses to nonperforming loans     98.00 %     79.00 %
 
(1)
      Excludes assets covered under FDIC loss share agreements, except for their inclusion in total assets
 
As 2011 progresses, the Company expects slight improvement in its ratio of nonperforming assets to total assets, excluding assets covered under FDIC loss share agreements.
 
Nonperforming loans
 
Nonperforming loans exclude credit-impaired loans that were acquired in the December 2009, July 2010, and January 2011 FDIC-assisted transactions. These purchased credit-impaired loans are accounted for on a pool basis, and the pools are considered to be performing. See Note 6 – Portfolio Loans for more information on these loans.
 
At March 31, 2011, nonperforming loans, including troubled debt restructurings of $9.7 million, were $43.5 million, or 2.23%, of total loans. This compares to $46.4 million, or 2.45% of total loans, at December 31, 2010 and $55.8 million, or 3.10% of total loans, at March 31, 2010. The nonperforming loans are comprised of approximately 43 relationships with the largest being a $5.8 million loan secured by commercial land in Kansas City. Five relationships comprise 53% of the nonperforming loans. Approximately 60% of the nonperforming loans were located in the Kansas City market and 40% were located in the St. Louis market. At March 31, 2011, there were no performing restructured loans that have been excluded from the nonperforming loan amounts.
 
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Nonperforming loans based on Call Report codes were as follows:
 
(in thousands)       March 31, 2011       December 31, 2010
Construction, Real Estate/Land Acquisition and Development   $ 16,808   $ 9,934
Commercial Real Estate     10,612     12,959
Residential Real Estate     9,508     12,188
Commercial & Industrial     6,559     11,276
Consumer & Other     -     -
Total   $ 43,487   $ 46,357
             
The following table summarizes the changes in nonperforming loans by quarter.
 
    2011   2010
(in thousands)       1st Qtr       4th Qtr       3rd Qtr       2nd Qtr       1st Qtr
Nonperforming loans beginning of period   $ 46,357     $ 51,955     $ 46,550     $ 55,785     $ 38,540  
       Additions to nonaccrual loans     18,187       15,877       19,373       15,440       39,663  
       Additions to restructured loans     297       3,430       2,286       454       611  
       Chargeoffs     (3,966 )     (7,860 )     (7,023 )     (8,314 )     (12,963 )
       Other principal reductions     (6,445 )     (7,288 )     (1,881 )     (4,580 )     (2,739 )
       Moved to Other real estate     (7,014 )     (8,743 )     (7,122 )     (11,350 )     (5,564 )
       Moved to Other bank owned assets     -       -       -       -       (955 )
       Moved to performing     (3,929 )     (1,014 )     (228 )     -       (1,693 )
       Loans past due 90 days or more and still accruing interest     -       -       -       (885 )     885  
Nonperforming loans end of period   $      43,487     $      46,357     $      51,955     $      46,550     $      55,785  
                                         
Of the $18.5 million in new nonperforming loans, five construction real estate loans representing three relationships comprised over $15.7 million, or 85% of the total. Of these, two relationships totaling $6.0 million were transferred to Other real estate during the quarter.
 
Other real estate

Other real estate was $51.3 million at March 31, 2011 compared to $36.2 million at December 31, 2010, and $20.9 million at March 31, 2010. Approximately $22.9 million, or 45% of the Other real estate, is covered by an FDIC loss share agreement. The following table summarizes the changes in Other real estate for the past five quarters.
 
    2011   2010
(in thousands)       1st Qtr       4th Qtr       3rd Qtr       2nd Qtr       1st Qtr
Other real estate beginning of period   $
36,208
    $ 34,685     $ 25,884     $ 20,947     $ 25,084  
       Additions and expenses capitalized                                        
              to prepare property for sale     7,014       8,743       7,122       11,350       5,564  
       Additions from FDIC assisted transactions     12,826       4,871       5,469       -       113  
       Writedowns in fair value     (703 )     (2,406 )     (1,750 )     (1,364 )     (574 )
       Sales     (4,040 )     (9,685 )     (2,040 )     (5,049 )     (9,240 )
Other real estate end of period   $     51,305     $     36,208     $     34,685     $     25,884     $     20,947  
                                         
At March 31, 2011, Other real estate was comprised of 21% residential lots, 21% completed homes, and 58% commercial real estate. Of the total Other real estate, 21%, or 27 properties, are located in the Kansas City region, 34%, or 19 properties, are located in the St. Louis region and 45%, or 48 properties, are located in the Arizona region related to the FDIC acquisitions.
 
The writedowns in fair value were recorded in Loan legal and other real estate expense based on current market activity shown in the appraisals. In addition, the Company realized a net gain of $423,000 on the sale of other real estate and recorded these gains as part of Noninterest income.
 
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Noninterest Income
Noninterest income increased $907,000, or 22%, from the first quarter of 2010 compared to the first quarter of 2011. The increase is mainly due to increases in miscellaneous income related to the accretion on the indemnification asset on our Covered Assets.
Noninterest Expense
Noninterest expenses were $17.5 million in the first quarter of 2011, an increase of $3.8 million, or 28%, from the first quarter of 2010. The increase over the prior year period was comprised of $2.1 million in salaries and benefits primarily due to variable compensation accruals and staff additions to support our Arizona acquisition activity and $1.2 million in higher loan legal and other real estate expenses. The Company also incurred additional data processing costs related to new web-based customer relationship software and increases in FDIC insurance premiums due to the higher levels of deposits.
 
The Company’s efficiency ratio in the first quarter of 2011 was 55% compared to 60% in the first quarter of 2010, primarily due to the favorable impact of the FDIC assisted acquisitions.
 
Income Taxes
For the three months ended March 31, 2011, the Company’s income tax expense, which includes both federal and state taxes, was $3.6 million compared to a $1.8 million benefit for the same period in 2010. The combined federal and state effective income tax rates were 33.4% and (36.9%) for the three months ended March 31, 2011 and 2010, respectively.
 
The Company recognizes deferred tax assets only to the extent that they are expected to be used to reduce amounts that have been paid or will be paid to tax authorities. Management believes, based on all positive and negative evidence, that the deferred tax asset at March 31, 2011 is more likely-than-not-to be realized, and accordingly, no valuation allowance has been recorded.
 
Liquidity and Capital Resources
 
Liquidity management
The objective of liquidity management is to ensure we have the ability to generate sufficient cash or cash equivalents in a timely and cost-effective manner to meet our commitments as they become due. Typical demands on liquidity are run-off from demand deposits, maturing time deposits which are not renewed, and fundings under credit commitments to customers. Funds are available from a number of sources, such as from the core deposit base and from loans and securities repayments and maturities. Additionally, liquidity is provided from sales of the securities portfolio, fed fund lines with correspondent banks, the Federal Reserve and the FHLB, the ability to acquire large and brokered deposits and the ability to sell loan participations to other banks. These alternatives are an important part of our liquidity plan and provide flexibility and efficient execution of the asset-liability management strategy.
 
33
 

 

Our Asset-Liability Management Committee oversees our liquidity position, the parameters of which are approved by the Board of Directors. Our liquidity position is monitored monthly by producing a liquidity report, which measures the amount of liquid versus non-liquid assets and liabilities. Our liquidity management framework includes measurement of several key elements, such as the loan to deposit ratio, a liquidity ratio, and a dependency ratio. The Company’s liquidity framework also incorporates contingency planning to assess the nature and volatility of funding sources and to determine alternatives to these sources. While core deposits and loan and investment repayments are principal sources of liquidity, funding diversification is another key element of liquidity management and is achieved by strategically varying depositor types, terms, funding markets, and instruments.
 
Parent Company liquidity
The parent company’s liquidity is managed to provide the funds necessary to pay dividends to shareholders, service debt, invest in subsidiaries as necessary, and satisfy other operating requirements. The parent company’s primary funding sources to meet its liquidity requirements are dividends and payments from the Bank and proceeds from the issuance of equity (i.e. stock option exercises). Another source of funding for the parent company includes the issuance of subordinated debentures. Management believes our current level of cash at the holding company of approximately $14.1 million will be sufficient to meet all projected cash needs in 2011.
 
As of March 31, 2011, the Company had $82.6 million of outstanding subordinated debentures as part of nine Trust Preferred Securities Pools. These securities are classified as debt but are included in regulatory capital and the related interest expense is tax-deductible, which makes them a very attractive source of funding.
 
Bank liquidity
During the first quarter of 2011, we maintained a strong liquidity position by targeting core funding while reducing certain volatile deposit sources. Noninterest-bearing demand deposits grew $81.9 million, and money markets increased $86.5 million offset by decreases of $29.8 million in time deposits, including CDARS balances, and $6.5 million in interest bearing checking accounts.
 
The Bank has a variety of funding sources available to increase financial flexibility. In addition to amounts currently borrowed, at March 31, 2011, the Bank could borrow an additional $109.7 million from the FHLB of Des Moines under blanket loan pledges and has an additional $330.4 million from the Federal Reserve Bank under a pledged loan agreement. The Bank has unsecured federal funds lines with three correspondent banks totaling $35.0 million.
 
Of the $482.0 million of the securities available for sale at March 31, 2011, $243.9 million was pledged as collateral for deposits of public institutions, treasury, tax and loan notes, and other requirements. The remaining $238.1 million could be pledged or sold to enhance liquidity, if necessary.
 
The Bank belongs to the Certificate of Deposit Account Registry Service, or CDARS, which allows us to provide our customers with access to additional levels of FDIC insurance coverage. The Company considers the reciprocal deposits placed through the CDARS program as core funding and does not report the balances as brokered sources in its internal or external financial reports. As of March 31, 2011, the Bank had $74.8 million of reciprocal CDARS certificates of deposits outstanding. During the first quarter of 2011, the Bank began offering reciprocal money market accounts and had $36.6 million outstanding at March 31, 2011. In addition to the reciprocal deposits available through CDARS, we also have access to the “one-way buy” program, which allows us to bid on the excess deposits of other CDARS member banks. The Company will report any outstanding “one-way buy” funds as brokered funds in its internal and external financial reports. At March 31, 2011, we had no outstanding “one-way buy” deposits.
 
Finally, because the Bank is “well-capitalized”, it has the ability to sell certificates of deposit through various national or regional brokerage firms, if needed. At March 31, 2011, brokered certificate of deposit balances were $156.7 million, flat with December 31, 2010. At March 31, 2010, the Bank had $132.0 million of brokered certificates of deposit outstanding. Brokered certificates of deposit represented 6.4% of total deposits at March 31, 2011, 6.8% of total deposits at December 31, 2010 and 6.9% of total deposits at March 31, 2010.
 
Over the normal course of business, the Bank enters into certain forms of off-balance sheet transactions, including unfunded loan commitments and letters of credit. These transactions are managed through the Bank’s various risk management processes. Management considers both on-balance sheet and off-balance sheet transactions in its evaluation of the Company’s liquidity. The Bank has $435.2 million in unused loan commitments as of March 31, 2011. While this commitment level would be difficult to fund given the Company’s current liquidity resources, the nature of these commitments is such that the likelihood of funding them is low.
 
34
 

 

Capital Resources
In January 2010, the Company issued $15.0 million in stock through a private offering and separately registered these shares with the SEC in March 2010. The proceeds of the offering were injected into the Bank to improve its capital position.
 
From time to time we may choose to issue equity or debt securities to raise capital. A variety of factors, including financial market conditions, may influence the timing of any such issuance. To allow us to timely respond to opportunities to raise capital, the Company filed a shelf registration statement on Form S-3 which became effective on July 1, 2009. Under Rule 415 of the Securities Act of 1933, the Company has until July 1, 2012 to issue securities pursuant to this registration statement.
 
Proceeds from any additional offerings would be used for capital expenditures, repayment or refinancing of indebtedness or other securities from time to time, working capital, to make acquisitions, for general corporate purposes, or for the redemption of all or part of the preferred stock held by the U.S. Treasury as a result the Company’s participation in the Capital Purchase Program.
 
The Company and the 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 financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and its bank affiliate must meet specific capital guidelines that involve quantitative measures of assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The banking affiliate’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 Company and the Bank to maintain minimum amounts and ratios (set forth in the following table) of total and Tier 1 capital to risk-weighted assets, and of Tier 1 capital to average assets. To be categorized as “well capitalized”, banks must maintain minimum total risk-based (10%), Tier 1 risk-based (6%) and Tier 1 leverage ratios (5%). Management believes, as of March 31, 2011 and December 31, 2010, that the Company and the Bank met all capital adequacy requirements to which they are subject.
 
The Company continues to exceed regulatory standards and met the definition of “well-capitalized” (the highest category) at March 31, 2011 and December 31, 2010.
 
The following table summarizes the Company’s risk-based capital and leverage ratios at the dates indicated:
 
        March 31,       December 31,
(Dollars in thousands)   2011   2010
Tier 1 capital to risk weighted assets     12.16 %     11.97 %
Total capital to risk weighted assets     14.34 %     14.30 %
Tier 1 common equity to risk weighted assets     7.51 %     7.37 %
Leverage ratio (Tier 1 capital to average assets)     8.60 %     9.15 %
Tangible common equity to tangible assets     5.22 %     5.26 %
Tier 1 capital   $ 248,721     $ 241,829  
Total risk-based capital   $      293,416     $      288,754  

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The Company believes the tangible common equity and Tier 1 common equity ratios are important financial measures of capital strength even though they are considered to be non-GAAP measures. The tables below contain reconciliations of these ratios to U.S. GAAP.
 
Tangible common equity ratio
 
    March 31,   December 31,
(In thousands)       2011       2010
Shareholders' equity   $ 191,015     $ 183,348  
Less: Preferred stock     (32,707 )     (32,519 )
Less: Goodwill     (3,879 )     (2,064 )
Less: Intangible assets     (1,921 )     (1,223 )
Tangible common equity   $ 152,508     $ 147,542  
                 
Total assets   $ 2,925,316     $ 2,805,840  
Less: Goodwill     (3,879 )     (2,064 )
Less: Intangible assets     (1,921 )     (1,223 )
Tangible assets   $      2,919,516     $      2,802,553  
                 
Tangible common equity to tangible assets     5.22 %     5.26 %

Tier 1 common equity ratio
 
    March 31,   December 31,
(In thousands)       2011       2010
Shareholders' equity   $ 191,015     $ 183,348  
Less: Goodwill     (3,879 )     (2,064 )
Less: Intangible assets     (1,921 )     (1,223 )
Less: Unrealized gains; Plus: Unrealized Losses     (244 )     573  
Plus: Qualifying trust preferred securities     62,398       60,448  
Other     1,352       747  
Tier 1 capital   $ 248,721     $ 241,829  
Less: Preferred stock     (32,707 )     (32,519 )
Less: Qualifying trust preferred securities     (62,398 )     (60,448 )
Tier 1 common equity   $ 153,616     $ 148,862  
                 
Total risk weighted assets determined in accordance with                
prescribed regulatory requirements   $      2,045,886     $      2,019,885  
                 
Tier 1 common equity to risk weighted assets     7.51 %     7.37 %

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Critical Accounting Policies
The impact and any associated risks related to the Company’s critical accounting policies on business operations are discussed throughout “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” where such policies affect our reported and expected financial results. For a detailed discussion on the application of these and other accounting policies, see the Company’s Annual Report on Form 10-K for the year ended December 31, 2010.
 
New Accounting Standards
FASB ASU 2010-06, “Improving Disclosures about Fair Value Measurements” On January 1, 2011, the Company adopted new authoritative guidance under this ASU, which requires detailed Level 3 roll forward disclosure. The adoption of this guidance did not have a material impact on the Company’s consolidated financial statements.
 
FASB ASU 2010-20, “Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses” On January 1, 2011, the Company adopted new authoritative guidance under this ASU which requires disclosures about activity that occurs during a reporting period. The adoption of this guidance did not have a material impact on the Company’s consolidated financial statements.
 
FASB ASU 2010-29, “Business Combinations (Topic 805)—Disclosure of Supplementary Pro Forma Information for Business Combinations” On January 1, 2011, the Company adopted new authoritative guidance under this ASU which provides clarification regarding the acquisition date that should be used for reporting the pro forma financial information disclosures required by Topic 805 when comparative financial statements are presented. ASU 2010-29 also requires entities to provide a description of the nature and amount of material, nonrecurring pro forma adjustments that are directly attributable to the business combination. The adoption of this guidance did not have a material impact on the Company’s consolidated financial statements.
 
FASB ASU 2011-01, “Deferral of the Effective Date of Disclosures about Troubled Debt Restructurings in Update No. 2010-20” In January 2011, the FASB issued ASU 2011-01, which temporarily delays the effective date of the disclosures about troubled debt restructurings in ASU 2010-20. The delay is intended to allow the Board time to complete its deliberations on what constitutes a troubled debt restructuring. The effective date of the new disclosures about troubled debt restructurings for public entities and the guidance for determining what constitutes a troubled debt restructuring will then be coordinated. Currently, that guidance is anticipated to be effective for interim and annual periods ending after June 15, 2011. The Company believes this ASU will not have a material impact on the Company’s consolidated financial statements.
 
FASB ASU 2011-02, “Receivables (Topic 310) - A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring” In April 2011, the FASB issued ASU 2011-02, which provides clarification on whether a restructuring constitutes a troubled debt restricting and also clarifies the guidance on a creditor’s evaluation of whether it has granted a concession to the debtor and if the debtor is experiencing financial difficulties. The Company believes this ASU will not have a material impact on the Company’s consolidated financial statements.
 
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
The disclosures set forth in this item are qualified by the section captioned “Safe Harbor Statement Under the Private Securities Litigation Reform Act of 1995” included in Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations of this report and other cautionary statements set forth elsewhere in this report.
 
Market risk arises from exposure to changes in interest rates and other relevant market rate or price risk. The Company faces market risk in the form of interest rate risk through transactions other than trading activities. Market risk from these activities, in the form of interest rate risk, is measured and managed through a number of methods. The Company uses financial modeling techniques to measure interest rate risk. These techniques measure the sensitivity of future earnings due to changing interest rate environments. Guidelines established by the Bank’s Asset/Liability Management Committee and approved by the Bank’s Board of Directors are used to monitor exposure of earnings at risk. General interest rate movements are used to develop sensitivity as the Company feels it has no primary exposure to a specific point on the yield curve. These limits are based on the Company’s exposure to a 100 basis points and 200 basis points immediate and sustained parallel rate move, either upward or downward. In today’s low interest rate environment, the Company also monitors its exposure to immediate and sustained parallel rate increases of 300 basis points and 400 basis points.
 
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Interest rate simulations for March 31, 2011 demonstrate that a rising rate environment will have a positive impact on net interest income.
 
The following table represents the Company’s estimated interest rate sensitivity and periodic and cumulative gap positions calculated as of March 31, 2011.
 
                                                        Beyond         
                                      5 years      
                                      or no stated      
(in thousands)   Year 1   Year 2   Year 3   Year 4   Year 5   maturity   Total
Interest-Earning Assets                                                
Securities available for sale   $    100,902     $    94,376     $    71,192   $    51,310   $    44,630   $    119,579     $    481,989
Other investments     -       -       -     -     -     14,430       14,430
Interest-bearing deposits     187,556       -       -     -     -     -       187,556
Federal funds sold     1,464       -       -     -     -     -       1,464
Portfolio loans (1)     1,233,317       280,284       278,358     52,149     70,475     37,898       1,952,481
Loans held for sale     3,142       -       -     -     -     -       3,142
Total interest-earning assets   $ 1,526,381     $ 374,660     $ 349,550   $ 103,459   $ 115,105   $ 171,907     $ 2,641,062
                                                 
Interest-Bearing Liabilities                                                
Savings, NOW and Money market deposits   $ 1,150,950     $ -     $ -   $ -   $ -   $ -     $ 1,150,950
Certificates of deposit     533,150       90,807       106,587     7,363     94,106     (545 )     831,468
Subordinated debentures     56,807       -       28,274     -     -     -       85,081
Other borrowings     118,198       7,000       -     -     10,000     70,000       205,198
Total interest-bearing liabilities   $ 1,859,105     $ 97,807     $ 134,861   $ 7,363   $ 104,106   $ 69,455     $ 2,272,697
                                                 
Interest-sensitivity GAP                                                
       GAP by period   $ (332,724 )   $ 276,853     $ 214,689   $ 96,096   $ 10,999   $ 102,452     $ 368,365
       Cumulative GAP   $ (332,724 )   $ (55,871 )   $ 158,818   $ 254,914   $ 265,913   $ 368,365     $ 368,365
Ratio of interest-earning assets to                                                
interest-bearing liabilities                                                
       Periodic     0.82       3.83       2.59     14.05     1.11     2.48       1.16
       Cumulative GAP as of March 31, 2011     0.82       0.97       1.08     1.12     1.12     1.16       1.16
                                                 
(1) Adjusted for the impact of the interest rate swaps.
 
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ITEM 4: CONTROLS AND PROCEDURES
 
As of March 31, 2011, under the supervision and with the participation of the Company’s Chief Executive Officer (CEO) and the Chief Financial Officer (CFO), management has evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Exchange Act Rule 13a-15. Based on that evaluation, the CEO and CFO concluded that the Company’s disclosure controls and procedures were effective as of March 31, 2011, to ensure that information required to be disclosed in the Company’s periodic SEC filings is processed, recorded, summarized and reported when required. Disclosure controls and procedures include without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports that it files or submits under the Act is accumulated and communicated to the issuer’s management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. There were no changes during the period covered by this Quarterly Report on Form 10-Q in the Company’s internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, those controls.
 
PART II – OTHER INFORMATION
 
ITEM 1: LEGAL PROCEEDINGS
 
The following information supplements the discussion in Part I, Item 3 “Legal Proceedings” in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2010:
 
As discussed in further detail below, the Bank, along with other co-defendants, including a former President and Chief Executive Officer of the Bank’s trust division (the “Former Trust President”), has been named as a defendant in two lawsuits filed by clients, or purported clients, of the Bank’s trust division who invested in promissory notes issued by Distinctive Properties (UK) Limited (“Distinctive Properties”), a company involved in the purchase and development of real estate in the United Kingdom.
 
Phil Rosemann, et. al. v. Martin Sigillito, Enterprise Bank & Trust, et. al., Case No. 4:10-CV-1165-LRR (pending in the United States District Court for the Eastern District of Missouri). On March 30, 2011, Enterprise Bank was named as a defendant in an existing lawsuit brought by approximately 78 plaintiffs against 38 other defendants, including the Former Trust President and 20 “john doe” defendants. The lawsuit concerns investments the plaintiffs allegedly made in certain promissory notes issued by Distinctive Properties (the “Distinctive Notes”), which plaintiffs allege were part of a multi-million dollar Ponzi scheme. Plaintiffs allege to have IRA custodial accounts at Enterprise Bank which hold the Distinctive Notes. Plaintiffs assert, among other things, that the Bank was negligent, breached its fiduciary duties and breached its contracts by allowing the Distinctive Notes to be renewed, improperly disbursing funds and allowing interest payments to be credited to the accounts without receipt of such payments. Plaintiffs also assert that the Bank, and certain other defendants including the Former Trust President, violated the Racketeer Influenced and Corrupt Organizations Act (“RICO”) and conspired to violate RICO in connection with the sale of the Distinctive Notes to the plaintiffs. Plaintiffs are seeking in excess of $26,000,000 in damages from defendants, including the Bank, related to these claims as well as their costs and attorneys’ fees and trebled damages under RICO.
 
BJD, LLC and Barbara Dunning v. Enterprise Bank & Trust, et. al., Case No. 11SL-CC01331 (pending in the Circuit Court of the County of St. Louis, State of Missouri). On April 4, 2011, Barbara Dunning and an affiliated entity, BJD, LLC (“BJD”), filed a lawsuit against four defendants including the Bank and the Former Trust President relating to BJD’s investment in the Distinctive Notes. Plaintiffs allege that the Bank, and the other defendants, including the Former Trust President, breached their fiduciary duties and were negligent in allowing BJD to invest in the Distinctive Notes because the loan program was allegedly never funded and the assets of the borrower did not exist or were overvalued. Plaintiffs are seeking $811,875 in damages, 9% interest, punitive damages, attorneys’ fees and costs.
 
The Company is unable to estimate a reasonably possible loss for the cases described above because the proceedings are in early stages and there are significant factual issues to be determined and resolved. The Company denies Plaintiffs’ allegations and intends to vigorously defend the lawsuits.
 
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ITEM 1A: RISK FACTORS
 
Please see the cautionary language regarding forward-looking statements in the introduction to Item 2 of Part I of this Report on Form 10-Q and Part I — Item 1A of our Report on Form 10-K for the fiscal year ended December 31, 2010, for information regarding risk factors. Other than the additional risk factors mentioned below, there are no material changes from the risk factors set forth in such Annual Report on Form 10-K.
 
We face potential risks from litigation brought against the Company and the Bank. We are from time to time involved in various lawsuits and legal proceedings. As discussed in Legal Proceedings in Part II, Item 1 of this Form 10-Q, the Bank, along with other co-defendants, including a former President and Chief Executive Officer of the Banks trust division, has been named as a defendant in two lawsuits filed by clients, or purported clients, of the Banks trust division who invested in promissory notes issued by Distinctive Properties (UK) Limited, a company involved in the purchase and development of real estate in the United Kingdom. In one of the lawsuits, the plaintiffs allege that the investments in the notes were part of a multi-million dollar Ponzi scheme. While we cannot with certainty determine the potential outcome of this or any other pending or threatened litigation against the Company or the Bank, litigation-related costs and any legal liability as a result of an adverse determination with respect to one or more of these legal proceedings could have a material adverse effect on our business, cash flows, financial position and results of operations and could cause us significant reputational harm, including without limitation as a result of negative publicity the Company may face even if it prevails in such legal proceedings, which could adversely affect our business prospects.
 
Recently enacted financial reform legislation and rules promulgated thereunder may adversely affect us. The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”), was signed into law by President Obama on July 21, 2010. The Dodd-Frank Act represents a comprehensive overhaul of the financial services industry within the United States, establishes the new federal Bureau of Consumer Financial Protection (the “BCFP”), and will require the BCFP and other federal agencies to implement many new rules.
 
Among the many requirements in the Dodd-Frank Act for new banking regulations is a requirement for new capital regulations to be adopted within 18 months. These regulations must be at least as stringent as, and may call for higher levels of capital than, current regulations. Generally, trust preferred securities will no longer be eligible as Tier 1 capital, but the Company’s currently outstanding trust preferred securities will be grandfathered and its currently outstanding TARP preferred securities will continue to qualify as Tier 1 capital.
 
Certain provisions of the Dodd-Frank Act are expected to have a near term impact on us. For example, one year after the date of its enactment, the Dodd-Frank Act eliminates the federal prohibitions on paying interest on demand deposits, thus allowing businesses to have interest bearing checking accounts. Depending on competitive responses, this significant change to existing law could have an adverse impact on our interest expense. The Dodd-Frank Act also permanently increases the general limit on deposit insurance for banks to $250,000 and provides that non-interest bearing transaction accounts have unlimited deposit insurance through December 31, 2012.
 
The Dodd-Frank Act requires publicly traded companies to give stockholders a non-binding vote on executive compensation and so-called "golden parachute" payments, and authorizes the Securities and Exchange Commission to promulgate rules that would allow stockholders to nominate their own candidates using a company's proxy materials. The legislation also directs the federal banking regulators to issue rules prohibiting incentive compensation that encourages inappropriate risks.
 
The BCFP will have broad powers to promulgate and enforce new consumer protection regulations under the Dodd-Frank Act that apply to all banks, including the authority to prohibit “unfair, deceptive or abusive acts and practices.”
 
The Dodd-Frank Act and the resulting regulations will likely affect the Company’s business and operations in other ways which are difficult to predict at this time. However, compliance with these new laws and regulations will result in additional costs, which may adversely impact the Company’s results of operations, financial condition or liquidity, any of which may impact the market price of the Company’s common stock.
 
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ITEM 6: EXHIBITS
 
Exhibit    
Number       Description  
    Registrant hereby agrees to furnish to the Commission, upon request, the instruments defining the rights of holders of each issue of long-term debt of Registrant and its consolidated subsidiaries.
     
*10.1   Purchase and Assumption Agreement dated January 7, 2011, by and between Enterprise Bank & Trust and the Federal Deposit Insurance Corporation as Receiver for Legacy Bank
 
*12.1   Computation of Ratio of Earnings to Fixed Charges and Preferred Dividends
     
*31.1   Chief Executive Officer’s Certification required by Rule 13(a)-14(a).
     
*31.2   Chief Financial Officer’s Certification required by Rule 13(a)-14(a).
     
**32.1   Chief Executive Officer Certification pursuant to 18 U.S.C. § 1350, as adopted pursuant to section § 906 of the Sarbanes-Oxley Act of 2002.
     
**32.2   Chief Financial Officer Certification pursuant to 18 U.S.C. § 1350, as adopted pursuant to section § 906 of the Sarbanes-Oxley Act of 2002.

* Filed herewith
 
** Furnished herewith. Notwithstanding any incorporation of this Quarterly Statement on Form 10-Q in any other filing by the Registrant, Exhibits furnished herewith and designated with two (**) shall not be deemed incorporated by reference to any other filing unless specifically otherwise set forth herein or therein.
 
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SIGNATURES
 
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Clayton, State of Missouri on the day of May 9, 2011.
 
  ENTERPRISE FINANCIAL SERVICES CORP
   
  By: /s/ Peter F. Benoist  
                Peter F. Benoist
                Chief Executive Officer
   
  By:  /s/ Frank H. Sanfilippo  
                Frank H. Sanfilippo
                Chief Financial Officer

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