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EX-31.2 - SECTION 302 CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER - UMPQUA HOLDINGS CORPdex312.htm
EX-32 - SECTION 906 CERTIFICATION OF CEO, PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER - UMPQUA HOLDINGS CORPdex32.htm
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

 

x Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

for the quarterly period ended:    June 30, 2010

 

¨ 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: 000-25597

Umpqua Holdings Corporation

(Exact Name of Registrant as Specified in Its Charter)

 

OREGON   93-1261319

(State or Other Jurisdiction

of Incorporation or Organization)

 

(I.R.S. Employer

Identification Number)

One SW Columbia Street, Suite 1200

Portland, Oregon 97258

(Address of Principal Executive Offices)(Zip Code)

(503) 727-4100

(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.

x  Yes     ¨  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, non-accelerated filer, or a smaller reporting company. See definitions of “accelerated filer”, “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

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

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

¨  Yes     x  No

Indicate the number of shares outstanding for each of the issuer’s classes of common stock, as of the latest practical date:

Common stock, no par value: 114,525,399 shares outstanding as of July 31, 2010

 

 

 


Table of Contents

UMPQUA HOLDINGS CORPORATION

FORM 10-Q

Table of Contents

 

 

 

PART I. FINANCIAL INFORMATION

   3

Item 1.

   Financial Statements (unaudited)    3

Item 2.

   Management’s Discussion and Analysis of Financial Condition and Results of Operations    40

Item 3.

   Quantitative and Qualitative Disclosures about Market Risk    75

Item 4.

   Controls and Procedures    75

PART II. OTHER INFORMATION

   76

Item 1.

   Legal Proceedings    76

Item 1A.

   Risk Factors    76

Item 2.

   Unregistered Sales of Equity Securities and Use of Proceeds    78

Item 3.

   Defaults Upon Senior Securities    78

Item 4.

   (Removed and Reserved)    78

Item 5.

   Other Information    78

Item 6.

   Exhibits    78

SIGNATURES

   79

EXHIBIT INDEX

   80

 

2


Table of Contents
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited)

UMPQUA HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

(in thousands, except shares)

 

     June 30,
2010
   December 31,
2009

ASSETS

     

Cash and due from banks

     $ 143,098        $ 113,353  

Interest bearing deposits

     818,186        491,462  

Temporary investments

     9,296        598  
             

Total cash and cash equivalents

     970,580        605,413  

Investment securities

     

Trading, at fair value

     1,743        2,273  

Available for sale, at fair value

     1,933,647        1,795,616  

Held to maturity, at amortized cost

     5,493        6,061  

Loans held for sale

     40,114        33,715  

Non-covered loans and leases

     5,726,673        5,999,267  

Allowance for loan and lease losses

     (113,914)       (107,657) 
             

Net non-covered loans and leases

     5,612,759        5,891,610  

Covered loans and leases

     865,175        -       

Restricted equity securities

     34,855        15,211  

Premises and equipment, net

     128,586        103,266  

Goodwill and other intangible assets, net

     686,447        639,634  

Mortgage servicing rights, at fair value

     12,895        12,625  

Non-covered other real estate owned

     25,653        24,566  

Covered other real estate owned

     28,290        -       

FDIC indemnification asset

     247,848        -       

Other assets

     233,183        251,382  
             

Total assets

     $ 10,827,268        $       9,381,372  
             

LIABILITIES AND SHAREHOLDERS’ EQUITY

     

Deposits

     

Noninterest bearing

     $ 1,509,222        $ 1,398,332  

Interest bearing

     7,049,522        6,042,102  
             

Total deposits

     8,558,744        7,440,434  

Securities sold under agreements to repurchase

     44,715        45,180  

Term debt

     291,505        76,274  

Junior subordinated debentures, at fair value

     79,590        85,666  

Junior subordinated debentures, at amortized cost

     103,027        103,188  

Other liabilities

     95,634        64,113  
             

Total liabilities

     9,173,215        7,814,855  
             

COMMITMENTS AND CONTINGENCIES (NOTE 9)

     

SHAREHOLDERS’ EQUITY

     

Preferred stock, no par value, 2,000,000 shares authorized; Series A (liquidation preference $1,000 per share) issued and outstanding: none in 2010 and 214,181 in 2009

     -             204,335  

Common stock, no par value, 200,000,000 shares authorized; issued and outstanding: 114,524,973 in 2010 and 86,785,588 in 2009

     1,538,793        1,253,288  

Retained earnings

     73,062        83,939  

Accumulated other comprehensive income

     42,198        24,955  
             

Total shareholders’ equity

     1,654,053        1,566,517  
             

Total liabilities and shareholders’ equity

     $       10,827,268        $       9,381,372  
             

See notes to condensed consolidated financial statements

 

3


Table of Contents

UMPQUA HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

(in thousands, except per share amounts)

 

     Three months ended
June 30,
   Six months ended
June 30,
     2010    2009    2010    2009

INTEREST INCOME

           

Interest and fees on loans

     $       97,240        $       88,940        $       187,948        $       177,113  

Interest and dividends on investment securities

           

Taxable

     15,569        13,889        31,644        28,260  

Exempt from federal income tax

     2,247        1,935        4,434        3,735  

Dividends

     3        -             3        -       

Interest on temporary investments and interest bearing deposits

     545        19        944        51  
                           

Total interest income

     115,604        104,783        224,973        209,159  

INTEREST EXPENSE

           

Interest on deposits

     18,463        21,957        37,252        46,420  

Interest on securities sold under agreement to repurchase and federal funds purchased

     123        180        246        364  

Interest on term debt

     2,779        1,262        4,299        3,018  

Interest on junior subordinated debentures

     1,939        2,395        3,824        4,955  
                           

Total interest expense

     23,304        25,794        45,621        54,757  
                           

Net interest income

     92,300        78,989        179,352        154,402  

PROVISION FOR LOAN AND LEASE LOSSES

     29,767        29,331        71,873        88,423  
                           

Net interest income after provision for loan and lease losses

     62,533        49,658        107,479        65,979  

NON-INTEREST INCOME

           

Service charges on deposit accounts

     9,585        8,322        17,950        16,023  

Brokerage commissions and fees

     3,139        1,745        5,778        3,124  

Mortgage banking revenue, net

     3,209        6,259        6,687        10,329  

Loss on investment securities, net

           

Gain on sale of investment securities, net

     -             6,348        1        8,520  

Total other-than-temporary impairment losses

     -             (10,355)       (5)       (12,492) 

Portion of other-than-temporary impairment losses recognized in (transferred from) other comprehensive income

     -             2,737        (284)       2,737  
                           

Total loss on investment securities, net

     -             (1,270)       (288)       (1,235) 

Gain on junior subordinated debentures carried at fair value

     -             8,611        6,088        9,191  

Bargain purchase gain on acquisition

     -             -             8,456        -       

Change in FDIC indemnification asset

     263        -             873        -       

Other income

     2,367        3,383        5,085        5,135  
                           

Total non-interest income

     18,563        27,050        50,629        42,567  

NON-INTEREST EXPENSE

           

Salaries and employee benefits

     39,604        32,041        75,844        63,114  

Net occupancy and equipment

     11,472        9,708        22,148        19,329  

Communications

     2,596        1,839        4,820        3,592  

Marketing

     1,714        1,469        2,723        2,439  

Services

     5,831        5,403        10,746        10,732  

Supplies

     1,003        844        1,729        1,639  

FDIC assessments

     3,555        6,699        6,999        9,324  

Net (gain) loss on other real estate owned

     (952)       3,170        1,359        5,469  

Intangible amortization

     1,368        1,362        2,676        2,724  

Goodwill impairment

     -             111,952        -             111,952  

Merger related expenses

     2,169        73        4,075        273  

Other expenses

     6,473        4,043        11,585        7,967  
                           

Total non-interest expense

     74,833        178,603        144,704        238,554  

Income (loss) before provision for (benefit from) income taxes

     6,263        (101,895)       13,404        (130,008) 

Provision for (benefit from) income taxes

     2,800        2,396        216        (10,468) 
                           

Net income (loss)

     $ 3,463        $       (104,291)       $ 13,188        $       (119,540) 
                           

 

4


Table of Contents

UMPQUA HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Continued)

(UNAUDITED)

(in thousands, except per share amounts)

 

     Three months ended
June 30,
   Six months ended
June 30,
     2010    2009    2010    2009

Net income (loss)

     $ 3,463        $       (104,291)       13,188        (119,540) 

Preferred stock dividends

     -             3,216        12,192        6,407  

Dividends and undistributed earnings allocated to participating securities

     16        7        31        15  
                           

Net income (loss) available to common shareholders

     $ 3,447        $ (107,514)       $ 965        $       (125,962) 
                           

Income (loss) per common share:

           

Basic

     $ 0.03        $ (1.79)       $ 0.01        $ (2.09) 

Diluted

     $ 0.03        $ (1.79)       $ 0.01        $ (2.09) 

Weighted average number of common shares outstanding:

           

Basic

           110,135        60,221              101,205        60,199  

Diluted

     114,733        60,221        101,435        60,199  

See notes to condensed consolidated financial statements

 

5


Table of Contents

UMPQUA HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(UNAUDITED)

(in thousands, except shares)

 

     Preferred
Stock
   Common Stock    Retained
Earnings
   Accumulated
Other

Comprehensive
Income
   Total
      Shares    Amount         

BALANCE AT JANUARY 1, 2009

   $ 202,178     60,146,400     $ 1,005,820     $ 264,938     $ 14,072     $ 1,487,008 

Net loss

              (153,366)         (153,366)

Other comprehensive income, net of tax

                 10,883       10,883 
                     

Comprehensive loss

                  $ (142,483)
                     

Issuance of common stock

      26,538,461       245,697             245,697 

Stock-based compensation

           2,188             2,188 

Stock repurchased and retired

      (19,516)      (174)            (174)

Issuances of common stock under stock plans and related net tax deficiencies

      120,243       (243)            (243)

Amortization of discount on preferred stock

     2,157             (2,157)         —   

Dividends declared on preferred stock

              (10,739)         (10,739)

Cash dividends on common stock ($0.20 per share)

              (14,737)         (14,737)
                                       

Balance at December 31, 2009

   $ 204,335     86,785,588     $ 1,253,288     $ 83,939     $ 24,955     $ 1,566,517 
                                       

BALANCE AT JANUARY 1, 2010

   $ 204,335     86,785,588     $ 1,253,288     $ 83,939     $ 24,955     $ 1,566,517 

Net income

              13,188          13,188 

Other comprehensive income, net of tax

                 17,243       17,243 
                     

Comprehensive income

                  $ 30,431 
                     

Issuance of common stock

      8,625,000       89,786             89,786 

Stock-based compensation

           1,425             1,425 

Stock repurchased and retired

      (20,390)      (259)            (259)

Issuances of common stock under stock plans and related net tax deficiencies

      159,775       764             764 

Amortization of discount on preferred stock

     9,846             (9,846)         —   

Redemption of preferred stock issued to U.S. Treasury

     (214,181)                  (214,181)

Issuance of preferred stock

     198,289                   198,289 

Conversion of preferred stock to common stock

     (198,289)    18,975,000       198,289             —   

Dividends declared on preferred stock

              (3,682)         (3,682)

Repurchase of warrants issued to U.S. Treasury

           (4,500)            (4,500)

Cash dividends on common stock ($0.10 per share)

              (10,537)         (10,537)
                                       

Balance at June 30, 2010

   $ —       114,524,973     $ 1,538,793     $ 73,062     $ 42,198     $ 1,654,053 
                                       

See notes to condensed consolidated financial statements

 

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Table of Contents

UMPQUA HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(UNAUDITED)

(in thousands)

 

     Three months ended
June  30,
   Six months ended
June  30,
     2010    2009    2010    2009

Net income (loss)

     $ 3,463        $ (104,291)       $ 13,188        $ (119,540) 
                           

Available for sale securities:

           

Unrealized gains (losses) arising during the period

     14,249        (1,063)       28,094        5,785  

Reclassification adjustment for net gains realized in earnings (net of tax expense of $2,444 for the three months ended June 30, 2009 and net of tax expense of $1 and $3,312 for the six months ended June 30, 2010 and 2009, respectively)

     -             (3,665)       (1)       (4,969) 

Income tax (expense) benefit related to unrealized gains (losses)

     (5,699)       425              (11,238)       (2,314) 
                           

Net change in unrealized gains or (losses)

     8,550        (4,303)       16,855        (1,498) 
                           

Held to maturity securities:

           

Reclassification adjustment for impairments realized in net income (net of tax benefit of $1,337 and $1,716 for the three and six months ended June 30, 2009)

     -             2,006        -             2,574  

Amortization of unrealized losses on investment securities transferred to held to maturity (net of tax benefit of $29 and $70 the three and six months ended June 30, 2009)

     -             42        -             103  
                           

Net change in unrealized losses on investment securities transferred to held to maturity

     -             2,048        -             2,677  
                           

Unrealized (losses) gains related to factors other than credit (net of tax benefit of $1,095 for the three months ended June 30, 2009 and net of tax expense of $69 and net of tax benefit of $1,095 for the six months ended June 30, 2010 and 2009, respectively)

     -             (1,642)       103        (1,642) 

Reclassification adjustment for impairments realized in net income (net of tax benefit of $116 for the six months ended June 30, 2010)

     -             -             173        -       

Accretion of unrealized losses related to factors other than credit to investment securities held to maturity (net of tax benefit of $34 and $74 for the three and six months ended June 30, 2010)

     50        -             112        -       
                           

Net change in unrealized losses related to factors other than credit

     50        (1,642)       388        (1,642) 
                           

Other comprehensive income (loss), net of tax

     8,600        (3,897)       17,243        (463) 
                           

Comprehensive income (loss)

     $       12,063        $       (108,188)       $ 30,431        $       (120,003) 
                           

See notes to condensed consolidated financial statements

 

7


Table of Contents

UMPQUA HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

(in thousands)

 

     Six months ended
June 30,
     2010    2009

CASH FLOWS FROM OPERATING ACTIVITIES:

     

Net income (loss)

     $ 13,188        $ (119,540) 

Adjustments to reconcile net income (loss) to net cash provided by operating activities:

     

Amortization of investment premiums, net

     7,196        2,846  

Gain on sale of investment securities, net

     (1)       (8,520) 

Other-than-temporary impairment on investment securities available for sale

     -             239  

Other-than-temporary impairment on investment securities held to maturity

     289        9,516  

Loss on sale of non-covered other real estate owned

     1,156        2,893  

Gain on sale of covered other real estate owned

     (1,519)       -       

Valuation adjustment on non-covered other real estate owned

     1,721        2,576  

Valuation adjustment on covered other real estate owned

     5        -       

Provision for loan and lease losses

     71,873        88,423  

Bargain purchase gain on acquisition

     (8,456)       -       

Change in FDIC indemnification asset

     (873)       -       

Depreciation, amortization and accretion

     7,186        4,928  

Goodwill impairment

     -             111,952  

Increase in mortgage servicing rights

     (2,008)       (4,235) 

Change in mortgage servicing rights carried at fair value

     1,800        1,809  

Change in junior subordinated debentures carried at fair value

     (6,076)       (9,484) 

Stock-based compensation

     1,425        1,304  

Net decrease (increase) in trading account assets

     530        (260) 

Gain on sale of loans

     (3,441)       (3,184) 

Origination of loans held for sale

           (248,744)             (386,161) 

Proceeds from sales of loans held for sale

     245,788        358,753  

Excess tax benefits from the exercise of stock options

     (56)       -       

Change in other assets and liabilities:

     

Net decrease (increase) in other assets

     16,177        (28,737) 

Net increase (decrease) in other liabilities

     27,810        (632) 
             

Net cash provided by operating activities

     124,970        24,486  
             

CASH FLOWS FROM INVESTING ACTIVITIES:

     

Purchases of investment securities available for sale

           (197,709)             (546,228) 

Proceeds from investment securities available for sale

     133,573        326,660  

Proceeds from investment securities held to maturity

     883        1,715  

Redemption of restricted equity securities

     92        -       

Net non-covered loan and lease paydowns (originations)

     185,147        (74,811) 

Net covered loan and lease paydowns

     49,379        -       

Proceeds from sales of loans

     5,280        5,198  

Proceeds from disposals of furniture and equipment

     1,096        63  

Purchases of premises and equipment

     (33,687)       (5,112) 

Proceeds from FDIC indemnification asset

     6,764        -       

Proceeds from sales of non-covered other real estate owned

     13,931        11,544  

Proceeds from sales of covered other real estate owned

     2,832        -       

Proceeds from sale of acquired insurance portfolio

     5,150        -       

Cash acquired in merger, net of cash consideration paid

     179,046        178,905  
             

Net cash provided by (used) by investing activities

     351,777        (102,066) 
             

 

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Table of Contents

UMPQUA HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)

(UNAUDITED)

(in thousands)

 

     Six months ended
June 30,
     2010    2009

CASH FLOWS FROM FINANCING ACTIVITIES:

     

Net (decrease) increase in deposit liabilities

     (29,686)       41,894  

Net increase in federal funds purchased

     -             66,000  

Net (decrease) increase in securities sold under agreements to repurchase

     (465)       8,770  

Repayment of term debt

     (138,719)       (100,093) 

Redemption of preferred stock

     (214,181)       -       

Proceeds from issuance of preferred stock

     198,289        -       

Net proceeds from issuance of common stock

     89,786        -       

Redemption of warrants

     (4,500)       -       

Dividends paid on preferred stock

     (3,682)       (5,384) 

Dividends paid on common stock

     (9,137)       (6,031) 

Excess tax benefits from stock based compensation

     56        -       

Proceeds from stock options exercised

     918        233  

Retirement of common stock

     (259)       (169) 
             

Net cash (used) provided by financing activities

     (111,580)       5,220  
             

Net increase (decrease) in cash and cash equivalents

     365,167        (72,360) 

Cash and cash equivalents, beginning of period

     605,413        204,676  
             

Cash and cash equivalents, end of period

     $ 970,580        $ 132,316  
             

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:

     

Cash paid during the period for:

     

Interest

     $ 46,373        $ 57,077  

Income taxes

     $ 150        $ 44  

SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND FINANCING ACTIVITIES:

     

Change in unrealized gains or (losses) on investment securities available for sale, net of taxes

     $ 16,855        $ (1,498) 

Change in unrealized losses on investment securities transferred to held to maturity, net of taxes

     $ -             $ 2,677  

Change in unrealized losses on investment securities held to maturity related to factors other than credit, net of taxes

     $ 388        $ (1,642) 

Cash dividend declared on common and preferred stock and payable after period-end

     $ 5,743        $ 3,019  

Transfer of non-covered loans to non-covered other real estate owned

     $ 17,895        $ 25,359  

Transfer of covered loans to covered other real estate owned

     $ 2,669        $ -       

Conversion of preferred stock to common stock

     $ 198,289        $ -       

Acquisitions:

     

Assets acquired

     $ 1,514,067        $ 4,978  

Liabilities assumed

     $       1,505,611        $       183,883  

See notes to condensed consolidated financial statements

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

Note 1 – Summary of Significant Accounting Policies

The accounting and financial reporting policies of Umpqua Holdings Corporation (referred to in this report as “we”, “our” or “the Company”) conform to accounting principles generally accepted in the United States of America. The accompanying interim consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, Umpqua Bank (“Bank”), and Umpqua Investments, Inc. (“Umpqua Investments”). Prior to July 2009, Umpqua Investments was known as Strand, Atkinson, Williams & York, Inc. All material inter-company balances and transactions have been eliminated. The consolidated financial statements have not been audited. A more detailed description of our accounting policies is included in the 2009 Annual Report filed on Form 10-K. These interim condensed consolidated financial statements should be read in conjunction with the financial statements and related notes contained in the 2009 Annual Report filed on Form 10-K.

In preparing these financial statements, the Company has evaluated events and transactions subsequent to June 30, 2010 for potential recognition or disclosure. In management’s opinion, all accounting adjustments necessary to accurately reflect the financial position and results of operations on the accompanying financial statements have been made. These adjustments include normal and recurring accruals considered necessary for a fair and accurate presentation. The results for interim periods are not necessarily indicative of results for the full year or any other interim period. Certain reclassifications of prior period amounts have been made to conform to current classifications.

Note 2 – Business Combinations

On January 22, 2010, the Washington Department of Financial Institutions closed EvergreenBank (“Evergreen”), Seattle, Washington and appointed the Federal Deposit Insurance Corporation (“FDIC”) as receiver. That same date, Umpqua Bank assumed the banking operations of Evergreen from the FDIC under a whole bank purchase and assumption agreement with loss-sharing. Under the terms of the loss-sharing agreement, the FDIC will cover a substantial portion of any future losses on loans, related unfunded loan commitments, other real estate owned (“OREO”) and accrued interest on loans for up to 90 days. The FDIC will absorb 80% of losses and share in 80% of loss recoveries on the first $90.0 million on covered assets for Evergreen and absorb 95% of losses and share in 95% of loss recoveries exceeding $90.0 million, except for the Bank will incur losses up to $30.2 million before the loss-sharing will commence. The loss-sharing arrangements for non-single family residential and single family residential loans are in effect for 5 years and 10 years, respectively, and the loss recovery provisions are in effect for 8 years and 10 years, respectively, from the acquisition date. With this agreement, Umpqua Bank now operates five additional store locations in the greater Seattle, Washington market. This acquisition is consistent with our community banking expansion strategy and provides further opportunity to fill in our market presence in the greater Seattle, Washington market.

The operations of Evergreen are included in our operating results from January 23, 2010, and added revenue of $3.9 million and $15.6 million, non-interest expense of $2.3 million and $4.8 million, and earnings of $1.0 million and $7.0 million, net of tax, for the three and six months ended June 30, 2010. For the six months ended June 30, 2010, these operating results include a bargain purchase gain of $8.5 million, that is not indicative of future operating results. Evergreen’s results of operations prior to the acquisition are not included in our operating results. Merger-related expenses of $671,000 and $1.8 million for the three and six months ended June 30, 2010 have been incurred in connection with the acquisition of Evergreen and recognized as a separate line item on the Condensed Consolidated Statements of Operations.

On February 26, 2010, the Washington Department of Financial Institutions closed Rainier Pacific Bank (“Rainier”), Tacoma, Washington and appointed the FDIC as receiver. That same date, Umpqua Bank assumed the banking operations of Rainier from the FDIC under a whole bank purchase and assumption agreement with loss-sharing. Under the terms of the loss-sharing agreement, the FDIC will cover a substantial portion of any future losses on loans, related unfunded loan commitments, OREO and accrued interest on loans for up to 90 days. The FDIC will absorb 80% of losses and share in 80% of loss recoveries on the first $95.0 million of losses on covered assets and absorb 95% of losses and share in 95% of loss recoveries exceeding $95.0 million. The loss-sharing arrangements for non-single family residential and single family residential loans are in effect for 5 years and 10 years, respectively, and the loss recovery provisions are in effect for 8 years and 10 years, respectively, from the acquisition dates. With this agreement, Umpqua Bank now operates 14 additional store locations in Pierce County and surrounding areas. This acquisition expands our presence in the south Puget Sound region of Washington State.

The operations of Rainier are included in our operating results from February 27, 2010, and added revenue of $6.6 million and $9.2 million, non-interest expense of $4.3 million and $6.5 million, and earnings of $1.4 million and $1.8 million, net of tax, for the three and six months ended June 30, 2010. Rainier’s results of operations prior to the acquisition are not included in our operating results. Merger-related expenses of $917,000 and $1.6 million for the three and six months ended June 30, 2010 have been incurred in connection with the acquisition of Rainier and recognized as a separate line item on the Condensed Consolidated Statements of Operations.

 

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On June 18, 2010, the Nevada State Financial Institutions Division closed Nevada Security Bank (“Nevada Security”), Reno, Nevada and appointed the FDIC as receiver. That same date, Umpqua Bank assumed the banking operations of Nevada Security from the FDIC under a whole bank purchase and assumption agreement with loss-sharing. Under the terms of the loss-sharing agreement, the FDIC will cover a substantial portion of any future losses on loans, related unfunded loan commitments, OREO, and accrued interest on loans for up to 90 days. The FDIC will absorb 80% of losses and share in 80% of loss recoveries on all covered assets. The loss-sharing arrangements for non-single family residential and single family residential loans are in effect for 5 years and 10 years, respectively, and the loss recovery provisions are in effect for 8 years and 10 years, respectively, from the acquisition dates. With this agreement, Umpqua Bank now operates five additional store locations, including three in Reno, Nevada, one in Incline Village, Nevada, and one in Roseville, California. This acquisition expands our presence into the State of Nevada.

The operations of Nevada Security are included in our operating results from June 19, 2010, and added revenue of $529,000, non-interest expense of $582,000, and loss of $34,000, net of tax, through June 30, 2010. Nevada Security’s results of operations prior to the acquisition are not included in our operating results. Merger-related expenses of $402,000 have been incurred in connection with the acquisition of Nevada Security and recognized as a separate line item on the Condensed Consolidated Statements of Operations.

We refer to the acquired loan portfolios and other real estate owned as “covered loans” and “covered other real estate owned”, respectively, and these are presented as separate line items in our consolidated balance sheet. Collectively these balances are referred to as “covered assets”.

The assets acquired and liabilities assumed from the Evergreen, Rainier, and Nevada Security acquisitions have been accounted for under the acquisition method of accounting (formerly the purchase method). The assets and liabilities, both tangible and intangible, were recorded at their estimated fair values as of the acquisition dates. The fair values of the assets acquired and liabilities assumed were determined based on the requirements of the Fair Value Measurements and Disclosures topic of the Financial Accounting Standards Board Accounting Standards Codification (the “FASB ASC”). The fair values of assets and liabilities acquired, including the calculation of the undiscounted contractual cash flows and beginning accretable yield relating to the acquired loan portfolios, are subject to change for up to one year after the closing date of each acquisition as additional information relating to closing date becomes available. The amounts are also subject to adjustments based upon final settlement with the FDIC. In addition, the tax treatment of FDIC-assisted acquisitions is complex and subject to interpretations that may result in future adjustments of deferred taxes as of the acquisition date. The terms of the agreements provide for the FDIC to indemnify the Bank against claims with respect to liabilities of Evergreen, Rainier, and Nevada Security not assumed by the Bank and certain other types of claims identified in the agreement. The application of the acquisition method of accounting resulted in the recognition of a bargain purchase gain of $8.5 million in the Evergreen acquisition, $34.7 million of goodwill in the Rainier acquisition and $13.0 million of goodwill in the Nevada Security acquisition.

A summary of the net assets (liabilities) received from the FDIC and the estimated fair value adjustments are presented below:

(in thousands)

 

    Evergreen   Rainier   Nevada Security
    January 22, 2010   February 26, 2010   June 18, 2010

Cost basis net assets (liabilities)

    $ 58,811       $ (50,295)      $ 53,629  

Cash payment received from (paid to) the FDIC

    -            59,351       (29,950) 

Fair value adjustments:

     

Loans

    (118,414)      (105,224)      (119,040) 

Other real estate owned

    (2,422)      (6,581)      (17,939) 

Other intangible assets

    440       6,253       322  

FDIC indemnification asset

    73,774       78,055       101,910  

Deposits

    (1,023)      (1,828)      (1,950) 

Term debt

    (2,496)      (13,035)      -       

Other

    (214)      (1,437)      48  
                 

Bargain purchase gain (goodwill)

    $ 8,456       $ (34,741)      $ (12,970) 
                 

In FDIC-assisted transactions, only certain assets and liabilities are transferred to the acquirer and, depending on the nature and amount of the acquirer’s bid, the FDIC may be required to make a cash payment to the acquirer or the acquirer may be required to make payment to the FDIC. In the Evergreen acquisition, cost basis net assets of $58.8 million were transferred to the Company. The bargain purchase gain represents the excess of the estimated fair value of the assets acquired over the estimated fair value of the liabilities assumed.

In the Rainier acquisition, cost basis net liabilities of $50.3 million and a cash payment received from the FDIC of $59.4 million were transferred to the Company. The goodwill represents the excess of the estimated fair value of the liabilities assumed over the estimated fair value of the assets acquired.

In the Nevada Security acquisition, cost basis net assets of $53.6 million were transferred to the Company and a cash payment of $30.0 million was made to the FDIC. The goodwill represents the excess of the estimated fair value of the liabilities assumed over the estimated fair value of the assets acquired.

 

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The Bank did not immediately acquire all the real estate, banking facilities, furniture or equipment of Evergreen, Rainier, or Nevada Security as part of the purchase and assumption agreements. However, the Bank was granted the option to purchase or lease the real estate and furniture and equipment from the FDIC. The term of this option expires 90 days from the acquisition dates. Acquisition costs of the real estate and furniture and equipment are based on current mutually agreed upon appraisals. Prior to the expiration of option term, Umpqua exercised the right to purchase approximately $300,000 of furniture and equipment for Evergreen and $26.3 million of real estate and furniture and equipment for Rainier. The option remains outstanding for Nevada Security.

The statement of assets acquired and liabilities assumed at their estimated fair values of Evergreen, Rainier, and Nevada Security are presented below:

(in thousands) 

 

     Evergreen    Rainier    Nevada Security
     January 22, 2010    February 26, 2010    June 18, 2010

Assets Acquired:

        

Cash and equivalents

     $ 18,919        $ 94,067        $ 66,060  

Investment securities

     3,850        26,478        22,626  

Covered loans

     251,528        456,253        209,442  

Premises and equipment

     -             17        50  

Restricted equity securities

     3,073        13,712        2,951  

Goodwill

     -             34,741        12,970  

Other intangible assets

     440        6,253        322  

Mortgage servicing rights

     -             62        -       

Covered other real estate owned

     2,421        6,580        17,938  

FDIC indemnification asset

     73,774        78,055        101,910  

Other assets

     1,293        4,956        3,326  
                    

Total assets acquired

     $ 355,298        $ 721,174        $ 437,595  
                    

Liabilities Assumed:

        

Deposits

     $ 285,775        $ 425,771        $ 437,299  

Term debt

     60,813        293,191        -       

Other liabilities

     254        2,212        296  
                    

Total liabilities assumed

     346,842        721,174        437,595  
                    

Net assets acquired/bargain purchase gain

     $ 8,456        $ -             $ -       
                    

Rainier’s assets and liabilities were significant at a level to require disclosure of one year of historical financial statements and related pro forma financial disclosure. However, given the pervasive nature of the loss-sharing agreement entered into with the FDIC, the historical information of Rainier is much less relevant for purposes of assessing the future operations of the combined entity. In addition, prior to closure Rainier had not completed an audit of their financial statements, and we determined that audited financial statements are not and will not be reasonably available for the year ended December 31, 2009. Given these considerations, the Company requested, and received, relief from the Securities and Exchange Commission from submitting certain financial information of Rainier. The assets and liabilities of Evergreen and Nevada Security were not at a level that requires disclosure of historical or pro forma financial information.

On January 16, 2009, the Washington Department of Financial Institutions closed the Bank of Clark County, Vancouver, Washington, and appointed the FDIC as its receiver. The FDIC entered into a purchase and assumption agreement with Umpqua Bank to assume the insured non-brokered deposit balances, which totaled $183.9 million, at no premium. The Company recorded the deposit related liabilities at book value. In connection with the assumption, Umpqua Bank acquired certain assets totaling $23.0 million, primarily cash and marketable securities, with the difference of $160.9 million representing funds received directly from the FDIC. Through this agreement, Umpqua Bank now operates two additional store locations in Vancouver, Washington. In addition, the FDIC reimbursed Umpqua Bank for all overhead costs related to the acquired Bank of Clark County operations for 90 days following closing, while Umpqua Bank paid the FDIC a servicing fee on assumed deposit accounts for that same period.

The results of the Bank of Clark County’s operations have been included in the consolidated financial statements beginning January 17, 2009 and added net earnings of approximately $671,000 and $1.3 million for the three and six months ended June 30, 2010, net of tax, and approximately $194,000 and $504,000 for the three and six months ended June 30, 2009, net of tax, which primarily represents interest income earned from the proceeds of the assumption which were invested in investment securities available for sale and service income on deposits. This was partially offset by interest expense on deposits, salaries and employee benefits expense, and the accrued servicing fee paid to the FDIC. Umpqua did not incur the FDIC servicing fee expense during the second or third quarter of 2009, but began incurring overhead expenses such as salaries and employee benefits expense and rent expense. The Company does not expect to incur any significant additional acquisition-related expenses in connection with the assumption of certain deposits and assets of the Bank of Clark County.

 

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Note 3 – Investment Securities

The following table presents the amortized costs, unrealized gains, unrealized losses and approximate fair values of investment securities at June 30, 2010 and December 31, 2009:

 

June 30, 2010

           

(in thousands)

           
     Amortized
Cost
   Unrealized
Gains
   Unrealized
Losses
   Fair
Value

AVAILABLE FOR SALE:

           

U.S. Treasury and agencies

     $ 128,716        $ 867        $ (2)       $ 129,581  

Obligations of states and political subdivisions

     222,676        7,438        (87)       230,027  

Residential mortgage-backed securities and collateralized mortgage obligations

     1,508,834        63,964        (959)       1,571,839  

Other debt securities

     145        14        -             159  

Investments in mutual funds and other equity securities

     1,959        82        -             2,041  
                           
     $       1,862,330        $       72,365        $       (1,048)       $       1,933,647  
                           

HELD TO MATURITY:

           

Obligations of states and political subdivisions

     $ 2,810        $ 8        $ -             $ 2,818  

Residential mortgage-backed securities and collateralized mortgage obligations

     2,683        280        (317)       2,646  
                           
     $ 5,493        $ 288        $ (317)       $ 5,464  
                           

December 31, 2009

           

(in thousands)

           
     Amortized
Cost
   Unrealized
Gains
   Unrealized
Losses
   Fair
Value

AVAILABLE FOR SALE:

           

U.S. Treasury and agencies

     $ 11,588        $ 208        $ (2)       $ 11,794  

Obligations of states and political subdivisions

     205,549        6,480        (204)       211,825  

Residential mortgage-backed securities and collateralized mortgage obligations

     1,533,149        40,272        (3,572)       1,569,849  

Other debt securities

     145        14        -             159  

Investments in mutual funds and other equity securities

     1,959        30        -             1,989  
                           
     $       1,752,390        $       47,004        $       (3,778)       $       1,795,616  
                           

HELD TO MATURITY:

           

Obligations of states and political subdivisions

     $ 3,216        $ 11        $ -             $ 3,227  

Residential mortgage-backed securities and collateralized mortgage obligations

     2,845        251        (187)       2,909  
                           
     $ 6,061        $ 262        $ (187)       $ 6,136  
                           

Investment securities that were in an unrealized loss position as of June 30, 2010 and December 31, 2009 are presented in the following tables, based on the length of time individual securities have been in an unrealized loss position. In the opinion of management, these securities are considered only temporarily impaired due to changes in market interest rates or the widening of market spreads subsequent to the initial purchase of the securities, and not due to concerns regarding the underlying credit of the issuers or the underlying collateral.

 

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June 30, 2010

                 

(in thousands)

                 
     Less than 12 Months    12 Months or Longer    Total
     Fair
Value
    Unrealized 
Losses
   Fair
Value
   Unrealized
Losses
   Fair
Value
   Unrealized
Losses

AVAILABLE FOR SALE:

                 

U.S. Treasury and agencies

     $ -             $ -             $ 122        $ 2        $ 122        $ 2  

Obligations of states and political subdivisions

     14,051        38        1,960        49        16,011        87  

Residential mortgage-backed securities and collateralized mortgage obligations

     86,656        917        9,495        42        96,151        959  
                                         

Total temporarily impaired securities

     $       100,707        $       955        $       11,577        $ 93        $       112,284        $       1,048  
                                         

HELD TO MATURITY:

                 

Residential mortgage-backed securities and collateralized mortgage obligations

     $ -             $ -             $ 1,430        $       317        $ 1,430        $ 317  
                                         

Total temporarily impaired securities

     $ -             $ -             $ 1,430        $ 317        $ 1,430        $ 317  
                                         

December 31, 2009

                 

(in thousands)

                 
     Less than 12 Months    12 Months or Longer    Total
     Fair
Value
   Unrealized
Losses
   Fair
Value
   Unrealized
Losses
   Fair
Value
   Unrealized
Losses

AVAILABLE FOR SALE:

                 

U.S. Treasury and agencies

     $ -             $ -             $ 133        $ 2        $ 133        $ 2  

Obligations of states and political subdivisions

     13,209        123        1,937        81        15,146        204  

Residential mortgage-backed securities and collateralized mortgage obligations

     293,035        3,529        958        43        293,993        3,572  
                                         

Total temporarily impaired securities

     $       306,244        $       3,652        $       3,028        $       126        $       309,272        $       3,778  
                                         

HELD TO MATURITY:

                 

Residential mortgage-backed securities and collateralized mortgage obligations

     $ -             $ -             $ 620        $ 187        $ 620        $ 187  
                                         

Total temporarily impaired securities

     $ -             $ -             $ 620        $ 187        $ 620        $ 187  
                                         

The unrealized losses on investments in U.S. Treasury and agencies securities were caused by interest rate increases subsequent to the purchase of these securities. The contractual terms of these investments do not permit the issuer to settle the securities at a price less than par. Because the Bank does not intend to sell the securities in this class and it is not likely that the Bank will be required to sell these securities before recovery of their amortized cost basis, which may include holding each security until contractual maturity, the unrealized losses on these investments are not considered other-than-temporarily impaired.

The unrealized losses on obligations of political subdivisions were caused by changes in market interest rates or the widening of market spreads subsequent to the initial purchase of these securities. Management monitors published credit ratings of these securities and no adverse ratings changes have occurred since the date of purchase of obligations of political subdivisions which are in an unrealized loss position as of June 30, 2010. Because the decline in fair value is attributable to changes in interest rates or widening market spreads and not credit quality, and because the Bank does not intend to sell the securities in this class and it is not likely that Bank will be required to sell these securities before recovery of their amortized cost basis, which may include holding each security until maturity, the unrealized losses on these investments are not considered other-than-temporarily impaired.

Of the residential mortgage-backed securities and collateralized mortgage obligations portfolio in an unrealized loss position at June 30, 2010, 98.6% are issued or guaranteed by governmental agencies. The unrealized losses on residential mortgage-backed securities and collateralized mortgage obligations were caused by changes in market interest rates or the widening of market spreads subsequent to the initial purchase of these securities, and not concerns regarding the underlying credit of the issuers or the underlying collateral. It is expected that these securities will not be settled at a price less than the amortized cost of each investment. Because the decline in fair value is attributable to changes in interest rates or widening market spreads and not credit quality, and because the Bank does not intend to sell the securities in this class and it is not likely that the Bank will be required to sell these securities before recovery of their amortized cost basis, which may include holding each security until contractual maturity, the unrealized losses on these investments are not considered other-than-temporarily impaired.

 

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We review investment securities on an ongoing basis for the presence of other-than-temporary impairment (“OTTI”) or permanent impairment, taking into consideration current market conditions, fair value in relationship to cost, extent and nature of the change in fair value, issuer rating changes and trends, whether we intend to sell a security or if it is likely that we will be required to sell the security before recovery of our amortized cost basis of the investment, which may be maturity, and other factors. For debt securities, if we intend to sell the security or it is likely that we will be required to sell the security before recovering its cost basis, the entire impairment loss would be recognized in earnings as an OTTI. If we do not intend to sell the security and it is not likely that we will be required to sell the security but we do not expect to recover the entire amortized cost basis of the security, only the portion of the impairment loss representing credit losses would be recognized in earnings. The credit loss on a security is measured as the difference between the amortized cost basis and the present value of the cash flows expected to be collected. Projected cash flows are discounted by the original or current effective interest rate depending on the nature of the security being measured for potential OTTI. The remaining impairment related to all other factors, the difference between the present value of the cash flows expected to be collected and fair value, is recognized as a charge to other comprehensive income (“OCI”). Impairment losses related to all other factors are presented as separate categories within OCI. For investment securities held to maturity, this amount is accreted over the remaining life of the debt security prospectively based on the amount and timing of future estimated cash flows. The accretion of the OTTI amount recorded in OCI will increase the carrying value of the investment, and would not affect earnings. If there is an indication of additional credit losses the security is re-evaluated accordingly to the procedures described above.

The following tables present the OTTI losses for the three and six months ended June 30, 2010 and 2009, respectively:

(in thousands)

 

     Three months ended
June  30, 2010
   Three months ended
June  30, 2009
     Held To
    Maturity    
       Available    
For Sale
   Held To
    Maturity    
       Available    
For Sale

Total other-than-temporary impairment losses

     $ -             $ -           $ 10,116     $ 239  

Portion of other-than-temporary impairment losses recognized in other comprehensive income (1)

     -             -             (2,737)      -       
                           

Net impairment losses recognized in earnings (2)

     $ -             $ -           $ 7,379     $ 239  
                           
     Six months ended June 30,
2010
   Six months ended
June 30, 2009
     Held To
Maturity
   Available
For Sale
   Held To
Maturity
   Available
For Sale

Total other-than-temporary impairment losses

     $ 5      $ -           $ 12,253     $ 239  

Portion of other-than-temporary impairment losses transferred from (recognized in) other comprehensive income (1)

     284      -             (2,737)      -       
                           

Net impairment losses recognized in earnings (2)

     $ 289      $ -           $ 9,516     $ 239  
                           

 

(1) Represents other-than-temporary impairment losses related to all other factors.
(2) Represents other-than-temporary impairment losses related to credit losses.

The OTTI recognized on investment securities held to maturity relate to non-agency collateralized mortgage obligations for all periods presented. Each of these securities holds various levels of credit subordination. The underlying mortgage loans of these securities were originated from 2003 through 2007. At origination, the weighted average loan-to-value of the underlying mortgages was 69%; the underlying borrowers had weighted average FICO scores of 731, and 59% were limited documentation loans. These securities are valued by third-party pricing services using matrix or model pricing methodologies and were corroborated by broker indicative bids. We estimate cash flows of the underlying collateral for each security considering credit, interest and prepayment risk models that incorporate management’s estimate of projected key assumptions including prepayment rates, collateral default rates and loss severity. Assumptions utilized vary from security to security, and are influenced by factors such as loan interest rates, geographic location, borrower characteristics and vintage, and historical experience. We then used a third party to obtain information about the structure of each security, including subordination and other credit enhancements, in order to determine how the underlying collateral cash flows will be distributed to each security issued in the structure. These cash flows are then discounted at the interest rate used to recognize interest income on each security. We review the actual collateral performance of these securities on a quarterly basis and update the inputs as appropriate to determine the projected cash flows. The following table presents a summary of the significant inputs utilized to measure management’s estimate of the credit loss component on these non-agency collateralized mortgage obligations as of June 30, 2010:

 

     Range        Weighted    
Average
         Minimum            Maximum       

Constant prepayment rate

   4.0%      25.0%      14.9%  

Collateral default rate

   8.0%      45.0%      16.8%  

Loss severity

   20.0%      50.0%      34.6%  

 

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The following table presents a rollforward of the credit loss component of held to maturity debt securities that have been written down for OTTI with the credit loss component recognized in earnings and the remaining impairment loss related to all other factors recognized in OCI for the three and six months ended June 30, 2010 and 2009, respectively:

(in thousands)

 

     Three months ended
June 30, 2010
   Three months ended
June 30, 2009

Balance, beginning of period

     $ 12,653        $ 5,952  

Additions:

     

Initial OTTI credit losses

     -             7,211  

Subsequent OTTI credit losses

     -             168  

Reductions:

     

Securities sold, matured or paid-off

     -             (1,785) 
             

Balance, end of period

     $       12,653        $       11,546  
             

(in thousands)

 

     Six months ended
June 30, 2010
   Six months ended
June 30, 2009

Balance, beginning of period

     $ 12,364        $ -       

Cumulative OTTI credit losses upon adoption of new OTTI guidance

        5,952  

Additions:

     

Initial OTTI credit losses

     -             7,211  

Subsequent OTTI credit losses

     289        168  

Reductions:

     

Securities sold, matured or paid-off

     -             (1,785) 
             

Balance, end of period

     $       12,653        $       11,546  
             

The following table presents the maturities of investment securities at June 30, 2010:

June 30, 2010

(in thousands)

 

     Available For Sale    Held To Maturity
     Amortized
Cost
   Fair
Value
   Amortized
Cost
   Fair Value

AMOUNTS MATURING IN:

           

Three months or less

     $ 17,610        $ 17,687        $ 535        $ 537  

Over three months through twelve months

     193,677        196,568        1,193        1,206  

After one year through five years

     1,427,454        1,486,628        2,919        2,933  

After five years through ten years

     205,030        213,476        628        603  

After ten years

     16,600        17,247        218        185  

Other investment securities

     1,959        2,041        -             -       
                           
     $       1,862,330        $     1,933,647        $     5,493        $     5,464  
                           

The amortized cost and fair value of collateralized mortgage obligations and mortgage-backed securities are presented by expected average life, rather than contractual maturity, in the preceding table. Expected maturities may differ from contractual maturities because borrowers have the right to prepay underlying loans without prepayment penalties.

 

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The following table presents the gross realized gains and gross realized losses on the sale of securities available for sale for the three and six months ended June 30, 2010 and 2009:

(in thousands)

 

     Three months ended
June 30, 2010
   Three months ended
June 30, 2009
     Gains    Losses    Gains    Losses

Residential mortgage-backed securities and collateralized mortgage obligations

   $ —      $ —      $ 6,285    $ 16
                           
   $ —      $ —      $ 6,285    $ 16
                           
     Six months ended
June 30, 2010
   Six months ended
June 30, 2009
     Gains    Losses    Gains    Losses

Obligations of states and political subdivisions

   $ 2    $ 1    $ —      $ —  

Residential mortgage-backed securities and collateralized mortgage obligations

     —        —        8,495      54
                           
   $ 2    $ 1    $ 8,495    $ 54
                           

The following table presents, as of June 30, 2010, investment securities which were pledged to secure borrowings and public deposits as permitted or required by law:

(in thousands)

 

     Amortized
Cost
   Fair
Value

To Federal Home Loan Bank to secure borrowings

   $ 315,327    $ 331,697

To state and local governments to secure public deposits

     845,880      876,239

To U.S. Treasury and Federal Reserve to secure customer tax payments

     5,787      6,219

Other securities pledged, principally to secure deposits

     253,409      263,636
             

Total pledged securities

   $ 1,420,403    $ 1,477,791
             

Note 4 – Non-covered Loans, Leases and Allowance for Loan and Lease Losses

Non-covered loans refer to loans not covered by the FDIC loss-sharing agreements. Covered loans are discussed in Note 5.

The following table presents the major types of non-covered loans recorded in the balance sheets as of June 30, 2010 and December 31, 2009. The classification of non-covered loan balances presented is reported in accordance with the regulatory reporting requirements.

(in thousands)

 

     June 30,
2010
    December 31,
2009
 

Real estate - construction and land development

   $ 484,301      $ 618,476   

Real estate - commercial and agricultural

     3,435,837        3,482,687   

Real estate - single and multi-family residential

     748,451        726,658   

Commercial, industrial and agricultural

     982,647        1,090,275   

Leases

     32,375        34,528   

Installment and other

     54,067        58,044   
                
     5,737,678        6,010,668   

Deferred loan fees, net

     (11,005     (11,401
                

Total loans and leases

   $ 5,726,673      $ 5,999,267   
                

 

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The following table summarizes activity relate to the allowance for loan and lease losses (“ALLL”) on non-covered loans for the three and six months ended June 30, 2010 and 2009:

Allowance for Loan and Lease Losses

(in thousands)

 

     Three months ended
June 30,
    Six months ended
June 30,
 
     2010     2009     2010     2009  

Balance, beginning of period

   $ 110,784      $ 95,086      $ 107,657      $ 95,865   

Provision for loan and lease losses

     29,767        29,331        71,873        88,423   

Charge-offs

     (31,554     (26,508     (71,313     (86,922

Recoveries

     4,917        461        5,697        1,004   
                                

Balance, end of period

   $ 113,914      $ 98,370      $ 113,914      $ 98,370   
                                

At June 30, 2010, the recorded investment in non-covered loans classified as impaired totaled $251.2 million, with a corresponding valuation allowance (included in the allowance for loan and lease losses on non-covered loans) of $7.3 million. Due to declining real estate values in our markets, it is increasingly likely that an impairment reserve on collateral dependent real estate non-covered loans represents a confirmed loss. As a result, the Company recognizes the charge-off of impairment reserves on non-covered impaired loans in the period it arises for collateral dependent loans. Therefore, the non-covered non-accrual loans as of June 30, 2010 have already been written-down to their estimated net realizable value, based on disposition value, and are expected to be resolved with no additional material loss, absent further decline in market prices. The valuation allowance on non-covered impaired loans represents the impairment reserves on performing restructured loans, and is measured by comparing the present value of expected future cash flows on the restructured loans discounted at the interest rate of the original loan agreement to the loan’s carrying value. At December 31, 2009, the total recorded investment in non-covered impaired loans totaled $328.0 million, with a corresponding valuation allowance of $2.7 million. The average recorded investment in non-covered impaired loans was approximately $286.9 million during the six months ended June 30, 2010 and $234.5 million for the year ended December 31, 2009.

At June 30, 2010 and December 31, 2009, non-covered impaired loans of $80.5 million and $134.9 million were classified as accruing restructured loans, respectively. The restructurings were granted in response to borrower financial difficulty, and generally provide for a temporary modification of loan repayment terms. The non-covered restructured loans on accrual status represent the only impaired loans accruing interest at each respective date. In order for a restructured loan to be considered performing and on accrual status, the loan’s collateral coverage generally will be greater than or equal to 100% of the loan balance, the loan is current on payments, and the borrower must either prefund an interest reserve or demonstrate the ability to make payments from a verified source of cash flow. The Company has no obligations to lend additional funds on the non-covered restructured loans as of June 30, 2010. Non-covered non-accrual loans totaled $170.6 million at June 30, 2010, and $193.1 million at December 31, 2009.

Note 5 – Covered Assets and FDIC Indemnification Asset

Covered LoansLoans acquired in a FDIC-assisted acquisition that are subject to a loss-share agreement are referred to as “covered loans” and reported separately in our statements of financial condition. Covered loans are reported exclusive of the expected cash flow reimbursements expected from the FDIC.

Acquired loans are valued as of acquisition date in accordance with Financial Accounting Standards Board Accounting Standards Codification (“FASB ASC”) 805, Business Combinations. Loans purchased with evidence of credit deterioration since origination for which it is probable that all contractually required payments will not be collected are accounted for under FASB ASC 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality. In addition, because of the significant discounts associated with the acquired portfolios, the Company elected to account for all acquired loans under ASC 310-30. Under FASB ASC 805 and ASC 310-30, loans are recorded at fair value at acquisition date, factoring in credit losses expected to be incurred over the life of the loan. Accordingly, an allowance for loan losses is not carried over or recorded as of the acquisition date.

The covered loans acquired are and will continue to be subject to the Company’s internal and external credit review and monitoring. If credit deterioration is experienced subsequent to the initial acquisition fair value amount, such deterioration will be measured, and a provision for credit losses will be charged to earnings. These provisions will be mostly offset by an increase to the FDIC indemnification asset, and will be recognized in non-interest income.

 

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The following table reflects the estimated fair value of the acquired loans at the acquisition dates:

(in thousands)

 

     Evergreen     Rainier     Nevada Security  
     January 22, 2010     February 26, 2010     June 18, 2010  

Gross loans acquired

   $ 369,942      $ 561,477      $ 328,482   

Fair value discount

     (118,414     (105,224     (119,040
                        

Covered loans, net

   $ 251,528      $ 456,253      $ 209,442   
                        

The outstanding contractual unpaid principal balance, excluding purchase accounting adjustments, at June 30, 2010 was $305.1 million, $517.2 million and $325.6 million, for Evergreen, Rainier, and Nevada Security, respectively, as compared to $337.3 million and $547.2 million, for Evergreen and Rainier, respectively, at March 31, 2010.

The following table presents the major types of covered loans as of June 30, 2010. The classification of covered loan balances presented is reported in accordance with the regulatory reporting requirements.

(in thousands)

 

     Evergreen    Rainier    Nevada Security

Real estate - construction and land development

   $ 26,214    $ 15,364    $ 23,430

Real estate - commercial and agricultural

     111,066      214,692      135,624

Real estate - single and multi-family residential

     58,333      177,216      22,666

Commercial, industrial and agricultural

     23,312      19,668      24,881

Installment and other

     2,020      10,053      636
                    
     220,945      436,993      207,237
                    

At March 31, 2010, the covered loan balances were $241.7 million and $455.1 million, for Evergreen and Rainier, respectively.

In estimating the fair value of the covered loans at the acquisition date, we (a) calculated the contractual amount and timing of undiscounted principal and interest payments and (b) estimated the amount and timing of undiscounted expected principal and interest payments. The difference between these two amounts represents the nonaccretable difference.

On the acquisition date, the amount by which the undiscounted expected cash flows exceed the estimated fair value of the acquired loans is the “accretable yield”. The accretable yield is then measured at each financial reporting date and represents the difference between the remaining undiscounted expected cash flows and the current carrying value of the loans.

The following table presents a reconciliation of the undiscounted contractual cash flows, nonaccretable difference, accretable yield, and fair value of covered loans for each respective acquired loan portfolio at the acquisition dates:.

(in thousands)

 

     Evergreen     Rainier     Nevada Security  
     January 22, 2010     February 26, 2010     June 18, 2010  

Undiscounted contractual cash flows

   $ 412,638      $ 745,213      $ 368,975   

Undiscounted cash flows not expected to be collected (nonaccretable difference)

     (105,908     (106,082     (109,929
                        

Undiscounted cash flows expected to be collected

     306,730        639,131        259,046   

Accretable yield at acquisition

     (55,202     (182,878     (49,604
                        

Estimated fair value of loans acquired at acquisition

   $ 251,528      $ 456,253      $ 209,442   
                        

 

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The following table presents the changes in the accretable yield for the three and six months ended June 30, 2010 for each respective acquired loan portfolio:

(in thousands)

 

     Three months ended  
     Evergreen
June 30, 2010
    Rainier
June 30, 2010
    Nevada Security
June 30, 2010
 

Balance, beginning of period

   $ 53,231      $ 181,031      $ —     

Additions resulting from acquisitions

     —          —          49,604   

Accretion to interest income

     (3,611     (8,579     (553

Disposals

     (257     —          —     

Reclassifications (to)/from nonaccretable difference

     (597     2,279        —     
                        

Balance, end of period

   $ 48,766      $ 174,731      $ 49,051   
                        
     Six months ended  
     Evergreen
June 30, 2010
    Rainier
June 30, 2010
    Nevada Security
June 30, 2010
 

Balance, beginning of period

   $ —        $ —        $ —     

Additions resulting from acquisitions

     55,202        182,878        49,604   

Accretion to interest income

     (6,755     (11,601     (553

Disposals

     (257     —          —     

Reclassifications (to)/from nonaccretable difference

     576        3,454        —     
                        

Balance, end of period

   $ 48,766      $ 174,731      $ 49,051   
                        

Covered Other Real Estate OwnedAll OREO acquired in FDIC-assisted acquisitions that are subject to a FDIC loss-share agreement are referred to as “covered OREO” and reported separately in our statements of financial position. Covered OREO is reported exclusive of expected reimbursement cash flows from the FDIC. Foreclosed covered loan collateral is transferred into covered OREO at the loan’s carrying value, inclusive of the acquisition date fair value discount.

Covered OREO was initially recorded at its estimated fair value on the acquisition date based on similar market comparable valuations less estimated selling costs. Any subsequent valuation adjustments due to declines in fair value will be charged to non-interest expense, and will be mostly offset by non-interest income representing the corresponding increase to the FDIC indemnification asset for the offsetting loss reimbursement amount. Any recoveries of previous valuation adjustments will be credited to non-interest expense with a corresponding charge to non-interest income for the portion of the recovery that is due to the FDIC.

The following table summarizes the activity related to the covered OREO for the three and six months ended June 30, 2010:

(in thousands)

 

     Three months ended
June 30, 2010
    Six months ended
June 30, 2010
 

Balance, beginning of period

   $ 8,995      $ —     

Acquisition

     17,938        26,939   

Additions to covered OREO

     2,560        2,669   

Dispositions of covered OREO

     (1,198     (1,313

Valuation adjustments in the period

     (5     (5
                

Balance, end of period

   $ 28,290      $ 28,290   
                

FDIC Indemnification AssetThe Company has elected to account for amounts receivable under the loss-share agreement as an indemnification asset in accordance with FASB ASC 805, Business Combinations. The FDIC indemnification asset is initially recorded at fair value, based on the discounted value of expected future cash flows under the loss-share agreement. The difference between the present value and the undiscounted cash flows the Company expects to collect from the FDIC will be accreted into non-interest income over the life of the FDIC indemnification asset.

The FDIC indemnification asset is reviewed quarterly and adjusted for any changes in expected cash flows based on recent performance and expectations for future performance of the covered portfolio. These adjustments are measured on the same basis as the related covered loans and covered other real estate owned. Any increases in cash flow of the covered assets over those expected will reduce the FDIC indemnification asset and any decreases in cash flow of the covered assets under those expected will increase the FDIC indemnification asset. Increases and decreases to the FDIC indemnification asset are recorded as adjustments to non-interest income.

 

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The following table summarizes the activity related to the FDIC indemnification asset for the three and six months ended June 30, 2010:

(in thousands)

 

     Three months ended
June 30, 2010
    Six months ended
June 30, 2010
 

Balance, beginning of period

   $ 152,439      $ —     

Acquisitions

     101,910        253,739   

Accretion

     263        873   

Payments from FDIC

     (6,764     (6,764
                

Balance, end of period

   $ 247,848      $ 247,848   
                

Note 6 – Mortgage Servicing Rights

The following table presents the changes in the Company’s mortgage servicing rights (“MSR”) for the three and six months ended June 30, 2010 and 2009:

(in thousands)

 

     Three months ended
June 30,
    Six months ended
June 30,
 
     2010     2009     2010     2009  

Balance, beginning of period

   $ 13,628      $ 8,732      $ 12,625      $ 8,205   

Additions for new mortgage servicing rights capitalized

     938        2,267        2,008        4,235   

Acquired mortgage servicing rights

     —          —          62        —     

Changes in fair value:

        

Due to changes in model inputs or assumptions(1)

     284        493        129        (575

Other(2)

     (1,955     (861     (1,929     (1,234
                                

Balance, end of period

   $ 12,895      $ 10,631      $ 12,895      $ 10,631   
                                

 

(1) Principally reflects changes in discount rates and prepayment speed assumptions, which are primarily affected by changes in interest rates.
(2) Represents changes due to collection/realization of expected cash flows over time.

Information related to our serviced loan portfolio as of June 30, 2010 and December 31, 2009 was as follows:

(dollars in thousands)

 

     June 30,
2010
   December 31,
2009

Balance of loans serviced for others

   $ 1,400,120    $ 1,277,832

MSR as a percentage of serviced loans

     0.92%      0.99%

The amount of contractually specified servicing fees, late fees and ancillary fees earned, recorded in mortgage banking revenue on the Condensed Consolidated Statements of Operations, was $930,000 and $1.8 million for the three and six months ended June 30, 2010, as compared to $738,000 and $1.4 million for the three and six months ended June 30, 2009.

Key assumptions used in measuring the fair value of MSR as of June 30, 2010 and December 31, 2009 were as follows:

 

     June 30,
2010
   December 31,
2009

Constant prepayment rate

   16.85%    18.35%

Discount rate

   8.66%    8.70%

Weighted average life (years)

   4.7    4.5

 

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Note 7 – Other Real Estate Owned

The following table presents the changes in non-covered other real estate owned for the three and six months ended June 30, 2010 and 2009:

(in thousands)

 

     Three months ended
June 30,
   Six months ended June 30,
     2010    2009    2010    2009

Balance, beginning of period

   $ 18,872     $ 32,766     $ 24,566     $ 27,898 

Additions to OREO

     11,888       16,603       17,895       25,359 

Dispositions of OREO

     (4,293)      (12,374)      (15,087)      (14,651)

Valuation adjustments in the period

     (814)      (965)      (1,721)      (2,576)
                           

Balance, end of period

   $ 25,653     $ 36,030     $ 25,653    $ 36,030 
                           

Note 8 – Junior Subordinated Debentures

As of June 30, 2010, the Company had 14 wholly-owned trusts (“Trusts”), including a Master Trust formed in 2007 to issue two separate series of trust preferred securities, that were formed to issue trust preferred securities and related common securities of the Trusts and are not consolidated. Nine Trusts, representing aggregate total obligations of approximately $96.0 million (fair value of approximately $107.3 million as of the merger dates), were assumed in connection with previous mergers.

Following is information about the Trusts as of June 30, 2010:

Junior Subordinated Debentures

(dollars in thousands)

 

Trust Name

   Issue Date    Issued
Amount
   Carrying
Value (1)
   Rate (2)     Effective
Rate (3)
   Maturity Date    Redemption
Date

AT FAIR VALUE:

                   

Umpqua Statutory Trust II

   October 2002    $ 20,619    $ 13,685    Floating  (4)    11.62%    October 2032    October 2007

Umpqua Statutory Trust III

   October 2002      30,928      20,781    Floating  (5)    11.62%    November 2032    November 2007

Umpqua Statutory Trust IV

   December 2003      10,310      6,382    Floating  (6)    11.64%    January 2034    January 2009

Umpqua Statutory Trust V

   December 2003      10,310      6,375    Floating  (6)    11.64%    March 2034    March 2009

Umpqua Master Trust I

   August 2007      41,238      19,956    Floating  (7)    11.69%    September 2037    September 2012

Umpqua Master Trust IB

   September 2007      20,619      12,411    Floating  (8)    11.65%    December 2037    December 2012
                           
        134,024      79,590           
                           

AT AMORTIZED COST:

                   

HB Capital Trust I

   March 2000      5,310      6,413    10.875%      8.13%    March 2030    March 2010

Humboldt Bancorp Statutory Trust I

   February 2001      5,155      5,955    10.200%      8.17%    February 2031    February 2011

Humboldt Bancorp Statutory Trust II

   December 2001      10,310      11,458    Floating  (9)    3.25%    December 2031    December 2006

Humboldt Bancorp Statutory Trust III

   September 2003      27,836      30,800    Floating  (10)    2.73%    September 2033    September 2008

CIB Capital Trust

   November 2002      10,310      11,285    Floating  (5)    3.16%    November 2032    November 2007

Western Sierra Statutory Trust I

   July 2001      6,186      6,186    Floating  (11)    3.92%    July 2031    July 2006

Western Sierra Statutory Trust II

   December 2001      10,310      10,310    Floating  (9)    4.14%    December 2031    December 2006

Western Sierra Statutory Trust III

   September 2003      10,310      10,310    Floating  (12)    3.20%    September 2033    September 2008

Western Sierra Statutory Trust IV

   September 2003      10,310      10,310    Floating  (12)    3.20%    September 2033    September 2008
                           
        96,037      103,027           
                           
   Total    $ 230,061    $ 182,617           
                           

 

(1) Includes purchase accounting adjustments, net of accumulated amortization, for junior subordinated debentures assumed in connection with previous mergers as well as fair value adjustments related to trusts recorded at fair value.
(2) Contractual interest rate of junior subordinated debentures.
(3) Effective interest rate based upon the carrying value as of June 2010.
(4) Rate based on LIBOR plus 3.35%, adjusted quarterly.
(5) Rate based on LIBOR plus 3.45%, adjusted quarterly.
(6) Rate based on LIBOR plus 2.85%, adjusted quarterly.
(7) Rate based on LIBOR plus 1.35%, adjusted quarterly.
(8) Rate based on LIBOR plus 2.75%, adjusted quarterly.
(9) Rate based on LIBOR plus 3.60%, adjusted quarterly.
(10) Rate based on LIBOR plus 2.95%, adjusted quarterly.
(11) Rate based on LIBOR plus 3.58%, adjusted quarterly.
(12) Rate based on LIBOR plus 2.90%, adjusted quarterly.

The $230.1 million of trust preferred securities issued to the Trusts as of June 30, 2010 and December 31, 2009, with carrying values of $182.6 million and $188.9 million, respectively, are reflected as junior subordinated debentures in the Condensed Consolidated Balance Sheets. The common stock issued by the Trusts is recorded in other assets in the Condensed Consolidated Balance Sheets, and totaled $6.9 million at June 30, 2010 and December 31, 2009.

 

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All of the debentures issued to the Trusts, less the common stock of the Trusts, qualified as Tier 1 capital as of June 30, 2010, under guidance issued by the Board of Governors of the Federal Reserve System (“Federal Reserve Board”). Effective April 11, 2005, the Federal Reserve Board adopted a rule that permits the inclusion of trust preferred securities in Tier 1 capital, but with stricter quantitative limits. The Federal Reserve Board rule, with a five-year transition period set to end on March 31, 2009, would have limited the aggregate amount of trust preferred securities and certain other restricted core capital elements to 25% of Tier 1 capital, net of goodwill and any associated deferred tax liability. The rule allowed the amount of trust preferred securities and certain other elements in excess of the limit to be included in Tier 2 capital, subject to restrictions. In response to the stressed conditions in the financial markets and in order to promote stability in the financial markets and the banking industry, on March 17, 2009, the Federal Reserved adopted a new rule that delayed the effective date of the new limits on the inclusion of trust preferred securities and other restricted core capital elements in Tier 1 capital until March 31, 2011. At June 30, 2010, the Company’s restricted core capital elements were 19% of total core capital, net of goodwill and any associated deferred tax liability. There can be no assurance that the Federal Reserve Board will not further limit the amount of trust preferred securities permitted to be included in Tier 1 capital for regulatory capital purposes.

On January 1, 2007 the Company selected the fair value measurement option for certain pre-existing junior subordinated debentures of $97.9 million (the Umpqua Statutory Trusts). The remaining junior subordinated debentures as of the adoption date were acquired through business combinations and were measured at fair value at the time of acquisition. In 2007, the Company issued two series of trust preferred securities and elected to measure each instrument at fair value. Accounting for the junior subordinated debentures originally issued by the Company at fair value enables us to more closely align our financial performance with the economic value of those liabilities. Additionally, we believe it improves our ability to manage the market and interest rate risks associated with the junior subordinated debentures. The junior subordinated debentures measured at fair value and amortized cost have been presented as separate line items on the balance sheet. The ending carrying (fair) value of the junior subordinated debentures measured at fair value represents the estimated amount that would be paid to transfer these liabilities in an orderly transaction amongst market participants under current market conditions as of the measurement date.

Due to inactivity in the junior subordinated debenture market and the inability to obtain observable quotes of our, or similar, junior subordinated debenture liabilities or the related trust preferred securities when traded as assets, we utilize an income approach valuation technique to determine the fair value of these liabilities using our estimation of market discount rate assumptions. The significant inputs utilized in the estimation of fair value of these instruments is the credit risk adjusted spread and three month LIBOR. The credit risk adjusted spread represents the nonperformance risk of the liability, contemplating the inherent risk of the obligation. Generally, an increase in the credit risk adjusted spread and/or a decrease in the three month LIBOR will result in positive fair value adjustments. Conversely, a decrease in the credit risk adjusted spread and/or an increase in the three month LIBOR will result in negative fair value adjustments. Prior to the second quarter of 2009, we estimated the fair value of junior subordinated debentures using an internal discounted cash flow model. The future cash flows of these instruments were extended to the next available redemption date or maturity date as appropriate based upon the estimated credit risk adjusted spreads of recent issuances or quotes from brokers for comparable bank holding companies, as available, compared to the contractual spread of each junior subordinated debenture measured at fair value. For additional assurance, we obtain a valuation from a third-party pricing service to validate the results of our model.

In the second quarter of 2009, due to continued inactivity in the junior subordinated debenture and related markets and clarified guidance relating to the determination of fair value when the volume and level of activity for an asset or liability have significantly decreased or where transactions are not orderly, management evaluated and determined to rely on a third-party pricing service to estimate the fair value of these liabilities. The pricing service utilized an income approach valuation technique, specifically an option-adjusted spread (“OAS”) valuation model. This OAS model values the cash flows over multiple interest rate scenarios and discounts these cash flows using a credit risk adjustment spread over the three month LIBOR swap curve. The OAS model utilized is more sophisticated and computationally intensive than the model previously used; however, the models react similarly to changes in the underlying inputs, and the results are considered comparable. With the assistance of a third-party pricing service, we determined that a credit risk adjusted spread of 725 basis points (an effective yield of approximately 11.6%) was representative of the nonperformance risk premium a market participant would require under current market conditions as of March 31, 2010. Generally, an increase in the credit risk adjusted spread and/or a decrease in the swap curve will result in positive fair value adjustments. Conversely, a decrease in the credit risk adjusted spread and/or an increase in the swap curve will result in negative fair value adjustments.

In July 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) was signed into law which, among other things, limits the ability for certain bank holding companies to treat trust preferred security debt issuances as Tier 1 capital. It is anticipated that this law may require many banks to raise new Tier 1 capital and would effectively close the trust-preferred securities markets from offering new issuances in the future. As a result of this pending legislation, our third-party pricing service noted that they are no longer to able to provide reliable fair value estimates related to these liabilities given the absence of observable or comparable transactions in the market place in recent history or as anticipated into the future. As a result, for the second quarter of 2010 Management evaluated current market conditions and determined that the 11.6% effective yield utilized to discount the junior subordinated debentures, and the related prices, to determine fair value as of March 31, 2010 continued to represent appropriate estimates the fair value of these liabilities as of June 30, 2010. Therefore, the Company recognized no change in fair value of the junior subordinated debentures measured at fair value through the income statement in the second quarter of 2010. Since the Company had less than $15 billion in assets at December 31, 2009, under the Dodd-Frank Act, the Company will be able to continue to include its existing trust preferred securities in Tier 1 capital.

 

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In the third quarter of 2010, the Company anticipates utilizing a discounted cash flow model to measure these instruments at fair value each reporting period, which management believes will have the effect of amortizing the cumulative fair value discount of $54.4 million as of June 30, 2010, over each junior subordinated debenture’s expected term, to eventually return the carrying value of these instruments to their notional values at their expected redemption dates. Management anticipates this will result in recognizing losses on junior subordinated debentures carried at fair value on quarterly basis within non-interest income. The Company will continue to monitor activity in the trust preferred markets to validate the 11.6% effective yield utilized. Observable activity in the junior subordinated debenture and related markets in future periods may change the effective rate used to discount these liabilities, and could result in additional fair value adjustments (gains or losses on junior subordinated debentures measured at fair value) above the periodic amortization of cumulative fair value discount under the effective yield method.

For the three and six months ended June 30, 2010, we recorded no gain and a $6.1 million gain, respectively, as compared to gains of $8.6 million and $9.2 million, for the three and six months ended June 30, 2009, respectively, resulting from the change in fair value of the junior subordinated debentures recorded at fair value. The change in fair value of the junior subordinated debentures carried at fair value in the current year primarily results from the widening of the credit risk adjusted spread over the contractual rate of each junior subordinated debenture measured at fair value. Management believes that the credit risk adjusted spread being utilized is indicative of the nonperformance risk premium a willing market participant would require under current market conditions, that is, the inactive market. In management’s estimation, a change in fair value of the junior subordinated debentures during the period represents changes in the market’s nonperformance risk expectations and pricing of this type of debt, and not as a result of changes to our entity-specific credit risk. Any gains recognized are recorded in gain on junior subordinated debentures carried at fair value within non-interest income. The contractual interest expense on junior subordinated debentures continues to be recorded on an accrual basis and is reported in interest expense. The junior subordinated debentures recorded at fair value of $79.6 million had contractual unpaid principal amounts of $134.0 million outstanding as of June 30, 2010. The junior subordinated debentures recorded at fair value of $85.7 million had contractual unpaid principal amounts of $134.0 million outstanding as of December 31, 2009.

Note 9 – Commitments and Contingencies

Lease Commitments — The Company leases 124 sites under non-cancelable operating leases. The leases contain various provisions for increases in rental rates, based either on changes in the published Consumer Price Index or a predetermined escalation schedule. Substantially all of the leases provide the Company with the option to extend the lease term one or more times following expiration of the initial term. In connection with the Nevada Security acquisition, the Company operated in five additional leased facilities at June 30, 2010. The option to assume these leases from the FDIC expires 90 days from acquisition date if not extended.

Rent expense for the three and six months ended June 30, 2010 was $3.8 million and $7.3 million, respectively, compared to $3.1 million and $6.2 million, respectively, in the comparable periods in 2009. Rent expense was offset by rent income for the three and six months ended June 30, 2010 of $327,000 and $475,000 respectively, compared to $131,000 and $280,000, respectively, in the comparable periods in 2009.

Financial Instruments with Off-Balance-Sheet Risk — The Company’s financial statements do not reflect various commitments and contingent liabilities that arise in the normal course of the Bank’s business and involve elements of credit, liquidity, interest rate risk.

The following table presents a summary of the Bank’s commitments and contingent liabilities:

(in thousands)

 

           As of June 30, 2010       

Commitments to extend credit

     $ 993,238  

Commitments to extend overdrafts

     $ 219,432  

Commitments to originate loans held for sale

     $ 123,799  

Forward sales commitments

     $ 94,090  

Standby letters of credit

     $ 44,443  

The Bank is a party to financial instruments with off-balance-sheet credit risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, standby letters of credit and financial guarantees. Those instruments involve elements of credit and interest-rate risk similar to the amounts recognized in the Condensed Consolidated Balance Sheets. The contract or notional amounts of those instruments reflect the extent of the Bank’s involvement in particular classes of financial instruments.

 

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The Bank’s exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit, and financial guarantees written, is represented by the contractual notional amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments.

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any covenant or condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. While most standby letters of credit are not utilized, a significant portion of such utilization is on an immediate payment basis. The Bank evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if it is deemed necessary by the Bank upon extension of credit, is based on management’s credit evaluation of the counterparty. Collateral varies but may include cash, accounts receivable, inventory, premises and equipment and income-producing commercial properties.

Standby letters of credit and financial guarantees written are conditional commitments issued by the Bank to guarantee the performance of a customer to a third party. These guarantees are primarily issued to support public and private borrowing arrangements, including international trade finance, commercial paper, bond financing and similar transactions. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Bank holds cash, marketable securities, or real estate as collateral supporting those commitments for which collateral is deemed necessary. The Bank has not been required to perform on any financial guarantees and did not incur any losses in connection with standby letters of credit during the three and six months ended June 30, 2010 and 2009. At June 30, 2010, approximately $29.7 million of standby letters of credit expire within one year, and $13.9 million expire thereafter. Upon issuance, the Company recognizes a liability equivalent to the amount of fees received from the customer for these standby letter of credit commitments. Fees are recognized ratably over the term of the standby letter of credit. The estimated fair value of guarantees associated with standby letters of credit was $165,000 as of June 30, 2010.

At June 30, 2010 and December 31, 2009, the reserve for unfunded commitments, which is included in other liabilities on the Condensed Consolidated Balance Sheets, was $735,000 and $731,000, respectively. The adequacy of the reserve for unfunded commitments is reviewed on a quarterly basis, based upon changes in the amount of commitments, loss experience, and economic conditions.

Mortgage loans sold to investors may be sold with servicing rights retained, with only the standard legal representations and warranties regarding recourse to the Bank. Management believes that any liabilities that may result from such recourse provisions are not significant.

Legal Proceedings— During 2007, Visa Inc. (“Visa”) announced that it completed restructuring transactions in preparation for an initial public offering of its Class A stock, and, as part of those transactions, Umpqua Bank’s membership interest was exchanged for 764,036 shares of Class B common stock in Visa. In March 2008, Visa completed its initial public offering. Following the initial public offering, the Company received $12.6 million proceeds as a mandatory partial redemption of 295,377 shares, reducing the Company’s holdings from 764,036 shares to 468,659 shares of Class B common stock. A conversion ratio of 0.71429 was established for the conversion rate of Class B shares into Class A shares. Using the proceeds from this offering, Visa also established a $3.0 billion escrow account to cover settlements, resolution of pending litigation and related claims (“covered litigation”).

In October 2008, Visa announced that it had reached a settlement with Discover Card related to an antitrust lawsuit. Umpqua Bank and other Visa member banks were obligated to fund the settlement and share in losses resulting from this litigation that were not already provided for in the escrow account. In December 2008, Visa deposited additional funds into the escrow account to cover the remaining amount of the settlement. The deposit of funds into the escrow account further reduced the conversion ratio applicable to Class B common stock outstanding from 0.71429 per Class A share to 0.6296 per Class A share.

In July 2009, Visa deposited an additional $700 million into the litigation escrow account. While the outcome of the remaining litigation cases remains unknown, this addition to the escrow account provides additional reserves to cover potential losses. As a result of the deposit, the conversion ratio applicable to Class B common stock outstanding decreased further from 0.6296 per Class A share to 0.5824 per Class A share.

In May 2010, Visa deposited an additional $500 million into the litigation escrow account. As a result of the deposit, the conversion ratio applicable to Class B common stock outstanding decreased further from 0.5824 per Class A share to 0.5550 per Class A share.

The remaining unredeemed shares of Visa Class B common stock are restricted and may not be transferred until the later of (1) three years from the date of the initial public offering or (2) the period of time necessary to resolve the covered litigation. If the funds in the escrow account are insufficient to settle all the covered litigation, Visa may sell additional Class A shares, use the proceeds to settle litigation, and further reduce the conversion ratio. If funds remain in the escrow account after all litigation is settled, the Class B conversion ratio will be increased to reflect that surplus.

 

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As of June 30, 2010, the value of the Class A shares was $70.75 per share. Utilizing the new conversion ratio effective in May 2010, the value of unredeemed Class A equivalent shares owned by the Company was $18.4 million as of June 30, 2010, and has not been reflected in the accompanying financial statements.

In the ordinary course of business, various claims and lawsuits are brought by and against the Company, the Bank and Umpqua Investments. In the opinion of management, there is no pending or threatened proceeding in which an adverse decision could result in a material adverse change in the Company’s consolidated financial condition or results of operations. Management has considered the potential impact of one or more adverse decisions in the actions brought by Kevin D. Padrick, Trustee of the Summit Accommodators Liquidating Trust and Danae Miller, et al., as described in Part II, Item 1. Based on the allegations in the complaint and our understanding of the relevant facts and circumstances, we believe that the claims are without merit and the Company is vigorously defending the claims. No loss accrual has been made for either of these claims in the accompanying unaudited consolidated financial statements.

Concentrations of Credit Risk - The Company grants real estate mortgage, real estate construction, commercial, agricultural and installment loans and leases to customers throughout Oregon, Washington and California. In management’s judgment, a concentration exists in real estate-related loans, which represented approximately 82% and 81% of the Company’s non-covered loan and lease portfolio at June 30, 2010, and December 31, 2009, respectively. Commercial real estate concentrations are managed to assure wide geographic and business diversity. Although management believes such concentrations have no more than the normal risk of collectibility, a substantial decline in the economy in general, material increases in interest rates, changes in tax policies, tightening credit or refinancing markets, or a decline in real estate values in the Company’s primary market areas in particular, such as was seen with the deterioration in the residential development market since 2007, could have an adverse impact on the repayment of these loans. Personal and business incomes, proceeds from the sale of real property, or proceeds from refinancing, represent the primary sources of repayment for a majority of these loans.

The Bank recognizes the credit risks inherent in dealing with other depository institutions. Accordingly, to prevent excessive exposure to any single correspondent, the Bank has established general standards for selecting correspondent banks as well as internal limits for allowable exposure to any single correspondent. In addition, the Bank has an investment policy that sets forth limitations that apply to all investments with respect to credit rating and concentrations with an issuer.

Note 10 – Derivatives

The Company may use derivatives to hedge the risk of changes in the fair values of interest rate lock commitments, residential mortgage loans held for sale, and mortgage servicing rights. None of the Company’s derivatives are designated as hedging instruments. Rather, they are accounted for as free-standing derivatives, or economic hedges, with changes in the fair value of the derivatives reported in income. The Company primarily utilizes forward interest rate contracts in its derivative risk management strategy.

The Bank enters into forward delivery contracts to sell residential mortgage loans or mortgage-backed securities to broker/dealers at specific prices and dates (“MBS TBAs”) in order to hedge the interest rate risk in its portfolio of mortgage loans held for sale and its residential mortgage loan commitments. Credit risk associated with forward contracts is limited to the replacement cost of those forward contracts in a gain position. There were no counterparty default losses on forward contracts in the three and six months ended June 30, 2010 and 2009. Market risk with respect to forward contracts arises principally from changes in the value of contractual positions due to changes in interest rates. The Bank limits its exposure to market risk by monitoring differences between commitments to customers and forward contracts with broker/dealers. In the event the Company has forward delivery contract commitments in excess of available mortgage loans, the Company completes the transaction by either paying or receiving a fee to or from the broker/dealer equal to the increase or decrease in the market value of the forward contract. At June 30, 2010, the Bank had commitments to originate mortgage loans held for sale totaling $123.8 million and forward sales commitments of $94.1 million.

 

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The following tables summarize the types of derivatives, separately by assets and liabilities, their locations on the Condensed Consolidated Balance Sheets, and the fair values of such derivatives as of June 30, 2010 and December 31, 2009:

(in thousands)

 

Underlying

Risk Exposure

  

Description

  

Balance Sheet

Location

   June 30,
2010
   December 31,
2009

Asset Derivatives

           

Interest rate contracts

   Rate lock commitments    Other assets      $ 1,198        $ 124  

Interest rate contracts

   Forward sales commitments    Other assets      9        845  
                   

Total asset derivatives

           $ 1,207        $ 969  
                   

Liability Derivatives

           

Interest rate contracts

   Rate lock commitments    Other liabilities      $ 2        $ 133  

Interest rate contracts

   Forward sales commitments    Other liabilities      1,135        -       
                   

Total liability derivatives

           $       1,137        $         133  
                   

The following table summarizes the types of derivatives, their locations within the Condensed Consolidated Statements of Operations, and the gains (losses) recorded during the three and six months ended June 30, 2010 and 2009:

(in thousands)

 

Underlying

Risk Exposure

  

Description

  

Income Statement

Location

   Three months ended
June  30,
         2010    2009

Interest rate contracts

   Rate lock commitments    Mortgage banking revenue      $ 1,040        $ (894) 

Interest rate contracts

   Forward sales commitments    Mortgage banking revenue      (3,517)       1,263  
                   

Total

           $ (2,477)       $ 369  
                   

Underlying

Risk Exposure

  

Description

  

Income Statement

Location

   Six months ended
June 30,
         2010    2009

Interest rate contracts

   Rate lock commitments    Mortgage banking revenue      $ 1,207        $ (765) 

Interest rate contracts

   Forward sales commitments    Mortgage banking revenue      (4,349)       307  
                   

Total

           $ (3,142)       $ (458) 
                   

The Company’s derivative instruments do not have specific credit risk-related contingent features. The forward sales commitments do have contingent features that may require transferring collateral to the broker/dealers upon their request. However, this amount would be limited to the net unsecured loss exposure at such point in time and would not materially affect the Company’s liquidity or results of operations.

Note 11 – Shareholders’ Equity

On February 3, 2010, the Company raised $303.6 million through a public offering by issuing 8,625,000 shares of the Company’s common stock, including 1,125,000 shares pursuant to the underwriters’ over-allotment option, at a share price of $11.00 per share and 18,975,000 depository shares, including 2,475,000 depository shares pursuant to the underwriter’s over-allotment option, also at a price of $11.00 per share. Fractional interests (1/100th) in each share of the Series B Common Stock Equivalent were represented by the 18,975,000 depositary shares; as a result, each depositary share would convert into one share of common stock. The net proceeds to the Company after deducting underwriting discounts and commissions and offering expenses were $288.1 million. The net proceeds from the offering were used to redeem the preferred stock issued to the United States Department of the Treasury (U.S. Treasury) under the Troubled Asset Relief Program (“TARP”) Capital Purchase Program (“CPP”), to fund FDIC-assisted acquisition opportunities and for general corporate purposes.

On February 17, 2010, the Company redeemed all of the outstanding Fixed Rate Cumulative Perpetual Preferred Stock, Series A, issued to the U.S. Treasury under the TARP CPP for an aggregate purchase price of $214.2 million. As a result of the repurchase of the Series A preferred stock, the Company incurred a one-time deemed dividend of $9.7 million due to the accelerated amortization of the remaining issuance discount on the preferred stock.

On March 31, 2010, the Company repurchased the common stock warrant issued to the U.S. Treasury pursuant to the TARP CPP, for $4.5 million. The warrant repurchase, together with the Company’s redemption in February 2010 of the entire amount of Fixed Rate Cumulative Perpetual Preferred Stock, Series A, issued to the U.S. Treasury, represents full repayment of all TARP obligations and cancellation of all equity interests in the Company held by the U.S. Treasury.

 

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On April 20, 2010, shareholders of the Company approved an amendment to the Company’s Restated Articles of Incorporation. The amendment, which became effective on April 21, 2010, increased the number of authorized shares of common stock to 200,000,000 (from 100,000,000). As a result of the effectiveness of the amendment, as of the close of business on April 21, 2010, the Company’s Series B Common Stock Equivalent preferred stock automatically converted into newly issued shares of common stock at a conversion rate of 100 shares of common stock for each share of Series B Common Stock Equivalent preferred stock. All shares of Series B Common Stock Equivalent preferred stock and representative depositary shares ceased to exist upon the conversion. Trading in the depositary shares on NASDAQ (ticker symbol “UMPQP”) ceased and the UMPQP symbol voluntarily delisted effective as of the close of business on April 21, 2010.

Stock-Based Compensation

The compensation cost related to stock options, restricted stock and restricted stock units (included in salaries and employee benefits) was $799,000 and $1.4 million for the three and six months ended June 30, 2010, respectively, as compared to $388,000 and $1.3 million for the three and six months ended June 30, 2009, respectively. The total income tax benefit recognized related to stock-based compensation was $320,000 and $570,000 for the three and six months ended June 30, 2010, respectively, as compared to $155,000 and $521,000 for the comparable periods in 2009, respectively.

The following table summarizes information about stock option activity for the six months ended June 30, 2010:

(in thousands, except per share data)

 

     Six months ended June 30, 2010
     Options
      Outstanding      
   Weighted-Avg
    Exercise Price    
   Weighted-Avg
  Remaining Contractual  
Term (Years)
   Aggregate
  Intrinsic Value  

Balance, beginning of period

   1,763      $       15.05        

Granted

   230      $ 12.16        

Exercised

   (101)     $ 9.09        

Forfeited/expired

   (7)     $ 14.99        
             

Balance, end of period

   1,885      $ 15.01      6.06        $       1,732  
             

Options exercisable, end of period

   1,203      $ 16.68      4.60        $ 1,350  
             

The total intrinsic value (which is the amount by which the stock price exceeded the exercise price on the date of exercise) of options exercised during the three and six months ended June 30, 2010 was $93,000 and $382,000, respectively. This compared to the total intrinsic value of options exercised during the three and six months ended June 30, 2009 of $186,000 and $205,000, respectively. During the three and six months ended June 30, 2010, the amount of cash received from the exercise of stock options was $153,000 and $917,000, respectively, as compared to $180,000 and $232,000 for the same periods in 2009, respectively.

The fair value of each option grant is estimated as of the grant date using the Black-Scholes option-pricing model. The following weighted average assumptions were used for stock options granted in the six months ended June 30, 2010 and 2009:

 

                 Six months ended             
June 30,
                 2010                             2009             

Dividend yield

     2.73%       2.23% 

Expected life (years)

     7.1        7.3  

Expected volatility

     52%       46% 

Risk-free rate

     3.04%       2.17% 

Weighted average fair value of options on date of grant

     $       5.18        $       3.64  

 

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The Company grants restricted stock periodically as a part of the 2003 Stock Incentive Plan for the benefit of employees. Restricted shares issued generally vest on an annual basis over five years. A deferred restricted stock award was granted to an executive in the second quarter of 2007. The award vests monthly based on continued service in various increments through July 1, 2011. The Company will issue certificates for the vested award within the seventh month following termination of the executive’s employment. The following table summarizes information about nonvested restricted share activity for the six months ended June 30, 2010:

(in thousands, except per share data)

 

           Six months ended June 30, 2010       
     Restricted
Shares
        Outstanding         
   Weighted
Average Grant
        Date Fair  Value        

Balance, beginning of period

   187        $       21.46  

Granted

   221        $ 12.13  

Released

   (43)       $ 22.43  

Forfeited/expired

   (2)       $ 16.38  
       

Balance, end of period

   363        $ 15.68  
       

The total fair value of restricted shares vested and released during the three and six months ended June 30, 2010 was $51,000 and $538,000, respectively. This compares to the total fair value of restricted shares vested and released during the three and six months ended June 30, 2009 of $33,000 and $409,000, respectively.

The Company grants restricted stock units as a part of the 2007 Long Term Incentive Plan for the benefit of certain executive officers. Restricted stock unit grants are subject to performance-based vesting as well as other approved vesting conditions. In the second quarter of 2007, restricted stock units were granted that cliff vest after three years based on performance and service conditions. In the first quarter of 2008 and 2009, additional restricted stock units were granted to these executives under substantially similar vesting terms. The total number of restricted stock units granted represents the maximum number of restricted stock units eligible to vest based upon the performance and service conditions set forth in the grant agreements. The following table summarizes information about restricted stock unit activity for the six months ended June 30, 2010:

(in thousands, except per share data)

 

           Six months ended June 30, 2010       
     Restricted
Stock Units
        Outstanding      
   Weighted Average
Grant
        Date Fair  Value      

Balance, beginning of period

   335      $       15.54

Granted

   -           $ -       

Released

   (16)     $ 24.52

Forfeited/expired

   (95)     $ 24.52
       

Balance, end of period

   224      $ 11.13
       

No restricted stock units were vested and released during the three months ended June 30, 2010. The total fair value of restricted stock units vested and released during the six months ended June 30, 2010 was $213,000. This compares to the total fair value of restricted stock units vested and released during the three and six months ended June 30, 2009 of none and $186,000, respectively.

As of June 30, 2010, there was $2.2 million of total unrecognized compensation cost related to nonvested stock options which is expected to be recognized over a weighted-average period of 3.5 years. As of June 30, 2010, there was $3.8 million of total unrecognized compensation cost related to nonvested restricted stock which is expected to be recognized over a weighted-average period of 3.1 years. As of June 30, 2010, there was $344,000 of total unrecognized compensation cost related to nonvested restricted stock units which is expected to be recognized over a weighted-average period of 1.1 years, assuming expected performance conditions are met.

For the three and six months ended June 30, 2010, the Company received income tax benefits of $54,000 and $380,000, respectively, related to the exercise of non-qualified employee stock options, disqualifying dispositions on the exercise of incentive stock options, the vesting of restricted shares and the vesting of restricted stock units. For the three and six months ended June 30, 2009, the Company received income tax benefits of $88,000 and $306,000, respectively. In the six months ended June 30, 2010, the Company had net tax deficiencies (tax deficiency resulting from tax deductions less than the compensation cost recognized) of $205,000, compared to net tax deficiencies of $351,000 for the six months ended June 30, 2009. Only cash flows from gross excess tax benefits are classified as financing cash flows.

 

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Note 12 – Income Taxes

The Company and its subsidiaries file income tax returns in the U.S. federal jurisdiction, as well as the Oregon and California state jurisdictions. Except for the California amended returns of an acquired institution for the tax years 2001, 2002, and 2003, and only as it relates to the net interest deduction taken on these amended returns, the Company is no longer subject to U.S. federal or Oregon state tax authority examinations for years before 2006 and California state tax authority examinations for years before 2004. The Internal Revenue Service concluded an examination of the Company’s U.S. income tax returns for 2003 and 2004 in the second quarter of 2006, concluded an examination of the Company’s U.S. amended income tax return for 2005 in the third quarter of 2009, and concluded an examination of the Company’s U.S. amended income tax return for 2006 and U.S. income tax return for 2007 in the second quarter of 2010. The results of these examinations had no significant impact on the Company’s financial statements.

Income taxes are accounted for using the asset and liability method. Under this method a deferred tax asset or liability is determined based on the enacted tax rates which will be in effect when the differences between the financial statement carrying amounts and tax basis of existing assets and liabilities are expected to be reported in the Company’s income tax returns. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment date. Valuation allowances are established to reduce the net carrying amount of deferred tax assets if it is determined to be more likely than not, that all or some portion of the potential deferred tax asset will not be realized.

The Company applies the provisions of FASB ASC 740, Income Taxes, relating to the accounting for uncertainty in income taxes. The Company periodically reviews its income tax positions based on tax laws and regulations and financial reporting considerations, and records adjustments as appropriate. This review takes into consideration the status of current taxing authorities’ examinations of the Company’s tax returns, recent positions taken by the taxing authorities on similar transactions, if any, and the overall tax environment.

The Company recorded a reduction in its liability for unrecognized tax benefits relating to temporary differences settled during audit in the second quarter of 2010. The Company had gross unrecognized tax benefits recorded as of June 30, 2010 in the amount of $811,000. If recognized, the unrecognized tax benefit would reduce the 2010 annual effective tax rate by 1.9%. During the first six months of 2010, the Company recognized a benefit of $195,000 in interest reversed due to the reduction of its liability for unrecognized tax benefits during the same period. Interest expense is reported by the Company as a component of tax expense. As of June 30, 2010, the accrued interest related to unrecognized tax benefits is $170,000.

Note 13 – Earnings Per Common Share

Nonvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents are participating securities and are included in the computation of EPS pursuant to the two-class method. The two-class method is an earnings allocation formula that determines earnings per share for each class of common stock and participating security according to dividends declared (or accumulated) and participation rights in undistributed earnings. Certain of the Company’s nonvested restricted stock awards qualify as participating securities.

Net income, less any preferred dividends accumulated for the period (whether or not declared), is allocated between the common stock and participating securities pursuant to the two-class method. Basic earnings per common share is computed by dividing net income available to common shareholders by the weighted average number of common shares outstanding during the period, excluding participating nonvested restricted shares.

Diluted earnings per common share is computed in a similar manner, except that first the denominator is increased to include the number of additional common shares that would have been outstanding if potentially dilutive common shares, excluding the participating securities, were issued using the treasury stock method. For all periods presented, warrants, stock options, certain restricted stock awards and restricted stock units are the only potentially dilutive non-participating instruments issued by the Company. Next, we determine and include in diluted earnings per common share calculation the more dilutive effect of the participating securities using the treasury stock method or the two-class method. Undistributed losses are not allocated to the nonvested share-based payment awards (the participating securities) under the two-class method as the holders are not contractually obligated to share in the losses of the Company.

 

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The following is a computation of basic and diluted loss per common share for the three and six months ended June 30, 2010 and 2009:

(in thousands, except per share data)

 

         Three months ended    
June  30,
       Six months ended    
June  30,
     2010    2009    2010    2009

NUMERATORS:

           

Net income (loss)

       $ 3,463        $ (104,291)       $ 13,188        $ (119,540) 

Less:

           

Preferred stock dividends

     -             3,216        12,192        6,407  

Dividends and undistributed earnings allocated to participating securities (1)

     16        7        31        15  
                           

Net income (loss) available to common shareholders

     $ 3,447        $ (107,514)       $ 965        $ (125,962) 
                           

DENOMINATORS:

           

Weighted average number of common shares outstanding - basic

     110,135        60,221        101,205        60,199  

Effect of potentially dilutive common shares (2)

     220        -             230        -       

Preferred convertible stock

     4,378        -             -             -       
                           

Weighted average number of common shares outstanding - diluted

     114,733        60,221        101,435        60,199  
                           

LOSS PER COMMON SHARE:

           

Basic

     $ 0.03        $ (1.79)       $ 0.01        $ (2.09) 

Diluted

     $ 0.03        $ (1.79)       $ 0.01        $ (2.09) 

 

(1) Represents dividends paid and undistributed earnings allocated to nonvested restricted stock awards.
(2) Represents the effect of the assumed exercise of warrants, assumed exercise of stock options, vesting of non-participating restricted shares, and vesting of restricted stock units, based on the treasury stock method.

The following table presents the weighted average outstanding securities that were not included in the computation of diluted earnings per common share because their effect would be anti-dilutive for the three and six months ended June 30, 2010 and 2009.

(in thousands)

 

         Three months ended    
June  30,
       Six months ended    
June 30,
     2010    2009    2010    2009

Stock options

   1,895      1,819      1,875      1,878  

CPP warrant

   -           2,222      552      2,222  

Non-participating, nonvested restricted shares

   10      18      11      20  

Restricted stock units

   -           95      -           119  
                   
   1,905      4,154      2,438      4,239  
                   

Note 14 – Segment Information

The Company operates three primary segments: Community Banking, Mortgage Banking and Retail Brokerage. The Community Banking segment’s principal business focus is the offering of loan and deposit products to business and retail customers in its primary market areas. As of June 30, 2010, the Community Banking segment operated 182 locations throughout Oregon, Northern California, Washington, and Nevada.

The Mortgage Banking segment, which operates as a division of the Bank, originates, sells and services residential mortgage loans.

The Retail Brokerage segment consists of the operations of Umpqua Investments, which offers a full range of retail brokerage services and products to its clients who consist primarily of individual investors. The Company accounts for intercompany fees and services between Umpqua Investments and the Bank at estimated fair value according to regulatory requirements for services provided. Intercompany items relate primarily to management services, referral fees and interest on intercompany borrowings.

 

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Summarized financial information concerning the Company’s reportable segments and the reconciliation to the consolidated financial results is shown in the following tables:

Segment Information

(in thousands)

 

     Three Months Ended June 30, 2010
           Community      
Banking
   Retail
    Brokerage    
       Mortgage    
Banking
       Consolidated    
      

Interest income

     $             112,471        $                     65        $             3,068        $             115,604  

Interest expense

     22,667        -             637        23,304  
      

Net interest income

     89,804        65        2,431        92,300  

Provision for loan and lease losses

     29,767        -             -             29,767  

Non-interest income

     12,175        3,136        3,252        18,563  

Non-interest expense

     67,917        3,502        3,414        74,833  
      

Income (loss) before income taxes

     4,295        (301)       2,269        6,263  

Provision for (benefit from) income taxes

     2,004        (111)       907        2,800  
      

Net income (loss)

     2,291        (190)       1,362        3,463  

Preferred stock dividends

     -             -             -             -       

Dividends and undistributed earnings allocated to participating securities

     16        -             -             16  
      

Net earnings (loss) available to common shareholders

     $ 2,275        $ (190)       $ 1,362        $ 3,447  
      
     Six Months Ended June 30, 2010
    

      Community      

Banking

  

Retail

    Brokerage    

       Mortgage    
Banking
       Consolidated    
      

Interest income

   $             218,887      $                    143      $             5,943      $             224,973  

Interest expense

     44,289        -             1,332        45,621  
      

Net interest income

     174,598        143        4,611        179,352  

Provision for loan and lease losses

     71,873        -             -             71,873  

Non-interest income

     37,896        5,972        6,761        50,629  

Non-interest expense

     131,326        6,899        6,479        144,704  
      

Income (loss) before income taxes

     9,295        (784)       4,893        13,404  

(Benefit from) provision for income taxes

     (1,434)       (307)       1,957        216  
      

Net income (loss)

     10,729        (477)       2,936        13,188  

Preferred stock dividends

     12,192        -             -             12,192  

Dividends and undistributed earnings allocated to participating securities

     31        -             -             31  
      

Net (loss) earnings available to common shareholders

     $ (1,494)       $ (477)       $ 2,936        $ 965  
      
     Three Months Ended June 30, 2009
    

      Community      

Banking

  

Retail

    Brokerage    

       Mortgage    
Banking
       Consolidated    
      

Interest income

     $             101,636        $                     21        $             3,126        $             104,783  

Interest expense

     24,886        -             908        25,794  
      

Net interest income

     76,750        21        2,218        78,989  

Provision for loan and lease losses

     29,331        -             -             29,331  

Non-interest income

     17,681        3,078        6,291        27,050  

Non-interest expense

     171,330        3,243        4,030        178,603  
      

(Loss) income before income taxes

     (106,230)       (144)       4,479        (101,895) 

Provision for (benefit from) income taxes

     661        (57)       1,792        2,396  
      

Net (loss) income

     (106,891)       (87)       2,687        (104,291) 

Preferred stock dividends

     3,216        -             -             3,216  

Dividends and undistributed earnings allocated to participating securities

     7        -             -             7  
      

Net (loss) earnings available to common shareholders

     $ (110,114)       $ (87)       $ 2,687        $ (107,514) 
      

 

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     Six Months Ended June 30, 2009
           Community      
Banking
   Retail
    Brokerage    
       Mortgage    
Banking
       Consolidated    
      

Interest income

     $             202,784        $                     30        $             6,345        $             209,159  

Interest expense

     52,804        -             1,953        54,757  
      

Net interest income

     149,980        30        4,392        154,402  

Provision for loan and lease losses

     88,423        -             -             88,423  

Non-interest income

     27,592        4,539        10,436        42,567  

Non-interest expense

     225,789        5,293        7,472        238,554  
      

(Loss) income before income taxes

     (136,640)       (724)       7,356        (130,008) 

(Benefit from) provision for income taxes

     (13,120)       (290)       2,942        (10,468) 
      

Net (loss) income

     (123,520)       (434)       4,414        (119,540) 

Preferred stock dividends

     6,407        -             -             6,407  

Dividends and undistributed earnings allocated to participating securities

     15        -             -             15  
      

Net (loss) earnings available to common shareholders

     $ (129,942)       $ (434)       $ 4,414        $ (125,962) 
      
(in thousands)            
     June 30, 2010
           Community      
Banking
   Retail
    Brokerage    
       Mortgage    
Banking
       Consolidated    
      

Total assets

     $         10,560,416          $          14,701          $ 252,151          $ 10,827,268    

Total loans (covered and non-covered)

     $             6,395,768          $ -             $ 196,080          $ 6,591,848    

Total deposits

     $             8,542,123          $ -             $ 16,621          $ 8,558,744    
     December 31, 2009
           Community      
Banking
   Retail
    Brokerage    
       Mortgage    
Banking
       Consolidated    
      

Total assets

     $ 9,127,104          $ 13,634          $ 240,634          $ 9,381,372    

Total loans (covered and non-covered)

     $ 5,807,214          $ -             $ 192,053          $ 5,999,267    

Total deposits

     $ 7,432,647          $ -             $ 7,787          $ 7,440,434    

 

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Note 15 – Fair Value Measurement

The following table presents estimated fair values of the Company’s financial instruments as of June 30, 2010 and December 31, 2009, whether or not recognized or recorded at fair value in the Condensed Consolidated Balance Sheets:

(in thousands)

 

     June 30, 2010    December 31, 2009
     Carrying Value    Fair Value    Carrying
Value
   Fair Value

FINANCIAL ASSETS:

           

Cash and cash equivalents

     $       970,580        $       970,580        $       605,413        $       605,413  

Trading securities

     1,743        1,743        2,273        2,273  

Securities available for sale

     1,933,647        1,933,647        1,795,616        1,795,616  

Securities held to maturity

     5,493        5,464        6,061        6,136  

Loans held for sale

     40,114        40,114        33,715        33,715  

Non-covered loans and leases, net

     5,612,759        5,894,880        5,891,610        5,208,893  

Covered loans and leases

     865,175        865,175        -             -         

Restricted equity securities

     34,855        34,855        15,211        15,211  

Mortgage servicing rights

     12,895        12,895        12,625        12,625  

Bank owned life insurance assets

     88,533        88,533        86,853        86,853  

FDIC indemnification asset

     247,848        247,848        -             -       

Derivatives

     1,207        1,207        969        969  

Visa Class B common stock

     -             14,906        -             19,336  

FINANCIAL LIABILITIES:

           

Deposits

     $ 8,558,744        $ 8,554,819        $ 7,440,434        $ 7,440,631  

Securities sold under agreement to repurchase

     44,715        44,715        45,180        45,180  

Term debt

     291,505        309,244        76,274        77,130  

Junior subordinated debentures, at fair value

     79,590        79,590        85,666        85,666  

Junior subordinated debentures, at amortized cost

     103,027        64,890        103,188        69,194  

Derivatives

     1,137        1,137        133        133  

The following tables present information about the Company’s assets and liabilities measured at fair value on a recurring basis as of June 30, 2010 and December 31, 2009:

(in thousands)

 

     Fair Value at June 30, 2010
Description    Total    Level 1    Level 2    Level 3

Trading securities

           

Obligations of states and political subdivisions

     $ 206        $ 206        $ -             $ -       

Equity securities

     1,454        1,454        -             -       

Other investments securities(1)

     83        83        -             -       

Available for sale securities

           

U.S. Treasury and agencies

     129,581        -             129,581        -       

Obligations of states and political subdivisions

     230,027        -             230,027        -       

Residential mortgage-backed securities and collateralized mortgage obligations

     1,571,839        -             1,571,839        -       

Other debt securities

     159        -             159        -       

Investments in mutual funds and other equity securities

     2,041        -             2,041        -       

Mortgage servicing rights, at fair value

     12,895        -             -             12,895  

Derivatives

     1,207        -             1,207        -       
                           

Total assets measured at fair value

     $       1,949,492        $       1,743        $       1,934,854        $       12,895  
                           

Junior subordinated debentures, at fair value

     $ 79,590        $ -             $ -             $ 79,590  

Derivatives

     1,137        -             1,137        -       
                           

Total liabilities measured at fair value

     $ 80,727        $ -             $ 1,137        $ 79,590  
                           

 

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Table of Contents
(in thousands)            
     Fair Value at December 31, 2009
Description    Total    Level 1    Level 2    Level 3

Trading securities

           

Obligations of states and political subdivisions

     $ 693        $ 693        $ -             $ -       

Equity securities

     1,438        1,438        -             -       

Other investments securities(1)

     142        142        -             -       

Available for sale securities

           

U.S. Treasury and agencies

     11,794        -             11,794        -       

Obligations of states and political subdivisions

     211,825        -             211,825        -       

Residential mortgage-backed securities and collateralized mortgage obligations

           1,569,849        -                   1,569,849        -       

Other debt securities

     159        -             159        -       

Investments in mutual funds and other equity securities

     1,989        -             1,989        -       

Mortgage servicing rights, at fair value

     12,625        -             -             12,625  

Derivatives

     969        -             969        -       
                           

Total assets measured at fair value

     $       1,811,483        $       2,273        $ 1,796,585        $       12,625  
                           

Junior subordinated debentures, at fair value

     $ 85,666        $ -             $ -             $ 85,666  

Derivatives

     133        -             133        -       
                           

Total liabilities measured at fair value

     $ 85,799        $ -             $ 133        $ 85,666  
                           

 

(1) Principally represents U.S. Treasury and agencies or residential mortgage-backed securities issued or guaranteed by governmental agencies.

The following methods were used to estimate the fair value of each class of financial instrument above:

Cash and Cash Equivalents—For short-term instruments, including cash and due from banks, and interest-bearing deposits with banks, the carrying amount is a reasonable estimate of fair value.

Securities—Fair values for investment securities are based on quoted market prices when available or through the use of alternative approaches, such as matrix or model pricing, or broker indicative bids, when market quotes are not readily accessible or available.

Loans Held For Sale—For loans held for sale, carrying value approximates fair value.

Non-covered Loans—Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type, including commercial, real estate and consumer loans. Each loan category is further segregated by fixed and variable rate, performing and nonperforming categories. For variable rate loans, carrying value approximates fair value. Effective in the second quarter of 2010, the fair value of fixed rate loans is calculated by discounting contractual cash flows at rates which similar loans are currently being made. These amounts are discounted further by embedded probable losses expected to be realized in the portfolio.

Covered Loans—Covered loans are measured at estimated fair value on the date of acquisition. Carrying value is calculated as the present value of expected cash flows and approximates fair value.

Restricted Equity Securities—The carrying value of restricted equity securities approximates fair value as the shares can only be redeemed by the issuing institution at par.

Mortgage Servicing Rights—The fair value of mortgage servicing rights is estimated using a discounted cash flow model. Assumptions used include market discount rates, anticipated prepayment speeds, delinquency and foreclosure rates, and ancillary fee income. This model is periodically validated by an independent external model validation group. The model assumptions and the MSR fair value estimates are also compared to observable trades of similar portfolios as well as to MSR broker valuations and industry surveys, as available. Due to the limited observability of all significant inputs utilized in the valuation model, particularly the discount rate and projected constant prepayment rate, and how changes in these assumptions could potentially impact the ending valuation of this asset, as well as the lack of readily available quotes or observable trades of similar assets in the current period, we have classified this as a Level 3 fair value measure in the third quarter of 2009. The transfer into Level 3 did not result in any changes in the methodology applied or the amount of realized or unrealized gains or losses recognized in the period. Management believes the significant inputs utilized are indicative of those that would be used by market participants.

 

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Bank Owned Life Insurance Assets - Fair values of insurance policies owned are based on the insurance contract’s cash surrender value.

Deposits - The fair value of deposits with no stated maturity, such as non-interest-bearing deposits, savings and interest checking accounts, and money market accounts, is equal to the amount payable on demand as of June 30, 2010 and December 31, 2009. The fair value of certificates of deposit is based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities.

Securities Sold under Agreements to Repurchase and Federal Funds Purchased - For short-term instruments, including securities sold under agreements to repurchase and federal funds purchased, the carrying amount is a reasonable estimate of fair value.

Term Debt - The fair value of medium term notes is calculated based on the discounted value of the contractual cash flows using current rates at which such borrowings can be obtained.

Junior Subordinated Debentures - The fair value of junior subordinated debentures is estimated using an income approach valuation technique. The ending carrying (fair) value of the junior subordinated debentures measured at fair value represents the estimated amount that would be paid to transfer these liabilities in an orderly transaction amongst market participants. Due to the increasing credit concerns in the capital markets and inactivity in the trust preferred markets that have limited the observability of market spreads, we have classified this as a Level 3 fair value measure since the third quarter of 2008. In the second quarter of 2009, due to continued inactivity in the junior subordinated debenture and related markets and clarified guidance relating to the determination of fair value when the volume and level of activity for an asset or liability have significantly decreased or where transactions are not orderly, management evaluated and determined to rely on a third-party pricing service to estimate the fair value of these liabilities. The pricing service utilizes an income approach valuation technique, specifically an option-adjusted spread (“OAS”) valuation model. This OAS model values the cash flows over multiple interest rate scenarios and discounts these cash flows using a credit risk adjustment spread over the three month LIBOR swap curve. Prior to the second quarter of 2009, we estimated the fair value of junior subordinated debentures using an internal discounted cash flow model. The OAS model currently being utilized is more sophisticated and computationally intensive than the model previously used; however, the models react similarly to changes in the underlying inputs, and the results are considered comparable.

In July 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) was signed into law which, among other things, limits the ability for certain bank holding companies to treat trust preferred security debt issuances as Tier 1 capital. It is anticipated that this law may require many banks to raise new Tier 1 capital and would effectively close the trust-preferred securities markets from offering new issuances in the future. As a result of this pending legislation, our third-party pricing service noted that they are no longer to able to provide reliable fair value estimates related to these liabilities given the absence of observable or comparable transactions in the market place in recent history or as anticipated into the future. As a result, for the second quarter of 2010 Management evaluated current market conditions and determined that the 11.6% effective yield utilized to discount the junior subordinated debentures, and the related prices, to determine fair value as of March 31, 2010 continued to represent appropriate estimates the fair value of these liabilities as of June 30, 2010. Therefore, the Company recognized no change in fair value of the junior subordinated debentures measured at fair value through the income statement in the second quarter of 2010.

FDIC Indemnification Asset - The FDIC indemnification asset is initially recorded at fair value, based on the discounted value of expected future cash flows under the loss-share agreement.

Derivative Instruments - The fair value of the derivative instruments is estimated using quoted or published market prices for similar instruments, adjusted for factors such as pull-through rate assumptions based on historical information, where appropriate.

Visa Class B Common Stock - The fair value of Visa Class B common stock is estimated by applying a 19% discount to the value of the unredeemed Class A equivalent shares. The discount is determined by a third-party and primarily represents the risk related to the further potential reduction of the conversion ratio between Class B and Class A shares and a liquidity risk premium.

 

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The following table provides a reconciliation of assets and liabilities measured at fair value using significant unobservable inputs (Level 3) on a recurring basis during the three and six months ended June 30, 2010 and 2009. The amount included in the “Transfers into Level 3” column represents the beginning balance of an item in the period for which it is designated as a Level 3 fair value measure.

(in thousands)

 

Three months ended June 30,

   Beginning
Balance
   Change
included  in
earnings
   Purchases and
issuances
   Sales and
settlements
   Transfers
into Level 3
   Ending
Balance
   Net change in
unrealized gains
or losses relating
to items held at
end of period

2010

                    

Mortgage servicing rights

   $ 13,628    $ (1,671)    $ 938    $ —       $ —      $ 12,895    $ (1,368)

Junior subordinated debentures

     79,563      984       —        (957)      —        79,590      984 

2009

                    

Junior subordinated debentures

   $ 91,682    $ (7,353)    $ —      $ (1,293)    $ —      $ 83,036    $ (7,353)

(in thousands)

                    

Six months ended June 30,

   Beginning
Balance
   Change
included in
earnings
   Purchases,
issuances and
settlements
   Sales and
settlements
   Transfers
into Level 3
   Ending
Balance
   Net change in
unrealized gains
or losses relating
to items held at
end of period

2010

                    

Mortgage servicing rights

   $ 12,625    $ (1,800)    $ 2,070    $ —       $ —      $ 12,895    $ (1,263)

Junior subordinated debentures

     85,666      (4,150)      —        (1,926)      —        79,590      (4,150)

2009

                    

Junior subordinated debentures

   $ 92,520    $ (6,469)    $ —      $ (3,015)    $ —      $ 83,036    $ (6,469)

Gains (losses) on mortgage servicing rights carried at fair value are recorded in mortgage banking revenue within other non-interest income. Gains resulting from the widening of the credit risk adjusted spread and changes in the three month LIBOR swap curve are recorded as gains on junior subordinated debentures carried at fair value within other non-interest income. The contractual interest expense on the junior subordinated debentures is recorded on an accrual basis as interest on junior subordinated debentures within interest expense. Settlements related to the junior subordinated debentures represent the payment of accrued interest that is embedded in the fair value of these liabilities.

Management believes that the credit risk adjusted spread being utilized is indicative of the nonperformance risk premium a willing market participant would require under current market conditions, that is, the inactive market. Management attributes the change in fair value of the junior subordinated debentures during the period to market changes in the nonperformance expectations and pricing of this type of debt, and not as a result of changes to our entity-specific credit risk. The widening of the credit risk adjusted spread above the Company’s contractual spreads has primarily contributed to the positive fair value adjustments. Future contractions in the credit risk adjusted spread relative to the spread currently utilized to measure the Company’s junior subordinated debentures at fair value as of June 30, 2010, or the passage of time, will result in negative fair value adjustments. Generally, an increase in the credit risk adjusted spread and/or a decrease in the three month LIBOR swap curve will result in positive fair value adjustments. Conversely, a decrease in the credit risk adjusted spread and/or an increase in the three month LIBOR swap curve will result in negative fair value adjustments.

Additionally, from time to time, certain assets are measured at fair value on a nonrecurring basis. These adjustments to fair value generally result from the application of lower-of-cost-or-market accounting or write-downs of individual assets due to impairment. The following table presents information about the Company’s assets and liabilities measured at fair value on a nonrecurring basis for which a nonrecurring change in fair value has been recorded during the reporting period. The amounts disclosed below represent the fair values at the time the nonrecurring fair value measurements were made, and not necessarily the fair value as of the dates reported upon.

 

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Table of Contents

(in thousands)

 

     June 30, 2010
     Total    Level 1    Level 2    Level 3
Description            

Investment securities, held to maturity

           

Residential mortgage-backed securities and collateralized mortgage obligations

   $ 841    $ -           $ -           $ 841

Non-covered loans and leases

     112,099      -             -             112,099

Non-covered other real estate owned

     2,454      -             -             2,454
                           
   $       115,304    $       -           $       -           $       115,304
                           
     December 31, 2009
     Total    Level 1    Level 2    Level 3
Description            

Investment securities, held to maturity

           

Residential mortgage-backed securities and collateralized mortgage obligations

   $ 2,875    $ -           $ -           $ 2,875

Non-covered loans and leases

     138,134      -             -             138,134

Goodwill

     607,307      -             -             607,307

Other intangible assets, net

     295            295

Non-covered other real estate owned

     16,607      -             -             16,607
                           
   $       765,218    $       -           $         -           $       765,218