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Table of Contents

 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
 
(Mark One)
     
þ   Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended June 30, 2011
     
o   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: 000-08185
CHEMICAL FINANCIAL CORPORATION
(Exact Name of Registrant as Specified in Its Charter)
     
Michigan
(State or Other Jurisdiction
of Incorporation or Organization)
  38-2022454
(I.R.S. Employer
Identification No.)
     
235 E. Main Street
Midland, Michigan

(Address of Principal Executive Offices)
  48640
(Zip Code)
(989) 839-5350
(Registrant’s Telephone Number, Including Area Code)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ   No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ   No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o Accelerated filer þ 
Non-accelerated filer o
(Do not check if a smaller reporting company)
Smaller reporting company o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o   No þ
The number of shares outstanding of the registrant’s Common Stock, $1 par value, as of July 22, 2011, was 27,456,907 shares.
 
 

 


 

INDEX
Chemical Financial Corporation
Form 10-Q
Index to Form 10-Q
             
        Page  
   
 
       
Forward-Looking Statements     3  
   
 
       
Part I.          
   
 
       
Item 1.        
        4  
   
 
       
        4  
   
 
       
         
        5  
   
 
       
         
        6  
   
 
       
         
        7  
   
 
       
        8-44  
   
 
       
Item 2.       45-72  
   
 
       
Item 3.       73  
   
 
       
Item 4.       73  
   
 
       
Part II.          
   
 
       
Item 1A.       74  
   
 
       
Item 6.       75  
   
 
       
Signatures     76  
   
 
       
Exhibit Index     77  
 EX-10.1
 EX-31.1
 EX-31.2
 EX-32.1
 EX-101 INSTANCE DOCUMENT
 EX-101 SCHEMA DOCUMENT
 EX-101 CALCULATION LINKBASE DOCUMENT
 EX-101 LABELS LINKBASE DOCUMENT
 EX-101 PRESENTATION LINKBASE DOCUMENT
 EX-101 DEFINITION LINKBASE DOCUMENT

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Forward-Looking Statements
This report contains forward-looking statements that are based on management’s beliefs, assumptions, current expectations, estimates and projections about the financial services industry, the economy and Chemical Financial Corporation (Chemical). Words such as “anticipates,” “believes,” “estimates,” “expects,” “forecasts,” “intends,” “is likely,” “judgment,” “plans,” “predicts,” “projects,” “should,” “will,” and variations of such words and similar expressions are intended to identify such forward-looking statements. Such statements are based upon current beliefs and expectations and involve substantial risks and uncertainties which could cause actual results to differ materially from those expressed or implied by such forward-looking statements. These statements include, among others, statements related to real estate valuation, future levels of nonperforming loans, the rate of asset dispositions, future capital levels, future dividends, future growth and funding sources, future liquidity levels, future profitability levels, future deposit insurance premiums, the effects on earnings of future changes in interest rates, the future level of other revenue sources, future economic trends, future initiatives to expand Chemical’s market share, and future opportunities for acquisitions. All statements referencing future time periods are forward-looking. Management’s determination of the provision and allowance for loan losses; the carrying value of acquired loans, goodwill and mortgage servicing rights; the fair value of investment securities (including whether any impairment on any investment security is temporary or other-than-temporary and the amount of any impairment); and management’s assumptions concerning pension and other postretirement benefit plans involve judgments that are inherently forward-looking. There can be no assurance that future loan losses will be limited to the amounts estimated. All of the information concerning interest rate sensitivity is forward-looking. The future effect of changes in the financial and credit markets and the national and regional economy on the banking industry, generally, and on Chemical, specifically, are also inherently uncertain. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions (“risk factors”) that are difficult to predict with regard to timing, extent, likelihood and degree of occurrence. Therefore, actual results and outcomes may materially differ from what may be expressed or forecasted in such forward-looking statements. Chemical undertakes no obligation to update, amend or clarify forward-looking statements, whether as a result of new information, future events or otherwise.
Risk factors include, but are not limited to, the risk factors described in Item 1A of Chemical’s Annual Report on Form 10-K for the year ended December 31, 2010. These and other factors are representative of the risk factors that may emerge and could cause a difference between an ultimate actual outcome and a preceding forward-looking statement.

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Part I. Financial Information
Item 1.   Financial Statements
Chemical Financial Corporation
Consolidated Statements of Financial Position
                         
    June 30,     December 31,     June 30,  
    2011     2010     2010  
    (Unaudited)             (Unaudited)  
    (In thousands, except share data)          
Assets
                       
Cash and cash equivalents:
                       
Cash and cash due from banks
  $ 129,209     $ 91,403     $ 126,741  
Interest-bearing deposits with unaffiliated banks and others
    271,070       444,762       270,217  
 
                 
Total cash and cash equivalents
    400,279       536,165       396,958  
Investment securities:
                       
Trading securities, at fair value
                1,389  
Available-for-sale at fair value
    612,466       578,610       644,550  
Held-to-maturity (fair value — $187,595 at June 30, 2011, $159,188 at December 31, 2010 and $159,715 at June 30, 2010)
    190,029       165,400       165,296  
 
                 
Total investment securities
    802,495       744,010       811,235  
Other securities
    25,572       27,133       27,448  
Loans held for sale
    6,874       20,479       10,871  
Loans
    3,748,010       3,681,662       3,647,961  
Allowance for loan losses
    (89,733 )     (89,530 )     (89,502 )
 
                 
Net loans
    3,658,277       3,592,132       3,558,459  
Premises and equipment (net of accumulated depreciation of $84,731 at June 30, 2011, $80,792 at December 31, 2010 and $76,764 at June 30, 2010)
    65,252       65,961       68,611  
Goodwill
    113,414       113,414       109,149  
Other intangible assets
    12,327       13,521       15,023  
Interest receivable and other assets
    119,568       133,394       122,762  
 
                 
Total Assets
  $ 5,204,058     $ 5,246,209     $ 5,120,516  
 
                 
Liabilities and Shareholders’ Equity
                       
Deposits:
                       
Noninterest-bearing
  $ 813,863     $ 753,553     $ 680,751  
Interest-bearing
    3,437,113       3,578,212       3,518,431  
 
                 
Total deposits
    4,250,976       4,331,765       4,199,182  
Interest payable and other liabilities
    33,919       37,533       36,378  
Short-term borrowings
    276,600       242,703       242,271  
Federal Home Loan Bank (FHLB) advances
    71,928       74,130       86,635  
 
                 
Total liabilities
    4,633,423       4,686,131       4,564,466  
Shareholders’ equity:
                       
Preferred stock, no par value:
                       
Authorized — 200,000 shares, none issued
                 
Common stock, $1 par value per share:
                       
Authorized — 45,000,000 shares at June 30, 2011 and 30,000,000 at both December 31, 2010 and June 30, 2010; issued and outstanding — 27,456,907 shares at June 30, 2011, 27,440,006 shares at December 31, 2010 and 27,434,027 shares at June 30, 2010
    27,457       27,440       27,434  
Additional paid-in capital
    430,134       429,511       429,021  
Retained earnings
    126,477       117,238       111,804  
Accumulated other comprehensive loss
    (13,433 )     (14,111 )     (12,209 )
 
                 
Total shareholders’ equity
    570,635       560,078       556,050  
 
                 
Total Liabilities and Shareholders’ Equity
  $ 5,204,058     $ 5,246,209     $ 5,120,516  
 
                 
See accompanying notes to consolidated financial statements (unaudited).

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Chemical Financial Corporation
Consolidated Statements of Income (Unaudited)
                                 
    Three Months Ended     Six Months Ended  
    June 30,     June 30,  
    2011     2010     2011     2010  
    (In thousands, except per share data)  
Interest Income
                               
Interest and fees on loans
  $ 49,172     $ 48,278     $ 98,612     $ 89,996  
Interest on investment securities:
                               
Taxable
    2,225       2,964       4,549       6,088  
Tax-exempt
    1,393       1,221       2,872       2,203  
Dividends on other securities
    368       295       491       377  
Interest on deposits with unaffiliated banks and others
    281       204       590       420  
 
                       
Total interest income
    53,439       52,962       107,114       99,084  
 
                       
Interest Expense
                               
Interest on deposits
    7,551       9,202       15,429       17,902  
Interest on short-term borrowings
    151       161       301       321  
Interest on FHLB advances
    443       708       885       1,582  
 
                       
Total interest expense
    8,145       10,071       16,615       19,805  
 
                       
Net Interest Income
    45,294       42,891       90,499       79,279  
Provision for loan losses
    7,000       12,700       14,500       26,700  
 
                       
Net interest income after provision for loan losses
    38,294       30,191       75,999       52,579  
 
                       
Noninterest Income
                               
Service charges on deposit accounts
    4,628       5,091       8,724       9,482  
Wealth management revenue
    3,026       2,603       5,792       4,895  
Other charges and fees for customer services
    2,728       2,333       5,386       4,341  
Mortgage banking revenue
    499       915       1,563       1,633  
Other
    21       58       209       89  
 
                       
Total noninterest income
    10,902       11,000       21,674       20,440  
 
                       
Operating Expenses
                               
Salaries, wages and employee benefits
    18,068       17,214       36,393       31,721  
Occupancy
    3,099       2,734       6,437       5,571  
Equipment and software
    3,110       3,698       5,832       6,412  
Other
    9,136       11,004       20,140       20,135  
 
                       
Total operating expenses
    33,413       34,650       68,802       63,839  
 
                       
Income before income taxes
    15,783       6,541       28,871       9,180  
Federal income tax expense
    4,750       2,150       8,650       2,500  
 
                       
Net Income
  $ 11,033     $ 4,391     $ 20,221     $ 6,680  
 
                       
 
                               
Net Income Per Common Share:
                               
Basic
  $ 0.40     $ 0.17     $ 0.74     $ 0.27  
Diluted
    0.40       0.17       0.74       0.27  
Cash Dividends Declared Per Common Share
    0.20       0.20       0.40       0.40  
See accompanying notes to consolidated financial statements (unaudited).

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Chemical Financial Corporation
Consolidated Statements of Changes in Shareholders’ Equity (Unaudited)
                                         
                            Accumulated        
            Additional             Other        
    Common     Paid-in     Retained     Comprehensive        
    Stock     Capital     Earnings     Loss     Total  
    (In thousands, except per share data)  
Balances at January 1, 2010
  $ 23,891     $ 347,676     $ 115,391     $ (12,647 )   $ 474,311  
Comprehensive income:
                                       
Net income
                    6,680                  
Other:
                                       
Net unrealized gains on investment securities—available-for-sale, net of tax expense of $207
                            384          
Adjustment for pension and other postretirement benefits, net of tax expense of $29
                            54          
Comprehensive income
                                    7,118  
Shares issued — stock options
    1       41                       42  
Shares and stock options issued in the acquisition of O.A.K. Financial Corporation
    3,530       80,167                       83,697  
Cash dividends declared of $0.40 per share
                    (10,267 )             (10,267 )
Shares issued — directors’ stock purchase plan
    12       238                       250  
Share-based compensation
            899                       899  
 
                             
Balances at June 30, 2010
  $ 27,434     $ 429,021     $ 111,804     $ (12,209 )   $ 556,050  
 
                             
 
                                       
Balances at January 1, 2011
  $ 27,440     $ 429,511     $ 117,238     $ (14,111 )   $ 560,078  
Comprehensive income:
                                       
Net income
                    20,221                  
Other:
                                       
Net unrealized gains on investment securities—available-for-sale, net of tax expense of $239
                            444          
Adjustment for pension and other postretirement benefits, net of tax expense of $126
                            234          
Comprehensive income
                                    20,899  
Cash dividends declared of $0.40 per share
                    (10,982 )             (10,982 )
Shares issued — directors’ stock plans
    12       254                       266  
Share-based compensation
    5       369                       374  
 
                             
Balances at June 30, 2011
  $ 27,457     $ 430,134     $ 126,477     $ (13,433 )   $ 570,635  
 
                             
See accompanying notes to consolidated financial statements (unaudited).

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Chemical Financial Corporation
Consolidated Statements of Cash Flows (Unaudited)
                 
    Six Months Ended  
    June 30,  
    2011     2010  
    (In thousands)  
Cash Flows From Operating Activities:
               
Net income
  $ 20,221     $ 6,680  
Adjustments to reconcile net income to net cash provided by operating activities:
               
Provision for loan losses
    14,500       26,700  
Gains on sales of loans
    (2,208 )     (2,173 )
Proceeds from sales of loans
    101,586       104,831  
Loans originated for sale
    (85,773 )     (103,842 )
Proceeds from sale of trading securities
          1,083  
Net gains on sales of other real estate and repossessed assets
    (703 )     (915 )
Net losses on disposal of premises and equipment and branch bank property
    17       350  
Depreciation of premises and equipment
    4,076       3,667  
Amortization of intangible assets
    1,904       1,324  
Net amortization of premiums and discounts on investment securities
    1,713       1,208  
Share-based compensation expense
    374       899  
Net decrease in interest receivable and other assets
    10,477       4,531  
Net increase (decrease) in interest payable and other liabilities
    (3,166 )     1,217  
 
           
Net cash provided by operating activities
    63,018       45,560  
 
           
Cash Flows From Investing Activities:
               
Investment securities—available-for-sale:
               
Proceeds from maturities, calls and principal reductions
    185,803       163,935  
Purchases
    (220,747 )     (149,449 )
Investment securities—held-to-maturity:
               
Proceeds from maturities, calls and principal reductions
    30,763       21,510  
Purchases
    (55,334 )     (55,552 )
Other securities:
               
Proceeds from redemption
    1,561        
Net increase in loans
    (86,502 )     (52,817 )
Proceeds from sales of other real estate and repossessed assets
    8,767       9,585  
Purchases of premises and equipment and branch bank property, net
    (3,384 )     (4,016 )
Cash acquired, net of cash paid, in business combination
          17,177  
 
           
Net cash used in investing activities
    (139,073 )     (49,627 )
 
           
Cash Flows From Financing Activities:
               
Net increase (decrease) in noninterest-bearing and interest-bearing demand deposits and savings accounts
    (60,655 )     110,549  
Net decrease in time deposits
    (20,134 )     (22,733 )
Net increase in securities sold under agreements to repurchase
    33,897       1,703  
Repayment of FHLB advances
    (2,202 )     (39,228 )
Cash dividends paid
    (10,982 )     (10,267 )
Proceeds from directors’ stock purchase plan and exercise of stock options
    245       292  
 
           
Net cash provided by (used in) financing activities
    (59,831 )     40,316  
 
           
Net increase (decrease) in cash and cash equivalents
    (135,886 )     36,249  
Cash and cash equivalents at beginning of period
    536,165       360,709  
 
           
Cash and Cash Equivalents at End of Period
  $ 400,279     $ 396,958  
 
           
Supplemental Disclosure of Cash Flow Information:
               
Interest paid
  $ 17,015     $ 20,371  
Federal income taxes paid (received)
    (849 )     3,900  
Loans transferred to other real estate and repossessed assets
    5,857       10,550  
Business combination:
               
Fair value of tangible assets acquired (noncash)
          753,671  
Goodwill and identifiable intangible assets acquired
          49,555  
Liabilities assumed
          736,706  
Common stock issued
          83,697  
See accompanying notes to consolidated financial statements (unaudited).

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Note 1: Significant Accounting Policies
Nature of Operations
Chemical Financial Corporation (Chemical or the Corporation) operates in a single operating segment — commercial banking. The Corporation is a financial holding company, headquartered in Midland, Michigan, that operates through one commercial bank, Chemical Bank. Chemical Bank operates within the State of Michigan as a state-chartered commercial bank. Chemical Bank operates through an internal organizational structure of four regional banking units and offers a full range of traditional banking and fiduciary products and services to the residents and business customers in the bank’s geographical market areas. The products and services offered by the regional banking units, through branch banking offices, are generally consistent throughout the Corporation, as is the pricing of those products and services. The marketing of products and services throughout the Corporation’s regional banking units is generally uniform, as many of the markets served by the regional banking units overlap. The distribution of products and services is uniform throughout the Corporation’s regional banking units and is achieved primarily through retail branch banking offices, automated teller machines and electronically accessed banking products.
Basis of Presentation
The accompanying unaudited consolidated financial statements of the Corporation and its subsidiaries have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) for interim financial information and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, the consolidated financial statements do not include all of the information and footnotes required by GAAP for complete financial statements and should be read in conjunction with the Corporation’s consolidated financial statements and footnotes thereto included in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2010. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments believed necessary to present fairly the financial condition and results of operations of the Corporation for the periods presented. Operating results for the three and six months ended June 30, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011.
Use of Estimates
Management makes estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying footnotes. Estimates that are particularly susceptible to significant change include the determination of the allowance for loan losses, expected cash flows from acquired loans, fair value amounts related to business combinations, pension expense, income taxes, goodwill and those assets that require fair value measurement. Actual results could differ from these estimates.
Business Combinations
On April 30, 2010, the Corporation acquired 100% of O.A.K. Financial Corporation (OAK) for total consideration of $83.7 million. Pursuant to the guidance of Accounting Standards Codification (ASC) Topic 805, Business Combinations (ASC 805) effective for all acquisitions with closing dates after January 1, 2009, the Corporation recognized the assets acquired and the liabilities assumed in the OAK acquisition at their fair values as of the acquisition date with the related acquisition and restructuring costs expensed in the period incurred. The Corporation recorded $43.5 million of goodwill in conjunction with the acquisition, which represented the purchase price over the fair values of the identifiable net assets acquired. Additionally, the Corporation recorded $9.8 million of other intangible assets as a result of the OAK acquisition attributable to core deposits, mortgage servicing rights and non-compete agreements acquired.
See Note 2 for further information regarding the OAK acquisition.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Originated Loans
Originated loans include all of the Corporation’s portfolio loans, excluding loans acquired in the OAK transaction.
Originated loans are stated at their principal amount outstanding, net of unearned income, charge-offs and unamortized deferred fees and costs. Interest income on loans is reported based on the level-yield method and includes amortization of deferred loan fees and costs over the loan term. Net loan commitment fees for commitment periods greater than one year are deferred and amortized into fee income on a straight-line basis over the commitment period.
Loan interest income is recognized on the accrual basis. The past due status of a loan is based on the loan’s contractual terms. A loan is placed in the nonaccrual category when principal or interest is past due 90 days or more (except for real estate residential loans that are transferred at 120 days past due), unless the loan is both well-secured and in the process of collection, or earlier when, in the opinion of management, there is sufficient reason to doubt the collectibility of principal or interest. Interest previously accrued, but not collected, is reversed and charged against interest income at the time the loan is placed in nonaccrual status. The subsequent recognition of interest income on a nonaccrual loan is then recognized only to the extent cash is received and where future collection of principal is probable. Loans are returned to accrual status when principal and interest payments are brought current, payments have been received consistently for a period of time and collectibility is no longer in doubt.
Loans Acquired in a Business Combination
Loans acquired in a business combination (acquired loans) consist of loans acquired in the acquisition of OAK. Acquired loans were recorded at fair value, without a carryover of OAK’s associated allowance for loan losses related to these loans, through a fair value discount that was, in part, attributable to deterioration in credit quality. The fair value discount was recorded as a reduction of the acquired loans’ outstanding principal balances in the consolidated statement of financial position at the acquisition date.
Those loans that qualify under ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality (ASC 310-30), are recorded at fair value at acquisition. The calculation of the fair value of the acquired loans entailed estimating the amount and timing of both principal and interest cash flows expected to be collected on such loans and then discounting those cash flows at market interest rates. The excess of a loan’s expected cash flows at the acquisition date over its estimated fair value is referred to as the “accretable yield,” which is recognized into interest income over the remaining life of the loan on a level-yield basis. The difference between a loan’s contractually required principal and interest payments at the acquisition date and the cash flows expected to be collected at the acquisition date is referred to as the “nonaccretable difference,” which includes an estimate of future credit losses expected to be incurred over the life of the loan and interest payments that are not expected to be collected. The estimate of expected credit losses was determined based on due diligence performed by executive and senior officers of the Corporation, with assistance from third-party consultants. Decreases to the expected cash flows in subsequent periods will require the Corporation to record a provision for loan losses. Improvements in expected cash flows in subsequent periods will result in reversing a portion of the nonaccretable difference, which is then classified as part of the accretable yield and subsequently recognized into interest income over the remaining life of the loan.
The Corporation must make numerous assumptions, interpretations and judgments using internal and third-party credit quality information to determine whether it is probable that the Corporation will be able to collect all contractually required payments. This is a point in time assessment and inherently subjective due to the nature of the available information and judgment involved. Evidence of credit quality deterioration as of the purchase date may include credit metrics such as past due and nonaccrual status, deterioration in borrower credit scores and negative changes to loan-to-value percentages.
Acquired loans with an outstanding principal balance of $105 million at the acquisition date were determined to be loans with deteriorated credit quality and, therefore, met the scope criteria set forth in ASC 310-30. Further, the

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Corporation understands, as outlined in the American Institute of Certified Public Accountants’ open letter to the Office of the Chief Accountant of the Securities and Exchange Commission (SEC) dated December 18, 2009 and pending further standard setting, that for acquired loans that do not meet the scope criteria of ASC 310-30, a company may elect to account for such acquired loans pursuant to the provisions of either ASC 310-20, Nonrefundable Fees and Other Costs, or ASC 310-30. The Corporation elected to apply ASC 310-30 by analogy to acquired loans that were determined not to have deteriorated credit quality with an outstanding principal balance of $578 million at the acquisition date and will follow the accounting and disclosure guidance of ASC 310-30 for these loans. Accordingly, the Corporation applied ASC 310-30 to the entire loan portfolio acquired in the acquisition of OAK with an outstanding principal balance of $683 million at the acquisition date. None of the acquired loans were classified as debt securities.
ASC 310-30 allows investors to aggregate loans acquired into loan pools that have common risk characteristics and thereby use a composite interest rate and expectation of cash flows expected to be collected for the loan pools. Under the provisions of ASC 310-30, the Corporation aggregated acquired loans into 14 pools based upon common risk characteristics, including types of loans, commercial type loans with similar risk grades and whether loans were performing or nonperforming. A pool is considered a single unit of accounting for the purposes of applying the guidance as described above. A loan will be removed from a pool of acquired loans only if the loan is sold, foreclosed, paid off or written off, and will be removed from the pool at the carrying value. If an individual loan is removed from a pool of loans, the difference between its relative carrying amount and the cash, fair value of the collateral, or other assets received would not affect the effective yield used to recognize the accretable difference on the remaining pool. The Corporation estimated the cash flows expected to be collected over the life of the pools of loans at acquisition, and estimates quarterly thereafter, based on a set of assumptions including expectations as to default rates, prepayment rates and loss severities. In the event that the updated expected cash flows increase in a pool from those originally projected at acquisition date, the Corporation will adjust the accretable yield amount with a resulting change in the amount recognized in interest income in subsequent periods. In the event that the updated expected cash flows in a pool decrease from those originally projected at the acquisition date, the Corporation will consider that loan pool impaired, which results in the Corporation recording a charge to the provision for loan losses.
Loans Modified Under Troubled Debt Restructurings
Loans modified under troubled debt restructurings (TDRs) involve granting a concession to a borrower who is experiencing financial difficulty. Concessions generally include modifications to original loan terms, including changes to a loan’s payment schedule or interest rate, which generally would not otherwise be considered. The Corporation’s loans reported as TDRs continue to accrue interest at the loan’s effective interest rate. TDRs are reported as nonperforming TDRs until a six-month payment history of principal and interest payments, in accordance with the loan modification, is sustained, at which time the Corporation moves them to a performing TDR status.
The Corporation’s TDRs to commercial borrowers generally consist of allowing borrowers to defer scheduled principal payments and make interest only payments for a specified period of time at the stated interest rate of the original loan agreement or lower payments due to a modification of the loan’s contractual term. The Corporation does not expect to incur a loss on these loans based on its assessment of the borrowers’ expected cash flows, and accordingly, no additional provision for loan losses has been recognized related to these loans. These loans are individually evaluated for impairment and transferred to nonaccrual status if it is probable that any remaining principal and interest payments due on the loan will not be collected in accordance with the modified terms of the loan.
The Corporation’s real estate residential TDRs generally consist of reducing a borrower’s monthly payments by decreasing the interest rate charged on the loan for a specified period of time (generally 24 months). The Corporation recognizes additional provision for loan losses related to impairment on these loans based on the present value of expected future cash flows discounted at the loan’s original effective interest rate. These loans are moved to nonaccrual status if they become 90 days past due as to principal or interest, or sooner if conditions warrant.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Impaired Loans
A loan is defined to be impaired when it is probable that payment of principal and interest will not be made in accordance with the original contractual terms of the loan agreement. Impaired loans include all classes of nonaccrual loans, all reported TDRs and acquired loans that were not performing in accordance with original contractual terms. Impaired loans are carried at the present value of expected cash flows discounted at the loan’s effective interest rate or, if lower, at the estimated fair value of the collateral, if the loan is collateral dependent.
Nonperforming Loans
Nonperforming loans are comprised of originated loans for which the accrual of interest has been discontinued (nonaccrual loans), accruing loans contractually past due 90 days or more as to interest or principal payments and nonperforming TDRs.
Allowance for Loan Losses
The allowance for loan losses (allowance) is presented as a reserve against loans. The allowance represents management’s assessment of probable loan losses inherent in the Corporation’s loan portfolio.
Management’s evaluation of the adequacy of the allowance is based on a continuing review of the loan portfolio, actual loan loss experience, the underlying value of the collateral, risk characteristics of the loan portfolio, the level and composition of nonperforming loans, the financial condition of the borrowers, the balance of the loan portfolio, loan growth, economic conditions, employment levels in the Corporation’s local markets, and special factors affecting specific business sectors. The Corporation maintains formal policies and procedures to monitor and control credit risk. Management evaluates the allowance on a quarterly basis in an effort to ensure the level is adequate to absorb probable losses inherent in the loan portfolio.
The allowance provides for probable losses that have been identified with specific customer relationships and for probable losses believed to be inherent in the remainder of the originated loan portfolio, but that have not been specifically identified. The Corporation utilizes its own loss experience to estimate inherent losses on loans. Internal risk ratings are assigned to each commercial, real estate commercial, real estate construction and land development loan at the time of approval and are subject to subsequent periodic reviews by senior management. The Corporation performs a detailed credit quality review quarterly on all loans greater than $0.25 million that have deteriorated below certain levels of credit risk, and may allocate a specific portion of the allowance to such loans based upon this review. A portion of the allowance is allocated to the remaining loans by applying projected loss ratios, based on numerous factors. Projected loss ratios incorporate factors such as recent charge-off experience, trends with respect to adversely risk-rated commercial, real estate commercial, real estate construction and land development loans, trends with respect to past due and nonaccrual loans, changes in economic conditions and trends, changes in the value of underlying collateral and other credit risk factors. This evaluation involves a high degree of uncertainty.
In determining the allowance and the related provision for loan losses, the Corporation considers four principal elements: (i) valuation allowances based upon probable losses identified during the review of impaired commercial, real estate commercial, real estate construction and land development loans, (ii) allocations established for adversely-rated commercial, real estate commercial, real estate construction and land development loans and nonaccrual real estate residential, consumer installment and home equity loans, (iii) allocations, by loan classes, on all other loans based principally on the most recent three years of historical loan loss experience and loan loss trends and (iv) an unallocated allowance based on the imprecision in the overall allowance methodology.
The first element reflects the Corporation’s estimate of probable losses based upon the systematic review of individually impaired commercial, real estate commercial, real estate construction and land development loans in the originated loan portfolio. These estimates are based upon a number of objective factors, such as payment history, financial condition of the borrower and discounted collateral exposure. The Corporation measures the investment in an impaired loan based on one of three methods: the loan’s observable market price; the fair value of the collateral; or, the present value of expected future cash flows discounted at the loan’s effective interest rate. At June 30, 2011, loans in the commercial loan portfolio that were in nonaccrual status were valued based on the fair value of the collateral securing the loan, while TDRs in the commercial loan portfolio were valued based on the present value of

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
expected future cash flows discounted at the loan’s effective interest rate. It is the Corporation’s general policy to, at least annually, obtain new appraisals on impaired loans that are primarily secured by real estate. When the Corporation determines that the fair value of the collateral is less than the carrying value of an impaired loan on nonaccrual status and a portion is deemed not collectible, the portion of the impairment that is deemed not collectible is charged off (confirmed loss) and deducted from the allowance. The remaining carrying value of the impaired loan is classified as a nonperforming loan. When the Corporation determines that the fair value of the collateral is less than the carrying value of an impaired loan but believes it is probable it will recover this impairment, the Corporation establishes a valuation allowance for such impairment.
The second element reflects the application of the Corporation’s loan grade risk rating system. This risk rating system is similar to those employed by state and federal banking regulators. Loans in the commercial loan portfolio that are risk rated below a certain predetermined risk grade and nonaccrual real estate residential and nonaccrual consumer installment and home equity loans are assigned a loss allocation factor that is based upon a historical analysis of actual loan losses incurred and a valuation of the type of collateral securing the loans.
The third element is determined by assigning allocations based principally upon the three-year average of loss experience for each class of loan. Average losses may be adjusted based on current loan loss experience and delinquency trends. This component considers the lagging impact of historical charge-off ratios in periods where future loan charge-offs are expected to increase or decrease, trends in delinquencies and nonaccrual loans, the changing portfolio mix in terms of collateral, average loan balance, loan growth and the degree of seasoning in the various loan portfolios. Loan loss analyses are performed quarterly.
The fourth element is based on factors that cannot be associated with a specific credit or loan class and reflects an attempt to ensure that the overall allowance appropriately reflects a margin for the imprecision necessarily inherent in the estimates of loan losses. Management maintains an unallocated allowance to recognize the uncertainty and imprecision underlying the process of estimating inherent loan losses in the loan portfolio. Determination of the probable losses inherent in the portfolio, which are not necessarily captured by the allocation methodology discussed above, involves the exercise of judgment. The unallocated allowance associated with the imprecision in the risk rating system is based on a historical evaluation of the accuracy of the risk ratings associated with loans. This unallocated portion of the allowance is judgmentally determined and generally serves to compensate for the uncertainty in estimating inherent losses, particularly in times of changing economic conditions, and also considers the possibility of improper risk ratings. The unallocated portion of the allowance also takes into consideration economic conditions within the State of Michigan and nationwide, including unemployment levels, industry-wide loan delinquency rates, and declining commercial and residential real estate values and historically high inventory levels of residential lots, condominiums and single family houses held for sale.
Although the Corporation allocates portions of the allowance to specific loans and loan types, the entire allowance is available for any loan losses that occur. Loans that are deemed not collectible are charged off and deducted from the allowance. The provision for loan losses and recoveries on loans previously charged off are added to the allowance. Collection efforts may continue and recoveries may occur after a loan is charged off against the allowance.
Acquired loans are aggregated into pools based upon common risk characteristics. An allowance may be recorded related to acquired loans, if an acquired loan pool experiences a decrease in expected cash flows as compared to those projected at the acquisition date. On a quarterly basis, the expected future cash flow of each pool is estimated based on various factors including changes in property values of collateral dependent loans, default rates, loss severities and prepayment speeds. Decreases in estimates of expected cash flows within a pool generally result in a charge to the provision for loan losses and a corresponding increase in the allowance allocated to acquired loans for the particular pool. Increases in estimates of expected cash flows within a pool generally result first in a reduction in the allowance allocated to acquired loans for the particular pool, and second in an adjustment to the accretable yield for the pool, which will increase amounts recognized in interest income in subsequent periods.
Various regulatory agencies, as an integral part of their examination process, periodically review the allowance. Such agencies may require additions to the allowance based on their judgment reflecting information available to them at the time of their examinations.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Fair Value Measurements
Fair value for assets and liabilities measured at fair value on a recurring or nonrecurring basis refers to the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants in the market in which the reporting entity transacts such sales or transfers based on the assumptions market participants would use when pricing an asset or liability. Assumptions are developed based on prioritizing information within a fair value hierarchy that gives the highest priority to quoted prices in active markets and the lowest priority to unobservable data, such as the reporting entity’s own data.
The Corporation may choose to measure eligible items at fair value at specified election dates. Unrealized gains and losses on items for which the fair value measurement option has been elected are reported in earnings at each subsequent reporting date. The fair value option (i) may be applied instrument by instrument, with certain exceptions, allowing the Corporation to record identical financial assets and liabilities at fair value or by another measurement basis permitted under GAAP, (ii) is irrevocable (unless a new election date occurs) and (iii) is applied only to entire instruments and not to portions of instruments. At June 30, 2011, December 31, 2010 and June 30, 2010, the Corporation had not elected the fair value option for any financial assets or liabilities.
Share-Based Compensation
The Corporation has granted stock options, stock awards and restricted stock performance units to certain executive and senior management employees. The Corporation accounts for share-based compensation expense using the modified-prospective transition method. Under that method, compensation expense is recognized for share-based awards granted after December 31, 2005, based on the estimated grant date fair value as computed using the Black-Scholes option pricing model and the probability of issuance for performance-based awards. The fair value of stock options is recognized as compensation expense on a straight-line basis over the requisite service period. The fair value of restricted stock performance units is recognized as compensation expense over the requisite performance period.
Cash flows realized from the tax benefits of exercised stock option awards that result from actual tax deductions that are in excess of the recorded tax benefits related to the compensation expense recognized for those options (excess tax benefits) are classified as financing activities on the consolidated statements of cash flows.
Income and Other Taxes
The Corporation is subject to the income and other tax laws of the United States and the State of Michigan. These laws are complex and are subject to different interpretations by the taxpayer and the various taxing authorities. In determining the provision for income and other taxes, management must make judgments and estimates about the application of these inherently complex laws, related regulations and case law. In the process of preparing the Corporation’s tax returns, management attempts to make reasonable interpretations of the tax laws. These interpretations are subject to challenge by the tax authorities upon audit or to reinterpretation based on management’s ongoing assessment of facts and evolving case law.
The Corporation and its subsidiaries file a consolidated federal income tax return. The provision for federal income taxes is based on income and expenses, as reported in the consolidated financial statements, rather than amounts reported on the Corporation’s federal income tax return. The difference between the federal statutory income tax rate and the Corporation’s effective federal income tax rate is primarily a function of the proportion of the Corporation’s interest income exempt from federal taxation, nondeductible interest expense and other nondeductible expenses relative to pretax income and tax credits. When income and expenses are recognized in different periods for tax purposes than for book purposes, deferred tax assets and liabilities are recognized for the future tax consequences attributable to the temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized as income or expense in the period that includes the enactment date of the change.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
On a quarterly basis, management assesses the reasonableness of its effective federal tax rate based upon its current best estimate of taxable income and the applicable taxes expected for the full year. Deferred tax assets and liabilities are reassessed on an annual basis, or sooner, if business events or circumstances warrant. Management also assesses the need for a valuation allowance for deferred tax assets on a quarterly basis using information about the Corporation’s current and historical financial position and results of operations.
Income tax positions are evaluated to determine whether it is more-likely-than-not that a tax position will be sustained upon examination based on the technical merits of the tax position. If a tax position is more-likely-than-not to be sustained, a tax benefit is recognized for the amount that is greater than 50% likely to be realized. Reserves for contingent tax liabilities attributable to unrecognized tax benefits associated with uncertain tax positions are reviewed quarterly for adequacy based upon developments in tax law and the status of audits or examinations. The Corporation had no reserve for contingent income tax liabilities recorded at June 30, 2011, December 31, 2010 or June 30, 2010.
The tax periods open to examination by the Internal Revenue Service include the calendar years ended December 31, 2010, 2009, 2008 and 2007. The calendar years ended December 31, 2010, 2009 and 2008 are open to examination for the Corporation’s Michigan Business Tax and the calendar years ended December 31, 2007 and 2006 are open to examination for the Michigan Single Business Tax of the Corporation and certain subsidiaries of the Corporation.
Shareholders’ Equity
Common Stock Repurchase Programs
From time to time, the board of directors approves common stock repurchase programs allowing management to repurchase shares of the Corporation’s common stock in the open market. The repurchased shares are available for later reissuance in connection with potential future stock dividends, the Corporation’s dividend reinvestment plan, employee benefit plans and other general corporate purposes. Under these programs, the timing and actual number of shares subject to repurchase are at the discretion of management and are contingent on a number of factors, including the projected parent company cash flow requirements and the Corporation’s market price per share.
In January 2008, the board of directors of the Corporation authorized management to repurchase up to 500,000 shares of the Corporation’s common stock under a stock repurchase program. Since the January 2008 authorization, no shares have been repurchased. At June 30, 2011, there were 500,000 remaining shares available for repurchase under the Corporation’s stock repurchase programs.
Preferred Stock
On April 20, 2009, the shareholders of the Corporation authorized the board of directors of the Corporation to issue up to 200,000 shares of preferred stock in connection with either an acquisition by the Corporation of an entity that has shares of preferred stock issued and outstanding pursuant to any program established by the United States government or participation by the Corporation in any program established by the United States government. At June 30, 2011, no shares of preferred stock were issued and outstanding.
Common Stock
On April 18, 2011, the shareholders of the Corporation approved an amendment to the restated articles of incorporation to increase the number of authorized shares of common stock from 30,000,000 to 45,000,000.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Legal Matters
The Corporation and Chemical Bank are subject to certain legal actions arising in the ordinary course of business. In the opinion of management, after consultation with legal counsel, the ultimate disposition of these matters is not expected to have a material adverse effect on the consolidated financial condition or results of operations of the Corporation.
Pending Accounting Pronouncements
Determination of Troubled Debt Restructurings and Related Disclosures: In April 2011, the Financial Accounting Standards Board (FASB) issued ASU No. 2011-02, Receivables (Topic 310): A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring (ASU 2011-02). ASU 2011-02 provides additional clarifying guidance for creditors in determining whether modifications to a receivable constitute a concession granted by the creditor; evaluating whether a restructuring results in a delay in payment that is insignificant; and determining whether a debtor is experiencing financial difficulties. ASU 2011-02 also establishes the effective date for certain disclosures about loans modified under troubled debt restructurings that had been delayed by the FASB’s issuance of ASU No. 2011-01, Receivables (Topic 310): Deferral of the Effective Date of Disclosures about Troubled Debt Restructurings in Update No. 2010-20. For public entities, ASU 2011-02 (including related disclosures) is effective for the first interim or annual period beginning on or after June 15, 2011, with early adoption permitted. The adoption of ASU 2011-02 is not expected to have a material impact on the Corporation’s consolidated financial condition or results of operations.
Transfers and Servicing of Financial Assets: In April 2011, the FASB issued ASU No. 2011-03, Transfers and Servicing (Topic 860): Reconsideration of Effective Control for Repurchase Agreements (ASU 2011-03). ASU 2011-03 modifies current guidance by eliminating (i) from the assessment of effective control over transferred financial assets in connection with a repurchase agreement the criterion requiring the transferor to have the ability to repurchase or redeem the financial assets on substantially the agreed terms, even in the event of the transferee’s default, and (ii) the condition requiring the transferor to have obtained sufficient collateral to demonstrate that ability. ASU 2011-03 is effective for interim and annual periods beginning on or after December 15, 2011, with early adoption prohibited. The adoption of ASU 2011-03 is not expected to have a material impact on the Corporation’s consolidated financial condition or results of operations.
Fair Value Measurement and Disclosure Requirements: In May 2011, the FASB issued ASU No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs (ASU 2011-04). The amended guidance of ASU 2011-04 (i) clarifies how a principal market is determined, (ii) establishes the valuation premise for the highest and best use of nonfinancial assets, (iii) addresses the fair value measurement of instruments with offsetting market or counterparty credit risks, (iv) extends the prohibition on blockage factors to all three levels of the fair value hierarchy, and (v) requires additional disclosures including transfers between Level 1 and Level 2 of the fair value hierarchy, quantitative and qualitative information and a description of an entity’s valuation process for Level 3 fair value measurements, and fair value hierarchy disclosures for financial instruments not measured at fair value. ASU 2011-04 is effective for interim and annual periods beginning on or after December 15, 2011, with early adoption prohibited. The adoption of ASU 2011-04 is not expected to have a material impact on the Corporation’s consolidated financial condition or results of operations.
Presentation of Comprehensive Income: In June 2011, the FASB issued ASU No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income (ASU 2011-05). ASU 2011-05 amends current guidance by (i) eliminating the option to present components of other comprehensive income (OCI) as part of the statement of changes in shareholders’ equity, (ii) requiring the presentation of each component of net income and each component of OCI either in a single continuous statement or in two separate but consecutive statements, and (iii) requiring the presentation of reclassification adjustments on the face of the statement. The amendments of ASU 2011-05 do not change the option to present components of OCI either before or after related income tax effects, the items that must be reported in OCI, when an item of OCI should be reclassified to net income, or the computation of earnings per share (which continues to be based on net income). ASU 2011-05 is effective for interim and annual

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
periods beginning on or after December 15, 2011 for public companies, with early adoption permitted and retrospective application required. The adoption of ASU 2011-05 is not expected to have a material impact on the Corporation’s consolidated financial condition or results of operations.
Note 2: Acquisition
On April 30, 2010, the Corporation acquired 100% of OAK for total consideration of $83.7 million. The total consideration consisted of the issuance of 3,529,772 shares of Chemical common stock with a total value of $83.7 million based upon a price per share of the Corporation’s common stock of $23.70 at the acquisition date, the exchange of 26,425 vested stock options for the outstanding vested stock options of OAK with a value of the exchange at the acquisition date of approximately $41,000 and approximately $8,000 of cash in lieu of fractional shares. The issuance of 3,529,772 shares of Chemical common stock was based on an exchange rate of 1.306 times the 2,703,009 outstanding shares of OAK at the acquisition date. There were no contingencies resulting from the acquisition.
OAK, a bank holding company, owned Byron Bank, which provided traditional commercial banking services and products through 14 banking offices serving communities in Ottawa, Allegan and Kent counties in west Michigan. Byron Bank was consolidated with and into Chemical Bank on July 23, 2010. At the acquisition date, OAK had total assets of $820 million, including total loans of $627 million, and total deposits of $693 million, including brokered deposits of $193 million.
Upon acquisition, the OAK loan portfolio had contractually required principal and interest payments receivable of $683 million and $97 million, respectively, expected principal and interest cash flows of $636 million and $88 million, respectively, and a fair value of $627 million. The difference between the contractually required payments receivable and the expected cash flows represents the nonaccretable difference, which totaled $56 million at the acquisition date, with $47 million attributable to expected credit losses. The difference between the expected cash flows and fair value represents the accretable yield, which totaled $97 million at the acquisition date. The outstanding contractual principal balance and the carrying amount of the acquired loan portfolio were $565 million and $523 million, respectively, at June 30, 2011, compared to $597 million and $552 million, respectively, at December 31, 2010 and $665 million and $613 million, respectively, at June 30, 2010, and there was no related allowance for loan losses at those dates.
Activity for the accretable yield, which includes contractually due interest, of acquired loans follows:
         
    Accretable Yield  
    (In thousands)  
Balance at January 1, 2011
  $ 72,863  
Additions
     
Reductions
     
Accretion recognized in interest income
    (17,098 )
Reclassification from (to) nonaccretable difference
     
 
     
Balance at June 30, 2011
  $ 55,765  
 
     

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Note 3: Investment Securities
The following is a summary of the amortized cost and fair value of investment securities available-for-sale and investment securities held-to-maturity at June 30, 2011, December 31, 2010 and June 30, 2010:
                                 
    Investment Securities Available-for-Sale  
    Amortized     Unrealized     Unrealized     Fair  
    Cost     Gains     Losses     Value  
    (In thousands)  
June 30, 2011
                               
Government sponsored agencies
  $ 108,957     $ 283     $ 36     $ 109,204  
State and political subdivisions
    43,793       1,163       6       44,950  
Residential mortgage-backed securities
    111,760       4,036       191       115,605  
Collateralized mortgage obligations
    283,840       775       371       284,244  
Corporate bonds
    56,941       138       175       56,904  
Preferred stock
    1,389       170             1,559  
 
                       
Total
  $ 606,680     $ 6,565     $ 779     $ 612,466  
 
                       
 
                               
December 31, 2010
                               
Government sponsored agencies
  $ 117,167     $ 394     $ 40     $ 117,521  
State and political subdivisions
    45,951       326       231       46,046  
Residential mortgage-backed securities
    132,683       4,439       187       136,935  
Collateralized mortgage obligations
    233,202       911       192       233,921  
Corporate bonds
    43,115       99       467       42,747  
Preferred stock
    1,389       51             1,440  
 
                       
Total
  $ 573,507     $ 6,220     $ 1,117     $ 578,610  
 
                       
 
                               
June 30, 2010
                               
Government sponsored agencies
  $ 163,194     $ 730     $ 82     $ 163,842  
State and political subdivisions
    47,312       561             47,873  
Residential mortgage-backed securities
    152,112       4,582       335       156,359  
Collateralized mortgage obligations
    247,407       661       711       247,357  
Corporate bonds
    29,230       135       246       29,119  
 
                       
Total
  $ 639,255     $ 6,669     $ 1,374     $ 644,550  
 
                       

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
                                 
    Investment Securities Held-to-Maturity  
    Amortized     Unrealized     Unrealized     Fair  
    Cost     Gains     Losses     Value  
    (In thousands)  
June 30, 2011
                               
State and political subdivisions
  $ 179,529     $ 4,614     $ 1,223     $ 182,920  
Trust preferred securities
    10,500             5,825       4,675  
 
                       
Total
  $ 190,029     $ 4,614     $ 7,048     $ 187,595  
 
                       
 
                               
December 31, 2010
                               
State and political subdivisions
  $ 154,900     $ 2,106     $ 1,758     $ 155,248  
Trust preferred securities
    10,500             6,560       3,940  
 
                       
Total
  $ 165,400     $ 2,106     $ 8,318     $ 159,188  
 
                       
 
                               
June 30, 2010
                               
State and political subdivisions
  $ 154,796     $ 2,400     $ 1,106     $ 156,090  
Trust preferred securities
    10,500             6,875       3,625  
 
                       
Total
  $ 165,296     $ 2,400     $ 7,981     $ 159,715  
 
                       
The majority of the Corporation’s residential mortgage-backed securities and collateralized mortgage obligations are backed by a U.S. government agency (Government National Mortgage Association) or a government sponsored enterprise (Federal Home Loan Mortgage Corporation or Federal National Mortgage Association).
At June 30, 2011, the Corporation held $10.5 million of trust preferred investment securities that were recorded as held-to-maturity, with $10.0 million of these securities representing a 100% interest in a trust preferred investment security of a non-public bank holding company in Michigan that has been assessed by the Corporation as financially strong. The remaining $0.5 million represents a 10% interest in another trust preferred investment security of a non-public bank holding company located in Michigan that incurred net losses in both 2010 and 2009, although remained well-capitalized under regulatory guidelines during that time.
At June 30, 2011, it was the Corporation’s opinion that the market for trust preferred investment securities was not active, and thus, in accordance with GAAP, when there is a significant decrease in the volume and activity for an asset or liability in relation to normal market activity, adjustments to transaction or quoted prices may be necessary or a change in valuation technique or multiple valuation techniques may be appropriate. The fair values of the trust preferred investment securities were based upon a calculation of discounted cash flows. The cash flows were discounted based upon both observable inputs and appropriate risk adjustments that market participants would make for nonperformance, illiquidity and issuer specifics. An independent third party provided the Corporation with observable inputs based on the existing market and insight into appropriate rate of return adjustments that market participants would require for the additional risk associated with a single issue investment security of this nature. Using a model that incorporated the average current yield of publicly traded performing trust preferred securities of large financial institutions with no known material financial difficulties at June 30, 2011, and adjusted for both illiquidity and the specific characteristics of the issuer, such as size, leverage position and location, the Corporation calculated an implied yield of 45% on its $10.0 million trust preferred investment security and 35% for its $0.5 million trust preferred investment security. Based upon these implied yields, the fair values of the trust preferred investment securities were calculated by the Corporation at $4.5 million and $0.2 million, respectively, resulting in a combined impairment of $5.8 million. At June 30, 2011, the Corporation concluded that the $5.8 million of combined impairment on the trust preferred investment securities was temporary in nature.
The following is a summary of the amortized cost and fair value of investment securities at June 30, 2011, by maturity, for both available-for-sale and held-to-maturity investment securities. The maturities of residential mortgage-backed securities and collateralized mortgage obligations are based on scheduled principal payments. The maturities of all other debt securities are based on final contractual maturity.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
                 
    June 30, 2011  
    Amortized Cost     Fair Value  
    (In thousands)  
Investment Securities Available-for-Sale:
               
Due in one year or less
  $ 102,789     $ 103,451  
Due after one year through five years
    365,277       367,800  
Due after five years through ten years
    82,693       83,886  
Due after ten years
    54,532       55,770  
Preferred stock
    1,389       1,559  
 
           
Total
  $ 606,680     $ 612,466  
 
           
Investment Securities Held-to-Maturity:
               
Due in one year or less
  $ 27,053     $ 27,108  
Due after one year through five years
    82,904       83,729  
Due after five years through ten years
    50,426       51,995  
Due after ten years
    29,646       24,763  
 
           
Total
  $ 190,029     $ 187,595  
 
           
The following schedule summarizes information for both available-for-sale and held-to-maturity investment securities with gross unrealized losses at June 30, 2011, December 31, 2010 and June 30, 2010, aggregated by category and length of time that individual securities have been in a continuous unrealized loss position.
                                                 
    Less Than 12 Months   12 Months or More   Total
            Gross           Gross           Gross
    Fair   Unrealized   Fair   Unrealized   Fair   Unrealized
    Value   Losses   Value   Losses   Value   Losses
    (In thousands)
June 30, 2011
                                               
Government sponsored agencies
  $ 29,311     $ 34     $ 2,860     $ 2     $ 32,171     $ 36  
State and political subdivisions
    48,011       1,046       12,173       183       60,184       1,229  
Residential mortgage-backed securities
    25,538       185       1,240       6       26,778       191  
Collateralized mortgage obligations
    94,073       300       27,617       71       121,690       371  
Corporate bonds
    24,853       147       2,468       28       27,321       175  
Trust preferred securities
                4,675       5,825       4,675       5,825  
     
Total
  $ 221,786     $ 1,712     $ 51,033     $ 6,115     $ 272,819     $ 7,827  
     
 
                                               
December 31, 2010
                                               
Government sponsored agencies
  $ 20,117     $ 40     $     $     $ 20,117     $ 40  
State and political subdivisions
    71,900       1,863       3,800       126       75,700       1,989  
Residential mortgage-backed securities
    26,117       187                   26,117       187  
Collateralized mortgage obligations
    57,556       170       9,616       22       67,172       192  
Corporate bonds
    24,683       317       2,341       150       27,024       467  
Trust preferred securities
                3,940       6,560       3,940       6,560  
     
Total
  $ 200,373     $ 2,577     $ 19,697     $ 6,858     $ 220,070     $ 9,435  
     
 
                                               
June 30, 2010
                                               
Government sponsored agencies
  $ 21,237     $ 82     $     $     $ 21,237     $ 82  
State and political subdivisions
    34,383       844       10,427       262       44,810       1,106  
Residential mortgage-backed securities
    46,896       335                   46,896       335  
Collateralized mortgage obligations
    98,813       689       13,126       22       111,939       711  
Corporate bonds
                2,241       246       2,241       246  
Trust preferred securities
                3,625       6,875       3,625       6,875  
     
Total
  $ 201,329     $ 1,950     $ 29,419     $ 7,405     $ 230,748     $ 9,355  
     
An assessment is performed quarterly by the Corporation to determine whether unrealized losses in its investment securities portfolio are temporary or other-than-temporary by carefully considering all available information. The Corporation reviews factors such as financial statements, credit ratings, news releases and other pertinent

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
information of the underlying issuer or company to make its determination. Management did not believe any individual unrealized loss on any investment security, as of June 30, 2011, represented an other-than-temporary impairment (OTTI). Management believed that the unrealized losses on investment securities at June 30, 2011 were temporary in nature and due primarily to changes in interest rates, increased credit spreads and reduced market liquidity and not as a result of credit-related issues. Unrealized losses of $5.8 million in the trust preferred securities portfolio, related to trust preferred securities of two well-capitalized bank holding companies in Michigan, were attributable to illiquidity in certain financial markets. The Corporation performed an analysis of the creditworthiness of these issuers and concluded that, at June 30, 2011, the Corporation expected to recover the entire amortized cost basis of these investment securities.
At June 30, 2011, the Corporation did not have the intent to sell any of its impaired investment securities and believed that it was more-likely-than-not that the Corporation will not have to sell any such investment securities before a full recovery of amortized cost. Accordingly, at June 30, 2011, the Corporation believed the impairments in its investment securities portfolio were temporary in nature. Additionally, no impairment loss was realized in the Corporation’s consolidated statement of income for the six months ended June 30, 2011. However, there is no assurance that OTTI may not occur in the future.
Note 4: Loans
Loan portfolio segments are defined as the level at which an entity develops and documents a systematic methodology to determine its allowance. The Corporation has two loan portfolio segments (commercial loans and consumer loans) which it uses in determining the allowance. Both quantitative and qualitative factors are used by management at the loan portfolio segment level in determining the adequacy of the allowance for the Corporation. Classes of loans are a disaggregation of an entity’s loan portfolio segments. Classes of loans are defined as a group of loans which share similar initial measurement attributes, risk characteristics, and methods for monitoring and assessing credit risk. The Corporation has seven classes of loans, which are set forth below.
Commercial — Loans to varying types of businesses, including municipalities, school districts and nonprofit organizations, for the purpose of supporting working capital, operational needs and term financing of equipment. Repayment of such loans is generally provided through operating cash flows of the business. Commercial loans are predominately secured by equipment, inventory, accounts receivable, personal guarantees of the owner and other sources of repayment, although the Corporation may also secure commercial loans with real estate.
Real estate commercial — Loans secured by real estate occupied by the borrower for ongoing operations, non-owner occupied real estate leased to one or more tenants and vacant land that has been acquired for investment or future land development.
Real estate construction — Secured loans for the construction of business properties. Real estate construction loans often convert to a real estate commercial loan at the completion of the construction period.
Land development — Secured development loans are made to borrowers for the purpose of infrastructure improvements to vacant land to create finished marketable residential and commercial lots/land. Most land development loans are originated with the intention that the loans will be paid through the sale of developed lots/land by the developers within twelve months of the completion date. Land development loans at June 30, 2011 were primarily comprised of loans to develop residential properties.
Real estate residential — Loans secured by one- to four-family residential properties generally with fixed interest rates of fifteen years or less. The loan-to-value ratio at the time of origination is generally 80% or less. Real estate residential loans with a loan-to-value ratio of more than 80% generally require private mortgage insurance.
Consumer installment — Loans to consumers primarily for the purpose of home improvements and acquiring automobiles, recreational vehicles and boats. These loans consist of relatively small amounts that are spread across many individual borrowers.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Home equity — Loans whereby consumers utilize equity in their personal residence, generally through a second mortgage, as collateral to secure the loan.
Commercial, real estate commercial, real estate construction and land development loans are referred to as the Corporation’s commercial loan portfolio, while real estate residential, consumer installment and home equity loans are referred to as the Corporation’s consumer loan portfolio.
A summary of loans follows:
                         
    June 30,     December 31,     June 30,  
    2011     2010     2010  
    (In thousands)  
Commercial loan portfolio:
                       
Commercial
  $ 842,404     $ 818,997     $ 769,287  
Real estate commercial
    1,065,606       1,076,971       1,081,860  
Real estate construction
    91,152       89,234       119,449  
Land development
    51,199       53,386       59,555  
 
                 
Subtotal
    2,050,361       2,038,588       2,030,151  
 
                 
Consumer loan portfolio:
                       
Real estate residential
    825,860       798,046       768,156  
Consumer installment
    517,405       503,132       509,508  
Home equity
    354,384       341,896       340,146  
 
                 
Subtotal
    1,697,649       1,643,074       1,617,810  
 
                 
Total loans
  $ 3,748,010     $ 3,681,662     $ 3,647,961  
 
                 
Credit Quality Monitoring
The Corporation maintains loan policies and credit underwriting standards as part of the process of managing credit risk. These standards include making loans generally only within the Corporation’s market areas. The Corporation’s lending markets generally consist of communities across the middle to southern and western sections of the lower peninsula of Michigan. The Corporation’s lending market areas do not include the southeastern portion of Michigan. The Corporation has no foreign loans.
The Corporation has a loan approval process involving underwriting and individual and group loan approval authorities to consider credit quality and loss exposure at loan origination. The loans in the Corporation’s commercial loan portfolio are risk rated at origination based on the grading system set forth below. The approval authority of relationship managers is established based on experience levels, with credit decisions greater than $1.0 million requiring group loan authority approval, except for four executive and senior officers who have varying limits exceeding $1.0 million and up to $2.5 million. With respect to the group loan authorities, the Corporation has a loan committee, consisting of certain executive and senior officers, that meets weekly to consider loans in the amount of $1.0 million to $2.5 million. A directors’ loan committee, consisting of ten members of the board of directors, including the chief executive officer, and the senior credit officer, meets regularly to consider loans in the amount of $2.5 million to $10 million. Loans over $10 million require the approval of the board of directors.
The majority of the Corporation’s consumer loan portfolio is comprised of secured loans that are relatively small and are evaluated at origination on a centralized basis against standardized underwriting criteria. The ongoing measurement of credit quality of the consumer loan portfolio is largely done on an exception basis. If payments are made on schedule, as agreed, then no further monitoring is performed. However, if delinquency occurs, the delinquent loans are turned over to the Corporation’s collection department for resolution, which generally occurs fairly rapidly and often through repossession and foreclosure. Credit quality for the entire consumer loan portfolio is measured by the periodic delinquency rate, nonaccrual amounts and actual losses incurred.
Loans in the commercial loan portfolio tend to be larger and more complex than those in the consumer loan portfolio, and therefore, are subject to more intensive monitoring. All loans in the commercial loan portfolio have an assigned relationship manager, and most borrowers provide periodic financial and operating information that allows the relationship managers to stay abreast of credit quality during the life of the loans. The risk ratings of loans in the

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
commercial loan portfolio are reassessed at least annually, with loans below an acceptable risk rating reassessed more frequently and reviewed by various loan committees within the Corporation at least quarterly.
The Corporation maintains a centralized independent loan review function that monitors the approval process and on-going asset quality of the loan portfolio, including the accuracy of loan grades. The Corporation also maintains an independent appraisal review function that participates in the review of all appraisals obtained by the Corporation.
Credit Quality Indicators
The Corporation uses a nine grade risk rating system to monitor the ongoing credit quality of its commercial loan portfolio. These loan grades rank the credit quality of a borrower by measuring liquidity, debt capacity, coverage and payment behavior as shown in the borrower’s financial statements. The loan grades also measure the quality of the borrower’s management and the repayment support offered by any guarantors. A summary of the Corporation’s loan grades (or, characteristics of the loans within each grade) follows:
Risk Grades 1-5 (Acceptable Credit Quality) — All loans in risk grades 1-5 are considered to be acceptable credit risks by the Corporation and are grouped for purposes of allowance for loan loss considerations and financial reporting. The five grades essentially represent a ranking of loans that are all viewed to be of acceptable credit quality, taking into consideration the various factors mentioned above, but with varying degrees of financial strength, debt coverage, management and factors that could impact credit quality. Business credits within risk grades 1 — 5 range from Risk Grade 1: Prime Quality (factors include: excellent business credit; excellent debt capacity and coverage; outstanding management; strong guarantors; superior liquidity and net worth; favorable loan-to-value ratios; debt secured by cash or equivalents, or backed by the full faith and credit of the U.S. Government) to Risk Grade 5: Acceptable Quality With Care (factors include: acceptable business credit, but with added risk due to specific industry or internal situations).
Risk Grade 6 (Watch) — A business credit that is not acceptable within the Corporation’s loan origination criteria; cash flow may not be adequate or is continually inconsistent to service current debt; financial condition has deteriorated as company trends/management have become inconsistent; the company is slow in furnishing quality financial information; working capital needs of the company are reliant on short-term borrowings; personal guarantees are weak and/or with little or no liquidity; the net worth of the company has deteriorated after recent or continued losses; the loan requires constant monitoring and attention from the Corporation; payment delinquencies becoming more serious; if left uncorrected, these potential weaknesses may, at some future date, result in deterioration of repayment prospects.
Risk Grade 7 (Substandard — Accrual) — A business credit that is inadequately protected by the current financial net worth and paying capacity of the obligor or of the collateral pledged, if any; management has deteriorated or has become non-existent; quality financial information is unattainable; a high level of maintenance is required by the Corporation; cash flow can no longer support debt requirements; loan payments are continually and/or severely delinquent; negative net worth; personal guaranty has become insignificant; a credit that has a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. The Corporation still expects a full recovery of all contractual principal and interest payments; however, a possibility exists that the Corporation will sustain some loss if deficiencies are not corrected.
Risk Grade 8 (Substandard — Nonaccrual) — A business credit accounted for on a nonaccrual basis that has all the weaknesses inherent in a loan classified as risk grade 7 with the added characteristic that the weaknesses are so pronounced that, on the basis of current financial information, conditions, and values, collection in full is highly questionable; a partial loss is possible and interest is no longer being accrued. This loan meets the definition of an impaired loan. The risk of loss requires analysis to determine whether a valuation allowance needs to be established.
Risk Grade 9 (Substandard — Doubtful) — A business credit that has all the weaknesses inherent in a loan classified as risk grade 8 and interest is no longer being accrued, but additional deficiencies make it highly probable that liquidation will not satisfy the majority of the obligation; the primary source of repayment is nonexistent and there is doubt as to the value of the secondary source of repayment; the possibility of loss is likely, but current pending factors could strengthen the credit. This loan meets the definition of an impaired loan. A loan charge-off is recorded when management deems an amount uncollectible; however, the Corporation will establish a valuation allowance for probable losses, if required.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
The Corporation considers all loans graded 1-5 as acceptable credit risks and structures and manages such relationships accordingly. Periodic financial and operating data combined with regular loan officer interactions are deemed adequate to monitor borrower performance. Loans with risk grades of 6 and 7 are considered “watch credits” and the frequency of loan officer contact and receipt of financial data is increased to stay abreast of borrower performance. Loans with risk grades of 8 and 9 are considered problematic and require special care. Further, loans with risk grades of 6-9 are managed and monitored regularly through a number of processes, procedures and committees, including oversight by a loan administration committee comprised of executive and senior management of the Corporation, which includes highly structured reporting of financial and operating data, intensive loan officer intervention and strategies to exit, as well as potential management by the Corporation’s special assets group.
The following schedule presents the recorded investment of loans in the commercial loan portfolio by risk rating categories at June 30, 2011 and December 31, 2010:
                                         
    Commercial Loan Portfolio Credit Exposure  
    Credit Risk Profile by Creditworthiness Category  
            Real Estate     Real Estate     Land        
    Commercial     Commercial     Construction     Development     Total  
    (In thousands)  
June 30, 2011:
                                       
Originated Portfolio:
                                       
Risk Grades 1-5
  $ 637,709     $ 673,117     $ 69,609     $ 15,684     $ 1,396,119  
Risk Grade 6
    26,240       22,354       290       7,842       56,726  
Risk Grade 7
    20,766       49,993       182       651       71,592  
Risk Grade 8
    12,955       53,494             6,844       73,293  
Risk Grade 9
    1,431       3,830             2,089       7,350  
 
                             
Subtotal
    699,101       802,788       70,081       33,110       1,605,080  
 
                             
Acquired Portfolio:
                                       
Risk Grades 1-5
    121,952       236,604       20,918       11,405       390,879  
Risk Grade 6
    7,127       11,126             1,749       20,002  
Risk Grade 7
    7,904       10,881             653       19,438  
Risk Grade 8
    6,285       4,207       153       4,282       14,927  
Risk Grade 9
    35                         35  
 
                             
Subtotal
    143,303       262,818       21,071       18,089       445,281  
 
                             
Total
  $ 842,404     $ 1,065,606     $ 91,152     $ 51,199     $ 2,050,361  
 
                             
 
                                       
December 31, 2010:
                                       
Originated Portfolio:
                                       
Risk Grades 1-5
  $ 619,150     $ 656,471     $ 67,907     $ 15,797     $ 1,359,325  
Risk Grade 6
    22,173       39,653       737       8,935       71,498  
Risk Grade 7
    16,480       35,471       551       983       53,485  
Risk Grade 8
    16,061       57,287             6,537       79,885  
Risk Grade 9
    607       3,271             2,430       6,308  
 
                             
Subtotal
    674,471       792,153       69,195       34,682       1,570,501  
 
                             
Acquired Portfolio:
                                       
Risk Grades 1-5
    119,943       249,495       19,796       12,667       401,901  
Risk Grade 6
    10,236       18,202                   28,438  
Risk Grade 7
    6,050       14,896             457       21,403  
Risk Grade 8
    8,282       2,225       243       5,580       16,330  
Risk Grade 9
    15                         15  
 
                             
Subtotal
    144,526       284,818       20,039       18,704       468,087  
 
                             
Total
  $ 818,997     $ 1,076,971     $ 89,234     $ 53,386     $ 2,038,588  
 
                             

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
The Corporation evaluates the credit quality of loans in the consumer loan portfolio, based primarily on the aging status of the loan and payment activity. The following schedule presents the recorded investment of loans in the consumer loan portfolio based on the credit risk profile of loans in a performing status and loans in a nonperforming status at June 30, 2011 and December 31, 2010:
                                 
    Consumer Loan Portfolio Credit Exposure        
    Credit Risk Profile Based on        
    Aging Status and Payment Activity        
    Real Estate     Consumer             Total  
    Residential     Installment     Home Equity     Consumer  
    (In thousands)  
June 30, 2011:
                               
Originated Loans:
                               
Performing
  $ 771,086     $ 509,114     $ 300,828     $ 1,581,028  
Nonperforming
    30,930       3,215       4,926       39,071  
 
                       
Subtotal
    802,016       512,329       305,754       1,620,099  
 
                       
Acquired Loans:
                               
Performing
    22,750       5,076       48,245       76,071  
Nonperforming
    1,094             385       1,479  
 
                       
Subtotal
    23,844       5,076       48,630       77,550  
 
                       
Total
  $ 825,860     $ 517,405     $ 354,384     $ 1,697,649  
 
                       
 
                               
December 31, 2010:
                               
Originated Loans:
                               
Performing
  $ 733,461     $ 495,203     $ 286,854     $ 1,515,518  
Nonperforming
    37,638       1,846       3,895       43,379  
 
                       
Subtotal
    771,099       497,049       290,749       1,558,897  
 
                       
Acquired Loans:
                               
Performing
    25,406       6,083       50,873       82,362  
Nonperforming
    1,541             274       1,815  
 
                       
Subtotal
    26,947       6,083       51,147       84,177  
 
                       
Total
  $ 798,046     $ 503,132     $ 341,896     $ 1,643,074  
 
                       

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Table of Contents

Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Nonperforming Loans
A summary of nonperforming loans follows:
                         
    June 30,     December 31,     June 30,  
    2011     2010     2010  
    (In thousands)  
Nonaccrual loans:
                       
Commercial
  $ 14,386     $ 16,668     $ 21,643  
Real estate commercial
    57,324       60,558       57,085  
Real estate construction and land development
    8,933       8,967       13,397  
Real estate residential
    17,809       12,083       12,499  
Consumer installment and home equity
    6,898       4,686       3,357  
 
                 
Total nonaccrual loans
    105,350       102,962       107,981  
 
                 
Accruing loans contractually past due 90 days or more as to interest or principal payments:
                       
Commercial
    629       530       2,108  
Real estate commercial
    143       1,350       2,030  
Real estate construction and land development
          1,220       436  
Real estate residential
    1,729       3,253       2,842  
Consumer installment and home equity
    1,243       1,055       885  
 
                 
Total accruing loans contractually past due 90 days or more as to interest or principal payments
    3,744       7,408       8,301  
 
                 
TDRs:
                       
Commercial and real estate commercial
    15,443       15,057       7,791  
Real estate residential
    11,392       22,302       18,856  
 
                 
Total nonperforming TDRs
    26,835       37,359       26,647  
 
                 
Total nonperforming loans
  $ 135,929     $ 147,729     $ 142,929  
 
                 

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Impaired Loans
The following schedule presents impaired loans by classes of loans at June 30, 2011:
                         
            Unpaid     Related  
    Recorded     Principal     Valuation  
    Investment     Balance     Allowance  
    (In thousands)  
Impaired loans with a valuation allowance:
                       
Commercial
  $ 7,278     $ 9,096     $ 2,127  
Real estate commercial
    29,681       31,417       8,227  
Land development
    2,225       2,234       522  
Real estate residential
    22,156       22,156       745  
 
                 
Subtotal
    61,340       64,903       11,621  
 
                 
Impaired loans with no related valuation allowance:
                       
Commercial
    22,315       29,976        
Real estate commercial
    43,258       57,680        
Real estate construction
    152       1,124        
Land development
    11,872       17,625        
Real estate residential
    17,809       17,809        
Consumer installment
    3,205       3,205        
Home equity
    3,693       3,693        
 
                 
Subtotal
    102,304       131,112        
 
                 
Total impaired loans:
                       
Commercial
    29,593       39,072       2,127  
Real estate commercial
    72,939       89,097       8,227  
Real estate construction
    152       1,124        
Land development
    14,097       19,859       522  
Real estate residential
    39,965       39,965       745  
Consumer installment
    3,205       3,205        
Home equity
    3,693       3,693        
 
                 
Total
  $ 163,644     $ 196,015     $ 11,621  
 
                 
The following schedule presents information related to impaired loans for the three and six months ended June 30, 2011:
                                 
    Three months ended June 30, 2011     Six months ended June 30, 2011  
            Interest Income             Interest Income  
    Average     Recognized     Average     Recognized  
    Recorded     While on     Recorded     While on  
    Investment     Impaired Status     Investment     Impaired Status  
    (In thousands)  
Commercial
  $ 29,814     $ 216     $ 31,279     $ 541  
Real estate commercial
    71,050       152       72,464       396  
Real estate construction
    196       15       216       30  
Land development
    13,750       107       14,203       196  
Real estate residential
    39,369       248       37,777       485  
Consumer installment
    3,032             2,808        
Home equity
    3,384             3,091        
 
                       
Total
  $ 160,595     $ 738     $ 161,838     $ 1,648  
 
                       

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
The following schedule presents impaired loans by classes of loans at December 31, 2010:
                         
            Unpaid     Related  
    Recorded     Principal     Valuation  
    Investment     Balance     Allowance  
    (In thousands)  
Impaired loans with a valuation allowance:
                       
Commercial
  $ 8,289     $ 8,675     $ 2,947  
Real estate commercial
    34,681       35,744       11,356  
Land development
    1,881       1,984       663  
Real estate residential
    22,302       22,302       806  
 
                 
Subtotal
    67,153       68,705       15,772  
 
                 
Impaired loans with no related valuation allowance:
                       
Commercial
    28,597       39,927        
Real estate commercial
    38,689       51,722        
Land development
    10,498       15,039        
Real estate residential
    12,083       12,083        
Consumer installment
    1,751       1,751        
Home equity
    2,935       2,935        
 
                 
Subtotal
    94,553       123,457        
 
                 
Total impaired loans:
                       
Commercial
    36,886       48,602       2,947  
Real estate commercial
    73,370       87,466       11,356  
Land development
    12,379       17,023       663  
Real estate residential
    34,385       34,385       806  
Consumer installment
    1,751       1,751        
Home equity
    2,935       2,935        
 
                 
Total
  $ 161,706     $ 192,162     $ 15,772  
 
                 
The difference between an impaired loan’s recorded investment and the unpaid principal balance represents either (i) for originated loans, a partial charge-off resulting from a confirmed loss due to the value of the collateral securing the loan being below the loan balance and management’s assessment that full collection of the loan balance is not likely or (ii) for acquired loans that meet the definition of an impaired loan, fair value adjustments recognized at the acquisition date attributable to expected credit losses and the discounting of expected cash flows at market interest rates. The difference between the recorded investment and the unpaid principal balance of $32.4 million and $30.5 million at June 30, 2011 and December 31, 2010, respectively, includes confirmed losses (partial charge-offs) of $22.6 million and $19.8 million, respectively, and fair value discount adjustments of $9.8 million and $10.7 million, respectively. At June 30, 2011 and December 31, 2010, there was no valuation allowance required for acquired loans, as no material changes in expected cash flows had occurred since the acquisition date.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
The following schedule presents a summary of impaired loans between those with and without a valuation allowance at June 30, 2010:
                 
            Related  
    Recorded     Valuation  
    Investment     Allowance  
    (In thousands)  
Impaired loans with a valuation allowance:
               
Commercial, real estate commercial, real estate construction and land development
  $ 45,014     $ 14,459  
Real estate residential
    18,856       991  
 
           
Subtotal
    63,870       15,450  
 
           
Impaired loans with no valuation allowance:
               
Commercial, real estate commercial, real estate construction and land development
    63,725        
Real estate residential
    12,499        
Consumer installment and home equity
    3,357        
 
           
Subtotal
    79,581        
 
           
Total
  $ 143,451     $ 15,450  
 
           
Impaired loans include $18.6 million, $21.4 million and $10.1 million at June 30, 2011, December 31, 2010 and June 30, 2010, respectively, of acquired loans that were not performing in accordance with original contractual terms as a market yield adjustment was recognized on these loans in interest income. Impaired loans also include $12.9 million at June 30, 2011 of performing TDRs.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
The following schedule presents the aging status of the recorded investment in loans by classes of loans at June 30, 2011 and December 31, 2010:
                                                         
                    Accruing                            
                    Loans                            
    31-60     61-89     Past Due                            
    Days     Days     90 Days     Nonaccrual     Total             Total  
    Past Due     Past Due     or More     Loans     Past Due     Current     Loans  
                      (In thousands)              
June 30, 2011
                                                       
Originated Portfolio:
                                                       
Commercial
  $ 6,480     $ 2,888     $ 629     $ 14,386     $ 24,383     $ 674,718     $ 699,101  
Real estate commercial
    11,256       3,479       143       57,324       72,202       730,586       802,788  
Real estate construction
          290                   290       69,791       70,081  
Land development
    209                   8,933       9,142       23,968       33,110  
Real estate residential
    7,284       226       1,729       17,809       27,048       774,968       802,016  
Consumer installment
    4,302       1,056             3,205       8,563       503,766       512,329  
Home equity
    2,635       702       1,243       3,693       8,273       297,481       305,754  
 
                                         
Total
  $ 32,166     $ 8,641     $ 3,744     $ 105,350     $ 149,901     $ 3,075,278     $ 3,225,179  
 
                                         
Acquired Portfolio:
                                                       
Commercial
  $ 18     $     $ 7,659     $     $ 7,677     $ 135,626     $ 143,303  
Real estate commercial
    368             4,235             4,603       258,215       262,818  
Real estate construction
                152             152       20,919       21,071  
Land development
                5,045             5,045       13,044       18,089  
Real estate residential
    128             1,094             1,222       22,622       23,844  
Consumer installment
    168       62                   230       4,846       5,076  
Home equity
    370       107       385             862       47,768       48,630  
 
                                         
Total
  $ 1,052     $ 169     $ 18,570     $     $ 19,791     $ 503,040     $ 522,831  
 
                                         
 
                                                       
December 31, 2010
                                                       
Originated Portfolio:
                                                       
Commercial
  $ 6,788     $ 3,645     $ 530     $ 16,668     $ 27,631     $ 646,840     $ 674,471  
Real estate commercial
    9,960       4,139       1,350       60,558       76,007       716,146       792,153  
Real estate construction
    689                         689       68,506       69,195  
Land development
          119       1,220       8,967       10,306       24,376       34,682  
Real estate residential
    1,126       6,610       3,253       12,083       23,072       748,027       771,099  
Consumer installment
    6,179       1,741       95       1,751       9,766       487,283       497,049  
Home equity
    3,046       825       960       2,935       7,766       282,983       290,749  
 
                                         
Total
  $ 27,788     $ 17,079     $ 7,408     $ 102,962     $ 155,237     $ 2,974,161     $ 3,129,398  
 
                                         
Acquired Portfolio:
                                                       
Commercial
  $ 131     $ 64     $ 10,445     $     $ 10,640     $ 133,886     $ 144,526  
Real estate commercial
    993             3,302             4,295       280,523       284,818  
Real estate construction
    736             243             979       19,060       20,039  
Land development
    2,697             5,580             8,277       10,427       18,704  
Real estate residential
    685             1,541             2,226       24,721       26,947  
Consumer installment
    19       43                   62       6,021       6,083  
Home equity
    85       34       274             393       50,754       51,147  
 
                                         
Total
  $ 5,346     $ 141     $ 21,385     $     $ 26,872     $ 525,392     $ 552,264  
 
                                         
 
                                                       

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Allowance for Loan Losses
Changes in the allowance were as follows for the three and six months ended June 30, 2011 and 2010:
                                 
    Three Months Ended June 30,     Six Months Ended June 30,  
    2011     2010     2011     2010  
          (In thousands)        
Balance at beginning of period
  $ 89,674     $ 84,155     $ 89,530     $ 80,841  
Provision for loan losses
    7,000       12,700       14,500       26,700  
Loan charge-offs
    (8,306 )     (8,297 )     (16,948 )     (20,195 )
Loan recoveries
    1,365       944       2,651       2,156  
 
                       
Net loan charge-offs
    (6,941 )     (7,353 )     (14,297 )     (18,039 )
 
                       
Balance at end of period
  $ 89,733     $ 89,502     $ 89,733     $ 89,502  
 
                       
The following schedule presents, by loan portfolio segment, the changes in the allowance for the three and six months ended June 30, 2011 and details regarding the balance in the allowance and the recorded investment in loans at June 30, 2011 by impairment evaluation method.
                                 
    Commercial     Consumer              
    Loan     Loan              
    Portfolio     Portfolio     Unallocated     Total  
          (In thousands)        
Changes in allowance for loan losses for the three months ended June 30, 2011:
Beginning balance
  $ 57,526     $ 27,417     $ 4,731     $ 89,674  
Provision for loan losses
    5,395       4,458       (2,853 )     7,000  
Charge-offs
    (5,276 )     (3,030 )           (8,306 )
Recoveries
    927       438             1,365  
 
                       
Ending balance
  $ 58,572     $ 29,283     $ 1,878     $ 89,733  
 
                       
Changes in allowance for loan losses for the six months ended June 30, 2011:
Beginning balance
  $ 59,443     $ 27,338     $ 2,749     $ 89,530  
Provision for loan losses
    9,090       6,281       (871 )     14,500  
Charge-offs
    (11,190 )     (5,758 )           (16,948 )
Recoveries
    1,229       1,422             2,651  
 
                       
Ending balance
  $ 58,572     $ 29,283     $ 1,878     $ 89,733  
 
                       
Allowance for loan losses balance at June 30, 2011 attributable to:
Loans individually evaluated for impairment
  $ 10,876     $ 745     $     $ 11,621  
Loans collectively evaluated for impairment
    47,696       28,538       1,878       78,112  
Loans acquired with deteriorated credit quality(1)
                       
 
                       
Total
  $ 58,572     $ 29,283     $ 1,878     $ 89,733  
 
                       
Recorded investment (loan balance) at June 30, 2011:
Loans individually evaluated for impairment
  $ 98,211     $ 22,156     $     $ 120,367  
Loans collectively evaluated for impairment
    1,506,869       1,597,943             3,104,812  
Loans acquired with deteriorated credit quality(1)
    445,281       77,550             522,831  
 
                       
Total
  $ 2,050,361     $ 1,697,649     $     $ 3,748,010  
 
                       

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
The following presents, by loan portfolio segment, details regarding the balance in the allowance and the recorded investment in loans at December 31, 2010 by impairment evaluation method.
                                 
    Commercial     Consumer              
    Loan     Loan              
    Portfolio     Portfolio     Unallocated     Total  
          (In thousands)        
Allowance for loan losses balance at December 31, 2010 attributable to:
Loans individually evaluated for impairment
  $ 14,966     $ 806     $     $ 15,772  
Loans collectively evaluated for impairment
    44,477       26,532       2,749       73,758  
Loans acquired with deteriorated credit quality(1)
                       
 
                       
Total
  $ 59,443     $ 27,338     $ 2,749     $ 89,530  
 
                       
 
                               
Recorded investment (loan balance) at December 31, 2010:
Loans individually evaluated for impairment
  $ 101,250     $ 22,302     $     $ 123,552  
Loans collectively evaluated for impairment
    1,469,251       1,536,595             3,005,846  
Loans acquired with deteriorated credit quality(1)
    468,087       84,177             552,264  
 
                       
Total
  $ 2,038,588     $ 1,643,074     $     $ 3,681,662  
 
                       
 
(1)   Loans acquired with deteriorated credit quality and loans to which the Corporation elected to apply ASC 310-30 by analogy were originally recorded at fair value at the acquisition date and the risk of credit loss was recognized at that date based on estimates of expected cash flows. There have been no material changes in expected cash flows since the acquisition date.
An allowance related to acquired loans was not required at June 30, 2011, December 31, 2010 and June 30, 2010 due to no material changes in expected cash flows since the date of acquisition.
Note 5: Intangible Assets
The Corporation has recorded four types of intangible assets: goodwill, core deposit intangible assets, mortgage servicing rights (MSRs) and non-compete agreements. Goodwill, core deposit intangible assets and non-compete agreements arose as the result of business combinations or other acquisitions. MSRs arose as a result of selling residential real estate mortgage loans in the secondary market while retaining the right to service these loans and receive servicing income over the life of the loan, as well as a result of the OAK acquisition. Amortization is recorded on the core deposit intangible assets, MSRs and non-compete agreements. Goodwill is not amortized but is evaluated at least annually for impairment. The annual goodwill impairment review was performed as of September 30, 2010 and no impairment was indicated. No triggering events have occurred since the annual goodwill impairment review that would require an interim valuation.
The following table shows the net carrying value of the Corporation’s intangible assets:
                         
    June 30,     December 31,     June 30,  
    2011     2010     2010  
    (In thousands)  
Goodwill
  $ 113,414     $ 113,414     $ 109,149  
Core deposit intangible assets
    8,643       9,406       10,791  
Mortgage servicing rights
    3,577       3,782       3,641  
Non-compete agreements
    107       333       591  
 
                 
Total intangible assets
  $ 125,741     $ 126,935     $ 124,172  
 
                 

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
In conjunction with the OAK acquisition, the Corporation recorded $43.5 million of goodwill, $8.4 million in core deposit intangible assets, $0.7 million of mortgage servicing rights and $0.7 million of non-compete agreements as of the acquisition date.
The following table sets forth the carrying amount, accumulated amortization and amortization expense of core deposit intangible assets that are amortizable and arose from business combinations or other acquisitions:
                         
    June 30,     December 31,     June 30,  
    2011     2010     2010  
    (In thousands)  
Gross original amount
  $ 26,468     $ 26,468     $ 26,978  
Accumulated amortization
    17,825       17,062       16,187  
 
                 
Carrying amount
  $ 8,643     $ 9,406     $ 10,791  
 
                 
Amortization expense for the three months ended June 30
  $ 381             $ 336  
 
                   
Amortization expense for the six months ended June 30
  $ 763             $ 485  
 
                   
At June 30, 2011, the remaining amortization expense on core deposit intangible assets that existed as of that date was estimated as follows (in thousands):
         
2011
  $ 764  
2012
    1,469  
2013
    1,309  
2014
    1,146  
2015
    1,066  
2016 and thereafter
    2,889  
 
     
Total
  $ 8,643  
 
     
The following shows the net carrying value and fair value of MSRs and the total loans that the Corporation is servicing for others:
                         
    June 30,     December 31,     June 30,  
    2011     2010     2010  
    (In thousands)  
Net carrying value of MSRs
  $ 3,577     $ 3,782     $ 3,641  
 
                 
Fair value of MSRs
    6,000       5,674       4,788  
 
                 
Loans serviced for others that have servicing rights capitalized
    904,468       891,937       865,613  
 
                 
The following table shows the activity for capitalized MSRs:
                                 
    Three Months Ended June 30,     Six Months Ended June 30,  
    2011     2010     2011     2010  
    (In thousands)  
Balance at beginning of period
  $ 3,832     $ 3,059     $ 3,782     $ 3,077  
Acquired in OAK transaction
          691             691  
Additions
    203       269       711       626  
Amortization
    (458 )     (378 )     (916 )     (753 )
 
                       
Balance at end of period
  $ 3,577     $ 3,641     $ 3,577     $ 3,641  
 
                       

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
There was no impairment valuation allowance recorded on MSRs as of June 30, 2011, December 31, 2010 or June 30, 2010.
Amortization expense on non-compete agreements totaled $0.1 million during the three months ended June 30, 2011 and 2010 and $0.2 million and $0.1 million during the six months ended June 30, 2011 and 2010, respectively. Remaining amortization expense on non-compete agreements that existed at June 30, 2011 was $0.1 million.
Note 6: Accumulated Other Comprehensive Loss
The components of accumulated other comprehensive loss, net of related tax benefit/expense were as follows:
                         
    June 30,     December 31,     June 30,  
    2011     2010     2010  
    (In thousands)  
Net unrealized gains on investment securities—available-for-sale, net of related tax expense of $2,025 at June 30, 2011, $1,786 at December 31, 2010 and $1,853 at June 30, 2010
  $ 3,761     $ 3,317     $ 3,442  
Pension and other postretirement benefits adjustment, net of related tax benefit of $9,258 at June 30, 2011, $9,384 at December 31, 2010 and $8,427 at June 30, 2010
    (17,194 )     (17,428 )     (15,651 )
 
                 
Accumulated other comprehensive loss
  $ (13,433 )   $ (14,111 )   $ (12,209 )
 
                 
Note 7: Regulatory Capital
The Corporation and Chemical Bank are subject to various regulatory capital requirements administered by federal banking agencies. Under these capital requirements, Chemical Bank must meet specific capital guidelines that involve quantitative measures of assets and certain off-balance sheet items as calculated under regulatory accounting practices. In addition, capital amounts and classifications are subject to qualitative judgments by regulators. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Corporation’s consolidated financial statements.
Quantitative measures established by regulation to ensure capital adequacy require minimum ratios of Tier 1 capital to average assets (Leverage Ratio) and Tier 1 and Total capital to risk-weighted assets. These capital guidelines assign risk weights to on- and off- balance sheet items in arriving at total risk-weighted assets. Minimum capital levels are based upon the perceived risk of various asset categories and certain off-balance sheet instruments.
At June 30, 2011, December 31, 2010 and June 30, 2010, Chemical Bank’s capital ratios exceeded the quantitative capital ratios required for an institution to be considered “well-capitalized.” Significant factors that may affect capital adequacy include, but are not limited to, a disproportionate growth in assets versus capital and a change in mix or credit quality of assets.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
The summary below compares the Corporation’s and Chemical Bank’s actual capital amounts and ratios with the quantitative measures established by regulation to ensure capital adequacy:
                                                 
                                    Required to be
                    Minimum   Well Capitalized
                    Required for   Under Prompt
                    Capital Adequacy   Corrective Action
    Actual   Purposes   Regulations
    Capital           Capital           Capital    
    Amount   Ratio   Amount   Ratio   Amount   Ratio
            (In thousands)        
June 30, 2011
                                               
Total Capital to Risk-Weighted Assets:
                                               
Corporation
  $ 486,917       13.0 %   $ 300,744       8.0 %     N/A       N/A  
Chemical Bank
    478,734       12.7       300,517       8.0     $ 375,646       10.0 %
Tier 1 Capital to Risk-Weighted Assets:
                                               
Corporation
    439,394       11.7       150,372       4.0       N/A       N/A  
Chemical Bank
    431,247       11.5       150,258       4.0       225,388       6.0  
Leverage Ratio:
                                               
Corporation
    439,394       8.6       203,915       4.0       N/A       N/A  
Chemical Bank
    431,247       8.5       203,878       4.0       254,847       5.0  
 
                                               
December 31, 2010
                                               
Total Capital to Risk-Weighted Assets:
                                               
Corporation
  $ 473,471       12.9 %   $ 293,856       8.0 %     N/A       N/A  
Chemical Bank
    465,709       12.7       293,573       8.0     $ 366,966       10.0 %
Tier 1 Capital to Risk-Weighted Assets:
                                               
Corporation
    427,014       11.6       146,928       4.0       N/A       N/A  
Chemical Bank
    419,296       11.4       146,786       4.0       220,179       6.0  
Leverage Ratio:
                                               
Corporation
    427,014       8.4       204,426       4.0       N/A       N/A  
Chemical Bank
    419,296       8.2       204,291       4.0       255,363       5.0  
 
                                               
June 30, 2010
                                               
Total Capital to Risk-Weighted Assets:
                                               
Corporation
  $ 497,838       13.6 %   $ 293,818       8.0 %     N/A       N/A  
Chemical Bank(1)
    485,947       13.2       293,819       8.0     $ 367,273       10.0 %
Tier 1 Capital to Risk-Weighted Assets:
                                               
Corporation
    451,387       12.3       146,909       4.0       N/A       N/A  
Chemical Bank(1)
    439,496       12.0       146,909       4.0       220,364       6.0  
Leverage Ratio:
                                               
Corporation
    451,387       9.6       188,515       4.0       N/A       N/A  
Chemical Bank(1)
    439,496       9.3       188,498       4.0       235,623       5.0  
 
                                               
 
(1)   Includes combined capital amounts and ratios of Chemical Bank and Byron Bank at June 30, 2010 as Byron Bank was merged with and into Chemical Bank on July 23, 2010.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Note 8: Fair Value Measurements
Fair value, as defined by GAAP, is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability is not adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for market activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact and (iv) willing to transact.
The Corporation utilizes fair value measurements to record fair value adjustments to certain assets and to determine fair value disclosures. Investment securities — available-for-sale are recorded at fair value on a recurring basis. Additionally, the Corporation may be required to record other assets at fair value on a nonrecurring basis, such as impaired loans, goodwill, other intangible assets and other real estate and repossessed assets. These nonrecurring fair value adjustments typically involve the application of lower of cost or market accounting or write-downs of individual assets.
The Corporation determines the fair value of its financial instruments based on a three-level hierarchy established by GAAP. The classification and disclosure of assets and liabilities within the hierarchy is based on whether the inputs to the valuation methodology used for measurement are observable or unobservable. Observable inputs reflect market-derived or market-based information obtained from independent sources, while unobservable inputs reflect management’s estimates about market data. The three levels of inputs that may be used to measure fair value within the GAAP hierarchy are as follows:
     
Level 1
  Valuation is based upon quoted prices for identical instruments traded in active markets. Level 1 valuations for the Corporation include U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets. Valuations are obtained from a third party pricing service for these investment securities.
 
   
Level 2
  Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market. Level 2 valuations for the Corporation include government sponsored agency securities, including securities issued by the Federal Home Loan Bank, Federal Home Loan Mortgage Corporation, Federal National Mortgage Association, Federal Farm Credit Bank, Student Loan Marketing Corporation and the Small Business Administration, securities issued by certain state and political subdivisions, residential mortgage-backed securities, collateralized mortgage obligations, corporate bonds and preferred stock. Valuations are obtained from a third-party pricing service for these investment securities.
 
   
Level 3
  Valuation is generated from model-based techniques that use at least one significant assumption not observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques include use of option pricing models, discounted cash flow models, yield curves and similar techniques. The determination of fair value requires management judgment or estimation and generally is corroborated by external data, which includes third-party pricing services. Level 3 valuations for the Corporation include securities issued by certain state and political subdivisions, trust preferred securities, impaired loans, goodwill, core deposit intangible assets, MSRs and other real estate and repossessed assets.
A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below. These valuation methodologies were applied to all of the Corporation’s financial assets and financial liabilities carried at fair value and all financial instruments disclosed at fair value. In general, fair value is based upon quoted market prices, where available. If quoted market prices are not available, fair value is based upon third-party pricing services when

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
available. Fair value may also be based on internally developed models that primarily use, as inputs, observable market-based parameters. Valuation adjustments may be required to record financial instruments at fair value. Any such valuation adjustments are applied consistently over time. The Corporation’s valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values.
While management believes the Corporation’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date. Furthermore, the reported fair value amounts may change significantly after the date of the statement of financial position from the amounts presented herein.
Assets and Liabilities Recorded at Fair Value on a Recurring Basis
Investment securities — available-for-sale are recorded at fair value on a recurring basis. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are generally measured using independent pricing models or other model-based valuation techniques that include market inputs, such as benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data and industry and economic events. Level 1 securities include U.S. Treasury securities that are traded by dealers or brokers in active over-the-counter markets. Level 2 securities include securities issued by government sponsored agencies, securities issued by certain state and political subdivisions, residential mortgage-backed securities, collateralized mortgage obligations, corporate bonds and preferred stock.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Disclosure of Recurring Basis Fair Value Measurements
For assets measured at fair value on a recurring basis, quantitative disclosures about the fair value measurements for each major category of assets were as follows:
                                 
    Fair Value Measurements — Recurring Basis  
    Quoted Prices                    
    In Active     Significant              
    Markets for     Other     Significant        
    Identical     Observable     Unobservable        
    Assets     Inputs     Inputs        
    (Level 1)     (Level 2)     (Level 3)     Total  
            (In thousands)          
Description
                               
 
                               
June 30, 2011
                               
Investment securities — available-for-sale:
                               
Government sponsored agencies
  $     $ 109,204     $     $ 109,204  
State and political subdivisions
          44,950             44,950  
Residential mortgage-backed securities
          115,605             115,605  
Collateralized mortgage obligations
          284,244             284,244  
Corporate bonds
          56,904             56,904  
Preferred stock
          1,559             1,559  
 
                       
Total
  $     $ 612,466     $     $ 612,466  
 
                       
 
                               
December 31, 2010
                               
Investment securities — available-for-sale:
                               
Government sponsored agencies
  $     $ 117,521     $     $ 117,521  
State and political subdivisions
          46,046             46,046  
Residential mortgage-backed securities
          136,935             136,935  
Collateralized mortgage obligations
          233,921             233,921  
Corporate bonds
          42,747             42,747  
Preferred stock
          1,440             1,440  
 
                       
Total
  $     $ 578,610     $     $ 578,610  
 
                       
 
                               
June 30, 2010
                               
Investment securities — Trading
  $     $ 1,389     $     $ 1,389  
Investment securities — available-for-sale:
                               
Government sponsored agencies
          163,842             163,842  
State and political subdivisions
          47,873             47,873  
Residential mortgage-backed securities
          156,359             156,359  
Collateralized mortgage obligations
          247,357             247,357  
Corporate bonds
          29,119             29,119  
 
                       
Subtotal
          644,550             644,550  
 
                       
Total
  $     $ 645,939     $     $ 645,939  
 
                       
There were no liabilities recorded at fair value on a recurring basis at June 30, 2011, December 31, 2010 and June 30, 2010.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis
The Corporation does not record loans at fair value on a recurring basis. However, from time to time, a loan is considered impaired and an allocation of the allowance (valuation allowance) may be established or a portion of the loan is charged off. Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. The fair value of impaired loans is estimated using one of several methods, including the loan’s observable market price, the fair value of the collateral or the present value of the expected future cash flows discounted at the loan’s effective interest rate. Those impaired loans not requiring a valuation allowance represent loans for which the fair value of the expected repayments or collateral exceed the remaining carrying amount of such loans. At June 30, 2011, December 31, 2010 and June 30, 2010, substantially all of the impaired loans were evaluated based on the fair value of the collateral. Impaired loans, where a valuation allowance is established or a portion of the loan is charged off based on the fair value of collateral, are subject to nonrecurring fair value measurement and require classification in the fair value hierarchy. When the fair value of the collateral is based on an observable market price or a current appraised value, the Corporation records the impaired loan as a Level 2 valuation. When management determines the fair value of the collateral is further impaired below the appraised value or there is no observable market price or independent appraised value, the Corporation records the impaired loan as a Level 3 valuation.
Goodwill is subject to impairment testing on an annual basis. The market and income approach methods were used in the completion of the annual impairment testing. These valuation methods require a significant degree of judgment. In the event these methods indicate that fair value is less than the carrying value, the asset is recorded at fair value as determined by either of the valuation models. Goodwill that is impaired and subject to nonrecurring fair value measurements is a Level 3 valuation. At June 30, 2011, December 31, 2010 and June 30, 2010, no goodwill was impaired, and therefore, goodwill was not recorded at fair value on a nonrecurring basis.
Other intangible assets consist of core deposit intangible assets and MSRs. These items are both recorded at fair value when initially recorded. Subsequently, core deposit intangible assets are amortized primarily on an accelerated basis over periods ranging from ten to fifteen years and are subject to impairment testing whenever events or changes in circumstances indicate that the carrying amount exceeds the fair value of the asset. If core deposit intangible asset impairment is identified, the Corporation classifies impaired core deposit intangible assets subject to nonrecurring fair value measurements as Level 3 valuations. The fair value of MSRs is initially estimated using a model that calculates the net present value of estimated future cash flows using various assumptions, including prepayment speeds, the discount rate and servicing costs. If the valuation model reflects a value less than the carrying value, MSRs are adjusted to fair value, as determined by the model, through a valuation allowance. The Corporation classifies MSRs subject to nonrecurring fair value measurements as Level 3 valuations. At June 30, 2011, December 31, 2010 and June 30, 2010, there was no impairment identified for core deposit intangible assets or MSRs and, therefore, no other intangible assets were recorded at fair value on a nonrecurring basis.
The carrying amounts for other real estate (ORE) and repossessed assets (RA) are reported in the consolidated statements of financial position under “interest receivable and other assets.” ORE and RA include real estate and other types of assets repossessed by the Corporation. ORE and RA are recorded at the lower of cost or fair value upon the transfer of a loan to ORE or RA and, subsequently, ORE and RA continue to be measured and carried at the lower of cost or fair value. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral. When the fair value of the collateral is based on an observable market price or a current appraised value, the Corporation records ORE and RA as a Level 2 valuation. When management determines the fair value of the collateral is further impaired below the appraised value or there is no observable market price or there is no available appraised value, the Corporation records the ORE and RA as a Level 3 valuation.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Disclosure of Nonrecurring Basis Fair Value Measurements
For assets measured at fair value on a nonrecurring basis, quantitative disclosures about fair value measurements for each major category of assets were as follows:
                                 
    Fair Value Measurements - Nonrecurring Basis  
    Quoted Prices                    
    In Active     Significant              
    Markets for     Other     Significant        
    Identical     Observable     Unobservable        
    Assets     Inputs     Inputs        
    (Level 1)     (Level 2)     (Level 3)     Total  
            (In thousands)          
Description
                               
 
                               
June 30, 2011
                               
Impaired originated loans
  $     $     $ 68,766     $ 68,766  
Other real estate/repossessed assets
                24,607       24,607  
 
                       
Total
  $     $     $ 93,373     $ 93,373  
 
                       
 
                               
December 31, 2010
                               
Impaired originated loans
  $     $     $ 64,883     $ 64,883  
Other real estate/repossessed assets
                27,510       27,510  
 
                       
Total
  $     $     $ 92,393     $ 92,393  
 
                       
 
                               
June 30, 2010
                               
Impaired loans
  $     $     $ 66,450     $ 66,450  
Other real estate/repossessed assets
                21,724       21,724  
 
                       
Total
  $     $     $ 88,174     $ 88,174  
 
                       
There were no liabilities recorded at fair value on a nonrecurring basis at June 30, 2011, December 31, 2010 and June 30, 2010.
Disclosures about Fair Value of Financial Instruments
GAAP requires disclosures about the estimated fair value of the Corporation’s financial instruments, including those financial assets and liabilities that are not measured and reported at fair value on a recurring or nonrecurring basis. However, the method of estimating fair value for financial instruments that are not required to be measured on a recurring or nonrecurring basis, as prescribed by ASC Topic 820, Fair Value Measurements and Disclosures (ASC 820) does not incorporate the exit-price concept of fair value. The Corporation utilized the fair value hierarchy in computing the fair values of its financial instruments. In cases where quoted market prices were not available, the Corporation employed present value methods using unobservable inputs requiring management’s judgment to estimate the fair values of its financial instruments, which are considered Level 3 valuations. These Level 3 valuations are affected by the assumptions made and, accordingly, do not necessarily indicate amounts that could be realized in a current market exchange. It is also the Corporation’s general practice and intent to hold the majority of its financial instruments until maturity and, therefore, the Corporation does not expect to realize the estimated amounts disclosed.
The methodologies for estimating the fair value of financial assets and financial liabilities on a recurring or nonrecurring basis are discussed above. At June 30, 2011, December 31, 2010 and June 30, 2010, the estimated fair values of cash and cash equivalents, interest receivable and interest payable approximated their carrying values at those dates. The methodologies for other financial assets and financial liabilities follow.
Fair value measurement for investment securities — held-to-maturity is based upon quoted prices, if available. If quoted prices are not available, fair values are measured using independent pricing models or other model-based valuation techniques that include market inputs such as benchmark yields, reported trades, broker/dealer quotes,

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data and industry and economic events. Fair value measurements using Level 2 valuations of investment securities—held-to-maturity include certain securities issued by state and political subdivisions and residential mortgage-backed securities. Level 3 valuations include certain securities issued by state and political subdivisions and trust preferred securities.
Fair value measurements of other securities, which consisted of FHLB and Federal Reserve Bank (FRB) stock, are based on their redeemable value, which is cost. The market for these stocks is restricted to the issuer of the stock and subject to impairment evaluation.
The carrying amounts reported in the consolidated statements of financial position for loans held-for-sale are at the lower of cost or market value. The fair values of loans held-for-sale are based on the market price for similar loans in the secondary market. The fair value measurements for loans held-for-sale are Level 2 valuations.
The fair value of variable interest rate loans that reprice regularly with changes in market interest rates are based on carrying values. The fair values for fixed interest rate loans are estimated using discounted cash flow analyses, using the Corporation’s interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. The resulting fair value amounts are adjusted to estimate the impact of changes in the credit quality of borrowers after the loans were originated. The fair value measurements for loans are Level 3 valuations.
The fair values of deposit accounts without defined maturities, such as interest- and noninterest-bearing checking, savings and money market accounts, are equal to the amounts payable on demand. Fair value measurements for fixed-interest rate time deposits with defined maturities are based on the discounted value of contractual cash flows, using the Corporation’s interest rates currently being offered for deposits of similar maturities and are Level 3 valuations. The fair values for variable-interest rate time deposits with defined maturities approximate their carrying amounts.
Short-term borrowings consist of repurchase agreements. Fair value measurements for repurchase agreements are based on the present value of future estimated cash flows using current interest rates offered to the Corporation for debt with similar terms and are Level 2 valuations.
Fair value measurements for FHLB advances are estimated based on the present value of future estimated cash flows using current interest rates offered to the Corporation for debt with similar terms and are Level 2 valuations.
The Corporation’s unused commitments to extend credit, standby letters of credit and loan commitments have no carrying amount and have been estimated to have no realizable fair value. Historically, a majority of the unused commitments to extend credit have not been drawn upon and, generally, the Corporation does not receive fees in connection with these commitments other than standby letter of credit fees, which are not significant.
Fair value measurements have not been made for items that are not defined by GAAP as financial instruments, including such items as the value of the Corporation’s Wealth Management department and the value of the Corporation’s core deposit base. The Corporation believes it is impractical to estimate a representative fair value for these types of assets, even though management believes they add significant value to the Corporation.
A summary of carrying amounts and estimated fair values of the Corporation’s financial instruments included in the consolidated statements of financial position are as follows:

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
                                                 
    June 30, 2011   December 31, 2010   June 30, 2010
    Carrying   Fair   Carrying   Fair   Carrying   Fair
    Amount   Value   Amount   Value     Amount   Value
                    (In thousands)                        
Assets:
                                               
Cash and cash equivalents
  $ 400,279     $ 400,279     $ 536,165     $ 536,165     $ 396,958     $ 396,958  
Investment and other securities
    828,067       825,633       771,143       764,931       838,683       833,102  
Loans held-for-sale
    6,874       6,874       20,479       20,479       10,871       10,871  
Net loans
    3,658,277       3,651,307       3,592,132       3,601,805       3,558,459       3,528,397  
Interest receivable
    15,621       15,621       15,761       15,761       15,604       15,604  
Liabilities:
                                               
Deposits without defined maturities
  $ 2,678,064     $ 2,678,064     $ 2,738,719     $ 2,738,719     $ 2,617,734     $ 2,617,734  
Time deposits
    1,572,912       1,596,321       1,593,046       1,614,854       1,581,448       1,597,671  
Interest payable
    2,487       2,487       2,887       2,887       3,217       3,217  
Short-term borrowings
    276,600       276,600       242,703       242,703       242,271       242,271  
FHLB advances
    71,928       73,380       74,130       75,166       86,635       88,500  
Note 9: Earnings Per Common Share
Basic earnings per common share for the Corporation is computed by dividing net income by the weighted average number of common shares outstanding during the period. Basic earnings per common share excludes any dilutive effect of common stock equivalents.
Diluted earnings per common share for the Corporation is computed by dividing net income by the sum of the weighted average number of common shares outstanding and the dilutive effect of common stock equivalents using the treasury stock method. Average shares of common stock for diluted net income per common share include shares to be issued upon exercise of stock options granted under the Corporation’s stock option plans, restricted stock performance units that may be converted to stock, stock to be issued under the deferred stock compensation plan for non-employee directors and stock to be issued under the stock purchase plan for non-employee advisory directors. For any period in which a loss is recorded, the assumed exercise of stock options, restricted stock performance units that may be converted to stock and stock to be issued under the deferred stock compensation plan and the stock purchase plan would have an anti-dilutive impact on the loss per common share and thus are excluded in the diluted earnings per common share calculation.
The following summarizes the numerator and denominator of the basic and diluted earnings per common share computations:
                                 
    Three Months Ended     Six Months Ended  
    June 30,     June 30,  
    2011     2010     2011     2010  
    (In thousands, except per share data)  
 
                               
Numerator for both basic and diluted earnings per common share, net income
  $ 11,033     $ 4,391     $ 20,221     $ 6,680  
 
                       
 
                               
Denominator for basic earnings per common share, weighted average common shares outstanding
    27,454       26,270       27,453       25,093  
Weighted average common stock equivalents
    43       30       37       24  
 
                       
Denominator for diluted earnings per common share
    27,497       26,300       27,490       25,117  
 
                       
 
                               
Basic earnings per common share
  $ 0.40     $ 0.17     $ 0.74     $ 0.27  
Diluted earnings per common share
    0.40       0.17       0.74       0.27  

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
The average number of exercisable employee stock option awards outstanding that were “out-of-the-money,” whereby the option exercise price per share exceeded the market price per share, and therefore, were not included in the computation of diluted earnings per common share totaled 682,462 and 562,116 for the three months ended June 30, 2011 and 2010, respectively, and 659,875 and 560,644 for the six months ended June 30, 2011 and 2010, respectively.
Note 10: Share-Based Compensation Plans
During the three-month periods ended June 30, 2011 and 2010, share-based compensation expense related to stock options and restricted stock performance units totaled $0.2 million and $0.7 million, respectively. During the six-month periods ended June 30, 2011 and 2010, share-based compensation expense related to stock options and restricted stock performance units totaled $0.4 million and $0.9 million, respectively.
During the three-month period ended June 30, 2011, the Corporation granted options to purchase 99,172 shares of common stock and 51,598 restricted stock performance units to certain officers. At June 30, 2011 there were 394,404 shares of common stock available for future grants under share-based compensation plans.
Stock Options
The Corporation issues fixed stock options to certain officers. Stock options are issued at the current market price of the Corporation’s common stock on the date of grant, generally vest ratably over a three-year period and expire ten years from the date of grant.
A summary of activity for the Corporation’s stock options as of and for the six months ended June 30, 2011 is presented below:
                                         
    Non-Vested        
    Stock Options Outstanding     Stock Options Outstanding  
            Weighted-     Weighted-                
            Average     Average             Weighted-  
            Exercise     Grant Date             Average  
    Number of     Price     Fair Value     Number of     Exercise Price  
    Options     Per Share     Per Share     Options     Per Share  
Outstanding at January 1, 2011
    126,670     $ 23.29     $ 6.99       757,665     $ 29.42  
Granted
    99,172       19.95       6.12       99,172       19.95  
Exercised
                             
Vested
    (62,459 )     23.29       6.77              
Forfeited/expired
                      (16,162 )     30.68  
 
                             
Outstanding at June 30, 2011
    163,383     $ 21.27     $ 6.54       840,675     $ 28.28  
 
                             
 
                                       
Exercisable/vested at June 30, 2011
                            677,292     $ 29.97  
 
                                   
The weighted-average remaining contractual terms were 5.7 years for all outstanding stock options and 4.8 years for exercisable stock options. The outstanding and exercisable stock options at June 30, 2011 had no intrinsic value as the closing price of the Corporation’s common stock on that date of $18.76 per share was less than the exercise price of all stock options outstanding.
At June 30, 2011, unrecognized compensation cost related to stock options totaled $0.9 million. This cost is expected to be recognized over a remaining weighted average period of 2.3 years.

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
Restricted Stock Performance Units
In addition to stock options, the Corporation also grants restricted stock performance units to certain officers. The restricted stock performance units vest based on the Corporation achieving certain performance target levels. Generally, the restricted stock performance units are eligible to vest from 0.5x to 1.5x the number of units originally granted depending on which, if any, of the performance target levels are met. However, if the minimum performance target level is not achieved, no shares will become vested or be issued for that respective year’s restricted stock performance units. Upon achievement of the performance target level and satisfaction of a service condition, if applicable, the restricted stock performance units are converted into shares of the Corporation’s common stock on a one-to-one basis. Compensation expense related to restricted stock performance units is recognized over the expected requisite performance period, or requisite service period for awards with multiple performance and service conditions.
A summary of the activity for restricted stock performance units as of and for the six months ended June 30, 2011 is presented below:
                 
            Weighted-  
            Average  
    Number of     Grant Date  
    Shares     Fair Value  
Outstanding at January 1, 2011
    80,852     $ 22.99  
Granted
    51,598       17.87  
Converted into shares of common stock
    (2,427 )     23.70  
Forfeited/expired
           
 
           
Outstanding at June 30, 2011
    130,023     $ 20.99  
 
           
At June 30, 2011, unrecognized compensation cost related to restricted stock performance unit awards totaled $0.9 million. This cost is recognized based on the expected achievement of the targeted earnings per common share level for the restricted stock performance units over approximately two years.
Note 11: Pension and Other Postretirement Benefit Plans
The components of net periodic benefit cost (income) for the Corporation’s qualified and nonqualified pension plans and nonqualified postretirement benefits plan are as follows:
                                 
    Defined Benefit Pension Plans  
    Three Months Ended     Six Months Ended  
    June 30,     June 30,  
    2011     2010     2011     2010  
            (In thousands)          
Service cost
  $ 291     $ 313     $ 582     $ 627  
Interest cost
    1,208       1,209       2,415       2,418  
Expected return on plan assets
    (1,582 )     (1,431 )     (3,164 )     (2,862 )
Amortization of prior service credit
                (1 )     (1 )
Amortization of unrecognized net loss
    269       124       539       247  
 
                       
Net periodic benefit cost
  $ 186     $ 215     $ 371     $ 429  
 
                       

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Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
June 30, 2011
                                 
    Postretirement Benefits Plan  
    Three Months Ended     Six Months Ended  
    June 30,     June 30,  
    2011     2010     2011     2010  
            (In thousands)          
Interest cost
  $ 41     $ 54     $ 83     $ 108  
Amortization of prior service credit
    (81 )     (81 )     (162 )     (162 )
Amortization of unrecognized net gain
    (8 )           (16 )      
 
                       
Net periodic benefit income
  $ (48 )   $ (27 )   $ (95 )   $ (54 )
 
                       
401(k) Savings Plan expense for the Corporation’s match of participants’ base compensation contributions and a 4% of eligible pay contribution to certain employees who are not grandfathered under the pension plan was $0.7 million and $0.6 million for the three months ended June 30, 2011 and 2010, respectively, and $1.4 million and $1.1 million for the six months ended June 30, 2011 and 2010, respectively.
Note 12: Financial Guarantees
In the normal course of business, the Corporation is a party to financial instruments containing credit risk that are not required to be reflected in the consolidated statements of financial position. For the Corporation, these financial instruments are financial and performance standby letters of credit. The Corporation has risk management policies to identify, monitor and limit exposure to credit risk. To mitigate credit risk for these financial guarantees, the Corporation generally determines the need for specific covenant, guarantee and collateral requirements on a case-by- case basis, depending on the nature of the financial instrument and the customer’s creditworthiness. At June 30, 2011, December 31, 2010 and June 30, 2010, the Corporation had $47.8 million, $44.9 million and $43.0 million, respectively, of outstanding financial and performance standby letters of credit which expire in five years or less. The majority of these standby letters of credit are collateralized. At June 30, 2011, December 31, 2010 and June 30, 2010, the Corporation’s assessment determined there was $0.3 million of probable losses relating to standby letters of credit, which has been recorded as an other liability in the Corporation’s statement of financial position.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following is management’s discussion and analysis of certain significant factors that have affected Chemical Financial Corporation’s (Corporation’s) financial condition and results of operations during the periods included in the consolidated financial statements included in this filing.
Critical Accounting Policies
The Corporation’s consolidated financial statements are prepared in accordance with generally accepted accounting principles (GAAP) and follow general practices within the industry in which the Corporation operates. Application of these principles requires management to make estimates, assumptions and complex judgments that affect the amounts reported in the financial statements and accompanying notes. These estimates, assumptions and judgments are based on information available as of the date of the financial statements; accordingly, as this information changes, the financial statements could reflect different estimates, assumptions and judgments. Actual results could differ significantly from those estimates. Certain policies inherently have a greater reliance on the use of estimates, assumptions and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported. Management has identified the determination of the allowance for loan losses, accounting for loans acquired in business combinations, pension plan accounting, income and other taxes, fair value measurements and the evaluation of goodwill impairment to be the accounting areas that require the most subjective or complex judgments, and as such, could be most subject to revision as new or additional information becomes available or circumstances change, including overall changes in the economic climate and/or market interest rates. Therefore, management considers them to be critical accounting policies and discusses them directly with the Audit Committee of the board of directors. The Corporation’s significant accounting policies are more fully described in Note 1 to the audited consolidated financial statements contained in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2010 and the more significant assumptions and estimates made by management are more fully described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies” in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2010. There have been no material changes to those policies or the estimates made pursuant to those policies during the most recent quarter.
Acquisition of O.A.K. Financial Corporation
On April 30, 2010, the Corporation acquired 100% of O.A.K. Financial Corporation (OAK) for total consideration of $83.7 million. OAK, a bank holding company, owned Byron Bank, which provided traditional banking services and products through 14 banking offices serving communities in Ottawa, Allegan and Kent counties in west Michigan. At April 30, 2010, OAK had total assets of $820 million, including total loans of $627 million, and total deposits of $693 million, including brokered deposits of $193 million. The Corporation operated Byron Bank as a separate subsidiary from the acquisition date until July 23, 2010, the date Byron Bank was consolidated with and into Chemical Bank.
In connection with the acquisition of OAK, the Corporation recorded $43.5 million of goodwill. Goodwill recorded is primarily attributable to the synergies and economies of scale expected from combining the operations of the Corporation and OAK. In addition, the Corporation recorded $9.8 million of other intangible assets, including core deposit intangible assets of $8.4 million, mortgage servicing rights of $0.7 million and non-compete agreements of $0.7 million, in conjunction with the acquisition.
Summary
The Corporation’s net income was $11.0 million, or $0.40 per diluted share, in the second quarter of 2011, compared to net income of $9.2 million, or $0.33 per diluted share, in the first quarter of 2011 and net income of $4.4 million, or $0.17 per diluted share, in the second quarter of 2010. The increase in net income and earnings per share in the second quarter of 2011, compared to the first quarter of 2011, was primarily attributable to a lower

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provision for loan losses and lower operating expenses. The increase in net income and earnings per share in the second quarter of 2011, compared to the second quarter of 2010, was attributable to a lower provision for loan losses and the acquisition of OAK.
Return on average assets, on an annualized basis, in the second quarter of 2011 was 0.84%, compared to 0.70% in the first quarter of 2011 and 0.36% in the second quarter of 2010. Return on average equity, on an annualized basis, in the second quarter of 2011 was 7.8%, compared to 6.6% in the first quarter of 2011 and 3.3% in the second quarter of 2010.
Total assets were $5.20 billion at June 30, 2011, a decrease of $42 million, or 0.8%, from total assets of $5.25 billion at December 31, 2010 and an increase of $84 million, or 1.6%, from total assets of $5.12 billion at June 30, 2010. Total loans were $3.75 billion at June 30, 2011, an increase of $66 million, or 1.8%, from total loans of $3.68 billion at December 31, 2010 and an increase of $100 million, or 2.7%, from total loans of $3.65 billion at June 30, 2010. Total deposits were $4.25 billion at June 30, 2011, a decrease of $81 million, or 1.9%, from total deposits of $4.33 billion at December 31, 2010, and an increase of $52 million, or 1.2%, from total deposits of $4.20 billion at June 30, 2010.
At June 30, 2011, tangible shareholders’ equity was 8.9% of total assets, compared to 8.6% of total assets at December 31, 2010 and 8.8% of total assets at June 30, 2010.
Financial Condition
Total Assets
Total assets were $5.20 billion at June 30, 2011, a decrease of $42 million, or 0.8%, from total assets of $5.25 billion at December 31, 2010 and an increase of $84 million, or 1.6%, from total assets of $5.12 billion at June 30, 2010.
Interest-earning assets were $4.85 billion at June 30, 2011, a decrease of $64 million, or 1.3%, from interest-earning assets of $4.92 billion at December 31, 2010 and an increase of $86 million, or 1.8%, from interest-earning assets of $4.77 billion at June 30, 2010.
The increases in total assets and interest-earning assets during the twelve months ended June 30, 2011 were primarily attributable to loan growth. The decreases in total assets and interest-earning assets during the six months ended June 30, 2011 were primarily attributable to a decrease in interest-bearing deposits with the Federal Reserve Bank resulting from seasonal decreases in municipal customer deposits.
Investment Securities
The carrying value of investment securities totaled $802.5 million at June 30, 2011, an increase of $58.5 million, or 7.9%, from investment securities of $744.0 million at December 31, 2010 and a decrease of $8.7 million, or 1.1% from investment securities of $811.2 million at June 30, 2010. The increase in investment securities during the six months ended June 30, 2011 was primarily attributable to the Corporation investing a portion of its excess liquidity in collateralized mortgage obligations and taxable securities of state and political subdivisions with average maturities of approximately three years. At June 30, 2011, the Corporation’s investment securities portfolio consisted of $109.2 million in government sponsored agency debt obligations comprised primarily of senior bonds that were issued by the twelve regional Federal Home Loan Banks that make up the Federal Home Loan Bank System (FHLBanks), fixed rate government sponsored agency instruments backed by the Federal National Mortgage Association (Fannie Mae), the Federal Home Loan Mortgage Corporation (Freddie Mac), the Federal Farm Credit Bank and the Small Business Administration, and variable rate instruments backed by the Student Loan Marketing Corporation; $224.5 million in state and political subdivisions debt obligations comprised primarily of general debt obligations of issuers primarily located in the State of Michigan; $115.6 million in residential mortgage-backed securities comprised primarily of fixed rate instruments backed by a U.S. government agency (Government National

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Mortgage Association) or government sponsored enterprises (Freddie Mac and Fannie Mae); $284.2 million of collateralized mortgage obligations comprised primarily of variable rate instruments with average maturities of less than three years backed by the same U.S. government agency and government sponsored enterprises as the residential mortgage-backed securities; $56.9 million in corporate bonds comprised primarily of debt obligations of large national financial organizations; $1.6 million of preferred stock securities of two large banks; and $10.5 million of trust preferred securities (TRUPs) comprised primarily of a 100% interest in a TRUP of a non-public bank holding company in Michigan.
The Corporation records all investment securities in accordance with Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) Topic 320, Investments-Debt and Equity Securities (ASC 320), under which the Corporation is required to assess equity and debt securities that have fair values below their amortized cost basis to determine whether the decline (impairment) is other-than-temporary. An assessment is performed quarterly by the Corporation to determine whether unrealized losses in its investment securities portfolio are temporary or other-than-temporary by carefully considering all available information. The Corporation reviews factors such as financial statements, credit ratings, news releases and other pertinent information of the underlying issuer or company to make its determination. In assessing whether a decline is other-than-temporary, management considers, among other things, (i) the length of time and the extent to which the fair value has been less than amortized cost, (ii) the financial condition and near-term prospects of the issuer, (iii) the potential for impairments in an entire industry or sub-sector and (iv) the potential for impairments in certain economically depressed geographical locations.
The Corporation’s investment securities portfolio with a carrying value of $802.5 million at June 30, 2011, had gross impairment of $7.8 million at that date. Management believed that the unrealized losses on investment securities were temporary in nature and due primarily to changes in interest rates on the investment securities and market illiquidity and not as a result of credit-related issues. Accordingly, at June 30, 2011, the Corporation believed the impairment in its investment securities portfolio was temporary in nature and, therefore, no impairment loss was realized in the Corporation’s consolidated statement of income for the six months ended June 30, 2011. However, due to market and economic conditions, other-than-temporary impairment (OTTI) may occur as a result of material declines in the fair value of investment securities in the future. A further discussion of the assessment of potential impairment and the Corporation’s process that resulted in the conclusion that the impairment was temporary in nature follows.
At June 30, 2011, the Corporation’s investment securities portfolio included government sponsored agencies, residential mortgage-backed securities and collateralized mortgage obligations, combined, with gross impairment of $0.6 million, state and political subdivisions securities with gross impairment of $1.2 million, corporate bonds with gross impairment of $0.2 million and trust preferred securities with gross impairment of $5.8 million. The amortized costs and fair values of investment securities are disclosed in Note 3 to the consolidated financial statements.
The government sponsored agencies, residential mortgage-backed securities and collateralized mortgage obligations, included in the available-for-sale investment securities portfolio, had a combined amortized cost of $504.6 million, with gross impairment of $0.6 million, at June 30, 2011. Virtually all of the impaired investment securities in these three categories are backed by the full faith and credit of the U.S. government, or a guarantee of a U.S. government agency or government sponsored enterprise. The Corporation determined that the impairment on these investment securities was attributable to the low level of market interest rates and that the impairment on these investment securities was temporary in nature at June 30, 2011.
The state and political subdivisions securities, included in the available-for-sale and the held-to-maturity investment securities portfolios, had an amortized cost totaling $223.3 million, with gross impairment of $1.2 million, at June 30, 2011. The majority of these investment securities are from issuers primarily located in the State of Michigan and are general obligations of the issuer, meaning that repayment of these obligations is funded by general tax collections of the issuer. The gross impairment was attributable to impaired state and political subdivisions securities with an amortized cost of $61 million, with the majority of these investment securities maturing beyond 2012. It was the Corporation’s assessment that the impairment on these investment securities was attributable to changes in market interest rates for these investment securities and the market’s perception of the Michigan economy causing illiquidity in the market for these investment securities and that the impairment on these investment securities was temporary in nature at June 30, 2011.

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The Corporation’s corporate bond portfolio, included in the available-for-sale investment securities portfolio, had an amortized cost of $56.9 million, with gross impairment of $0.2 million, at June 30, 2011. All of the corporate bonds held at June 30, 2011 were of an investment grade, except a single issue investment security of Lehman Brothers Holdings Inc. (Lehman) with a remaining amortized cost of less than $0.1 million at June 30, 2011 and a corporate bond of American General Finance Corporation (AGFC). At June 30, 2011, the AGFC corporate bond had an amortized cost of $2.5 million and a maturity date of December 15, 2011. At June 30, 2011, the Corporation’s assessment was that it was probable that it would collect all of the contractual amounts due on the AGFC corporate bond. The investment grade ratings obtained for the balance of the corporate bond portfolio, with a gross impairment of $0.2 million at June 30, 2011, indicated that the obligors’ capacities to meet their financial commitments was “strong.” It was the Corporation’s assessment that the gross impairment of $0.2 million on the corporate bond portfolio at June 30, 2011 was attributable to the current level of market interest rates, and not due to credit-related issues, and that the impairment on the corporate bond portfolio was temporary in nature at June 30, 2011.
At June 30, 2011, the Corporation held two TRUPs in the held-to-maturity investment securities portfolio, with a combined amortized cost of $10.5 million that had gross impairment of $5.8 million. One TRUP, with an amortized cost of $10.0 million, represented a 100% interest in a TRUP of a non-public bank holding company in Michigan that was purchased in the second quarter of 2008. At June 30, 2011, the Corporation determined that the fair value of this TRUP was $4.5 million. The second TRUP, with an amortized cost of $0.5 million, represented a 10% interest in the TRUP of another non-public bank holding company in Michigan. At June 30, 2011, the Corporation determined the fair value of this TRUP was $0.2 million. The fair value measurements of the two TRUP investments were developed based upon market pricing observations of much larger banking institutions in an illiquid market adjusted by risk measurements. The fair values of the TRUPs were based on calculations of discounted cash flows, and further based upon both observable inputs and appropriate risk adjustments that market participants would make for performance, liquidity and issuer specifics. See the additional discussion of the development of the fair values of the TRUPs in Note 3 to the consolidated financial statements. Management reviewed financial information of the issuers of the TRUPs at June 30, 2011. Based on this review, the Corporation concluded that the significant decline in fair values of the TRUPs, compared to their amortized cost, was not attributable to materially adverse conditions specifically related to the issuers.
The issuer of the $10.0 million TRUP reported net income in the first and second quarter of 2011 and in each of the three years ended December 31, 2010 and was categorized as well-capitalized under applicable regulatory requirements during that time. Based on the Corporation’s analysis at June 30, 2011, it was the Corporation’s opinion that this issuer appeared to be a financially sound financial institution with sufficient liquidity to meet its financial obligations in 2011. Common stock cash dividends were paid throughout 2010 and 2009 by the issuer and the Corporation understands that the issuer’s management anticipates cash dividends to continue to be paid in the future. All scheduled interest payments on this TRUP have been made on a timely basis. The principal of $10.0 million of this TRUP matures in 2038, with interest payments due quarterly.
Based on the information provided by the issuer of the $10.0 million TRUP, it was the Corporation’s opinion that, as of June 30, 2011, there had been no material adverse changes in the issuer’s financial performance since the TRUP was issued and purchased by the Corporation and no indication that any material adverse trends were developing that would suggest that the issuer would be unable to make all future principal and interest payments under the TRUP. Further, based on the information provided by the issuer, the issuer appeared to be a financially viable financial institution with both the credit quality and liquidity necessary to meet its financial obligations in 2011. At June 30, 2011, the Corporation was not aware of any regulatory issues, memorandums of understanding or cease and desist orders that had been issued to the issuer or its subsidiaries. In reviewing all available information regarding the issuer, including past performance and its financial and liquidity position, it was the Corporation’s opinion that the future cash flows of the issuer supported the carrying value of the TRUP at its original cost of $10.0 million at June 30, 2011. While the total fair value of the TRUP was $5.5 million below the Corporation’s amortized cost at June 30, 2011, it was the Corporation’s assessment that, based on the overall financial condition of the issuer, the impairment was temporary in nature at June 30, 2011.
The issuer of the $0.5 million TRUP reported a small net loss in the first quarter of 2011 compared to larger net losses reported in 2010 and 2009. At June 30, 2011, the issuer was categorized as well-capitalized under applicable regulatory requirements. All scheduled interest payments on this TRUP have been made on a timely basis. The principal of $0.5 million of this TRUP matures in 2033, with interest payments due quarterly. At June 30, 2011, the

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Corporation was not aware of any regulatory issues, memorandums of understanding or cease and desist orders that had been issued to the issuer of this TRUP or any subsidiary. In reviewing all financial information regarding the $0.5 million TRUP, it was the Corporation’s opinion that the carrying value of this TRUP at its original cost of $0.5 million was supported by the issuer’s financial position at June 30, 2011, even though the fair value of the TRUP was $0.3 million below the Corporation’s amortized cost at June 30, 2011. It was the Corporation’s assessment that the impairment was temporary in nature at June 30, 2011.
At June 30, 2011, the Corporation expected to fully recover the entire amortized cost basis of each impaired investment security in its investment securities portfolio at that date. Furthermore, at June 30, 2011, the Corporation did not have the intent to sell any of its impaired investment securities and believed that it was more likely-than-not that the Corporation would not have to sell any of its impaired investment securities before a full recovery of amortized cost. However, there can be no assurance that OTTI losses will not be recognized on the TRUPs or on any other investment security in the future.
Loans
Chemical Bank is a full-service commercial bank and, therefore, the acceptance and management of credit risk is an integral part of the Corporation’s business. At June 30, 2011, the Corporation’s loan portfolio was $3.75 billion and consisted of loans to commercial borrowers (commercial, real estate commercial, real estate construction and land development) totaling $2.05 billion, or 55% of total loans, loans to borrowers for the purpose of acquiring residential real estate totaling $826 million, or 22% of total loans, and loans to consumer borrowers (consumer installment and home equity) secured by various types of collateral totaling $872 million, or 23% of total loans, at that date. Loans at fixed interest rates comprised approximately 72% of the Corporation’s total loan portfolio at June 30, 2011 and December 31, 2010, compared to 73% at June 30, 2010.
The Corporation maintains loan policies and credit underwriting standards as part of the process of managing credit risk. These standards include making loans generally only within the Corporation’s market areas. The Corporation’s lending markets generally consist of communities across the middle to southern and western sections of the lower peninsula of Michigan. The Corporation’s lending market areas do not include the southeastern portion of Michigan. The Corporation has no foreign loans or any loans to finance highly leveraged transactions. The Corporation’s lending philosophy is implemented through strong administrative and reporting controls. The Corporation maintains a centralized independent loan review function that monitors the approval process and ongoing asset quality of the loan portfolio.
Total loans were $3.75 billion at June 30, 2011, an increase of $66 million, or 1.8%, from total loans of $3.68 billion at December 31, 2010 and an increase of $100 million, or 2.7%, from total loans of $3.65 billion at June 30, 2010. The increase in total loans during the six months ended June 30, 2011 was due to increases in seasonal advances on commercial loan working lines of credit during the second quarter of 2011 and the Corporation originating $50 million of fifteen-year fixed-rate residential mortgage loans since year end 2010 that it held in its portfolio, as opposed to selling them in the secondary market as has been its general practice. A summary of the Corporation’s loan portfolio by category follows.
Commercial loans consist of loans to varying types of businesses, including municipalities, school districts and nonprofit organizations, for the purpose of supporting working capital and operational needs and term financing of equipment. Repayment of such loans is generally provided through operating cash flows of the customer. Commercial loans are generally secured with inventory, accounts receivable, equipment, personal guarantees of the owner or other sources of repayment, although the Corporation may also obtain real estate as collateral.
Commercial loans were $842.4 million at June 30, 2011, an increase of $23.4 million, or 2.9%, from commercial loans of $819.0 million at December 31, 2010 and an increase of $73.1 million, or 9.5%, from commercial loans of $769.3 million at June 30, 2010. The increase in commercial loans during the six months ended June 30, 2011 was primarily due to increases in seasonal advances on working lines of credit during the second quarter of 2011. Commercial loans represented 22.5% of the Corporation’s loan portfolio at June 30, 2011, compared to 22.2% and 21.1% at December 31, 2010 and June 30, 2010, respectively.
Real estate commercial loans include loans that are secured by real estate occupied by the borrower for ongoing operations, non-owner occupied real estate leased to one or more tenants and vacant land that has been acquired for

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investment or future land development. Real estate commercial loans were $1.07 billion at June 30, 2011, a decrease of $11.4 million, or 1.1%, from real estate commercial loans of $1.08 billion at December 31, 2010 and a decrease of $16.3 million, or 1.5%, from real estate commercial loans of $1.08 million at June 30, 2010. Loans secured by owner occupied properties, non-owner occupied properties and vacant land comprised 64%, 33% and 3%, respectively, of the Corporation’s real estate commercial loans outstanding at June 30, 2011. Real estate commercial loans represented 28.4% of the Corporation’s loan portfolio at June 30, 2011, compared to 29.3% and 29.6% at December 31, 2010 and June 30, 2010, respectively.
Real estate commercial lending is generally considered to involve a higher degree of risk than real estate residential lending and typically involves larger loan balances concentrated in a single borrower. In addition, the payment experience on loans secured by income-producing properties and vacant land loans are typically dependent on the success of the operation of the related project and are typically affected by adverse conditions in the real estate market and in the economy.
The Corporation generally attempts to mitigate the risks associated with commercial and real estate commercial lending by, among other things, lending primarily in its market areas, lending across industry lines, not developing a concentration in any one line of business and using prudent loan-to-value ratios in the underwriting process. The weakened economy in Michigan has resulted in higher loan delinquencies, customer bankruptcies and real estate foreclosures. Based on current economic conditions in Michigan, management expects real estate foreclosures to remain higher than historical averages. It is also management’s belief that the loan portfolio is generally well-secured, despite declining market values for all types of real estate in the State of Michigan and nationwide.
Real estate construction and land development loans are primarily originated for land development and construction of commercial properties. Land development loans include loans made to developers for the purpose of infrastructure improvements to vacant land to create finished marketable residential and commercial lots/land. Real estate construction loans often convert to a real estate commercial loan at the completion of the construction period; however, most land development loans are originated with the intention that the loans will be repaid through the sale of finished properties by the developers within twelve months of the completion date. Real estate construction and land development loans were $142.4 million at June 30, 2011, a decrease of $0.2 million from real estate construction and land development loans of $142.6 million at December 31, 2010 and a decrease of $36.6 million, or 20.5%, from real estate construction and land development loans of $179.0 million at June 30, 2010. The Corporation’s land development loans totaled $51.2 million, $53.4 million and $59.6 million at June 30, 2011, December 31, 2010 and June 30, 2010, respectively, and consisted primarily of loans to develop land for the future construction of residential real estate properties. Real estate construction and land development loans represented 3.8% of the Corporation’s loan portfolio at June 30, 2011, compared to 3.9% and 4.9% at December 31, 2010 and June 30, 2010, respectively.
Real estate construction lending involves a higher degree of risk than real estate commercial lending and real estate residential lending because of the uncertainties of construction, including the possibility of costs exceeding the initial estimates, the need to obtain a tenant or purchaser of the property if it will not be owner-occupied or the need to sell developed properties. The Corporation generally attempts to mitigate the risks associated with construction lending by, among other things, lending primarily in its market areas, using prudent underwriting guidelines and closely monitoring the construction process. The Corporation’s risk in this area has increased since early 2008 due to the recessionary economic environment within the State of Michigan. The sale of lots and units in both residential and commercial development projects remains weak, as customer demand also remains low, resulting in the inventory of unsold lots and housing units remaining high across the State of Michigan. The unfavorable economic environment in Michigan has resulted in the inability of most developers to sell their finished developed lots and units within their original expected time frames. Accordingly, few of the Corporation’s land development borrowers have sold developed lots or units since early 2008 due to the unfavorable economic environment.
The Corporation’s commercial loan portfolio, comprised of commercial, real estate commercial, real estate construction and land development loans, is well diversified across business lines and has no concentration in any one industry. The commercial loan portfolio totaling $2.05 billion at June 30, 2011 included 140 loan relationships of $2.5 million or greater. These 140 borrowing relationships totaled $745.5 million and represented 36.4% of the commercial loan portfolio at June 30, 2011 and included 11 borrowing relationships that had outstanding balances of $10 million or higher, totaling $151.7 million, or 7.4%, of the commercial loan portfolio at that date. Further, the Corporation had nine loan relationships at June 30, 2011 with loan balances greater than $2.5 million and less than

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$10 million, totaling $58.3 million, that had unfunded credit amounts that, if advanced, could result in a loan relationship of $10 million or more.
Real estate residential loans consist primarily of one- to four-family residential loans with fixed interest rates of fifteen years or less. The Corporation has historically sold fixed interest rate real estate residential loans originated with maturities of fifteen years and over in the secondary market. However, during 2010 and the first six months of 2011, the Corporation originated $71 million and $50 million, respectively, of fifteen year fixed rate real estate residential loans that it retained in its portfolio. The loan-to-value ratio at the time of origination is generally 80% or less. Loans with more than an 80% loan-to-value ratio generally require private mortgage insurance.
Real estate residential loans were $825.9 million at June 30, 2011, an increase of $27.9 million, or 3.5%, from real estate residential loans of $798.0 million at December 31, 2010 and an increase of $57.7 million, or 7.5%, from real estate residential loans of $768.2 million at June 30, 2010. The increases in real estate residential loans from December 31, 2010 and from June 30, 2010 were due to the Corporation electing to hold in its portfolio fifteen-year term fixed interest rate real estate residential loans, as previously discussed, that historically have been sold in the secondary market. While real estate residential loans have historically involved the least amount of credit risk in the Corporation’s loan portfolio, the risk on these loans has increased with the increase in the unemployment rate in the State of Michigan and the decrease in real estate property values in the State of Michigan. Real estate residential loans also include loans to consumers for the construction of single family residences that are secured by these properties. Real estate residential construction loans to consumers were $16.5 million at June 30, 2011, compared to $15.3 million at December 31, 2010 and $18.0 million at June 30, 2010. Real estate residential loans represented 22.0% of the Corporation’s loan portfolio at June 30, 2011, compared to 21.7% and 21.1% at December 31, 2010 and June 30, 2010, respectively.
The Corporation’s consumer loans consist of relatively small loan amounts to consumers to finance personal items; primarily automobiles, recreational vehicles, boats and home improvements. These loans are spread across many individual borrowers, which minimizes the risk per loan transaction. Collateral values, particularly those of automobiles, recreational vehicles and boats, are negatively impacted by many factors, such as new car promotions, the physical condition of the collateral and even more significantly, overall economic conditions. Consumer loans also include home equity loans, whereby consumers utilize equity in their personal residence, generally through a second mortgage, as collateral to secure the loan.
Consumer installment and home equity loans (collectively referred to as consumer loans) were $871.8 million at June 30, 2011, an increase of $26.8 million from consumer loans of $845.0 million at December 31, 2010 and an increase of $22.1 million, or 2.6%, from consumer loans of $849.7 million at June 30, 2010. The increase in consumer loans from December 31, 2010 was due to the Corporation’s extended consumer loan promotional program. Consumer loans include indirect loans for automobile, recreational vehicle and boat financing purchased from dealerships. At June 30, 2011, approximately 45% of consumer loans were secured by the borrowers’ personal residences (primarily second mortgages), 24% by automobiles, 19% by recreational vehicles, 9% by marine vehicles and the remaining 3% was mostly unsecured. Consumer loans represented 23.3% of the Corporation’s loan portfolio at June 30, 2011, compared to 22.9% and 23.3% at December 31, 2010 and June 30, 2010, respectively.
Consumer loans generally have shorter terms than residential mortgage loans, but generally involve more credit risk than real estate residential lending because of the type and nature of the collateral. The Corporation originates consumer loans utilizing a computer-based credit scoring analysis to supplement the underwriting process. Consumer lending collections are dependent on the borrowers’ continuing financial stability and are more likely to be affected by adverse personal situations. The unemployment rate in the State of Michigan was 10.5% at June 30, 2011, down from 11.1% at December 31, 2010, and 12.6% at June 30, 2010, although higher than the national average of 9.2% at June 30, 2011. The Corporation has experienced decreases in losses on consumer loans, with net loan losses totaling 70 basis points (annualized) of average consumer loans during the first six months of 2011, compared to 116 basis points of average consumer loans in 2010. The credit risk on home equity loans has historically been low as property values of residential real estate have historically increased year over year. However, credit risk has increased since the beginning of 2008 as property values have declined throughout the State of Michigan, thus increasing the risk of insufficient collateral, and in many instances no collateral on some home equity loans, as the majority of these loans are secured by a second mortgage on the borrowers’ residences.

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Nonperforming Assets
Nonperforming assets consist of originated loans for which the accrual of interest has been discontinued (nonaccrual loans), originated loans that are past due as to principal or interest by 90 days or more and are still accruing interest and originated loans that have been modified under troubled debt restructurings (TDRs) due to a decline in the credit quality of the borrower that have not satisfied the Corporation’s payment policy (as described below) to be considered performing (collectively referred to as nonperforming loans) and assets obtained through foreclosures and repossessions, including foreclosed and repossessed assets acquired as a result of the OAK transaction. The Corporation transfers an originated loan that is 90 days or more past due to nonaccrual status (except for real estate residential loans that are transferred at 120 days past due), unless it believes the loan is both well-secured and in the process of collection. Accordingly, the Corporation has determined that the collection of accrued and unpaid interest on any originated loan that is 90 days or more past due (120 days or more past due on real estate residential loans) and still accruing interest is probable. TDRs continue to be reported as nonperforming loans until a six-month payment history of principal and interest payments is sustained in accordance with the loan modification, at which time the Corporation moves the loan to a performing TDR status.
Nonperforming assets were $160.5 million at June 30, 2011, compared to $172.2 million at March 31, 2011 and $175.2 million at December 31, 2010, and represented 3.08%, 3.23% and 3.34%, respectively, of total assets. The decline in nonperforming assets during the second quarter of 2011 was primarily attributable to the Corporation classifying $12.9 million of nonperforming TDRs to performing status during the quarter due to the borrowers’ sustained repayment history under the modified loan terms. It is management’s belief that the elevated levels of nonperforming assets are primarily attributable to the unfavorable economic climate within the State of Michigan, that has existed for more than four years, which has resulted in cash flow difficulties being encountered by many business and consumer loan customers. The unemployment rate in Michigan was 10.5% at June 30, 2011, compared to 9.2% nationwide. The Corporation’s nonperforming assets are not concentrated in any one industry or any one geographical area within Michigan, other than $9.1 million in nonperforming land development loans. At June 30, 2011, there were four commercial loan relationships exceeding $2.5 million, totaling $15.9 million, that were in nonperforming status. Based on declines in both residential and commercial real estate appraised values due to the weakness in the Michigan economy over the past several years, management continues to evaluate and, when appropriate, discount appraised values and obtain new appraisals to compute estimated fair market values of impaired real estate secured loans and other real estate properties. Due to the economic climate within Michigan, it is management’s belief that nonperforming assets will remain at elevated levels throughout 2011.

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The following schedule provides a summary of nonperforming assets, including the composition of nonperforming loans, by major loan category.
Nonperforming Assets
                         
    June 30,     March 31,     December 31,  
    2011     2011     2010  
    (In thousands)  
Nonaccrual loans:
                       
Commercial
  $ 14,386     $ 15,672     $ 16,668  
Real estate commercial
    57,324       59,931       60,558  
Real estate construction and land development
    8,933       9,414       8,967  
Real estate residential
    17,809       15,505       12,083  
Consumer installment and home equity
    6,898       5,774       4,686  
 
                 
Total nonaccrual loans
    105,350       106,296       102,962  
 
                 
Accruing loans contractually past due 90 days or more as to interest or principal payments:
                       
Commercial
    629       455       530  
Real estate commercial
    143       459       1,350  
Real estate construction and land development
                1,220  
Real estate residential
    1,729       191       3,253  
Consumer installment and home equity
    1,243       1,091       1,055  
 
                 
Total accruing loans contractually past due 90 days or more as to interest or principal payments
    3,744       2,196       7,408  
 
                 
TDRs:
                       
Commercial and real estate commercial
    15,443       15,201       15,057  
Real estate residential
    11,392       22,166       22,302  
 
                 
Total nonperforming TDRs
    26,835       37,367       37,359  
 
                 
Total nonperforming loans
    135,929       145,859       147,729  
Other real estate and repossessed assets(1)
    24,607       26,355       27,510  
 
                 
Total nonperforming assets
  $ 160,536     $ 172,214     $ 175,239  
 
                 
 
                       
Nonperforming loans as a percent of total loans
    3.63 %     3.96 %     4.01 %
 
                 
Nonperforming assets as a percent of total assets
    3.08 %     3.23 %     3.34 %
 
                 
 
(1)   Includes property acquired through foreclosure and by acceptance of a deed in lieu of foreclosure and other property held for sale, including properties acquired as a result of the OAK transaction.
The following schedule provides the composition of nonperforming loans, by major loan category.
                                                 
    June 30, 2011     March 31, 2011     December 31, 2010  
            Percent             Percent             Percent  
    Amount     of Total     Amount     of Total     Amount     of Total  
                    (In thousands)                  
Commercial
  $ 20,186       15 %   $ 21,946       15 %   $ 22,511       15 %
Real estate commercial
    67,620       50       69,772       48       71,652       49  
Real estate construction and land development
    9,052       6       9,414       6       10,187       7  
 
                                   
Subtotal
    96,858       71       101,132       69       104,350       71  
Real estate residential
    30,930       23       37,862       26       37,638       25  
Consumer installment and home equity
    8,141       6       6,865       5       5,741       4  
 
                                   
Total nonperforming loans
  $ 135,929       100 %   $ 145,859       100 %   $ 147,729       100 %
 
                                   
Total nonperforming loans were $135.9 million at June 30, 2011, a decrease of $10.0 million, or 6.9%, compared to $145.9 million at March 31, 2011 and a decrease of $11.8 million, or 8.0%, compared to $147.7 million at December 31, 2010. The Corporation’s nonperforming loans to commercial borrowers (commercial, real estate

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commercial and real estate construction and land development), including TDRs, were $96.9 million at June 30, 2011, a decrease of $4.2 million, or 4.2%, from $101.1 million at March 31, 2011 and a decrease of $7.5 million, or 7.2%, from $104.4 million at December 31, 2010. Nonperforming loans to commercial borrowers comprised 71% of total nonperforming loans at June 30, 2011, compared to 69% at March 31, 2011 and 71% at December 31, 2010. The majority of the Corporation’s 2011 net loan charge-offs occurred within these three commercial loan categories, with 63% and 70% of net loan charge-offs during the three and six months ended June 30, 2011, respectively, attributable to commercial borrowers. Nonperforming real estate residential loans, including TDRs, were $30.9 million at June 30, 2011, a decrease of $7.0 million, or 18%, from $37.9 million at March 31, 2011 and a decrease of $6.7 million, or 18%, from $37.6 million at December 31, 2010. Nonperforming consumer loans were $8.1 million at June 30, 2011, an increase of $1.2 million, or 17%, from $6.9 million at March 31, 2011 and an increase of $2.4 million, or 42%, from $5.7 million at December 31, 2010. The decline in nonperforming loans during the second quarter of 2011 was primarily attributable to the Corporation classifying $12.9 million of nonperforming TDRs ($2.1 million of TDRs-commercial and real estate commercial and $10.8 million of TDRs-real estate residential) to performing status during the quarter due to the borrowers’ sustained repayment history in accordance with the loan modification.
The following schedule summarizes changes in nonaccrual loans during the three and six months ended June 30, 2011.
                 
    Three Months Ended     Six Months Ended  
    June 30, 2011     June 30, 2011  
    (In thousands)  
Balance at beginning of period
  $ 106,296     $ 102,962  
Additions during period
    17,687       39,462  
Principal balances charged off
    (7,027 )     (15,192 )
Transfers to other real estate/repossessed assets
    (2,386 )     (4,305 )
Return to accrual status
    (1,519 )     (6,342 )
Payments received
    (7,701 )     (11,235 )
 
           
Balance at end of period
  $ 105,350     $ 105,350  
 
           
The following schedule presents data related to nonperforming loans to commercial borrowers by dollar amount at June 30, 2011, March 31, 2011 and December 31, 2010.
                                                 
    June 30, 2011     March 31, 2011     December 31, 2010  
    Number of             Number of             Number of        
    Borrowers     Amount     Borrowers     Amount     Borrowers     Amount  
                    (In thousands)                  
$5,000,000 or more
    1     $ 7,114       1     $ 7,277       1     $ 7,227  
$2,500,000 - $4,999,999
    3       8,834       4       11,577       6       17,071  
$1,000,000 - $2,499,999
    16       28,552       17       28,684       18       29,246  
$500,000 - $999,999
    21       14,999       23       15,827       22       14,483  
$250,000 - $499,999
    56       20,386       54       19,999       50       18,188  
Under $250,000
    192       16,973       187       17,768       202       18,135  
 
                                   
Total
    289     $ 96,858       286     $ 101,132       299     $ 104,350  
 
                                   
Nonperforming commercial loans were $20.2 million at June 30, 2011, a decrease of $1.7 million, or 7.8%, from $21.9 million at March 31, 2011 and a decrease of $2.3 million, or 10%, from $22.5 million at December 31, 2010. The nonperforming commercial loans at June 30, 2011 were not concentrated in any single industry.
Nonperforming real estate commercial loans were $67.6 million at June 30, 2011, a decrease of $2.2 million, or 3.2%, from $69.8 million at March 31, 2011 and a decrease of $4.1 million, or 5.7% from $71.7 million at December 31, 2010. At June 30, 2011, the Corporation’s nonperforming real estate commercial loans were comprised of $35.6 million of loans secured by owner occupied real estate, $24.2 million of loans secured by non-owner occupied real estate and $7.8 million of loans secured by vacant land, resulting in approximately 7% of owner occupied real estate commercial loans, 11% of non-owner occupied real estate commercial loans and 32% of vacant

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land loans in a nonperforming status at June 30, 2011. At June 30, 2011, the Corporation’s nonperforming real estate commercial loans were comprised of a diverse mix of commercial lines of business and were also geographically disbursed throughout the Corporation’s market areas. The largest concentration of the $67.6 million in nonperforming real estate commercial loans at June 30, 2011 was one customer relationship totaling $6.8 million that was secured by a combination of vacant land and non-owner occupied commercial real estate. This same customer relationship had another $0.3 million included in nonperforming real estate construction and land development loans. At June 30, 2011, $16.4 million of the nonperforming real estate commercial loans were in various stages of foreclosure with 61 borrowers. Challenges remain in the Michigan economy, thus creating a difficult business environment for many lines of business across the state.
Nonperforming real estate construction and land development loans were $9.1 million at June 30, 2011, a decrease of $0.3 million, or 3.2%, from $9.4 million at March 31, 2011 and a decrease of $1.1 million, or 11%, from $10.2 million at December 31, 2010. At June 30, 2011, all of the nonperforming real estate construction and land development loans were land development loans secured primarily by residential real estate improved lots and housing units. The $9.1 million of nonperforming loans secured by land development projects represented 27% of total originated land development loans outstanding of $33.1 million at June 30, 2011. The economy in Michigan has adversely impacted housing demand throughout the state and, accordingly, a significant percentage of the Corporation’s residential real estate development borrowers have experienced cash flow difficulties associated with a significant decline in sales of both lots and residential real estate.
Nonperforming real estate residential loans were $30.9 million at June 30, 2011, a decrease of $7.0 million, or 18%, from $37.9 million at March 31, 2011 and a decrease of $6.7 million, or 18%, from $37.6 million at December 31, 2010. The decrease at June 30, 2011 was attributable to the Corporation classifying $10.8 million of real estate residential TDRs as performing TDRs during the second quarter of 2011 due to the borrowers’ sustained repayment history. At June 30, 2011, a total of $9.5 million of nonperforming real estate residential loans were in various stages of foreclosure.
Nonperforming consumer loans were $8.1 million at June 30, 2011, an increase of $1.2 million, or 17%, from $6.9 million at March 31, 2011 and an increase of $2.4 million, or 42%, from $5.7 million at December 31, 2010.
The unfavorable economic climate in Michigan has resulted in an increasing number of both business and consumer customers with cash flow difficulties and thus the inability to maintain their loan balances in a performing status. The Corporation determined that it was probable that certain customers who were past due on their loans, if provided a reduction in their monthly payment for a limited time period, would be able to bring their loan relationship to a performing status and was believed by the Corporation to potentially result in a lower level of loan losses and loan collection costs than if the Corporation currently proceeded through the foreclosure process with these borrowers.
The Corporation’s nonperforming TDRs-commercial and real estate commercial generally consist of allowing borrowers to defer scheduled principal payments and make interest only payments for a short period of time (generally six months to one year) at the stated interest rate of the original loan agreement or lower payments due to a modification of the loan’s contractual terms. The outstanding balance of these loans was $15.4 million at June 30, 2011, compared to $15.2 million at March 31, 2011 and $15.1 million at December 31, 2010. The Corporation does not expect to incur a loss on these loans based on its assessment of the borrowers’ expected cash flows, and accordingly, no additional provision for loan losses has been recognized related to these loans. These loans are individually evaluated for impairment and transferred to nonaccrual status if conditions change and it is probable that any remaining principal and interest payments due on the loan will not be collected in accordance with the modified contractual terms of the loan. During the second quarter of 2011, the Corporation classified $2.1 million of nonperforming TDRs-commercial and real estate commercial as performing TDRs due to the borrowers’ sustained repayment history.
The Corporation’s nonperforming TDRs-real estate residential generally consist of reducing a borrower’s monthly payments by decreasing the interest rate charged on the loan to 3% for a specified period of time (generally 24 months). The outstanding loan balance of these loans was $11.4 million at June 30, 2011, compared to $22.2 million at March 31, 2011 and $22.3 million at December 31, 2010. The decrease during the second quarter of 2011 was attributable to the Corporation classifying $10.8 million of nonperforming TDRs-real estate residential as

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performing TDRs due to the borrowers’ sustained repayment history. The Corporation recognized $0.1 million and $0.2 million of additional provision for loan losses during the three and six months ended June 30, 2011, respectively, related to impairment on these loans based on the present value of expected future cash flows discounted at the loan’s original effective interest rate. These loans are moved to nonaccrual status when the loan becomes ninety days past due as to principal or interest, or sooner if conditions warrant.
Other real estate and repossessed assets is a component of nonperforming assets that includes residential and commercial real estate and development properties acquired through foreclosure or by acceptance of a deed in lieu of foreclosure, and also other personal and commercial assets. Other real estate and repossessed assets were $24.6 million at June 30, 2011, a decrease of $1.8 million, or 6.8%, from $26.4 million at March 31, 2011 and a decrease of $2.9 million, or 11%, from $27.5 million at December 31, 2010.
The following schedule provides the composition of other real estate and repossessed assets.
                         
    June 30,     March 31,     December 31,  
    2011     2011     2010  
    (In thousands)          
Other real estate:
                       
Vacant land
  $ 7,811     $ 8,501     $ 9,149  
Commercial properties
    8,564       9,102       8,604  
Residential real estate properties
    5,236       5,088       6,189  
Residential development properties
    2,529       3,106       3,035  
 
                 
Total other real estate
    24,140       25,797       26,977  
Repossessed assets
    467       558       533  
 
                 
Total other real estate and repossessed assets
  $ 24,607     $ 26,355     $ 27,510  
 
                 
The following schedule summarizes other real estate and repossessed asset activity during the three and six months ended June 30, 2011.
                 
    Three Months Ended     Six Months Ended  
    June 30, 2011     June 30, 2011  
    (In thousands)  
Balance at beginning of period
  $ 26,355     $ 27,510  
Additions
    3,443       6,085  
Write-downs to fair value
    (430 )     (924 )
Dispositions
    (4,761 )     (8,064 )
 
           
Balance at end of period
  $ 24,607     $ 24,607  
 
           
The historically large inventory of real estate properties for sale across the State of Michigan has resulted in an increase in the Corporation’s carrying time and cost of holding other real estate. Consequently, the Corporation had $11.0 million in real estate properties at June 30, 2011 that had been held in excess of one year as of that date, of which $2.6 million was vacant land, $4.1 million were commercial properties, $2.3 million were residential real estate properties and $2.0 million were residential development properties. Due to the redemption period on foreclosures being relatively long in Michigan (six months to one year) and the Corporation having a significant number of nonperforming loans that were in the process of foreclosure at June 30, 2011, it is anticipated that the level of other real estate will remain at elevated levels throughout 2011. Other real estate properties are carried at the lower of cost or fair value less estimated costs to sell.
At June 30, 2011, all of the other real estate properties had been written down to fair value through either a charge-off at the transfer of the loan to other real estate, a write-down recorded as an operating expense to recognize a further market value decline of the property after the initial transfer date or recording at fair value in conjunction with the OAK acquisition. Accordingly, at June 30, 2011, the carrying value of other real estate of $24.1 million was reflective of $33.9 million in fair value adjustments, resulting in the carrying value at June 30, 2011 representing 42% of the contractual loan balance remaining at the time the property was transferred to other real estate.
There were 125 other real estate properties sold during the first six months of 2011 for net proceeds of $7.1 million. On an average basis, the net proceeds from these sales represented 112% of the carrying value of the property at the

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time of sale, although the net proceeds represented 42% of the remaining contractual loan balance at the time the Corporation received title to the properties.
Impaired Loans
A loan is considered impaired when management determines it is probable that all of the principal and interest due will not be collected according to the original contractual terms of the loan agreement. In most instances, impairment is measured based on the fair market value of the underlying collateral. Impairment may also be measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate. A portion of the allowance for loan losses may be specifically allocated to impaired loans. The process of measuring impaired loans and the allocation of the allowance for loan losses requires judgment and estimation. The eventual outcome may differ from amounts estimated. A discussion of the allowance for loan losses is included under the subheading, “Allowance for Loan Losses,” below.
Impaired loans totaled $163.6 million at June 30, 2011, an increase of $2.2 million, compared to $161.4 million at March 31, 2011 and an increase of $1.9 million, compared to $161.7 million at December 31, 2010. A summary of impaired loans at June 30, 2011, March 31, 2011 and December 31, 2010 follows:
                         
    June 30,     March 31,     December 31,  
    2011     2011     2010  
    (In thousands)
Nonaccrual loans:
                       
Commercial borrowers
  $ 80,643     $ 85,017     $ 86,193  
Consumer borrowers
    24,707       21,279       16,769  
Nonperforming TDRs:
                       
Commercial borrowers
    15,443       15,201       15,057  
Real estate residential
    11,392       22,166       22,302  
Performing TDRs:
                       
Commercial borrowers
    2,125              
Real estate residential
    10,764              
Acquired loans not performing in accordance with original contractual terms
    18,570       17,747       21,385  
 
                 
Total impaired loans
  $ 163,644     $ 161,410     $ 161,706  
 
                 
After analyzing the various components of the customer relationships and evaluating the underlying collateral of impaired loans, it was determined that impaired loans to commercial borrowers totaling $39.2 million at June 30, 2011 required a specific allocation of the allowance for loan losses (valuation allowance), compared to $37.9 million at March 31, 2011 and $44.9 million at December 31, 2010.

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The following schedule summarizes impaired loans to commercial borrowers and the related valuation allowance at June 30, 2011, March 31, 2011 and December 31, 2010 and partial loan charge-offs (confirmed losses) taken on these impaired loans:
                                 
                          Cumulative  
                          Inherent  
            Valuation     Confirmed     Loss  
    Amount     Allowance     Losses     Percentage  
            (In thousands)          
June 30, 2011
                               
Impaired originated loans to commercial borrowers:
                               
With valuation allowance and no charge-offs
  $ 24,196     $ 5,987     $       25 %
With valuation allowance and charge-offs
    14,988       4,889       3,563       46  
With charge-offs and no valuation allowance
    29,582             19,021       39  
Without valuation allowance or charge-offs
    29,445                    
 
                       
Total
    98,211     $ 10,876     $ 22,584       28 %
 
                         
Impaired acquired loans
    18,570                          
 
                             
Total impaired loans to commercial borrowers
  $ 116,781                          
 
                             
 
                               
March 31, 2011
                               
Impaired originated loans to commercial borrowers:
                               
With valuation allowance and no charge-offs
  $ 23,697     $ 7,595     $       32 %
With valuation allowance and charge-offs
    14,226       3,581       3,157       39  
With charge-offs and no valuation allowance
    26,492             20,120       43  
Without valuation allowance or charge-offs
    35,804                    
 
                       
Total
    100,219     $ 11,176     $ 23,277       28 %
 
                         
Impaired acquired loans
    17,747                          
 
                             
Total impaired loans to commercial borrowers
  $ 117,966                          
 
                             
 
                               
December 31, 2010
                               
Impaired originated loans to commercial borrowers:
                               
With valuation allowance and no charge-offs
  $ 33,056     $ 12,015     $       36 %
With valuation allowance and charge-offs
    11,795       2,951       1,551       34  
With charge-offs and no valuation allowance
    20,033             18,277       48  
Without valuation allowance or charge-offs
    36,366                    
 
                       
Total
    101,250     $ 14,966     $ 19,828       29 %
 
                         
Impaired acquired loans
    21,385                          
 
                             
Total impaired loans to commercial borrowers
  $ 122,635                          
 
                             
Confirmed losses represent partial loan charge-offs on impaired loans due primarily to the receipt of a recent third-party property appraisal indicating the value of the collateral securing the loan is below the loan balance and management believes the full collection of the loan balance is not likely.
The Corporation’s valuation allowance for impaired commercial, real estate commercial and real estate construction and land development loans was $10.9 million at June 30, 2011, a decrease of $0.3 million from $11.2 million at March 31, 2011 and a decrease of $4.1 million from $15.0 million at December 31, 2010. The decrease in the valuation allowance is primarily reflective of partial loan charge-offs of impaired loans during the three and six months ended June 30, 2011 combined with stability in the credit quality of the loan portfolio. Additionally, the Corporation had a valuation allowance attributable to TDRs-real estate residential of $0.7 million at June 30, 2011, compared to $0.8 million at both March 31, 2011 and December 31, 2010. The Corporation’s TDRs-commercial borrowers of $15.4 million, $15.2 million and $15.1 million at June 30, 2011, March 31, 2011 and December 31, 2010, respectively, did not require a valuation allowance as the Corporation expects to collect the full principal and interest owed on each loan.

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Impaired loans included acquired loans totaling $18.6 million, $17.7 million and $21.4 million at June 30, 2011, March 31, 2011 and December 31, 2010, respectively, that were not performing in accordance with the original contractual terms of the loans. At June 30, 2011, March 31, 2011 and December 31, 2010, there was no valuation allowance required for acquired impaired loans, as no material changes in expected cash flows had occurred since the acquisition date. These loans were recorded at their estimated fair value, which included estimated credit losses, at the acquisition date and are considered performing due to the application of ASC 310-30 as discussed in Note 1 to the consolidated financial statements under the subheading, Loans Acquired in a Business Combination.
Allowance for Loan Losses
The allowance for loan losses (allowance) provides for probable losses in the originated loan portfolio that have been identified with specific customer relationships and for probable losses believed to be inherent in the remainder of the originated loan portfolio but that have not been specifically identified. The allowance is comprised of specific valuation allowances (assessed for originated loans that have known credit weaknesses), pooled allowances based on assigned risk ratings and historical loan loss experience for each loan type, and an unallocated allowance for imprecision in the subjective nature of the specific and pooled allowance methodology. Management evaluates the allowance on a quarterly basis in an effort to ensure the level is adequate to absorb probable losses inherent in the loan portfolio. This evaluation process is inherently subjective as it requires estimates that may be susceptible to significant change and has the potential to affect net income materially. The Corporation’s methodology for measuring the adequacy of the allowance includes several key elements, which includes a review of the loan portfolio, both individually and by category, and includes consideration of changes in the mix and volume of the loan portfolio, actual loan loss experience, review of collateral values, the financial condition of the borrowers, industry and geographical exposures within the portfolio, economic conditions and employment levels of the Corporation’s local markets and other factors affecting business sectors. Management believes that the allowance is currently maintained at an appropriate level, considering the inherent risk in the loan portfolio. Future significant adjustments to the allowance may be necessary due to changes in economic conditions, delinquencies or the level of loan losses incurred.
The Corporation’s allowance at June 30, 2011 did not include losses inherent in the acquired loan portfolio, as an allowance was not carried over on the date of acquisition. The acquired loans were recorded at their estimated fair value at the date of acquisition, with the estimated fair value including a component for expected credit losses. A portion of the allowance, however, may be set aside in the future, related to the acquired loans, if an acquired loan pool experiences a decrease in expected cash flows as compared to those expected at the acquisition date. An allowance related to acquired loans was not required at June 30, 2011 due to no material changes in expected cash flows since the date of acquisition.
The Corporation’s allowance was $89.7 million at both June 30, 2011 and March 31, 2011, compared to $89.5 million at both December 31, 2010 and June 30, 2010. The allowance as a percentage of originated loans was 2.78% at June 30, 2011, compared to 2.85% at March 31, 2011, 2.86% at December 31, 2010 and 2.95% at June 30, 2010. The allowance as a percentage of nonperforming loans was 66% at June 30, 2011 compared to 61% at both March 31, 2011 and December 31, 2010 and 63% at June 30, 2010. The allowance as a percentage of nonperforming loans, net of impaired originated loans for which the expected loss has been charged-off, was 84% at June 30, 2011, compared to 75% at March 31, 2011, 70% at December 31, 2010 and 74% at June 30, 2010.
The following schedule summarizes the allowance as a percentage of nonperforming loans.
                         
    June 30,   March 31,   December 31,
    2011   2011   2010
    (In thousands)
Allowance for loan losses
  $ 89,733     $ 89,674     $ 89,530  
Nonperforming loans
    135,929       145,859       147,729  
Allowance as a percent of nonperforming loans
    66 %     61 %     61 %
Allowance as a percent of nonperforming loans, net of impaired originated loans for which the expected loss has been charged-off
    84 %     75 %     70 %

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Economic conditions in the Corporation’s markets, all within Michigan, were generally less favorable than those nationwide during 2010. Economic challenges remain in Michigan and are expected to continue in 2011. Accordingly, management believes net loan losses, delinquencies and nonperforming loans will remain at elevated levels during 2011.
Total Deposits
Total deposits were $4.25 billion at June 30, 2011, a decrease of $81 million, or 1.9%, from total deposits of $4.33 billion at December 31, 2010, and an increase of $52 million, or 1.2%, from total deposits of $4.20 billion at June 30, 2010. The decrease in total deposits from year end 2010 was primarily attributable to the Corporation paying off brokered deposits acquired in the OAK transaction. The increase in total deposits for the twelve-month period ended June 30, 2011 was primarily attributable to growth in customer deposits of $141 million during the twelve-month period ended June 30, 2011 that was offset by the Corporation paying off maturing brokered deposits that were acquired in the OAK transaction. At June 30, 2011, the Corporation had $110 million in remaining brokered deposits that were acquired in the OAK acquisition. The Corporation intends to continue to use its liquidity to pay off brokered deposits as they mature, with $26 million maturing during the remainder of 2011.
The Corporation’s competitive position within many of its market areas has historically limited its ability to materially increase core deposits without adversely impacting the weighted average cost of the deposit portfolio. While competition for core deposits remained strong throughout the Corporation’s markets during 2010 and the first six months of 2011, the Corporation’s increased efforts to expand its deposit relationships with existing customers, the Corporation’s financial strength and a general trend in customers holding more liquid assets, resulted in the Corporation experiencing a significant increase in customer deposits during 2010. Total deposits increased $141 million, excluding brokered deposits acquired in the OAK transaction, during the twelve months ended June 30, 2011, while during the same time frame, the Corporation experienced a decrease in the average cost of its deposits.
Borrowed Funds
Short-term borrowings, comprised of securities sold under agreements to repurchase with customers, were $276.6 million at June 30, 2011, compared to $242.7 million at December 31, 2010 and $242.3 million at June 30, 2010. Securities sold under agreements to repurchase are funds deposited by customers that are secured by investment securities that are owned by Chemical Bank, although not covered by FDIC insurance. These funds have been a stable source of liquidity for Chemical Bank, much like its core deposit base. The increase of $34.3 million in securities sold under agreements to repurchase during the twelve-month period ended June 30, 2011, was primarily due to increases attributable to municipal and business customers. The Corporation’s securities sold under agreements to repurchase do not qualify as sales for accounting purposes.
Federal Home Loan Bank (FHLB) advances are comprised of borrowings from the FHLB that have original maturities of greater than one year. FHLB advances totaled $71.9 million at June 30, 2011, compared to $74.1 million at December 31, 2010 and $86.6 million at June 30, 2010. On April 30, 2010, the Corporation acquired $35.9 million of FHLB advances in conjunction with the OAK acquisition, of which $21.9 million were outstanding at June 30, 2011. FHLB advances are secured under a blanket security agreement of real estate residential first lien loans with an aggregate book value equal to at least 155% of the advances. At June 30, 2011, the carrying value of real estate residential first lien loans eligible for collateral under the blanket security agreement was $774 million.
The scheduled principal reductions on FHLB advances outstanding at June 30, 2011, including amortization of the unamortized fair value premium of $0.8 million attributable to the OAK acquisition, were as follows (in thousands):
         
2011
  $ 28,871  
2012
    8,767  
2013
    28,025  
2014
    5,734  
2015
    531  
 
     
Total
  $ 71,928  
 
     

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At June 30, 2011, the Corporation’s additional borrowing availability through the FHLB, based on the amount of FHLB stock owned by the Corporation and subject to the FHLB’s credit requirements and policies, was $269 million. At June 30, 2011, the Corporation had agreements in place to obtain up to $30 million in additional liquidity through borrowings from the Federal Reserve Bank’s discount window at the Corporation’s discretion.
Credit Related Commitments
The Corporation has credit related commitments that may impact its liquidity. The following schedule summarizes the Corporation’s loan commitments and expected expiration dates by period at June 30, 2011. Since many of these commitments historically have expired without being drawn upon, the total amount of these commitments does not necessarily represent future cash requirements of the Corporation.
                                         
                            More        
    Less than     1-3     3-5     than        
    1 year     years     years     5 years     Total  
            (In thousands)                  
Unused commitments to extend credit
  $ 427,243     $ 98,757     $ 65,227     $ 58,928     $ 650,155  
Loan commitments
    157,125                         157,125  
Standby letters of credit
    30,741       13,243       3,795       10       47,789  
 
                             
Total commitments
  $ 615,109     $ 112,000     $ 69,022     $ 58,938     $ 855,069  
 
                             
Capital
Total shareholders’ equity was $570.6 million at June 30, 2011, compared to $560.1 million at December 31, 2010 and $556.1 million at June 30, 2010. Total shareholders’ equity as a percentage of total assets was 11.0% as of June 30, 2011, compared to 10.7% at December 31, 2010 and 10.9% at June 30, 2010. Tangible shareholders’ equity as a percentage of total assets was 8.9% at June 30, 2011, compared to 8.6% at December 31, 2010 and 8.8% at June 30, 2010.
The Corporation and Chemical Bank continue to maintain strong capital positions which significantly exceeded the minimum levels prescribed by the Federal Reserve at June 30, 2011, as shown in the following schedule:
                         
            Tier 1   Total
            Risk-Based   Risk-Based
    Leverage   Capital   Capital
Actual Ratio:
                       
Chemical Financial Corporation
    8.6 %     11.7 %     13.0 %
Chemical Bank
    8.5       11.5       12.7  
Minimum required for capital adequacy purposes
    4.0       4.0       8.0  
Minimum required for “well-capitalized” capital adequacy purposes
    5.0       6.0       10.0  
On April 18, 2011, the shareholders of the Corporation approved an amendment to the restated articles of incorporation to increase the number of authorized shares of common stock from 30,000,000 to 45,000,000.
Results of Operations
Net Interest Income
Interest income is the total amount earned on funds invested in loans, investment and other securities, federal funds sold and interest-bearing deposits with unaffiliated banks and others. Interest expense is the amount of interest paid on interest-bearing checking and savings accounts, time deposits, short-term borrowings and FHLB advances. Net interest income, on a fully taxable equivalent (FTE) basis, is the difference between interest income and interest

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expense adjusted for the tax benefit on tax-exempt commercial loans and investment securities. Net interest margin is calculated by dividing net interest income (FTE) by average interest-earning assets, annualized as applicable. Net interest spread is the difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities. Because noninterest-bearing sources of funds, or free funds (principally demand deposits and shareholders’ equity), also support earning assets, the net interest margin exceeds the net interest spread.
Net interest income (FTE) was $46.5 million in the second quarter of 2011, compared to $44.0 million in the second quarter of 2010 and $46.5 million in the first quarter of 2011. The increase in net interest income (FTE), compared to the second quarter of 2010, was primarily attributable to the acquisition of OAK on April 30, 2010.
The presentation of net interest income on an FTE basis is not in accordance with GAAP but is customary in the banking industry. This non-GAAP measure ensures comparability of net interest income arising from both taxable and tax-exempt loans and investment securities. The adjustments to determine net interest income (FTE) were $1.3 million and $1.1 million for the second quarters of 2011 and 2010, respectively and $1.3 million for the first quarter of 2011. These adjustments were computed using a 35% federal income tax rate.
Net interest income is the most important source of the Corporation’s earnings and thus is critical in evaluating the results of operations. Changes in the Corporation’s net interest income are influenced by a variety of factors, including changes in the level and mix of interest-earning assets and interest-bearing liabilities, the level and direction of interest rates, the difference between short-term and long-term interest rates (the steepness of the yield curve) and the general strength of the economies in the Corporation’s markets. Risk management plays an important role in the Corporation’s level of net interest income. The ineffective management of credit risk, and more significantly interest rate risk, can adversely impact the Corporation’s net interest income. Management monitors the Corporation’s consolidated statement of financial position to reduce the potential adverse impact on net interest income caused by significant changes in interest rates. The Corporation’s policies in this regard are further discussed under the subheading “Market Risk.”
The Federal Reserve Board influences the general market rates of interest, including the deposit and loan rates offered by many financial institutions. The prime interest rate, which is the rate offered on loans to borrowers with strong credit, was 3.25% at the end of 2008 and remained at this historically low rate through June 30, 2011.
Net interest income (FTE) of $46.5 million in the second quarter of 2011 was $2.6 million, or 5.9%, higher than net interest income (FTE) of $44.0 million in the second quarter of 2010. The increase was due to an increase in the average volume of interest-earning assets that was partially offset by an increase in the volume of interest-bearing liabilities. The increases were primarily attributable to the acquisition of OAK on April 30, 2010. The average volume of interest-earning assets in the second quarter of 2011 increased $393.8 million, or 8.7%, compared to the second quarter of 2010. The average volume of interest-bearing liabilities in the second quarter of 2011 increased $230.7 million, or 6.4%, compared to the second quarter of 2010. Net interest margin was 3.78% in the second quarter of 2011, compared to 3.88% in the second quarter of 2010. The average yield on interest-earning assets decreased 32 basis points to 4.45% in the second quarter of 2011, from 4.77% in the second quarter of 2010, with the decline partially attributable to the Corporation maintaining a higher level of liquidity during the second quarter of 2011 than in the second quarter of 2010. The Corporation’s average cash deposits held at the Federal Reserve Bank of Chicago (FRB) during the second quarter of 2011 were $424 million, compared to $289 million during the second quarter of 2010. These cash deposits earned an interest rate of approximately 25 basis points. The average cost of interest-bearing liabilities decreased 26 basis points to 0.85% in the second quarter of 2011, from 1.11% in the second quarter of 2010. The decrease in the cost of interest-bearing liabilities was attributable primarily to the lag effect of declines in market interest rates beginning in 2008 and the Corporation utilizing its excess liquidity to pay-off maturing higher-rate FHLB advances.
Net interest income (FTE) was $46.5 million in both the second quarter and first quarter of 2011. The average volume of interest-earning assets and interest-bearing liabilities in the second quarter of 2011 was relatively flat, compared to the first quarter of 2011. Net interest margin was 3.78% in both the second quarter and first quarter of 2011. The average yield on interest-earning assets decreased 3 basis points to 4.45% in the second quarter of 2011,

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from 4.48% in the first quarter of 2011. The average cost of interest-bearing liabilities decreased 2 basis points to 0.85% in the second quarter of 2011 from 0.87% in the first quarter of 2011. The decrease in the yield on interest-earning assets and the cost of interest-bearing liabilities was primarily attributable to the continued historic low interest rate environment.
The Corporation’s balance sheet has historically been liability sensitive, meaning that interest-bearing liabilities have generally repriced more quickly than interest-earning assets. Therefore, the Corporation’s net interest margin has historically increased in sustained periods of declining interest rates and decreased in sustained periods of increasing interest rates. However, during 2009 and 2010, the Corporation became more asset sensitive as it increased its holdings of variable rate investment securities and cash deposits at the FRB to lessen the impact on net interest income and net interest margin of rising interest rates. At June 30, 2011, approximately 43% of the Corporation’s investment securities were variable rate compared to 44% at December 31, 2010 and 42% at June 30, 2010. Approximately 28% of the Corporation’s loans were at variable interest rates at both June 30, 2011 and December 31, 2010 compared to 27% at June 30, 2010.
The Corporation is primarily funded by core deposits which is a lower-cost funding base than wholesale funding and historically has had a positive impact on the Corporation’s net interest income and net interest margin. However, based on the historically low level of market interest rates and the Corporation’s current low levels of interest rates on its core deposit transaction accounts, further market interest rate reductions would likely not result in a significant decrease in interest expense.
The following schedule presents the average daily balances of the Corporation’s major categories of assets and liabilities, interest income and expense on an FTE basis, average interest rates earned and paid on the assets and liabilities, net interest income (FTE), net interest spread and net interest margin for the three and six months ended June 30, 2011 and 2010.

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Average Balances, Tax Equivalent Interest and Effective Yields and Rates* (Dollars in thousands)
                                                 
    Three Months Ended  
    June 30,  
    2011     2010  
            Tax     Effective             Tax     Effective  
    Average     Equivalent     Yield/     Average     Equivalent     Yield/  
    Balance     Interest     Rate     Balance     Interest     Rate  
Assets
                                               
Interest-Earning Assets:
                                               
Loans**
  $ 3,712,538     $ 49,700       5.37 %   $ 3,443,507     $ 48,715       5.67 %
Taxable investment securities
    592,064       2,225       1.50       629,039       2,964       1.88  
Tax-exempt investment securities
    168,085       2,116       5.04       136,479       1,848       5.42  
Other securities
    26,755       368       5.52       25,753       295       4.59  
Federal funds sold and interest- bearing deposits with unaffiliated banks and others
    429,148       281       0.26       299,965       204       0.27  
 
                                   
Total interest-earning assets
    4,928,590       54,690       4.45       4,534,743       54,026       4.77  
Less: Allowance for loan losses
    91,497                       88,534                  
Other Assets:
                                               
Cash and cash due from banks
    108,993                       111,842                  
Premises and equipment
    65,159                       64,613                  
Interest receivable and other assets
    243,999                       218,358                  
 
                                           
Total Assets
  $ 5,255,244                     $ 4,841,022                  
 
                                           
 
                                               
Liabilities and Shareholders’ Equity
                                               
Interest-Bearing Liabilities:
                                               
Interest-bearing demand deposits
  $ 790,197     $ 362       0.18 %   $ 723,193     $ 462       0.26 %
Savings deposits
    1,148,380       663       0.23       1,086,083       1,085       0.40  
Time deposits
    1,563,892       6,526       1.67       1,480,472       7,655       2.07  
Short-term borrowings
    282,806       151       0.21       242,261       161       0.27  
FHLB advances
    72,403       443       2.45       94,946       708       2.99  
 
                                   
Total interest-bearing liabilities
    3,857,678       8,145       0.85       3,626,955       10,071       1.11  
 
                                       
Noninterest-bearing deposits
    797,259                       651,609                  
 
                                           
Total deposits and borrowed funds
    4,654,937                       4,278,564                  
Interest payable and other liabilities
    34,807                       34,030                  
Shareholders’ equity
    565,500                       528,428                  
 
                                           
Total Liabilities and Shareholders’ Equity
  $ 5,255,244                     $ 4,841,022                  
 
                                           
 
                                               
Net Interest Spread (Average yield earned minus average rate paid)
                    3.60 %                     3.66 %
 
                                           
Net Interest Income (FTE)
          $ 46,545                     $ 43,955          
 
                                           
Net Interest Margin (Net Interest Income (FTE) divided by total average interest-earning assets)
                    3.78 %                     3.88 %
 
                                           
 
*   Taxable equivalent basis using a federal income tax rate of 35%.
 
**   Nonaccrual loans and loans held-for-sale are included in average balances reported and are included in the calculation of yields. Also, tax equivalent interest includes net loan fees.

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Average Balances, Tax Equivalent Interest and Effective Yields and Rates* (Dollars in thousands)
                                                 
    Six Months Ended  
    June 30,  
    2011     2010  
            Tax     Effective             Tax     Effective  
    Average     Equivalent     Yield/     Average     Equivalent     Yield/  
    Balance     Interest     Rate     Balance     Interest     Rate  
Assets
                                               
Interest-Earning Assets:
                                               
Loans**
  $ 3,699,978     $ 99,679       5.42 %   $ 3,218,708     $ 90,883       5.68 %
Taxable investment securities
    583,334       4,549       1.56       619,360       6,088       1.97  
Tax-exempt investment securities
    169,158       4,362       5.16       121,001       3,334       5.51  
Other securities
    26,943       491       3.67       23,950       377       3.17  
Federal funds sold and interest- bearing deposits with unaffiliated banks and others
    466,478       590       0.26       311,408       420       0.27  
 
                                   
Total interest-earning assets
    4,945,891       109,671       4.46       4,294,427       101,102       4.74  
Less: Allowance for loan losses
    91,940                       86,342                  
Other Assets:
                                               
Cash and cash due from banks
    110,597                       102,404                  
Premises and equipment
    65,346                       59,309                  
Interest receivable and other assets
    245,454                       192,414                  
 
                                           
Total Assets
  $ 5,275,348                     $ 4,562,212                  
 
                                           
 
                                               
Liabilities and Shareholders’ Equity
                                               
Interest-Bearing Liabilities:
                                               
Interest-bearing demand deposits
  $ 825,385     $ 780       0.19 %   $ 681,215     $ 851       0.25 %
Savings deposits
    1,147,954       1,348       0.24       1,033,771       2,116       0.41  
Time deposits
    1,576,700       13,301       1.70       1,380,825       14,935       2.18  
Short-term borrowings
    276,816       301       0.22       240,439       321       0.27  
FHLB advances
    72,952       885       2.45       90,553       1,582       3.52  
 
                                   
Total interest-bearing liabilities
    3,899,807       16,615       0.86       3,426,803       19,805       1.17  
 
                                       
Noninterest-bearing deposits
    781,037                       602,135                  
 
                                           
Total deposits and borrowed funds
    4,680,844                       4,028,938                  
Interest payable and other liabilities
    31,410                       31,772                  
Shareholders’ equity
    563,094                       501,502                  
 
                                           
Total Liabilities and Shareholders’ Equity
  $ 5,275,348                     $ 4,562,212                  
 
                                           
Net Interest Spread (Average yield earned minus average rate paid)
                    3.60 %                     3.57 %
 
                                           
Net Interest Income (FTE)
          $ 93,056                     $ 81,297          
 
                                           
Net Interest Margin (Net Interest Income (FTE) divided by total average interest-earning assets)
                    3.78 %                     3.81 %
 
                                           
 
*   Taxable equivalent basis using a federal income tax rate of 35%.
 
**   Nonaccrual loans and loans held-for-sale are included in average balances reported and are included in the calculation of yields. Also, tax equivalent interest includes net loan fees.

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The following schedule allocates the dollar change in net interest income (FTE) between the portion attributable to changes in the average volume of interest-earning assets and interest-bearing liabilities, including changes in the mix of assets and liabilities and changes in average interest rates earned and paid.
Volume and Rate Variance Analysis* (In Thousands)
                         
    Three Months Ended June 30,  
    2011 Compared to 2010  
    Increase (Decrease)        
    Due to Changes in     Combined  
    Average     Average     Increase/  
    Volume**     Yield/Rate**     (Decrease)  
Changes in Interest Income on Interest-Earning Assets:
                       
Loans
  $ 3,636     $ (2,651 )   $ 985  
Taxable investment/other securities
    (156 )     (510 )     (666 )
Tax-exempt investment securities
    407       (139 )     268  
Federal funds sold and interest-bearing deposits with unaffiliated banks and others
    85       (8 )     77  
 
                 
Total change in interest income on interest-earning assets
    3,972       (3,308 )     664  
 
                 
 
                       
Changes in Interest Expense on Interest-Bearing Liabilities:
                       
Interest-bearing demand deposits
    30       (130 )     (100 )
Savings deposits
    31       (453 )     (422 )
Time deposits
    476       (1,605 )     (1,129 )
Short-term borrowings
    25       (35 )     (10 )
FHLB advances
    (150 )     (115 )     (265 )
 
                 
Total change in interest expense on interest-bearing liabilities
    412       (2,338 )     (1,926 )
 
                 
Total Change in Net Interest Income (FTE)
  $ 3,560     $ (970 )   $ 2,590  
 
                 
 
*   Taxable equivalent basis using a federal income tax rate of 35%.
 
**   The change in interest income and interest expense due to both volume and rate has been allocated to the volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each.

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Volume and Rate Variance Analysis* (In Thousands)
                         
    Six Months Ended June 30,  
    2011 Compared to 2010  
    Increase (Decrease)        
    Due to Changes in     Combined  
    Average     Average     Increase/  
    Volume**     Yield/Rate**     (Decrease)  
Changes in Interest Income on Interest-Earning Assets:
                       
Loans
  $ 13,079     $ (4,283 )   $ 8,796  
Taxable investment/other securities
    (286 )     (1,139 )     (1,425 )
Tax-exempt investment securities
    1,256       (228 )     1,028  
Federal funds sold and interest-bearing deposits with unaffiliated banks and others
    194       (24 )     170  
 
                 
Total change in interest income on interest-earning assets
    14,243       (5,674 )     8,569  
 
                 
 
                       
Changes in Interest Expense on Interest-Bearing Liabilities:
                       
Interest-bearing demand deposits
    145       (216 )     (71 )
Savings deposits
    154       (922 )     (768 )
Time deposits
    1,914       (3,548 )     (1,634 )
Short-term borrowings
    45       (65 )     (20 )
FHLB advances
    (271 )     (426 )     (697 )
 
                 
Total change in interest expense on interest-bearing liabilities
    1,987       (5,177 )     (3,190 )
 
                 
Total Change in Net Interest Income (FTE)
  $ 12,256     $ (497 )   $ 11,759  
 
                 
 
*   Taxable equivalent basis using a federal income tax rate of 35%.
 
**   The change in interest income and interest expense due to both volume and rate has been allocated to the volume and rate changes in proportion to the relationship of the absolute dollar amounts of the change in each.
Provision for Loan Losses
The provision for loan losses (provision) is an increase to the allowance to provide for probable losses inherent in the originated loan portfolio and for impairment of pools of acquired loans that results from the Corporation experiencing a decrease in cash flows of acquired loans compared to expected cash flows estimated at the acquisition date. The Corporation did not recognize any provision related to the acquired portfolio during the six months ended June 30, 2011 as there were no significant changes in expected cash flows compared to cash flows estimated at the date of acquisition.
The provision was $7.0 million in the second quarter of 2011, compared to $7.5 million in the first quarter of 2011 and $12.7 million in the second quarter of 2010. The Corporation experienced net loan charge-offs of $6.9 million in the second quarter of 2011, compared to $7.4 million in the first quarter of 2011 and $7.3 million in the second quarter of 2010. Net loan charge-offs as a percentage of average loans were 0.75% (annualized) in the second quarter of 2011, compared to 0.80% in the first quarter of 2011 and 0.86% in the second quarter of 2010. Net loan charge-offs of commercial, real estate commercial and real estate construction and land development loans totaled $4.3 million in the second quarter of 2011, compared to $5.6 million in the first quarter of 2011 and $4.0 million in the second quarter of 2010 and represented 63% of total net loan charge-offs during the second quarter of 2011, compared to 76% during the first quarter of 2011 and 54% during the second quarter of 2010. The commercial loan portfolio’s net loan charge-offs in the first six months of 2011 and in 2010 were not concentrated in any one industry or borrower. Net loan charge-offs of residential real estate and consumer loans totaled $2.6 million in the second quarter of 2011, compared to $1.7 million in the first quarter of 2011 and $3.4 million in the second quarter of 2010.

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The Corporation’s provision of $7.0 million in the second quarter of 2011 approximated net loan charge-offs for the quarter, although was $0.5 million lower than the provision in the first quarter of 2011 of $7.5 million. The level of the provision in the second quarter of 2011 was reflective of the credit quality of the loan portfolio that included lower net loan charge-offs, modest decreases in nonperforming loans and no significant changes in risk grade categories of the commercial loan portfolio. The decrease in net loan charge-offs in the second quarter of 2011, compared to the first quarter of 2011, was attributable to the stabilization in overall credit quality of the Corporation’s loan portfolio. It is management’s belief that the overall credit quality of the Corporation’s loan portfolio during the six months ended June 30, 2011 continues to be impacted by the economic environment in the State of Michigan, with the state unemployment rate at 10.5% at June 30, 2011, compared to 10.3% at March 31, 2011 and 11.1% at December 31, 2010. The Corporation’s loan portfolio has no concentration in the automotive sector and management has identified its direct exposure to this industry as not material, although the economic impact of the decline in the production of automobiles continues to have an effect on the general economy within Michigan.
Noninterest Income
Noninterest income was $10.9 million and $21.7 million for the three and six months ended June 30, 2011, respectively. The following includes the major components of noninterest income during the three months ended June 30, 2011, March 31, 2011 and June 30, 2010 and the six months ended June 30, 2011 and 2010.
                                         
    Three Months Ended     Six Months Ended  
    June 30,     March 31,     June 30,     June 30,     June 30,  
    2011     2011     2010     2011     2010  
    (In thousands)
Service charges on deposit accounts
  $ 4,628     $ 4,096     $ 5,091     $ 8,724     $ 9,482  
Wealth management revenue
    3,026       2,766       2,603       5,792       4,895  
Electronic banking fees
    1,443       1,607       1,357       3,050       2,420  
Other fees for customer services
    897       769       668       1,666       1,346  
Mortgage banking revenue
    499       1,064       915       1,563       1,633  
Insurance commissions
    388       282       308       670       575  
Other
    21       188       58       209       89  
 
                             
Total Noninterest Income
  $ 10,902     $ 10,772     $ 11,000     $ 21,674     $ 20,440  
 
                             
Noninterest income of $10.9 million in the second quarter of 2011 increased $0.1 million, or 1.2%, compared to $10.8 million in the first quarter of 2011, with the increase attributable to higher service charges on deposit accounts and wealth management revenue offset by lower mortgage banking revenue.
Service charges on deposit accounts of $4.6 million in the second quarter of 2011 increased $0.5 million, or 13%, compared to $4.1 million in the first quarter of 2011. Historically, the Corporation’s service charges on deposit accounts are lowest in the first quarter, in part, due to it being the quarter with the fewest days.
Wealth management revenue of $3.0 million in the second quarter of 2011 increased $0.2 million, or 9.4%, compared to $2.8 million in the first quarter of 2011, due primarily to increases in assets under management resulting from gains in the equity markets and increases in sales of mutual funds, annuity products and marketable securities through the Corporation’s Chemical Financial Advisors program.
Mortgage banking revenue of $0.5 million in the second quarter of 2011 decreased $0.6 million, or 53%, compared to $1.1 million in the first quarter of 2011 due primarily to a decrease in the volume of loans sold. The Corporation sold $31 million of real estate residential loans in the secondary mortgage market during the second quarter of 2011, compared to $69 million during the first quarter of 2011. The Corporation expects the volume of loans sold to remain low throughout the remainder of 2011.

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Noninterest income of $10.9 million in the second quarter of 2011 decreased $0.1 million, or 0.9%, compared to $11.0 million in the second quarter of 2010, with the decrease attributable to the impact of changes in regulatory requirements regarding the processing of certain electronic ATM and debit card transactions and lower mortgage banking revenue resulting from declines in the volume of loans sold that were mostly offset by higher service charges and electronic banking fees attributable to the acquisition of OAK and higher wealth management revenue resulting from increases in assets under management and higher equity market valuations upon which fees are assessed.
Operating Expenses
Total operating expenses were $33.4 million and $68.8 million in the three and six months ended June 30, 2011, respectively. The following includes the major categories of operating expenses during the three months ended June 30, 2011, March 31, 2011 and June 30, 2010 and the six months ended June 30, 2011 and 2010.
                                         
    Three Months Ended     Six Months Ended  
    June 30,     March 31,     June 30,     June 30,     June 30,  
    2011     2011     2010     2011     2010  
    (In thousands)
Salaries and wages
  $ 14,970     $ 14,949     $ 14,573     $ 29,919     $ 26,143  
Employee benefits
    3,098       3,376       2,641       6,474       5,578  
Occupancy
    3,099       3,338       2,734       6,437       5,571  
Equipment and software
    3,110       2,722       3,698       5,832       6,412  
Outside processing / service fees
    1,640       1,668       1,081       3,308       2,031  
FDIC insurance premiums
    1,219       1,769       1,920       2,988       3,408  
Professional fees
    1,290       1,259       1,890       2,549       3,307  
Loan collection costs
    871       1,128       1,173       1,999       2,294  
Other real estate and repossessed asset expenses
    559       964       637       1,523       1,259  
Postage and courier
    830       822       767       1,652       1,549  
Advertising and marketing
    674       514       620       1,188       1,094  
Intangible asset amortization
    479       511       337       990       485  
Supplies
    445       406       421       851       784  
Telephone
    308       441       462       749       843  
Other
    821       1,522       1,696       2,343       3,081  
 
                             
Total Operating Expenses
  $ 33,413     $ 35,389     $ 34,650     $ 68,802     $ 63,839  
 
                             
Total operating expenses of $33.4 million in the second quarter of 2011 decreased $2.0 million, or 5.6%, compared to $35.4 million in the first quarter of 2011, with the decrease primarily due to lower FDIC insurance premiums, loan collection costs, other real estate (ORE) and repossessed asset (RA) expenses and other expenses.
FDIC insurance premiums of $1.2 million in the second quarter of 2011 decreased $0.6 million, or 31%, compared to $1.8 million in the first quarter of 2011, with the decrease due primarily to a lower assessment rate. Effective April 1, 2011, the Corporation’s assessment base changed from average deposits to average assets less average Tier 1 capital and the assessment rate declined from approximately 16 basis points to 9 basis points, on an annualized basis. The Corporation’s FDIC insurance premiums for the remainder of 2011 are expected to be approximately $1.2 million each quarter.
Loan collection costs of $0.9 million in the second quarter of 2011 decreased $0.2 million, or 23%, compared to $1.1 million in the first quarter of 2011, with the decrease due partially to stabilization in credit quality of the Corporation’s nonperforming loans.

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ORE and RA expenses of $0.6 million in the second quarter of 2011 decreased $0.4 million, or 42%, compared to $1.0 million in the first quarter of 2011, with the decrease due partially to stabilization in real estate values of ORE properties. The Corporation recognized a net gain from the sale and/or writedown of ORE properties of $0.1 million in the second quarter of 2011, compared to a net loss of $0.3 million in the first quarter of 2011.
Other expenses of $0.8 million in the second quarter of 2011 decreased $0.7 million, or 46%, compared to $1.5 million in the first quarter of 2011, with the decrease primarily due to the reversal of $1.2 million of state tax expense accruals resulting from the elimination of a contingent liability. At June 30, 2011, the Corporation had $0.5 million of remaining contingent state tax expense accruals.
Total operating expenses of $33.4 million in the second quarter of 2011 decreased $1.3 million, or 3.6%, compared to $34.7 million in the second quarter of 2010. The decrease was primarily attributable to the second quarter of 2010 including $2.3 million of OAK acquisition-related transaction expenses and the reversal of $1.2 million of state tax expense accruals in the second quarter of 2011, that were partially offset by increased operating expenses due to the acquisition of OAK. Total operating expenses of $68.8 million in the six months ended June 30, 2011 were $5.0 million higher than the same period of 2010 due primarily to the acquisition of OAK.
Income Tax Expense
The Corporation’s effective federal income tax rate was 30.1% and 30.0% for the three and six months ended June 30, 2011, respectively, compared to 32.9% and 27.2% for the three and six months ended June 30, 2010, respectively. The difference between the federal statutory income tax rate and the Corporation’s effective federal income tax rate is primarily a function of the proportion of the Corporation’s interest income exempt from federal taxation, nondeductible interest expense, nondeductible acquisition expenses and other nondeductible expenses relative to pre-tax net income and tax credits.
The Corporation records income tax expense for interim periods based on its best estimate of the effective income tax rate expected to be applicable for the full year. However, when a reliable estimate for the full year cannot be made, the Corporation utilizes the actual effective income tax rate on a year-to-date basis. The Corporation recorded income tax expense for the three and six month periods ended June 30, 2011 and 2010 using its best estimate of the effective income tax rate expected for the full year and applied that rate on a year-to-date basis.
Liquidity Risk
Liquidity risk is the possibility of the Corporation being unable to meet current and future financial obligations in a timely manner and the adverse impact on net interest income if the Corporation was unable to meet its funding requirements at a reasonable cost.
Liquidity is managed to ensure stable, reliable and cost-effective sources of funds are available to satisfy deposit withdrawals and lending and investment opportunities. The Corporation’s largest sources of liquidity on a consolidated basis are the deposit base that comes from consumer, business and municipal customers within the Corporation’s local markets, principal payments on loans, cash held at the FRB, unpledged investment securities available-for-sale and federal funds sold. Total deposits decreased $81 million, or 1.9%, during the six months ended June 30, 2011, with the majority of the decrease due to the Corporation paying off maturing brokered deposits acquired in the OAK transaction. The Corporation’s loan-to-deposit ratio increased to 88% at June 30, 2011 from 85% and 87% at December 31, 2010 and June 30, 2010, respectively. At June 30, 2011, the Corporation had $265 million of cash deposits held at the FRB that were not invested in federal funds sold due to the low interest rate environment. In addition, at June 30, 2011, the Corporation had $151 million of unpledged investment securities available-for-sale. The Corporation also has available unused wholesale sources of liquidity, including FHLB advances and borrowings from the discount window of the FRB.
Chemical Bank is a member of the FHLB and as such has access to short-term and long-term advances from the FHLB that are generally secured by real estate residential first lien loans. The Corporation considers advances from

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the FHLB as its primary wholesale source of liquidity. FHLB advances decreased $2.2 million during the six months ended June 30, 2011 to $72 million at that date. The Corporation’s additional borrowing availability from the FHLB, based on its FHLB capital stock and subject to certain requirements, was $269 million at June 30, 2011. Chemical Bank can also borrow from the FRB’s discount window to meet short-term liquidity requirements. These borrowings are required to be secured by investment securities and/or certain loan types, with each category of assets carrying various borrowing capacity percentages. At June 30, 2011, Chemical Bank maintained an unused borrowing capacity of $30 million with the FRB’s discount window based upon pledged collateral as of that date, although it is management’s opinion that this borrowing capacity could be expanded, if deemed necessary, as Chemical Bank has a significant amount of additional assets that could be used as collateral at the FRB’s discount window.
The Corporation manages its liquidity primarily through dividends from Chemical Bank. The Corporation manages its liquidity position to provide the cash necessary to pay dividends to shareholders, invest in new subsidiaries, enter new banking markets, pursue investment opportunities and satisfy other operating requirements.
Federal and state banking laws place certain restrictions on the amount of dividends that a bank may pay to its parent company. During the first six months of 2011, Chemical Bank paid $11.0 million in cash dividends to the Corporation, and the Corporation paid cash dividends to shareholders of $11.0 million. At June 30, 2011, the Corporation maintained $5 million of cash which it held in a deposit account at Chemical Bank. During 2010, Chemical Bank paid $21.3 million in dividends to the Corporation and the Corporation paid cash dividends to shareholders of $21.2 million. The earnings of Chemical Bank have been the principal source of funds to pay cash dividends to the Corporation’s shareholders. Over the long term, cash dividends to shareholders are dependent upon earnings, as well as capital requirements, regulatory restraints and other factors affecting Chemical Bank.
Market Risk
Market risk is the risk of loss arising from adverse changes in the fair value of financial instruments due primarily to changes in interest rates. Interest rate risk is the Corporation’s primary market risk and results from timing differences in the repricing of interest rate sensitive assets and liabilities and changes in relationships between rate indices due to changes in interest rates. The Corporation’s net interest income is largely dependent upon the effective management of interest rate risk. The Corporation’s goal is to avoid a significant decrease in net interest income, and thus an adverse impact on the profitability of the Corporation, in periods of changing interest rates. Sensitivity of earnings to interest rate changes arises when yields on assets change differently from the interest costs on liabilities. Interest rate sensitivity is determined by the amount of interest-earning assets and interest-bearing liabilities repricing within a specific time period and the magnitude by which interest rates change on the various types of interest-earning assets and interest-bearing liabilities. The management of interest rate sensitivity includes monitoring the maturities and repricing opportunities of interest-earning assets and interest-bearing liabilities. The Corporation’s interest rate risk is managed through policies and risk limits approved by the boards of directors of the Corporation and Chemical Bank and an Asset and Liability Committee (ALCO). The ALCO, which is comprised of executive and senior management from various areas of the Corporation and Chemical Bank, including finance, lending, investments and deposit gathering, meets regularly to execute asset and liability management strategies. The ALCO establishes guidelines and monitors the sensitivity of earnings to changes in interest rates. The goal of the ALCO process is to manage the impact on net interest income and the net present value of future cash flows of probable changes in interest rates within authorized risk limits.
The primary technique utilized by the Corporation to measure its interest rate risk is simulation analysis. Simulation analysis forecasts the effects on the balance sheet structure and net interest income under a variety of scenarios that incorporate changes in interest rates, the shape of the Treasury yield curve, interest rate relationships and the mix of assets and liabilities and loan prepayments. These forecasts are compared against net interest income projected in a stable interest rate environment. While many assets and liabilities reprice either at maturity or in accordance with their contractual terms, several balance sheet components demonstrate characteristics that require an evaluation to more accurately reflect their repricing behavior. Key assumptions in the simulation analysis include prepayments on loans, probable calls of investment securities, changes in market conditions, loan volumes and loan pricing, deposit sensitivity and customer preferences. These assumptions are inherently uncertain as they are subject to fluctuation and revision in a dynamic environment. As a result, the simulation analysis cannot precisely forecast the impact of rising and falling interest rates on net interest income. Actual results will differ from simulated results due to many

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other factors, including changes in balance sheet components, interest rate changes, changes in market conditions and management strategies.
The Corporation’s interest rate sensitivity is estimated by first forecasting the next twelve months of net interest income under an assumed environment of constant market interest rates. The Corporation then compares the results of various simulation analyses to the constant interest rate forecast (base case). At June 30, 2011, the Corporation projected the change in net interest income during the next twelve months assuming short-term market interest rates were to uniformly and gradually increase or decrease by up to 200 basis points in a parallel fashion over the entire yield curve during the same time period. These projections were based on the Corporation’s assets and liabilities remaining static over the next twelve months, while factoring in probable calls and prepayments of certain investment securities and real estate residential and consumer loans. The ALCO regularly monitors the Corporation’s forecasted net interest income sensitivity to ensure that it remains within established limits.
A summary of the Corporation’s interest rate sensitivity at June 30, 2011 follows:
                                         
Twelve month interest rate change projection (in basis points)   -200   -100   0   +100   +200
     
Percent change in net interest income vs. constant rates
    (5.3 )%     (2.7 )%           1.4 %     1.8 %
At June 30, 2011, the Corporation’s model simulations projected that 100 and 200 basis point increases in interest rates would result in positive variances in net interest income of 1.4% and 1.8%, respectively, relative to the base case over the next 12-month period, while decreases in interest rates of 100 and 200 basis points would result in nega