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EX-32 - CERTIFICATION OF THE CEO & CFO PURSUANT TO SECTION 906 - ZIONS BANCORPORATION /UT/dex32.htm
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EX-31.1 - CERTIFICATION OF THE CEO PURSUANT TO SECTION 302 - ZIONS BANCORPORATION /UT/dex311.htm
EX-31.2 - CERTIFICATION OF THE CFO PURSUANT TO SECTION 302 - ZIONS BANCORPORATION /UT/dex312.htm
Table of Contents

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, 2010

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                  to                 

COMMISSION FILE NUMBER 001-12307

ZIONS BANCORPORATION

(Exact name of registrant as specified in its charter)

 

UTAH

 

87-0227400

(State or other jurisdiction

of incorporation or organization)

 

(I.R.S. Employer

Identification No.)

ONE SOUTH MAIN, 15TH FLOOR

SALT LAKE CITY, UTAH

 

84133

(Address of principal executive offices)   (Zip Code)

Registrant’s telephone number, including area code: (801) 524-4787

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes  x    No   ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§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 the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

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

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes  ¨    No   x

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

 

Common Stock, without par value, outstanding at April 30, 2010    160,261,186 shares


Table of Contents

ZIONS BANCORPORATION AND SUBSIDIARIES

INDEX

 

         Page

PART I.

 

FINANCIAL INFORMATION

  

    ITEM 1.

 

Financial Statements (Unaudited)

  
 

Consolidated Balance Sheets

   3
 

Consolidated Statements of Income

   4
 

Consolidated Statements of Changes in Shareholders’ Equity and Comprehensive Income

   5
 

Consolidated Statements of Cash Flows

   6
 

Notes to Consolidated Financial Statements

   8

    ITEM 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   35

    ITEM 3.

 

Quantitative and Qualitative Disclosures About Market Risk

   71

    ITEM 4.

 

Controls and Procedures

   71

PART II.

 

OTHER INFORMATION

  

    ITEM 1.

 

Legal Proceedings

   72

    ITEM 1A.

 

Risk Factors

   72

    ITEM 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

   72

    ITEM 6.

 

Exhibits

   72

SIGNATURES

   75

 

2


Table of Contents

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (Unaudited)

ZIONS BANCORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

 

(In thousands, except share amounts)    March 31,
2010
   December 31,
2009
   March 31,
2009
     (Unaudited)         (Unaudited)

ASSETS

        

Cash and due from banks

   $ 1,045,391     $ 1,370,189     $ 1,321,972 

Money market investments:

        

Interest-bearing deposits and commercial paper

     3,410,211       652,964       1,952,555 

Federal funds sold

     44,436       20,985       13,277 

Security resell agreements

     73,112       57,556       305,111 

Investment securities:

        

Held-to-maturity, at adjusted cost (approximate fair value $820,689, $833,455 and $1,361,460)

     867,335       869,595       1,648,971 

Available-for-sale, at fair value

     3,437,098       3,655,619       3,086,788 

Trading account, at fair value

     50,698       23,543       65,198 
                    
     4,355,131       4,548,757       4,800,957 

Loans held for sale

     171,892       208,567       262,785 

Loans:

        

Loans and leases excluding FDIC-supported loans

     37,820,588       38,882,083       41,220,610 

FDIC-supported loans

     1,320,737       1,444,594       660,892 
                    
     39,141,325       40,326,677       41,881,502 

Less:

        

Unearned income and fees, net of related costs

     131,723       137,697       124,749 

Allowance for loan losses

     1,581,577       1,531,332       832,878 
                    

Loans and leases, net of allowance

     37,428,025       38,657,648       40,923,875 

Other noninterest-bearing investments

     909,601       1,099,961       1,051,956 

Premises and equipment, net

     707,387       710,534       701,742 

Goodwill

     1,015,161       1,015,161       1,034,465 

Core deposit and other intangibles

     106,839       113,416       124,585 

Other real estate owned

     414,237       389,782       243,609 

Other assets

     2,031,558       2,277,487       1,808,123 
                    
   $   51,712,981     $   51,123,007     $   54,545,012 
                    

LIABILITIES AND SHAREHOLDERS’ EQUITY

        

Deposits:

        

Noninterest-bearing demand

   $ 12,799,002     $ 12,324,247     $ 10,517,910 

Interest-bearing:

        

Savings and NOW

     5,978,536       5,843,573       4,710,899 

Money market

     16,667,011       16,378,874       18,103,564 

Time under $100,000

     2,306,101       2,497,395       3,112,864 

Time $100,000 and over

     2,697,261       3,117,472       4,647,015 

Foreign

     1,647,898       1,679,028       2,214,981 
                    
     42,095,809       41,840,589       43,307,233 

Securities sold, not yet purchased

     47,890       43,404       39,892 

Federal funds purchased

     477,959       208,669       1,213,970 

Security repurchase agreements

     475,832       577,346       551,686 

Other liabilities

     563,683       588,527       578,768 

Commercial paper

     3,123       1,084       984 

Federal Home Loan Bank advances and other borrowings:

        

One year or less

     175,312       120,189       429,655 

Over one year

     15,640       15,722       127,680 

Long-term debt

     2,000,821       2,017,220       2,715,310 
                    

Total liabilities

     45,856,069       45,412,750       48,965,178 
                    

Shareholders’ equity:

        

Preferred stock, without par value, authorized 3,000,000 shares

     1,532,323       1,502,784       1,587,027 

Common stock, without par value; authorized 350,000,000 shares; issued and outstanding 160,300,162, 150,425,070 and 115,335,668 shares

     3,517,621       3,318,417       2,607,541 

Retained earnings

     1,236,497       1,324,516       1,713,897 

Accumulated other comprehensive income (loss)

     (428,177)      (436,899)      (340,727)

Deferred compensation

     (16,058)      (16,160)      (14,732)
                    

Controlling interest shareholders’ equity

     5,842,206       5,692,658       5,553,006 

Noncontrolling interests

     14,706       17,599       26,828 
                    

Total shareholders’ equity

     5,856,912       5,710,257       5,579,834 
                    
   $ 51,712,981     $ 51,123,007     $ 54,545,012 
                    

See accompanying notes to consolidated financial statements.

 

3


Table of Contents

ZIONS BANCORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

 

     Three Months Ended
March 31,
(In thousands, except per share amounts)    2010    2009

Interest income:

     

Interest and fees on loans

   $ 540,446     $ 579,852 

Interest on loans held for sale

     2,363       2,756 

Lease financing

     5,129       4,593 

Interest on money market investments

     1,439       3,376 

Interest on securities:

     

Held-to-maturity – taxable

     2,456       18,908 

Held-to-maturity – nontaxable

     5,135       6,265 

Available-for-sale – taxable

     20,971       21,703 

Available-for-sale – nontaxable

     1,721       1,678 

Trading account

     475       571 
             

Total interest income

     580,135       639,702 
             

Interest expense:

     

Interest on savings and money market deposits

     36,389       74,553 

Interest on time and foreign deposits

     19,687       62,679 

Interest on short-term borrowings

     3,067       6,020 

Interest on long-term borrowings

     65,692       21,675 
             

Total interest expense

     124,835       164,927 
             

Net interest income

     455,300       474,775 

Provision for loan losses

     265,565       297,624 
             

Net interest income after provision for loan losses

     189,735       177,151 
             

Noninterest income:

     

Service charges and fees on deposit accounts

     51,608       52,788 

Other service charges, commissions and fees

     39,042       38,227 

Trust and wealth management income

     7,609       7,165 

Capital markets and foreign exchange

     8,539       13,204 

Dividends and other investment income

     7,700       8,408 

Loan sales and servicing income

     6,432       5,851 

Fair value and nonhedge derivative income

     2,188       4,004 

Equity securities gains (losses), net

     (3,165)      2,763 

Fixed income securities gains, net

     1,256       195 

Impairment losses on investment securities:

     

Impairment losses on investment securities

     (48,570)      (165,616)

Noncredit-related losses on securities not expected to be sold (recognized in other comprehensive income)

     17,307       82,943 
             

Net impairment losses on investment securities

     (31,263)      (82,673)

Valuation losses on securities purchased

     –         (200,391)

Gain on subordinated debt exchange

     14,471       –   

Other

     3,193       5,197 
             

Total noninterest income

     107,610       (145,262)
             

Noninterest expense:

     

Salaries and employee benefits

     204,333       204,161 

Occupancy, net

     28,488       28,327 

Furniture and equipment

     24,996       24,999 

Other real estate expense

     32,648       18,343 

Legal and professional services

     9,976       8,543 

Postage and supplies

     7,646       8,410 

Advertising

     6,374       7,148 

FDIC premiums

     24,210       14,171 

Amortization of core deposit and other intangibles

     6,577       6,886 

Provision for unfunded lending commitments

     (20,133)      1,827 

Other

     64,011       53,390 
             

Total noninterest expense

     389,126       376,205 
             

Impairment loss on goodwill

     –         633,992 
             

Income (loss) before income taxes

     (91,781)      (978,308)

Income taxes (benefit)

     (28,644)      (151,727)
             

Net income (loss)

     (63,137)      (826,581)

Net income (loss) applicable to noncontrolling interests

     (2,927)      (540)
             

Net income (loss) applicable to controlling interest

     (60,210)      (826,041)

Preferred stock dividends

     (26,311)      (26,286)
             

Net earnings (loss) applicable to common shareholders

   $ (86,521)    $ (852,327)
             

Weighted average common shares outstanding during the period:

     

Basic shares

     151,073       114,106 

Diluted shares

     151,073       114,106 

Net earnings (loss) per common share:

     

Basic

   $ (0.57)    $ (7.47)

Diluted

     (0.57)      (7.47)

See accompanying notes to consolidated financial statements.

 

4


Table of Contents

ZIONS BANCORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY AND COMPREHENSIVE INCOME

(Unaudited)

 

(In thousands, except per
share amounts)
   Preferred
stock
             Retained
earnings
   Accumulated
other
comprehensive
income (loss)
   Deferred
compensation
   Noncontrolling
interests
   Total
shareholders’
equity
      Common stock               
      Shares    Amount               

Balance, December 31, 2009

   $ 1,502,784     150,425,070     $ 3,318,417     $ 1,324,516     $ (436,899)    $ (16,160)    $ 17,599     $ 5,710,257 

Comprehensive loss:

                       

Net loss for the period

              (60,210)            (2,927)      (63,137)

Other comprehensive income (loss), net of tax:

                       

Net realized and unrealized holding gains on investments

                 10,565          

Reclassification for net losses on investments included in earnings

                 18,521          

Noncredit-related impairment losses on securities not expected to be sold

                 (10,687)         

Accretion of securities with noncredit-related impairment losses not expected to be sold

                 39          

Net unrealized losses on derivative instruments

                 (9,716)         
                           

Other comprehensive income

                 8,722             8,722 
                           

Total comprehensive loss

                          (54,415)

Subordinated debt exchanged for common stock

      2,165,391       46,902                   46,902 

Subordinated debt converted to preferred stock

     24,612          (3,578)                  21,034 

Issuance of common stock

      7,741,740       149,908                   149,908 

Stock forfeited and purchased, net of stock issued, under employee plans and related tax benefits

      (32,039)      5,972                   5,972 

Dividends on preferred stock

     4,927             (26,311)               (21,384)

Dividends on common stock, $0.01 per share

              (1,498)               (1,498)

Change in deferred compensation

                    102          102 

Other changes in noncontrolling interests

                       34       34 
                                                     

Balance, March 31, 2010

   $ 1,532,323     160,300,162     $ 3,517,621     $ 1,236,497     $ (428,177)    $ (16,058)    $ 14,706     $ 5,856,912 
                                                     

Balance, December 31, 2008

   $ 1,581,834     115,344,813     $ 2,599,916     $ 2,433,363     $ (98,958)    $ (14,459)    $ 27,320     $ 6,529,016 

Cumulative effect of change in accounting principle, adoption of new OTTI guidance under ASC 320

              137,462       (137,462)            –   

Comprehensive loss:

                       

Net loss for the period

              (826,041)            (540)      (826,581)

Other comprehensive income (loss), net of tax:

                       

Net realized and unrealized holding losses on investments and retained interests

                 (83,553)         

Reclassification for net losses on investments included in earnings

                 38,862          

Noncredit-related impairment losses on securities not expected to be sold

                 (49,928)         

Accretion of securities with noncredit-related impairment losses not expected to be sold

                 896          

Net unrealized losses on derivative instruments

                 (10,584)         
                           

Other comprehensive loss

                 (104,307)            (104,307)
                           

Total comprehensive loss

                          (930,888)

Stock forfeited and purchased, net of stock issued, under employee plans and related tax benefits

      (9,145)      7,625                   7,625 

Dividends on preferred stock

     5,193             (26,286)               (21,093)

Dividends on common stock, $0.04 per share

              (4,601)               (4,601)

Change in deferred compensation

                    (273)         (273)

Other changes in noncontrolling interests

                       48       48 
                                                     

Balance, March 31, 2009

   $ 1,587,027     115,335,668     $ 2,607,541     $ 1,713,897     $ (340,727)    $ (14,732)    $ 26,828     $ 5,579,834 
                                                     

See accompanying notes to consolidated financial statements.

 

5


Table of Contents

ZIONS BANCORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

     Three Months Ended
March 31,
(In thousands)    2010    2009

CASH FLOWS FROM OPERATING ACTIVITIES:

     

Net loss for the period

   $ (63,137)    $ (826,581)

Adjustments to reconcile net loss to net cash provided by operating activities:

     

Impairment and valuation losses on investment securities and goodwill

     31,263       917,056 

Gain on subordinated debt exchange

     (14,471)      –   

Provision for credit losses

     245,432       299,451 

Depreciation of premises and equipment

     18,316       18,613 

Amortization

     27,938       17,783 

Deferred income tax benefit

     (36,163)      (158,607)

Share-based compensation

     6,902       8,137 

Excess tax benefits from share-based compensation

     (3)      (17)

Equity securities losses (gains), net

     3,165       (2,763)

Fixed income securities gains, net

     (1,256)      (195)

Net increase in trading securities

     (27,155)      (23,134)

Principal payments on and proceeds from sales of loans held for sale

     342,418       476,030 

Additions to loans held for sale

     (317,437)      (543,368)

Net write-down of and losses from sales of other real estate owned

     27,112       30,018 

Net gains on sales of loans, leases and other assets

     (3,033)      (5,046)

Income from increase in cash surrender value of bank-owned life insurance

     (5,323)      (5,829)

Change in accrued income taxes

     363,840       5,483 

Change in accrued interest receivable

     10,070       27,336 

Change in other assets

     93,303       152,856 

Change in other liabilities

     (20,591)      (85,853)

Change in accrued interest payable

     (6,474)      (5,035)

Other, net

     (5,428)      (10,319)
             

Net cash provided by operating activities

     669,288       286,016 
             

CASH FLOWS FROM INVESTING ACTIVITIES:

     

Net decrease (increase) in money market investments

     (2,796,254)      435,569 

Proceeds from maturities and paydowns of investment securities held-to-maturity

     26,651       29,670 

Purchases of investment securities held-to-maturity

     (22,884)      (16,488)

Proceeds from sales of investment securities available-for-sale

     314,425       223,267 

Proceeds from maturities and paydowns of investment securities available-for-sale

     96,592       121,192 

Purchases of investment securities available-for-sale

     (196,548)      (942,368)

Proceeds from sales of loans and leases

     35,163       16,311 

Loan and lease originations, net of collections

     788,877       242,710 

Net decrease in other noninterest-bearing investments

     16,613       5,858 

Proceeds from sales of premises and equipment and other assets

     276       4,715 

Purchases of premises and equipment

     (15,825)      (37,275)

Proceeds from sales of other real estate owned

     105,981       27,275 

Net cash received from acquisition

     –         113,471 
             

Net cash provided by (used in) investing activities

     (1,646,933)      223,907 
             

 

6


Table of Contents

ZIONS BANCORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)

(Unaudited)

 

     Three Months Ended
March 31,
(In thousands)    2010    2009

CASH FLOWS FROM FINANCING ACTIVITIES:

     

Net increase in deposits

   $ 257,421     $ 947,125 

Net change in short-term funds borrowed

     229,424       (1,830,753)

Repayments of FHLB advances and other borrowings over one year

     (82)      (573)

Proceeds from issuance of long-term debt

     39,698       255,167 

Debt issuance costs

     (178)      (9,024)

Repayments of long-term debt

     (61)      (69)

Proceeds from issuance of common stock

     149,908       –   

Payments to redeem common stock

     (404)      (123)

Excess tax benefits from share-based compensation

          17 

Dividends paid on preferred stock

     (21,384)      (21,093)

Dividends paid on common stock

     (1,498)      (4,601)
             

Net cash provided by (used in) financing activities

     652,847       (663,927)
             

Net decrease in cash and due from banks

     (324,798)      (154,004)

Cash and due from banks at beginning of period

     1,370,189       1,475,976 
             

Cash and due from banks at end of period

   $ 1,045,391     $ 1,321,972 
             

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:

     

Cash paid for:

     

Interest

   $ 102,672     $ 159,327 

Net payment made (refund received) for income taxes

     (352,753)      (224)

Noncash items:

     

Amortized cost of investment securities held-to-maturity transferred to investment securities available-for-sale

     –         41,304 

Loans transferred to other real estate owned

     161,025       79,440 

Subordinated debt exchanged for common stock

     46,902       –   

Subordinated debt converted to preferred stock

     21,034       –   

Acquisitions:

     

Assets acquired

     –         1,145,251 

Liabilities assumed

     –         1,157,240 

See accompanying notes to consolidated financial statements.

 

7


Table of Contents

ZIONS BANCORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

March 31, 2010

 

1. BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements of Zions Bancorporation (“the Parent”) and its majority-owned subsidiaries (collectively “the Company,” “Zions,” “we,” “our,” “us”) have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Certain prior period amounts have been reclassified to conform to the current period presentation. These reclassifications did not affect net income.

Operating results for the three-month period ended March 31, 2010 are not necessarily indicative of the results that may be expected in future periods. The consolidated balance sheet at December 31, 2009 is from the audited financial statements at that date, but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s 2009 Annual Report on Form 10-K.

The Company provides a full range of banking and related services through banking subsidiaries in ten Western and Southwestern states as follows: Zions First National Bank (“Zions Bank”), in Utah and Idaho; California Bank & Trust (“CB&T”); Amegy Corporation (“Amegy”) and its subsidiary, Amegy Bank, in Texas; National Bank of Arizona (“NBA”); Nevada State Bank (“NSB”); Vectra Bank Colorado (“Vectra”), in Colorado and New Mexico; The Commerce Bank of Washington (“TCBW”); and The Commerce Bank of Oregon (“TCBO”). The Company also owns and operates certain nonbank subsidiaries that engage in the development and sale of financial technologies and related services, and in wealth management services.

 

2. CERTAIN RECENT ACCOUNTING PRONOUNCEMENTS

Effective January 1, 2010, we adopted Accounting Standards Update (“ASU”) 2009-17, Amendments to FASB Interpretation No. 46(R), (formerly Statement of Financial Accounting Standards (“SFAS”) No. 167). This new accounting guidance from the Financial Accounting Standards Board (“FASB”) under Accounting Standards Codification (“ASC”) 810, Consolidation, requires that a continuous analysis be performed on a qualitative rather than a quantitative basis to determine the primary beneficiary of a variable interest entity (“VIE”). The new rules amend previous guidance to determine whether an entity is a VIE and require enhanced disclosures about our involvement with a VIE. Upon adoption, we reconsidered our consolidation conclusions for all entities with which we are involved and concluded that there was no significant impact on the Company’s financial statements.

Effective January 1, 2010, we adopted ASU 2009-16, Accounting for Transfers of Financial Assets, an amendment of FASB Statement No. 140, (formerly SFAS No. 166). This new accounting guidance under ASC 860, Transfers and Servicing, modifies the accounting for transfers of financial assets and removes the concept of a qualifying special-purpose entity (“QSPE”). In 2009, we dissolved Lockhart Funding LLC (“Lockhart”), a QSPE funded with commercial paper, and our remaining activities related to transfers of financial assets were not significant as of January 1, 2010. Accordingly, the adoption of this new guidance did not have a significant impact on the Company’s financial statements.

 

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Additional accounting guidance recently adopted is discussed where applicable in the Notes to Consolidated Financial Statements.

 

3. ACQUISITION-RELATED LOANS

During 2009, CB&T and NSB acquired failed banks from the Federal Deposit Insurance Corporation (“FDIC”) as receiver and entered into loss sharing agreements with the FDIC for the acquired loans and foreclosed assets. The FDIC assumes 80% of credit losses up to a threshold specified for each acquisition and 95% above the threshold for a period of up to ten years. The loans acquired from the FDIC are presented separately in the Company’s balance sheet as “FDIC-supported loans.” At the date of acquisition, in accordance with applicable accounting guidance, these loans were recorded at fair value without a corresponding allowance for loan losses. The acquired foreclosed assets are included with other real estate owned in the balance sheet and amounted to $47.4 million at March 31, 2010 and $54.1 million at December 31, 2009.

Loans acquired from the FDIC with evidence of credit deterioration, and for which it is probable that not all contractual payments will be collected, are accounted for as loans under ASC 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality. The outstanding balances of all contractually required payments and the related carrying amounts are as follows (in thousands):

 

     March 31,
2010
   December 31,
2009
   March 31,
2009

Commercial lending

   $ 120,858     $ 135,726     $ 41,501 

Commercial real state

     545,049       597,490       118,862 

Consumer

     11,374       14,261       3,035 
                    

Outstanding balance

   $ 677,281     $ 747,477     $   163,398 
                    

Carrying amount, net of allowance for loan losses of $2,583 in 20101

   $   332,322     $ 388,500     $ 64,935 
                    

 

1

The allowance for loan losses was determined subsequent to acquisition. Charge-offs for the three months ended March 31, 2010 were $2,056. See discussion that follows regarding the “gross” presentation of this allowance amount, which is included in the overall allowance for loan losses on the balance sheet, and the amount recoverable under the FDIC loss sharing agreements, which is included in other assets.

At the time of acquisition, we determine the excess of the loan’s contractually required payments over all cash flows expected to be collected as an amount that should not be accreted (nonaccretable difference). The remaining amount, representing the excess of the loan’s expected cash flows over our initial investment (accretable yield), is accreted into interest income on a level yield basis over the remaining expected life of the loan or pool of loans. The effects of estimated prepayments are considered in estimating the contractual and expected cash flows.

Over the life of the loan or pool, we continue to estimate cash flows expected to be collected. We evaluate at the balance sheet date whether the present value of these loans determined using the effective interest rates has decreased and if so, we record a provision for loan losses. The present value of any subsequent increase in the loan’s actual or expected cash flows is used first to reverse any existing allowance for loan losses. For any remaining increases in cash flows expected to be collected, we adjust the amount of accretable yield on a prospective basis over the remaining life of the loan.

Certain acquired loans within the scope of ASC 310-30 are not accounted for in accordance with ASC 310-30 because we cannot reasonably estimate the cash flows expected to be collected. The carrying amounts of these loans, included in the carrying amounts net of the allowance in the preceding table, were $178.8 million, $203.9 million, and $35.2 million, respectively, for the dates indicated.

 

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Changes in the accretable yield were as follows (in thousands):

 

     Three Months Ended
March 31,
     2010    2009

Balance at beginning of period

   $ 23,008     $ –   

Additions

     –         3,457 

Accretion

     (2,744)      (575)

Reclassification from (to) nonaccretable difference

     5,054    

Disposals and other

     (230)      370 
             

Balance at end of period

   $   25,088     $   3,252 
             

Amounts have been adjusted based on refinements to the original estimates of the accretable yield and to the accounting methodology. Further, because of the estimation process required, we expect that additional refinements will be necessary in future periods.

During the three months ended March 31, 2010, we increased the allowance for loan losses by a charge to the provision for loan losses of $4.6 million. As discussed subsequently, a portion of these amounts are recoverable from the FDIC in accordance with the loss sharing agreements. The allowance for loan losses was not reversed during these periods for a significant increase in cash flows previously expected to be collected.

Interest income on nonimpaired loans acquired in a business combination, including FDIC-supported transactions, is recognized based on the acquired loan’s contractual cash flows, as described in ASC 310-20, Nonrefundable Fees and Other Costs.

The total estimated amount recoverable from the FDIC under the loss sharing agreements was $275.8 million at March 31, 2010 and $293.3 million at December 31, 2009. The amount was initially fair valued using projected cash flows based on credit adjustments for each loan type and the loss sharing reimbursement of 80% or 95%, as appropriate. The timing of the cash flows was adjusted to reflect management’s expectations to receive the FDIC reimbursements within the estimated loss period. Discount rates were based on U.S. Treasury rates or the AAA composite yield on investment grade bonds of similar maturity. The amount is adjusted as actual loss experience is developed and estimated losses covered under the loss sharing agreements are updated. Estimated loan losses, if any, in excess of the amounts recoverable are reflected as period expenses through the provision for loan losses, as discussed previously.

Subsequent to the acquisitions, the allowance for loan losses for FDIC-supported loans is determined without giving consideration to the amounts recoverable under the loss sharing agreements (since the loss sharing agreements are separately accounted for and thus presented “gross” on the balance sheet). The provision for loan losses is reported net of changes in the amounts recoverable under the loss sharing agreements.

 

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4. INVESTMENT SECURITIES

Investment securities are summarized as follows (in thousands):

 

     March 31, 2010
          Recognized in OCI 1         Not recognized in OCI 1     
     Amortized cost    Gross
unrealized
gains
   Gross
unrealized
losses
   Carrying value    Gross
unrealized
gains
   Gross
unrealized
losses
   Estimated fair
value

Held-to-maturity

                    

Municipal securities

   $ 602,804     $ –       $ –       $ 602,804     $ 8,951     $ 4,806     $ 606,949 

Asset-backed securities:

                    

Trust preferred securities – banks and insurance

     264,701       –         25,667       239,034       267       42,990       196,311 

Other

     29,984       –         4,587       25,397       458       8,525       17,330 

Other debt securities

     100       –         –         100       –              99 
                                                
   $ 897,589     $ –       $ 30,254     $ 867,335     $   9,676     $   56,322     $ 820,689 
                                                

Available-for-sale

                    

U.S. Treasury securities

     27,669     $ 350     $ –       $ 28,019           $ 28,019 

U.S. Government agencies and corporations:

                    

Agency securities

     224,278       6,793       93       230,978             230,978 

Agency guaranteed mortgage-backed securities

     371,596       11,557       425       382,728             382,728 

Small Business Administration loan-backed securities

     798,005       3,369       16,061       785,313             785,313 

Municipal securities

     230,474       5,054       549       234,979             234,979 

Asset-backed securities:

                    

Trust preferred securities – banks and insurance

     1,994,937       55,552       697,549       1,352,940             1,352,940 

Trust preferred securities – real estate investment trusts

     54,232       –         30,378       23,854             23,854 

Auction rate securities

     156,358       823       386       156,795             156,795 

Other

     115,777       1,413       45,855       71,335             71,335 
                                        
     3,973,326       84,911       791,296       3,266,941             3,266,941 

Other securities:

                    

Mutual funds and stock

     170,081       76       –         170,157             170,157 
                                        
   $   4,143,407     $   84,987     $   791,296     $   3,437,098           $   3,437,098 
                                        

 

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     March 31, 2009
          Recognized in OCI 1         Not recognized in OCI 1     
     Amortized cost    Gross
unrealized
gains
   Gross
unrealized
losses
   Carrying value    Gross
unrealized
gains
   Gross
unrealized
losses
   Estimated fair
value

Held-to-maturity

                    

Municipal securities

   $ 679,709     $ –       $ –       $ 679,709     $ 7,862     $ 9,962     $ 677,609 

Asset-backed securities:

                    

Trust preferred securities – banks and insurance

     1,224,597       –         341,155       883,442       33,670       289,051       628,061 

Trust preferred securities – real estate investment trusts

     36,055       –         8,599       27,456       –         9,036       18,420 

Other

     76,374       48       18,158       58,264       586       21,578       37,272 

Other debt securities

     100       –         –         100       –              98 
                                                
   $ 2,016,835     $ 48     $ 367,912     $ 1,648,971     $ 42,118     $ 329,629     $ 1,361,460 
                                                

Available-for-sale

                    

U.S. Treasury securities

   $ 26,977     $ 888     $ –       $ 27,865           $ 27,865 

U.S. Government agencies and corporations:

                    

Agency securities

     305,317       3,014       312       308,019             308,019 

Agency guaranteed mortgage-backed securities

     465,285       9,370       483       474,172             474,172 

Small Business Administration loan-backed securities

     682,179       92       26,487       655,784             655,784 

Municipal securities

     241,444       2,588       172       243,860             243,860 

Asset-backed securities:

                    

Trust preferred securities – banks and insurance

     1,235,636       5,513       342,169       898,980             898,980 

Trust preferred securities – real estate investment trusts

     59,188       –         38,169       21,019             21,019 

Auction rate securities

     177,880       –         –         177,880             177,880 

Other

     123,900       200       34,756       89,344             89,344 
                                        
     3,317,806       21,665       442,548       2,896,923             2,896,923 

Other securities:

                    

Mutual funds and stock

     189,865       –         –         189,865             189,865 
                                        
   $ 3,507,671     $ 21,665     $ 442,548     $ 3,086,788           $ 3,086,788 
                                        

 

1

Other comprehensive income

The amortized cost and estimated fair value of investment debt securities are shown below as of March 31, 2010 by expected maturity distribution for asset-backed securities and by contractual maturity distribution for other debt securities. Actual maturities may differ from expected or contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties (in thousands):

 

     Held-to-maturity    Available-for-sale
     Amortized
cost
   Estimated
fair value
   Amortized
cost
   Estimated
fair value

Due in one year or less

   $ 83,573     $ 83,858     $ 356,412     $ 349,419 

Due after one year through five years

     249,951       251,095       851,468       798,731 

Due after five years through ten years

     238,683       215,803       703,755       624,436 

Due after ten years

     325,382       269,933       2,061,691       1,494,355 
                           
   $   897,589     $   820,689     $   3,973,326     $   3,266,941 
                           

 

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The following is a summary of the amount of gross unrealized losses for debt securities and the estimated fair value by length of time the securities have been in an unrealized loss position (in thousands):

 

     March 31, 2010
     Less than 12 months    12 months or more    Total
     Gross
unrealized
losses
   Estimated
fair value
   Gross
unrealized
losses
   Estimated
fair value
   Gross
unrealized
losses
   Estimated
fair value

Held-to-maturity

                 

Municipal securities

   $ 743     $ 43,450     $ 4,063     $ 26,998     $ 4,806     $ 70,448 

Asset-backed securities:

                 

Trust preferred securities – banks and insurance

     –         –         68,657       196,311       68,657       196,311 

Other

     –         –         13,112       17,330       13,112       17,330 

Other debt securities

     –         –              99            99 
                                         
   $ 743     $ 43,450     $ 85,833     $ 240,738     $ 86,576     $ 284,188 
                                         

Available-for-sale

                 

U.S. Government agencies and corporations:

                 

Agency securities

   $ 55     $ 5,248     $ 38     $ 1,671     $ 93     $ 6,919 

Agency guaranteed mortgage-backed securities

     425       48,232       –         –         425       48,232 

Small Business Administration loan-backed securities

     2,101       67,505       13,960       488,164       16,061       555,669 

Municipal securities

     544       12,283            853       549       13,136 

Asset-backed securities:

                 

Trust preferred securities – banks and insurance

     14,154       68,573       683,395       897,006       697,549       965,579 

Trust preferred securities – real estate investment trusts

     8,522       305       21,856       23,549       30,378       23,854 

Auction rate securities

     206       35,517       180       10,861       386       46,378 

Other

     2,252       5,833       43,603       51,571       45,855       57,404 
                                         
   $   28,259     $   243,496     $   763,037     $   1,473,675     $   791,296     $   1,717,171 
                                         
     March 31, 2009
     Less than 12 months    12 months or more    Total
     Gross
unrealized
losses
   Estimated
fair value
   Gross
unrealized
losses
   Estimated
fair value
   Gross
unrealized
losses
   Estimated
fair value

Held-to-maturity

                 

Municipal securities

   $ 4,253     $ 101,875     $ 5,709     $ 33,820     $ 9,962     $ 135,695 

Asset-backed securities:

                 

Trust preferred securities – banks and insurance

     143       720       630,063       627,342       630,206       628,062 

Trust preferred securities – real estate investment trusts

     –         –         17,635       18,420       17,635       18,420 

Other

     12,474       10,697       27,262       26,575       39,736       37,272 

Other debt securities

          98       –         –              98 
                                         
   $ 16,872     $ 113,390     $ 680,669     $ 706,157     $ 697,541     $ 819,547 
                                         

Available-for-sale

                 

U.S. Government agencies and corporations:

                 

Agency securities

   $ 24     $ 5,773     $ 288     $ 34,430     $ 312     $ 40,203 

Agency guaranteed mortgage-backed securities

     414       61,623       69       6,814       483       68,437 

Small Business Administration loan-backed securities

     2,834       159,802       23,653       469,221       26,487       629,023 

Municipal securities

     147       76,499       25       2,579       172       79,078 

Asset-backed securities:

                 

Trust preferred securities – banks and insurance

     8,796       95,783       333,373       436,875       342,169       532,658 

Trust preferred securities – real estate investment trusts

     1,932       14,155       36,237       6,865       38,169       21,020 

Other

     4,572       16,201       30,184       58,518       34,756       74,719 
                                         
   $   18,719     $   429,836     $   423,829     $   1,015,302     $   442,548     $   1,445,138 
                                         

We conduct a formal review of investment securities on a quarterly basis under ASC 320, Investments – Debt and Equity, for the presence of other-than-temporary impairment (“OTTI”). We assess whether OTTI is present when the fair value of a debt security is less than its amortized cost basis at the balance sheet date. Under these circumstances, OTTI is considered to have occurred (1) if we intend to sell the security; (2) if it is “more likely than not” we will be required to sell the security before recovery of its amortized cost basis; or (3) the present value of expected cash flows is not sufficient to recover the entire amortized cost basis.

 

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Credit-related OTTI is recognized in earnings while noncredit-related OTTI on securities not expected to be sold is recognized in OCI. Noncredit-related OTTI is based on other factors, including illiquidity. Presentation of OTTI is made in the statement of income on a gross basis with an offset for the amount of OTTI recognized in OCI. For securities classified as held-to-maturity (“HTM”), the amount of OTTI recognized in OCI is accreted to the credit-adjusted expected cash flow amounts of the securities over future periods. Noncredit-related OTTI recognized in earnings prior to January 1, 2009 was previously reclassified from retained earnings to accumulated OCI as a cumulative effect adjustment.

As stated in our 2009 Annual Report on Form 10-K, our OTTI evaluation process also takes into consideration current market conditions, fair value in relationship to cost, extent and nature of change in fair value, issuer rating changes and trends, volatility of earnings, current analysts’ evaluations, all available information relevant to the collectibility of debt securities, our ability and intent to hold investments until a recovery of their amortized cost basis, which may be maturity, and other factors, when evaluating for the existence of OTTI in our securities portfolio. Additionally under ASC 325-40, Beneficial Interests in Securitized Financial Assets, OTTI is recognized as a realized loss through earnings when there has been an adverse change in the holder’s expected cash flows such that it is “probable” that the full amount will not be received.

For all available-for-sale (“AFS”) security types discussed below where we believe that no OTTI exists at March 31, 2010, we applied the criteria that we do not intend to sell the securities and it is not more likely than not that we will be required to sell the securities before recovery of their amortized cost basis. See the following conclusions resulting from our evaluation for the presence of OTTI.

Municipal securities

The HTM securities are purchased directly from the municipalities and are generally not rated by a credit rating agency. The AFS securities are rated as investment grade by various credit rating agencies. Both the HTM and AFS securities are at fixed and variable rates with maturities from one to 25 years. Fair values of these securities are largely driven by interest rates. We perform credit quality reviews on these securities at each reporting period. Because the decline in fair value is not attributable to credit quality, we believe that no OTTI exists for these securities at March 31, 2010.

Asset-backed securities

Trust preferred securities – banks and insurance: These CDO securities are variable rate pools of trust preferred securities related to banks and insurance companies. They are rated by one or more Nationally Recognized Statistical Rating Organizations (“NRSROs”) which are rating agencies registered with the SEC. They were purchased generally at par. Unrealized losses were caused mainly by the following factors: (1) collateral deterioration due to bank failures and credit concerns across the banking sector; (2) widening of credit spreads for asset-backed securities; and (3) general illiquidity in the market for CDOs. Our ongoing review of these securities in accordance with the previous discussion and the policy in our 2009 Annual Report on Form 10-K determined that OTTI should be recorded on certain of these securities.

Trust preferred securities – real estate investment trusts (“REIT”): These CDO securities are variable rate pools of trust preferred securities primarily related to real estate investment trusts, and are rated by one or more NRSROs. They were purchased generally at par. Unrealized losses were caused mainly by severe deterioration in mortgage REITs and homebuilder credit in addition to the same factors previously discussed for banks and insurance CDOs. Our ongoing review of these securities in accordance with the previous discussion and the policy in our 2009 Annual Report on Form 10-K determined that OTTI should be recorded on certain of these securities.

 

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Auction rate securities: These debt instruments primarily relate to auction market preferred stock and certain corporate and municipal bonds for which the interest rate was determined through an auction process. Due to the failure of these auctions and attendant illiquidity of the securities, the Company voluntarily purchased these securities at par in 2009 and recorded them at fair value. They had previously been sold to customers by certain Company subsidiaries. Adjustments to fair value when purchased from customers were included in valuation losses on securities purchased in 2009. Because subsequent declines in fair value were not attributable to credit quality, we believe that no OTTI exists for these securities at March 31, 2010.

Other asset-backed securities: The majority of these CDO securities were purchased from Lockhart at their carrying values and were adjusted to fair value. These adjustments to fair value were included in valuation losses on securities purchased in 2009. Certain of these CDOs consist of structured asset-backed CDOs (“ABS CDOs”) (also known as diversified structured finance CDOs). Our ongoing review of these securities in accordance with the previous discussion and the policy in our 2009 Annual Report on Form 10-K determined that OTTI should be recorded on certain of these securities.

U.S. Government agencies and corporations

Agency securities: These securities consist of discount notes and medium term notes issued by the Federal Agricultural Mortgage Corporation (“FAMC”), Federal Home Loan Bank (“FHLB”), Federal Farm Credit Bank, Federal Home Loan Mortgage Corporation (“FHLMC”), and Federal National Mortgage Association (“FNMA”). These securities are fixed rate and were purchased at premiums or discounts. They have maturity dates from one to 30 years and have contractual cash flows guaranteed by agencies of the U.S. Government. The U.S. Government has provided substantial liquidity to FNMA and FHLMC to bolster their creditworthiness. Because the decline in fair value is not attributable to credit quality, we believe that no OTTI exists for these securities at March 31, 2010.

Agency guaranteed mortgage-backed securities: These securities are comprised largely of fixed and variable rate residential and agricultural mortgage-backed securities issued by the Government National Mortgage Association (“GNMA”), FNMA, FAMC, or FHLMC. They have maturity dates from one to 30 years and have contractual cash flows guaranteed by agencies of the U.S. Government. The U.S. Government has provided substantial liquidity to both FNMA and FHLMC to bolster their creditworthiness. Because the decline in fair value is not attributable to credit quality, we believe that no OTTI exists for these securities at March 31, 2010.

Small Business Administration (“SBA”) loan-backed securities: These securities were generally purchased at premiums with maturities from five to 25 years and have principal cash flows guaranteed by the SBA. Because the decline in fair value is not attributable to credit quality, we believe that no OTTI exists for these securities at March 31, 2010.

 

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The following is a tabular roll-forward of the total amount of credit-related OTTI, including amounts recognized in current period earnings (in thousands):

 

     Three Months Ended March 31, 2010    Three Months Ended March 31, 2009
     HTM    AFS    Total    HTM    AFS    Total

Balance of credit-related OTTI at beginning of period

   $ (5,206)    $ (269,251)    $ (274,457)    $ (50,458)    $ (51,641)    $ (102,099)

Additions recognized in earnings during the period:

                 

Credit-related OTTI not previously recognized1

     –         (325)      (325)      (15,219)      (1,251)      (16,470)

Credit-related OTTI previously recognized when there is no intent to sell and no requirement to sell before recovery of amortized cost basis

     (12)      (30,926)      (30,938)      (2,487)      (63,716)      (66,203)
                                         

Subtotal of amounts recognized in earnings

     (12)      (31,251)      (31,263)      (17,706)      (64,967)      (82,673)

Transfers of securities from HTM to AFS

              21,315      (21,315)      –   
                                         

Balance of credit-related OTTI at end of period

   $   (5,218)    $   (300,502)    $   (305,720)    $   (46,849)    $   (137,923)    $   (184,772)
                                         

 

1

Relates to securities not previously impaired.

To determine the credit component of OTTI for all security types, we utilize projected cash flows as the best estimate of fair value. These cash flows are credit adjusted using, among other things, assumptions for default probability assigned to each portion of performing collateral. The credit adjusted cash flows are discounted at a security specific coupon rate to identify any OTTI, and then at a market rate for valuation purposes.

Noncredit-related OTTI of $17.3 million and $82.9 million ($10.7 million and $49.9 million after-tax) on securities not expected to be sold, and for which it is not more likely than not that we will be required to sell the securities before recovery of their amortized cost basis, was recognized in OCI during the three months ended March 31, 2010 and 2009, respectively. Of these amounts, for 2010, all of the $17.3 million related to AFS securities. For 2009, $6.3 million related to AFS securities and $76.6 million related to HTM securities. As of January 1, 2009, we reclassified to OCI $137.5 million after-tax as a cumulative effect adjustment for the noncredit-related portion of OTTI losses previously recognized in earnings.

At March 31, 2010 and 2009, respectively, 104 and 428 HTM and 619 and 719 AFS investment securities were in an unrealized loss position.

The following summarizes gains and losses, including OTTI, that were recognized in the statement of income (in thousands):

 

     Three Months Ended
March 31, 2010
   Three Months Ended
March 31, 2009
     Gross
gains
   Gross
losses
   Gross
gains
   Gross
losses

Investment securities:

           

Held-to-maturity

   $ –       $ 12     $ –       $ 17,706 

Available-for-sale

       1,284         31,279         2,870       265,372 

Other noninterest-bearing investments:

           

Securities held by consolidated SBICs

     2,072       5,237       155       53 
                           
     3,356       36,528       3,025       283,131 
                           

Net losses

      $ (33,172)       $ (280,106)
                   

Statement of income information:

           

Net impairment losses on investment securities

      $ (31,263)       $ (82,673)

Valuation losses on securities purchased

        –            (200,391)
                   
        (31,263)         (283,064)

Equity securities gains (losses), net

        (3,165)         2,763 

Fixed income securities gains, net

        1,256          195 
                   

Net losses

      $ (33,172)       $   (280,106)
                   

 

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Gains and losses on the sale of securities are recognized using the specific identification method and recorded in noninterest income.

Securities with a carrying value of $1.7 billion at March 31, 2010 and $1.8 billion at December 31, 2009 were pledged to secure public and trust deposits, advances, and for other purposes as required by law. Securities are also pledged as collateral for security repurchase agreements.

In October 2009, a hedge fund made offers to the preferred shareholders (“equity holders”) of four CDOs in which the Company held senior debt. The offers sought to induce the equity holders, in exchange for payments to be made outside of the CDO, to approve sales to the hedge fund of substantial amounts of performing collateral at deeply discounted prices. Such sales, if consummated, would be detrimental to the interests of the more senior tranches of the CDO.

The equity holders in one of the CDOs agreed to the proposed offer from the hedge fund, while the other three offers were not accepted. Our exposure to securities issued by the sole CDO with the accepted offer was $6.4 million of carrying value at March 31, 2010. This amount could be adversely affected if the sale of the performing collateral at significant discounts to fair value were to be permitted.

Certain holders, including the Company, of the more senior tranches of the CDO objected to the offer and the CDO trustee filed an interpleader action in the United States District Court for the Southern District of New York to resolve the validity of the offer. In the interim, the performing collateral will not be sold. As of March 31, 2010, the litigation was ongoing. The Company believes it has a substantial legal basis to block any such sales.

We do not expect that the ultimate judicial determination will permit the proposed sales, which would be in contravention of the terms of the governing agreements and of the seniority concepts within the CDO. We have not found that sufficient information was available to market participants at either the balance sheet date or filing date of the accompanying financial statements to support the expectation of an adverse outcome. As a result, we have not adjusted the projected cash flows at March 31, 2010 of the exposed CDO.

 

5. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

We record all derivatives on the balance sheet at fair value in accordance with ASC 815, Derivatives and Hedging. See Note 8 for a discussion of the determination of fair value for derivatives. The accounting for changes in the fair value of derivatives depends on the intended use of the derivative and the resulting designation. Derivatives used to hedge the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges. Derivatives used to hedge the exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges.

For derivatives designated as fair value hedges, changes in the fair value of the derivative are recognized in earnings together with changes in the fair value of the related hedged item. The net amount, if any, representing hedge ineffectiveness, is reflected in earnings. In previous periods, we used fair value hedges to manage interest rate exposure to certain long-term debt. During the first quarter of 2009, we terminated all fair value hedges and are amortizing their remaining balances into earnings, as discussed subsequently.

For derivatives designated as cash flow hedges, the effective portion of changes in the fair value of the derivative are recorded in OCI and recognized in earnings when the hedged transaction affects earnings. The ineffective portion of changes in the fair value of cash flow hedges is recognized directly in earnings.

No derivatives have been designated for hedges of investments in foreign operations.

 

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We assess the effectiveness of each hedging relationship by comparing the changes in fair value or cash flows on the derivative hedging instrument with the changes in fair value or cash flows on the designated hedged item or transaction. For derivatives not designated as accounting hedges, changes in fair value are recognized in earnings.

Our objective in using derivatives is to add stability to interest income or expense, to modify the duration of specific assets or liabilities as we consider advisable, to manage exposure to interest rate movements or other identified risks, and to directly offset derivatives sold to our customers. To accomplish this objective, we use interest rate swaps and floors as part of our cash flow hedging strategy. These derivatives are used to hedge the variable cash flows associated with designated commercial loans.

Exposure to credit risk arises from the possibility of nonperformance by counterparties. These counterparties primarily consist of financial institutions that are well established and well capitalized. We control this credit risk through credit approvals, limits, pledges of collateral, and monitoring procedures. No losses on derivative instruments have occurred as a result of counterparty nonperformance. Nevertheless, the related credit risk is considered and measured when and where appropriate. We have no exposure to credit default swaps.

Interest rate swap agreements designated as cash flow hedges involve the receipt of fixed-rate amounts in exchange for variable-rate payments over the life of the agreements without exchange of the underlying principal amount. Derivatives not designated as accounting hedges, including basis swap agreements, are not speculative and are used to economically manage our exposure to interest rate movements and other identified risks, but do not meet the strict hedge accounting requirements.

 

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Selected information with respect to notional amounts and recorded gross fair values at March 31, 2010 and 2009, and the related gain (loss) of derivative instruments for the three months then ended is summarized as follows (in thousands):

 

                    Three Months Ended March 31, 2010
                    Amount of derivative gain (loss)
recognized/reclassified
     March 31, 2010    OCI    Reclassified
from AOCI
to interest
income
   Noninterest
income
    Offset  to
interest
expense
          Fair value           
     Notional
amount
   Other assets    Other
liabilities
          

Derivatives designated as hedging instruments under ASC 815

                   

Asset derivatives

                   

Cash flow hedges1:

                   

Interest rate swaps

   $ 620,000     $ 40,809     $ –       $   5,147     $ 17,703      

Interest rate floors

     150,000       3,586       –         1,681       806      

Terminated swaps and floors

                  $ 3,897      
                                             
     770,000       44,395       –         6,828       18,509       3,897 3    

Liability derivatives

                   

Fair value hedges:

                   

Long-term debt

                    $ 979 
                                                 

Total derivatives designated as hedging instruments

     770,000       44,395       –         6,828       18,509       3,897         979 
                                                 

Derivatives not designated as hedging instruments under ASC 815

                   

Interest rate swaps

     192,024       3,785       3,861             (268)     

Interest rate swaps for customers2

     3,060,042       70,031       71,853             (1,368)     

Energy commodity swaps for customers2

     99,015       11,008       10,924             (205)     

Basis swaps

     300,000       200       –               258      

Futures contracts

     2,565,000       –         –               109      
                                     

Total derivatives not designated as hedging instruments

     6,216,081       85,024       86,638             (1,474)     
                                     

Total derivatives

   $   6,986,081     $   129,419     $   86,638     $ 6,828     $ 18,509     $ 2,423       $ 979 
                                                 

 

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                    Three Months Ended March 31, 2009
                    Amount of derivative gain (loss)
recognized/reclassified
     March 31, 2009    OCI    Reclassified
from AOCI
to interest
income
   Noninterest
income
    Offset to
interest
expense
          Fair value           
     Notional
amount
   Other
assets
   Other
liabilities
          
                     

Derivatives designated as hedging instruments under ASC 815

                   

Asset derivatives

                   

Cash flow hedges1:

                   

Interest rate swaps

   $ 2,030,000     $ 191,554     $ –       $ 12,795     $ 29,741      

Interest rate floors

     230,000       7,190       –         577       1,387      
                                       
     2,260,000       198,744       –         13,372       31,128     $ –    3   

Liability derivatives

                   

Fair value hedges:

                   

Long-term debt

                    $ 12,903 
                                           

Total derivatives designated as hedging instruments

     2,260,000       198,744       –         13,372       31,128         12,903 
                                           

Derivatives not designated as hedging instruments under ASC 815

                   

Interest rate swaps

     242,948       6,891       5,881             942      

Interest rate swaps for customers2

     2,913,355       100,158       101,318             4,136      

Energy commodity swaps for customers2

     430,282       34,746       34,722             298      

Basis swaps

     1,420,000       –         8,233             1,881      

Futures contracts

     –         –         –                   
                                     

Total derivatives not designated as hedging instruments

     5,006,585       141,795       150,154             7,266      
                                     

Total derivatives

   $   7,266,585     $   340,539     $   150,154     $   13,372     $ 31,128     $ 7,266       $   12,903 
                                                 

Note: These tables are not intended to present at any given time the Company’s long/short position with respect to its derivative contracts.

 

1

Amounts recognized in OCI and reclassified from accumulated OCI (“AOCI”) represent the effective portion of the derivative gain (loss).

2

Amounts include both the customer swaps and the offsetting derivative contracts.

3

Amounts for 2010 and 2009 of $3,897 and $0, respectively, which reflect the acceleration of OCI amounts reclassified to income that related to previously terminated hedges, together with the reclassification amounts of $18,509 and $31,128, or a total of $22,406 and $31,128, are the amounts of reclassification included in the changes in OCI presented in Note 6.

At March 31, the fair values of derivative assets and liabilities were reduced by net credit valuation adjustments of $2.5 million and $0.6 million in 2010, and $6.7 million and $4.0 million in 2009, respectively. These adjustments are required to reflect both our own nonperformance risk and the respective counterparty’s nonperformance risk.

Fair value amounts recognized for the right to reclaim cash collateral (a receivable) or the obligation to return cash collateral (a payable) have been offset against recognized fair value amounts of derivatives executed with the same counterparty under a master netting arrangement. In the balance sheet, cash collateral was used to reduce recorded amounts of derivative assets and liabilities by $1.8 million and $8.0 million at March 31, 2010, and $41.9 million and $17.2 million at March 31, 2009.

 

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Interest rate swaps and energy commodity swaps for customers are offered to assist customers in managing their exposure to fluctuating interest rates and energy prices. Upon issuance, all of these customer swaps are immediately “hedged” by offsetting derivative contracts, such that the Company minimizes its net risk exposure resulting from such transactions. Fee income from customer swaps is included in other service charges, commissions and fees. As with other derivative instruments, we have credit risk for any nonperformance by counterparties.

Futures contracts are primarily highly liquid exchange-traded federal funds futures contracts that are traded to manage interest rate risk on certain CDO securities. These contracts are executed to convert three- and six-month fixed cash flows into cash flows that vary with daily fluctuations in interest rates. These transactions are cash settled daily.

The remaining balances of any derivative instruments terminated prior to maturity, including amounts in AOCI for swap hedges, are accreted or amortized generally on a straight-line basis to interest income or expense over the period to their previously stated maturity dates.

Amounts in AOCI are reclassified to interest income as interest is earned on variable rate loans and as amounts for terminated hedges are accreted or amortized to earnings. For the 12 months following March 31, 2010, we estimate that additional projected gains of $28 million and accretion/amortization of $34 million, or a total of $62 million, will be reclassified.

 

6. DEBT AND SHAREHOLDERS’ EQUITY

During the first quarter of 2010, we issued one-year senior medium-term notes totaling approximately $55 million, with maturities in February and March 2011 and interest rates at 5.75% and 5.00%, respectively. Also issued were an additional $41 million of the 7.75% unsecured senior notes issued during the fourth quarter of 2009 that are due September 23, 2014.

Also during the first quarter of 2010, we sold a total of 7,741,740 shares of common stock for $152.3 million (average price of $19.67). The issuance of 1,480,150 shares, or $27.3 million, completed a $250 million common equity distribution program that commenced September 17, 2009. The remaining 6,261,590 shares, or $125.0 million, related to another $250 million common equity distribution program commenced on March 1, 2010. Net of commissions and fees, the total sales added $149.9 million to common stock during the quarter.

On March 30, 2010, we completed our offer commenced on March 1, 2010 to exchange any and all of the Company’s currently outstanding nonconvertible subordinated debt into shares of common stock. We issued 2,165,391 shares, or $46.9 million net of commissions and fees, in exchange for $55.6 million of debt. The net pretax gain on subordinated debt exchange included in the statement of income was approximately $14.5 million, and represented the difference between the carrying value of the debt exchanged and the fair value of the common stock issued, net of commissions and fees. The number of shares issued was determined using an exchange ratio based on a common stock price of $22.5433 per share, which was calculated based on the defined weighted average price of our common stock for each of the five consecutive days ending on the March 24, 2010 expiration date.

On March 15, 2010, $21.0 million of convertible subordinated debt was converted into a total of $24.6 million, or 21,034 shares, of the Company’s Series C preferred stock under the Company’s debt modification program. The conversion included the transfer from common stock to preferred stock of approximately $3.6 million of the intrinsic value of the beneficial conversion feature. The beneficial conversion feature was established as part of the common stock balance when we modified certain subordinated debt in June 2009. Accelerated discount amortization on the converted debt increased interest expense during the first quarter of 2010 by approximately $11.2 million.

 

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The following summarizes the changes in accumulated other comprehensive income (loss) included in shareholders’ equity (in thousands):

 

     Net unrealized
gains (losses)
on investments,
retained interests
and other
   Net
unrealized
gains (losses)
on derivative
instruments
   Pension
and post-
retirement
   Total

Three Months Ended March 31, 2010:

           

Balance, December 31, 2009

   $ (462,412)    $ 68,059    $ (42,546)    $ (436,899)

Other comprehensive income (loss), net of tax:

           

Net realized and unrealized holding gains, net of income tax expense of $6,470

     10,565             10,565 

Reclassification for net losses included in earnings, net of income tax benefit of $11,486

     18,521             18,521 

Noncredit-related impairment losses on securities not expected to be sold, net of income tax benefit of $6,620

     (10,687)            (10,687)

Accretion of securities with noncredit-related impairment losses not expected to be sold, net of income tax expense of $24

     39             39 

Net unrealized losses, net of reclassification to earnings of $22,406 and income tax benefit of $5,862

        (9,716)         (9,716)
                           

Other comprehensive income (loss)

     18,438       (9,716)      –         8,722 
                           

Balance, March 31, 2010

   $ (443,974)    $ 58,343     $ (42,546)    $ (428,177)
                           

Three Months Ended March 31, 2009:

           

Balance, December 31, 2008

   $ (248,871)    $ 196,656     $ (46,743)    $ (98,958)

Cumulative effect of change in accounting principle, adoption of new OTTI guidance in ASC 320

     (137,462)            (137,462)

Other comprehensive income (loss), net of tax:

           

Net realized and unrealized holding losses, net of income tax benefit of $50,008

     (83,553)            (83,553)

Reclassification for net losses included in earnings, net of income tax benefit of $24,732

     38,862             38,862 

Noncredit-related impairment losses on securities not expected to be sold, net of income tax benefit of $33,014

     (49,928)            (49,928)

Accretion of securities with noncredit-related impairment losses not expected to be sold, net of income tax expense of $611

     896             896 

Net unrealized gains, net of reclassification to earnings of $31,128 and income tax benefit of $7,172

        (10,584)         (10,584)
                           

Other comprehensive loss

     (93,723)      (10,584)      –         (104,307)
                           

Balance, March 31, 2009

   $ (480,056)    $ 186,072     $ (46,743)    $ (340,727)
                           

 

7. INCOME TAXES

During the first quarter of 2010, we surrendered certain bank-owned life insurance contracts and incurred taxes and penalties of approximately $34.2 million, which were included in income taxes in the statement of income. The tax rate for the first quarter of 2010 was mainly impacted by lower taxable income, which increased the proportion of nontaxable income to income before income taxes.

 

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8. FAIR VALUE

Fair Value Measurements

Effective for the first quarter of 2010, we adopted Accounting Standards Update (“ASU”) 2010-06, Improving Disclosures about Fair Value Measurements. This new accounting guidance under ASC 820, Fair Value Measurements and Disclosures, was issued by the FASB on January 21, 2010. The additional disclosures required about fair value measurements include, among other things, (1) the amounts and reasons for certain significant transfers among the three hierarchy levels of inputs, (2) the gross, rather than net, basis for certain Level 3 roll-forward information, (3) use of a “class” basis rather than a “major category” basis for assets and liabilities, and (4) valuation techniques and inputs used to estimate Level 2 and Level 3 fair value measurements. The following information incorporates these new disclosure requirements except for the Level 3 roll-forward information which is not required until the first quarter of 2011.

Fair value is defined under ASC 820 as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. To measure fair value, a hierarchy has been established that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs. This hierarchy uses three levels of inputs to measure the fair value of assets and liabilities as follows:

Level 1 – Quoted prices in active markets for identical assets or liabilities; includes certain U.S. Treasury and other U.S. Government and agency securities actively traded in over-the-counter markets; certain securities sold, not yet purchased; and certain derivatives.

Level 2 – Observable inputs other than Level 1 including quoted prices for similar assets or liabilities, quoted prices in less active markets, or other observable inputs that can be corroborated by observable market data; also includes derivative contracts whose value is determined using a pricing model with observable market inputs or can be derived principally from or corroborated by observable market data. This category generally includes certain U.S. Government and agency securities; certain CDO securities; corporate debt securities; certain private equity investments; certain securities sold, not yet purchased; and certain derivatives.

Level 3 – Unobservable inputs supported by little or no market activity for financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation; also includes observable inputs for nonbinding single dealer quotes not corroborated by observable market data. This category generally includes certain private equity investments and most CDO securities.

We use fair value to measure certain assets and liabilities on a recurring basis when fair value is the primary measure for accounting. This is done primarily for AFS and trading investment securities; private equity investments; securities sold, not yet purchased; and derivatives. Fair value is used on a nonrecurring basis to measure certain assets when applying lower of cost or market accounting or when adjusting carrying values, such as for loans held for sale, impaired loans, and other real estate owned. Fair value is also used when evaluating impairment on certain assets, including HTM and AFS securities, goodwill, core deposit and other intangibles, long-lived assets, and for disclosures of certain financial instruments.

 

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Available-for-sale and trading

AFS and trading investment securities are fair valued under Level 1 using quoted market prices when available for identical securities. When quoted prices are not available, fair values are determined under Level 2 using quoted prices for similar securities or independent pricing services that incorporate observable market data when possible. The largest portion of AFS securities include certain CDOs backed by trust preferred securities issued by banks and insurance companies and, to a lesser extent, by REITs. These securities are fair valued primarily under Level 3.

U.S. Treasury, agencies and corporations

Valuation inputs utilized by the independent pricing service for those U.S. Treasury, agency and corporation securities under Level 2 include benchmark yields, reported trades, broker/dealer quotes, issuer spreads, benchmark securities, bids, offers, and reference data including market research publications. Also included are data from the vendor trading platform.

Municipal securities

Valuation inputs utilized by the independent pricing services for those municipal securities under Level 2 include the same inputs used for U.S. Treasury, agency and corporation securities. Also included are reported trades and material event notices from the Municipal Securities Rulemaking Board, plus new issue data. Municipal securities under Level 3 are fair valued similar to the auction rate securities discussed subsequently.

Trust preferred collateralized debt obligations

Substantially all the CDO portfolio is fair valued under Level 3 using an income-based cash flow modeling approach incorporating several methodologies that primarily include internal and third party models. The model used for estimating the fair value of bank and insurance trust preferred CDOs remains the same as disclosed in the Company’s 2009 Annual Report on Form 10-K. Each quarter we seek to identify actual trades of securities in this asset class to determine whether the comparability of the security and the orderliness of the trades would make such reported price suitable for inclusion as or consideration in our fair value estimates in accordance with ASU 2010-06.

A licensed third party cash flow model, which requires the Company to input its own default assumptions, is used to estimate fair values of bank and insurance trust preferred CDOs. For privately owned banks, we utilize a statistical regression of quarterly regulatory ratios that we have identified as predictive of future bank failures to create a credit-specific probability of default (“PD”) for each issuer. The inputs and regression formula are updated quarterly to include the most recent available financial ratios and to utilize those financial ratios which have best predicted bank failures during this credit cycle (“ratio-based approach”).

For publicly traded banks, we first utilize a licensed third party proprietary reduced form model derived using logistic regression on a historical default database to produce PDs. This model requires equity valuation related inputs (along with other macro and issuer-specific inputs) to produce PDs, and therefore cannot be used for privately owned banks.

Nearly all of the failures within our predominantly bank CDO pools have come from those banks that have previously deferred the payment of interest on their trust preferred securities. The terms of the securities within the CDO pools generally allow for deferral of current interest for five years without causing default.

We have found that for public deferring banks, the ratio-based approach generally resulted in higher PDs than did the licensed third party proprietary reduced model for banks that subsequently failed. To better project publicly traded bank failures, we utilize the higher of the PDs from our ratio-based approach and those from the licensed third party model for public deferring banks.

 

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After identifying collateral level PDs, we modify the PDs of deferring collateral by a calibration adjustment. The licensed third party cash flow model then projects the expected cash flows for CDO tranches. Estimates of expected loss for the individual pieces of underlying collateral are aggregated to arrive at a pool-level expected loss rate for each CDO. These loss assumptions are applied to the CDO’s structure to generate cash flow projections for each tranche of the CDO. The presence of OTTI is identified and the amount of the credit component of OTTI is calculated by discounting the resulting loss-adjusted cash flows at each tranche’s coupon rate and comparing that value to the Company’s amortized cost of the tranche. The fair value of each tranche is determined by discounting its resultant loss-adjusted cash flows with appropriate current market-based discount rates.

The discount rate assumption used for valuation purposes for each CDO tranche is derived from trading yields on publicly traded trust preferred securities and projected PDs on the underlying issuers. The data set includes a publicly traded trust preferred security which is in deferral with regard to the payment of current interest. The discount margins on the traded securities, including the deferring security, are used to determine a relationship between the discount margin and expected losses, which relationship is then applied to the CDOs.

For the quarter ending March 31, 2010, the Company utilized a discount rate range of LIBOR+3.75% for the highest quality/most over-collateralized tranches and LIBOR+23.7% for the lowest credit quality tranche in order to reflect market level assumptions for structured finance securities. In addition, in order to acknowledge the greater uncertainty in the cash flows of those junior trust preferred CDO tranches that are “PIKing” (capitalizing interest), the Company utilized a discount rate of at least LIBOR+13% using the forward LIBOR curve. These discount rates are in addition to the credit related discounts applied to the cash flows for each tranche. The range of the projected cumulative credit loss of the CDO pools varies extensively across pools and ranges between 7.8% and 83.3%.

CDO tranches with greater uncertainty in their cash flows are discounted at higher rates than those that market participants would use for tranches with more stable expected cash flows (e.g., as a result of more subordination and/or better credit quality in the underlying collateral). The high end of the discount margin spectrum was applied to tranches in which minor changes in future default assumptions produced substantial deterioration in tranche cash flows. These discount rates are applied to credit-stressed cash flows, which constitute each tranche’s expected cash flows; discount rates are not applied to a hypothetical contractual cash flow.

Certain REIT and ABS CDOs are fair valued by third party services using their proprietary models. These models utilize relevant data assumptions, which we evaluate for reasonableness. These assumptions include but are not limited to discount rates, PDs, loss-given-default rates, over-collateralization levels, and rating transition probability matrices from rating agencies. Key assumptions are included subsequently. The model prices obtained from third party services were evaluated for reasonableness including quarter to quarter changes in assumptions and comparison to other available data which included third party and internal model results and valuations.

Auction rate securities

Auction rate securities are fair valued using a market approach based on various market data inputs, including AAA municipal and corporate bond yield curves, credit ratings and leverage of each closed-end fund, and market yields for municipal bonds and commercial paper.

 

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Private equity investments

Private equity investments valued under Level 2 on a recurring basis are investments in partnerships that invest in financial institutions. Fair values are determined under the equity method from net asset values provided by the partnerships. Private equity investments valued under Level 3 on a recurring basis are recorded initially at acquisition cost, which is considered the best indication of fair value unless there have been material subsequent positive or negative developments that justify an adjustment in the fair value estimate. Subsequent adjustments to recorded fair values are based as necessary on current and projected financial performance, recent financing activities, economic and market conditions, market comparables, market liquidity, sales restrictions, and other factors.

Derivatives

Derivatives are fair valued according to their classification as either exchange-traded or over-the-counter (“OTC”). Exchange-traded derivatives consist of forward currency exchange contracts that have been fair valued under Level 1 because they are traded in active markets. OTC derivatives consist of interest rate swaps and options as well as energy commodity derivatives for customers. These derivatives are fair valued under Level 2 using third party services. Observable market inputs include yield curves (the LIBOR swap curve and applicable basis swap curves), foreign exchange rates, commodity prices, option volatilities, counterparty credit risk, and other related data. Credit valuation adjustments are required to reflect both our own nonperformance risk and the respective counterparty’s nonperformance risk. These adjustments are determined generally by applying a credit spread for the counterparty or the Company as appropriate to the total expected exposure of the derivative. Amounts disclosed in the following schedule include the foreign currency exchange contracts that are not included in Note 5 in accordance with ASC 815. The amounts are also presented net of the cash collateral offsets discussed in Note 5.

Securities sold, not yet purchased

Securities sold, not yet purchased are fair valued under Level 1 when quoted prices are available for the securities involved. Those under Level 2 are fair valued similar to trading account investment securities.

 

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Assets and liabilities measured at fair value by class on a recurring basis, including one security in 2009 elected under the fair value option, are summarized as follows at March 31, 2010 and 2009 (in thousands):

 

     March 31, 2010
     Level 1    Level 2    Level 3    Total

ASSETS

           

Investment securities:

           

Available-for-sale:

           

U.S. Treasury, agencies and corporations

   $ 26,635     $ 1,400,403        $ 1,427,038 

Municipal securities

        171,773     $ 63,206       234,979 

Asset-backed securities:

           

Trust preferred – banks and insurance

        1,671       1,351,269       1,352,940 

Trust preferred – real estate investment trusts

           23,854       23,854 

Auction rate

           156,795       156,795 

Other (including ABS CDOs)

        13,962       57,373       71,335 

Mutual funds and stock

     163,329       6,828          170,157 
                           
     189,964       1,594,637       1,652,497       3,437,098 

Trading account

        50,698          50,698 

Other noninterest-bearing investments:

           

Private equity

        5,605       161,884       167,489 

Other assets:

           

Derivatives:

           

Interest rate related and other

        48,375          48,375 

Interest rate swaps for customers

        70,031          70,031 

Energy commodity swaps for customers

        9,258          9,258 

Foreign currency exchange contracts

     3,725             3,725 
                       
     3,725       127,664          131,389 
                           
   $   193,689     $   1,778,604     $   1,814,381     $   3,786,674 
                           

LIABILITIES

           

Securities sold, not yet purchased

      $ 47,890        $ 47,890 

Other liabilities:

           

Derivatives:

           

Interest rate related and other

        3,935          3,935 

Interest rate swaps for customers

        71,853          71,853 

Energy commodity swaps for customers

        2,948          2,948 

Foreign currency exchange contracts1

   $ 3,657             3,657 
                       
     3,657       78,736          82,393 

Other

         $ 553       553 
                           
   $ 3,657     $ 126,626     $ 553     $ 130,836 
                           

 

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     March 31, 2009
     Level 1    Level 2    Level 3     Total

ASSETS

          

Investment securities:

          

Available-for-sale:

          

U.S. Treasury, agencies and corporations

   $ 26,513     $ 1,439,327       $ 1,465,840 

Municipal securities

        175,219     $ 68,641         243,860 

Asset-backed securities:

          

Trust preferred – banks and insurance

        1,330       897,650         898,980 

Trust preferred – real estate investment trusts

           21,019         21,019 

Auction rate

           177,880         177,880 

Other (including ABS CDOs)

        24,051       65,293         89,344 

Mutual funds and stock

     186,074       3,791         189,865 
                            
     212,587       1,643,718       1,230,483         3,086,788 

Trading account

        65,149       49 1      65,198 

Other noninterest-bearing investments:

          

Private equity

        31,505       150,504         182,009 

Other assets:

          

Derivatives

     6,671       298,764         305,435 
                            
   $ 219,258     $ 2,039,136     $ 1,381,036       $ 3,639,430 
                            

LIABILITIES

          

Securities sold, not yet purchased

      $ 39,892       $ 39,892 

Other liabilities:

          

Derivatives

   $ 6,483       132,956         139,439 

Other

         $ 136         136 
                            
   $ 6,483     $ 172,848     $ 136       $ 179,467 
                            

 

1

Elected under fair value option, as discussed subsequently.

Selected additional information regarding key model inputs and assumptions used to fair value certain asset-backed securities by class under Level 2 and Level 3 include the following at March 31, 2010 (dollars in thousands):

 

    Fair value at
March 31,
2010
    Valuation
approach
  Constant default
rate (“CDR”)
    Loss
severity
    Prepayment rate

Asset-backed securities:

         

Trust preferred – banks

  $ 1,144,699      Income   Pool specific 3    100   0% for 5 years; 2% for years 6 to maturity

Trust preferred – insurance

    381,107      Income   Pool specific 4    100   7.5% per year

Trust preferred – individual

    23,445      Market      
               
    1,549,251 1         

Trust preferred – real estate investment trusts

    23,854      Income   Pool specific 5    10-100   0% per year

Other (including ABS CDOs)

    88,666 2    Income   Collateral  specific 6    35-100   Collateral weighted average life

 

1

Includes $1,352.9 million of AFS securities and $196.3 million of HTM securities.

2

Includes $71.3 million of AFS securities and $17.3 million of HTM securities.

3

CDR ranges: yr 1 – 0.52% to 24.2%; yrs 2-5 – 0.22% to 1.65%; yrs 6 to maturity – 0.05% to 0.41%.

4

CDR ranges: yr 1 – 0.67% to 3.7%; yrs 2-5 – 0.49% to 0.73%; yrs 6 to maturity – 0.10% to 0.16%.

5

CDR ranges: yr 1 – 2.50% to 7.1%; yrs 2-3 – 2.60% to 5.50%; yrs 4-10 – 1.0%; thereafter – 0.50%.

6

These are predominantly ABS CDOs whose collateral is rated. CDR and loss severities are built up from the loan level and vary by collateral ratings, asset class, and vintage.

 

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The following presents the percentage of total fair value of bank trust preferred CDOs by vintage year (origination date) according to original rating (dollars in thousands):

 

     Fair value at                       
Vintage    March 31,    Percentage of total fair value    

  year  

   2010    AAA     A     BBB    

2001

   $ 122,784     14   3   2  

2002

     265,545     28   12   0  

2003

     427,051     38   35   53  

2004

     202,096     9   40   8  

2005

     18,051     1   2   7  

2006

     62,402     4   8   30  

2007

     46,770     6   0   0  
                           
   $ 1,144,699     100   100   100  
                           

The following reconciles the beginning and ending balances of assets and liabilities for the three months ended March 31, 2010 and 2009 that are measured at fair value by class on a recurring basis using Level 3 inputs (in thousands):

 

     Level 3 Instruments
     Three Months Ended March 31, 2010
     Municipal
securities
   Trust preferred –
banks and
insurance
   Trust
preferred –
REIT
   Auction
rate
   Other
asset-backed
   Private
equity
investments
   Other
liabilities

Balance at January 1, 2010

   $ 64,314     $ 1,359,444     $ 24,018     $ 159,440     $ 62,430     $ 158,941     $ (522)

Total net gains (losses) included in:

                    

Statement of income2:

                    

Dividends and other investment income (loss)

                    (1,021)   

Equity securities gains, net

                    210    

Fixed income securities gains, net

     29       587          227       355       

Net impairment losses on investment securities

        (27,226)      (2,082)         (1,944)      

Other noninterest expense

                       (31)

Other comprehensive income (loss)

     (102)      19,886       1,868       773       5,551       

Purchases, sales, issuances, and settlements, net

     (1,035)      (1,422)      50       (3,645)      (9,019)      3,754    
                                                

Balance at March 31, 2010

   $   63,206     $   1,351,269     $   23,854     $   156,795     $   57,373     $   161,884     $ (553)
                                                

 

     Level 3 Instruments
     Three Months Ended March 31, 2009
     Municipal
securities
   Trust preferred –
banks and
insurance
   Trust
preferred –
REIT
   Auction
rate
   Other
asset-backed
   Trading
account1
   Private
equity
investments
   Other
liabilities

Balance at January 1, 2009

   $ –       $ 659,253     $ 23,897     $ 1,710     $ 65,557     $   956     $   143,511     $ (527)

Total net gains (losses) included in:

                       

Statement of income2:

                       

Dividends and other investment income (loss)

                       (89)   

Fair value and nonhedge derivative income (loss)

                    (907)      

Equity securities gains, net

                       109    

Net impairment losses on investment securities

        (6,563)      (48,915)         (927)         

Valuation losses on securities purchased

     (4,184)      (172,729)      (8,945)      (14,532)            

Other noninterest expense

                          391 

Other comprehensive income (loss)

     (1)      (128,517)      29,982       (1)      10          

Fair value of HTM securities transferred to AFS

        36,014             3,210          

Purchases, sales, issuances, and settlements, net

     69,551       510,192       25,000       185,523       (2,557)         6,973    

Net transfers in (out)

     3,275             5,180             
                                                       

Balance at March 31, 2009

   $   68,641     $   897,650     $   21,019     $ 177,880     $   65,293     $ 49     $ 150,504     $   (136)
                                                       

 

1

Elected under fair value option, as discussed subsequently.

2

All amounts are unrealized except for realized gains of $0.9 million in 2010 and $0.3 million in 2009 included in dividends and other investment income (loss).

 

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Assets with fair value changes during the periods indicated that are measured at fair value by class on a nonrecurring basis are summarized as follows (in thousands):

 

                         Gains (losses) from
fair value changes
 
     Fair value at March 31, 2010    Three months ended  
     Level 1    Level 2    Level 3    Total    March 31, 2010  

ASSETS

              

HTM securities adjusted for OTTI

         $ 3,767     $ 3,767     $ (12)   

Loans held for sale

      $ 16,158          16,158       –       

Impaired loans

        343,002          343,002       (72,017)   

Other real estate owned

        84,204          84,204       (8,139)   
                                    
   $   –        $   443,364     $   3,767     $   447,131     $ (80,168)   
                                    
                         Gains (losses) from
fair value changes
 
     Fair value at March 31, 2009    Three months ended  
     Level 1    Level 2    Level 3    Total    March 31, 2009  

ASSETS

              

HTM securities adjusted for OTTI

         $ 61,180     $ 61,180     $ (17,706) 1 

Loans held for sale

      $ 43,922          43,922       60    

Impaired loans

        309,876          309,876       (57,387)   

Other real estate owned

        30,986          30,986       (11,178)   
                                    
   $   –        $   384,784     $   61,180     $   445,964     $   (86,211)   
                                    

 

1

An additional $76.7 million pretax loss was recognized in OCI.

Loans held for sale relate to loans purchased under the Small Business Administration 7(a) program. They are fair valued under Level 2 based on quotes of comparable instruments.

Impaired loans that are collateral-dependent are fair valued under Level 3 based on the fair value of the collateral, which is then further discounted (12-20%) to reflect marketing costs and potential volatility in realizable values.

Other real estate owned is fair valued under Level 2 at the lower of cost or fair value based on property appraisals at the time of transfer and as appropriate thereafter.

Fair Value Option

ASC 825, Financial Instruments, allows for the option to report certain financial assets and liabilities at fair value initially and at subsequent measurement dates with changes in fair value included in earnings. The fair value option may be applied instrument by instrument, but is on an irrevocable basis. The one AFS REIT trust preferred CDO security indicated previously was sold in December 2009.

 

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Fair Value of Certain Financial Instruments

Following is a summary of the carrying values and estimated fair values of certain financial instruments (in thousands):

 

     March 31, 2010    March 31, 2009
     Carrying value    Estimated fair
value
   Carrying value    Estimated fair
value

Financial assets:

           

HTM investment securities

   $ 867,335     $ 820,689     $ 1,648,971     $ 1,361,460 

Loans and leases (including loans held for sale), net of allowance

     37,599,917       37,199,150       41,186,660       40,519,516 

Financial liabilities:

           

Time deposits

     5,003,362       5,058,224       7,759,879       7,913,320 

Foreign deposits

     1,647,898       1,649,308       2,214,981       2,215,924 

FHLB advances and other borrowings

     190,952       193,416       557,335       564,083 

Long-term debt (less fair value hedges)

     1,984,865       2,489,404       2,512,164       1,905,593 

This summary excludes financial assets and liabilities for which carrying value approximates fair value. For financial assets, these include cash and due from banks and money market investments. For financial liabilities, these include demand, savings, and money market deposits, federal funds purchased, and security repurchase agreements. The estimated fair value of demand, savings, and money market deposits is the amount payable on demand at the reporting date. Carrying value is used because the accounts have no stated maturity and the customer has the ability to withdraw funds immediately. Also excluded from the summary are financial instruments recorded at fair value on a recurring basis, as previously described.

The fair value of loans is estimated by discounting future cash flows on “pass” grade loans using the LIBOR yield curve adjusted by a factor which reflects the credit and interest rate risk inherent in the loan. These future cash flows are then reduced by the estimated “life-of-the-loan” aggregate credit losses in the loan portfolio. These adjustments for lifetime future credit losses are highly judgmental because the Company does not have a validated model to estimate lifetime credit losses on large portions of its loan portfolio. The estimate of lifetime credit losses is adjusted quarterly as necessary to reflect the most recent loss experience during the current prolonged cycle of economic weakness. Impaired loans are not included in this credit adjustment as they are already considered to be held at fair value. Loans, other than those held for sale, are not normally purchased and sold by the Company, and there are no active trading markets for most of this portfolio.

The fair value of time and foreign deposits, FHLB advances, and other borrowings is estimated by discounting future cash flows using the LIBOR yield curve. Variable rate FHLB advances reprice with changes in market rates; as such, their carrying amounts approximate fair value. The estimated fair value of long-term debt is based on actual market trades (i.e., an asset value) when available or discounting cash flows using the LIBOR yield curve adjusted for credit spreads.

These fair value disclosures represent our best estimates based on relevant market information and information about the financial instruments. Fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of the various instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in the above methodologies and assumptions could significantly affect the estimates.

 

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Further, certain financial instruments and all nonfinancial instruments are excluded from the applicable disclosure requirements. Therefore, the fair value amounts shown in the schedule do not, by themselves, represent the underlying value of the Company as a whole.

 

9. GUARANTEES, COMMITMENTS AND CONTINGENCIES

The following are guarantees issued by the Company (in thousands):

 

     March 31,
2010
   December 31,
2009

Standby letters of credit:

     

Financial

   $ 1,039,787     $ 1,071,851 

Performance

     205,717       182,423 
             
   $   1,245,504     $   1,254,274 
             

The Company’s 2009 Annual Report on Form 10-K contains further information about these letters of credit including their terms and collateral requirements. At March 31, 2010, the carrying value recorded by the Company as a liability for these guarantees was $6.1 million.

As of March 31, 2010, the Parent has guaranteed approximately $300.1 million of debt of affiliated trusts issuing trust preferred securities.

 

10. RETIREMENT PLANS

The following discloses the net periodic benefit cost (credit) and its components for the Company’s pension and postretirement plans (in thousands):

 

     Pension benefits    Supplemental
retirement
benefits
   Postretirement
benefits
     Three Months Ended March 31,
     2010    2009    2010    2009    2010    2009

Service cost

   $ 53     $ 76     $ –       $ –       $    $

Interest cost

     2,161       2,216       171       165       10       16 

Expected return on plan assets

     (2,053)      (1,765)            

Settlement loss

           15          

Amortization of prior service cost (credit)

           31       31       (61)      (61)

Amortization of net actuarial (gain) loss

     1,488       1,642       20       (7)      (37)      (49)
                                         

Net periodic benefit cost (credit)

   $   1,649     $   2,169     $   237     $   189     $   (79)    $   (85)
                                         

As disclosed in the Company’s 2009 Annual Report on Form 10-K, the Company has frozen its participation and benefit accruals for the pension plan and its contributions for individual benefit payments in the postretirement benefit plan.

 

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11. OPERATING SEGMENT INFORMATION

We manage our operations and prepare management reports and other information with a primary focus on geographical area. As of March 31, 2010, we operate eight community/regional banks in distinct geographical areas. Performance assessment and resource allocation are based upon this geographical structure. Zions Bank operates 106 branches in Utah and 27 branches in Idaho. CB&T operates 106 branches in California. Amegy operates 84 branches in Texas. NBA operates 75 branches in Arizona. NSB operates 56 branches in Nevada. Vectra operates 37 branches in Colorado and one branch in New Mexico. TCBW operates one branch in the state of Washington. TCBO operates one branch in Oregon. Additionally, Zions Bank, CB&T, Amegy, NBA, Vectra, and TCBW each operate a foreign branch in the Grand Cayman Islands.

The operating segment identified as “Other” includes the Parent, Zions Management Services Company (“ZMSC”), certain nonbank financial service and financial technology subsidiaries, other smaller nonbank operating units, TCBO, and eliminations of transactions between segments. ZMSC provides internal technology and operational services to affiliated operating businesses of the Company. ZMSC charges most of its costs to the affiliates on an approximate break-even basis.

The accounting policies of the individual operating segments are the same as those of the Company. Transactions between operating segments are primarily conducted at fair value, resulting in profits that are eliminated for reporting consolidated results of operations. Operating segments pay for centrally provided services based upon estimated or actual usage of those services.

 

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The following table presents selected operating segment information for the three months ended March 31, 2010 and 2009:

 

(In millions)   Zions Bank   CB&T   Amegy   NBA   NSB
  2010   2009   2010   2009   2010   2009   2010   2009   2010   2009

CONDENSED INCOME STATEMENT

                   

Net interest income

  $ 180.3    $ 154.3    $ 113.4    $ 112.6    $ 100.4    $ 92.4    $ 45.2    $ 47.1    $ 36.1    $ 34.0 

Provision for loan losses

    87.1      65.0      41.9      34.8      50.8      45.5      21.2      51.9      52.7      89.3 
                                                           

Net interest income after provision for loan losses

    93.2      89.3      71.5      77.8      49.6      46.9      24.0      (4.8)     (16.6)     (55.3)

Impairment losses investment securities:

                   

Impairment losses investment securities

    –        (6.4)     –        (52.2)     –        –        –        –        –        (9.3)

Noncredit-related losses on securities not expected to be sold (recognized in other comprehensive income)

    –        3.9      –        42.3      –        –        –        –        –        8.3 
                                                           

Net impairment losses on investment securities

    –        (2.5)     –        (9.9)     –        –        –        –        –        (1.0)

Loss on sale of investment securities to Parent

    (54.8)     –        –        –        –        –        –        –        –        –   

Valuation losses on securities purchased

    –        (191.3)     –        –        –        (7.5)     –        –        –        –   

Gain on subordinated debt exchange

    –        –        –        –        –        –        –        –        –        –   

Other noninterest income

    44.2      67.5      26.3      23.5      35.3      41.5      7.5      14.5      9.4      11.2 

Noninterest expense

    129.3      118.8      75.3      64.1      74.8      74.9      39.7      42.2      36.5      38.8 

Impairment loss on goodwill

    –        –        –        –        –        633.3      –        –        –        –   
                                                           

Income (loss) before income taxes

    (46.7)     (155.8)     22.5      27.3      10.1      (627.3)     (8.2)     (32.5)     (43.7)     (83.9)

Income tax expense (benefit)

    3.0      (62.9)     12.6      10.3      2.3      0.4      (3.2)     (12.9)     (15.4)     (29.4)
                                                           

Net income (loss)

    (49.7)     (92.9)     9.9      17.0      7.8      (627.7)     (5.0)     (19.6)     (28.3)     (54.5)

Net income (loss) applicable to noncontrolling interests

    0.1      –        –        –        –        –        –        –        –        –   
                                                           

Net income (loss) applicable to controlling interest

    (49.8)     (92.9)     9.9      17.0      7.8      (627.7)     (5.0)     (19.6)     (28.3)     (54.5)

Preferred stock dividends

    –        –        –        (0.9)     –        (0.5)     –        –        –        –   
                                                           

Net earnings (loss) applicable to common shareholders

  $ (49.8)   $ (92.9)   $ 9.9    $ 16.1    $ 7.8    $ (628.2)   $ (5.0)   $ (19.6)   $ (28.3)   $ (54.5)
                                                           

AVERAGE BALANCE SHEET DATA

                   

Total assets

  $ 18,813    $ 21,031    $ 11,044    $ 10,572    $ 11,435    $ 12,344    $ 4,444    $ 4,849    $ 4,104    $ 4,104 

Total securities

    1,947      1,686      292      713      595      642      205      201      345      175 

Net loans and leases

    13,818      14,531      8,828      8,247      8,232      8,979      3,527      4,056      2,703      3,201 

Allowance for loan losses

    362      220      227      119      397      128      196      123      293      87 

Goodwill, core deposit and other intangibles

    20      20      395      399      683      1,324      17      22         

Noninterest-bearing demand deposits

    2,424      2,107      3,038      2,500      4,103      2,868      1,043      891      1,137      919 

Total deposits

    13,965      16,369      9,688      8,381      9,095      8,814      3,712      3,918      3,464      3,548 

Shareholder’s equity:

                   

Preferred equity

    460      250      262      157      390      80      404      430      360      268 

Common equity

    1,292      1,058      1,135      1,107      1,439      2,051      232      355      283      261 

Noncontrolling interests

            –        –        –        –        –        –        –        –   

Total shareholder’s equity

    1,753      1,309      1,397      1,264      1,829      2,131      636      785      643      529 
(In millions)   Vectra   TCBW   Other   Consolidated
Company
       
    2010   2009   2010   2009   2010   2009   2010   2009        

CONDENSED INCOME STATEMENT

                   

Net interest income

  $ 27.3    $ 23.5    $ 7.4    $ 8.3    $ (54.8)   $ 2.6    $ 455.3    $ 474.8     

Provision for loan losses

    8.9      8.9      2.9      2.2      0.1      –        265.6      297.6     
                                                   

Net interest income after provision for loan losses

    18.4      14.6      4.5      6.1      (54.9)     2.6      189.7      177.2     

Impairment losses investment securities:

                   

Impairment losses investment securities

    (0.3)     (23.3)     –        –        (48.3)     (74.4)