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EX-32 - FIRST FINANCIAL SERVICE CORPv184016_ex32.htm
EX-31.1 - FIRST FINANCIAL SERVICE CORPv184016_ex31-1.htm
EX-31.2 - FIRST FINANCIAL SERVICE CORPv184016_ex31-2.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.  20549

FORM 10-Q
(Mark One)

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

For the quarterly period ended March 31, 2010

OR

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

Commission File Number 0-18832

First Financial Service Corporation
(Exact Name of Registrant as specified in its charter)

Kentucky
 
61-1168311
(State or other jurisdiction
 
(IRS Employer Identification No.)
of incorporation or organization)
   

2323 Ring Road
 
(270) 765-2131
Elizabethown, Kentucky 42701
 
(Registrant's telephone number,
(Address of principal executive offices)
 
including area code)
(Zip Code)
   

(270) 765-2131
(Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨  No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See definition of “accelerated filer”, “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large Accelerated Filer ¨
Accelerated Filer x
Non-Accelerated Filer ¨
Smaller Reporting Company ¨
 
 
(Do not check if a smaller
 
   
reporting company)
 

Indicate by a check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes ¨  No x

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

Class
 
Outstanding as of April 30, 2010
 
       
Common Stock
 
4,717,682 shares
 



 
FIRST FINANCIAL SERVICE CORPORATION
FORM 10-Q
TABLE OF CONTENTS
 
PART IFINANCIAL INFORMATION
 
 
Preliminary Note Regarding Forward-Looking Statements
3
       
 
Item 1.
Consolidated Financial Statements and Notes to Consolidated Financial Statements
4
       
 
Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
22
       
 
Item 3.
Quantitative and Qualitative Disclosures about Market Risk
35
       
 
Item 4.
Controls and Procedures
37
       
PART II – OTHER INFORMATION
       
 
Item 1.
Legal Proceedings
37
       
 
Item 1A.
Risk Factors
37
       
 
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
37
       
 
Item 3.
Defaults upon Senior Securities
37
       
 
Item 4.
Reserved
37
       
 
Item 5.
Other Information
38
       
 
Item 6.
Exhibits
38
       
 
SIGNATURES
39
 
2


PRELIMINARY NOTE REGARDING
FORWARD-LOOKING STATEMENTS

Statements in this report that are not statements of historical fact are forward-looking statements. First Financial Service Corporation (the “Corporation”) may make forward-looking statements in future filings with the Securities and Exchange Commission (“SEC”), in press releases, and in oral and written statements made by or with the approval of the Corporation.  Forward-looking statements include, but are not limited to: (1) projections of revenues, income or loss, earnings or loss per share, capital structure and other financial items; (2) plans and objectives of the Corporation or its management or Board of Directors; (3) statements regarding future events, actions or economic performance; and (4) statements of assumptions underlying such statements.  Words such as “estimate,” “strategy,” “believes,” “anticipates,” “expects,” “intends,” “plans,” “targeted,” and similar expressions are intended to identify forward-looking statements, but are not the exclusive means of identifying such statements.

Various risks and uncertainties may cause actual results to differ materially from those indicated by our forward-looking statements.  In addition to those risks described under “Item 1A Risk Factors,” of this report and our Annual Report on Form 10-K, the following factors could cause such differences: changes in general economic conditions and economic conditions in Kentucky and the markets we serve, any of which may affect, among other things, our level of non-performing assets, charge-offs, and provision for loan loss expense; changes in interest rates that may reduce interest margins and impact funding sources; changes in market rates and prices which may adversely impact the value of financial products including securities, loans and deposits; changes in tax laws, rules and regulations; various monetary and fiscal policies and regulations, including those determined by the Federal Reserve Board, the Federal Deposit Insurance Corporation (“FDIC”) and the Kentucky Department of Financial Institutions (“KDFI”); competition with other local and regional commercial banks, savings banks, credit unions and other non-bank financial institutions; our ability to grow core businesses; our ability to develop and introduce new banking-related products, services and enhancements and gain market acceptance of such products; and management’s ability to manage these and other risks.

Our forward-looking statements speak only as of the date on which they are made, and we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date of the statement to reflect the occurrence of unanticipated events.

3


Item 1.
FIRST FINANCIAL SERVICE CORPORATION
 
Consolidated Balance Sheets
(Unaudited)
 
           
 
March 31,
   
December 31,
 
(Dollars in thousands, except share data) 
 
2010
   
2009
 
           
           
ASSETS:
           
Cash and due from banks
  $ 19,811     $ 21,253  
Interest bearing deposits      
    119,377       77,280  
    Total cash and cash equivalents    
    139,188       98,533  
           
               
Securities available-for-sale      
    79,512       45,764  
Securities held-to-maturity, fair value of $367 Mar (2010)  
               
  and $1,176 Dec (2009)       
    362       1,167  
     Total securities        
    79,874       46,931  
           
               
Loans held for sale        
    5,227       8,183  
Loans, net of unearned fees      
    966,392       994,926  
Allowance for loan losses      
    (18,810 )     (17,719 )
      Net loans         
    952,809       985,390  
           
               
Federal Home Loan Bank stock      
    8,515       8,515  
Cash surrender value of life insurance    
    9,096       9,008  
Premises and equipment, net      
    32,312       31,965  
Real estate owned:        
               
  Acquired through foreclosure      
    10,169       8,428  
  Held for development      
    45       45  
Other repossessed assets      
    62       103  
Core deposit intangible      
    1,236       1,300  
Accrued interest receivable      
    5,862       5,658  
Deferred income taxes      
    4,442       4,515  
Prepaid FDIC premium      
    6,408       7,022  
Other assets        
    2,807       2,091  
           
               
TOTAL ASSETS
  $ 1,252,825     $ 1,209,504  
           
               
LIABILITIES AND STOCKHOLDERS' EQUITY
               
LIABILITIES:        
               
Deposits:          
               
  Non-interest bearing      
  $ 69,098     $ 63,950  
  Interest bearing        
    1,023,116       985,865  
      Total deposits        
    1,092,214       1,049,815  
           
               
Short-term borrowings        
    842       1,500  
Advances from Federal Home Loan Bank    
    52,627       52,745  
Subordinated debentures      
    18,000       18,000  
Accrued interest payable      
    314       360  
Accounts payable and other liabilities    
    2,955       1,952  
           
               
TOTAL LIABILITIES
    1,166,952       1,124,372  
Commitments and contingent liabilities    
    -       -  
           
               
STOCKHOLDERS' EQUITY:      
               
 Serial preferred stock, $1 par value per share;  
               
    authorized 5,000,000 shares; issued and outstanding, 20,000
               
    shares with a liquidation preference of $20,000   
    19,795       19,781  
Common stock, $1 par value per share;    
               
   authorized 10,000,000 shares; issued and  
               
   outstanding, 4,717,682 shares Mar (2010), and 4,709,839
               
   shares Dec (2009)         
    4,718       4,710  
Additional paid-in capital      
    35,071       34,984  
Retained earnings        
    27,211       26,720  
Accumulated other comprehensive loss    
    (922 )     (1,063 )
           
               
TOTAL STOCKHOLDERS' EQUITY  
    85,873       85,132  
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY
  $ 1,252,825     $ 1,209,504  

See notes to the unaudited consolidated financial statements.

4

 
FIRST FINANCIAL SERVICE CORPORATION
Consolidated Statements of Income
(Unaudited)
 
           
 
Three Months Ended
 
(Dollars in thousands, except per share data) 
 
March 31,
 
           
 
2010
   
2009
 
Interest and Dividend Income:    
           
  Loans, including fees      
  $ 14,047     $ 13,944  
  Taxable securities        
    493       308  
  Tax exempt securities      
    171       106  
Total interest income      
    14,711       14,358  
           
               
Interest Expense:        
               
  Deposits          
    4,869       4,500  
  Short-term borrowings      
    21       43  
  Federal Home Loan Bank advances    
    593       597  
  Subordinated debentures      
    327       329  
Total interest expense    
    5,810       5,469  
           
               
Net interest income        
    8,901       8,889  
Provision for loan losses      
    1,752       2,045  
Net interest income after provision for loan losses    
    7,149       6,844  
           
               
Non-interest Income:      
               
  Customer service fees on deposit accounts    
    1,525       1,477  
  Gain on sale of mortgage loans    
    299       177  
  Loss on sale of investments      
    (23 )     -  
    Total other-than-temporary impairment losses  
    (172 )     (370 )
    Portion of loss recognized in other comprehensive  
               
        income(before taxes)      
    -       215  
     Net impairment losses recognized in earnings    
    (172 )     (155 )
  Loss on sale and write downs of real estate acquired   
               
     through foreclosure      
    (26 )     (17 )
  Brokerage commissions      
    93       93  
  Other income        
    442       428  
Total non-interest income    
    2,138       2,003  
           
               
Non-interest Expense:      
               
  Employee compensation and benefits    
    4,090       4,002  
  Office occupancy expense and equipment    
    804       848  
  Marketing and advertising      
    225       265  
  Outside services and data processing    
    730       793  
  Bank franchise tax         
    350       264  
  FDIC insurance premiums      
    660       179  
  Amortization of intangible assets    
    87       130  
  Other expense        
    1,328       1,302  
Total non-interest expense    
    8,274       7,783  
           
               
Income before income taxes      
    1,013       1,064  
Income taxes        
    258       303  
Net Income        
    755       761  
Less:          
               
   Dividends on preferred stock      
    (250 )     (267 )
   Accretion on preferred stock      
    (14 )     (11 )
Net income available to common shareholders    
  $ 491     $ 483  
           
               
Shares applicable to basic income per common share    
    4,715,721       4,676,587  
Basic income per common share    
  $ 0.10     $ 0.10  
           
               
Shares applicable to diluted income per common share    
    4,715,721       4,676,690  
Diluted income per common share    
  $ 0.10     $ 0.10  
           
               
Cash dividends declared per common share    
  $ -     $ 0.19  
 
See notes to the unaudited consolidated financial statements.

5

 
FIRST FINANCIAL SERVICE CORPORATION
Consolidated Statements of Comprehensive Income
(Unaudited)
 
         
 
Three Months Ended
 
         
 
March 31,
 
(Dollars in thousands)   
 
2010
   
2009
 
         
           
Net Income      
  $ 755     $ 761  
Other comprehensive income (loss):    
               
   Change in unrealized gain (loss) on securities available-for-sale  
    67       239  
   Change in unrealized gain (loss) on securities available-for-sale for   
               
     which a portion of other-than-temporary impairment has been  
               
     recognized into earnings    
    (28 )     -  
   Reclassification of realized amount on securities available-for-sale  
               
     losses (gains)      
    146       140  
  Non-credit component of other-than-temporary impairment on   
               
     held-to-maturity securities    
    -       (215 )
  Reclassification of unrealized loss on held-to-maturity    
               
    security recognized in income    
    29       -  
   Net unrealized gain (loss) recognized in comprehensive income  
    214       164  
   Tax effect      
    (73 )     (56 )
   Total other comphrehensive income (loss)    
    141       108  
         
               
Comprehensive Income    
  $ 896     $ 869  
 
The following is a summary of the accumulated other comprehensive income balances, net of tax:

   
 
Balance
   
Current
   
Balance
 
   
 
at
   
Period
   
at
 
   
 
12/31/2009
   
Change
   
3/31/2010
 
Unrealized gains (losses) on securities
                 
  available-for-sale  
  $ (925 )   $ 122     $ (803 )
Unrealized gains (losses) on   
                       
  held-to-maturity securities for which
                       
  OTTI has been recorded, net of accretion
    (138 )     19       (119 )
   
                       
       Total  
  $ (1,063 )   $ 141     $ (922 )
 
See notes to the consolidated financial statements.

6

 
FIRST FINANCIAL SERVICE CORPORATION
Consolidated Statements of Changes in Stockholders' Equity
Three Months Ended March 31, 2010
(Dollars In Thousands, Except Per Share Amounts)
(Unaudited)

   
Shares
   
Amount
   
Additional
Paid-in
   
Retained
   
Accumulated
Other
Comprehensive
(Loss), Net of
       
   
Preferred
   
Common
   
Preferred
   
Common
   
Capital
   
Earnings
   
Tax
   
Total
 
Balance, January 1, 2010
    20,000       4,710     $ 19,781     $ 4,710     $ 34,984     $ 26,720     $ (1,063 )   $ 85,132  
Net income
                                            755               755  
Shares issued under dividend
                                                               
  reinvestment program
            1               1       7                       8  
Stock issued for employee benefit
                                                               
  plans
            7               7       56                       63  
Stock-based compensation expense
                                    24                       24  
Net change in unrealized gains (losses)
                                                               
  on securities available-for-sale,
                                                               
  net of tax
                                                    59       59  
Change in unrealized gains (losses) on held-to-maturity
  securities for which an other-than-temporary
  impairment charge has been recorded,
  net of tax
                                                    19       19  
Change in unrealized gains (losses) on
                                                               
  securities available-for-sale for which a
                                                               
  portion of an other-than-temporary
                                                               
  impairment charge has been recognized
                                                               
  into earnings, net of reclassification and taxes
                                                    63       63  
Dividends on preferred stock
                                            (250 )             (250 )
Accretion of preferred stock discount
    -       -       14       -       -       (14 )     -       -  
Balance, March 31, 2010
    20,000       4,718     $ 19,795     $ 4,718     $ 35,071     $ 27,211     $ (922 )   $ 85,873  

See notes to the unaudited consolidated financial statements.

7

 
 FIRST FINANCIAL SERVICE CORPORATION
Consolidated Statements of Cash Flows
(Dollars In Thousands)
(Unaudited)
 
         
 
Three Months Ended
 
         
 
March 31,
 
         
 
2010
   
2009
 
Operating Activities:    
           
Net income      
  $ 755     $ 761  
Adjustments to reconcile net income to net  
               
 cash provided by operating activities:  
               
   Provision for loan losses    
    1,752       2,045  
   Depreciation on premises and equipment  
    427       413  
   Intangible asset amortization    
    87       130  
   Net amortization (accretion) available-for-sale
    (148 )     1  
   Net amortization (accretion) held-to-maturity
    -       5  
   Impairment loss on securities available-for-sale
    123       140  
   Impairment loss on securities held-to-maturity
    49       15  
   Loss on sale of investments available-for-sale
    23       -  
   Gain on sale of mortgage loans  
    (299 )     (177 )
   Origination of loans held for sale  
    (24,629 )     (36,010 )
   Proceeds on sale of loans held for sale  
    27,884       35,026  
   Stock-based compensation expense  
    24       26  
   Prepaid FDIC premium    
    614       -  
   Changes in:      
               
     Cash surrender value of life insurance  
    (88 )     (91 )
     Interest receivable    
    (204 )     380  
     Other assets        
    (738 )     (1,591 )
     Interest payable      
    (46 )     (9 )
     Accounts payable and other liabilities  
    1,003       126  
Net cash from operating activities  
    6,589       1,190  
         
               
Investing Activities:      
               
  Sales of securities available-for-sale  
    500       -  
  Purchases of securities available-for-sale  
    (34,614 )     -  
  Maturities of securities available-for-sale  
    553       341  
  Maturities of securities held-to-maturity  
    785       690  
  Net change in loans      
    26,172       (39,244 )
  Net purchases of premises and equipment
    (774 )     (980 )
Net cash from investing activities  
    (7,378 )     (39,193 )
         
               
Financing Activities    
               
  Net change in deposits    
    42,399       46,119  
  Change in short-term borrowings  
    (658 )     (29,869 )
  Repayments to Federal Home Loan Bank  
    (118 )     (106 )
  Issuance of preferred stock, net  
    -       20,000  
  Issuance of common stock under dividend reinvestment program
    8       3  
  Issuance of common stock for employee benefit plans
    63       145  
  Dividends paid on common stock  
    -       (890 )
  Dividends paid on preferred stock  
    (250 )     (267 )
Net cash from financing activities  
    41,444       35,135  
         
               
(Decrease) Increase in cash and cash equivalents
    40,655       (2,868 )
Cash and cash equivalents, beginning of period
    98,533       20,905  
Cash and cash equivalents, end of period
  $ 139,188     $ 18,037  
 
See notes to the unaudited consolidated financial statements.  

8

             
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

1.
BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation – The accompanying unaudited consolidated financial statements include the accounts of First Financial Service Corporation and its wholly owned subsidiary, First Federal Savings Bank.  First Federal Savings Bank has three wholly owned subsidiaries, First Service Corporation of Elizabethtown, Heritage Properties, LLC and First Federal Office Park, LLC.  Unless the text clearly suggests otherwise, references to "us," "we," or "our" include First Financial Service Corporation and its direct and indirect wholly-owned subsidiaries.  All significant intercompany transactions and balances have been eliminated in consolidation.

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.  Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements.  In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included.  Operating results for the three-month period ending March 31, 2010 are not necessarily indicative of the results that may occur for the year ending December 31, 2010.  For further information, refer to the consolidated financial statements and footnotes thereto included in the Corporation’s annual report on Form 10-K for the period ended December 31, 2009.

Adoption of New Accounting Standards – FASB ASC 860, Transfers and Servicing was issued in June 2009.  This statement amends and removes the concept of a qualifying special-purpose entity and limits the circumstances in which a financial asset, or portion of a financial asset, should be derecognized when the transferor has not transferred the entire financial asset to an entity that is not consolidated with the transferor in the financial statements being presented and/or when the transferor has continuing involvement with the transferred financial asset. The new standard become effective for us on January 1, 2010 and did not have a material impact.

FASB ASC 810, Consolidations was also issued in June 2009 and amends tests for variable interest entities to determine whether a variable interest entity must be consolidated. This standard requires an entity to perform an analysis to determine whether an entity’s variable interest or interests give it a controlling financial interest in a variable interest entity. This statement requires ongoing reassessments of whether an entity is the primary beneficiary of a variable interest entity and enhanced disclosures that provide more transparent information about an entity’s involvement with a variable interest entity. The new standard become effective for us on January 1, 2010 and did not have a material impact.

Newly Issued But Not Yet Effective Accounting StandardsThe Financial Accounting Standards Board issued new accounting guidance under Accounting Standards Update (ASU) No. 2010-06 that requires new disclosures and clarifies existing disclosure requirements about fair value measurement as set forth in ASC Subtopic 820-10. The objective of the new guidance is to improve these disclosures and increase transparency in financial reporting. Specifically, the new guidance requires:

A reporting entity to disclose separately the amounts of significant transfers in and out of Level 1 andLevel 2 fair value  measurements and describe the reasons for the transfers; and

In the reconciliation for fair value measurements using significant unobservable inputs, a reporting entityshould present separately information about purchases, sales, issuances, and settlements.

In addition, the guidance clarifies the requirements of the following existing disclosures:

For purposes of reporting fair value measurement for each class of assets and liabilities, a reportingentity needs to use judgment in determining the appropriate classes of assets and  liabilities; and

A reporting entity should provide disclosures about the valuation techniques and inputs used to measurefair value for both recurring and nonrecurring fair value measurements.

9

 
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

1.
BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – (Continued)

 
ASU 2010-06 is effective for interim and annual reporting periods beginning after December 15, 2009,except for the disclosures about purchases, sales, issuances, and settlements in the roll forward ofactivity in Level 3 fair value measurements.  Those disclosures are effective for fiscal years beginning after December 15, 2010, and for interim periods within those fiscal years. Early application is permitted.

2.
SECURITIES

 
The amortized cost basis and fair values of securities are as follows:

       
       
Gross
   
Gross
       
(Dollars in thousands)  
 
Amortized
   
Unrealized
   
Unrealized
       
       
 
Cost
   
Gains
   
Losses
   
Fair Value
 
Securities available-for-sale:  
                       
 March 31, 2010:    
                       
     U.S. Treasury and agencies
  $ 47,492     $ 86     $ (236 )   $ 47,342  
     Government-sponsored   
                               
       mortgage-backed residential
    14,179       176       (7 )     14,348  
     Equity     
    433       77       -       510  
     State and municipal  
    16,751       578       (61 )     17,268  
     Trust preferred securities  
    1,883       -       (1,839 )     44  
       
                               
Total
  $ 80,738     $ 917     $ (2,143 )   $ 79,512  
       
                               
 December 31, 2009:  
                               
     U.S. Treasury and agencies
  $ 20,000     $ 80     $ -     $ 20,080  
     Government-sponsored   
                               
       mortgage-backed residential
    9,632       171       (51 )     9,752  
     Equity     
    933       60       (3 )     990  
     State and municipal  
    14,604       399       (110 )     14,893  
     Trust preferred securities  
    1,983       -       (1,934 )     49  
       
                               
 Total
  $ 47,152     $ 710     $ (2,098 )   $ 45,764  
                                 
       
         
Gross
   
Gross
         
       
 
Amortized
   
Unrecognized
   
Unrecognized
         
       
 
Cost
   
Gains
   
Losses
   
Fair Value
 
Securities held-to-maturity:  
                               
 March 31, 2010:    
                               
     Government-sponsored   
                               
       mortgage-backed residential
  $ 97     $ 3     $ -     $ 100  
     State and municipal  
    245       2       -       247  
     Trust preferred securities  
    20       -       -       20  
       
                               
Total
  $ 362     $ 5     $ -     $ 367  
                                 
 December 31, 2009:  
                               
     Government-sponsored   
                               
       mortgage-backed residential
  $ 902     $ 6     $ -     $ 908  
     State and municipal  
    245       3       -       248  
     Trust preferred securities  
    20       -       -       20  
       
                               
Total
  $ 1,167     $ 9     $ -     $ 1,176  

10


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

2.
SECURITIES – (Continued)

The amortized cost and fair value of securities at March 31, 2010, by contractual maturity, are shown below.  Securities not due at a single maturity date, primarily mortgage-backed and equity securities, are shown separately.
 
       
 
Available for Sale
   
Held-to-Maturity
 
       
 
Amortized
   
Fair
   
Amortized
   
Fair
 
(Dollars in thousands) 
 
Cost
   
Value
   
Cost
   
Value
 
       
                       
Due in one year or less  
  $ -     $ -     $ 245     $ 247  
Due after one year through five years
    25,115       25,130       -       -  
Due after five years through ten years
    8,432       8,429       -       -  
Due after ten years    
    32,579       31,095       20       20  
Government-sponsored mortgage-backed
                               
residential    
    14,179       14,348       97       100  
Equity       
    433       510       -       -  
       
  $ 80,738     $ 79,512     $ 362     $ 367  
 
For the March 31, 2010 quarter, proceeds from sales of available-for-sale equity securities were $500,000 and gross realized losses recognized in income were $23,000.  There were not any sales of available-for-sale securities for the March 31, 2009 period.

Investment securities pledged to secure public deposits and FHLB advances had an amortized cost of $27.5 million and fair value of $27.8 million at March 31, 2010 and a $28.6 million amortized cost and fair value of $28.8 million at December 31, 2009.

Securities with unrealized losses at March 31, 2010 and December 31, 2009 aggregated by major security type and length of time in a continuous unrealized loss position are as follows:

March 31, 2010
 
Less than 12 Months
   
12 Months or More
   
Total
 
   
 
Fair
   
Unrealized
   
Fair
   
Unrealized
   
Fair
   
Unrealized
 
Description of Securities
 
Value
   
Loss
   
Value
   
Loss
   
Value
   
Loss
 
 
       
 
                         
U.S. Treasury and agencies
  $ 17,256     $ (236 )     $ -     $ -     $ 17,256     $ (236 )
Government-sponsored
                                               
  mortgage-backed residential
    5,050       (7 )       -       -       5,050       (7 )
State and municipal
    804       (7 )       1,016       (54 )     1,820       (61 )
Trust preferred securities
    -             44       (1,839 )     44       (1,839 )
   
                                               
Total temporarily impaired
  $ 23,110     $ (250 )     $ 1,060     $ (1,893 )   $ 24,170     $ (2,143 )
                                                 
December 31, 2009
 
Less than 12 Months
   
12 Months or More
   
Total
 
   
 
Fair
   
Unrealized
   
Fair
   
Unrealized
   
Fair
   
Unrealized
 
Description of Securities
 
Value
   
Loss
   
Value
   
Loss
   
Value
   
Loss
 
   
                                               
Government-sponsored
                                               
  mortgage-backed residential
  $ 5,141     $ (51 )     $ -     $ -     $ 5,141     $ (51 )
Equity  
    75       (3 )       -       -       75       (3 )
State and municipal  
    1,161       (22 )       2,456       (88 )     3,617       (110 )
Trust preferred securities
    -             49       (1,934 )     49       (1,934 )
   
                                               
Total temporarily impaired
  $ 6,377     $ (76 )     $ 2,505     $ (2,022 )   $ 8,882     $ (2,098 )

11


NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

2.
SECURITIES – (Continued)

We evaluate investment securities with significant declines in fair value on a quarterly basis to determine whether they should be considered other-than-temporarily impaired under current accounting guidance, which generally provides that if a security is in an unrealized loss position, whether due to general market conditions or industry or issuer-specific factors, the holder of the securities must assess whether the impairment is other-than-temporary.

Accounting guidance requires entities to split other than temporary impairment charges between credit losses (i.e., the loss based on the entity’s estimate of the decrease in cash flows, including those that result from expected voluntary prepayments), which are charged to earnings, and the remainder of the impairment charge (non-credit component) to accumulated other comprehensive income. This requirement pertains to both securities held to maturity and securities available for sale.

The unrealized losses on the state and municipal securities were caused primarily by interest rate decreases.  The contractual terms of those investments do not permit the issuer to settle the securities at a price less than the amortized cost of the investment.  Because we do not have the intent to sell these securities and it is likely that we will not be required to sell the securities before their anticipated recovery, we do not consider these investments to be other-than-temporarily impaired at March 31, 2010.  We also considered the financial condition and near term prospects of the issuer and identified no matters that would indicate less than full recovery.

As discussed in Note 6 - Fair Value, the fair value of our portfolio of trust preferred securities, has decreased significantly as a result of the current credit crisis and lack of liquidity in the financial markets.  There are limited trades in trust preferred securities and the majority of holders of such instruments have elected not to participate in the market unless they are required to sell as a result of liquidation, bankruptcy, or other forced or distressed conditions.

To determine if the five trust preferred securities were other than temporarily impaired as of March 31, 2010, we used a discounted cash flow analysis.  The cash flow models were used to determine if the current present value of the cash flows expected on each security were still equivalent to the original cash flows projected on the security when purchased.   The cash flow analysis takes into consideration assumptions for prepayments, defaults and deferrals for the underlying pool of banks, insurance companies and REITs.

Management works with independent third parties to identify its best estimate of the cash flow estimated to be collected. If this estimate results in a present value of expected cash flows that is less than the amortized cost basis of a security (that is, credit loss exists), an OTTI is considered to have occurred. If there is no credit loss, any impairment is considered temporary. The cash flow analysis we performed included the following general assumptions:

 
·
We assume default rates on individual entities behind the pools based on Fitch ratings for financial institutions and A.M. Best ratings for insurance companies.  These ratings are used to predict the default rates for the next several quarters.  Two of the trust preferred securities hold a limited number of real estate investment trusts (REITs) in their pools.  REITs are evaluated on an individual basis to predict future default rates.
 
·
We assume that annual defaults for the remaining life of each security will be 37.5 basis points.
 
·
We assume a recovery rate of 15% on deferrals after two years.
 
·
We assume 2% prepayments through the five year par call and then 2% per annum for the remaining life of the security.
 
·
Our securities have been modeled using the above assumptions by FTN Financial using the forward LIBOR curve plus original spread to discount projected cash flows to present values.

12

 
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

2.
SECURITIES – (Continued)

Additionally, in making our determination, we considered all available market information that could be obtained without undue cost and effort, and considered the unique characteristics of each trust preferred security individually by assessing the available market information and the various risks associated with that security including:

 
·
Valuation estimates provided by our investment broker;
 
·
The amount of fair value decline;
 
·
How long the decline in fair value has existed;
 
·
Significant rating agency changes on the issuer;
 
·
Level of interest rates and any movement in pricing for credit and other risks;
 
·
Information about the performance of the underlying institutions that issued the debt instruments, such as net income, return on equity, capital adequacy, non-performing assets, Texas ratios, etc;
 
·
Our intent to sell the security or whether it is more likely than not that we will be required to sell the security before its anticipated recovery; and
 
·
Other relevant observable inputs.

The following table details the five debt securities with other-than-temporary impairment at March 31, 2010 and the related credit losses recognized in earnings during the three months ended March 31, 2010:
 
       
Moody's
                             
% of Current
       
       
Credit
 
Current
                   
Current
   
Deferrals and
       
(Dollars in thousands)
     
Ratings
 
Moody's
             
Estimated
   
Deferrals
   
Defaults
       
       
When
 
Credit
 
Par
   
Book
   
Fair
   
and
   
to Current
   
OTTI
 
Security
 
Tranche
 
Purchased
 
Ratings
 
Value
   
Value
   
Value
   
Defaults
   
Collateral
   
Recognized
 
                                                 
Preferred Term Securities IV
 
Mezzanine
   
A3
 
 Ca
  $ 244     $ 199     $ 20     $ 18,000       27 %   $ -  
Preferred Term Securities VI
 
Mezzanine
   
A1
 
 Caa1
    259       20       20       33,000       81 %     49  
Preferred Term Securities XV B1
 
Mezzanine
   
A2
 
 Ca
    1,004       782       15       156,050       26 %     45  
Preferred Term Securities XXI C2
 
Mezzanine
   
A3
 
 Ca
    1,018       598       5       202,000       27 %     -  
Preferred Term Securities XXII C1
 
Mezzanine
   
A3
 
 Ca