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EX-32.0 - EXHIBIT 32.0 - United Financial Bancorp, Inc.ubnk20160930ex320.htm
EX-31.2 - EXHIBIT 31.2 - United Financial Bancorp, Inc.ubnk20160930ex312.htm
EX-31.1 - EXHIBIT 31.1 - United Financial Bancorp, Inc.ubnk20160930ex311.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
 
ý
 
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended September 30, 2016.
Commission File Number: 001-35028
ufbancorplogorgb3a05.jpg
United Financial Bancorp, Inc.
(Exact name of registrant as specified in its charter)
Connecticut
 
27-3577029
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
 
 
45 Glastonbury Boulevard, Glastonbury, Connecticut
 
06033
(Address of principal executive offices)
 
(Zip Code)
(860) 291-3600
(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.    ý  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 prior that the registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition 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
ý
 
 
 
 
Non-accelerated filer
¨  (Do not check if a smaller reporting company)
Smaller reporting company
¨
Indicate by checkmark whether the registrant is a shell company (as defined in Rule 12B-2 of the Act).    Yes  ¨    No  ý
As of October 31, 2016, there were 50,512,092 shares of Registrant’s no par value common stock outstanding.

 


Table of Contents
 
 
 
Page
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.
 
 
 
 
Exhibits
 




Part 1 - FINANCIAL INFORMATION
Item 1 - Interim Financial Statements
United Financial Bancorp, Inc. and Subsidiaries
Consolidated Statements of Condition
(Unaudited)
 
September 30,
2016
 
December 31,
2015
 
(In thousands, except share data)
ASSETS
 
 
 
Cash and due from banks
$
51,951

 
$
47,602

Short-term investments
162,295

 
47,574

Total cash and cash equivalents
214,246

 
95,176

Available-for-sale securities - at fair value
1,052,439

 
1,059,169

Held-to-maturity securities - at amortized cost
14,162

 
14,565

Loans held for sale
83,321

 
10,136

Loans receivable (net of allowance for loan losses of $41,080
at September 30, 2016 and $33,887 at December 31, 2015)
4,689,834

 
4,587,062

Federal Home Loan Bank of Boston stock
52,847

 
51,196

Accrued interest receivable
17,888

 
15,740

Deferred tax asset, net
32,529

 
33,094

Premises and equipment, net
52,520

 
54,779

Goodwill
115,281

 
115,281

Core deposit intangible
6,287

 
7,506

Cash surrender value of bank-owned life insurance
126,948

 
125,101

Other real estate owned
2,792

 
755

Other assets
83,761

 
58,981

Total assets
$
6,544,855

 
$
6,228,541

 
 
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Liabilities:
 
 
 
Deposits:
 
 
 
Non-interest-bearing
$
687,865

 
$
657,718

Interest-bearing
4,007,606

 
3,779,353

Total deposits
4,695,471

 
4,437,071

Mortgagors’ and investors’ escrow accounts
9,045

 
13,526

Advances from the Federal Home Loan Bank
977,483

 
949,003

Other borrowings
125,399

 
150,017

Accrued expenses and other liabilities
81,217

 
53,403

Total liabilities
5,888,615

 
5,603,020

 

 

Stockholders’ equity:
 
 
 
Preferred stock (no par value; 2,000,000 authorized; no shares issued)

 

Common stock (no par value; authorized 120,000,000 and 60,000,000 shares; 50,462,946 and 49,941,428 shares issued and outstanding, at September 30, 2016 and December 31, 2015, respectively)
526,404

 
519,587

Additional paid-in capital
10,124

 
10,722

Unearned compensation - ESOP
(5,751
)
 
(5,922
)
Retained earnings
129,076

 
112,013

Accumulated other comprehensive loss, net of tax
(3,613
)
 
(10,879
)
Total stockholders’ equity
656,240

 
625,521

Total liabilities and stockholders’ equity
$
6,544,855

 
$
6,228,541


See accompanying notes to unaudited consolidated financial statements.
3
 


United Financial Bancorp, Inc. and Subsidiaries
Consolidated Statements of Net Income
(Unaudited)
 
For the Three Months 
 Ended September 30,
 
For the Nine Months 
 Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(In thousands, except share and per share data)
Interest and dividend income:
 
 
 
 
 
Loans
$
45,331

 
$
41,878

 
$
134,359

 
$
123,658

Securities - taxable interest
4,808

 
4,907

 
14,830

 
14,947

Securities - non-taxable interest
2,140

 
2,080

 
6,201

 
6,353

Securities - dividends
990

 
708

 
2,934

 
1,554

Interest-bearing deposits
67

 
52

 
207

 
119

Total interest and dividend income
53,336

 
49,625

 
158,531

 
146,631

Interest expense:
 
 
 
 
 
 
 
Deposits
6,279

 
5,319

 
18,927

 
15,643

Borrowed funds
4,028

 
2,663

 
11,677

 
7,099

Total interest expense
10,307

 
7,982

 
30,604

 
22,742

Net interest income
43,029

 
41,643

 
127,927

 
123,889

Provision for loan losses
3,766

 
3,252

 
10,078

 
9,225

Net interest income after provision for loan losses
39,263

 
38,391

 
117,849

 
114,664

Non-interest income:
 
 
 
 
 
 
 
Service charges and fees
5,726

 
5,960

 
14,679

 
15,434

Gain (loss) on sales of securities, net
48

 
(59
)
 
1,867

 
639

Income from mortgage banking activities
2,198

 
2,257

 
5,389

 
7,618

Bank-owned life insurance income
899

 
893

 
2,531

 
2,557

Net loss on limited partnership investments
(850
)
 
(991
)
 
(3,290
)
 
(2,337
)
Other income (loss)
(132
)
 
(242
)
 
(28
)
 
113

Total non-interest income
7,889

 
7,818

 
21,148

 
24,024

Non-interest expense:
 
 
 
 
 
 
 
Salaries and employee benefits
18,301

 
16,994

 
56,105

 
50,161

Service bureau fees
1,960

 
1,828

 
6,219

 
5,114

Occupancy and equipment
3,580

 
3,343

 
11,330

 
11,600

Professional fees
1,125

 
1,581

 
2,893

 
3,280

Marketing and promotions
656

 
587

 
2,271

 
1,843

FDIC insurance assessments
819

 
750

 
2,800

 
2,651

Core deposit intangible amortization
385

 
433

 
1,219

 
1,363

FHLBB prepayment penalties

 

 
1,454

 

Other
5,410

 
6,360

 
16,389

 
16,878

Total non-interest expense
32,236

 
31,876

 
100,680

 
92,890

Income before income taxes
14,916

 
14,333

 
38,317

 
45,798

Provision for income taxes
757

 
952

 
3,206

 
6,060

Net income
$
14,159

 
$
13,381

 
$
35,111

 
$
39,738

 
 
 
 
 
 
 
 
Net income per share:
 
 
 
 
 
 
 
Basic
$
0.28

 
$
0.27

 
$
0.71

 
$
0.81

Diluted
$
0.28

 
$
0.27

 
$
0.70

 
$
0.81

Weighted-average shares outstanding:
 
 
 
 
 
 
 
Basic
49,800,105

 
48,931,203

 
49,617,136

 
48,829,193

Diluted
50,141,175

 
49,429,809

 
49,917,049

 
49,339,271


See accompanying notes to unaudited consolidated financial statements.
4
 


United Financial Bancorp, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income
(Unaudited)
 
For the Three Months 
 Ended September 30,
 
For the Nine Months 
 Ended September 30,
 
2016
 
2015
 
2016
 
2015
 
(In thousands)
Net income
$
14,159

 
$
13,381

 
$
35,111

 
$
39,738

Other comprehensive income:
 
 
 
 
 
 
 
Securities available for sale:
 
 
 
 
 
 
 
Unrealized holding gains (losses)
(274
)
 
7,771

 
23,253

 
2,719

Reclassification adjustment for losses (gains) realized in operations (1)
(48
)
 
59

 
(1,867
)
 
(639
)
Net unrealized gains (losses)
(322
)
 
7,830

 
21,386

 
2,080

Tax effect - benefit (expense)
120

 
(2,820
)
 
(7,691
)
 
(756
)
Net-of-tax amount - securities available for sale
(202
)
 
5,010

 
13,695

 
1,324

Interest rate swaps designated as cash flow hedges:
 
 
 
 
 
 
 
Unrealized gains (losses)
2,854

 
(4,898
)
 
(8,582
)
 
(5,533
)
Reclassification adjustment for expense (benefit) realized in operations (2)
(664
)
 

 
(1,844
)
 
12

Net unrealized gains (losses)
2,190

 
(4,898
)
 
(10,426
)
 
(5,521
)
Tax effect - benefit (expense)
(788
)
 
1,764

 
3,757

 
1,989

Net-of-tax amount - interest rate swaps
1,402

 
(3,134
)
 
(6,669
)
 
(3,532
)
Pension and Post-retirement plans:
 
 
 
 
 
 
 
Reclassification adjustment for prior service costs recognized in net periodic benefit cost (3)
2

 
2

 
5

 
5

Reclassification adjustment for losses recognized in net periodic benefit cost (4)
123

 
191

 
371

 
570

Change in losses and prior service costs
125

 
193

 
376

 
575

Tax effect - expense
(46
)
 
(74
)
 
(136
)
 
(65
)
Net-of-tax amount - pension and post-retirement plans
79

 
119

 
240

 
510

Total other comprehensive income (loss)
1,279

 
1,995

 
7,266

 
(1,698
)
Comprehensive income
$
15,438

 
$
15,376

 
$
42,377

 
$
38,040

 
(1)
Amounts are included in gain (loss) on sales of securities, net in the unaudited Consolidated Statements of Net Income. Income tax (expense) benefit associated with the reclassification adjustment was $(17) and $21 for the three months ended September 30, 2016 and 2015, respectively. Income tax expense associated with the reclassification adjustment was $(673) and $(230) for the nine months ended September 30, 2016 and 2015, respectively.
(2)
Amounts are included in borrowed funds expense in the unaudited Consolidated Statements of Net Income. Income tax expense associated with the reclassification adjustment for the three months ended September 30, 2016 was $239. Income tax expense (benefit) associated with the reclassification adjustment for the nine months ended September 30, 2016 and 2015 was $664 and $(4), respectively.
(3)
Amounts are included in salaries and employee benefits expense in the unaudited Consolidated Statements of Net Income. Income tax expense associated with the reclassification adjustment for prior service costs for the three and nine months ended September 30, 2016 and 2015 was minimal.
(4)
Amounts are included in salaries and employee benefits expense in the unaudited Consolidated Statements of Net Income. Income tax benefit associated with the reclassification adjustment of the losses recognized in net periodic benefit cost for the three months ended September 30, 2016 and 2015 was $44 and $69, respectively. Income tax benefit associated with the reclassification adjustment for losses recognized in net periodic benefit cost for the nine months ended September 30, 2016 and 2015 was $134 and $205, respectively.

See accompanying notes to unaudited consolidated financial statements.
5
 


United Financial Bancorp, Inc. and Subsidiaries
Consolidated Statements of Changes in Stockholders’ Equity
(Unaudited)
 
Common Stock
 
Additional
Paid-in
Capital
 
Unearned
Compensation
 - ESOP
 
Retained
Earnings
 
Accumulated
Other
Comprehensive
Loss
 
Total
Stockholders’
Equity
Shares
 
Amount
 
 
 
 
 
 
(In thousands, except share data)
Balance at December 31, 2015
49,941,428

 
$
519,587

 
$
10,722

 
$
(5,922
)
 
$
112,013

 
$
(10,879
)
 
$
625,521

Comprehensive income

 

 

 

 
35,111

 
7,266

 
42,377

Stock-based compensation expense

 

 
1,543

 

 

 

 
1,543

ESOP shares released or committed to be released

 

 
45

 
171

 

 

 
216

Shares issued for stock options exercised and SARs
489,361

 
6,357

 
(1,893
)
 

 

 

 
4,464

Shares issued for restricted stock grants
39,328

 
460

 
(460
)
 

 

 

 

Cancellation of shares for tax withholding
(7,171
)
 

 
(90
)
 

 

 

 
(90
)
Tax benefit from stock-based awards

 

 
257

 

 

 

 
257

Dividends paid ($0.36 per common share)

 

 

 

 
(18,048
)
 

 
(18,048
)
Balance at September 30, 2016
50,462,946

 
$
526,404

 
$
10,124

 
$
(5,751
)
 
$
129,076

 
$
(3,613
)
 
$
656,240

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance at December 31, 2014
49,537,700

 
$
514,189

 
$
16,007

 
$
(6,150
)
 
$
84,852

 
$
(6,490
)
 
$
602,408

Comprehensive income

 

 

 

 
39,738

 
(1,698
)
 
38,040

Common stock repurchased
(377,700
)
 
(5,171
)
 

 

 

 

 
(5,171
)
Stock-based compensation expense

 

 
689

 

 

 

 
689

ESOP shares released or committed to be released

 

 
51

 
171

 

 

 
222

Shares issued for stock options exercised and SARs
349,387

 
4,657

 
(2,047
)
 

 

 

 
2,610

Shares issued for restricted stock grants
27,330

 
340

 
(340
)
 

 

 

 

Cancellation of shares for tax withholding
(18,044
)
 
(184
)
 
(67
)
 

 

 

 
(251
)
Tax benefit from stock-based awards

 

 
(293
)
 

 

 

 
(293
)
Dividends paid ($0.34 per common share)

 

 

 

 
(16,802
)
 

 
(16,802
)
Forfeited unvested restricted stock
(1,135
)
 

 

 

 

 

 

Balance at September 30, 2015
49,517,538

 
$
513,831

 
$
14,000

 
$
(5,979
)
 
$
107,788

 
$
(8,188
)
 
$
621,452


See accompanying notes to unaudited consolidated financial statements.
6
 


United Financial Bancorp, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)
 
For the Nine Months 
 Ended September 30,
 
2016
 
2015
 
(In thousands)
Cash flows from operating activities:
 
 
 
Net income
$
35,111

 
$
39,738

Adjustments to reconcile net income to net cash provided by (used in) operating activities:
 
 
 
Amortization of premiums and discounts on investments, net
4,163

 
3,934

Accretion of intangible assets and purchase accounting marks
(1,006
)
 
(9,034
)
Amortization of subordinated debt issuance costs
95

 
95

Stock-based compensation expense
1,543

 
689

ESOP expense
216

 
222

Loss on extinguishment of debt
1,454

 

Tax benefit from stock-based awards
(257
)
 
293

Provision for loan losses
10,078

 
9,225

Gain on sales of securities, net
(1,867
)
 
(639
)
Loans originated for sale
(355,361
)
 
(290,795
)
Principal balance of loans sold
282,176

 
285,504

Increase in mortgage servicing asset
(22
)
 
(1,266
)
Gain on sales of other real estate owned
(136
)
 
(166
)
Net gain in mortgage banking fair value adjustments
(2,144
)
 
(836
)
(Gain) loss on disposal of equipment
168

 
193

Write-downs of other real estate owned
4

 
118

Depreciation and amortization
4,108

 
3,997

Net loss on limited partnership investments
3,290

 
2,337

Deferred income tax (benefit) expense
(3,502
)
 
3,447

Increase in cash surrender value of bank-owned life insurance
(2,531
)
 
(2,557
)
Net change in:
 
 
 
Deferred loan fees and premiums
(3,195
)
 
(2,240
)
Accrued interest receivable
(2,148
)
 
(1,265
)
Other assets
(41,393
)
 
(16,834
)
Accrued expenses and other liabilities
25,281

 
11,002

Net cash provided by (used in) operating activities
(45,875
)
 
35,162

Cash flows from investing activities:
 
 
 
Proceeds from sales of available-for-sale securities
241,452

 
195,335

Proceeds from calls and maturities of available-for-sale securities
12,491

 
16,655

Principal payments on available-for-sale securities
66,210

 
67,277

Principal payments on held-to-maturity securities
380

 
630

Purchases of available-for-sale securities
(288,390
)
 
(308,253
)
Redemption of FHLBB stock
3,392

 

Purchase of FHLBB stock
(5,043
)
 
(8,864
)
Proceeds from sale of other real estate owned
1,237

 
2,232

Purchases of loans
(92,162
)
 
(11,348
)
Loan originations, net of principal repayments
(18,656
)
 
(297,971
)
Proceeds from BOLI death benefit
689

 

Purchases of premises and equipment
(1,879
)
 
(3,186
)
Proceeds from sale of equipment
17

 
192

Net cash used in investing activities
(80,262
)
 
(347,301
)

(Continued)
See accompanying notes to unaudited consolidated financial statements.
7
 


United Financial Bancorp, Inc. and Subsidiaries
Consolidated Statements of Cash Flows - Concluded
(Unaudited)
 
For the Nine Months 
 Ended September 30,
 
2016
 
2015
 
(In thousands)
Cash flows from financing activities:
 
 
 
Net increase in non-interest-bearing deposits
30,147

 
20,176

Net increase in interest-bearing deposits
229,329

 
210,249

Net increase (decrease) in mortgagors’ and investors’ escrow accounts
(4,481
)
 
(4,896
)
Net increase in short-term FHLBB advances
54,800

 
57,200

Repayments of long-term FHLBB advances
(13,955
)
 
(6,977
)
Prepayments of long-term FHLBB borrowings and penalty
(37,796
)
 

Proceeds from long-term FHLBB advances
25,341

 
116,800

Net change in other borrowings
(24,761
)
 
(49,148
)
Proceeds from exercise of stock options and SARs
4,464

 
2,610

Common stock repurchased

 
(5,171
)
Cancellation of shares for tax withholding
(90
)
 
(251
)
Tax benefit from stock-based awards
257

 
(293
)
Cash dividend paid on common stock
(18,048
)
 
(16,802
)
Net cash provided by financing activities
245,207

 
323,497

Net increase in cash and cash equivalents
119,070

 
11,358

Cash and cash equivalents, beginning of period
95,176

 
86,952

Cash and cash equivalents, end of period
$
214,246

 
$
98,310

 
 
 
 
Supplemental Disclosures of Cash Flow Information:
 
 
 
Cash paid (refunded) during the year for:
 
 
 
Interest
$
31,705

 
$
25,757

Income taxes, net
3,300

 
(6,719
)
Transfer of loans to other real estate owned
3,163

 
318

Decrease in due to broker, investment purchases
3,009

 
(1,105
)
Decrease in due to broker, common stock buyback

 
(523
)

See accompanying notes to unaudited consolidated financial statements.
8
 


United Financial Bancorp, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
Note 1.
Summary of Significant Accounting Policies
Nature of Operations
United Financial Bancorp, Inc. (the “Company” or “United”) is headquartered in Glastonbury, Connecticut, and through United Bank (the “Bank”) and various subsidiaries, delivers financial services to individuals, families and businesses primarily throughout Connecticut and Massachusetts through 53 banking offices, its commercial loan production offices, its mortgage loan production offices, 63 ATMs, telephone banking, mobile banking and online banking (www.bankatunited.com).
Basis of Presentation
The consolidated interim financial statements and the accompanying notes presented in this report include the accounts of the Company, the Bank and the Bank’s wholly-owned subsidiaries, United Bank Mortgage Company, United Bank Investment Corp., Inc., United Bank Commercial Properties, Inc., United Bank Residential Properties, Inc., United Northeast Financial Advisors, Inc., United Bank Investment Sub, Inc., UCB Securities, Inc. II, UB Properties, LLC, United Financial Realty HC, Inc. and United Financial Business Trust I. All significant intercompany transactions have been eliminated.
The consolidated interim financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and pursuant to the rules of the Securities and Exchange Commission (“SEC”) for quarterly reports on Form 10-Q. Accordingly, they do not include all the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring accruals) considered necessary for a fair presentation have been included in the interim unaudited consolidated financial statements. Interim results are not necessarily indicative of the results that may be expected for the year ending December 31, 2016 or any future period. These unaudited interim consolidated financial statements should be read in conjunction with the Company’s 2015 audited consolidated financial statements and notes thereto included in United Financial Bancorp, Inc.’s Annual Report on Form 10-K as of and for the year ended December 31, 2015.
Common Share Repurchases
The Company is chartered in the state of Connecticut. Connecticut law does not provide for treasury shares, rather shares repurchased by the Company constitute authorized but unissued shares. GAAP states that accounting for treasury stock shall conform to state law. Therefore, the cost of shares repurchased by the Company has been allocated to common stock balances.
Reclassifications
Certain reclassifications have been made in prior periods’ consolidated financial statements to conform to the 2016 presentation. These reclassifications had no impact on the Company’s consolidated financial position, results of operations or net change in cash equivalents.
Use of Estimates
The preparation of the financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, and expenses. Actual results in the future could vary from the amounts derived from management’s estimates and assumptions. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the realizability of deferred tax assets, the evaluation of securities for other-than-temporary impairment, the valuation of derivative instruments and hedging activities, and goodwill impairment valuations.
Note 2.
Recent Accounting Pronouncements
Statement of Cash Flows
In August 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2016-15 Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments to address eight specific cash flow issues with the objective of reducing diversity in practice in how certain transactions are classified in the statement of cash flows. The issues identified within the ASU include: 1) debt prepayments and extinguishment costs, 2) settlement of zero-coupon debt, 3) settlement of contingent consideration, 4) insurance proceeds, 5) settlement of corporate-owned life insurance (COLI) and bank-owned life insurance (BOLI) policies, 6) distributions from equity method investees, 7) beneficial interests in securitization transactions, and 8) receipts and payments with aspects of more than one class of cash flows. ASU 2016-15 is effective for public business entities for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted. The Company is currently evaluating the impact of the ASU on the disclosures in the Company’s Statements of Cash Flows, but does not expect this ASU to have a material impact on the Company’s financial statements.


9
 


Financial Instruments
In June 2016, FASB issued ASU No. 2016-13 Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments which amends the Board’s guidance on the impairment of financial instruments. The ASU adds to GAAP an impairment model (known as the current expected credit loss (CECL) model) that is based on expected losses rather than incurred losses. Under the new guidance, an entity recognizes as an allowance its estimate of expected credit losses, which the FASB believes will result in more timely recognition of such losses. The ASU is also intended to reduce the complexity of US GAAP by decreasing the number of credit impairment models that entities use to account for debt instruments. For public business entities that are US Securities and Exchange Commission filers, such as the Company, this ASU is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. All entities may adopt the amendments in this Update earlier as of the fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. This ASU potentially could have a significant impact on the Company’s allowance for loan losses, however, no assessment of the potential impact has been determined. Efforts are in process to quantify and prepare for the ASU’s effective date.
Compensation
In March 2016, the FASB issued ASU No. 2016-09 Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting as part of the FASB’s simplification initiative aimed at reducing complexity in accounting standards. This ASU simplifies several aspects of the accounting for employee share-based payment transactions for both public and nonpublic entities, including; accounting for income taxes; classification of excess tax benefits on the statement of cash flows; forfeitures; statutory tax withholding requirements; classification of awards as either equity or liabilities and; classification of employee taxes paid on the statement of cash flows when an employer withholds shares for tax-withholding purposes. For public business entities, the amendments are effective for annual periods beginning after December 15, 2016, and interim periods within those annual periods. Early adoption is permitted for any entity in any interim or annual period. If an entity early adopts the amendments in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period. An entity that elects early adoption must adopt all of the amendments in the same period. This ASU is not expected to have a significant impact on the Company’s Financial Statements.
Derivatives and Hedging
In March 2016, the FASB issued ASU No. 2016-06 Derivatives and Hedging (Topic 815): Contingent Put and Call Options in Debt Instruments as part of the consensus of the Emerging Issues Task Force. This ASU addresses inconsistent interpretations of whether an event that triggers an entity’s ability to exercise the embedded contingent option must be indexed to interest rates or credit risk for that option to qualify as clearly and closely related. The ASU clarifies that in assessing whether an embedded contingent put or call option is clearly and closely related to the debt host, an entity is required to perform only the four-step decision sequence in ASC 815-15-25-42 as amended by the ASU. The entity does not have to separately assess whether the event that triggers its ability to exercise the contingent option is itself indexed only to interest rates or credit risk. For public business entities, the amendments in the ASU are effective for annual reporting periods, and interim period therein, beginning after December 15, 2016. Early adoption is permitted. This ASU is not expected to have a significant impact on the Company’s financial statements.
Leases
In February 2016, the FASB issued ASU No.  2016-02 Leases (Topic 842). This ASU consists of three sections: Section A- Leases: Amendments to the FASB Accounting Standards Codification; Section B - Conforming Amendments Related to Leases: Amendments to the FASB Accounting Standards Codification; and Section C - Background Information and Basis for Conclusions. This ASU introduces a lessee model that brings most leases on the balance sheet and aligns many of the underlying principles of the new lessor model with those in the new revenue recognition standard, ASC 606, Revenue From Contracts with Customers. The new leases standard represents a whole-sale change to lease accounting and will most likely result in significant implementation challenges during the transition period and beyond. Classification will be based on criteria that are largely similar to those applied in current lease accounting, but without explicit bright lines. The new guidance will be effective for public business entities for annual periods beginning after December 15, 2018 (i.e. calendar periods beginning on January 1, 2019), and interim periods therein. For all other entities, the ASU will be effective for annual periods beginning after December 15, 2019 (i.e. calendar periods beginning on January 1, 2020), and interim periods thereafter. Early adoption will be permitted for all entities. This ASU is not expected to have a significant impact on the Company’s financial statements.
Financial Instruments
In January 2016, the FASB issued ASU No. 2016-01 Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. This ASU requires entities to carry all investments in equity securities, including other ownership interests such as partnerships, unincorporated joint ventures and limited liability companies, at fair value through net income. This new requirement does not apply to investments that qualify for the equity method of accounting or to those that result in consolidation of these investments. The ASU supersedes current guidance and no longer requires equity securities with readily determinable fair value to be classified into categories (i.e. trading or available for sale).  The ASU clarifies


10
 


that when identifying observable price changes, an entity should consider relevant transactions “that are known or can reasonably be known“ and that an entity is not required to spend undue cost and effort to identify such transactions. The ASU also indicates that an entity should consider a security’s rights and obligations, such as voting rights, distribution rights and preferences, and conversion features, when evaluating whether the security issued by the same issuer is similar to the equity security held by the entity. The ASU further provides for the elimination of disclosure requirements related to financial instruments measured at amortized cost. For public business entities, the new standard will require disclosure of fair value using the exit price notion for all financial instruments measured at amortized cost.  Pursuant to the ASU, recognition and measurement will take effect for public companies for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. For all entities, the ASU permits early adoption of the instrument-specific credit risk provision. Additionally, for non-public entities, it permits early adoption of the exemption provisions related to disclosure of fair value information about financial instruments measured at amortized cost.
Note 3.
Securities
The amortized cost, gross unrealized gains, gross unrealized losses and fair value of investment securities at September 30, 2016 and December 31, 2015 are as follows:
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
 
(In thousands)
September 30, 2016
 
 
 
 
 
 
 
Available for sale:
 
 
 
 
 
 
 
Debt securities:
 
 
 
 
 
 
 
Government-sponsored residential mortgage-backed securities
$
161,388

 
$
3,280

 
$

 
$
164,668

Government-sponsored residential collateralized debt obligations
195,056

 
2,841

 
(67
)
 
197,830

Government-sponsored commercial mortgage-backed securities
27,107

 
713

 

 
27,820

Government-sponsored commercial collateralized debt obligations
176,706

 
3,020

 

 
179,726

Asset-backed securities
159,195

 
2,067

 
(905
)
 
160,357

Corporate debt securities
59,848

 
1,953

 
(1,591
)
 
60,210

Obligations of states and political subdivisions
221,367

 
4,522

 
(2,033
)
 
223,856

Total debt securities
1,000,667

 
18,396

 
(4,596
)
 
1,014,467

Marketable equity securities, by sector:
 
 
 
 
 
 
 
Banks
33,087

 
1,589

 

 
34,676

Industrial
109

 
55

 

 
164

Mutual funds
2,880

 
64

 
(2
)
 
2,942

Oil and gas
131

 
59

 

 
190

Total marketable equity securities
36,207

 
1,767

 
(2
)
 
37,972

Total available-for-sale securities
$
1,036,874

 
$
20,163

 
$
(4,598
)
 
$
1,052,439

Held to maturity:
 
 
 
 
 
 
 
Debt securities:
 
 
 
 
 
 
 
Obligations of states and political subdivisions
$
12,331

 
$
1,199

 
$
(14
)
 
$
13,516

Government-sponsored residential mortgage-backed securities
1,831

 
222

 

 
2,053

Total held-to-maturity securities
$
14,162

 
$
1,421

 
$
(14
)
 
$
15,569




11
 


 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
 
(In thousands)
December 31, 2015
 
 
 
 
 
 
 
Available for sale:
 
 
 
 
 
 
 
Debt securities:
 
 
 
 
 
 
 
U.S. Government and government-sponsored enterprise obligations
$
10,159

 
$
13

 
$
(83
)
 
$
10,089

Government-sponsored residential mortgage-backed securities
146,434

 
731

 
(1,304
)
 
145,861

Government-sponsored residential collateralized debt obligations
287,515

 
855

 
(1,403
)
 
286,967

Government-sponsored commercial mortgage-backed securities
21,144

 
21

 
(200
)
 
20,965

Government-sponsored commercial collateralized debt obligations
128,617

 
626

 
(271
)
 
128,972

Asset-backed securities
162,895

 
43

 
(3,037
)
 
159,901

Corporate debt securities
62,356

 
91

 
(2,487
)
 
59,960

Obligations of states and political subdivisions
201,217

 
1,561

 
(1,663
)
 
201,115

Total debt securities
1,020,337

 
3,941

 
(10,448
)
 
1,013,830

Marketable equity securities, by sector:
 
 
 
 
 
 
 
Banks
41,558

 
1,099

 
(544
)
 
42,113

Industrial
109

 
34

 

 
143

Mutual funds
2,854

 
65

 
(4
)
 
2,915

Oil and gas
132

 
36

 

 
168

Total marketable equity securities
44,653

 
1,234

 
(548
)
 
45,339

Total available-for-sale securities
$
1,064,990

 
$
5,175

 
$
(10,996
)
 
$
1,059,169

Held to maturity:
 
 
 
 
 
 
 
Debt securities:
 
 
 
 
 
 
 
Obligations of states and political subdivisions
$
12,360

 
$
884

 
$
(10
)
 
$
13,234

Government-sponsored residential mortgage-backed securities
2,205

 
244

 

 
2,449

Total held-to-maturity securities
$
14,565

 
$
1,128

 
$
(10
)
 
$
15,683


At September 30, 2016, the net unrealized gain on securities available for sale of $15.6 million, net of an income tax expense of $5.6 million, or $10.0 million, was included in accumulated other comprehensive loss in the unaudited Consolidated Statement of Condition.
The amortized cost and fair value of debt securities at September 30, 2016 by contractual maturities are presented below. Actual maturities may differ from contractual maturities because some securities may be called or repaid without any penalties. Also, because mortgage-backed securities require periodic principal paydowns, they are not included in the maturity categories in the following maturity summary.


12
 


 
Available for Sale
 
Held to Maturity
 
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
 
(In thousands)
Maturity:
 
 
 
 
 
 
 
Within 1 year
$
175

 
$
176

 
$

 
$

After 1 year through 5 years
16,118

 
16,537

 
1,184

 
1,229

After 5 years through 10 years
47,906

 
49,018

 

 

After 10 years
217,016

 
218,335

 
11,147

 
12,287

 
281,215

 
284,066

 
12,331

 
13,516

Government-sponsored residential mortgage-backed securities
161,388

 
164,668

 
1,831

 
2,053

Government-sponsored residential collateralized debt obligations
195,056

 
197,830

 

 

Government-sponsored commercial mortgage-backed securities
27,107

 
27,820

 

 

Government-sponsored commercial collateralized debt obligations
176,706

 
179,726

 

 

Asset-backed securities
159,195

 
160,357

 

 

Total debt securities
$
1,000,667

 
$
1,014,467

 
$
14,162

 
$
15,569

At September 30, 2016, the Company had 114 securities with a fair value of $549.3 million pledged as derivative collateral, collateral for reverse repurchase borrowings and collateral for Federal Home Loan Bank of Boston (“FHLBB”) borrowing capacity. At December 31, 2015, the Company had 114 securities with a fair value of $446.0 million pledged as derivative collateral, collateral for reverse repurchase borrowings, and collateral for FHLBB borrowing capacity.
For the three months ended September 30, 2016 and 2015, gross gains of $325,000 and $185,000 were realized on the sales of available-for-sale securities for both periods, respectively. There were gross losses of $277,000 and $244,000 realized on the sale of available-for-sale securities for the three months ended September 30, 2016 and 2015, respectively. For the nine months ended September 30, 2016 and 2015, gross gains of $2.6 million and $2.4 million, respectively, were realized on the sales of available-for-sale securities. There were gross losses of $743,000 and $1.8 million realized on the sale of available-for-sale securities for the nine months ended September 30, 2016 and 2015, respectively.
As of September 30, 2016, the Company did not have any exposure to private-label mortgage-backed securities. The Company also did not own any single security with an aggregate book value in excess of 10% of the Company’s stockholders’ equity.
As of September 30, 2016, the fair value of the obligations of states and political subdivisions portfolio was $237.4 million, with no significant geographic or issuer exposure concentrations. Of the total revenue and general obligations of $237.4 million, $105.2 million were representative of general obligation bonds for which $67.8 million are general obligations of political subdivisions of the respective state, rather than general obligations of the state itself. 
The following table summarizes gross unrealized losses and fair value, aggregated by category and length of time the securities have been in a continuous unrealized loss position, as of September 30, 2016 and December 31, 2015:


13
 


 
Less Than 12 Months
 
12 Months or More
 
Total
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
 
Fair
Value
 
Unrealized
Loss
 
(In thousands)
September 30, 2016
 
 
 
 
 
 
 
 
 
 
 
Available for sale:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities:
 
 
 
 
 
 
 
 
 
 
 
Government-sponsored residential collateralized debt obligations
$
6,821

 
$
(25
)
 
$
6,929

 
$
(42
)
 
$
13,750

 
$
(67
)
Asset-backed securities
1,207

 
(25
)
 
26,357

 
(880
)
 
27,564

 
(905
)
Corporate debt securities

 

 
3,165

 
(1,591
)
 
3,165

 
(1,591
)
Obligations of states and political subdivisions
47,552

 
(913
)
 
44,100

 
(1,120
)
 
91,652

 
(2,033
)
Total debt securities
55,580

 
(963
)
 
80,551

 
(3,633
)
 
136,131

 
(4,596
)
Marketable equity securities

 

 
95

 
(2
)
 
95

 
(2
)
Total available-for-sale securities
$
55,580

 
$
(963
)
 
$
80,646

 
$
(3,635
)
 
$
136,226

 
$
(4,598
)
 
 
 
 
 
 
 
 
 
 
 
 
Held to Maturity:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities:
 
 
 
 
 
 
 
 
 
 
 
Obligations of states and political subdivisions
$
1,093

 
$
(14
)
 
$

 
$

 
$
1,093

 
$
(14
)
Total held to maturity securities
$
1,093

 
$
(14
)
 
$

 
$

 
$
1,093

 
$
(14
)
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2015
 
 
 
 
 
 
 
 
 
 
 
Available for sale:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities:
 
 
 
 
 
 
 
 
 
 
 
U.S. Government and government-sponsored enterprise obligations
$
4,867

 
$
(66
)
 
$
4,977

 
$
(17
)
 
$
9,844

 
$
(83
)
Government-sponsored residential mortgage-backed securities
107,142

 
(1,183
)
 
7,195

 
(121
)
 
114,337

 
(1,304
)
Government-sponsored residential collateralized debt obligations
152,278

 
(1,357
)
 
3,506

 
(46
)
 
155,784

 
(1,403
)
Government-sponsored commercial mortgage-backed securities
16,207

 
(200
)
 

 

 
16,207

 
(200
)
Government-sponsored commercial collateralized debt obligations
38,151

 
(221
)
 
3,496

 
(50
)
 
41,647

 
(271
)
Asset-backed securities
93,723

 
(1,233
)
 
49,462

 
(1,804
)
 
143,185

 
(3,037
)
Corporate debt securities
42,102

 
(797
)
 
6,720

 
(1,690
)
 
48,822

 
(2,487
)
Obligations of states and political subdivisions
47,878

 
(946
)
 
42,685

 
(717
)
 
90,563

 
(1,663
)
Total debt securities
502,348

 
(6,003
)
 
118,041

 
(4,445
)
 
620,389

 
(10,448
)
Marketable equity securities
18,449

 
(287
)
 
6,176

 
(261
)
 
24,625

 
(548
)
Total available-for-sale securities
$
520,797

 
$
(6,290
)
 
$
124,217

 
$
(4,706
)
 
$
645,014

 
$
(10,996
)
 
 
 
 
 
 
 
 
 
 
 
 
Held to Maturity:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities:
 
 
 
 
 
 
 
 
 
 
 
Obligations of states and political subdivisions
$
1,104

 
$
(10
)
 
$

 
$

 
$
1,104

 
$
(10
)
Total held to maturity securities
$
1,104

 
$
(10
)
 
$

 
$

 
$
1,104

 
$
(10
)


14
 


Of the available-for-sale securities summarized above as of September 30, 2016, 32 issues had unrealized losses equaling 1.7% of the amortized cost basis for less than twelve months and 62 issues had an unrealized loss of 4.3% of the amortized cost basis for twelve months or more. There was one unrealized loss of $14,000 on a debt security held to maturity at September 30, 2016. As of December 31, 2015, 146 issues had unrealized losses equaling 1.2% of the cost basis for less than twelve months and 96 issues had unrealized losses equaling 3.7% of the amortized cost basis for twelve months or more.
Management believes that no individual unrealized loss as of September 30, 2016 represents an other-than-temporary impairment, based on its detailed quarterly review of the securities portfolio. Among other things, the other-than-temporary impairment review of the investment securities portfolio focuses on the combined factors of percentage and length of time by which an issue is below book value as well as consideration of issuer specific information (present value of cash flows expected to be collected, issuer rating changes and trends, credit worthiness and review of underlying collateral), broad market details and the Company’s intent to sell the security or if it is more likely than not that the Company will be required to sell the debt security before recovering its cost. The Company also considers whether the depreciation is due to interest rates, market changes, or credit risk.
The following paragraphs outline the Company’s position related to unrealized losses in its investment securities portfolio at September 30, 2016.
Government-sponsored residential collateralized debt obligations. The unrealized losses on the Company’s government-sponsored residential collateralized debt obligations were caused by the continued pickup of prepayment speeds given the overall drop in the government curve over the period, which encouraged further refinancing relative to original purchase expectations. The Company monitors this risk, and therefore, strives to minimize premiums within this security class. The Company does not expect these securities to settle at a price less than the par value of the securities.
Asset-backed securitiesThe unrealized losses on the Company’s asset-backed securities were largely driven by increases in the spreads of the respective sectors’ asset classes over comparable securities relative to the time of purchase. The majority of these securities have resetting coupons that adjust on a quarterly basis and the market credit and liquidity spreads on similar securities have increased. Based on the credit profiles and asset qualities of the individual securities, management does not believe that the securities have suffered from any credit related losses at this time. The Company does not expect these securities to settle at a price less than the par value of the securities. 
Corporate debt securities. The unrealized losses on corporate debt securities is primarily related to one pooled trust preferred security, Preferred Term Security XXVIII, Ltd (“PRETSL XXVIII”). The unrealized loss on this security is caused by the low interest rate environment, as the security reprices quarterly to the three month LIBOR and market spreads on similar newly issued securities have increased. No loss of principal is projected. Based on the existing credit profile, management does not believe that this security has suffered from any credit related losses. The unrealized loss on the remainder of the corporate credit portfolio has been driven primarily by overall wider credit spreads on certain securities relative to the time of purchase.
Obligations of states and political subdivisions. The unrealized loss on obligations of states and political subdivisions relates to several securities, with no geographic concentration. The unrealized loss was largely due to a shift in the spreads on the short end of the municipal spread curve relative to the spreads on the bonds at the time of purchase.
Marketable equity securities. The unrealized loss on marketable equity securities largely pertains to widening credit spreads and higher rates for certain affected securities relative to their respective purchase.
The Company will continue to review its entire portfolio for other-than-temporarily impaired securities.


15
 


Note 4.
Loans Receivable and Allowance for Loan Losses
A summary of the Company’s loan portfolio is as follows:
 
September 30, 2016
 
December 31, 2015
 
Amount
 
Percent
 
Amount
 
Percent
 
(Dollars in thousands)
Commercial real estate loans:
 
 
 
 
 
 
 
Owner-occupied
$
392,168

 
8.3
%
 
$
322,084

 
7.0
%
Investor non-owner occupied
1,702,701

 
36.1

 
1,673,248

 
36.3

Construction
90,380

 
1.9

 
129,922

 
2.8

Total commercial real estate loans
2,185,249

 
46.3

 
2,125,254

 
46.1

 
 
 
 
 
 
 
 
Commercial business loans
660,676

 
14.0

 
603,332

 
13.1

 
 
 
 
 
 
 
 
Consumer loans:
 
 
 
 
 
 
 
Residential real estate
1,129,079

 
23.9

 
1,179,915

 
25.6

Home equity
479,390

 
10.2

 
431,282

 
9.3

Residential construction
52,476

 
1.1

 
41,084

 
0.9

Other consumer
213,830

 
4.5

 
233,064

 
5.0

Total consumer loans
1,874,775

 
39.7

 
1,885,345

 
40.8

 
 
 
 
 
 
 
 
Total loans
4,720,700

 
100.0
%
 
4,613,931

 
100.0
%
Net deferred loan costs and premiums
10,214

 
 
 
7,018

 
 
Allowance for loan losses
(41,080
)
 
 
 
(33,887
)
 
 
Loans - net
$
4,689,834

 
 
 
$
4,587,062

 
 
Purchased Credit Impaired Loans
Purchased credit impaired loans (“PCI”) are accounted for in accordance with Accounting Standards Codification (“ASC”) Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality (“ASC 310-30”). At September 30, 2016, the net recorded carrying amount of loans accounted for under ASC 310-30 was $4.7 million and the aggregate outstanding principal balance was $7.5 million.
The following table summarizes the activity in the the accretable yield balance for PCI loans for the three and nine months ended September 30, 2016 and 2015:
 
 
For the Three Months 
 Ended September 30,
 
For the Nine Months 
 Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
 
 
(In thousands)
Balance at beginning of period
 
$
(118
)
 
$
(570
)
 
$
(413
)
 
$
(1,587
)
Accretion
 

 
1

 

 
178

Reclassification to nonaccretable balance
 

 
42

 
232

 
882

Paid off
 

 
114

 
63

 
114

Balance at end of period
 
$
(118
)
 
$
(413
)
 
$
(118
)
 
$
(413
)
Reclassifications of $232,000 and $882,000 from the accretable balance to the nonaccretable balance occurred during the nine months ended September 30, 2016 and 2015, respectively, due to reductions in expected cash flows for the ASC 310-30 loans.
Allowance for Loan Losses
Management has established a methodology to determine the adequacy of the allowance for loan losses (“ALL”) that assesses the risks and losses inherent in the loan portfolio. The ALL is established as embedded losses are estimated to have occurred through the provisions for losses charged against operations and is maintained at a level that management considers adequate to absorb losses in the loan portfolio. Management’s judgment in determining the adequacy of the allowance is inherently subjective and is based on past loan loss experience, known and inherent losses and size of the loan portfolios, an assessment of current


16
 


economic and real estate market conditions, estimates of the current value of underlying collateral, review of regulatory authority examination reports and other relevant factors. An allowance is maintained for impaired loans to reflect the difference, if any, between the carrying value of the loan and the present value of the projected cash flows, observable fair value or collateral value. Loans are charged-off against the ALL when management believes that the uncollectibility of principal is confirmed. Any subsequent recoveries are credited to the ALL when received. In connection with the determination of the ALL, management obtains independent appraisals for significant properties, when considered necessary.
The ALL is maintained at a level estimated by management to provide for probable losses inherent within the loan portfolio. Probable losses are estimated based upon a quarterly review of the loan portfolio, which includes historic default and loss experience, specific problem loans, risk rating profile, economic conditions and other pertinent factors which, in management’s judgment, warrant current recognition in the loss estimation process.
The adequacy of the ALL is subject to considerable assumptions and judgment used in its determination. Therefore, actual losses could differ materially from management’s estimate if actual conditions differ significantly from the assumptions utilized. These conditions include economic factors in the Company’s market and nationally, industry trends and concentrations, real estate values and trends, and the financial condition and performance of individual borrowers.
The Company’s general practice is to identify problem credits early and recognize full or partial charge-offs as promptly as practicable when it is determined that the collection of loan principal is unlikely. The Company recognizes full or partial charge-offs on collateral dependent impaired loans when the collateral is deemed to be insufficient to support the carrying value of the loan. The Company does not recognize a recovery when an updated appraisal indicates a subsequent increase in value.
At September 30, 2016, the Company had a loan loss allowance of $41.1 million, or 0.87%, of total loans as compared to a loan loss allowance of $33.9 million, or 0.73%, of total loans at December 31, 2015. Management believes that the allowance for loan losses is adequate and consistent with asset quality indicators and that it represents the best estimate of probable losses inherent in the loan portfolio.
There are three components for the allowance for loan loss calculation:
General component
The general component of the ALL is based on historical loss experience adjusted for qualitative factors stratified by the loan segments. Management uses a rolling average of historical losses based on a three-year loss history to capture relevant loss data for each loan segment. This historical loss factor is adjusted for the following qualitative factors: levels and trends in delinquencies; level and trend of charge-offs and recoveries; trends in volume and types of loans; effects of changes in risk selection and underwriting standards, changes in risk selection and underwriting standards; experience and depth of lending weighted average risk rating; and national and local economic trends and conditions. There were no changes in the Company’s methodology pertaining to the general component of the ALL during 2016.
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 and home equity loans – The Bank establishes maximum loan-to-value and debt-to-income ratios and minimum credit scores as an integral component of the underwriting criteria. Loans in these segments are collateralized by owner-occupied residential real estate and repayment is dependent on the income and credit quality of the individual borrower. Within the qualitative allowance factors, national and local economic trends including unemployment rates and potential declines in property value, are key elements reviewed as a component of establishing the appropriate allocation. Overall economic conditions, unemployment rates and housing price trends will influence the underlying credit quality of these segments.
Owner-occupied and investor non-owner occupied commercial real estate (“Owner-occupied CRE” and “Investor CRE”) – Loans in these segments are primarily income-producing properties throughout Connecticut, western Massachusetts, and other select markets in the Northeast. The underlying cash flows generated by the properties could be adversely impacted by a downturn in the economy as evidenced by increased vacancy rates, which in turn, will have an effect on the credit quality in this segment. Management obtains rent rolls annually, continually monitors the cash flows of these loans and performs stress testing.
Commercial and residential construction loans – Loans in this segment primarily include commercial real estate development and residential subdivision loans for which payment is derived from the sale of the property. Credit risk is affected by cost overruns, time to sell at an adequate price, and market conditions.
Commercial business 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 its effect on business profitability and cash flow could have an effect on the credit quality in this segment.


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Other Consumer – Loans in this segment are secured or unsecured and repayment is dependent on the credit quality of the individual borrower. A significant portion of these loans are secured by boats.
For acquired loans, our ALL is estimated based upon our evaluation of the credit quality of the acquired loan portfolio or expected cash flows for the acquired PCI loans. To the extent that we experience a deterioration in credit quality resulting in a decrease in our expected cash flows subsequent to the acquisition of the loans, an allowance for loan losses would be established based on our estimate of future credit losses over the remaining life of the loans, in excess of any existing purchase accounting discounts.
Allocated component
The allocated component relates to loans that are classified as impaired. Impairment is measured on a loan by loan basis for commercial, commercial real estate and construction 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, less estimated costs to sell, 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. Residential and other consumer loans are evaluated for impairment if payments are 90 days or more delinquent. Updated property evaluations are obtained at time of impairment and serve as the basis for the loss allocation if foreclosure is probable or the loan is collateral dependent.
A loan is considered impaired when, based on current information and events, it is probable that the Company 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. Management determines 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.
When a loan is determined to be impaired the Company makes a determination if the repayment of the obligation is collateral dependent. As a majority of impaired loans are collateralized by real estate, appraisals on the underlying value of the property securing the obligation are utilized in determining the specific impairment amount that is allocated to the loan as a component of the allowance calculation. If the loan is collateral dependent, an updated appraisal is obtained within a short period of time from the date the loan is determined to be impaired; typically no longer than 30 days for a residential property and 90 days for a commercial real estate property. The appraisal and the appraised value are reviewed for adequacy and then further discounted for estimated disposition costs and the period of time until resolution, in order to determine the impairment amount. The Company updates the appraised value at least annually and on a more frequent basis if current market factors indicate a potential change in valuation.
The majority of the Company’s loans are collateralized by real estate located in central and eastern Connecticut and western Massachusetts in addition to a portion of the commercial real estate loan portfolio located in the Northeast region of the United States. Accordingly, the collateral value of a substantial portion of the Company’s loan portfolio and real estate acquired through foreclosure is susceptible to changes in market conditions in these areas.
Unallocated component
An unallocated component is maintained to cover uncertainties that could affect management’s estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating allocated and general reserves in the portfolio.
Credit Quality Information
The Company utilizes a nine-grade internal loan rating system for residential and commercial real estate, construction, commercial and other consumer loans as follows:
Loans rated 1 – 5: Loans in these categories are considered “pass” rated loans with low to average risk.
Loans rated 6: Loans in this category are considered “special mention.” These loans reflect signs of potential weakness and are being closely monitored by management.
Loans rated 7: Loans in this category are considered “substandard.” Generally, a loan is considered substandard if it is inadequately protected by the current net worth and paying capacity of the obligor and there is a distinct possibility that the Company will sustain some loss if the weakness is not corrected.


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Loans rated 8: Loans in this category are considered “doubtful.” Loans classified as doubtful have all the weaknesses inherent in those classified as 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.
Loans rated 9: Loans in this category are considered uncollectible (“loss”) and of such little value that their continuance as loans is not warranted.
At the time of loan origination, a risk rating based on this nine point grading system is assigned to each loan based on the loan officer’s assessment of risk. For residential real estate and other consumer loans, the Company considers factors such as updated FICO scores, employment status, home prices, loan to value and geography. Residential real estate and other consumer loans are pass rated unless their payment history reveals signs of deterioration, which may result in modifications to the original contractual terms. In situations which require modification to the loan terms, the internal loan grade will typically be reduced to substandard. More complex loans, such as commercial business loans and commercial real estate loans require that our internal credit area further evaluate the risk rating of the individual loan, with the credit area and Chief Credit Officer having final determination of the appropriate risk rating. These more complex loans and relationships receive an in-depth analysis and periodic review to assess the appropriate risk rating on a post-closing basis with changes made to the risk rating as the borrower’s and economic conditions warrant. The credit quality of the Company’s loan portfolio is reviewed by a third-party risk assessment firm throughout the year and by the Company’s internal credit management function. The internal and external analysis of the loan portfolio is utilized to identify and quantify loans with higher than normal risk. Loans having a higher risk profile are assigned a risk rating corresponding to the level of weakness identified in the loan. All loans risk rated Special Mention, Substandard or Doubtful are reviewed by management not less than on a quarterly basis to assess the level of risk and to ensure that appropriate actions are being taken to minimize potential loss exposure. Loans identified as being loss are normally fully charged off.
The following table presents the Company’s loans by risk rating at September 30, 2016 and December 31, 2015:
 
Owner-Occupied CRE
 
Investor CRE
 
Construction
 
Commercial Business
 
Residential Real Estate
 
Home Equity
 
Other Consumer
 
(In thousands)
September 30, 2016
 
 
 
 
 
 
 
 
 
 
 
 
 
Loans rated 1-5
$
363,114

 
$
1,656,821

 
$
140,314

 
$
629,212

 
$
1,111,502

 
$
473,948

 
$
213,507

Loans rated 6
7,219

 
16,552

 
254

 
6,518

 
1,286

 

 

Loans rated 7
21,835

 
29,328