Attached files

file filename
EX-31.2 - SECTION 302 PFO CERTIFICATION - S&T BANCORP INCdex312.htm
EX-23 - CONSENT OF KPMG LLP - S&T BANCORP INCdex23.htm
EX-99.1 - CERTIFICATION OF CEO PURSUANT TO 31 C.F.R 30.15 - S&T BANCORP INCdex991.htm
EX-21 - SUBSIDIARIES OF THE REGISTRANT - S&T BANCORP INCdex21.htm
EX-99.2 - CERTIFICATION OF PFO PURSUANT TO 31 C.F.R 30.15 - S&T BANCORP INCdex992.htm
EX-31.1 - SECTION 302 CEO CERTIFICATION - S&T BANCORP INCdex311.htm
EX-24 - POWER OF ATTORNEY - S&T BANCORP INCdex24.htm
EX-32 - SECTION 906 CEO AND PFO CERTIFICATION - S&T BANCORP INCdex32.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-K

 

x    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934.

 

For the fiscal year ended December 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 1-12508

 

S&T BANCORP, INC.

(Exact name of registrant as specified in its charter)

 

Pennsylvania   25-1434426
(State or other jurisdiction of incorporation of organization)   (I.R.S. Employer Identification No.)
800 Philadelphia Street, Indiana, PA   15701
(Address of principal executive offices)   (Zip Code)

 

Registrant’s telephone number, including area code (800) 325-2265

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class   Name of each exchange on which registered
Common Stock, par value $2.50 per share   The NASDAQ Stock Market LLC
(NASDAQ Global Select Market)

 

Securities registered pursuant to Section 12(g) of the Act: None

(Title of class)

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

    Yes  ¨    No  x

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.

    Yes  ¨    No  x

 

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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (229.405 of this chapter) is not contained herein and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this form 10-K or any amendment to this form 10-K.  ¨

 

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 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  ¨   Accelerated filer  x
Non-accelerated filer  ¨ (Do not check if a smaller reporting  company)   Smaller reporting company  ¨

 

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

    Yes  ¨    No  x

 

The aggregate estimated fair value of the voting and non-voting common equity held by non-affiliates of the registrant as of June 30, 2010:

 

Common Stock, $2.50 par value – $531,336,243

 

The number of shares outstanding of the issuer’s classes of common stock as of February 28, 2011:

Common Stock, $2.50 par value – 27,969,917 shares

 

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the proxy statement for the annual shareholders meeting to be held April 26, 2011 are incorporated by reference into Part III.


Part I       
Item 1.    Business      3   
Item 1A.    Risk Factors      12   
Item 1B.    Unresolved Staff Comments      20   
Item 2.    Properties      20   
Item 3.    Legal Proceedings      20   
Item 4.    Removed and Reserved      20   
Part II   
Item 5.    Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities      21   
Item 6.    Selected Financial Data      23   
Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations      24   
Item 7A.    Quantitative and Qualitative Disclosures About Market Risk      56   
Item 8.    Financial Statements and Supplementary Data      59   
Item 9.    Changes in and Disagreements with Accountants on Accounting and Financial Disclosures      117   
Item 9A.    Controls and Procedures      117   
Item 9B.    Other Information      118   
Part III   
Item 10.    Directors, Executive Officers and Corporate Governance      119   
Item 11.    Executive Compensation      119   
Item 12.    Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters      119   
Item 13.    Certain Relationships and Related Transactions, and Director Independence      119   
Item 14.    Principal Accounting Fees and Services      119   
Part IV   
Item 15.    Exhibits, Financial Statement Schedules      120   
   Signatures      123   

 

PAGE 2


PART I

 

Item 1.  BUSINESS

 

 

General

 

S&T Bancorp, Inc. (“S&T”; references to “we” or “us” refers to S&T, including on a consolidated basis with our subsidiaries where appropriate) was incorporated on March 17, 1983 under the laws of the Commonwealth of Pennsylvania as a bank holding company and has two wholly owned subsidiaries, S&T Bank and 9th Street Holdings, Inc. S&T also owns a one-half interest in Commonwealth Trust Credit Life Insurance Company (“CTCLIC”). S&T is registered as a financial holding company with the Board of Governors of the Federal Reserve System (the “Federal Reserve Board”) under the Bank Holding Company Act of 1956, as amended (“BHCA”).

As of December 31, 2010, S&T had approximately $4.1 billion in total assets, $578.7 million in total shareholder’s equity and $3.3 billion in total deposits. S&T Bank deposits are insured by the Federal Deposit Insurance Corporation (“FDIC”) to the maximum extent provided by law.

S&T Bank is a full service bank with its Main Office at 800 Philadelphia Street, Indiana, Pennsylvania, providing services to its customers through a branch network of 51 offices located in Allegheny, Armstrong, Blair, Butler, Clarion, Clearfield, Indiana, Jefferson and Westmoreland counties of Pennsylvania.

S&T Bank’s services include accepting time and demand deposit accounts, originating commercial and consumer loans, providing letters of credit, offering discount brokerage services, personal financial planning, credit card services and insurance products. Management believes that S&T Bank has a relatively stable deposit base and no material amount of deposits is obtained from a single depositor or group of depositors (including federal, state and local governments). S&T Bank has not experienced significant fluctuations in deposits.

Total Wealth Management assets under management were approximately $1.4 billion at December 31, 2010. Wealth Management provides services as executor and trustee under wills and deeds, guardian and custodian of employee benefit plans and other trust and brokerage services.

S&T Bank has four wholly owned subsidiaries, S&T Insurance Group, LLC; S&T Professional Resources Group, LLC; S&T Bancholdings, Inc.; and Stewart Capital Advisors, LLC. S&T Insurance Group, LLC, through its subsidiaries, offers a variety of insurance products. S&T Professional Resources Group, LLC markets software developed by S&T Bank; S&T Bancholdings, Inc. is an investment company; and Stewart Capital Advisors, LLC, is a registered investment advisor that manages private investment accounts for individuals and institutions and advises the Stewart Capital Mid Cap Fund.

 

Employees

 

As of December 31, 2010, S&T and its subsidiaries had 936 full-time equivalent employees. S&T provides a variety of employment benefits and considers its relationship with its employees to be good.

 

Access to United States Securities and Exchange Commission Filings

 

All reports filed electronically by S&T with the United States Securities and Exchange Commission (“SEC”), including our Annual Report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and our annual proxy statements, as well as any amendments to those reports, are accessible at no cost on our website at www.stbancorp.com. These filings are also accessible on the SEC’s website at www.sec.gov. You may read and copy any material S&T files with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, D.C. 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. S&T’s charters of the Audit Committee, the Compensation and Benefits Committee, the Nominating

 

PAGE 3


Item 1.  BUSINESS — continued

 

 

and Corporate Governance Committee, the Wealth Management Oversight Committee, the Code of Conduct for the CEO and CFO, the Shareholder Communications Policy, Complaints Regarding Accounting Internal Accounting Controls or Auditing Matters (“Whistleblower Policy”) and the General Code of Conduct are also available on S&T’s website.

 

Supervision and Regulation

 

General

 

S&T and S&T Bank are each extensively regulated under federal and state law. The following describes certain aspects of that regulation and does not purport to be a complete description of all regulations that affect S&T and S&T Bank or all aspects of those regulations.

To the extent statutory or regulatory provisions are described, the description is qualified in its entirety by reference to the particular statutory or regulatory provisions. Proposals to change the laws and regulations governing the banking industry are frequently raised in Congress, in state legislatures and before the various bank regulatory agencies. The likelihood and timing of any changes and the impact such changes might have on S&T or S&T Bank is impossible to determine with any certainty.

Any change in applicable laws or regulations, or in the way such laws or regulations are interpreted by regulatory agencies or courts, may have a material impact on our business, operations and earnings.

 

S&T

 

S&T is a bank holding company subject to regulation under the BHCA and the examination and reporting requirements of the Federal Reserve Board. Under the BHCA, a bank holding company may not directly or indirectly acquire ownership or control of more than five percent of the voting shares or substantially all of the assets of any additional bank, or merge or consolidate with another bank holding company, without the prior approval of the Federal Reserve Board. S&T has received approval from the Federal Reserve Board for a passive ownership position in Allegheny Valley Bancorp, Inc. (currently 14.68 percent).

As a bank holding company, S&T is expected under Federal Reserve Board regulation to serve as a source of financial and managerial strength to its subsidiary bank. A bank holding company is also expected to commit resources, including capital and other funds, to support its subsidiary bank in circumstances where it might not do so absent such a policy.

S&T elected to become a financial holding company under the BHCA in 2001 and thereby engage in a broader range of financial and other activities than are permissible for traditional bank holding companies. In order to qualify and maintain its status as a financial holding company, the depository institutions controlled by S&T must remain “well-capitalized,” “well-managed” (as defined in federal law) and have at least a “satisfactory” Community Reinvestment Act (“CRA”) rating. Refer to Item 8, Note 21 Regulatory Matters, for information concerning the current capital ratios of S&T and S&T Bank. No prior regulatory approval is required for a financial holding company to acquire a company, other than a bank or savings association, engaged in activities that are financial in nature or incidental to activities that are financial in nature, as determined by the Federal Reserve Board. The BHCA identifies several activities as “financial in nature” including, among others, securities underwriting, dealing and market making; sponsoring mutual funds and investment companies; insurance underwriting and sales agency; investment advisory activities; merchant banking activities; and activities that the Federal Reserve Board has determined to be closely related to banking or a proper incident thereto. Banks may also engage, subject to limitations on investment, in activities that are financial in nature, other than insurance underwriting, insurance company portfolio investment, real estate development and real estate investment, through a financial subsidiary of the bank, if the bank is “well-capitalized,” “well-managed” and has at least a “satisfactory” CRA rating. On July 21, 2010, the President signed the Dodd-Frank Wall Street Reform and Consumer Protection

 

PAGE 4


Item 1.  BUSINESS — continued

 

 

Act (the “Dodd-Frank Act”) into law, see “Government Actions and Legislation,” which will require that S&T also remain “well-capitalized” and “well-managed” in order for S&T to maintain its status as a financial holding company as of July 21, 2011 (the “Designated Transfer Date”). Additionally, upon the Designated Transfer Date, the Dodd-Frank Act will require a financial holding company to obtain prior regulatory approval to acquire any company with consolidated assets that exceed $10.0 billion.

If S&T Bank, and S&T (upon the Designated Transfer Date), cease to be “well-capitalized” or “well-managed,” S&T will not be in compliance with the requirements of the BHCA regarding financial holding companies. If a financial holding company is notified by the Federal Reserve Bank of such a change in the ratings of any of its subsidiary banks, it must take certain corrective actions within specified time frames. Furthermore, if S&T Bank were to receive a CRA rating of less than “satisfactory,” then S&T would be prohibited from engaging in new activities or acquiring companies other than bank holding companies, banks or savings associations until the rating is raised to “satisfactory” or better.

S&T is presently engaged in nonbanking activities through the following six entities:

 

   

9th Street Holdings, Inc. was formed in June 1988 to hold and manage a group of investments previously owned by S&T Bank and to give S&T additional latitude to purchase other investments.

   

S&T Bancholdings, Inc. was formed in August 2002 to hold and manage a group of investments previously owned by S&T Bank and to give S&T additional latitude to purchase other investments.

   

CTCLIC is a joint venture with another financial institution, acting as a reinsurer of credit life, accident and health insurance policies sold by S&T Bank and the other institution.

   

S&T Insurance Group, LLC distributes life insurance and long-term disability income insurance products. During 2001, S&T Insurance Group, LLC and Attorneys Abstract Company, Inc. entered into an agreement to form S&T Settlement Services, LLC (“STSS”), with respective ownership interests of 55 percent and 45 percent. STSS is a title insurance agency servicing commercial customers. During 2002, S&T Insurance Group, LLC expanded into the property and casualty insurance business with the acquisition of Evergreen Insurance Associates, LLC.

   

S&T Professional Resources Group LLC markets software developed by S&T Bank.

   

Stewart Capital Advisors, LLC was formed in August 2005 and is a registered investment advisor that manages private investment accounts for individuals and institutions and advises the Stewart Capital Mid Cap Fund.

 

S&T Bank

 

As a state-chartered, commercial bank, the deposits of which are insured by the FDIC, S&T Bank is subject to the supervision and regulation of the Pennsylvania Department of Banking (“PADB”) and the FDIC. S&T Bank is also subject to various requirements and restrictions under federal and state law, including requirements to maintain reserves against deposits, restrictions on the types, amount and terms and conditions of loans that may be granted and limits on the type of other activities in which S&T Bank may engage and the investments it may make.

In addition, S&T Bank is subject to affiliate transaction rules in Sections 23A and 23B of the Federal Reserve Act that limit the amount of transactions between itself and S&T or S&T’s nonbank subsidiaries. Under these provisions, transactions between a bank and its parent company or any single nonbank affiliate generally are limited to 10 percent of the bank subsidiary’s capital and surplus, and with respect to all transactions with affiliates, are limited to 20 percent of the bank subsidiary’s capital and surplus. Further, loans and extensions of credit from a bank to an affiliate generally are required to be secured by eligible collateral in specified amounts. The Dodd-Frank Act expands the affiliate transaction rules to broaden the definition of affiliate and to apply to securities

 

PAGE 5


Item 1.  BUSINESS — continued

 

 

lending, repurchase agreement and derivatives activities that S&T Bank may have with an affiliate, as well as to strengthen collateral requirements and limit Federal Reserve exemptive authority. Also, the definition of “extension of credit” for transactions with executive officers, directors and principal shareholders is being expanded to include credit exposure arising from a derivative transaction, a repurchase or reverse repurchase agreement and a securities lending or borrowing transaction. These expansions will be effective one year after the Designated Transfer Date, July 21, 2012. At this time, we do not anticipate that these provisions will have a material effect on S&T or S&T Bank.

 

Insurance of Accounts; Depositor Preference

 

The deposits of S&T Bank are insured up to applicable limits per insured depositor by the FDIC. In October 2008, the FDIC increased FDIC deposit insurance coverage per separately insured depositor for all account types to $250,000. While initially stipulated to be in effect through December 31, 2010, this increase was made permanent in July 2010 by the enactment of the Dodd-Frank Act. The Dodd-Frank Act also maintains federal deposit insurance coverage for noninterest-bearing transaction accounts at an unlimited amount from December 31, 2010 until December 31, 2012. Interest on Lawyer Trust Accounts will be considered “noninterest-bearing transaction accounts” for purposes of temporary unlimited deposit insurance coverage. However, interest-bearing transaction accounts paying 25 basis points or less are no longer insured beyond the $250,000 limit as of December 31, 2010. The Dodd Frank Act’s federal deposit insurance coverage for noninterest-bearing transaction deposit accounts replaces the transaction account guarantee program of the Temporary Liquidity Guarantee Program. S&T was a participant in the transaction account guarantee program during its existence.

As an FDIC-insured bank, S&T Bank is also subject to FDIC insurance assessments, which are imposed based upon the risk the institution poses to the Deposit Insurance Fund (“DIF”). Under this assessment system, risk is defined and measured using an institution’s supervisory ratings with other risk measures, including financial ratios. The annual rates for institutions in 2010 range from 12 basis points for “well-capitalized,” “well-managed” banks, with the highest ratings, to 45 basis points for institutions posing the most risk to the DIF. The FDIC may raise or lower these assessment rates on a quarterly basis based on various factors to achieve a reserve ratio, which the Dodd-Frank Act has mandated to be no less than 1.35 percent of insured deposits.

Due to recent bank failures and contingent loss reserves established by the FDIC against potential future bank failures, the reserve ratio is currently significantly below its target balance. Thus, in February 2009, the FDIC adopted a Final Rule on Assessments under which the quarterly initial base assessment rates increased substantially beginning in the second quarter of 2009. The FDIC then adopted a Final Rule on Special Assessment in May 2009, which imposed a five basis point special assessment on each institution’s assets minus Tier 1 capital as reported on the report of condition as of June 30, 2009, but capped the special assessment at 10 basis points times the institution’s assessment base for the second quarter 2009 risk-based assessment. On November 12, 2009, the FDIC Board of Directors adopted a final rule that required insured depository institutions to prepay, on December 30, 2009, their estimated quarterly risk-based assessments for the fourth quarter of 2009 and for all of 2010, 2011, and 2012, along with their quarterly risk-based assessment for the third quarter of 2009. The continued decline in the DIF balance may convince the FDIC to impose additional special emergency assessments in the future, which could have an impact on S&T Bank’s earnings and capital levels. The prepayment for S&T’s quarterly assessments amounted to $21.1 million and will be recognized as expense over a three year period. As of December 31, 2010, $14.9 million remains prepaid for quarterly FDIC assessments.

On October 19, 2010, the Board of Directors of the FDIC adopted a new Restoration Plan to ensure that the DIF reserve ratio reaches 1.35 percent by September 30, 2020, as required by the Federal Deposit Insurance Reform Act of 2005 (“Reform Act”). Among other things, the Restoration Plan

 

PAGE 6


Item 1.  BUSINESS — continued

 

 

provides that the FDIC will forego the uniform three basis point increase in initial assessment rates that was previously scheduled to take effect on January 1, 2011 and will maintain the current assessment rate schedule for all insured depository institutions until the reserve ratio reaches 1.15 percent. The FDIC intends to pursue further rulemaking in 2011, regarding the requirement under the Reform Act that the FDIC offset the effect on institutions with less than $10.0 billion in assets (such as S&T Bank) of the requirement that the reserve ratio reach 1.35 percent by September 30, 2020, rather than 1.15 percent by the end of 2016 (as required under the prior restoration plan), so that more of the cost of raising the reserve ratio to 1.35 percent will be borne by institutions with more than $10.0 billion in assets. Implementation of the Restoration Plan is not expected to have a material effect upon S&T’s consolidated operating results. In addition to DIF assessments, the FDIC assesses all insured deposits a special assessment to fund the repayment of debt obligations of the Financing Corporation (“FICO”). FICO is a government-sponsored entity that was formed to borrow the money necessary to carry out the closing and ultimate disposition of failed thrift institutions by the Resolution Trust Corporation in the 1990s. As of January 1, 2011, the annualized rate established by the FDIC for the FICO assessment was 1.02 basis points per $100 of insured deposits.

Under federal law, deposits and certain claims for administrative expenses and employee compensation against insured depository institutions are afforded a priority over other general unsecured claims against such an institution, including federal funds and letters of credit, in the liquidation or other resolution of such an institution by any receiver appointed by regulatory authorities. Such priority creditors would include the FDIC.

 

Capital

 

The Federal Reserve Board and FDIC have issued substantially similar risk-based and leverage capital guidelines applicable to banking organizations they supervise. Under current capital guidelines, both S&T and S&T Bank are required to maintain certain capital standards based on ratios of capital to assets and capital to risk weighted assets. The guidelines define a bank’s total qualifying capital as having two components. Tier 1 capital, which must be at least 50 percent of total qualifying capital, is mainly comprised of common equity, retained earnings, and qualifying preferred stock, less certain intangibles. Tier 2 capital may include the allowance for loan losses (“ALL”) model loss up to a maximum of 1.25 percent of risk weighted assets, qualifying subordinated debt, qualifying preferred stock, hybrid capital instruments, and up to 45 percent of net unrealized gains on available-for-sale equity securities. The guideline also defines the weights assigned to assets and off-balance sheet items to determine the risk weighted asset component of the risk-based capital ratios.

The Federal Reserve Board and FDIC have established minimum and well-capitalized standards for banks. The minimum capital standards are defined as a Tier 1 ratio of at least 4.00 percent, a Total capital ratio of at least 8.00 percent and a Leverage ratio of at least 3.00 percent. The Leverage ratio of 3.00 percent is for those bank and bank holding companies that meet certain specified criteria, including having received the highest regulatory rating and are not experiencing significant growth or expansion. All other banks and bank holding companies generally are required to maintain a leverage ratio of at least 100 to 200 basis points above the stated minimum. S&T and S&T Bank maintain capital levels to meet the well-capitalized regulatory standards, which are defined as a Tier 1 ratio of at least 6.00 percent, Total capital ratio of at least 10.00 percent and a Leverage ratio of at least 5.00 percent. At December 31, 2010 S&T’s Tier 1 capital, Total capital and Leverage ratios were 13.28 percent, 16.68 percent and 11.07 percent, respectively. At December 31, 2010 S&T Bank’s Tier 1, Total capital and Leverage ratios were 9.02 percent, 12.42 percent, and 7.50 percent, respectively.

Both the Federal Reserve Board and the FDIC’s risk-based capital standards explicitly identify concentrations of credit risk and the risk arising from non-traditional activities, as well as an institution’s ability to manage these risks, as important factors to be taken into account by the agency in assessing an institution’s overall capital adequacy. The capital guidelines also provide that an

 

PAGE 7


Item 1.  BUSINESS — continued

 

 

institution’s exposure to a decline in the economic value of its capital due to changes in interest rates be considered by the agency as a factor in evaluating a bank’s capital adequacy. The Federal Reserve Board has also issued additional capital guidelines for certain bank holding companies that engage in trading activities. S&T does not believe that consideration of these additional factors will affect the regulators’ assessment of S&T or S&T Bank’s capital position. The Dodd-Frank Act contains a number of provisions intended to strengthen capital, including requiring minimum leverage and risk-based capital that are at least as stringent as those currently in effect. The regulations implementing these rules are to be finalized no later than January 22, 2012. Also, upon the Designated Transfer Date, the Dodd-Frank Act will require the Federal Reserve Board to implement capital regulations that are countercyclical so that the amount of capital required to be maintained by S&T would increase in times of economic expansion and decrease in times of economic contraction, consistent with the safety and soundness of the company. In addition to the Dodd-Frank Act, the international oversight body of the Basel Committee on Banking Supervision reached agreements in July 2010 (“Basel III”) to increase the minimum common equity capital requirement for banks from 2.00 percent to 4.00 percent, along with a capital conservation buffer of 2.50 percent to bring total common equity capital requirements to 7.00 percent. The Basel III requirements will be phased in beginning January 1, 2013. Federal regulators periodically propose amendments to the risk-based capital guidelines and the related regulatory framework and consider changes to the capital standards that could significantly increase the amount of capital needed to meet applicable standards. The timing of adoption, ultimate form and effect of any such proposed amendments cannot be predicted.

 

Capital Purchase Program

 

On January 16, 2009, S&T completed a $108.7 million capital raise as a participant in the U.S. Treasury Capital Purchase Program (the “CPP”). In conjunction with S&T’s participation in the CPP, S&T issued to the U.S. Treasury 108,676 shares of S&T’s Series A Preferred Stock. The Series A Preferred Stock pays cumulative dividends at a rate of five percent per year for the first five years and thereafter at a rate of nine percent per year. As part of its purchase of the Series A Preferred Stock, the U.S. Treasury received a Warrant to purchase 517,012 shares of S&T’s common stock at an initial per share exercise price of $31.53. The Warrant provides for the adjustment of the exercise price and the number of shares of S&T’s common stock issuable upon exercise pursuant to customary anti-dilution provisions, such as upon stock splits or distributions of securities or other assets to holders of S&T’s common stock and upon certain issuances of S&T’s common stock at or below a specified price relative to the initial exercise price. S&T engaged an outside expert to calculate the estimated fair value of the common stock warrant issued by S&T on January 16, 2009. A binomial pricing model was used resulting in an estimated fair value of $4.0 million. The Warrant expires 10 years from the issuance date. In addition, the U.S. Treasury has agreed not to exercise voting power with respect to any shares of common stock issued upon exercise of the Warrant.

Under changes made to the CPP by the American Recovery and Reinvestment Act of 2009 (“ARRA”), subject to approval by banking regulatory agencies, S&T can redeem the Series A Preferred Stock, plus any accrued and unpaid dividends, at any time. If S&T only redeems part of the CPP investment, then it must pay a minimum of 25 percent of the issue, or $27.2 million. The consent of the U.S. Treasury will be required for S&T to increase its common stock dividend (above the dividend amount prior to the participation in the CPP) or repurchase its common stock or other equity or capital securities, other than in connection with benefit plans consistent with past practice and certain other circumstances through January 16, 2012. The consent of the U.S. Treasury will not be required if S&T has redeemed the Series A Preferred Stock or the U.S. Treasury has transferred the Series A Preferred Stock to a third party. In addition, the Series A Preferred Stock issuance includes certain restrictions on executive compensation that could limit the tax deductibility of compensation S&T pays to executive management.

 

PAGE 8


Item 1.  BUSINESS — continued

 

 

Payment of Dividends

 

S&T is a legal entity separate and distinct from its banking and other subsidiaries. A substantial portion of S&T’s revenues consist of dividend payments it receives from S&T Bank. S&T Bank, in turn, is subject to state laws and regulations that limit the amount of dividends it can pay to S&T. In addition, both S&T and S&T Bank are subject to various general regulatory policies relating to the payment of dividends, including requirements to maintain adequate capital above regulatory minimums. The Federal Reserve Board has indicated that banking organizations should generally pay dividends only if (i) the organization’s net income available to common shareholders over the past year has been sufficient to fully fund the dividends and (ii) the prospective rate of earnings retention appears consistent with the organization’s capital needs, asset quality and overall financial condition. Thus, under certain circumstances based upon S&T’s financial condition, S&T’s ability to declare and pay quarterly dividends may require consultation with the Federal Reserve and may be prohibited by applicable Federal Reserve regulations. If S&T were to pay a dividend in contravention of Federal Reserve regulations, the Federal Reserve could raise supervisory concerns. In addition, prior to January 16, 2012, unless S&T has redeemed the Series A Preferred Stock or the U.S. Treasury has transferred the Series A Preferred Stock to a third party, the consent of the U.S. Treasury is required for S&T to increase its common stock dividend (above the dividend amount prior to the participation in the CPP) or repurchase its common stock or other equity or capital securities, other than in connection with benefit plans consistent with past practice and certain other circumstances. During the year ended December 31, 2010, S&T Bank paid $16.7 million in cash dividends to S&T for dividends paid to common shareholders.

 

Other Safety and Soundness Regulations

 

There are a number of obligations and restrictions imposed on bank holding companies such as S&T and its depository institution subsidiary by federal law and regulatory policy that are designed to reduce potential loss exposure to the depositors of such depository institutions and to the FDIC insurance funds in the event the depository institution becomes in danger of default or is in default. Under current federal law for example, the federal banking agencies possess broad powers to take prompt corrective action to resolve problems of insured depository institutions. The extent of these powers depends upon whether the institution in question is “well-capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized” or “critically undercapitalized,” as defined by the law. Under regulations established by the federal banking agencies, a “well-capitalized” institution must have a Tier 1 capital ratio of at least 6.00 percent, a Total capital ratio of at least10.00 percent and a leverage ratio of at least 5.00 percent and must not be subject to a capital directive or order. An “adequately capitalized” institution must have a Tier 1 capital ratio of at least 4.00 percent, a Total capital ratio of at least 8.00 percent and a leverage ratio of at least 4.00 percent. The most highly-rated financial institutions minimum requirement for the leverage ratio is 3.00 percent. As of December 31, 2010, S&T and S&T Bank were classified as “well- capitalized.” The classification of depository institutions is primarily for the purpose of applying the federal banking agencies’ prompt corrective action provisions and is not intended to be and should not be interpreted as a representation of overall financial condition or prospects of any financial institution.

The federal banking agencies’ prompt corrective action powers (which increase depending upon the degree to which an institution is undercapitalized) can include, among other things, requiring an insured depository institution to adopt a capital restoration plan which cannot be approved unless guaranteed by the institution’s parent company; placing limits on asset growth and restrictions on activities, including restrictions on transactions with affiliates; restricting the interest rates the institution may pay on deposits; prohibiting the payment of principal or interest on subordinated debt; prohibiting the holding company from making capital distributions without prior regulatory approval; and, ultimately, appointing a receiver for the institution. For example, only a “well-capitalized” depository institution may accept brokered deposits without prior regulatory approval.

 

PAGE 9


Item 1.  BUSINESS — continued

 

 

The federal banking agencies have also adopted guidelines prescribing safety and soundness standards relating to internal controls and information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth and compensation, fees and benefits. In general, the guidelines require appropriate systems and practices to identify and manage specified risks and exposures. The guidelines prohibit excessive compensation as an unsafe and unsound practice and characterize compensation as excessive when the amounts paid are unreasonable or disproportionate to the services performed by an executive officer, employee, director or principal shareholder. In addition, the agencies have adopted regulations that authorize, but do not require an agency to order an institution that has been given notice by an agency that it is not in compliance with any of such safety and soundness standards to submit a compliance plan. If, after being so notified, an institution fails to submit an acceptable compliance plan, the agency must issue an order directing action to correct the deficiency and may issue an order directing other actions of the types to which an “undercapitalized” institution is subject under the prompt corrective action provisions described above.

 

Regulatory Enforcement Authority

 

The enforcement powers available to federal banking agencies are substantial and include, among other things and in addition to other powers described herein, the ability to assess civil money penalties, to issue cease-and-desist or removal orders and to initiate injunctive actions against banks and bank holding companies and “institution affiliated parties,” as defined in the Federal Deposit Insurance Act (“FDIA”). In general, these enforcement actions may be initiated for violations of laws and regulations, as well as engagement in unsafe or unsound practices. Other actions or inactions may provide the basis for enforcement action, including misleading or untimely reports filed with regulatory authorities.

At the state level, the PADB also has broad enforcement powers over S&T Bank, including the power to impose fines and other civil and criminal penalties and to appoint a conservator or receiver.

 

Interstate Banking and Branching

 

The BHCA currently permits bank holding companies from any state to acquire banks and bank holding companies located in any other state, subject to certain conditions, including certain nationwide and state-imposed deposit concentration limits. In addition, because of changes to law made by the Dodd-Frank Act, S&T Bank may now establish de novo interstate branches anywhere in the country, regardless of state law.

 

Community Reinvestment and Consumer Protection Laws

 

In connection with its lending activities, S&T Bank is subject to a number of federal laws designed to protect borrowers and promote lending to various sectors of the economy and population. These include, among other laws, the Equal Credit Opportunity Act, the Truth-in-Lending Act, the Home Mortgage Disclosure Act, the Real Estate Settlement Procedures Act, the Fair Credit Reporting Act and the CRA. In addition, rules developed by the federal banking agencies pursuant to federal law require disclosure of privacy policies to consumers and in some circumstances, allow consumers to prevent the disclosure of certain personal information to nonaffiliated third parties.

The CRA requires the appropriate federal banking agency, in connection with its examination of a bank, to assess the bank’s record in meeting the credit needs of the communities served by the bank, including low and moderate-income neighborhoods. Furthermore, such assessment also is required of any bank that has applied, among other things, to merge or consolidate with or acquire the assets or assume the liabilities of an insured depository institution, or to open or relocate a branch office. In the case of a bank holding company (including a financial holding company) applying for approval to acquire a bank or bank holding company, the Federal Reserve Board will assess the record of each

 

PAGE 10


Item 1.  BUSINESS — continued

 

 

subsidiary bank of the applicant bank holding company in considering the application. Under the CRA, institutions are assigned a rating of “outstanding,” “satisfactory,” “needs to improve” or “unsatisfactory.” S&T Bank was rated “satisfactory” in its most recent CRA evaluation.

 

Anti-Money Laundering Rules

 

S&T Bank is subject to the Bank Secrecy Act, its implementing regulations and other anti-money laundering laws and regulations, including the USA PATRIOT Act of 2001. Among other things, these laws and regulations require S&T Bank to take steps to prevent the use of S&T Bank to facilitate the flow of illegal or illicit money, to report large currency transactions and to file suspicious activity reports. S&T Bank is also required to develop and implement a comprehensive anti-money laundering compliance program. Banks must also have in place appropriate “know your customer” policies and procedures. Violations of these requirements can result in substantial civil and criminal sanctions. In addition, provisions of the USA PATRIOT Act of 2001 require the federal financial institution regulatory agencies to consider the effectiveness of a financial institution’s anti-money laundering activities when reviewing bank mergers and bank holding company acquisitions.

 

Government Actions and Legislation

 

On July 21, 2010, the President signed the Dodd-Frank Act into law. This new law will significantly change the current bank regulatory structure and affect the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies, including S&T and S&T Bank. The Dodd-Frank Act contains a number of provisions intended to strengthen capital. Refer to Capital within Item 1 for additional information. For example, the federal banking agencies are directed to establish minimum leverage and risk-based capital that are at least as stringent as those currently in effect.

The Dodd-Frank Act requires various federal agencies to adopt a broad range of new rules and regulations, and to prepare numerous studies and reports for Congress. The federal agencies are given significant discretion in drafting the implementing rules and regulations, and consequently, many of the details and much of the impact of the Act may not be known for many months or years. The Dodd-Frank Act also contains provisions that expand the insurance assessment base and increase the scope of deposit insurance coverage.

Among other provisions, the SEC has recently enacted rules, required by the Dodd-Frank Act, giving stockholders a non-binding vote on executive compensation and so-called “golden parachute” payments. The Dodd-Frank Act also authorizes the SEC to promulgate rules that would allow stockholders to nominate their own candidates for election as directors using a company’s proxy materials. The legislation also directs the federal financial institution regulatory agencies to promulgate rules prohibiting excessive compensation being paid to financial institution executives.

The Dodd-Frank Act also creates the Consumer Financial Protection Bureau (“CFPB”) that will take over responsibility as of the Designated Transfer Date of the principal federal consumer protection laws, such as the Truth in Lending Act, the Equal Credit Opportunity Act, the Real Estate Settlement Procedures Act and the Truth in Saving Act, among others. Institutions that have assets of $10.0 billion or less, such as S&T, will continue to be supervised in this area by their primary federal regulators (in the case of S&T Bank, the FDIC). The Act also gives the CFPB expanded data collecting powers for fair lending purposes for both small business and mortgage loans, as well as expanded authority to prevent unfair, deceptive and abusive practices. The consumer complaint function also will be consolidated into the CFPB. In addition, the Federal Reserve is required to adopt a rule addressing interchange fees applicable to debit card transactions. Although by its terms this rule will not apply to banks with less than $10.0 billion in assets, it may still have the practical effect of reducing fees that smaller banks (like S&T Bank) may charge.

 

PAGE 11


Item 1.  BUSINESS — continued

 

 

Many of the provisions of the Dodd-Frank Act will not become effective until the Designated Transfer Date or after and, if required, the adoption and effectiveness of implementing regulations. In addition, the scope and impact of many of the Dodd-Frank Act’s provisions will be determined through the rulemaking process. As a result, we cannot predict the ultimate impact of the Act on S&T or S&T Bank at this time, including the extent to which it could increase costs or limit our ability to pursue business opportunities in an efficient manner, or otherwise adversely affect our business, financial condition and results of operations. Nor can we predict the impact or substance of other future legislation or regulation. However, it is expected that they at a minimum will increase our operating and compliance costs.

Federal and state regulatory agencies consistently propose and adopt changes to their regulations or change the manner in which existing regulations are applied. We cannot predict the substance or impact of pending or future legislation or regulation, or the application thereof, although enactment of the proposed legislation could affect how S&T and S&T Bank operate and could significantly increase costs, impede the efficiency of internal business processes, or limit our ability to pursue business opportunities in an efficient manner, any of which could materially and adversely affect our business, financial condition and results of operations.

 

Competition

 

S&T Bank competes with other local, regional and national financial service providers, such as other financial holding companies, commercial banks, savings associations, credit unions, finance companies and brokerage and insurance firms. Some of S&T’s competitors are not subject to the same level of regulation and oversight that is required of banks and bank holding companies, and are thus able to operate under lower cost structures. The financial service industry is likely to become more competitive as further technological advances enable more companies to provide financial services on a more efficient and convenient basis.

S&T faces significant competition in both originating loans and attracting deposits. The western Pennsylvania area has a high density of financial institutions, some of which are significantly larger institutions with greater financial resources than S&T, and many of which are S&T’s competitors to varying degrees. S&T’s competition for loans comes principally from commercial banks, savings associations, mortgage banking companies, credit unions, brokerage and insurance companies and other financial service companies. S&T’s most direct competition for deposits has historically come from commercial banks, savings banks and credit unions. S&T faces additional competition for deposits from non-depository competitors such as the mutual fund industry, securities and brokerage firms and insurance companies. S&T has emphasized personalized banking and the advantage of local decision-making in our banking business and this strategy appears to have been well received in our market area.

S&T’s current market area, consisting primarily of western Pennsylvania, provides long-term opportunity for growth in deposits and commercial lending. Commercial and residential real estate values in our market appear to have stabilized. The national and local economies still remain fragile with high unemployment rates. Business conditions remain subdued and that uncertainty is serving to limit both consumer and corporate spending in our area.

 

Item 1A.  RISK FACTORS

 

 

Investments in our common stock involve risk. The following discussion highlights the risks that management believes are material for our company, but do not necessarily include all risk that we may face.

 

PAGE 12


Item 1A.  RISK FACTORS — continued

 

 

The market price of our common stock may fluctuate significantly in response to a number of factors.

 

Our quarterly and annual operating results have varied significantly in the past and could vary significantly in the future, which makes it difficult for us to predict our future operating results. Our operating results may fluctuate due to a variety of factors, many of which are outside of our control, including the changing and recently volatile U.S. economic environment and changes in the commercial and residential real estate market, any of which may cause our stock price to fluctuate. If our operating results fall below the expectations of investors or securities analysts, the price of our common stock could decline substantially. Our stock price can fluctuate significantly in response to a variety of factors including, among other things:

 

   

volatility of stock market prices and volumes in general;

   

changes in market valuations of similar companies;

   

changes in conditions in credit markets;

   

changes in accounting policies or procedures as required by the Financial Accounting Standards Board (“FASB”) or other regulatory agencies;

   

new legislation and/or regulatory changes, including those changes that will occur through the implementation of the Dodd-Frank Act;

   

additions or departures of key members of management;

   

fluctuations in our quarterly or annual operating results; and

   

changes in analysts’ estimates of our financial performance.

 

Risks Related to Credit

 

Our ability to assess the credit worthiness of our customers may diminish, which may adversely affect our results of operations.

 

We take credit risk by virtue of making loans and extending loan commitments and letters of credit. Our exposure to credit risk is managed through the use of consistent underwriting standards that emphasize “in-market” lending while avoiding highly leveraged transactions as well as excessive industry and other concentrations. Our credit administration function employs risk management techniques to ensure that loans adhere to corporate policy and problem loans are promptly identified. While these procedures are designed to provide us with the information needed to implement policy adjustments where necessary, and to take proactive corrective actions, there can be no assurance that such measures will be effective in avoiding undue credit risk. If the models and approaches we use to select, manage and underwrite our consumer and commercial customers become less predictive of future charge-offs (due, for example, to rapid changes in the economy, including the unemployment rate), our credit losses may increase.

 

The value of the collateral used to secure our loans may not be sufficient to compensate for the amount of an unpaid loan and we may be unsuccessful in recovering the remaining balance from our customers.

 

Decreases in real estate values, particularly with respect to our commercial lending and mortgage activities, could adversely affect the value of property used as collateral for our loans and our customers’ ability to repay these loans, which in turn could impact our profitability. Repayment of our commercial loans is often dependent on the cash flow of the borrower, which may become unpredictable in the current economy. If the value of the assets, such as real estate, serving as collateral for the loan portfolio were to decline materially, a significant part of the loan portfolio could become under-collateralized. If the loans that are secured by real estate become troubled when real estate market conditions are declining or have declined, in the event of foreclosure, we may not be

 

PAGE 13


Item 1A.  RISK FACTORS — continued

 

 

able to realize the amount of collateral that was anticipated at the time of originating the loan. This could result in higher charges which could have a material adverse effect on our operating results and financial condition.

 

Changes in the overall credit quality of our portfolio can have a significant impact on our earnings.

 

Like other lenders, we face the risk that our customers will not repay their loans. We reserve for losses in our loan portfolio based on our assessment of inherent credit losses. This process, which is critical to our financial results and condition, requires complex judgments, including our assessment of economic conditions, which are difficult to predict. Through a periodic review of the loan portfolio, management determines the amount of the ALL by considering historical losses combined with qualitative factors including general and regional economic conditions, asset quality trends, loan policy and underwriting, and changes in loan concentrations and collateral values. The amount of future losses is susceptible to changes in economic, operating and other conditions, including changes in interest rates, which may be beyond our control. We may underestimate our inherent losses and fail to hold an ALL sufficient to account for these losses. Incorrect assumptions could lead to material underestimates of inherent losses and inadequate ALL. As our assessment of inherent losses changes, we may need to increase or decrease our ALL, which could adversely impact our financial results and profitability.

 

Our loan portfolio is concentrated in western Pennsylvania, and our lack of geographic diversification increases our risk profile.

 

The regional economic conditions in western Pennsylvania affect the demand for our products and services as well as the ability of our customers to repay their loans and the value of the collateral securing these loans. A significant decline in the regional economy caused by inflation, recession, unemployment or other factors, could adversely affect our customers, the quality of our loan portfolio and the demand for our products and services, which could have a material impact on our results.

 

A significant portion of our loan portfolio includes commercial and commercial real estate loans that have higher risks, and we may experience higher credit losses.

 

The majority of our loans are to commercial borrowers. The commercial real estate segment of our loan portfolio has been more adversely impacted by the recent economic downturn. Commercial real estate lending typically involves higher loan principal amounts, and the repayment of these loans generally is dependent, in large part, on sufficient income from the properties securing the loans to cover operating expenses and debt service. Because payments on loans secured by commercial real estate often depend upon the successful operating and management of the properties, repayment of these loans may be affected by factors outside the borrower’s control, including adverse conditions in the real estate market or the economy. Additionally, we have a number of large exposures to commercial borrowers, and while the majority of these borrowers have numerous projects that make up the total aggregate exposure, if one or more of these borrowers defaults or has financial difficulties, we could experience higher credit losses, which could adversely impact our results of operations.

 

Risks Related to Interest Rates

 

Our net interest income could be negatively affected by interest rate changes, which may adversely affect our financial condition.

 

Our results of operations are largely dependent on net interest income, which is the difference between the interest and fees earned on interest-earning assets and the interest paid on interest-

 

PAGE 14


Item 1A.  RISK FACTORS — continued

 

 

bearing liabilities. We may have mismatches between the maturity and repricing of our assets and liabilities that could cause the net interest rate spread to compress, depending on the level and type of changes in the interest rate environment. Interest rates are highly sensitive to many factors that are beyond the control of management, including general economic conditions and the policies of various governmental agencies. In addition, our customers often have the ability to prepay loans or redeem deposits with either no penalties, or penalties that are insufficient to compensate us for the lost income. A significant reduction in our net interest income will adversely affect our business and results of operations.

 

Declines in the value of investment securities held by us could require write-downs, which would reduce our earnings.

 

In order to diversify earnings and enhance liquidity, we own both debt and equity instruments of government agencies, municipalities and other companies. We may be required to record impairment charges on our investment securities if they suffer a decline in value that is considered other-than-temporary. Additionally, the value of these investments may fluctuate depending on the interest rate environment, general economic conditions, and circumstances specific to the issuer. Volatile market conditions may detrimentally affect the value of these securities, such as through reduced valuations due to the perception of heightened credit or liquidity risks. Changes in the value of these instruments may result in a reduction to earnings and/or capital, which may adversely affect our results of operations.

 

The crisis in both the United States and international banking markets has adversely affected our industry, including our business, and may continue to have an adverse effect on our business and reputation in the future.

 

This economic turmoil and tightening of credit have led to an increased level of commercial and consumer delinquencies, lack of consumer confidence, increased market volatility and widespread reduction of business activity generally. The resulting economic pressure on consumers and the lack of confidence in the financial markets have adversely affected our business, financial condition and results of operations. Market developments may affect consumer confidence levels and may cause adverse changes in payment patterns, causing increases in delinquencies and default rates, which may impact our charge-offs and provision for credit losses. A worsening of these conditions may increase the adverse effects of these difficult market conditions on us, and may harm the reputation of banks in general and our reputation with our customers and investors.

 

Risks Related to Liquidity

 

We rely on a stable core deposit base and the Federal Home Loan Bank of Pittsburgh as our primary sources of liquidity.

 

We are dependent for our funding on a stable base of core deposits and access to wholesale funding, primarily from the Federal Home Loan Bank of Pittsburgh (“FHLB”). We own common stock of the FHLB in order to qualify for membership in the FHLB system, which enables us to borrow funds under the FHLB advance program. Changes or disruptions to the FHLB or the FHLB system in general may materially impair our ability to meet growth plans or to meet short and long term liquidity needs. In the event of a system-wide shock or a deterioration in our financial condition, the stability of our core deposit base could deteriorate, our access to funding from the FHLB could be restricted, or both. Without access to adequate funding we will have difficulty operating day to day, which could ultimately impact our ability to continue operations.

 

PAGE 15


Item 1A.  RISK FACTORS — continued

 

 

If our FHLB line of credit is restricted, our ability to meet our obligations to our customers could be materially affected.

 

We have a line of credit with the FHLB that is secured by a blanket lien on our loan portfolio. Access to this line of credit is critical if a funding need arises. However, we cannot be assured that the FHLB will be able to provide funding to us when needed, nor can we be certain that the FHLB will provide funds specifically to us, should our financial condition and/or our regulators prevent that access. The inability to access these sources of funds, for whatever reason, could have a materially adverse effect on our ability to meet our customer’s needs. Our financial flexibility could be severely constrained if we were unable to maintain our access to funding or if adequate financing is not available at acceptable interest rates. The failure of the FHLB or the FHLB system in general, may materially impair our ability to meet growth plans or to meet short and long term liquidity needs.

 

Risks Related to Our Operations

 

An interruption or breach in security of our information systems may result in financial losses or in a loss of customers.

 

We depend upon data processing, communication and information exchange on a variety of computing platforms and networks, including the internet. We cannot be certain all our systems are entirely free from vulnerability to attack, despite safeguards we have instituted. The occurrence of any failures, interruptions, or security breaches of our information systems could result in a material adverse impact to our business, financial condition and results of operations through damage to our reputation, loss of customer business, additional regulatory scrutiny, or exposure to civil litigation and possible financial liability. Losses arising from such a breach could materially exceed the amount of insurance coverage we have, which could adversely affect our results of operation.

 

We rely on third-party providers and other suppliers for a number of services that are important to our business. An interruption or cessation of an important service by any third party could have a material adverse effect on our business.

 

We are dependent for the majority of our technology, including our core operating system, on third party providers. If these companies were to discontinue providing services to us, we may experience significant disruption to our business. If any of our third party service providers experience financial, operational, or technological difficulties, or if there is any other disruption in our relationships with them, we may be required to locate alternative sources of such services. Assurance cannot be provided that we could negotiate terms with alternative service sources that are as favorable or could obtain services with similar functionality as found in existing systems without the need to expend substantial resources, if at all, thereby resulting in a material adverse impact on our business and results of operations.

 

Risks Related to Regulatory Compliance and Legal Matters

 

Recent legislation enacted in response to market and economic conditions may significantly affect our operations, financial condition and earnings.

 

Disruptions in the financial system during the past three years have resulted in significantly reduced business activity throughout the global and U.S. economies, which have the potential to significantly affect financial institutions. The Dodd-Frank Act was enacted as a major reformatory response to this financial crisis. The Dodd-Frank Act increases regulation and oversight of the financial services industry, and imposes restrictions on the ability of institutions within the industry to conduct business consistent with historical practices, including aspects such as capital requirements, affiliate transactions, compensation, consumer protection regulations and mortgage regulation, among others.

 

PAGE 16


Item 1A.  RISK FACTORS — continued

 

 

It is not clear what impact the Dodd-Frank Act and the numerous implementing regulations will have on the financial markets or on the U.S. banking and financial services industries and the broader U.S. and global economies. They may increase our costs of regulatory compliance and of doing business and otherwise affect our operations. They also may significantly affect the markets in which we do business, the markets for and value of our investments and our ongoing operations, costs and profitability.

 

Future governmental regulation and legislation could limit our growth.

 

We are subject to extensive state and federal regulation, supervision and legislation that govern nearly every aspect of our operations. The regulations are primarily intended to protect depositors, customers and the banking system as a whole, not shareholders. Failure to comply with applicable regulations could lead to penalties and damage to our reputation. Furthermore, as shown through the Dodd-Frank Act, the regulatory environment is constantly undergoing change and the impact of changes to laws, the rapid implementation of regulations, the interpretation of such laws or regulations or other actions by existing or new regulatory agencies could make regulatory compliance more difficult or expensive, and thus could affect our ability to deliver or expand services, or it could diminish the value of our business. The ramifications and uncertainties of the recent increase in government intervention in the U.S. financial system could also adversely affect us. Refer to Supervision and Regulation within Item 1 of this report for additional information.

 

Our management has identified a material weakness in our internal control over financial reporting, which if not properly remediated, could result in material misstatements in our future interim and annual financial statements and have a material adverse effect on our business, financial condition and results of operations and the price of our common stock.

 

Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements in accordance with U.S. generally accepted accounting principles.

As further described in Item 9A Controls and Procedures, our management has identified a material weakness in our internal control over financial reporting. A material weakness, as defined in the standards established by the Public Company Accounting Oversight Board (“PCAOB”), is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis. We identified the material weakness in our internal control over financial reporting as of December 31, 2010 based upon there being ineffective controls over the approval and recording of charge-offs of loans.

Although we are in the process of implementing initiatives aimed at addressing the material weakness, these initiatives may not remediate the material weakness. Failure to achieve and maintain an effective internal control environment could result in us not being able to accurately report our financial results, prevent or detect fraud or provide timely and reliable financial information pursuant to the reporting obligations we have as a public company, which could have a material adverse effect on our business, financial condition and results of operations. Further, it could cause our investors to lose confidence in the financial information we report, which could adversely affect the price of our common stock.

 

Negative public opinion could damage our reputation and adversely impact our earnings and liquidity.

 

Reputational risk, or the risk to our business, earnings, liquidity and capital from negative public opinion, could result from our actual or alleged conduct in a variety of areas, including legal and

 

PAGE 17


Item 1A.  RISK FACTORS — continued

 

 

regulatory compliance, lending practices, corporate governance, litigation, ethical issues or inadequate protection of customer information. We expend significant resources to comply with regulatory requirements, and the failure to comply with such regulations could result in reputational harm or significant legal or remedial costs. Additionally, we continue to be a participant in the CPP, and participation in this program has, at various times, been publicly criticized. Our continued participation in the CPP may negatively impact our reputation with customers. Damage to our reputation could adversely affect our ability to retain and attract new customers and adversely impact our earnings and liquidity.

 

We may be a defendant from time to time in a variety of litigation and other actions, which could have a material adverse effect on our financial condition and results of operations.

 

From time to time, customers and others make claims and take legal action pertaining to the performance of our responsibilities. Additionally, the current economic downturn has resulted in higher customer defaults and a resultant increase in litigation. Whether customer claims and legal action related to the performance of our responsibilities are founded or unfounded, or if such claims and legal actions are not resolved in a manner favorable to us, they may result in significant expenses, attention from management and financial liability. Any financial liability or reputational damage could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.

 

Risks Related to Our Business Strategy

 

Our strategy includes growth plans through organic growth and acquisitions. Our financial condition and results of operations could be negatively affected if we fail to grow or fail to manage our growth effectively.

 

We intend to continue pursuing a growth strategy, which may include organic growth, expansion or acquisitions. We cannot assure you that we will be able to expand our market presence in our existing markets or successfully enter new markets or that any such expansion will not adversely affect our results of operations. Failure to manage our growth effectively could have a material adverse effect on our business, future prospects, financial condition or results of operations and could adversely affect our ability to successfully implement our business strategy. Our organic growth strategy includes a reorganization of our business to a market-based approach from a product-based approach. There is no assurance that this internal reorganization will be successful, and if not executed as planned, it may adversely affect our results of operations.

Our failure to find suitable acquisition candidates, or successfully bid against other competitors for acquisitions, could adversely affect our ability to successfully implement our business strategy. If we are successful in acquiring other entities, the process of integrating such entities will divert significant management time and resources. We may not be able to integrate successfully or operate profitably any financial institutions we may acquire. We may experience disruption and incur unexpected expenses in integrating acquisitions. These failures could adversely impact our future prospects and results of operation.

 

We are subject to competition from both banks and non-banking companies.

 

The financial services industry is highly competitive, and we encounter strong competition for deposits, loans and other financial services in our market area. Our principal competitors include commercial banks of all types, finance companies, credit unions, mortgage brokers, insurance agencies, trust companies and various sellers of investments and investment advice. Many of our non-bank competitors are not subject to the same degree of regulation as we are and have advantages

 

PAGE 18


Item 1A.  RISK FACTORS — continued

 

 

over us in providing certain services. Additionally, many of our competitors are significantly larger than we are and have greater access to capital and other resources. Failure to compete effectively for deposit, loan and other banking customers in our markets could cause us to lose market share, slow our growth rate and may have an adverse effect on our financial condition and results of operations.

 

We may be required to raise capital in the future, but that capital may not be available or may not be on acceptable terms when it is needed.

 

We are required by federal regulatory authorities to maintain adequate capital levels to support operations. Our ability to raise additional capital is dependent on capital market conditions at that time and on our financial performance and outlook. Pending regulatory changes, such as the Dodd-Frank Act, may require us to have more capital than was previously required. If we cannot raise additional capital when needed, we may not be able to meet these requirements, and our ability to further expand our operations through organic growth or through acquisitions may be adversely affected.

 

The securities purchase agreement between S&T and the U.S. Treasury limits our ability to pay dividends on and repurchase our common stock.

 

We applied to participate in the CPP and were approved to receive $108.7 million in exchange for the U.S. Treasury purchase of our senior preferred stock. The transaction closed on January 16, 2009. Subsequently, the ARRA, signed into law in February 2009, allowed financial institutions such as us to redeem Series A Preferred Stock issued in the CPP, plus any accrued and unpaid dividends, at any time, without increasing common equity, subject to approval by banking regulatory agencies. If we only redeem a portion of the CPP investment, we must redeem a minimum of 25 percent of the issue, or $27.2 million. Our securities purchase agreement with the U.S. Treasury provides that prior to the earlier of (i) January 16, 2012 or (ii) the date on which all of the shares of the Series A Preferred Stock have been redeemed by us or transferred by the U.S. Treasury to third parties, we may not, without the consent of the U.S. Treasury: (a) increase the cash dividend on our common stock (above the dividend amount prior to the participation in the CPP), or (b) subject to limited exceptions, redeem, repurchase or otherwise acquire shares of our common stock or preferred stock other than the Series A Preferred Stock. In addition, we may only pay dividends on our common stock if we are current in our dividend payments on the Series A Preferred Stock. These restrictions, together with the potentially dilutive impact of the Warrant issued to the U.S. Treasury and described below, could have a negative effect on the value of our common stock.

 

The Series A Preferred Stock impacts net income available to our common shareholders and earnings per common share, and the Warrant we issued to the U.S. Treasury may be dilutive to holders of our common stock.

 

The dividends declared on the Series A Preferred Stock will reduce the net income available to common shareholders and our earnings per common share. The Series A Preferred Stock will also receive preferential treatment in the event of our liquidation or dissolution. Additionally, the ownership interest of the existing holders of our common stock may be diluted to the extent the Warrant we issued to the U.S. Treasury in conjunction with the sale to the U.S. Treasury of the Series A Preferred Stock is exercised. The shares of common stock underlying the Warrant represents approximately 1.80 percent of the shares of our common stock outstanding as of February 28, 2011 (including the shares issuable upon exercise of the Warrant in total shares outstanding). Although the U.S. Treasury has agreed not to vote any of the shares of common stock it receives upon exercise of the Warrant, a transferee of any portion of the Warrant or of any shares of common stock acquired upon exercise of the Warrant is not bound by this restriction.

 

PAGE 19


Item 1A.  RISK FACTORS — continued

 

 

Our ability to pay dividends on our common stock may be limited.

 

Holders of our common stock will be entitled to receive only such dividends as our Board of Directors may declare out of funds legally available for such payments. Although we have historically declared cash dividends on our common stock, we are not required to do so and our Board of Directors could reduce, suspend or eliminate our dividend at any time. Our ability to increase our dividend is subject to the CPP regulations described above. Any change to the dividends on our common stock could adversely affect the market price of our common stock.

 

Item 1B.  UNRESOLVED STAFF COMMENTS

 

 

There were no unresolved comments received from the SEC regarding S&T’s periodic or current reports within the last 180 days prior to December 31, 2010.

 

Item 2.  PROPERTIES

 

 

S&T owns a four-story building in Indiana, Pennsylvania, located at 800 Philadelphia Street, which serves as its headquarters, executive and administrative offices. It shares this facility with Community Banking and Wealth Management and the executive office of the Insurance segment. Additionally, S&T leases a building in Indiana, Pennsylvania that serves as its data processing and technology center and owns a two-story building directly behind that serves as additional administrative offices.

Community Banking has 51 offices, located in nine counties in Pennsylvania, of which 34 are owned and 17 are leased. Community Banking also leases one office to Insurance. Wealth Management leases one office, located in Allegheny County in Pennsylvania. Wealth Management also has several staff located within the Community Banking offices to provide their services to retail customers. Insurance leases three offices located in three counties in Pennsylvania. Insurance also has three staff located within the Community Banking offices in Jefferson and Blair counties. The operating and capital leases for Community Banking, Wealth Management and Insurance expire at various dates through the year 2054 and generally include options to renew. For additional information regarding the lease commitments, refer to Note 10 Premises and Equipment in the Notes to Consolidated Financial Statements, which is included in Item 8 of this Report.

 

Item 3.  LEGAL PROCEEDINGS

 

 

The nature of our business generates a certain amount of litigation involving matters arising in the ordinary course of business. However, in management’s opinion, there are no proceedings pending to which S&T is a party or to which our property is subject, which, if determined adversely to S&T, would be material in relation to our shareholders’ equity or financial condition. In addition, no material proceedings are pending nor are known to be threatened or contemplated against us by governmental authorities or other parties.

 

Item 4.  REMOVED AND RESERVED

 

 

Removed and Reserved

 

PAGE 20


PART II

 

Item 5.  MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED SHAREHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

 

 

Stock Prices and Dividend Information

 

S&T’s common stock is listed on the NASDAQ Global Select Market System (“NASDAQ”) under the symbol STBA. The range of sale prices for the years 2010 and 2009 is set forth in the table below and is based upon information obtained from NASDAQ. As of the close of business on February 28, 2011, there were 3,092 shareholders of record of S&T. Dividends paid by S&T are primarily provided from S&T Bank’s dividends to S&T. The payment of dividends by S&T Bank to S&T is subject to the restrictions described in Item 8, Note 15 Dividend and Loan Restrictions of this Annual Report on Form 10-K (the “Report”). The cash dividends declared shown below represent the historical per share amounts for S&T common stock.

 

     Price Range of
Common Stock
     Cash
Dividends
Declared
 
2010    Low      High     

Fourth quarter

   $ 17.00       $ 23.91       $ 0.15   

Third quarter

     16.64         22.29         0.15   

Second quarter

     19.52         25.84         0.15   

First quarter

     15.75         22.22         0.15   
2009                        

Fourth quarter

   $ 12.15       $ 17.82       $ 0.00 (1) 

Third quarter

     10.49         18.25         0.15   

Second quarter

     11.62         25.24         0.15   

First quarter

     17.55         35.54         0.31   
(1)

S&T’s Board of Directors (the “Board”) approved a change in timing of the declaration and payment of dividends to provide better alignment with quarterly earnings beginning in the fourth quarter of 2009. The Board declared a $0.15 per common share cash dividend at its meeting held January 18, 2010. The dividend was payable February 25, 2010 to common shareholders of record on February 1, 2010.

 

PAGE 21


Item 5.  MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED SHAREHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES — continued

 

 

Five-Year Cumulative Total Return

 

The following chart compares the cumulative total shareholder return on S&T common stock with the cumulative total shareholder return of the NASDAQ Composite Index and NASDAQ Bank Index (1) assuming a $100 investment in each on December 31, 2005.

 

LOGO

 

              2005      2006      2007      2008      2009      2010  

STBA

      $ 100       $ 96       $ 79       $ 106       $ 53       $ 72   

NASDAQ Composite Index

        100         108         118         70         101         118   

NASDAQ Bank Index

        100         110         86         65         53         59   

 

(1)

The NASDAQ Bank Index contains securities of NASDAQ-listed companies classified according to the Industry Classification Benchmark as Banks. These companies include banks providing a broad range of financial services, including retail banking, loans and money transmissions.

 

During 2010 and 2009, S&T’s Board did not authorize any additional buyback programs. On June 18, 2007, S&T’s Board authorized a buyback program of one million shares until June 30, 2008. During 2007, S&T repurchased 971,400 shares at an average cost of $32.74 per share. During 2010 and 2009, S&T reissued 205,135 shares and 113,626 shares, respectively, primarily through restricted stock awards and shares sold for the dividend reinvestment and thrift plans.

 

PAGE 22


Item 6.  SELECTED FINANCIAL DATA

 

 

The tables below set forth selected consolidated financial data as of the dates or for the periods indicated and should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations in Item 7 and the Consolidated Financial Statements and Notes in Item 8 of this Report.

 

CONSOLIDATED BALANCE SHEETS

 

December 31    2010      2009      2008      2007      2006  
(in thousands)                                   

Total assets

   $ 4,114,339       $ 4,170,475       $ 4,438,368       $ 3,407,621       $ 3,338,543   

Securities available-for-sale

     288,025         354,860         452,713         358,822         432,045   

Goodwill

     165,273         165,167         163,546         50,087         49,955   

Net loans

     3,312,540         3,344,827         3,526,027         2,762,594         2,633,071   

Total deposits

     3,317,524         3,304,541         3,228,416         2,621,825         2,565,306   

Securities sold under repurchase agreements and federal funds purchased

     40,653         44,935         113,419         100,258         133,021   

Short-term borrowings

             51,300         308,475         80,000         55,000   

Long-term borrowings

     29,365         85,894         180,331         201,021         171,941   

Junior subordinated debt securities

     90,619         90,619         90,619         25,000         25,000   

Total shareholders’ equity

     578,665         553,318         448,694         337,560         339,051   

 

CONSOLIDATED STATEMENTS OF INCOME

 

Years Ended December 31    2010      2009     2008      2007      2006  
(in thousands, except per share data)                                  

Interest income

   $ 180,419       $ 195,087      $ 216,118       $ 215,605       $ 204,702   

Interest expense

     34,573         49,105        72,171         99,167         91,584   

Provision for loan losses

     29,511         72,354        12,878         5,812         9,380   

Net Interest Income After Provision for Loan Losses

     116,335         73,628        131,069         110,626         103,738   

Noninterest income

     47,210         38,580        37,452         40,605         40,390   

Noninterest expense

     105,633         108,126        83,801         73,460         69,279   

Income Before Taxes

     57,912         4,082        84,720         77,771         74,849   

Provision (benefit) for income taxes

     14,432         (3,869     24,517         21,627         21,513   

Net Income

     43,480         7,951        60,203         56,144         53,336   

Preferred stock dividends and amortization of discount

     6,201         5,913                          

Net Income Available to Common Shareholders

   $ 37,279       $ 2,038      $ 60,203       $ 56,144       $ 53,336   

Per Share Data

                                           

Common earnings per share—basic

   $ 1.34       $ 0.07      $ 2.30       $ 2.27       $ 2.07   

Common earnings per share—diluted

     1.34         0.07        2.28         2.26         2.06   

Dividends declared per common share

     0.60         0.61        1.24         1.21         1.17   

Common book value

     16.91         16.14        16.24         13.75         13.37   

 

PAGE 23


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

 

Management’s Discussion and Analysis (“MD&A”) represents an overview of the consolidated financial condition and results of operations of S&T. This discussion and analysis should be read in conjunction with the Consolidated Financial Statements and Notes presented in Item 8 of this Report. Results of operations for the periods included in this review are not necessarily indicative of results to be obtained during any future periods.

 

Important Note Regarding Forward-Looking Statements

 

This Report contains or incorporates statements that S&T believes are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These statements generally relate to S&T’s financial condition, results of operations, plans, objectives, future performance or business. They usually can be identified by the use of forward-looking language such as “will likely result,” “may,” “are expected to,” “is anticipated,” “estimate,” “forecast,” “projected,” “intends to” or other similar words. You should not place undue reliance on these statements, as they are subject to risks and uncertainties, including but not limited to, those described in this Form 10-K or the documents incorporated by reference. When considering these forward-looking statements, you should keep in mind these risks and uncertainties, as well as any cautionary statements we may make. Moreover, you should treat these statements as speaking only as of the date they are made and based only on information actually known to us at that time. We undertake no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise.

These forward-looking statements are based on current expectations, estimates and projections about S&T’s business, management’s beliefs and assumptions made by management. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions (“Future Factors”), which are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in these forward-looking statements.

Future Factors include:

 

   

changes in interest rates, spreads on earning assets and interest-bearing liabilities, the shape of the yield curve and interest rate sensitivity;

   

a prolonged period of low interest rates;

   

credit losses and material changes in the quality of our loan portfolio;

   

financial resources in the amounts, at the times and on the terms required to support our future businesses;

   

legislation affecting the financial services industry as a whole, and/or S&T, including the effects of the Dodd-Frank Act;

   

regulatory supervision and oversight, including required capital levels, and public policy changes, including environmental regulations;

   

increasing price and product/service competition by competitors, including new entrants;

   

rapid technological developments and changes;

   

the ability to continue to introduce competitive new products and services on a timely, cost-effective basis;

   

continued deterioration of the housing market and reduced demand for mortgages;

   

containing costs and expenses;

   

reliance on large customers;

   

the outcome of pending and future litigation and governmental proceedings;

   

managing our internal growth and acquisitions;

   

general economic or business conditions, either nationally or regionally in western Pennsylvania, may be less favorable than expected, resulting in among other things, a reduced demand for credit and other services;

 

PAGE 24


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

   

a decline in market capitalization to common book value, which could warrant further analysis of the carrying value of goodwill and could result in an adjustment to its carrying value resulting in a charge to net income; and

   

a continuation of recent turbulence in significant portions of the global financial and real estate markets could impact our performance, both directly, by affecting our revenues and the value of our assets and liabilities and indirectly, by affecting the economy generally.

These are representative of the Future Factors that could affect the outcome of the forward-looking statements. In addition, such statements could be affected by general industry and market conditions and growth rates, general economic conditions, including interest rate and currency exchange rate fluctuations and other Future Factors.

 

Critical Accounting Policies and Judgments

 

S&T’s Consolidated Financial Statements are prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). Application of these principles requires management to make estimates, assumptions and judgments that affect the amounts reported in the Consolidated Financial Statements and accompanying notes. These estimates, assumptions and judgments are based on information available as of the date of the Consolidated Financial Statements; accordingly, as this information changes, the Consolidated Financial Statements could reflect different estimates, assumptions and judgments. Certain policies inherently are based to a greater extent on estimates, assumptions and judgments of management and, as such, have a greater possibility of producing results that could be materially different than originally reported.

The most significant accounting policies followed by S&T are presented in Note 1 Summary of Significant Accounting Policies in the Notes to Consolidated Financial Statements, which are included in Item 8 of this Report. These policies, along with the disclosures presented in the Notes to Consolidated Financial Statements, provide information on how significant assets and liabilities are valued in the Consolidated Financial Statements and how those values are determined.

Management views critical accounting policies to be those which are highly dependent on subjective or complex estimates, assumptions and judgments and where changes in those estimates and assumptions could have a significant impact on the Consolidated Financial Statements. Management currently views the determination of the allowance for loan losses (“ALL”), income taxes, securities valuation and goodwill and other intangible assets and to be critical accounting policies.

 

Allowance for Loan Losses

 

The ALL represents management’s estimate of probable losses inherent in the loan portfolio at the balance sheet date and is presented as a reserve against loans in the Consolidated Balance Sheets. The ALL is increased by a provision charged to expense and reduced by charge-offs, net of recoveries. The liability for loss on loan commitments represents management’s estimate of probable losses associated with future advances against loan commitments. Determination of an adequate ALL and liability for loss on loan commitments is inherently subjective, as it requires estimations of the occurrence of future events, as well as the timing of such events. The ALL may be subject to significant changes from period to period.

Management evaluates the ALL on a quarterly basis. The ALL methodology includes two main components: the evaluation of individually impaired loans and the evaluation of groups of homogeneous loans with similar risk characteristics.

S&T individually evaluates all internally classified substandard commercial loans greater than $0.5 million for impairment and any other commercial loans greater than $0.5 million identified by management that show signs of impairment. Specific reserves are established when appropriate based upon on the following three impairment methods: 1) the present value of expected future cash flows

 

PAGE 25


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

discounted at the loan’s effective interest rate, 2) the loan’s observable market price or 3) the estimated fair value of the collateral if the loan is collateral dependent. These analyses involve a high degree of judgment in estimating the amount of loss associated with specific impaired loans, including estimating the amount and timing of future cash flows, current estimated fair value of the loan and collateral values. S&T primarily uses the estimated fair value of the collateral method as required for collateral dependent loans.

The ALL methodology for groups of homogeneous loans, known as the general reserve, is comprised of both a quantitative and qualitative analysis. The quantitative analysis includes a review of the historical charge-offs that have occurred within each portfolio segment over the loss emergence period. Historical loss rates are determined for the commercial portfolio segments by internal risk rating using a simplified migration technique over the loss emergence period. Management has estimated the loss emergence period to be two years for commercial real estate loans and one year for all other commercial loan portfolio segments. Historical loss rates for the consumer loan portfolio segments are determined using a one year loss emergence period. After consideration of the loss calculations, management applies additional qualitative adjustments so that the ALL is reflective of the inherent losses that exist in the loan portfolio at the balance sheet date. The evaluation of the various components of the ALL requires considerable judgment in order to estimate inherent loss exposures.

At December 31, 2010, approximately 90 percent of the ALL related to the commercial loan portfolio. Commercial loans comprise approximately 74 percent of our loan portfolio. Commercial loans have been more impacted by the economic slowdown in our markets. The ability of customers to repay commercial loans is more dependent upon the success of their business, continuing income and general economic conditions. Accordingly, the risk of loss is higher on such loans compared to consumer loans, which have incurred lower losses in our market due to foreclosure as the collateral values have not declined significantly.

There are many factors affecting the ALL; some are quantitative, while others require qualitative judgment. Although management believes its process for determining the ALL adequately considers all of the factors that could potentially result in credit losses, the process includes subjective elements and may be susceptible to significant change. To the extent actual outcomes differ from management estimates, additional provisions for loan losses could be required and could adversely affect S&T’s earnings or financial position in future periods.

 

Income Taxes

 

S&T estimates income tax expense based on amounts expected to be owed to the tax jurisdictions where S&T conducts business. The laws are complex and subject to different interpretations by the taxpayer and various taxing authorities. On a quarterly basis, management assesses the reasonableness of its effective tax rate based upon its current estimate of the amount and components of net income, tax credits and the applicable statutory tax rates expected for the full year.

Deferred income tax assets and liabilities are determined using the asset and liability method and are reported in other assets or other liabilities, as appropriate, in the Consolidated Balance Sheets. Under this method, the net deferred tax asset or liability is based on the tax effects of the differences between the book and tax basis of assets and liabilities and recognizes enacted changes in tax rate and laws. Deferred tax assets are recognized to the extent they exist and are subject to a valuation allowance based on management’s judgment that realization is more likely than not.

Accrued taxes represent the net estimated amount due to taxing jurisdictions and are reported in other assets or other liabilities, as appropriate, in the Consolidated Balance Sheets. S&T evaluates and assesses the relative risks and appropriate tax treatment of transactions and filing positions after considering statutes, regulations, judicial precedent and other information and maintains tax accruals

 

PAGE 26


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

consistent with its evaluation of these relative risks and merits. Changes to the estimate of accrued taxes occur periodically due to changes in tax rates, interpretations of tax laws, the status of examinations being conducted by taxing authorities and changes to statutory, judicial and regulatory guidance. These changes, when they occur, can affect deferred taxes and accrued taxes, as well as the current period’s income tax expense and can be significant to the operating results of S&T.

Tax positions are recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50 percent likely of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded.

 

Securities Valuation

 

Management determines the appropriate classification of securities at the time of purchase. All securities, including both debt and equity securities, are classified as available-for-sale securities. Such securities are carried at estimated fair value with net unrealized gains and losses deemed to be temporary reported separately as a component of other comprehensive loss, net of tax. Realized gains and losses on the sale of available-for-sale securities and other-than-temporary impairment (“OTTI”) charges are recorded within noninterest income in the Consolidated Statements of Income. Realized gains and losses on the sale of securities are determined using the specific-identification method.

S&T performs a review of the securities for OTTI on a quarterly basis to identify securities that may indicate an OTTI. S&T’s policy for OTTI declines within the marketable equity securities portfolio generally requires an impairment charge when the security is in a loss position for 12 consecutive months, unless facts and circumstances would suggest the need for an OTTI prior to that time. S&T’s policy for OTTI within the debt securities portfolio is based upon a number of factors, including but not limited to, the length of time and extent to which the estimated fair value has been less than cost, the financial condition of the underlying issuer, the ability of the issuer to meet contractual obligations, the likelihood of the security’s ability to recover any decline in its estimated fair value and whether management intends to sell the security or if it is more likely than not that management will be required to sell the investment security prior to the security’s recovery. If the financial markets experience deterioration, charges to income could occur in future periods.

 

Goodwill and Other Intangible Assets

 

As a result of acquisitions, S&T has acquired goodwill and identifiable intangible assets on its balance sheet. Goodwill represents the cost of acquired companies in excess of the fair value of net assets, including identifiable intangible assets, at the acquisition date.

S&T’s goodwill relates to value inherent in the Community Banking and Insurance reporting units and the value is dependent upon S&T’s ability to provide quality, cost-effective services in the face of competition from other market participants. This ability relies upon continuing investments in processing systems, the development of value-added service features and the ease of use of S&T’s services. As such, goodwill value is supported ultimately by revenue that is driven by the volume of business transacted. A decline in earnings as a result of a lack of growth or the inability to deliver cost-effective services over sustained periods can lead to impairment of goodwill, which could adversely impact earnings in future periods.

S&T determined the amount of identifiable intangible assets at the time of acquisition based upon independent core deposit and insurance contract analyses. Intangible assets with finite useful lives, consisting primarily of core deposit and customer list intangible, are amortized using straight-line or accelerated methods over their estimated weighted-average useful lives, ranging from 10 to 16 years.

 

PAGE 27


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

Intangible assets with finite useful lives are evaluated for impairment whenever events or changes in circumstances indicate that their carrying amount may not be recoverable. No events or changes in circumstances occurred during the years ended December 31, 2010 and 2009.

S&T has three reporting units including: Community Banking, Wealth Management and Insurance. The carrying value of goodwill is tested annually for impairment each October 1 or more frequently if indicators of impairment are present. The evaluation for impairment involves comparing the current estimated fair value of each reporting unit to its carrying value, including goodwill. If the current estimated fair value of a reporting unit exceeds its carrying value, no additional testing is required and impairment loss is not recorded. If the estimated fair value of a reporting unit is less than the carrying value, further valuation procedures are performed and could result in impairment of goodwill being recorded. Further valuation procedures would include allocating the estimated fair value to all assets and liabilities of the reporting unit to determine an implied goodwill value. If the implied value of goodwill of a reporting unit is less than the carrying amount of that goodwill, an impairment loss is recognized in an amount equal to that excess. Management’s analysis indicated that estimated fair value exceeded carrying value throughout 2010 and 2009. As such, no goodwill impairment was recorded.

During 2009, S&T was significantly impacted by the economic crisis. S&T reported unprecedented net losses in the first and second quarters of 2009, primarily due to a significant deterioration in our loan portfolio. Concurrently, S&T experienced a significant decline in market capitalization and our stock traded below common book value. Such events triggered a need to perform a step 1 valuation of goodwill impairment. Accordingly, S&T engaged a qualified third party valuation expert to perform a valuation of S&T’s Community Bank reporting unit as of April 30, 2009.

The third party expert utilized a valuation methodology consistent with current accounting literature to determine the estimated fair value of the reporting units. The valuation used both a market and income approach. The methodology consisted of techniques using comparable transactions, comparable peer analysis and a discounted future earnings analysis. The discounted future earnings analysis considered the costs of equity and weighted-average costs of capital to determine an appropriate discount rate. Further, the model assumed estimates of future growth rates that if not achieved could significantly impact the valuation. The valuation model is based upon estimates and is highly judgmental. As of April 30, 2009, the valuation resulted in the estimated fair value of the Community Banking reporting unit exceeding carrying value by approximately 51 percent.

During the fourth quarter of 2009, management engaged the third party valuation expert to update the previous valuation model as our market capitalization was 3.50 percent above our carrying value. Further, certain assumptions used in the previous report may have changed, including the financial forecast and the overall economic climate. The valuation techniques used were consistent with those described above and resulted in the estimated fair value of the Community Bank reporting unit exceeding its carrying value by approximately 10 percent. As such, no goodwill impairment was recorded.

The financial services industry and securities markets continue to be adversely affected by declining values of nearly all asset classes. If current economic conditions continue to result in a prolonged period of economic weakness, S&T’s business segments, including the Community Banking segment, may be adversely affected. This may result in impairment of goodwill and other intangible assets in the future. Any resulting impairment loss could have a material adverse impact on S&T’s financial condition and its results of operations

In the event that S&T determined that either its goodwill or finite lived intangible assets were impaired, recognition of an impairment charge could have a significant adverse impact on its financial position or results of operations in the period in which the impairment occurred. Refer to Note 1

 

PAGE 28


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

Summary of Significant Accounting Policies and Note 11 Goodwill and Other Intangible Assets for additional information.

 

Recent Accounting Pronouncements and Developments

 

Note 1 Summary of Significant Accounting Policies, Recently Issued Accounting Pronouncements and Future Application of Accounting Pronouncements in the Notes to the Consolidated Financial Statements, which is included in Item 8 of this Report, discusses new accounting pronouncements adopted by S&T and the expected impact of accounting pronouncements recently issued or proposed, but not yet required to be adopted.

 

Executive Overview

 

S&T is a financial holding company with its headquarters located in Indiana, Pennsylvania with assets of $4.1 billion at December 31, 2010. S&T provides a full range of financial services through a branch network of 51 offices located in Allegheny, Armstrong, Blair, Butler, Clarion, Clearfield, Indiana, Jefferson and Westmoreland counties of Pennsylvania. S&T provides full service retail and commercial banking products as well as cash management services, insurance, estate planning and administration, employee benefit investment management and administration, corporate services, and other fiduciary services.

S&T earns revenue primarily from interest on loans, security investments and fees charged for financial services provided to our customers. Offsetting these revenues are the cost of deposits and other funding sources, provision for loan losses and other operating costs such as: salaries and employee benefits, occupancy, data processing expenses and tax expense. S&T’s strategic plan to deliver profitable growth to our shareholders includes: increasing loans and core deposits with sufficient interest rate spreads, controlling loan delinquency and loan losses, controlling operating expenses, expanding the business through organic growth and acquisitions, introduction of new products and services and expansion of our products and services provided to our existing customers. S&T’s common stock trades on the Nasdaq Global Select Market under the symbol STBA.

The primary driver of improved performance in 2010 was an improvement in our asset quality. Net charge offs and nonperforming assets decreased in 2010, resulting in a decline in the provision for loan losses of $42.8 million from the prior year. Nonperforming assets totaled $69.7 million, or 2.07 percent of total loans plus other real estate owned (“OREO”) at December 31, 2010, as compared to $95.4 million or 2.80 percent at December 31, 2009. The improvement in asset quality was mainly due to a stabilizing economy, proactive efforts to address problem credits, and disciplined underwriting standards.

In 2011, S&T’s performance will again be heavily influenced by asset quality. If the economy continues to stabilize and improves, S&T should expect to see continued progress in reducing net charge offs, nonperforming loans and provision for loan losses. However, a continuation of the economic slowdown, regionally or nationally, could cause a deterioration in asset quality. S&T recognizes that our shift to a greater dependence on commercial loans in recent years exposes us to larger credit risks and greater swings in nonperforming loans and loan charge-offs when problems do occur. Many other factors could influence our results, both positively and negatively, in 2011. Because the majority of our revenue comes from net interest income, net loan and deposit growth, combined with the relative pricing and mix of that growth are major factors that effect our operations and financial condition. Fee revenue will be impacted by recent regulatory changes and could result in lower overdraft fees. In addition, pending regulatory changes later this year could severely impact our interchange revenue.

We remain aware of the challenges that exist including an economy that appears to be in a slow recovery, constraints on expanding our net interest margin and increased regulatory burden that will

 

PAGE 29


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

challenge our fee revenue. S&T continually strives to be well positioned for changes in both the economy and interest rates, regardless of the timing or direction of these changes. Management continually assesses our balance sheet, capital, liquidity and operation infrastructure in order to be positioned to take advantage of internal or acquisition growth opportunities.

 

Results of Operations

Year Ended December 31, 2010

 

Net Income

 

Net income available to common shareholders for 2010 was $37.3 million resulting in diluted earnings per common share of $1.34 compared to $2.0 million or $0.07 diluted earnings per common share in 2009. The substantial increase in net income was primarily a result of a reduction of $42.8 million in provision for loan losses, improving market conditions resulting in minimal OTTI charges compared to $5.3 million in 2009 and a decrease in FDIC insurance assessments of $3.0 million.

 

Return on Equity and Assets

 

The table below presents consolidated profitability and capital ratios of S&T for each of the last three years:

 

     Years Ended December 31  
      2010      2009      2008  

Common return on average assets

     0.90%        0.05%        1.52%  

Common return on average equity

     6.58%        0.37%        14.77%  

Dividend payout ratio

     44.75%        1247.64%        53.66%  

Common equity to asset ratio

     11.48%        10.74%        10.11%  

 

Net Interest Income

 

Net interest income represents the difference between the interest and fees earned on interest-earning assets and the interest paid on interest-bearing liabilities. Net interest income is affected by changes in the average balance of interest-earning assets and interest-bearing liabilities and changes in interest rates and spreads. Maintaining consistent spreads between interest-earning assets and interest-bearing liabilities is significant to our financial performance because net interest income comprised 76 percent and 78 percent of operating revenue (net interest income plus noninterest income, excluding security gains) in 2010 and 2009 respectively. Refer to page 53 Explanation of Use of Non-GAAP Financial Measures for a discussion of operating revenue as a non-GAAP financial measure. The level and mix of interest-earning assets and interest-bearing liabilities are continually monitored by S&T’s Asset and Liability Committee (“ALCO”), in order to mitigate interest rate and liquidity risks of the balance sheet. A variety of ALCO strategies were successfully implemented, within prescribed ALCO risk parameters, to maintain an acceptable net yield on interest-earning assets (net interest margin) given the challenges of the current interest rate environment.

The interest income on interest-earning assets and the net interest margin are presented on a fully taxable-equivalent basis. The fully taxable-equivalent basis adjusts for the tax benefit of income on certain tax-exempt loans and investments using the federal statutory tax rate of 35 percent for each period presented. S&T believes this measure to be the preferred industry measurement of net interest income and provides relevant comparison between taxable and non-taxable amounts.

 

PAGE 30


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

The following table reconciles interest income per the Consolidated Statements of Income to net interest income adjusted to fully taxable-equivalent basis:

 

     Years Ended December 31  
      2010      2009      2008  
(in thousands)                     

Interest income per Consolidated Statements of Income

   $ 180,419       $ 195,087       $ 216,118   

Adjustment to fully taxable-equivalent basis

     4,627         5,202         5,147   

Interest income adjusted to fully taxable-equivalent basis

     185,046         200,289         221,265   

Interest expense per Consolidated Statements of Income

     34,573         49,105         72,171   

Net Interest Income Adjusted to Fully Taxable-equivalent Basis (non-GAAP)

   $ 150,473       $ 151,184       $ 149,094   

 

PAGE 31


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

Average Balance Sheet and Net Interest Income Analysis

 

The following table provides information regarding the average balances and interest and yields earned on interest-earning assets and the average balances and interest and rates paid on interest-bearing liabilities:

 

    December 31  
     2010     2009     2008  
  Average
Balance
    Interest     Yield/
Rate
    Average
Balance
    Interest     Yield/
Rate
    Average
Balance
    Interest     Yield/
Rate
 
(in thousands)                                                      

ASSETS

                 

Loans(1)(2)

  $ 3,386,103      $ 172,319        5.09   $ 3,473,169      $ 182,767        5.26   $ 3,230,791      $ 201,547        6.24

Taxable investment securities

    226,714        8,373        3.69     286,295        11,897        4.16     303,442        13,651        4.50

Tax-exempt investment securities(2)

    76,707        4,354        5.68     103,832        5,624        5.42     105,781        5,429        5.13

Federal Home Loan Bank stock

    23,336                   23,542                   20,733        636        3.07

Federal funds sold

                      258        1        0.25     124        2        1.90

Total Interest-earning Assets

    3,712,860        185,046        4.98     3,887,096        200,289        5.15     3,660,871        221,265        6.04

Noninterest-earning assets:

                 

Cash and due from banks

    90,462            67,405            60,636       

Premises and equipment, net

    39,142            41,915            41,702       

Other assets

    340,283            320,857            246,895       

Less allowance for loan losses

    (59,292                     (57,985                     (39,102                

Total Assets

  $ 4,123,455                      $ 4,259,288                      $ 3,971,002                   

LIABILITIES AND SHAREHOLDERS’ EQUITY

  

           

Interest-bearing liabilities:

                 

Interest-bearing demand and money market

  $ 518,383      $ 1,220        0.24 %   $ 485,742      $ 1,616        0.33 %   $ 395,629      $ 3,022        0.76 %

Savings deposits

    749,325        2,127        0.28 %     758,216        3,465        0.46 %     865,839        11,692        1.35 %

Certificates of deposit

    1,300,803        25,370        1.95 %     1,367,372        33,358        2.44 %     1,102,717        37,650        3.41 %

Federal funds purchased

                      115        1        0.79 %     4,886        122        2.52 %

Securities sold under repurchase agreements

    46,490        64        0.14 %     86,616        140        0.16 %     124,005        1,627        1.31 %

Short-term borrowings

    32,473        146        0.45 %     104,217        544        0.52 %     227,918        4,263        1.87 %

Long-term borrowings

    42,920        1,643        3.83 %     127,045        5,568        4.38 %     196,901        9,416        4.78 %

Junior subordinated debt securities

    90,619        4,003        4.42 %     90,619        4,413        4.87 %     69,872        4,379        6.27 %

Total Interest-bearing Liabilities

    2,781,013        34,573        1.24 %     3,019,942        49,105        1.63 %     2,987,767        72,171        2.42 %

Noninterest-bearing liabilities:

                 

Demand deposits

    728,708            637,434            533,096       

Other

    47,064            57,377            42,478       

Shareholders’ equity

    566,670                        544,535                        407,661                   

Total Liabilities and Shareholders’ Equity

  $ 4,123,455                      $ 4,259,288                      $ 3,971,002                   

Net interest income

          $ 150,473                      $ 151,184                      $ 149,094           

Net yield on interest-earning assets

                    4.05 %                     3.89 %                     4.07 %
(1)

For the purpose of these computations, nonaccruing loans are included in the daily average loan amounts outstanding.

(2)

Tax-exempt income is on a fully taxable-equivalent basis, including the dividend-received deduction for equity securities, using the statutory federal corporate income tax rate of 35 percent for 2010, 2009 and 2008.

 

PAGE 32


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

The following table presents a summary of the changes in interest earned and interest paid resulting from changes in average balance and changes in rates:

 

      2010 Compared to 2009
Increase (Decrease) Due to
(1)
    2009 Compared to 2008
Increase (Decrease) Due to
(1)
 
   Volume     Rate     Net     Volume     Rate     Net  
(in thousands)                                     

Interest earned on:

            

Loans(2)

   $ (4,581 )   $ (5,867 )   $ (10,448 )   $ 15,120      $ (33,900 )   $ (18,780 )

Taxable investment securities

     (2,476 )     (1,048 )     (3,524 )     (771 )     (983 )     (1,754 )

Tax-exempt investment securities(2)

     (1,469 )     199        (1,270 )     (100 )     295        195   

Other investments

                          86        (722 )     (636 )

Federal funds sold

     (1 )            (1 )     3        (4 )     (1 )

Total Interest-earning Assets

     (8,527 )     (6,716 )     (15,243 )     14,338        (35,314 )     (20,976 )

Interest paid on:

            

Interest-bearing demand and money market

   $ 109      $ (505 )   $ (396 )   $ 688      $ (2,094 )   $ (1,406 )

Savings deposits

     (41 )     (1,297 )     (1,338 )     (1,453 )     (6,774 )     (8,227 )

Certificates of deposit

     (1,624 )     (6,364 )     (7,988 )     9,036        (13,328 )     (4,292 )

Federal funds purchased

     (1 )            (1 )     (119 )     (2 )     (121 )

Securities sold under repurchase agreements

     (65 )     (11 )     (76 )     (491 )     (996 )     (1,487 )

Short-term borrowings

     (374 )     (24 )     (398 )     (2,314 )     (1,405 )     (3,719 )

Long-term borrowings

     (3,687 )     (238 )     (3,925 )     (3,341 )     (507 )     (3,848 )

Junior subordinated debt securities

            (410 )     (410 )     1,300        (1,266 )     34   

Total Interest-bearing Liabilities

     (5,683 )     (8,849 )     (14,532 )     3,306        (26,372 )     (23,066 )

Change in Net Interest Income

   $ (2,844 )   $ 2,133      $ (711 )   $ 11,032      $ (8,942 )   $ 2,090   
(1)

The change in interest due to both volume and rate has been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each.

(2)

Tax-exempt income is on a fully taxable-equivalent basis, including the dividend-received deduction for equity securities, using the statutory federal corporate income tax rate of 35 percent for 2010, 2009 and 2008.

 

On a fully taxable-equivalent basis, net interest income decreased by only $0.7 million in 2010 compared to 2009 despite a $174.2 million decrease in average interest-earning assets. Net interest margin on a fully taxable-equivalent basis was 4.05 percent in 2010 as compared to 3.89 percent in 2009. The improvement in the net interest margin is mainly a result of interest-bearing liabilities repricing faster than interest-earning assets, and a better funding mix between deposits, including noninterest-bearing demand deposits, and borrowings. The net interest margin improvement was also due to an increase in payments collected on nonperforming loans in 2010 compared to 2009.

For 2010, average loans decreased $87.1 million and average securities and federal funds sold decreased $87.1 million as compared to 2009. The yield on average loans decreased 17 basis points and the yield on average securities decreased 34 basis points from 2009. Overall, the fully tax-equivalent yield on total interest-earning assets decreased 17 basis points to 4.98 percent in 2010 as compared to 5.15 percent in 2009.

For 2010, average interest-bearing deposits decreased by $42.8 million as compared to 2009. The decrease in average interest-bearing deposits are mainly attributed to a $38.5 million average balance decrease in brokered CD’s. The cost of deposits totaled 1.12 percent, a decrease of 35 basis points from 2009 due to lower rates paid on deposits. The cost of securities sold under repurchase agreements (“REPOs”) and other short-term borrowed funds decreased 9 basis points to 0.27 percent as a result of lower short-term rates as compared to 2009. Overall, the yield on interest-bearing liabilities decreased 39 basis points to 1.24 percent for 2010 as compared to 2009.

 

PAGE 33


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

Also positively affecting net interest income was a $64.7 million increase in average net free funds during 2010 as compared to 2009. Average net free funds are the excess of noninterest-bearing demand deposits, other noninterest-bearing liabilities and shareholders’ equity over noninterest-earning assets. The largest driver of the increase in net free funds was noninterest-bearing demand deposit average balances. The increase in demand deposit average balance is due to the low interest rate environment, our marketing efforts for new demand accounts, corporate cash management services and participation in the Transaction Account Guarantee (“TAG”) Program.

 

Provision for Loan Losses

 

The provision for loan losses is determined based upon management’s estimates of the appropriate level of ALL needed to absorb probable inherent losses that exist in S&T’s loan portfolio. The provision for loan losses was $29.5 million for 2010 compared to $72.4 million for 2009. The substantial decrease in provision for loan losses is a result of the overall improving economic conditions from the prior year and a significant decrease in net charge-offs. Net charge-offs decreased to $37.7 million in 2010 from $55.5 million in 2009 as overall asset quality improved during 2010. Refer to the Allowance for Loan Losses section of this MD&A for further details.

 

Noninterest Income

 

Years Ended December 31    2010      2009     $ Change  
(in thousands)                    

Security gains (losses), net

   $ 274       $ (5,088 )   $ 5,362   

Service charges on deposit accounts

     11,713         12,942        (1,229 )

Wealth management fees

     7,808         7,500        308   

Letter of credit fees

     1,715         1,721        (6 )

Insurance fees

     8,312         7,751        561   

Mortgage banking

     3,403         2,727        676   

Debit and credit card fees

     7,624         6,921        703   

Other income:

       

Derivative fee income

     136         406        (270 )

Commercial loan rate swap valuation

     96         (616 )     712   

Rabbi trust

     200         643        (443 )

Other

     5,929         3,673        2,256   

Total Other Noninterest Income

     6,361         4,106        2,255   

Total Noninterest Income

   $ 47,210       $ 38,580      $ 8,630   

 

S&T recognized net gains of $0.3 million on available-for-sale equity securities for the year ended December 31, 2010 as compared to $5.1 million of net losses in 2009. In 2009, S&T recognized $5.3 million in OTTI charges on 17 bank equity holdings. During 2010, overall market conditions improved substantially resulting in minimal OTTI charges.

Noninterest income increased $8.6 million to $47.2 million in 2010 as compared to 2009. The increase of $0.6 million in insurance commissions is due to higher annual bonus commission income received in the first quarter of 2010 based upon positive trends in loss rates. Mortgage banking activities increased $0.7 million due to improved loan pricing despite a decrease of mortgages sold in the secondary market of $109.3 million compared to 2009. Debit and credit card revenues increased $0.7 million primarily due to increased volume of transactions and the conversion to an exclusive

 

PAGE 34


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

provider which accounted for $0.5 million of the increase. The change of $0.7 million in commercial loan rate swap valuation relates to a $0.6 million charge for an additional credit exposure on an exited commercial loan swap asset that was recorded in 2009. The $2.3 million increase in other noninterest income is a result of a reclassification of ATM interchange income due to the change in the presentation from a net amount of fee income and expenses to a gross presentation. These increases were partially offset by a decrease of $1.2 million in service charges on deposit fees, primarily customer overdraft fees, due to a recent regulatory change (Regulation E), which was implemented on August 15, 2010. Regulation E requires customers with existing accounts to opt in for overdraft coverage of certain types of electronic banking activities. Many customers did not opt to continue the coverage resulting in a decrease in customer overdraft fees collected.

 

Noninterest Expense

 

Years Ended December 31    2010     2009      $ Change  
(in thousands)                    

Salaries and employee benefits

   $ 48,715      $ 48,848       $ (133 )

Occupancy, net

     6,928        6,819         109   

Furniture and equipment

     5,118        5,067         51   

Other taxes

     3,432        3,733         (301 )

Data processing

     6,145        6,048         97   

Amortization of intangibles

     1,943        2,308         (365 )

Legal

     4,448        2,323         2,125   

Joint venture impairment and amortization

     2,573        4,393         (1,820 )

FDIC assessment

     5,426        8,388         (2,962 )

Other expenses:

       

Unfunded loan commitments

     (1,555 )     2,888         (4,443 )

Loan collection fees

     1,770        1,325         445   

Professional consulting

     2,441        1,897         544   

Other real estate owned

     1,921        759         1,162   

Marketing

     2,794        2,751         43   

Other

     13,534        10,579         2,955   

Total Other Noninterest Expense

     20,905        20,199         706   

Total Noninterest Expense

   $ 105,633      $ 108,126       $ (2,493 )

 

Noninterest expense decreased by $2.5 million during 2010 compared to 2009. Decreases included $1.8 million in joint venture impairment and amortization expense that related to an impairment adjustment on a Low Income Housing Tax Credit (“LIHTC”) Project of $2.0 million in 2009. No significant impairment was recorded in 2010. Federal Deposit Insurance Corporation (“FDIC”) expense decreased $3.0 million primarily due to a special assessment charged to all banks in the second quarter of 2009. The decrease of $4.4 million in unfunded loan commitments relates to a reduction in the reserve.

Offsetting the above mentioned decreases were increases of $2.1 million in legal expenses related to a $2.3 million onetime legal settlement cost that occurred in the first and second quarters of 2010. A $1.2 million increase in other real estate owned (“OREO”) expense relates to higher costs due to an increase in OREO properties in 2010. Additionally, the most significant increase of $3.0 million in other noninterest expense relates primarily to the previously mentioned $2.3 million reclassification of ATM interchange income, as well as, a $0.9 million increase in the write-off of an uncollectible receivable relating to excess expenses for a mutual fund advised by an affiliate.

 

PAGE 35


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

S&T’s efficiency ratio, which measures noninterest expense as a percent of noninterest income plus net interest income on a fully taxable-equivalent basis, excluding security gains, was 54 percent for 2010 and 55 percent for 2009. Refer to page 53 Explanation of Use of Non-GAAP Financial Measures for a discussion of the efficiency ratio as a non-GAAP financial measure.

 

Federal Income Taxes

 

A federal income tax provision of $14.4 million was recognized in 2010 attributable to pretax income of $57.9 million for the year, compared to tax benefit of $3.9 million on pretax income of $4.1 million for 2009.

The effective tax rate for 2010 was 24.9 percent and negative 94.7 percent in 2009. S&T ordinarily generates an annual effective tax rate that is less than the statutory rate of 35 percent due to benefits resulting from tax-exempt interest, excludable dividend income, and tax benefits associated with Low Income Housing Tax Credit (“LIHTC”) and Federal Historic Tax Credit Projects, which are relatively consistent regardless of the level of pretax income.

The consistent level of tax benefits that reduce S&T’s tax rate below the 35 percent statutory rate, coupled with relatively low level of annual pretax income, produced a negative annual effective tax rate for 2009.

 

Results of Operations

Year Ended December 31, 2009

 

Net Income

 

Net income available to common shareholders was $2.0 million in 2009, a 97 percent decrease from the $60.2 million in 2008. Earnings per share decreased from $2.28 diluted earnings per share in 2008 to $0.07 diluted earnings per share in 2009. The decrease in net income for 2009 compared to 2008 was primarily the result of higher provision for loan losses, which was necessitated by the significant increase in loan charge-offs and the general deterioration of the credit quality in the loan portfolio, increased FDIC premiums and surcharges and OTTI for equity investments. The common return on average assets was 0.05 percent for 2009, as compared to 1.52 percent for 2008. The common return on average equity was 0.37 percent for 2009 compared to 14.77 percent for 2008.

 

Net Interest Income

 

Net interest income represents the difference between the interest and fees earned on interest-earning assets and the interest paid on interest-bearing liabilities. Net interest income is affected by changes in the average balance of interest-earning assets and interest-bearing liabilities and changes in interest rates and spreads. Maintaining consistent spreads between interest-earning assets and interest-bearing liabilities is significant to our financial performance because net interest income comprised 78 percent and 79 percent of operating revenue (net interest income plus noninterest income, excluding security gains) in 2009 and 2008 respectively. Refer to page 53 Explanation of Use of Non-GAAP Financial Measures for a discussion of operating revenue as a non-GAAP financial measure. The level and mix of interest-earning assets and interest-bearing liabilities are continually monitored by S&T’s Asset and Liability Committee (“ALCO”), in order to mitigate interest rate and liquidity risks of the balance sheet. A variety of ALCO strategies were successfully implemented, within prescribed ALCO risk parameters, to maintain an acceptable net yield on interest-earning assets (net interest margin) given the challenges of the current interest rate environment.

On a fully taxable-equivalent basis, net interest income increased $2.1 million or 1 percent in 2009 compared to 2008. Net interest income increases in 2009 were primarily the result of a $226.2 million increase in average interest-earning assets, primarily driven by $425.8 million average

 

PAGE 36


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

interest-earning assets acquired through the IBT acquisition in the second quarter 2008. The net interest margin on a fully taxable-equivalent basis was 3.89 percent in 2009 as compared to 4.07 percent in 2008. The net interest margin was negatively affected in 2009 by higher delinquent interest, lower repricing spreads in 2009 on variable rate loans and the inability to reduce core deposit rates by the same level. During 2009, S&T implemented an ALCO strategy to deleverage the balance sheet from a securities perspective. A decrease in loans and securities, along with funds received in the CPP, has provided a significant opportunity to pay down borrowings and reduce the need to aggressively solicit deposits. Average borrowings decreased $215.0 million from 2008.

In 2009, average loans increased $242.4 million and average securities and federal funds sold decreased $16.2 million as compared to 2008. S&T acquired $278.5 million of average loans and $147.3 million of average securities with the IBT acquisition. The strategy was put in place to not replace maturing investment securities as the risk and reward for leveraging activities had been significantly reduced in a volatile interest rate environment. The yields on average loans decreased 98 basis points and the yields on average securities decreased 35 basis points from 2008. Overall yields on interest-earning assets were 5.15 percent and 6.04 percent for the years ended December 31, 2009 and 2008, respectively.

In 2009, average interest-bearing deposits increased by $247.1 million as compared to 2008. S&T acquired $326.0 million of average deposits with the IBT acquisition. The cost of deposits totaled 1.47 percent, a decrease of 74 basis points from 2008 due to lower rates paid on deposits. The cost of repurchase agreements and other borrowed funds decreased 57 basis points to 2.61 percent as a result of lower short-term rates as compared to 2008. Overall funding costs decreased 79 basis points to 1.63 in 2009 as compared to 2008.

Positively affecting net interest income was a $194.0 million increase in average net free funds during 2009 compared to 2008. Average net free funds are the excess of demand deposits, other noninterest-bearing liabilities and shareholders’ equity over nonearning assets. The increase is primarily due to successful marketing of new demand accounts and corporate cash management services and increased equity due to participation in the CPP.

 

Provision for Loan Losses

 

The provision for loan losses was $72.4 million and $12.9 million for 2009 and 2008, respectively. The $72.4 million provision for 2009 is primarily a result of net charge-offs of $55.5 million, a $9.9 million increase in specific reserves and a $7.0 million increase in general reserves.

The increase in specific reserves is primarily a result of an increase in impaired loans in detail below. The increase in general reserves is primarily the result of an increase in overall risk (both macroeconomic and specific portfolio risks) combined with enhancements in methodology. Specifically, the increased macroeconomic risks were unemployment and commercial real estate vacancy trends and the increased specific portfolio risks were nonaccrual loans, delinquent loans, classified loans, net charge-offs and delinquency trends and out-of-state loans. All of these increases were partially offset by a decrease in loan balances during 2009.

During 2009 S&T introduced three enhancements in its methodology. The first enhancement was the addition of an out-of-state risk factor, which increased the general reserves for commercial real estate loans. The second enhancement was the expansion of the risk rating scale assigned for the qualitative factors in response to the current economic environment, which also had the effect of increasing general reserves. The third enhancement was a change in the baseline for loss history from a seven year absolute high to a five year average combined with the qualitative adjusted factors. Management believes that these enhancements are more indicative of the loan losses over the economic life cycle of the loan segments.

 

PAGE 37


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

The provision is the result of management’s assessment of credit quality statistics and other factors that would have an impact on probable losses in the loan portfolio and the model used for determination of the adequacy of the ALL for loan losses. Enhancements within the ALL for loan loss model are directionally consistent with the increase in nonperforming loans and classified loan trends, loan charge-off levels and the impact of the troubled commercial loan relationships during 2009. Credit quality is the most important factor in determining the amount of the ALL and the resulting provision.

During 2009, S&T had an increase in delinquencies, classified and nonperforming loan levels and an overall slowdown in the economy that is affecting all segments of the loan portfolio. Nonaccrual loans to total loans increased to 2.67 percent at December 31, 2009 as compared to 1.19 percent at December 31, 2008. Also affecting the amount of the ALL and resulting provision, are increases in several qualitative risk factors within the loan loss reserve model based on observations regarding both economic conditions and changes in overall asset quality. For 2009, net loan charge-offs were $55.5 million compared to net loan charge-offs of $10.0 million for 2008. The most significant net charge-offs in 2009 were a $26.5 million charge-off for a $30.3 million commercial relationship with an energy exploration and drilling company with a remaining exposure of $2.7 million, $8.2 million for three Florida lot development projects with a remaining exposure in Florida of $3.3 million, $5.0 million for two commercial real estate projects in New York and Connecticut with a remaining exposure of $3.9 million, $7.7 million for a mixed use commercial property that lost a major tenant with a remaining exposure of $3.7 million, $2.5 million for a commercial and industrial loan secured by assignment of partnership interests which are uncertain due to legal issues among the partners, $1.1 million for a $2.4 million office building that was foreclosed and sold during the first quarter of 2009, $1.1 million for a regional restaurant that entered into bankruptcy, $0.6 million for a multi-family development project in western Pennsylvania, $0.6 million for a retail sales company which discontinued operations and $0.6 million for condominium construction loans in western Pennsylvania.

 

Noninterest Income

 

Noninterest income increased $1.1 million or 3 percent, to $38.6 million in 2009 as compared to 2008. Increases included $0.6 million or 5 percent in service charges on deposit accounts, $3.0 million in mortgage banking fees, $1.0 million in debit and credit card revenues and $0.8 million in other noninterest income, offset by decreases of $0.5 million or 6 percent in wealth management fees and $0.1 million or 2 percent in letter of credit fees and $0.3 million or 4 percent in insurance commissions. The increase of $0.6 million or 5 percent in service charges on deposit fees is primarily related to the increased customer base resulting from the IBT acquisition, as well as the organic expansion of demand deposit accounts. Decreases of $0.5 million in wealth management fees are primarily attributable to current market conditions for these lines of business, $0.1 million in letter of credit fees is attributable to customer preferences for this type of product and $0.3 million in insurance commissions due to the current soft market. The increase of $3.0 million in mortgage banking fees is a result of record origination levels in mortgage banking activities during the year ended December 31, 2009 as consumers sought to refinance existing loans at lower interest rates. The increase of $1.0 million in debit and credit card revenues is a result of an increased customer base from the IBT acquisition. The increases of $0.8 million in other noninterest income are primarily related to the deferred compensation plan valuations, offset by a $0.6 million charge for the additional credit exposure on an exited commercial loan swap asset as well decreased derivative fee income during the year.

S&T recognized $5.1 million of net losses primarily on available-for-sale equity securities in the year ended December 31, 2009 as compared to $1.7 million of net losses in 2008. The investment security losses for the year ended December 31, 2009 are primarily OTTI charges on 17 bank equity holdings totaling $5.3 million.

 

PAGE 38


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

S&T has implemented a strategy to methodically sell equity holdings in the available-for-sale equity portfolio and only retain strategic positions in bank holding companies within our market area.

 

Noninterest Expense

 

Noninterest expense increased by $24.3 million or 29 percent during 2009 compared to 2008. Salaries and employee benefit expense increased $6.1 million or 14 percent primarily attributable to the addition of 56 full-time equivalent staff, due to the addition of IBT retained staff, normal year-end merit increases and increased pension expenses as a result of market declines in the portfolio and increased medical plans expenses. Salaries and employee benefits were positively affected by reduced accruals for incentives as a result of decreased earnings performance for 2009 as well as a reduction in employee stock appreciation rights valuation expense resulting from a decrease in S&T stock estimated fair value.

S&T’s net periodic defined benefit plan cost is based primarily on three assumptions: the discount rate for plan liabilities, the expected return on plan assets and the rate of compensation increase. Net periodic pension expense of $3.1 million and $0.1 million was recorded for S&T’s defined benefit plan for 2009 and 2008, respectively. Net periodic pension expense is expected to approximate $2.6 million for the year 2010, assuming no significant changes in plan assumptions or contributions.

Occupancy, furniture and equipment expense increased $1.0 million or 9 percent during 2009 as compared to 2008, as a result of the net acquisition of new branches with the IBT acquisition. Other tax expense increased $0.7 million or 24 percent primarily as a result of increased Pennsylvania shares tax due to the IBT acquisition. Data processing expense increased $0.6 million or 10 percent as compared to 2008 as a result of changes in data communication processes and an increased customer base as a result of the IBT acquisition. Amortization of intangibles increased $1.3 million due to the IBT acquisition. FDIC assessments increased by $8.0 million due to the special assessment charged to all banks in the second quarter of 2009, an increased premium ratio and a higher deposit base during 2009. Other noninterest expense increased $6.7 million or 33 percent during 2009 and is primarily attributable to a $1.9 million increase in the provision for unfunded loan commitments, a $1.6 million increase in the amortization and impairment for affordable housing limited partnerships, $1.1 million increase in loan collection expenses primarily associated with troubled loans, a $0.5 million increase in consulting, a $1.1 million increase in other real estate owned expense and $1.1 million increase in legal fees due to troubled loans. Increases were offset by a decrease of $0.4 million in marketing due to special promotions related to the IBT acquisition in 2008 and $0.1 million of other expenses. S&T’s efficiency ratio, which measures noninterest expense as a percent of noninterest income plus net interest income on a fully taxable-equivalent basis, excluding security gains, was 55 percent for 2009 and 45 percent for 2008. Refer to page 42 Explanation of Use of Non-GAAP Financial Measures for a discussion of efficiency ratio as a non-GAAP financial measure.

 

Federal Income Taxes

 

A federal income tax benefit of $3.9 million was recognized in 2009 attributable to the pretax income of $4.1 million for the year, compared to expense of $24.5 million on pretax income of $84.7 million for 2008. Included in the 2009 tax benefit is tax expense approximating $0.4 million attributable to interest and penalties on a settled IRS examination, an increase in unrecognized tax benefits and return to provision adjustments.

The effective tax rate for 2009 was negative 94.7 percent and 28.9 percent in 2008. S&T ordinarily generates an annual effective tax rate that is less than the statutory rate of 35 percent due to benefits resulting from tax-exempt interest, excludable dividend income, from tax-exempt interest, excludable dividend income and tax benefits associated with LIHTC and Federal Historic Tax Credit Projects, which are relatively consistent regardless of the level of pretax income.

 

PAGE 39


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

The consistent level of tax benefits that reduce S&T’s tax rate below the 35 percent statutory rate, coupled with relatively low level of annual pretax income, produced a negative annual effective tax rate.

 

Financial Condition

 

Loan growth continued to be challenging in our market in 2010. Total gross loans at December 31, 2010 remained unchanged at $3.4 billion compared to December 31, 2009. Given the lack of loan growth and a robust market for bank deposits, management pursued a deposit pricing strategy that resulted in an improved mix, lower deposit costs and a higher net interest margin. Deposits remained stable at $3.3 billion as of December 31, 2010 and December 31, 2009. Concerns about the level and possible future direction of interest rates were major factors in management’s strategy to not fully replace called and maturing securities in 2010, which decreased by $68.0 million from $378.4 million at December 31, 2009 to $310.4 million at December 31, 2010. This allowed management to improve the overall funding mix, decreasing borrowings by $112.1 million, from $272.1 million at December 31, 2009 to $160.6 million at December 31, 2010.

 

Securities Activity

 

December 31    2010      2009      2008  
(in thousands)                     

Available-for-Sale

        

Obligations of U.S. government corporations and agencies

   $ 125,675       $ 127,971       $ 169,251   

Collateralized mortgage obligations of U.S. government corporations and agencies

     41,491         60,229         63,900   

Mortgage-backed securities of U.S. government corporations and agencies

     43,991         61,521         78,952   

Obligations of state and political subdivisions

     65,772         92,928         122,478   

Marketable equity securities

     11,096         12,211         14,918   

Other securities

                     3,214   

Total Available-for-Sale Securities

     288,025         354,860         452,713   

FHLB of Pittsburgh capital stock, at cost

     22,365         23,542         23,542   

Total

   $ 310,390       $ 378,402       $ 476,255   

 

S&T invests in various securities in order to provide a source of liquidity, to satisfy various pledging requirements, increase net interest income and as a tool of the ALCO to reposition the balance sheet for interest rate risk purposes. Securities are subject to market risks that could negatively affect the level of liquidity available to S&T. Risks associated with various securities portfolios are managed and monitored by investment policies annually approved by the S&T Board of Directors and administered through ALCO and the Treasury function of S&T Bank. The decrease in securities of $68.0 million relates to $146.9 million maturities of debt securities and the sale of $2.6 million of equity securities offset by purchases of $81.7 million.

During 2010, S&T recorded $0.1 million of realized losses for OTTI relating to securities of three bank equity holdings. This compares favorably to 2009 when S&T recorded $5.3 million in OTTI charges on 17 bank equity holdings as a result of the declining values in bank stocks due to the financial crisis. The performance of the debt and equity securities markets could generate further impairment in future periods requiring realized losses to be reported.

At December 31, 2010, net unrealized gains on securities classified as available-for-sale were approximately $8.1 million as compared to $7.6 million at December 31, 2009. Net unrealized gains

 

PAGE 40


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

related to S&T’s debt securities portfolio totaled $7.3 million at December 31, 2010 and $8.1 million unrealized gains at December 31, 2009. The marketable equity securities portfolio had net unrealized gains of $0.8 million at December 31, 2010 compared to net unrealized losses of $0.5 million at December 31, 2009. S&T does not intend to sell and it is not likely that it will be required to sell any of the securities in an unrealized loss position before recovery of its amortized cost.

S&T is a member of the Federal Home Loan Bank (“FHLB”) of Pittsburgh. The FHLB requires members to purchase and hold a specified level of FHLB stock based upon their level and availability of borrowings and participation in other programs offered by the FHLB. Stock in the FHLB is non-marketable and is redeemable at the discretion of the FHLB. Both cash and stock dividends are reported as income in taxable investment securities in the Consolidated Statements of Income. The FHLB has currently suspended the payment of dividends. Members do not purchase stock in the FHLB for the same reasons that traditional equity investors acquire stock in an investor-owned enterprise. Rather, members purchase stock to obtain access to the low-cost products and services offered by the FHLB. Unlike equity securities of traditional for-profit enterprises, the stock of FHLB does not provide its holders with an opportunity for capital appreciation because, by regulation, FHLB stock can only be purchased, redeemed and transferred at par value.

At December 31, 2010 and 2009, S&T’s FHLB stock totaled $22.4 million and $23.5 million, respectively. This investment is carried at cost and evaluated for impairment based on the ultimate recoverability of the par value.

S&T was notified in December 2008 by the FHLB that they have suspended the payment of dividends and the repurchase of excess capital stock until further notice. S&T management reviewed and evaluated the FHLB capital stock for OTTI at December 31, 2010. Management considered the suspension of dividends and the repurchase of excess capital stock by the FHLB Board of Directors in a letter to member banks dated December 23, 2008. Management reviewed the FHLB’s Form 10-Q for the period ended September 30, 2010 filed with the Commission on November 9, 2010 to support their conclusion around OTTI of FHLB stock.

S&T believes its holdings in the stock are ultimately recoverable at par value as of December 31, 2010 and, therefore, determined that the FHLB stock was not OTTI. In addition, S&T has sufficient liquidity and does not require redemption of its FHLB stock in the foreseeable future. Further, during the year on October 29, 2010, S&T received $1.2 million from the FHLB to redeem 11,771 shares of capital stock. Subsequent to year end, on February 24, 2011 an additional $1.1 million was received for the redemption of 11,183 shares.

 

PAGE 41


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

The following table sets forth the maturities of securities at December 31, 2010 and the weighted average yields of such securities. Taxable-equivalent adjustments (using a 35 percent federal income tax rate) for 2010 have been made in calculating yields on obligations of state and political subdivisions.

 

    Maturing  
  Within
One Year
    After
One But Within
Five Years
    After
Five But Within
Ten Years
    After
Ten Years
    No Fixed
Maturity
 
     Amount     Yield     Amount     Yield     Amount     Yield     Amount     Yield     Amount  
(in thousands)                                                      

Available-for-Sale

                 

Marketable equity securities

  $             $             $             $             $ 11,096   

Obligations of U.S. government corporations and agencies

    10,393        4.45 %     115,282        1.91 %                                   

Collateralized mortgage obligations of U.S. government corporations and agencies

                  6,049        4.96 %     7,034        4.50 %     28,408        4.94 %       

Mortgage-backed securities of U.S. government corporations and agencies

    3,616        4.41 %     651        4.34 %     15,542        4.50 %     24,182        5.37 %       

Obligations of state and political subdivisions

    2,721        4.62 %     22,786        5.36 %     9,560        5.73 %     30,705        5.89 %       
Total   $ 16,730              $ 144,768              $ 32,136              $ 83,295              $ 11,096   

Weighted Average Rate

            4.47 %             2.59 %             4.87 %             5.42 %        

 

PAGE 42


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

Lending Activity

 

The following table summarizes S&T’s loan distribution at the end of each of the last five years:

 

    December 31  
    2010     2009     2008     2007     2006  
            % of
Total
           % of
Total
           % of
Total
           % of
Total
           % of
Total
 
(in thousands)                                                            

Consumer:

                                                                               

Home equity

  $ 441,096        13.15   $ 458,643        13.49   $ 438,380        12.28   $ 294,413        10.53   $ 269,861        10.12

Residential mortgage

    359,536        10.71     357,393        10.52     408,603        11.45     318,067        11.37     294,960        11.06

Consumer installment

    74,780        2.23     81,141        2.39     84,065        2.36     74,839        2.67     73,140        2.74

Consumer construction

    4,019        0.12     11,836        0.35     361,910        10.14     6,157        0.22     6,309        0.24

Total Consumer Loans

    879,431        26.21     909,013        26.75     1,292,958        36.23     693,476        24.79     644,270        24.16

Commercial:

                   

Commercial real estate

    1,494,202        44.53     1,428,329        42.03     1,440,200        40.36     964,439        34.48     973,015        36.50

Commercial and industrial

    722,359        21.52     701,650        20.65     822,543        23.05     815,306        29.15     702,833        26.36

Commercial construction

    259,598        7.74     359,342        10.57     13,014        0.36     323,718        11.58     346,173        12.98

Total Commercial Loans

    2,476,159        73.79     2,489,321        73.25     2,275,757        63.77     2,103,463        75.21     2,022,021        75.84

Total Loans

  $ 3,355,590        100   $ 3,398,334        100   $ 3,568,715        100   $ 2,796,939        100   $ 2,666,291        100

 

The loan portfolio represents the most significant source of interest income for S&T. The risk that borrowers will be unable to pay such obligations is inherent in the loan portfolio. Other conditions such as the overall economic climate can significantly impact the borrower’s ability to pay. In order to mitigate such risk, loan underwriting standards for S&T are established by a formal policy and are subject to periodic review and approval by the S&T Board of Directors.

Total loans for the year ended December 31, 2010 were $3.4 billion, a $42.7 million decrease from the year ended December 31, 2009. Declines occurred in both the consumer and commercial loan portfolios, due to less demand in our market area resulting from the current economic climate.

Commercial loans, including commercial real estate, commercial and industrial and construction, comprised 74 percent and 73 percent of the loan portfolio in 2010 and 2009, respectively. Although commercial loans can have a relatively higher risk profile, management believes these risks are mitigated through active portfolio management, underwriting and continuous review. The loan to value policy guidelines for commercial real estate loans are generally 65-85 percent. At December 31, 2010, variable rate commercial loans were 80 percent of the commercial loan portfolio as compared to 80 percent at December 31, 2009.

Home equity and residential mortgage loans comprised 24 percent of the loan portfolio in 2010 and in 2009. Residential mortgage lending continues to be a strategic focus through a centralized mortgage origination department, ongoing product redesign, secondary market activities and the utilization of commission compensated originators. The loan to value policy guideline is 80 percent for residential first lien mortgages. Higher loan to value loans may be approved with the appropriate

 

PAGE 43


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

private mortgage insurance coverage. Second lien positions are assumed with home equity loans, but normally only to the extent that the combined credit exposure for both the first and second liens does not exceed 100 percent of the estimated fair value of the property.

Management believes the downturn in the local residential real estate market and the impact of declining values on the real estate loan portfolio will be mitigated by S&T’s conservative mortgage lending policies for portfolio loans, which only permit a maximum term of 20 years for fixed rate mortgages. Balloon payment mortgages are also offered in the portfolio. The maximum balloon term is 15 years with a maximum amortization term of 30 years. Balloon mortgages with terms of 10 years or less may have a maximum amortization term for up to 40 years. Combo mortgage loans consisting of S&T residential first mortgage and home equity second mortgage are also available to credit worthy borrowers.

S&T designates specific loan originations, generally longer-term, lower-yielding, 1–4 family mortgages as held for sale, and sells them to Fannie Mae. The rationale of these sales is to mitigate interest-rate risk associated with holding lower rate, long-term residential mortgages in the loan portfolio, generate fee revenue from sales and servicing and maintain the primary customer relationship. During 2010 and 2009, S&T sold $109.3 million and $133.5 million, respectively, of 1–4 family mortgages to Fannie Mae and currently services $318.2 million of secondary market mortgage loans at December 31, 2010 compared to $255.9 million at December 2009. Loans sold to Fannie Mae decreased from the prior year as rates declined substantially in early 2009 resulting in a significant amount of mortgage refinances and while rates remained low during 2010, volumes have slowed from early 2009. S&T intends to continue to sell longer-term loans to Fannie Mae in the future, especially during periods of lower interest rates.

Loan underwriting standards for S&T are established by a formal policy and are subject to the periodic review and approval by the Board of Directors. During 2010 and 2009, S&T implemented or enhanced various new policies and procedures to strengthen loan underwriting standards, including increased monitoring, improved risk ratings, stress testing and compliance for the area of commercial lending.

S&T offers a variety of unsecured and secured consumer loan and credit card products. Loan-to-value policy guidelines for direct loans are 90–100 percent of invoice for new automobiles and 80–90 percent of National Automobile Dealer Association (“NADA”) value for used automobiles.

The following table presents the maturity of consumer and commercial loans outstanding as of December 31, 2010. Also provided are the amounts classified according to the sensitivity to changes in interest rates.

 

     Maturing  
      Within One
Year
     After One But
Within Five Years
     After Five
Years
     Total  
(in thousands)                            

Fixed interest rates

   $ 68,266       $ 237,174       $ 313,498       $ 618,938   

Variable interest rates

     193,755         24,504         42,234         260,493   

Total Consumer Loans

   $ 262,021       $ 261,678       $ 355,732       $ 879,431   

Fixed interest rates

     141,151         215,792         133,021         489,964   

Variable interest rates

     596,677         562,405         827,113         1,986,195   

Total Commercial Loans

   $ 737,828       $ 778,197       $ 960,134       $ 2,476,159   

Gross Portfolio Loans

   $ 999,849       $ 1,039,875       $ 1,315,866       $ 3,355,590   

 

PAGE 44


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

Credit Quality

 

S&T monitors various credit quality indicators to mitigate the risk of adversely classified assets. S&T focuses on closely monitoring impaired loans to minimize the risk of loss to the bank. There can be no assurance that the bank will be successful in eliminating the risk with these loans and consequently could result in losses for the bank.

S&T determines loans to be impaired when based upon current information and events it is probable that S&T will be unable to collect all interest and principal payments due according to the original contractual terms of the loan agreement. Impaired loans are monitored by credit administration on a monthly basis.

Nonperforming assets consists of nonaccrual and restructured loans and OREO. The following represents nonperforming assets for the periods presented:

 

      2010      2009      2008      2007      2006  
(in thousands)                                   

Commercial real estate

   $ 14,674      $ 52,380       $ 19,386       $ 7,359       $ 6,486   

Commercial and industrial

     2,567        7,489         3,341         6,119         11,659   

Commercial construction

     5,844        21,674         13,848                   

Home equity

     1,433         2,252         174         71         113   

Residential mortgage

     5,996        5,583         5,624         3,183         1,023   

Consumer installment

     65        20         73         65         571   

Consumer construction

     525                                  

Total Nonaccrual Loans

     31,104        89,398         42,446         16,797         19,852  

Commercial real estate

     29,636        1,409                          

Commercial and industrial

     1,000                                  

Commercial construction

     2,143                                  

Total Restructured Loans

     32,779        1,409                          

Total Nonperforming Loans

     63,883        90,807        42,446         16,797         19,852  

OREO

     5,820        4,607        851         488         523  

Total Nonperforming Assets

   $ 69,703      $ 95,414      $ 43,297       $ 17,285       $ 20,375  

Nonperforming loans as a percent of total loans

     1.90%         2.67%         1.19%         0.60%         0.74%   

Nonperforming assets as a percent of total loans plus OREO

     2.07%         2.80%         1.21%         0.62%         0.76%   

 

Loans are placed on nonaccrual when interest and principal are 90 days or more past due or at management’s discretion when there has been a material deterioration in the borrower’s financial condition. Nonperforming loans decreased 29.6 percent from the prior year due to improving economic conditions in 2010. Overall, S&T’s nonperforming loan formation slowed significantly compared to the prior year.

Restructured loans are loans that S&T, for economic or legal reasons related to a borrower’s financial difficulties, grants a concession to the borrower that it would not otherwise consider. A concession is considered to have been granted if any of the following occur: the effective rate on the restructured loan is less than the effective rate on the original loan, a reduction or forgiveness of principal, reduction or forgiveness of accrued interest, a reduction or deferral of principal, or an extension of the maturity date at a stated interest rate lower than the current market rate for the new debt with similar risk. The increase in 2010 of restructured loans is a result of S&T’s willingness to work directly with our customers in these financially difficult times.

 

PAGE 45


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

OREO and other repossessed assets are comprised of properties acquired through foreclosure proceedings or acceptance of a deed in lieu of a foreclosure. These properties are recorded at their estimated fair value less cost to sell. At December 31, 2010, 45 percent of the $5.8 million is comprised of 2 properties, including a $1.5 million residence and a $1.1 million commercial real estate property. Foreclosures increased in 2010 as compared to 2009, from 35 to 46, due to the continued stress felt by our customers in these challenging economic times. It is S&T’s policy to obtain updated appraisals at least annually on properties in OREO or sooner if indications of impairment exist.

The following represents delinquency for the periods presented:

 

    December 31  
    2010     2009     2008     2007     2006  
            % of
Loans
           % of
Loans
           % of
Loans
           % of
Loans
           % of
Loans
 
(in thousands)                                                            

90 days or more:

                   

Commercial real estate

  $ 44,310        2.97   $ 53,789        3.77   $ 19,386        1.35   $ 7,359        0.76   $ 6,486        0.67%   

Commercial and industrial

    3,567        0.49     7,489        1.07     3,341        0.41     6,119        0.75     11,659        1.66%   

Commercial construction

    7,987        3.08     21,674        6.03     13,848        3.83     —          —          —          —     

Home equity

    1,433        0.32     2,252        0.49     174        0.04     71        0.02     113        0.04%   

Residential mortgage

    5,996        1.67     5,583        1.56     5,624        1.38     3,183        1.00     1,023        0.35%   

Consumer installment

    65        0.09     20        0.02     73        0.09     65        0.09     571        0.78%   

Consumer construction

    525        13.06     —          —          —          —          —          —          —          —     

Total Loans

  $ 63,883        1.90   $ 90,807        2.67   $ 42,446        1.19   $ 16,797        0.60   $ 19,852        0.74%   

30 to 80 days:

                   

Commercial real estate

  $ 4,371        0.29   $ 22,923        1.60   $ 9,603        0.67   $ 17,063        1.77   $ 3,773        0.39%   

Commercial and industrial

    1,714        0.24     1,241        0.18     3,689        0.45     3,770        0.46     1,349        0.19%   

Commercial construction

    835        0.32     899        0.25     10,446        2.89     65        0.02     —          —     

Home equity

    2,451        0.56     2,106        0.46     356        0.08     137        0.05     977        0.36%   

Residential mortgage

    1,346        0.37     5,151        1.44     5,093        1.25     3,396        1.07     1,385        0.47%   

Consumer installment

    342        0.46     852        1.05     449        0.53     426        0.57     1,089        1.49%   

Consumer construction

    —          —          —          —          —          —          —          —          —          —     

Total Loans

  $ 11,059        0.33   $ 33,172        0.98   $ 29,636        0.83   $ 24,857        0.89   $ 8,573        0.32%   

 

Closed-end installment loans, amortizing loans secured by real estate and any other loans with payments scheduled monthly are reported past due when the borrower is in arrears two or more monthly payments. Other multi-payment obligations with payments scheduled other than monthly are reported past due when one scheduled payment is due and unpaid for 30 days or more. Management monitors delinquency on a monthly basis, including early stage delinquencies in the 30 to 89 days past due for early identification of potential problem loans.

 

Allowance for Loan Losses

 

S&T maintains an ALL at a level determined to be adequate to absorb estimated probable credit losses inherent in the loan portfolio as of the balance sheet date. During the fourth quarter of 2010, management implemented various enhancements to the ALL methodology to better align the calculation with the inherent risk identified within the loan portfolio. Changes included consideration of additional loan risk characteristics such as internal risk rating, collateral, and loan to value, enhancing the base loss calculation to consider the estimated loss emergence period of each loan

 

PAGE 46


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

class and expanding the qualitative adjustments to consider additional factors. The enhancements made to the ALL methodology did not materially change the ALL at December 31, 2010 or any other periods in 2010.

S&T develops and documents a systematic ALL methodology based the following portfolio segments: 1) Commercial Real Estate (“CRE”), 2) Commercial & Industrial (“C&I”), 3) Commercial Construction, 4) Consumer Real Estate and 5) Other Consumer. The following is the ALL for the past 5 years by portfolio segment:

 

    December 31  
    2010     2009     2008     2007     2006  
     Amount     % of
Total
    Amount     % of
Total
    Amount     % of
Total
    Amount     % of
Total
    Amount     % of
Total
 
(in thousands)                                                            

Commercial real estate

  $ 30,424        59 %   $ 27,322        46 %   $ 18,781        44 %   $ 8,014        23%     $ 7,824        24%  

Commercial & industrial

    9,777        19 %     21,393        36 %     20,170        47 %     23,260        68%       20,716        62%  

Commercial construction

    5,905        11 %     8,008        13 %     73        0 %     51        0%       378        1%  

Consumer real estate

    3,962        8     2,143        4     2,750        7     2,266        7%        3,228        10%   

Other consumer

    1,319        3 %     714        1 %     915        2 %     754        2%       1,074        3%  

Total

  $ 51,387        100 %   $ 59,580        100 %   $ 42,689        100 %   $ 34,345        100%     $ 33,220        100%  

 

The following is a discussion of the key risks by portfolio segment that management assesses in preparing the ALL. CRE loans are secured by commercial purpose real estate, including both owner occupied properties and investment properties for various purposes such as hotels, strip malls and apartments. Individual project cash flows, as well as global cash flows, are generally the sources of repayment for these loans. The condition of the local economy is an important indicator of risk, but there are also more specific risks depending on the collateral type as well as the business prospects of the lessee, if the project is not owner occupied.

C&I loans are made to operating companies or manufacturers for the purpose of production, operating capacity, accounts receivable, inventory or equipment financing. Cash flow from the operations of the company is the primary source of repayment for these loans. The condition of the local economy is an important indicator of risk, but there are also more specific risks depending on the industry of the company. Collateral for these types of loans often do not have sufficient value in a distressed or liquidation scenario to satisfy the outstanding debt.

Commercial Construction loans are made to finance the construction or building of structures as well as to finance the acquisition and development of raw land for various purposes. While the risk of these loans is generally confined to the construction period, if there are problems, the project may not be completed, and as such, may not provide sufficient cash flow on its own to service the debt or have sufficient value in a liquidation to cover the outstanding principal. The condition of the local economy is an important indicator of risk, but there are also more specific risks depending on the type of project and the experience and resources of the developer.

Consumer Real Estate loans are secured by 1-4 family residences, including purchase money mortgages, 1st and 2nd lien home equity loans and home equity lines of credit. The primary source of repayment for these loans is the income and assets of the borrower. The condition of the local economy, in particular the unemployment rate, is an important indicator of risk for this segment. The state of the local housing market can also have a significant impact on this portfolio, since low demand and/or declining home values can limit the ability of borrowers to sell a property and satisfy the debt.

Other Consumer loans are made to individuals that may be secured by assets other than 1-4 family residences, as well as unsecured loans. This segment includes auto loans, unsecured lines and

 

PAGE 47


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

credit cards. The primary source of repayment for these loans is the income and assets of the borrower. The condition of the local economy, in particular the unemployment rate, is an important indicator of risk for this segment. The value of the collateral, if there is any, is less likely to be a source of repayment due to less certain collateral values.

Significant to the ALL is a higher mix of commercial loans. These loans are generally larger in size and many are not seasoned and may be more vulnerable to an economic slowdown. Management relies on its loan review process to ensure the integrity of loan risk ratings and to assess potential weaknesses within specific credits. Current risk factors, trends in risk ratings and historical charge-off experiences are considered in the determination of the ALL.

The following table summarizes the ALL for each of the last five years as indicated:

 

     December 31  
      2010      2009      2008      2007      2006  
(in thousands)                                   

General reserves

   $ 47,756       $ 42,577       $ 35,574       $ 31,426       $ 30,593   

Specific reserves

     3,631         17,003         7,115         2,919         2,627   

Total Allowance for Loan Losses

   $ 51,387       $ 59,580       $ 42,689       $ 34,345       $ 33,220   

 

The balance in the ALL decreased to $51.4 million or 1.53 percent of total loans at December 31, 2010 as compared to $59.6 million or 1.75 percent of total loans at December 31, 2009. During 2010, the decrease in the allowance is primarily a result of a decrease of $13.4 million of specific reserves offset by an increase of $5.2 million in general reserves. Overall, improving economic conditions contributed to the decrease in the ALL at December 31, 2010. Individually evaluated impaired loans decreased significantly to $50.7 million at December 31, 2009 compared to $91.5 million at December 31, 2009. The general reserves increased in 2010 as charge-offs continue to be at elevated levels and the prolonged economic conditions support higher qualitative adjustments to the ALL.

S&T’s allowance for lending-related commitments is computed using a methodology similar to that used to determine the ALL. Amounts are added to the allowance for lending-related commitments through a charge to current earnings through noninterest expense. The balance in the allowance for lending-related commitments decreased to $2.7 million at December 31, 2010 as compared to $4.2 million at December 31, 2009 due to a significant decrease in the volume of commitments in 2010. The allowance for lending-related commitments is included in other liabilities.

Consumer unsecured loans and secured loans that are not real estate secured are evaluated for charge-off after the loan becomes 90 days past due. Unsecured loans are fully charged off and secured loans are charged off to the estimated fair value of the collateral less the cost to sell. If the collateral is repossessed and remains unsold for 120 days, the carrying value will be completely charged off. Consumer loans secured by real estate are evaluated for charge-off after the loan balance becomes 90 days past due and are charged down to the estimated fair value of the collateral less cost to sell.

The charge-off policy for commercial loans requires that loans and other obligations that are not collectible be promptly charged-off in the month the loss becomes probable, regardless of the delinquency status of the loan. S&T may elect to recognize a partial charge-off when management has determined that the value of collateral is less than the remaining investment in the loan. A loan or obligation does not need to be charged-off, regardless of delinquency status, if (i) management has determined there exists sufficient collateral to protect the remaining loan balance and (ii) there exists a strategy to liquidate the collateral. Management may also consider a number of other factors to determine when a charge-off is appropriate. These factors may include, but are not limited to:

 

   

The status of a bankruptcy proceeding

 

PAGE 48


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

   

The value of collateral and probability of successful liquidation

   

The status of adverse proceedings or litigation that may result in collection

 

This following summarizes S&T’s loan loss experience for each of the five years presented below:

 

     Years Ended December 31  
      2010     2009     2008     2007     2006  
(in thousands)                               

Balance at January 1:

   $ 59,580      $ 42,689      $ 34,345      $ 33,220      $ 36,572   

Charge-offs:

          

Commercial real estate

     (23,925     (8,795     (828     (273     (3,002

Commercial and industrial

     (7,277     (29,350     (4,681     (4,921     (9,576

Commercial construction

     (6,353 )     (12,397 )     (1,869 )     (118 )       

Consumer real estate

     (2,210 )     (4,558 )     (3,217 )     (515 )     (331 )

Other consumer

     (1,262 )     (1,762 )     (1,575 )     (1,253 )     (1,129 )

Total

     (41,027 )     (56,862 )     (12,170 )     (7,080 )     (14,038 )

Recoveries:

          

Commercial real estate

     576        70        523        18        153   

Commercial and industrial

     328        532        1,035        1,452        487   

Commercial construction

     1,748                               

Consumer real estate

     202        276        157        256        201   

Other consumer

     469        521        501        667        465   

Total

     3,323        1,399        2,216        2,393        1,306   

Net Charge-offs

     (37,704 )     (55,463 )     (9,954 )     (4,687 )     (12,732 )

Provision for loan losses

     29,511        72,354        12,878        5,812        9,380   

Acquired loan loss reserve

                   5,420                 

Allowance for lending-related commitments

                                   

Balance at December 31:

   $ 51,387      $ 59,580      $ 42,689      $ 34,345      $ 33,220   

 

Net loan charge-offs decreased $17.8 million to $37.7 million or 1.11 percent of average loans for 2010 as compared to $55.5 million or 1.60 percent of average loans for 2009. The significant decrease is a result of improving economic conditions in 2010. Further, in 2009, S&T had a $26.9 million charge-off related to one commercial relationship.

The following table summarizes net charge-offs as a percentage of average loans:

 

    December 31  
     2010     2009     2008     2007     2006  
(in thousands)                              

Net charge-offs as a percentage average loans

         

Commercial real estate

    1.42%       3.42%       0.52%       0.04%       —    

Commercial and industrial

    1.62%       0.62%       0.03%       0.03%       0.30%  

Commercial construction

    0.96%       3.74%       0.43%       0.46%       1.35%  

Consumer real estate

    0.24%       0.50%       0.40%       0.04%       0.02%  

Other consumer

    1.04%       1.52%       1.35%       0.78%       0.95%  

Ratio of net charge-offs to average loans outstanding

    1.11%       1.60%       0.31%       0.17%       0.49%  

Allowance for loan losses as a percentage of total loans

    1.53%       1.75%       1.20%       1.23%       1.25%  

Allowance for loan losses to total non-performing loans

    80%       66%       101%       204%       167%  

Provision for loan losses as a percentage of net loan charge-offs

    78%       130%       184%       124%       74%  

 

PAGE 49


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

Noninterest Earning Assets

 

Noninterest earning assets increased $52.4 million in 2010 compared to 2009. The 2010 increase was primarily attributable to cash and due from banks, due to increased cash balances held at the Federal Reserve and additions to joint venture projects.

 

Deposits

 

The following table presents the composition of deposits at December 31:

 

      December 31  
   2010      2009      $ Change  
(in thousands)                     

Deposits

        

Noninterest-bearing demand

   $ 765,812       $ 712,120       $ 53,692   

Interest-bearing demand

     295,246         260,554         34,692   

Money market

     262,683         289,367         (26,684 )

Savings

     753,813         752,130         1,683   

Certificates of deposit

     1,239,970         1,290,370         (50,400 )

Total

   $ 3,317,524       $ 3,304,541       $ 12,983   

 

Deposits are the primary source of funding for S&T. Management believes that the S&T deposit base is stable and that S&T has the ability to attract new deposits, mitigating a funding dependency on other more volatile sources. During 2010, the increase of $88.4 million in demand and NOW accounts is primarily related to the low interest rate environment, our marketing efforts for new demand accounts, corporate cash management services and participation in the Transaction Account Guarantee (“TAG”) Program. Offsetting the increase in demand and NOW accounts is a decrease of $26.7 million in money market and a decrease of $50.4 million in certificates of deposits. The decrease in money market accounts primarily related to one large deposit made at the bank, at the end of 2009, and withdrawn in early 2010. The decrease in certificates of deposit is primarily attributed to a $46.9 million decrease in brokered and CDARS certificates of deposits.

Certificates of deposit of $100,000 and over were 12 percent of total deposits at December 31, 2010 and 2009, respectively and primarily represent deposit relationships with local customers in our market area. Maturities of certificates of deposit of $100,000 or more outstanding at December 31, are summarized as follows:

 

      2010  
(in thousands)       

Three months or less

   $ 144,728   

Over three through six months

     74,778   

Over six through twelve months

     77,200   

Over twelve months

     154,845   

Total Certificates of Deposit

   $ 451,551   

 

S&T participates in the Certificate of Deposit Account Registry Services (“CDARS”) program. The reciprocal program allows S&T customers to receive expanded FDIC coverage by placing multiple certificates of deposit at other CDARS member banks. S&T maintains deposits by accepting certificates of deposits from customers of CDARS member banks in the exact amount as S&T

 

PAGE 50


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

customers placed. S&T can also access the CDARS network to accept brokered certificates of deposit that are not part of the reciprocal CDARS program. As of December 31, 2010, the CDARS certificates of deposit were primarily reciprocal totaling $46.4 million and $10.0 million of brokered CDARS certificates of deposit. Both programs are classified as part of brokered retail certificates of deposit. The issuance of brokered retail certificates of deposits and participation in the CDARS program is an ALCO strategy to increase and diversify funding sources.

The daily average amount of deposits and rates paid on such deposits are summarized for the periods indicated in the following table:

 

      Years Ended December 31  
   2010      2009      2008  
   Amount      Rate      Amount      Rate      Amount      Rate  
(in thousands)                                          

Noninterest-bearing demand deposits

   $ 728,708          $ 637,434          $ 533,096      

NOW/Money market accounts

     518,383         0.24%        485,742         0.33%        395,629         0.76%  

Savings deposits

     749,325         0.28%        758,216         0.46%        865,839         1.35%  

Certificates of deposit

     1,300,803         1.95%        1,367,372         2.44%        1,102,717         3.41%  

Total

   $ 3,297,219                $ 3,248,764                $ 2,897,281            

 

Borrowings

 

The following table represents the composition of borrowings at December 31:

 

     Years Ended December 31  
      2010      2009      $ Change         
(in thousands)                           

Securities sold under repurchase agreements, retail

   $ 40,653       $ 44,935       $ (4,282 )  

Short-term borrowings

             51,300         (51,300  

Long-term borrowings

     29,365         85,894         (56,529 )  

Junior subordinated debt securities

     90,619         90,619                   
Total Borrowings    $ 160,637       $ 272,748       $ (112,111 )        

 

Borrowings are an additional source of funding for S&T. Short-term borrowings are for terms under one year and were comprised of retail repurchase agreements (“REPOs”), federal funds purchased, term auction facility (“TAF”) advances and FHLB advances. S&T defines repurchase agreements with its local retail customers as retail REPOs. Securities pledged as collateral under these REPO financing arrangements cannot be sold or repledged by the secured party and are therefore accounted for as a secured borrowing. The estimated fair value of collateral provided to a third party is continually monitored and additional collateral is obtained or requested to be returned as appropriate. Federal funds purchased are unsecured overnight borrowings with other financial institutions. TAF advances are collateral backed short-term loans with the Federal Reserve. FHLB advances are for various terms secured by a blanket lien on residential mortgages, other real estate secured loans and FHLB stock with the FHLB of Pittsburgh. The purpose of long-term borrowings is to match-fund selected new loan originations, to mitigate interest rate sensitivity risks and to take advantage of discounted borrowing rates through the FHLB for community investment projects. The decline in borrowings of $112.1 million is a result of an ALCO strategy to deleverage the balance sheet and decreased loan demand as consumers and businesses continue to be cautionary in these economic times.

 

PAGE 51


Item 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS — continued

 

 

During 2010, long-term borrowings decreased $56.5 million as compared to December 31, 2009. At December 31, 2010, S&T had long-term borrowings outstanding at a fixed rate of $26.0 million and $3.1 million at a variable rate.

During the third quarter of 2006, S&T Bank issued $25.0 million of junior subordinated debentures through a pooled transaction at an initial fixed rate of 6.78 percent. On September 15, 2011 and quarterly thereafter, S&T Bank has the option to redeem the subordinated debt, subject to a 30 day written notice and prior approval by the Federal Deposit Insurance Corporation (“FDIC”). If S&T Bank chooses not to exercise the option for early redemption on September 15, 2011 or subsequent quarters, the subordinated debt will convert to a variable rate of 3-month LIBOR plus 160 basis points. The subordinated debt qualifies as Tier 2 capital under regulatory guidelines and will mature on December 15, 2036.

During the first quarter of 2008, S&T completed a private placement to a financial institution of $20.0 million of floating rate trust preferred securities. The trust preferred securities mature in March 2038, are callable at S&T’s option after five years, bear interest initially at a rate of 6.44 percent per annum and quarterly adjust with the three-month LIBOR plus 350 basis points. S&T began making interest payments to the trustee on June 15, 2008 and quarterly thereafter. The trust preferred securities qualify as Tier 1 capital under regulatory guidelines. To issue these trust preferred securities, S&T formed STBA Capital Trust with $0.6 million of equity, which is owned 100 percent by S&T. The proceeds from the sale of the trust preferred securities and the issuance of common equity were invested in junior subordinated debt, which is the sole asset of the Trust. The Trust pays dividends on the trust preferred securities at the same rate as the distribution paid by S&T on the junior subordinate debt held by the Trust. Since the third-party investors are the primary beneficiaries, the Trust qualifies as a VIE but is not consolidated in S&T’s financial statements.

During the second quarter of 2008, S&T Bank issued $20.0 million of junior subordinated debt through a private placement with three financial institutions at an initial rate of 6.40 percent and floats quarterly with 3-month LIBOR plus 350 basis points. If all or any portion of the subordinated debt ceases to be deemed Tier 2 Capital due to a change in applicable capital regulations, S&T will have the right to redeem, on any interest payment date, subject to a 30 day written notice and prior approval by the FDIC, the subordinated debt at the applicable redemption rate, which starts at a high of 102.82 percent at June 15, 2009 and decreases yearly to 100 percent on June 15, 2013 and thereafter and can be called after five years. The subordinated debt qualifies as Tier 2 capital under regulatory guidelines and will mature on June 15, 2018.

Also during the second quarter of 2008, S&T Bank issued $25.0 million of junior subordinated debt through a private placement with a financial institution at an initial rate of 5.15 percent and floats quarterly with 3-month LIBOR plus 250 basis points. At any time after May 30, 2013, S&T will have the right to redeem all or a portion of the subordinated debt, subject to a 30-day written notice and prior approval by the FDIC. The subordinated debt qualifies as Tier 2 capital under regulatory guidelines and will mature on May 30, 2018.

The following table shows the distribution of our short-term borrowings and the weighted average interest rates thereon at the end of each of the last three years. Also provided are the maximum amount of borrowings and the average amounts of borrowings as well as weighted average interest rates for the last three years.

Information pertaining to REPOs summarized in the table below:

 

      2010      2009      2008  
(in thousands)                     

Balance at December 31

   $ 40,653       $ 44,935       $ 113,419   

Average balance during the year

     46,489