Attached files

file filename
EX-31.1 - CERTIFICATION OF CHIEF EXECUTIVE OFFICER - Western New England Bancorp, Inc.ex31-1.htm
EX-32.2 - CERTIFICATION OF CHIEF FINANCIAL OFFICER - Western New England Bancorp, Inc.ex32-2.htm
EX-32.1 - CERTIFICATION OF CHIEF EXECUTIVE OFFICER - Western New England Bancorp, Inc.ex32-1.htm
EX-31.2 - CERTIFICATION OF CHIEF FINANCIAL OFFICER - Western New England Bancorp, Inc.ex31-2.htm

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

 


  

FORM 10-Q

 

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

 

For the quarterly period ended September 30, 2015

 

OR

 

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

  

For the transition period from _____ to _____.

 

Commission file number 001-16767

 

Westfield Financial, Inc.

 (Exact name of registrant as specified in its charter)

  

Massachusetts 73-1627673
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)

 

141 Elm Street, Westfield, Massachusetts 01086

 (Address of principal executive offices)

(Zip Code)

 

(413) 568-1911

 (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  ☒   No  ☐

 

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

 

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

 

Large accelerated filer  ☐ Accelerated filer  ☒
   
Non-accelerated filer  ☐ Smaller reporting company  ☐

 

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

 

At October 30, 2015, the registrant had 18,349,739 shares of common stock, $.01 par value, issued and outstanding.

 

 
 

 

TABLE OF CONTENTS

 

    Page
     
FORWARD-LOOKING STATEMENTS i
     
PART I - FINANCIAL INFORMATION  
     
Item 1. Financial Statements of Westfield Financial, Inc. and Subsidiaries  
     
  Consolidated Balance Sheets (Unaudited)   September 30, 2015 and December 31, 2014 1
     
  Consolidated Statements of Net Income (Unaudited)   Three and Nine Months Ended September 30, 2015 and 2014 2
     
  Consolidated Statements of Comprehensive Income (Unaudited) -  
  Three and Nine Months Ended September 30, 2015 and 2014 3
     
  Consolidated Statements of Changes in Shareholders’Equity (Unaudited) -  
  Nine Months Ended September 30, 2015 and 2014 4
     
  Consolidated Statements of Cash Flows (Unaudited)   Nine Months Ended September 30, 2015 and 2014 5
     
  Notes to Consolidated Financial Statements (Unaudited) 6
     
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 29
     
Item 3. Quantitative and Qualitative Disclosures About Market Risk 41
     
Item 4. Controls and Procedures 42
     
PART II - OTHER INFORMATION
     
Item 1. Legal Proceedings 42
     
Item 1A. Risk Factors 42
     
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 43
     
Item 3. Defaults upon Senior Securities 43
     
Item 4. Mine Safety Disclosures 43
     
Item 5. Other Information 43
     
Item 6. Exhibits 43

 

 
 

 

FORWARD–LOOKING STATEMENTS

 

We may, from time to time, make written or oral “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, including statements contained in our filings with the Securities and Exchange Commission (the “SEC”), our reports to shareholders and in other communications by us. This Quarterly Report on Form 10-Q contains “forward-looking statements,” which may be identified by the use of such words as “believe,” “expect,” “anticipate,” “should,” “would,” “plan,” “estimate,” “potential” and other similar expressions. Examples of forward-looking statements include, but are not limited to, estimates with respect to our financial condition, results of operation and business that are subject to various factors which could cause actual results to differ materially from these estimates. These factors include, but are not limited to:

 

·changes in the interest rate environment that reduce margins;

 

·changes in the regulatory environment;

 

·the highly competitive industry and market area in which we operate;

 

·general economic conditions, either nationally or regionally, resulting in, among other things, a deterioration in credit quality;

 

·changes in business conditions and inflation;

 

·changes in credit market conditions;

 

·changes in the securities markets which affect investment management revenues;

 

·increases in Federal Deposit Insurance Corporation deposit insurance premiums and assessments could adversely affect our financial condition;

 

·changes in technology used in the banking business;

 

·the soundness of other financial services institutions which may adversely affect our credit risk;

 

·certain of our intangible assets may become impaired in the future;

 

·our controls and procedures may fail or be circumvented;

 

·new line of business or new products and services, which may subject us to additional risks;

 

·changes in key management personnel which may adversely impact our operations;

 

·the effect on our operations of governmental legislation and regulation, including changes in accounting regulation or standards, the nature and timing of the adoption and effectiveness of new requirements under the Dodd-Frank Act, Basel guidelines, capital requirements and other applicable laws and regulations;

 

·severe weather, natural disasters, acts of war or terrorism and other external events which could significantly impact our business; and

 

·other factors detailed from time to time in our Securities and Exchange Commission (“SEC”) filings.

 

Although we believe that the expectations reflected in such forward-looking statements are reasonable, actual results may differ materially from the results discussed in these forward-looking statements. You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. We do not undertake any obligation to republish revised forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.

 

i
 

 

PART I – FINANCIAL INFORMATION

 

ITEM 1: FINANCIAL STATEMENTS. 

WESTFIELD FINANCIAL, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS - UNAUDITED

(Dollars in thousands, except share data)

 

    September 30,    December 31,
   2015  2014
ASSETS      
CASH AND DUE FROM BANKS  $10,247   $10,294 
FEDERAL FUNDS SOLD   409    269 
INTEREST-BEARING DEPOSITS AND OTHER SHORT-TERM INVESTMENTS   11,324    8,222 
CASH AND CASH EQUIVALENTS   21,980    18,785 
           
SECURITIES AVAILABLE FOR SALE – AT FAIR VALUE   191,324    215,750 
SECURITIES HELD TO MATURITY (Fair value of $250,732 and $277,636 at September 30, 2015 and December 31, 2014, respectively)   248,757    278,080 
FEDERAL HOME LOAN BANK OF BOSTON AND OTHER RESTRICTED STOCK - AT COST   15,839    14,934 
LOANS - Net of allowance for loan losses of $8,372 and $7,948 at September 30, 2015 and December 31, 2014, respectively   798,521    716,738 
PREMISES AND EQUIPMENT, Net   13,736    11,703 
ACCRUED INTEREST RECEIVABLE   4,086    4,213 
BANK-OWNED LIFE INSURANCE   49,852    48,703 
DEFERRED TAX ASSET, Net   10,887    8,819 
OTHER ASSETS   2,233    2,371 
TOTAL ASSETS  $1,357,215   $1,320,096 
           
LIABILITIES AND SHAREHOLDERS’ EQUITY          
LIABILITIES:          
DEPOSITS :          
Noninterest-bearing  $150,965   $136,186 
Interest-bearing   758,076    698,032 
Total deposits   909,041    834,218 
           
SHORT-TERM BORROWINGS   121,222    93,997 
LONG-TERM DEBT   166,407    232,479 
OTHER LIABILITIES   20,937    16,859 
TOTAL LIABILITIES   1,217,607    1,177,553 
           
SHAREHOLDERS’ EQUITY:          
Preferred stock - $.01 par value, 5,000,000 shares authorized, none outstanding at September 30, 2015 and December 31, 2014        
Common stock - $.01 par value, 75,000,000 shares authorized, 18,398,045 shares issued and outstanding at September 30, 2015; 18,734,791 shares issued and outstanding at December 31, 2014   184    187 
Additional paid-in capital   109,205    111,696 
Unearned compensation - ESOP   (7,081)   (7,469)
Unearned compensation - Equity Incentive Plan   (346)   (95)
Retained earnings   48,432    45,699 
Accumulated other comprehensive loss   (10,786)   (7,475)
Total shareholders’ equity   139,608    142,543 
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY  $1,357,215   $1,320,096 

 

See accompanying notes to unaudited consolidated financial statements.

 

1
 

 

WESTFIELD FINANCIAL, INC. AND SUBSIDIARIES 

CONSOLIDATED STATEMENTS OF NET INCOME – UNAUDITED

(Dollars in thousands, except share data)

 

    Three Months    Nine Months
    Ended September 30,    Ended September 30,
   2015  2014  2015  2014
INTEREST AND DIVIDEND INCOME:            
Residential and commercial real estate loans  $6,105   $5,590   $17,415   $16,256 
Commercial and industrial loans   1,703    1,509    4,921    4,154 
Consumer loans   41    36    113    103 
Debt securities, taxable   2,807    2,896    8,297    9,050 
Debt securities, tax-exempt   147    208    508    626 
Equity securities   43    43    126    132 
Other investments - at cost   126    59    263    187 
Federal funds sold, interest-bearing deposits and other short-term investments   2    2    13    11 
Total interest and dividend income   10,974    10,343    31,656    30,519 
INTEREST EXPENSE:                    
Deposits   1,414    1,298    4,135    3,877 
Long-term debt   1,083    1,125    3,244    3,207 
Short-term borrowings   317    86    748    245 
Total interest expense   2,814    2,509    8,127    7,329 
Net interest and dividend income   8,160    7,834    23,529    23,190 
PROVISION FOR LOAN LOSSES   150    750    800    1,300 
Net interest and dividend income after provision for loan losses   8,010    7,084    22,729    21,890 
                     
NONINTEREST INCOME (LOSS):                    
Service charges and fees   789    655    2,266    1,958 
Income from bank-owned life insurance   374    384    1,149    1,150 
Loss on prepayment of borrowings   (429)       (1,300)    
Gain on sales of securities, net   414    226    1,507    276 
Total noninterest income   1,148    1,265    3,622    3,384 
NONINTEREST EXPENSE:                    
Salaries and employee benefits   3,903    3,623    11,588    11,066 
Occupancy   784    743    2,443    2,255 
Computer operations   636    600    1,779    1,725 
Professional fees   596    495    1,555    1,489 
FDIC insurance assessment   212    166    592    508 
Other   736    721    2,486    2,370 
Total noninterest expense   6,867    6,348    20,443    19,413 
INCOME BEFORE INCOME TAXES   2,291    2,001    5,908    5,861 
INCOME TAX PROVISION   680    491    1,595    1,360 
NET INCOME  $1,611   $1,510   $4,313   $4,501 
                     
EARNINGS PER COMMON SHARE:                    
Basic earnings per share  $0.09   $0.08   $0.25   $0.25 
Weighted average shares outstanding   17,461,472    17,910,223    17,554,361    18,340,642 
Diluted earnings per share  $0.09   $0.08   $0.25   $0.25 
Weighted average diluted shares outstanding   17,461,472    17,910,223    17,554,361    18,340,642 

 

See accompanying notes to unaudited consolidated financial statements.

 

2
 

 

WESTFIELD FINANCIAL, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME – UNAUDITED

(Dollars in thousands)

 

   Three Months Ended September 30,  Nine Months Ended September 30,
   2015  2014  2015  2014
             
Net income  $1,611   $1,510   $4,313   $4,501 
                     
Other comprehensive income (loss):                    
Unrealized gains (losses) on securities:                    
Unrealized holding gains (losses) on available for sale securities   2,232    (1,211)   513    1,770 
Reclassification adjustment for net gains realized in income (1)   (414)   (226)   (1,507)   (276)
Amortization of net unrealized loss on held-to-maturity securities (2)   (78)   (20)   (269)   (19)
Net unrealized gains (losses)   1,740    (1,457)   (1,263)   1,475 
Tax effect   (604)   500    432    (510)
Net-of-tax amount   1,136    (957)   (831)   965 
                     
Derivative instruments:                    
Change in fair value of derivatives used for cash flow hedges   (3,089)   255    (4,366)   (4,744)
Reclassification adjustment for loss realized in interest expense (3)   126    48    393    142 
Reclassification adjustment for termination fee realized in interest expense (4)   83        122     
Net adjustments relating to derivative instruments   (2,880)   303    (3,851)   (4,602)
Tax effect   979    (103)   1,309    1,565 
Net-of-tax amount   (1,901)   200    (2,542)   (3,037)
                     
Defined benefit pension plans:                    
Losses arising during the period:           (62)    
Reclassification adjustments (5):                    
Actuarial loss   32    (4)   156    (4)
Transition asset               (10)
Net adjustments pertaining to defined benefit plans   32    (4)   94    (14)
Tax effect   (11)   2    (32)   5 
Net-of-tax amount   21    (2)   62    (9)
                     
Other comprehensive loss   (744)   (759)   (3,311)   (2,081)
                     
Comprehensive income  $867   $751   $1,002   $2,420 

 

(1) Reported as gains on sales of securities, net in noninterest income. The tax provision applicable to net realized gains was $141,000 and $77,000 for the three months ended September 30, 2015 and 2014, respectively. The tax provision applicable to net realized gains was $517,000 and $94,000 for the nine months ended September 30, 2015 and 2014, respectively.
 
(2) Amortization of net unrealized loss on held-to-maturity securities is recognized as a component of interest income on debt securities. Income tax benefits associated with the reclassification adjustments were $27,000 and $7,000 for the three months ended September 30, 2015 and 2014, respectively. Income tax benefits associated with the reclassification adjustments were $91,000 and $6,000 for the nine months ended September 30, 2015 and 2014, respectively.
 
(3) Loss realized in interest expense on derivative instruments is recognized as a component of interest expense on short-term debt. Income tax benefits associated with the reclassification adjustments were $43,000 and $16,000 for the three months ended September 30, 2015 and 2014, respectively. Income tax benefits associated with the reclassification adjustments were $134,000 and $48,000 for the nine months ended September 30, 2015 and 2014, respectively.
 
(4) Loss realized in interest expense on derivative instruments is recognized as a component of interest expense on short-term debt. Income tax benefits associated with the reclassification adjustments were $28,000 and $41,000 for the three and nine months ended September 30, 2015, respectively.
 
(5) Amounts represent the reclassification of defined benefit plans amortization and have been recognized as a component of salaries and employee benefits expense. Income tax effects associated with the reclassification adjustments were a benefit of $11,000 and an expense of $2,000 for the three months ended September 30, 2015 and 2014, respectively. Income tax effects associated with the reclassification adjustments were a benefit of $32,000 and an expense of $5,000, for the nine months ended September 30, 2015 and 2014, respectively.
 
See accompanying notes to unaudited consolidated financial statements.

 

3
 

 

WESTFIELD FINANCIAL, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY - UNAUDITED

NINE MONTHS ENDED SEPTEMBER 30, 2015 AND 2014

(Dollars in thousands, except share data)

 

   Common Stock                  
   Shares  Par Value  Additional Paid-in Capital  Unearned Compensation - ESOP  Unearned Compensation- Equity Incentive Plan  Retained Earnings  Accumulated Other Comprehensive Loss  Total
                         
BALANCE AT DECEMBER 31, 2013  20,140,669   $201   $121,860   $(8,003)  $(187)  $43,248   $(2,975)  $154,144 
Comprehensive income                       4,501    (2,081)   2,420 
Common stock held by ESOP committed to be released (79,345 shares)           35    400                435 
Share-based compensation - equity incentive plan                   74            74 
Excess tax benefit from equity incentive plan           1                    1 
Common stock repurchased   (1,317,945)   (13)   (9,574)                   (9,587)
Return of dividends issued in connection with equity incentive plan                       121        121 
Cash dividends declared ($0.18 per share)                       (3,302)       (3,302)
BALANCE AT SEPTEMBER 30, 2014   18,822,724   $188   $112,322   $(7,603)  $(113)  $44,568   $(5,056)  $144,306 
                                         
BALANCE AT DECEMBER 31, 2014   18,734,791   $187   $111,696   $(7,469)  $(95)  $45,699   $(7,475)  $142,543 
Comprehensive income                       4,313    (3,311)   1,002 
Common stock held by ESOP committed to be released (76,888 shares)           40    388                428 
Share-based compensation - equity incentive plan                   98            98 
Excess tax benefit from equity incentive plan           2                    2 
Common stock repurchased   (385,306)   (4)   (2,881)                   (2,885)
Issuance of common stock in connection with equity incentive plan   48,560    1    348        (349)            
Cash dividends declared ($0.09 per share)                       (1,580)       (1,580)
BALANCE AT SEPTEMBER 30, 2015   18,398,045   $184   $109,205   $(7,081)  $(346)  $48,432   $(10,786)  $139,608 

 

See accompanying notes to unaudited consolidated financial statements

 

4
 

 

WESTFIELD FINANCIAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)

 

    Nine Months Ended September 30,
   2015  2014
OPERATING ACTIVITIES:      
Net income  $4,313   $4,501 
Adjustments to reconcile net income to net cash provided by operating activities:          
Provision for loan losses   800    1,300 
Depreciation and amortization of premises and equipment   987    865 
Net amortization of premiums and discounts on securities and mortgage loans   3,620    3,167 
Net amortization of premiums on modified debt   319    471 
Share-based compensation expense   98    74 
ESOP expense   428    435 
Excess tax benefits from equity incentive plan   (2)   (1)
Net gains on sales of securities   (1,507)   (276)
Loss on prepayment of borrowings   1,300     
Income from bank-owned life insurance   (1,149)   (1,150)
Changes in assets and liabilities:          
Accrued interest receivable   127    9 
Other assets   (229)   (278)
Other liabilities   331    469 
Net cash provided by operating activities   9,436    9,586 
INVESTING ACTIVITIES:          
Securities, held to maturity:          
Purchases   (2,619)    
Proceeds from calls, maturities, and principal collections   29,731    9,485 
Securities, available for sale:          
Purchases   (138,395)   (50,136)
Proceeds from sales   130,647    63,584 
Proceeds from calls, maturities, and principal collections   31,091    17,770 
Purchase of residential mortgages   (77,115)   (38,354)
Loan originations and principal payments, net   (5,550)   (44,278)
(Purchase) redemption of Federal Home Loan Bank of Boston stock   (905)   911 
Purchases of premises and equipment   (3,064)   (1,109)
Proceeds from sale of premises and equipment   44    40 
Net cash used in investing activities   (36,135)   (42,087)
FINANCING ACTIVITIES:          
Net increase in deposits   74,823    11,673 
Net change in short-term borrowings   27,225    30,488 
Repayment of long-term debt   (67,800)   (7,150)
Proceeds from long-term debt   109    5,106 
Return of dividends issued in connection with equity incentive plan       121 
Cash dividends paid   (1,580)   (3,302)
Common stock repurchased   (2,885)   (9,749)
Excess tax benefits in connection with equity incentive plan   2    1 
Net cash provided by financing activities   29,894    27,188 
           
NET CHANGE IN CASH AND CASH EQUIVALENTS:   3,195    (5,313)
Beginning of period   18,785    19,742 
End of period  $21,980   $14,429 
           
Supplemental cash flow information:          
Securities reclassified to loan portfolio  $   $606 
Interest paid   8,180    7,332 
Taxes paid   1,725    1,831 
Net cash due to broker for common stock repurchased       137 

 

See the accompanying notes to unaudited consolidated financial statements

  

5
 

 

WESTFIELD FINANCIAL, INC. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

SEPTEMBER 30, 2015

 

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Nature of OperationsWestfield Financial, Inc. (“Westfield Financial,” “we” or “us”) is a Massachusetts-chartered stock holding company and the parent company of Westfield Bank (the “Bank”), a federally chartered stock savings bank (the “Bank”).

 

The Bank’s deposits are insured to the limits specified by the Federal Deposit Insurance Corporation (“FDIC”). The Bank operates 13 banking offices in western Massachusetts and Granby and Enfield, Connecticut, and its primary sources of revenue are income from securities and earnings on loans to small and middle-market businesses and to residential property homeowners.

 

Elm Street Securities Corporation and WFD Securities Corporation, Massachusetts-chartered security corporations, were formed by Westfield Financial for the primary purpose of holding qualified securities. WB Real Estate Holdings, LLC, a Massachusetts-chartered limited liability company was formed for the primary purpose of holding real property acquired as security for debts previously contracted by the Bank.

 

Principles of Consolidation – The unaudited consolidated financial statements include the accounts of Westfield Financial, the Bank, Elm Street Securities Corporation, WB Real Estate Holdings, LLC and WFD Securities Corporation. All material intercompany balances and transactions have been eliminated in consolidation.

 

Estimates – The preparation of unaudited consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities and the reported amounts of income and expenses for both at the date of the unaudited consolidated financial statements. Actual results could differ from those estimates. Estimates that are particularly susceptible to significant change in the near-term relate to the determination of the allowance for loan losses, other-than-temporary impairment of securities, and the valuation of deferred tax assets.

  

Basis of Presentation – In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of our financial condition as of September 30, 2015, and the results of operations, changes in shareholders’ equity and cash flows for the interim periods presented. The results of operations for the three and nine months ended September 30, 2015 are not necessarily indicative of the results of operations for the year ending December 31, 2015. Certain information and disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been omitted pursuant to the rules and regulations of the Securities and Exchange Commission.

 

These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements as of and for the year ended December 31, 2014, included in our Annual Report on Form 10-K for the year ended December 31, 2014 (the “2014 Annual Report”).

 

Reclassifications - Amounts in the prior period financial statements are reclassified when necessary to conform to the current year presentation.

 

6
 

  

2. EARNINGS PER SHARE

 

Basic earnings per share represent income available to shareholders divided by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflect additional common shares that would have been outstanding if dilutive potential shares had been issued, as well as any adjustment to income that would result from the assumed issuance. No dilutive potential shares were outstanding during the periods presented. Share-based compensation awards that qualify as participating securities (entitled to receive non-forfeitable dividends) are included in basic earnings per share.

 

Earnings per common share for the three and nine months ended September 30, 2015 and 2014 have been computed based on the following:

  

   Three Months Ended  Nine Months Ended
   September 30,  September 30,
   2015  2014  2015  2014
   (In thousands, except per share data)
             
Net income applicable to common stock  $1,611   $1,510   $4,313   $4,501 
Average number of common shares issued   18,464    18,990    18,576    19,441 
Less: Average unallocated ESOP Shares   (1,002)   (1,080)   (1,021)   (1,110)
Average number of common shares outstanding used to calculate basic and diluted earnings per common share   17,462    17,910    17,555    18,341 
Basic and diluted earnings per share  $0.09   $0.08   $0.25   $0.25 

 

7
 

 

3. COMPREHENSIVE INCOME/LOSS

 

Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Although certain changes in assets and liabilities are reported as a separate component of the equity section of the balance sheet, such items, along with net income, are components of comprehensive income.

 

The components of accumulated other comprehensive loss included in shareholders’ equity are as follows:

  

   September 30, 2015  December 31, 2014
   (In thousands)
       
Net unrealized (loss) gain on securities available for sale  $(326)  $668 
Tax effect   114    (226)
Net-of-tax amount   (212)   442 
           
Net unrealized losses on securities transferred from available-for-sale to held-to-maturity   (2,056)   (1,787)
Tax effect   709    617 
Net-of-tax amount   (1,347)   (1,170)
           
Fair value of derivatives used for cash flow hedges   (9,590)   (5,739)
Tax effect   3,260    1,951 
Net-of-tax amount   (6,330)   (3,788)
           
Unrecognized deferred loss pertaining to defined benefit plan   (4,390)   (4,484)
Tax effect   1,493    1,525 
 Net-of-tax amount   (2,897)   (2,959)
           
Accumulated other comprehensive loss  $(10,786)  $(7,475)

  

The following table presents changes in accumulated other loss for the periods ended September 30, 2015 and 2014 by component:

 

   Securities  Derivatives  Defined Benefit Plans  Accumulated Other Comprehensive Loss
   (In thousands)
    
Balance at December 31, 2013  $(2,706)  $1,158   $(1,427)  $(2,975)
Current-period other comprehensive income (loss)   965    (3,037)   (9)   (2,081)
Balance at September 30, 2014  $(1,741)  $(1,879)  $(1,436)  $(5,056)
                     
Balance at December 31, 2014  $(728)  $(3,788)  $(2,959)  $(7,475)
Current-period other comprehensive income (loss)   (831)   (2,542)   62    (3,311)
Balance at September 30, 2015  $(1,559)  $(6,330)  $(2,897)  $(10,786)

 

8
 

 

4. SECURITIES

 

Securities available for sale and held to maturity are summarized as follows:

 

   September 30, 2015
   Amortized Cost  Gross Unrealized Gains  Gross Unrealized Losses  Fair Value
   (In thousands)
Available for sale securities:            
Government-sponsored mortgage-backed securities  $144,411   $206   $(667)  $143,950 
U.S. government guaranteed mortgage-backed securities   8,418    13    (8)   8,423 
Corporate bonds   21,264    102    (19)   21,347 
State and municipal bonds   5,846    15    (1)   5,860 
Government-sponsored enterprise obligations   4,000    1    (8)   3,993 
Mutual funds   6,402    16    (141)   6,277 
Common and preferred stock   1,309    165        1,474 
Total available for sale securities   191,650    518    (844)   191,324 
                     
Held to maturity securities:                    
Government-sponsored mortgage-backed securities  $152,010   $2,409   $(530)  $153,889 
U.S. government guaranteed mortgage-backed securities   31,877    330    (372)   31,835 
Corporate bonds   24,165    188    (110)   24,243 
State and municipal bonds   7,237    55    (123)   7,169 
Government-sponsored enterprise obligations   33,468    417    (289)   33,596 
Total held to maturity securities   248,757    3,399    (1,424)   250,732 
Total  $440,407   $3,917   $(2,268)  $442,056 

 

   December 31, 2014
   Amortized Cost  Gross Unrealized Gains  Gross Unrealized Losses  Fair Value
   (In thousands)
Available for sale securities:            
Government-sponsored mortgage-backed securities  $139,637   $423   $(847)  $139,213 
U.S. government guaranteed mortgage-backed securities   1,591    7    (12)   1,586 
Corporate bonds   25,711    532    (20)   26,223 
State and municipal bonds   16,472    562        17,034 
Government-sponsored enterprise obligations   24,066    69    (156)   23,979 
Mutual funds   6,296    8    (128)   6,176 
Common and preferred stock   1,309    230        1,539 
Total available for sale securities   215,082    1,831    (1,163)  $215,750 
                     
Held to maturity securities:                    
Government-sponsored mortgage-backed securities  $164,001   $2,384   $(1,453)   164,932 
U.S. government guaranteed mortgage-backed securities   38,566    34    (607)   37,993 
Corporate bonds   24,751    76    (248)   24,579 
State and municipal bonds   7,285    59    (94)   7,250 
Government-sponsored enterprise obligations   43,477    257    (852)   42,882 
Total held to maturity securities   278,080    2,810    (3,254)   277,636 
Total  $493,162   $4,641   $(4,417)  $493,386 

 

9
 

 

U.S. government-sponsored and guaranteed mortgage-backed securities are collateralized by both residential and multifamily loans.

 

Our repurchase agreements and advances from the Federal Home Loan Bank of Boston (“FHLBB”) are collateralized by government-sponsored enterprise obligations and certain mortgage-backed securities (see Note 7).

 

The amortized cost and fair value of securities available for sale and held to maturity at September 30, 2015, by maturity, are shown below. Actual maturities may differ from contractual maturities because certain issuers have the right to call or repay obligations.

  

   September 30, 2015
   Securities  Securities
   Available for Sale  Held to Maturity
   Amortized Cost  Fair Value  Amortized Cost  Fair Value
   (In thousands)
Mortgage-backed securities:            
 Due after five years through ten years  $16,293   $16,298   $45,725   $45,608 
 Due after ten years   136,536    136,075    138,162    140,116 
Total  $152,829   $152,373   $183,887   $185,724 
                     
Debt securities:                    
 Due in one year or less  $1,865   $1,871   $377   $376 
 Due after one year through five years   16,543    16,553    19,651    19,546 
 Due after five years through ten years   12,702    12,776    41,376    41,720 
 Due after ten years           3,466    3,366 
Total  $31,110   $31,200   $64,870   $65,008 

  

Gross realized gains and losses on sales of securities available for sale for the three and nine months ended September 30, 2015 and 2014 are as follows:

  

   Three Months Ended  Nine Months Ended
   September 30,  September 30,
   2015  2014  2015  2014
   (In thousands)
             
Gross gains realized  $469   $226   $1,632   $757 
Gross losses realized   (55)       (125)   (481)
Net gain realized  $414   $226   $1,507   $276 

 

Proceeds from the sale of securities available for sale amounted to $130.6 million and $63.6 million for the nine months ended September 30, 2015 and 2014, respectively.

 

10
 

 

Information pertaining to securities with gross unrealized losses at September 30, 2015, and December 31, 2014, aggregated by investment category and length of time that individual securities have been in a continuous loss position are as follows:

 

 

   September 30, 2015
   Less Than Twelve Months  Over Twelve Months
   Gross Unrealized Losses  Fair Value  Gross Unrealized Losses  Fair Value
   (In thousands)
Available for sale:            
Government-sponsored mortgage-backed securities  $581   $86,294   $86   $6,473 
U.S. government guaranteed mortgage-backed securities           8    632 
Corporate bonds   19    4,660         
State and municipal bonds   1    456         
Government-sponsored enterprise obligations   8    1,492         
Mutual funds           141    1,772 
Total available for sale   609    92,902    235    8,877 
                     
Held to maturity:                    
Government-sponsored mortgage-backed securities   477    47,258    53    8,394 
U.S. government guaranteed mortgage-backed securities   372    14,798         
Corporate bonds   48    5,617    62    13,569 
State and municipal bonds   1    376    122    4,800 
Government-sponsored enterprise obligations           289    23,719 
Total held to maturity   898    68,049    526    50,482 
Total  $1,507   $160,951   $761   $59,359 

 

11
 

 

   December 31, 2014
   Less Than 12 Months  Over 12 Months
   Gross Unrealized Losses  Fair Value  Gross Unrealized Losses  Fair Value
   (In thousands)
Available for sale:            
Government-sponsored mortgage-backed securities  $47   $20,637   $800   $56,830 
U.S. government guaranteed mortgage-backed securities           12    677 
Corporate bonds   17    4,438    3    1,497 
Government-sponsored enterprise obligations   52    9,189    104    7,396 
Mutual funds           128    5,103 
Total available for sale   116    34,264    1,047    71,503 
                     
Held to maturity:                    
Government-sponsored mortgage-backed securities   200    10,292    1,253    65,526 
U.S. government guaranteed mortgage-backed securities           607    31,951 
Corporate bonds   128    5,684    120    13,918 
State and municipal bonds           94    4,853 
Government-sponsored enterprise obligations           852    33,224 
Total held to maturity   328    15,976    2,926    149,472 
Total  $444   $50,240   $3,973   $220,975 

 

   September 30, 2015
   Less Than 12 Months  Over 12 Months
   Number of Securities  Amortized Cost Basis  Gross Loss  Depreciation from Amortized Cost Basis (%)  Number of Securities  Amortized Cost Basis  Gross Loss  Depreciation from Amortized Cost Basis (%)
   (Dollars in thousands)
                         
Government-sponsored mortgage-backed securities   34   $134,610   $1,058    0.8%   5   $15,006   $139    0.9%
U.S. government guaranteed mortgage-backed securities   3    15,170    372    2.5    1    640    8    1.3 
Corporate bonds   4    10,344    67    0.6    4    13,631    62    0.5 
State and municipal bonds   2    834    2    0.2    9    4,922    122    2.5 
Government-sponsored enterprise obligations   1    1,500    8    0.5    4    24,008    289    1.2 
Mutual funds   0                1    1,913    141    7.4 
        $162,458   $1,507             $60,120   $761      

  

These unrealized losses are the result of changes in interest rates and not credit quality. Because we do not intend to sell the securities and it is more likely than not that we will not be required to sell the investments before recovery of their amortized cost basis, no declines are deemed to be other-than-temporary.

 

12
 

 

5. LOANS AND ALLOWANCE FOR LOAN LOSSES

 

Loans consisted of the following amounts:  September 30,  December 31,
   2015  2014
   (In thousands)
    
Commercial real estate  $295,783   $278,405 
Residential real estate:          
Residential   291,838    237,436 
Home equity   42,281    40,305 
Commercial and industrial   171,671    165,728 
Consumer   1,580    1,542 
Total Loans   803,153    723,416 
Unearned premiums and deferred loan fees and costs, net   3,740    1,270 
Allowance for loan losses   (8,372)   (7,948)
   $798,521   $716,738 

  

During the nine months ended September 30, 2015 and 2014, we purchased residential real estate loans aggregating $77.1 million and $38.4 million, respectively.

 

We have transferred a portion of our originated commercial real estate loans to participating lenders. The amounts transferred have been accounted for as sales and are therefore not included in our accompanying unaudited consolidated balance sheets. We share ratably with our participating lenders in any gains or losses that may result from a borrower’s lack of compliance with contractual terms of the loan. We continue to service the loans on behalf of the participating lenders and, as such, collect cash payments from the borrowers, remit payments (net of servicing fees) to participating lenders and disburse required escrow funds to relevant parties. At September 30, 2015 and December 31, 2014, we serviced loans for participants aggregating $19.8 million and $20.5 million, respectively.

 

Loans are recorded at the principal amount outstanding, adjusted for charge-offs, unearned premiums and deferred loan fees and costs. Interest on loans is calculated using the effective yield method on daily balances of the principal amount outstanding and is credited to income on the accrual basis to the extent it is deemed collectable. Our general policy is to discontinue the accrual of interest when principal or interest payments are delinquent 90 days or more based on the contractual terms of the loan, or earlier if the loan is considered impaired. Any unpaid amounts previously accrued on these loans are reversed from income. Subsequent cash receipts are applied to the outstanding principal balance or to interest income if, in the judgment of management, collection of the principal balance is not in question. Loans are returned to accrual status when they become current as to both principal and interest and perform in accordance with contractual terms for a period of at least six months, reducing the concern as to the collectability of principal and interest. Loan fees and certain direct loan origination costs are deferred, and the net fee or cost is recognized as an adjustment to interest income over the estimated average lives of the related loans.

 

The allowance for loan losses is established through provisions for loan losses charged to expense. Loans are charged-off against the allowance when management believes that the collectability of the principal is unlikely. Subsequent recoveries, if any, are credited to the allowance.

 

The allowance for loan losses is evaluated on a regular basis by management. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. The allowance consists of general, allocated, and unallocated components, as further described below.

 

13
 

 

General component

 

The general component of the allowance for loan losses is based on historical loss experience adjusted for qualitative factors stratified by the following loan segments: residential real estate (includes one-to-four family and home equity), commercial real estate, commercial and industrial, and consumer. Management uses a rolling average of historical losses based on a time frame appropriate to capture relevant loss data for each loan segment. This historical loss factor is adjusted for the following qualitative factors: trends in delinquencies and nonperforming loans; trends in volume and terms of loans; effects of changes in risk selection and underwriting standards and other changes in lending policies, procedures and practices; and national and local economic trends and industry conditions. There were no changes in our policies or methodology pertaining to the general component of the allowance for loan losses during the periods presented for disclosure.

 

The qualitative factors are determined based on the various risk characteristics of each loan segment. Risk characteristics relevant to each portfolio segment are as follows:

 

Residential real estate – We require private mortgage insurance for all loans originated with a loan-to-value ratio greater than 80% and we do not grant subprime loans. All loans in this segment are collateralized by owner-occupied residential real estate and repayment is dependent on the credit quality of the individual borrower. The overall health of the economy, including unemployment rates and housing prices, will have an effect on the credit quality in this segment. Home equity loans are secured by first or second mortgages on one-to-four family owner occupied properties.

 

Commercial real estate – Loans in this segment are primarily income-producing investment properties and owner occupied commercial properties throughout New England. The underlying cash flows generated by the properties or operations can be adversely impacted by a downturn in the economy due to increased vacancy rates or diminished cash flows, which in turn, would have an effect on the credit quality in this segment. Management obtains financial information annually and continually monitors the cash flows of these loans.

 

Commercial and industrial loans – Loans in this segment are made to businesses and are generally secured by assets of the business. Repayment is expected from the cash flows of the business. A weakened economy, and resultant decreased consumer spending, will have an effect on the credit quality in this segment.

 

Consumer loans – Loans in this segment are secured or unsecured and repayment is dependent on the credit quality of the individual borrower.

 

Allocated component

 

The allocated component relates to loans that are classified as impaired. Impaired loans are identified by analysis of loan performance, internal credit ratings and watch list loans that management believes are subject to a higher risk of loss. Impairment is measured on a loan by loan basis for commercial real estate and commercial and industrial loans by either the present value of expected future cash flows discounted at the loan’s effective interest rate or the fair value of the collateral if the loan is collateral dependent. An allowance is established when the discounted cash flows (or collateral value) of the impaired loan is lower than the carrying value of that loan. Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, we do not separately identify individual consumer and residential real estate loans for impairment disclosures, unless such loans are subject to a troubled debt restructuring agreement.

 

A loan is considered impaired when, based on current information and events, it is probable that we will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. We determine the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed.

 

14
 

 

Unallocated component

 

An unallocated component may be maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance, if any, reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating allocated and general reserves in the portfolio.

 

An analysis of changes in the allowance for loan losses by segment for the periods ended September 30, 2015 and 2014 is as follows:

 

   Commercial Real Estate  Residential Real Estate  Commercial and Industrial  Consumer  Unallocated  Total
   (In thousands)
Three Months Ended   
Balance at June 30, 2014  $3,898   $1,848   $2,258   $14   $(1)  $8,017 
Provision (credit)   246    (25)   543    8    (22)   750 
Charge-offs   (350)       (713)   (13)       (1,076)
Recoveries               4        4 
Balance at September 30, 2014  $3,794   $1,823   $2,088   $13   $(23)  $7,695 
                               
Balance at June 30, 2015  $3,850   $2,117   $2,334   $24   $(30)  $8,295 
Provision (credit)   (176)   270    34    8    14    150 
Charge-offs       (12)   (52)   (21)       (85)
Recoveries       1    2    9        12 
Balance at September 30, 2015  $3,674   $2,376   $2,318   $20   $(16)  $8,372 
                               
Nine Months Ended                              
Balance at December 31, 2013  $3,549   $1,707   $2,192   $13   $(2)  $7,459 
Provision (credit)   595    130    573    23    (21)   1,300 
Charge-offs   (350)   (15)   (787)   (36)       (1,188)
Recoveries       1    110    13        124 
Balance at September 30, 2014  $3,794   $1,823   $2,088   $13   $(23)  $7,695 
                               
Balance at December 31, 2014  $3,705   $2,053   $2,174   $15   $1   $7,948 
Provision (credit)   (31)   342    473    33    (17)   800 
Charge-offs       (26)   (334)   (51)       (411)
Recoveries       7    5    23        35 
Balance at September 30, 2015  $3,674   $2,376   $2,318   $20   $(16)  $8,372 

 

15
 

 

Further information pertaining to the allowance for loan losses by segment at September 30, 2015 and December 31, 2014 follows:

 

   Commercial
Real
Estate
  Residential Real
Estate
  Commercial and Industrial  Consumer  Unallocated  Total
   (In thousands)
September 30, 2015                  
                   
Amount of allowance for loans individually evaluated and deemed impaired  $   $   $   $   $   $ 
Amount of allowance for loans collectively or individually evaluated for impairment and not deemed impaired   3,674    2,376    2,318    20    (16)   8,372 
Total allowance for loan losses  $3,674   $2,376   $2,318   $20   $(16)  $8,372 
                               
Loans individually evaluated and deemed impaired   3,034    405    3,488            6,927 
Loans collectively or individually evaluated and not deemed impaired   292,749    333,714    168,183    1,580        796,226 
Total loans  $295,783   $334,119   $171,671   $1,580   $   $803,153 
                               
December 31, 2014                              
                               
Amount of allowance for loans individually evaluated and deemed impaired  $   $   $   $   $   $ 
Amount of allowance for loans collectively or individually evaluated for impairment and not deemed impaired   3,705    2,053    2,174    15    1    7,948 
Total allowance for loan losses  $3,705   $2,053   $2,174   $15   $1   $7,948 
                               
Loans individually evaluated and deemed impaired   3,104    291    4,436            7,831 
Loans collectively or individually evaluated and not deemed impaired   275,301    277,450    161,292    1,542        715,585 
Total loans  $278,405   $277,741   $165,728   $1,542   $   $723,416 

 

The following is a summary of past due and non-accrual loans by class at September 30, 2015 and December 31, 2014:

  

   30 – 59 Days Past Due  60 – 89 Days Past Due  Greater than 90 Days Past Due  Total Past Due  Past Due 90 Days or More and Still Accruing  Loans on Non-Accrual
   (In thousands)
September 30, 2015                  
Commercial real estate  $595   $500   $21   $1,116   $   $2,857 
Residential real estate:                              
Residential   733        642    1,375        1,180 
Home equity   345        32    377        32 
Commercial and industrial   1,761    1,935    509    4,205        3,267 
Consumer   13            13        11 
Total  $3,447   $2,435   $1,204   $7,086   $   $7,347 
                               
December 31, 2014                              
Commercial real estate  $3,003   $   $529   $3,532   $   $3,257 
Residential real estate:                              
Residential   314    61    1,158    1,533        1,323 
Home equity   252        1    253        1 
Commercial and industrial   169        394    563        4,233 
Consumer   22        3    25        16 
Total  $3,760   $61   $2,085   $5,906   $   $8,830 

 

16
 

 

The following is a summary of impaired loans by class at September 30, 2015 and December 31, 2014:

 

            Three Months Ended  Nine Months Ended
   At September 30, 2015  September 30, 2015  September 30, 2015
   Recorded Investment  Unpaid Principal Balance  Related Allowance  Average Recorded Investment  Interest Income Recognized  Average Recorded Investment  Interest Income Recognized
   (In thousands)
Impaired loans without a valuation allowance:                 
Commercial real estate  $3,034   $3,658   $   $3,054   $   $3,068     
Residential real estate   405    544        345        306     
Commercial and industrial   3,488    4,681        3,758        4,000     
Total   6,927    8,883        7,157        7,374     
                                    
Total impaired loans  $6,927   $8,883   $   $7,157   $   $7,374   $ 

 

            Three Months Ended  Nine Months Ended
   At December 31, 2014  September 30, 2014  September 30, 2014
   Recorded Investment  Unpaid Principal Balance  Related Allowance  Average Recorded Investment  Interest Income Recognized  Average Recorded Investment  Interest Income Recognized
   (In thousands)
Impaired loans without a valuation allowance:                 
Commercial real estate  $3,104   $3,662   $   $2,681   $   $1,846   $ 
Residential real estate   291    407        207        214     
Commercial and industrial   4,436    5,181        2,475        1,270     
Total   7,831    9,250        5,363        3,330     
                                    
Impaired loans with a valuation allowance:                          
Commercial real estate               6,672    142    11,176    428 
Commercial and industrial               477    11    800    31 
Total               7,149    153    11,976    459 
                                    
Total impaired loans  $7,831   $9,250   $   $12,512   $153   $15,306   $459 

 

All interest income recognized for impaired loans during the three and nine months ended September 30, 2014 related to performing TDR loans and was recognized on the accrual basis.

 

17
 

 

We may periodically agree to modify the contractual terms of loans. When a loan is modified and a concession is made to a borrower experiencing financial difficulty, the modification is considered a troubled debt restructuring (“TDR”). These concessions could include a reduction in the interest rate on the loan, payment extensions, postponement or forgiveness of principal, forbearance or other actions intended to maximize collection. All TDRs are classified as impaired.

 

When we modify loans in a TDR, we measure impairment similar to other impaired loans based on the present value of expected future cash flows, discounted at the contractual interest rate of the original loan agreement, or use the current fair value of the collateral, less selling costs for collateral dependent loans. If we determine that the value of the modified loan is less than the recorded investment in the loan (net of previous charge-offs, deferred loan fees or costs and unamortized premium or discount), impairment is recognized through an allowance estimate or a charge-off to the allowance. In periods subsequent to modification, we evaluate all TDRs, including those that have payment defaults, for possible impairment and recognize impairment through the allowance.

 

Nonperforming TDRs are shown as nonperforming assets. One loan classified as a TDR was modified during the three months ended September 30, 2015. In addition, prior to modification, the loans listed below for the 2014 periods indicated were paying interest and escrow only. Upon stabilization of the credits, the related loans were modified and placed on an amortization schedule with higher interest rates. During the three months ended September 30, 2014, one loan relationship with a balance of $14.3 million previously restructured in March 2012 was removed from TDR status upon maturity of the existing loans. The new loans were granted under market conditions and are performing according to the terms of the loan agreements.

 

   Three Months Ended  Nine Months Ended
   September 30, 2015  September 30, 2015
   Number of Contracts  Pre-Modification Outstanding Recorded Investment  Post-Modification Outstanding Recorded Investment  Number of Contracts  Pre-Modification Outstanding Recorded Investment  Post-Modification Outstanding Recorded Investment
   (Dollars in thousands)  (Dollars in thousands)
Troubled Debt Restructurings               
Commercial Real Estate   1   $488   $488    1   $488   $488 
Commercial and Industrial                        
Total   1   $488   $488    1   $488   $488 

 

   Three Months Ended  Nine Months Ended
   September 30, 2014  September 30, 2014
   Number of Contracts  Pre-Modification Outstanding Recorded Investment  Post-Modification Outstanding Recorded Investment  Number of Contracts  Pre-Modification Outstanding Recorded Investment  Post-Modification Outstanding Recorded Investment
   (Dollars in thousands)  (Dollars in thousands)
Troubled Debt Restructurings               
Commercial Real Estate   1   $234   $234    1   $234   $234 
Commercial and Industrial   3    206    206    3    206    206 
Total   4   $440   $440    4   $440   $440 

  

A default occurs when a loan is 30 days or more past due. No TDRs defaulted within 12 months of restructuring during the three and nine months ended September 30, 2015 and 2014.

 

As of September 30, 2015, we have committed to lend an additional $38,000 to one customer with outstanding loans that are classified as TDRs. There were $63,857 and $345,857 in charge-offs on TDRs during the three and nine months ended September 30, 2015. There were no charge-offs on TDRs during the three and nine months ended September 30, 2014.

 

18
 

 

Credit Quality Information

 

We utilize an eight-grade internal loan rating system for commercial real estate and commercial and industrial loans. Performing residential real estate, home equity and consumer loans are grouped with “Pass” rated loans. Nonperforming residential real estate, home equity and consumer loans are monitored individually for impairment and risk rated as “Substandard.”

 

Loans rated 1 – 3 are considered “Pass” rated loans with low to average risk.

 

Loans rated 4 are considered “Pass Watch,” which represent loans to borrowers with declining earnings, losses, or strained cash flow.

 

Loans rated 5 are considered “Special Mention.” These loans exhibit potential credit weaknesses or downward trends and are being closely monitored by us.

 

Loans rated 6 are considered “Substandard.” Generally, a loan is considered substandard if the borrower exhibits a well-defined weakness that may be inadequately protected by the current net worth and cash flow capacity to pay the current debt.

 

Loans rated 7 are considered “Doubtful.” Loans classified as doubtful have all the weaknesses inherent in those classified substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, highly questionable and improbable and that a partial loss of principal is likely.

 

Loans rated 8 are considered uncollectible and of such little value that their continuance as loans is not warranted.

 

On an annual basis, or more often if needed, we formally review the ratings on all commercial real estate and commercial and industrial loans. Construction loans are reported within commercial real estate loans and total $12.9 million and $16.8 million at September 30, 2015 and December 31, 2014, respectively. We engage an independent third party to review a significant portion of loans within these segments on a semi-annual basis. We use the results of these reviews as part of our annual review process. In addition, management utilizes delinquency reports, the watch list and other loan reports to monitor credit quality in other segments.

 

The following table presents our loans by risk rating at September 30, 2015 and December 31, 2014:

  

    Commercial Real Estate   Residential 1-4 family   Home Equity   Commercial and Industrial   Consumer   Total
    (Dollars in thousands)
September 30, 2015                        
Loans rated 1 – 3   $ 266,058     $ 290,658     $ 42,249     $ 139,123     $ 1,569     $ 739,657  
Loans rated 4     23,633                   14,669             38,302  
Loans rated 5     538                   14,017             14,555  
Loans rated 6     5,554       1,180       32       3,812       11       10,589  
Loans rated 7                       50             50  
    $ 295,783     $ 291,838     $ 42,281     $ 171,671     $ 1,580     $ 803,153  
                                                 
December 31, 2014                                                
Loans rated 1 – 3   $ 234,010     $ 236,113     $ 40,282     $ 139,109     $ 1,526     $ 651,040  
Loans rated 4     33,305                   16,841             50,146  
Loans rated 5     7,833             22       5,545             13,400  
Loans rated 6     3,257       1,323       1       4,233       16       8,830  
    $ 278,405     $ 237,436     $ 40,305     $ 165,728     $ 1,542     $ 723,416  

 

19
 

 

6. SHARE-BASED COMPENSATION

 

Restricted Stock AwardsDuring 2002 and 2007, we adopted equity incentive plans under which 652,664 and 624,041 shares, respectively, were reserved for issuance as restricted stock awards to directors and employees, all of which are currently issued and outstanding as of September 30, 2015.

 

In May 2014, our shareholders approved a new stock-based compensation plan under which up to 516,000 shares of our common stock have been reserved for future grants of stock awards, including stock options and restricted stock, which may be granted to any officer, key employee or non-employee director of Westfield Financial. Authorized but unissued shares are issued to awardees upon vesting of such awards. Any shares not issued because vesting requirements are not met will again be available for issuance under the plans.

 

Restricted shares awarded vest ratably over five years. The fair market value of shares awarded, based on the market price at the date of grant, is recorded as unearned compensation and amortized over the applicable vesting period. At September 30, 2015, 48,560 shares had been granted under this plan.

 

Our stock award and stock option plans activity for the nine months ended September 30, 2015 and 2014 is summarized below:

 

    Unvested Stock Awards Outstanding
    Shares   Weighted Average Grant Date Fair Value
         
Outstanding at December 31, 2014     13,000     $ 8.07  
Shares granted     48,560       7.18  
Outstanding at September 30, 2015     61,560     $ 7.37  
                 
Outstanding at December 31, 2013     25,720     $ 7.93  
No activity            
Outstanding at September 30, 2014     25,720     $ 7.93  

  

7. SHORT-TERM BORROWINGS AND LONG-TERM DEBT

 

We utilize short-term borrowings and long-term debt as an additional source of funds to finance our lending and investing activities and to provide liquidity for daily operations.

 

Short-term borrowings are made up of FHLBB advances with an original maturity of less than one year, a line of credit with the FHLBB and customer repurchase agreements, which have an original maturity of one day. Short-term borrowings issued by the FHLBB were $75.0 million and $62.8 million at September 30, 2015 and December 31, 2014, respectively. There were no advances outstanding on the line of credit as of September 30, 2015. At December 31, 2014, there was a $1.8 million advance outstanding under this line. Customer repurchase agreements were $46.2 million at September 30, 2015 and $31.2 million at December 31, 2014. A customer repurchase agreement is an agreement by us to sell to and repurchase from the customer an interest in specific securities issued by or guaranteed by the U.S. government. This transaction settles immediately on a same day basis in immediately available funds. Interest paid is commensurate with other products of equal interest and credit risk. In addition, we have lines of credit of $4.0 million and $50.0 million with Bankers Bank Northeast (“BBN”) and PNC Bank, respectively. The interest rates on these lines are determined and reset on a daily basis by each respective bank. There were no advances outstanding under these lines of credit at September 30, 2015 or December 31, 2014. As part of our contract with BBN, we are required to maintain a reserve balance of $300,000 with BBN for our use of this line of credit.

 

Long-term debt consists of FHLBB advances with an original maturity of one year or more and customer repurchase agreements linked to deposit accounts with no stated maturity. At September 30, 2015, we had $160.5 million in long-term debt with the FHLBB. This compares to $216.7 million in long-term debt with FHLBB advances and $10.0 million in securities sold under repurchase agreements with an approved broker-dealer at December 31, 2014. Long-term customer repurchase agreements were $5.9 million and $5.8 million at September 30, 2015 and December 31, 2014, respectively.

 

20
 

 

Customer repurchase agreements are collateralized by government-sponsored enterprise obligations with fair value of $9.9 million and $21.6 million, and mortgage backed securities with a fair value of $59.8 million and $44.4 million, at September 30, 2015 and December 31, 2014, respectively. The securities collateralizing repurchase agreements are subject to fluctuations in fair value. We monitor the fair value of the collateral on a periodic basis, and would pledge additional collateral if necessary based on changes in fair value of collateral or the balances of the repurchase agreements.

 

During the first quarter of 2015, we prepaid a repurchase agreement in the amount of $10.0 million and incurred a prepayment expense of $593,000. The repurchase agreement had a cost of 2.65%. During the second quarter of 2015, we prepaid FHLBB borrowings in the amount of $10.0 million and incurred a prepayment expense of $278,000. The FHLBB borrowings had a weighted average cost of 2.77%. Within the third quarter of 2015, we prepaid two FHLBB borrowings totaling $19.0 million and incurred a prepayment expense of $429,000. The FHLBB borrowings had a weighted average cost of 2.93%. The prepayment of these borrowings should result in a decrease to the cost of funds and an increase to the net interest margin. There were no such prepayments on any FHLBB borrowings for the nine months ended December 31, 2014.

 

All FHLBB advances are collateralized by a blanket lien on our owner occupied residential real estate loans and certain mortgage-backed securities.

 

8. PENSION BENEFITS

 

The following table provides information regarding net pension benefit costs for the periods shown:

  

   Three Months Ended  Nine Months Ended,
  September 30,  September 30,
   2015  2014  2015  2014
   (In thousands)
Service cost  $306   $250   $920   $750 
Interest cost   226    207    677    624 
Expected return on assets   (284)   (239)   (851)   (719)
Transition obligation               (10)
Actuarial loss   32    (4)   94    (4)
Net periodic pension cost  $280   $214   $840   $641 

 

We maintain a pension plan for our eligible employees. We plan to contribute to the pension plan the amount required to meet the minimum funding standards under Section 412 of the Internal Revenue Code of 1986, as amended. Additional contributions will be made as deemed appropriate by management in conjunction with the pension plan’s actuaries. We have not yet determined how much we expect to contribute to our pension plan in 2015. No contributions have been made to the plan for the nine months ended September 30, 2015. The pension plan assets are invested in group annuity contracts with the Principal Financial Group, who also acts as third-party administrator for our 401(k) and ESOP plans.

 

9. DERIVATIVES AND HEDGING ACTIVITIES

 

Risk Management Objective of Using Derivatives

 

We are exposed to certain risks arising from both our business operations and economic conditions. We principally manage our exposures to a wide variety of business and operational risks through management of our core business activities. We manage economic risks, including interest rate, liquidity, and credit risk, primarily by managing the amount, sources, and duration of our assets and liabilities and the use of derivative financial instruments. Specifically, we entered into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates. Our derivative financial instruments are used to manage differences in the amount, timing, and duration of our known or expected cash receipts and our known or expected cash payments principally related to certain variable rate loan assets and variable rate borrowings.

 

21
 

 

Fair Values of Derivative Instruments on the Balance Sheet

 

The table below presents the fair value of our derivative financial instruments designated as hedging instruments as well as our classification on the balance sheet as of September 30, 2015 and December 31, 2014.

  

September 30, 2015   Asset Derivatives   Liability Derivatives
    Balance Sheet Location   Fair Value   Balance Sheet Location   Fair Value
    (In thousands)
                 
Interest rate swaps   N/A   $     Other Liabilities   $ 8,058  
Total derivatives designated as hedging instruments       $         $ 8,058  

 

December 31, 2014   Asset Derivatives   Liability Derivatives
    Balance Sheet Location   Fair Value   Balance Sheet Location   Fair Value
    (In thousands)
                 
Interest rate swaps   Other Assets   $ 9     Other Liabilities   $ 5,748  
Total derivatives designated as hedging instruments       $ 9         $ 5,748  

  

Cash Flow Hedges of Interest Rate Risk

 

Our objectives in using interest rate derivatives are to add stability to interest income and expense and to manage our exposure to interest rate movements. To accomplish this objective, we entered into interest rate swaps in September 2013 as part of our interest rate risk management strategy. These interest rate swaps are designated as cash flow hedges and involve the receipt of variable rate amounts from a counterparty in exchange for our making fixed payments.

 

The following table presents information about our cash flow hedges at September 30, 2015 and December 31, 2014:

  

September 30, 2015  Notional  Weighted Average  Weighted Average Rate  Estimated Fair
   Amount  Maturity  Receive  Pay  Value
   (In thousands)  (In years)        (In thousands)
                
Interest rate swaps on FHLBB borrowings  $40,000    2.5    0.29%   1.52%  $(700)
Forward starting interest rate swaps on FHLBB borrowings   80,000    6.5        3.34%   (7,358)
Total cash flow hedges  $120,000    5.2             $(8,058)

 

22
 

 

December 31, 2014  Notional  Weighted Average  Weighted Average Rate  Estimated Fair
   Amount  Maturity  Receive  Pay  Value
   (In thousands)  (In years)        (In thousands)
                
Interest rate swaps on FHLBB borrowings  $40,000    3.3    0.23%   1.52%  $(268)
Forward starting interest rate swaps on FHLBB borrowings   115,000    6.7        3.11%   (5,471)
Total cash flow hedges  $155,000    5.8             $(5,739)

  

The forward-starting interest rate swaps will become effective in 2015 and 2016 with notional amounts of $12.5 million and $67.5 million, respectively.

 

During the second quarter of 2015, we terminated a forward-starting interest rate swap with a notional amount of $35.0 million and incurred a termination fee of $1.6 million. The fee will be amortized monthly over a five-year period as a component of interest expense and other comprehensive income over the term of the previously hedged borrowing.

 

For derivatives designated as cash flow hedges, the effective portion of changes in the fair value of the derivative is initially reported in other comprehensive income (outside of earnings), net of tax, and subsequently reclassified to earnings when the hedged transaction affects earnings, and the ineffective portion of changes in the fair value of the derivative is recognized directly in earnings. We assess the effectiveness of each hedging relationship by comparing the changes in cash flows of the derivative hedging instrument with the changes in cash flows of the designated hedged transactions. We did not recognize any hedge ineffectiveness in earnings during the three and nine months ended September 30, 2015 and 2014.

 

We are hedging our exposure to the variability in future cash flows for forecasted transactions over a maximum period of six years (excluding forecasted transactions related to the payment of variable interest on existing financial instruments).

 

Amounts reported in accumulated other comprehensive loss related to these derivatives will be reclassified to interest expense as interest payments are made on our rate sensitive assets/liabilities. The amount reclassified from accumulated comprehensive income into income for the effective portion of interest rate swaps was $209,000 and $48,000 during the three months ended September 30, 2015 and 2014, respectively. The amount reclassified from accumulated comprehensive income into income for the effective portion of interest rate swaps was $515,000 and $142,000 during the nine months ended September 30, 2015 and 2014.

 

The table below presents the pre-tax net gains (losses) of our cash flow hedges for the periods indicated.

  

   Amount of Gain (Loss) Recognized in OCI on Derivative (Effective Portion)
   Three Months Ended September 30,  Nine Months Ended September 30,
   2015  2014  2015  2014
   (In thousands)
Interest rate swaps  $(3,089)  $255   $(4,366)  $(4,744)

 

Credit-risk-related Contingent Features

 

By using derivative financial instruments, we expose ourselves to credit risk. Credit risk is the risk of failure by the counterparty to perform under the terms of the derivative contract. When the fair value of a derivative contract is positive, the counterparty owes us, which creates credit risk for us. When the fair value of a derivative is negative, we owe the counterparty and, therefore, it does not possess credit risk. The credit risk in derivative instruments is mitigated by entering into transactions with highly-rated counterparties that we believe to be creditworthy and by limiting the amount of exposure to each counterparty.

 

23
 

 

We have agreements with our derivative counterparties that contain a provision where if we default on any of our indebtedness, including default where repayment of the indebtedness has not been accelerated by the lender, then we could also be declared in default on our derivative obligations. We also have agreements with certain of our derivative counterparties that contain a provision where if we fail to maintain our status as well capitalized, then the counterparty could terminate the derivative positions and we would be required to settle our obligations under the agreements. Certain of our agreements with our derivative counterparties contain provisions where if a formal administrative action by a federal or state regulatory agency occurs that materially changes our creditworthiness in an adverse manner, we may be required to fully collateralize our obligations under the derivative instrument.

 

As of September 30, 2015, the termination value of derivatives in a net liability position related to these agreements, which includes accrued interest but excludes any adjustment for nonperformance risk, was $8.2 million. As of September 30, 2015, we have minimum collateral posting thresholds with certain of our derivative counterparties and have a mortgage-backed security with a fair value of $4.8 million and $3.5 million of cash posted as collateral against our obligations under these agreements. If we had breached any of these provisions at September 30, 2015, we could have been required to settle our obligations under the agreements at the termination value.

 

10. FAIR VALUE OF ASSETS AND LIABILITIES

 

Determination of Fair Value

 

We use fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. The fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for our various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument.

 

Fair Value Hierarchy - We group our assets and liabilities that are measured at fair value in three levels, based on the markets in which the assets are traded and the reliability of the assumptions used to determine fair value.

 

Level 1 – Valuation is based on quoted prices in active markets for identical assets. Level 1 assets generally include debt and equity securities that are traded in an active exchange market. Valuations are obtained from readily available pricing sources for market transactions involving identical assets.

 

Level 2 – Valuation is based on observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

Level 3 – Valuation is based on unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets. Level 3 assets include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.

 

Methods and assumptions for valuing our financial instruments are set forth below. Estimated fair values are calculated based on the value without regard to any premium or discount that may result from concentrations of ownership of a financial instrument, possible tax ramifications or estimated transaction cost.

 

Cash and cash equivalents – The carrying amounts of cash and short-term instruments approximate fair values based on the short-term nature of the assets.

 

Securities – Fair value of securities are primarily measured using unadjusted information from an independent pricing service. The securities measured at fair value in Level 1 are based on quoted market prices in an active exchange market. These securities include marketable equity securities. All other securities are measured at fair value in Level 2 and are based on pricing models that consider standard input factors such as observable market data, benchmark yields, interest rate volatilities, broker/dealer quotes, credit spreads and new issue data.

 

24
 

 

Federal Home Loan Bank and other restricted stock - These investments are carried at cost which is their estimated redemption value.

 

Loans receivable – For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. Fair values for other loans (e.g., commercial real estate and investment property mortgage loans, commercial and industrial loans and residential real estate loans) are estimated using discounted cash flow analyses, using market interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Fair values for nonperforming loans are estimated using discounted cash flow analyses or underlying collateral values, where applicable.

 

Accrued interest – The carrying amounts of accrued interest approximate fair value.

 

Deposit liabilities – The fair values disclosed for demand deposits (e.g., interest and non-interest checking, passbook savings, and certain types of money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). The carrying amounts of variable-rate, fixed-term money market accounts and certificates of deposit approximate their fair values at the reporting date. Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation that applies market interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits.

 

Short-term borrowings and long-term debt – The fair values of our debt instruments are estimated using discounted cash flow analyses based on the current incremental borrowing rates in the market for similar types of borrowing arrangements.

 

Interest rate swaps - The valuation of our interest rate swaps is obtained from a third-party pricing service and is determined using a discounted cash flow analysis on the expected cash flows of each derivative. The pricing analysis is based on observable inputs for the contractual terms of the derivatives, including the period to maturity and interest rate curves. We have determined that the majority of the inputs used to value our interest rate derivatives fall within Level 2 of the fair value hierarchy.

 

Commitments to extend credit - Fair values for off-balance sheet lending commitments are based on fees currently charged to enter into similar agreements, taking into account the term and credit risk. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. Such differences are not considered significant.

 

Assets and liabilities measured at fair value on a recurring basis are summarized below:

  

   September 30, 2015
   Level 1  Level 2  Level 3  Total
Assets:  (In thousands)
             
Securities available for sale:            
Government-sponsored residential mortgage-backed securities  $   $143,950   $   $143,950 
U.S. Government guaranteed residential mortgage-backed securities       8,423        8,423 
Corporate bonds       21,347        21,347 
State and municipal bonds       5,860        5,860 
Government-sponsored enterprise obligations       3,993        3,993 
Mutual funds   6,277            6,277 
Common and preferred stock   1,474            1,474 
Total assets  $7,751   $183,573   $   $191,324 
                     
Liabilities:                    
Interest rate swaps  $   $8,058   $   $8,058 

 

25
 

 

   December 31, 2014
   Level 1  Level 2  Level 3  Total
Assets:  (In thousands)
    
Government-sponsored residential mortgage-backed securities  $   $139,213   $   $139,213 
U.S. Government guaranteed residential mortgage-backed securities       1,586        1,586 
Corporate bonds       26,223        26,223 
State and municipal bonds       17,034        17,034 
Government-sponsored enterprise obligations       23,979        23,979 
Mutual funds   6,176            6,176 
Common and preferred stock   1,539            1,539 
Total securities available for sale   7,715    208,035        215,750 
Interest rate swaps       9        9 
Total assets  $7,715   $208,044   $   $215,759 
                     
Liabilities:                    
Interest rate swaps  $   $5,748   $   $5,748 

  

Also, we may be required, from time to time, to measure certain other assets at fair value on a non-recurring basis in accordance with U.S. GAAP. These adjustments to fair value usually result from application of lower-of-cost-or-market accounting or write-downs of individual assets. The following table summarizes the fair value hierarchy used to determine each adjustment and the carrying value of the related assets at September 30, 2015 and 2014. Total losses represent the change in carrying value as a result of fair value adjustments related to assets still held at September 30, 2015 and 2014.

 

    At
September 30, 2015
  Three Months
Ended
September 30, 2015
  Nine Months
Ended
September 30, 2015
    Level 1   Level 2   Level 3   Total Losses   Total Losses
    (In thousands)   (In thousands)   (In thousands)
Impaired loans   $     $     $ 234     $ (64 )   $ (346 )

 

    At
September 30, 2014
  Three Months
Ended
September 30, 2014
  Nine Months
Ended
September 30, 2014
    Level 1   Level 2   Level 3   Total Losses   Total Losses
    (In thousands)   (In thousands)   (In thousands)
Impaired loans   $     $     $ 4,783     $ (950 )   $ (965 )

 

The amount of impaired loans represents the carrying value and related write-down and valuation allowance of impaired loans for which adjustments are based on the estimated fair value of the underlying collateral. The fair value of impaired loans with specific allocations of the allowance for loan losses is generally based on real estate appraisals performed by independent licensed or certified appraisers. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Management will discount appraisals as deemed necessary based on the date of the appraisal and new information deemed relevant to the valuation. Such adjustments are typically significant and result in a Level 3 classification of the inputs for determining fair value. The resulting losses were recognized in earnings through the provision for loan losses. Impaired loans with adjustments resulting from discounted cash flows or without a specific reserve are not included in this disclosure.

  

26
 

 

There were no transfers to or from Level 1 and 2 during the three and nine months ended September 30, 2015 and 2014. We did not measure any liabilities at fair value on a non-recurring basis on the consolidated balance sheets.

 

Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time our entire holdings of a particular financial instrument. Where quoted market prices are not available, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment. Changes in assumptions could significantly affect the estimates. The estimated fair values of our financial instruments are as follows:

 

   September 30, 2015
   Carrying Value  Fair Value
      Level 1  Level 2  Level 3  Total
   (In thousands)
Assets:                         
Cash and cash equivalents  $21,980   $21,980   $—     $—     $21,980 
Securities available for sale   191,324    7,751    183,573    —      191,324 
Securities held to maturity   248,757    —      250,732    —      250,732 
Federal Home Loan Bank of Boston and other restricted stock   15,839    —      —      15,839    15,839 
Loans - net   798,521    —      —      789,405    789,405 
Accrued interest receivable   4,086    —      —      4,086    4,086 
                          
Liabilities:                         
Deposits   909,041    —      —      911,727    911,727 
Short-term borrowings   121,222    —      121,225    —      121,225 
Long-term debt   166,407    —      169,745    —      169,745 
Accrued interest payable   447    —      —      447    447 
Derivative liabilities   8,058    —      8,058    —      8,058 

 

   December 31, 2014
   Carrying Value  Fair Value
      Level 1  Level 2  Level 3  Total
   (In thousands)
Assets:               
Cash and cash equivalents  $18,785   $18,785   $   $   $18,785 
Securities available for sale   215,750    7,715    208,035        215,750 
Securities held to maturity   278,080        277,636        277,636 
Federal Home Loan Bank of Boston and other restricted stock   14,934            14,934    14,934 
Loans - net   716,738            721,818    721,818 
Accrued interest receivable   4,213            4,213    4,213 
Derivative assets   9        9        9 
                          
Liabilities:                         
Deposits   834,218            834,838    834,838 
Short-term borrowings   93,997        93,997        93,997 
Long-term debt   232,479        236,457        236,457 
Accrued interest payable   501            501    501 
Derivative liabilities   5,748        5,748        5,748 

 

27
 

 

11. RECENT ACCOUNTING PRONOUNCEMENTS

 

There are no new accounting pronouncements issued but not yet effective that will have a material impact on our consolidated financial statements.

 

28
 

 

ITEM 2:   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

 

Overview

 

We strive to remain a leader in meeting the financial service needs of our local community, and to provide quality service to the individuals and businesses in the market areas that we have served since 1853. Historically, we have been a community-oriented provider of traditional banking products and services to business organizations and individuals, including products such as residential and commercial loans, consumer loans and a variety of deposit products. We meet the needs of our local community through a community-based and service-oriented approach to banking.

 

We have adopted a growth-oriented strategy that has focused on increasing commercial lending. Our strategy also calls for increasing deposit relationships and broadening our product lines and services. We believe that this business strategy is best for our long-term success and viability, and complements our existing commitment to high-quality customer service. In connection with our overall growth strategy, we seek to:

 

·grow our commercial and industrial and commercial real estate loan portfolios by targeting businesses in our primary market area and in northern Connecticut as a means to increase the yield on and diversify our loan portfolio and build transactional deposit account relationships;

 

·focus on expanding our retail banking franchise and increase the number of households served within our market area; and

 

·supplement the commercial focus, grow the residential loan portfolio to diversify risk and deepen customer relationships. This may include purchasing loans from a New England-based bank as a means of supplementing loans originated by us within our market area.

 

You should read the following financial results for the three and nine months ended September 30, 2015 in the context of this strategy.

 

·Net income was $1.6 million, or $0.09 per diluted share, for the three months ended September 30, 2015, compared to $1.5 million, or $0.08 per diluted share, for the same period in 2014. For the nine months ended September 30, 2015, net income was $4.3 million, or $0.25 per diluted share, as compared to net income of $4.5 million, or $0.25 per diluted share, for the same period in 2014.

 

·The provision for loan losses was $150,000 and $750,000 for the three months ended September 30, 2015 and 2014, respectively, and $800,000 and $1.3 million for the nine months ended September 30, 2015 and 2014, respectively. The higher 2014 period provisions were the result of several factors, including overall loan growth, a decrease in impaired loan balances and a partial charge off of $950,000 related to one long-standing manufacturing loan relationship deemed impaired during the third quarter of 2014.

 

·Net interest income was $8.2 million and $7.8 million for the three months ended September 30, 2015 and 2014, respectively. The net interest margin, on a tax-equivalent basis, was 2.53% for the three months ended September 30, 2015, compared to 2.58% for the same period in 2014. Net interest income was $23.5 million and $23.2 million for the nine months ended September 30, 2015 and 2014, respectively. The net interest margin, on a tax-equivalent basis, was 2.52% and 2.61% for the nine months ended September 30, 2015 and 2014, respectively. The increase in net interest income for the three and nine months ended September 30, 2015 was due to an increase in total average interest-earning assets, partially offset by a decrease in yield on average interest-earnings assets and an increase in the average volume of and cost of interest-bearing liabilities.

 

29
 

 

CRITICAL ACCOUNTING POLICIES

 

Our consolidated financial statements are prepared in accordance with U.S. GAAP and practices within the banking industry. Application of these principles requires management to make estimates, assumptions, and 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 from those estimates.

 

Critical accounting estimates are necessary in the application of certain accounting policies and procedures, and are particularly susceptible to significant change. Critical accounting policies are defined as those that are reflective of significant judgments and uncertainties, and could potentially result in materially different results under different assumptions and conditions. There have been no material changes to our critical accounting policies during the three and nine months ended September 30, 2015. For additional information on our critical accounting policies, please refer to the information contained in Note 1 of the accompanying unaudited consolidated financial statements and Note 1 of the consolidated financial statements included in our 2014 Annual Report.

 

COMPARISON OF FINANCIAL CONDITION AT SEPTEMBER 30, 2015 AND DECEMBER 31, 2014

 

Total assets were $1.4 billion at September 30, 2015 and $1.3 billion at December 31, 2014. Securities decreased $52.9 million to $455.9 million at September 30, 2015 from $508.8 million at December 31, 2014 primarily due to sales of securities to fund loan growth.

 

Total loans increased by $82.2 million to $806.9 million at September 30, 2015 from $724.7 million at December 31, 2014.

 

Residential loans increased $56.4 million to $334.1 million at September 30, 2015 from $277.7 million at December 31, 2014. We purchased $75.0 million in residential loans from a New England-based bank and $2.1 million from a third-party mortgage company as a means of supplementing our purchased mortgage relationships. While management uses residential loan growth to supplement the loan portfolio, the long-term strategy remains focused on commercial lending.

 

Commercial real estate loans increased $17.4 million to $295.8 million at September 30, 2015 from $278.4 at December 31, 2014. Non-owner occupied commercial real estate loans increased $13.6 million to $182.7 million at September 30, 2015 from $169.1 million at December 31, 2014, while owner occupied commercial real estate loans increased $3.8 million to $113.1 million at September 30, 2015 from $109.3 million at December 31, 2014. Commercial and industrial loans increased $6.0 million to $171.7 million at September 30, 2015 from $165.7 million at December 31, 2014.

 

Nonperforming loans were $7.3 million at September 30, 2015 and $8.8 million at December 31, 2014. If all nonaccrual loans had been performing in accordance with their terms, we would have earned additional interest income of $293,000 and $125,000 for the nine months ended September 30, 2015 and 2014, respectively. At September 30, 2015 and December 31, 2014, there was no real estate in foreclosure. At September 30, 2015 and December 31, 2014, our nonperforming loans to total loans were 0.91% and 1.22%, respectively, while our nonperforming assets to total assets were 0.54% and 0.67%, respectively. A summary of our nonaccrual and past due loans by class are listed in Note 5 of the accompanying unaudited consolidated financial statements.

 

Total deposits increased $74.8 million to $909.0 million at September 30, 2015 from $834.2 million at December 31, 2014. The increase in deposits was due to a $52.4 million increase in time deposit accounts, which were $410.1 million and $357.7 million at September 30, 2015 and December 31, 2014, respectively. The increase in time deposits was primarily due to $30.6 million in brokered and listing service deposits, which provide a diversified, low cost funding source. Money market accounts increased $16.8 million to $244.1 million at September 30, 2015 from $227.3 million at December 31, 2014. Checking accounts increased $6.0 million to $180.2 million at September 30, 2015 from $174.2 million at December 31, 2014. Regular savings accounts decreased $330,000 to $74.6 million at September 30, 2015 from $75.0 million at December 31, 2014, respectively.

 

30
 

 

In 2013, we entered into several forward-starting interest rate swap contracts with a combined notional value of $155.0 million. The swap contracts have start dates through the third quarter 2016 and have durations ranging from four to six years. This hedge strategy converts the variable rate of interest on certain FHLB advances to fixed interest rates, thereby protecting us from floating interest rate variability. On a stand-alone basis, the interest rate swaps introduce potential future volatility in tangible book value and accumulated other comprehensive income (“AOCI”); however, the valuation of the swaps is expected to change in the opposite direction of the valuations on the available-for-sale securities portfolio. This is consistent with our objective to reduce total volatility in tangible book value and AOCI. During the second quarter of 2015, we terminated a forward-starting interest rate swap with a notional amount of $35.0 million and incurred a termination fee of $1.6 million, which will be amortized monthly over a five-year period as a component of interest expense and other comprehensive income over the term of the previously hedged borrowing.

 

Borrowings decreased $38.9 million to $287.6 million at September 30, 2015 from $326.5 million at December 31, 2014. Long-term debt decreased $66.1 million to $166.4 million at September 30, 2015 from $232.5 million at December 31, 2014. We prepaid a $10.0 million repurchase agreement with a cost of 2.65% and incurred a prepayment expense of $593,000 for the first quarter 2015. During the second quarter of 2015, we prepaid $10.0 million in FHLBB borrowings with a weighted average rate of 2.77% and incurred a prepayment expense of $278,000. During the third quarter of 2015, we prepaid $19.0 million in FHLBB borrowings with a weighted average rate of 2.93% and incurred a prepayment expense of $429,000. Short-term borrowings increased $27.2 million to $121.2 million at September 30, 2015 from $94.0 million at December 31, 2014 primarily due to a $15.0 million increase in customer repurchase agreements to $46.2 million at September 30, 2015 from $31.2 million at December 31, 2014. Our short-term borrowings and long-term debt are discussed in Note 7 of the accompanying unaudited consolidated financial statements.

 

Shareholders’ equity was $139.6 million and $142.5 million, which represented 10.3% and 10.8% of total assets at September 30, 2015 and December 31, 2014, respectively. The decrease in shareholders’ equity during the nine months ended September 30, 2015 reflects an increase in accumulated other comprehensive loss of $3.3 million primarily due to changes in the market value of our interest rate swaps, the repurchase of 385,306 shares of our common stock at a cost of $2.9 million pursuant to our stock repurchase program and the payment of regular dividends amounting to $1.6 million. This was partially offset by net income of $4.3 million for the nine months ended September 30, 2015.

 

COMPARISON OF OPERATING RESULTS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2015 AND SEPTEMBER 30, 2014

 

General

 

Net income was $1.6 million, or $0.09 per diluted share, for the quarter ended September 30, 2015, compared to $1.5 million, or $0.08 per diluted share, for the same period in 2014. Net interest income was $8.2 million and $7.8 million for the three months ended September 30, 2015 and 2014, respectively.

 

Net Interest and Dividend Income

 

The following tables set forth the information relating to our average balance and net interest income for the three months ended September 30, 2015 and 2014, and reflect the average yield on interest-earning assets and average cost of interest-bearing liabilities for the periods indicated. Yields and costs are derived by dividing interest income by the average balance of interest-earning assets and interest expense by the average balance of interest-bearing liabilities for the periods shown. The interest rate spread is the difference between the total average yield on interest-earning assets and the cost of interest-bearing liabilities. Net interest margin represents tax-equivalent net interest and dividend income as a percentage of average interest-earning assets. Average balances are derived from actual daily balances over the periods indicated. Interest income includes fees earned from making changes in loan rates and terms and fees earned when the real estate loans are prepaid or refinanced. For analytical purposes, the interest earned on tax-exempt assets is adjusted to a tax-equivalent basis to recognize the income tax savings which facilitates comparison between taxable and tax-exempt assets.