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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
EX-31.1 - CERTIFICATION OF CHIEF EXECUTIVE OFFICER - Western New England Bancorp, Inc.ex31-1.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 June 30, 2017

 

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

 

Western New England Bancorp, 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, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act (Check one):

  

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

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act ☐

 

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

  

At August 7, 2017, the registrant had 31,070,107 shares of common stock, $0.01 par value, issued and outstanding.

 

 

 

 

 

TABLE OF CONTENTS

 

    Page
       
FORWARD-LOOKING STATEMENTS i  
       
PART I – FINANCIAL INFORMATION    
       
Item 1. Financial Statements of Western New England Bancorp, Inc. and Subsidiaries    
       
  Consolidated Balance Sheets (Unaudited) – June 30, 2017 and December 31, 2016 1  
       
  Consolidated Statements of Net Income (Unaudited) – Three and Six Months Ended June 30, 2017 and 2016 2  
       
  Consolidated Statements of Comprehensive Income (Unaudited) – Three and Six Months Ended June 30, 2017 and 2016 3  
       
  Consolidated Statements of Changes in Shareholders’ Equity (Unaudited) –Six Months Ended June 30, 2017 and 2016 4  
       
  Consolidated Statements of Cash Flows (Unaudited) – Six Months Ended June 30, 2017 and 2016 5  
       
  Notes to Consolidated Financial Statements (Unaudited) 6  
       
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 32  
       
Item 3. Quantitative and Qualitative Disclosures About Market Risk 44  
       
Item 4. Controls and Procedures 44  
       
PART II – OTHER INFORMATION    
       
Item 1. Legal Proceedings 45  
       
Item 1A. Risk Factors 45  
       
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 45  
       
Item 3. Defaults upon Senior Securities 45  
       
Item 4. Mine Safety Disclosures 45  
       
Item 5. Other Information 45  
       
Item 6. Exhibits 46  

 

 

 

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;

 

the inability to realize expected cost savings or achieve other anticipated benefits in connection with business combinations and other acquisitions;

 

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 Wall Street Reform and Consumer Protection Act of 2010, 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 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.

WESTERN NEW ENGLAND BANCORP, INC. AND SUBSIDIARIES

 CONSOLIDATED BALANCE SHEETS - UNAUDITED

 (Dollars in thousands, except share data)

 

   June 30,   December 31, 
   2017   2016 
ASSETS          
CASH AND DUE FROM BANKS  $16,444   $23,297 
FEDERAL FUNDS SOLD   716    4,388 
INTEREST-BEARING  DEPOSITS AND OTHER SHORT-TERM INVESTMENTS   2,247    42,549 
CASH AND CASH EQUIVALENTS   19,407    70,234 
           
SECURITIES AVAILABLE-FOR-SALE – AT FAIR VALUE   303,395    300,115 
FEDERAL HOME LOAN BANK OF BOSTON AND OTHER RESTRICTED STOCK - AT COST   16,075    16,124 
LOANS - Net of allowance for loan losses of $10,418 and $10,068 at June 30, 2017 and  December 31, 2016, respectively   1,598,246    1,556,416 
PREMISES AND EQUIPMENT, Net   23,754    20,885 
ACCRUED INTEREST RECEIVABLE   5,594    5,782 
BANK-OWNED LIFE INSURANCE   67,858    66,938 
DEFERRED TAX ASSET, Net   15,840    16,159 
GOODWILL   12,487    13,747 
CORE DEPOSIT INTANGIBLE   4,250    4,438 
OTHER ASSETS   6,557    5,180 
       TOTAL ASSETS  $2,073,463   $2,076,018 
           
LIABILITIES AND SHAREHOLDERS’ EQUITY          
LIABILITIES:          
DEPOSITS :          
Non-interest-bearing  $299,493   $303,993 
Interest-bearing   1,195,844    1,214,078 
Total deposits   1,495,337    1,518,071 
           
SHORT-TERM BORROWINGS   191,008    172,351 
LONG-TERM DEBT   117,704    124,836 
OTHER LIABILITIES   18,213    22,364 
TOTAL LIABILITIES   1,822,262    1,837,622 
           
SHAREHOLDERS’ EQUITY:          
Preferred stock - $0.01 par value, 5,000,000 shares authorized, none outstanding at  June 30, 2017 and December 31, 2016        
Common stock - $0.01 par value, 75,000,000 shares authorized, 31,070,107 shares issued and outstanding at June 30, 2017; 30,380,231 shares issued and outstanding at December 31, 2016   311    304 
Additional paid-in capital   209,425    205,996 
Unearned compensation – ESOP   (6,105)   (6,418)
Unearned compensation – Equity Incentive Plan   (1,109)   (536)
Retained earnings   58,786    51,711 
Accumulated other comprehensive loss   (10,107)   (12,661)
TOTAL SHAREHOLDERS’ EQUITY:   251,201    238,396 
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY  $2,073,463   $2,076,018 
          

 See accompanying notes to unaudited consolidated financial statements.

 

1

 

 

WESTERN NEW ENGLAND BANCORP, INC. AND SUBSIDIARIES

 CONSOLIDATED STATEMENTS OF NET INCOME – UNAUDITED

 (Dollars in thousands, except per share data)

 

   Three Months   Six Months 
   Ended June 30,   Ended June 30, 
   2017   2016   2017   2016 
INTEREST AND DIVIDEND INCOME:                    
Residential and commercial real estate loans  $13,406   $6,924   $26,568   $13,436 
Commercial and industrial loans   2,721    1,674    5,297    3,370 
Consumer loans   84    41    173    83 
Debt securities, taxable   1,871    1,679    3,700    4,106 
Debt securities, tax-exempt   25    28    56    104 
Equity securities   35    43    70    95 
Other investments - at cost   166    136    329    268 
Federal funds sold, interest-bearing deposits and other short-term investments   19    29    92    53 
Total interest and dividend income   18,327    10,554    36,285    21,515 
 INTEREST EXPENSE:
                    
Deposits   2,059    1,535    4,068    3,007 
Long-term debt   549    461    1,100    1,303 
Short-term borrowings   976    556    1,871    960 
Total interest expense   3,584    2,552    7,039    5,270 
Net interest and dividend income   14,743    8,002    29,246    16,245 
PROVISION FOR LOAN LOSSES   350    625    650    25 
Net interest and dividend income after provision for loan losses   14,393    7,377    28,596    16,220 
                     
NON-INTEREST INCOME (LOSS):                    
Service charges and fees   1,549    859    3,075    1,743 
Income from bank-owned life insurance   480    403    919    764 
Loss on prepayment of borrowings               (915)
Gain (loss) on sales of securities, net   46    (2)   (18)   683 
Other income           116     
Total non-interest income   2,075    1,260    4,092    2,275 
NON-INTEREST EXPENSE:                    
Salaries and employee benefits   6,239    3,845    12,464    7,652 
Occupancy   917    564    1,924    1,157 
Furniture and equipment   366    247    739    481 
Data processing   669    380    1,060    764 
Professional fees   681    545    1,277    1,061 
FDIC insurance assessment   186    190    303    380 
Merger related expenses   216    929    626    1,083 
Advertising   385    262    633    504 
Other   1,637    1,036    3,240    1,988 
Total non-interest expense   11,296    7,998    22,266    15,070 
INCOME BEFORE INCOME TAXES   5,172    639    10,422    3,425 
INCOME TAX PROVISION   1,416    250    1,563    1,072 
NET INCOME  $3,756   $389   $8,859   $2,353 
                     
EARNINGS PER COMMON SHARE:                    
Basic earnings per share  $0.13   $0.02   $0.30   $0.14 
Weighted average shares outstanding   29,980,518    17,337,955    29,790,164    17,321,022 
Diluted earnings per share  $0.12   $0.02   $0.30   $0.14 
Weighted average diluted shares outstanding   30,120,025    17,337,955    30,000,280    17,321,022 

 

 

See accompanying notes to unaudited consolidated financial statements.

 

2

 

  

WESTERN NEW ENGLAND BANCORP, INC. AND SUBSIDIARIES

 CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME – UNAUDITED

 (Dollars in thousands)

 

   Three Months Ended   Six Months Ended 
   June 30,   June 30, 
   2017   2016   2017   2016 
                 
Net income  $3,756   $389   $8,859   $2,353 
                     
Other comprehensive income (loss):                    
Unrealized gains on securities:                    
Unrealized holding gains on available for sale securities   1,326    2,606    1,752    6,179 
Reclassification adjustment for loss (gain) realized in income(1)   (46)   2    18    (683)
Amortization of net unrealized loss on held-to-maturity securities(2)               26 
Net unrealized loss upon transfer of held-to-maturity to available-for-sale(3)               2,288 
Net unrealized gains   1,280    2,608    1,770    7,810 
Tax effect   (481)   (895)   (527)   (2,692)
Net-of-tax amount   799    1,713    1,243    5,118 
                     
Derivative instruments:                    
Change in fair value of derivatives used for cash flow hedges   (346)   (729)   (293)   (3,280)
Reclassification adjustment for loss realized in interest expense(4)   249    90    523    185 
Reclassification adjustment for termination fee realized in interest expense(5)   266    266    530    418 
Net adjustments relating to derivative instruments   169    (373)   760    (2,677)
Tax effect   (67)   127    165    910 
Net-of-tax amount   102    (246)   925    (1,767)
                     
Defined benefit pension plans:                    
Amortization of defined benefit plans actuarial loss(6)   51    31    102    47 
Tax effect   (21)   (10)   284    (16)
Net-of-tax amount   30    21    386    31 
                     
Other comprehensive income   931    1,488    2,554    3,382 
                     
Comprehensive income  $4,687   $1,877   $11,413   $5,735 

 

(1) Realized gains and losses on available-for-sale securities is recognized as a component of non-interest income. The tax effects applicable to net realized (loss) gains were $19,000 and $(1) for the three months ended June 30, 2017 and 2016, respectively.   The tax effects applicable to net realized (loss) gains was $(7,000) and $235,000 for the six months ended June 30, 2016 and 2015, respectively.
 
(2) Amortization of net unrealized (loss) gain on held-to-maturity securities is recognized as a component of interest income on debt securities.  Income tax effects associated with the reclassification adjustments were $(9,000) for the six months ended June 30, 2016.
 
(3) Income tax effect associated with the reclassification adjustments upon transfer of held-to-maturity to available-for-sale was $790,000 for the six months ended June 30, 2016.
 
(4) Loss realized in interest expense on derivative instruments is recognized as a component of interest expense on short-term debt.  Income tax effects associated with the reclassification adjustment were $102,000 and $31,000 for the three months ended June 30, 2017 and 2016, respectively.  Income tax effects associated with the reclassification adjustment were $214,000 and $163,000 for the six months ended June 30, 2017 and 2016, respectively.
 
(5) Loss realized in interest expense on derivative instruments is recognized as a component of interest expense on short-term debt.  Income tax effects associated with the reclassification adjustment were $107,000 and $90,000 for the three months ended June 30, 2017 and 2016, respectively.  Income tax effects associated with the reclassification adjustment were $215,000 and $142,000 for the six months ended June 30, 2017 and 2016, respectively.
 
(6) Amounts represent the reclassification of defined benefit plans amortization and have been recognized as a component of salaries and employee benefit expense.  Income tax effects associated with the reclassification adjustments were $21,000 and $10,000 for the three months ended June 30, 2017 and 2016, respectively.  Income tax effects associated with the reclassification adjustments were $42,000 and $16,000 for the six months ended June 30, 2017 and 2016, respectively.
 
Tax rate on reclassification adjustments was 40.85% for the 2017 period and 34.0% for the comparable 2016 period.
 

 See accompanying notes to unaudited consolidated financial statements.

 

3

 

 

WESTERN NEW ENGLAND BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY - UNAUDITED

SIX MONTHS ENDED JUNE 30, 2017 AND 2016

(Dollars in thousands, except share data)

 

     Common Stock           Unearned       Accumulated     
     Shares     Par
Value
   Additional
Paid-in
Capital
   Unearned Compensation- ESOP   Compensation- Equity Incentive Plan   Retained
Earnings
   Other Comprehensive Loss   Total 
                                 
BALANCE AT DECEMBER 31, 2015   18,267,747   $183   $108,210   $(6,952)  $(313)  $49,316   $(10,978)  $139,466 
Comprehensive income                       2,353    3,382    5,735 
Common stock held by ESOP committed to be released (74,430 shares)           44    257                301 
Share-based compensation - equity incentive plan                   101            101 
Excess tax benefit from equity incentive plan           4                    4 
Issuance of common stock in connection with equity incentive plan   62,740    1    484        (485)            
Cash dividends declared and paid ($0.06 per share)                       (1,038)       (1,038)
BALANCE AT JUNE 30, 2016   18,330,487   $184   $108,742   $(6,695)  $(697)  $50,631   $(7,596)  $144,569 
                                         
BALANCE AT DECEMBER 31, 2016   30,380,231   $304   $205,996   $(6,418)  $(536)  $51,711   $(12,661)  $238,396 
Comprehensive income                       8,859    2,554    11,413 
Common stock held by ESOP committed to be released (93,679 shares)           141    313                454 
Share-based compensation - equity incentive plan                   331            331 
Common stock repurchased   (321,015)   (3)   (3,071)                   (3,074)
Issuance of common stock in connection with stock option exercises   921,849    9    5,456                    5,465 
Issuance of common stock in connection with equity incentive plan   89,042    1    903        (904)            
Cash dividends declared and paid ($0.06 per share)                       (1,784)       (1,784)
BALANCE AT JUNE 30, 2017   31,070,107   $311   $209,425   $(6,105)  $(1,109)  $58,786   $(10,107)  $251,201 

 

 See accompanying notes to unaudited consolidated financial statements.

 

4 

 

 

WESTERN NEW ENGLAND BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS - UNAUDITED

(Dollars in thousands)

 

   Six Months Ended
June 30,
 
   2017   2016 
OPERATING ACTIVITIES:          
Net income  $8,859   $2,353 
Adjustments to reconcile net income to net cash provided by operating activities:          
Provision for loan losses   650    25 
Depreciation and amortization of premises and equipment   970    648 
Accretion of purchase accounting adjustments, net   (998)    
Amortization of core deposit intangible   188     
Net amortization of premiums and discounts on securities and mortgage loans   1,964    1,950 
Net amortization of premiums on modified debt      52 
Share-based compensation expense   331    101 
ESOP expense   454    301 
Excess tax benefits from equity incentive plan       (4)
Net loss (gains) on sales of securities   18    (683)
Loss on sale of other real estate owned   6     
Loss on prepayment of borrowings       915 
Deferred income tax benefit   (973)    
Income from bank-owned life insurance   (919)   (764)
Changes in assets and liabilities:          
Accrued interest receivable   188    166 
Other assets   (1,668)   (510)
Other liabilities   (2,768)   (3,498)
Net cash provided by operating activities   6,302    1,052 
           

INVESTING ACTIVITIES:

          
Securities, held to maturity:          
Proceeds from calls, maturities, and principal collections       6,835 
Securities, available for sale:          
Purchases   (44,621)   (39,094)
Proceeds from sales   4,576    136,824 
Proceeds from calls, maturities, and principal collections   36,571    26,258 
Purchase of residential mortgages   (34,375)   (70,437)
Loan originations and principal payments, net   (7,786)   (16,895)
Redemption of Federal Home Loan Bank of Boston stock   49    3,807 
Proceeds from sale of other real estate owned   292     
Purchases of premises and equipment   (1,445)   (328)
Proceeds from sale of premises and equipment       20 
Net cash (used in) provided by investing activities   (46,739)   46,990 
           

FINANCING ACTIVITIES:

          
Net (decrease) increase in deposits   (22,216)   20,549 
Net change in short-term borrowings   18,657    16,300 
Repayment of long-term debt   (8,221)   (76,414)
Proceeds from long-term debt   1,238    121 
Cash dividends paid   (1,784)   (1,038)
Common stock repurchased   (3,529)    
Issuance of common stock in connection with stock option exercises   5,465     
Excess tax benefits in connection with equity incentive plan       4 
Net cash used in financing activities   (10,390)   (40,478)
           
NET CHANGE IN CASH AND CASH EQUIVALENTS:   (50,827)   7,564 
Beginning of period   70,234    13,703 
End of period  $19,407   $21,267 
           
Supplemental cashflow information:          
Securities reclassified from held-to-maturity to available-for-sale  $   $(232,817)
Net change in cash due to broker for common stock repurchased    (455)    
Interest paid   7,028    5,402 
Taxes paid   3,148    1,845 

 

See the accompanying notes to unaudited consolidated financial statements.

 

5 

 

 

WESTERN NEW ENGLAND BANCORP, INC. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

JUNE 30, 2017

 

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Nature of OperationsWestern New England Bancorp, Inc. (“Western New England Bancorp,” “WNEB,” the “Company,” “we” or “us”) is a Massachusetts-chartered stock holding company for Westfield 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 21 banking offices in western Massachusetts and northern Connecticut, and its primary sources of revenue are earnings on loans to small and middle-market businesses and to residential property homeowners and income from securities.

 

Wholly-Owned Subsidiaries and Acquisition – Elm Street Securities Corporation, WFD Securities, Inc. and CSB Colts, Inc., are Massachusetts-chartered securities corporations, formed for the primary purpose of holding qualified securities. WB Real Estate Holdings, LLC, is a Massachusetts-chartered limited liability company that holds real property acquired as security for debts previously contracted by the Bank. On October 21, 2016, we acquired Chicopee Bancorp, Inc. (“Chicopee”), the holding company for Chicopee Savings Bank. The acquisition added eight full-service banking offices located in western Massachusetts.

 

Principles of Consolidation – The unaudited consolidated financial statements include the accounts of Western New England Bancorp, the Bank, CSB Colts, Inc., Elm Street Securities Corporation, WB Real Estate Holdings, LLC and WFD Securities, Inc. 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 realizability 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 June 30, 2017, 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 six months ended June 30, 2017 are not necessarily indicative of the results of operations for the year ending December 31, 2017. 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, 2016, included in our Annual Report on Form 10-K for the year ended December 31, 2016 (the “2016 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 six months ended June 30, 2017 and 2016 have been computed based on the following:

 

   Three Months Ended   Six Months Ended 
   June 30,   June 30, 
   2017   2016   2017   2016 
   (In thousands, except per share data) 
                 
Net income applicable to common stock  $3,756   $389   $8,859   $2,353 
                     
Average number of common shares issued   30,882    18,294    30,696    18,281 
Less: Average unallocated ESOP Shares   (861)   (945)   (873)   (954)
Less: Average unvested equity incentive plan shares   (41)   (11)   (33)   (5)
                    
Average number of common shares outstanding used to calculate basic earnings per common share   29,980    17,338    29,790    17,322 
                     
Effect of dilutive equity incentive plan           6     
Effect of dilutive stock options   140        204     
                     
Average number of common shares outstanding used to calculate diluted earnings per common share   30,120    17,338    30,000    17,322 
                     
Basic earnings per share  $0.13   $0.02   $0.30   $0.14 
Diluted earnings per share  $0.12   $0.02   $0.30   $0.14 

 

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:

 

  

June 30,

2017

   December 31,
2016
 
   (In thousands) 
         
Net unrealized losses on securities available-for-sale  $(4,093)  $(5,863)
Tax effect   1,497    2,024 
Net-of-tax amount   (2,596)   (3,839)
           
Fair value of derivatives used for cash flow hedges   (2,922)   (3,152)
Termination fees on forward starting interest rate swaps   (4,203)   (4,733)
Total derivatives   (7,125)   (7,885)
Tax effect   2,846    2,681 
Net-of-tax amount   (4,279)   (5,204)
           
Unrecognized actuarial loss on defined benefit plan   (5,380)   (5,482)
Tax effect   2,148    1,864 
    Net-of-tax amount   (3,232)   (3,618)
           
Accumulated other comprehensive loss  $(10,107)  $(12,661)

 

The following table presents changes in accumulated other comprehensive loss for the periods ended June 30, 2017 and 2016 by component:

 

   Securities   Derivatives   Defined
Benefit  
Plans
   Accumulated
Other
Comprehensive  
Loss
 
   (In thousands) 
Balance at December 31, 2015  $(3,046)  $(5,501)  $(2,431)  $(10,978)
Current-period other comprehensive income (loss)   5,118    (1,767)   31    3,382 
Balance at June 30, 2016  $2,072   $(7,268)  $(2,400)  $(7,596)
                     
Balance at December 31, 2016  $(3,839)  $(5,204)  $(3,618)  $(12,661)
Current-period other comprehensive income   1,243    925    386    2,554 
Balance at June 30, 2017  $(2,596)  $(4,279)  $(3,232)  $(10,107)

 

8 

 

 

4.       SECURITIES

 

Securities available-for-sale are summarized as follows:

 

   June 30, 2017 
   Amortized
Cost
   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Fair Value 
   (In thousands) 
Available-for-sale securities:                    
Government-sponsored mortgage-backed securities  $205,940   $114   $(3,193)  $202,861 
U.S. government guaranteed mortgage-backed securities   16,714        (453)   16,261 
Corporate bonds   49,525    524    (59)   49,990 
State and municipal bonds   3,504    22    (44)   3,482 
Government-sponsored enterprise obligations   25,150        (721)   24,429 
Mutual funds   6,655        (283)   6,372 
Total available-for-sale  $307,488   $660   $(4,753)  $303,395 

 

   December 31, 2016 
   Amortized
Cost
   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Fair Value 
   (In thousands) 
Available-for-sale securities:                    
Government-sponsored mortgage-backed securities  $184,127   $33   $(4,024)  $180,136 
U.S. government guaranteed mortgage-backed securities   17,753        (403)   17,350 
Corporate bonds   50,255    265    (203)   50,317 
State and municipal bonds   4,117    13    (122)   4,008 
Government-sponsored enterprise obligations   43,140        (1,132)   42,008 
Mutual funds   6,586        (290)   6,296 
Total available-for-sale securities  $305,978   $311   $(6,174)  $300,115 

 

Our repurchase agreements are collateralized by government-sponsored enterprise obligations and certain mortgage-backed securities (see Note 8).

 

The amortized cost and fair value of securities available-for-sale at June 30, 2017, by maturity, are shown below. Actual maturities may differ from contractual maturities because certain issuers have the right to call or repay obligations.

 

   June 30, 2017 
   Amortized Cost   Fair Value 
   (In thousands) 
Mortgage-backed securities:          
     Due after one year through five years  $27,831   $27,740 
     Due after five years through ten years   7,522    7,463 
     Due after ten years   187,301    183,919 
Total  $222,654   $219,122 
           
Debt securities:          
     Due in one year or less  $3,859   $3,884 
     Due after one year through five years   28,260    28,525 
     Due after five years through ten years   39,309    38,906 
     Due after ten years   6,751    6,586 
Total  $78,179   $77,901 

 

9 

 

 

Gross realized gains and losses on sales of securities available-for-sale for the three and six months ended June 30, 2017 and 2016 are as follows:

 

   Three Months Ended   Six Months Ended 
   June 30,   June 30, 
   2017   2016   2017   2016 
   (In thousands) 
                 
Gross gains realized  $46   $   $46   $1,520 
Gross losses realized       (2)   (64)   (837)
Net gain realized  $46   $(2)  $(18)  $683 

 

Proceeds from the sale of securities available-for-sale amounted to $4.6 million and $136.8 million for the six months ended June 30, 2017 and 2016, respectively.

 

Information pertaining to securities with gross unrealized losses at June 30, 2017 and December 31, 2016, aggregated by investment category and length of time that individual securities have been in a continuous loss position are as follows:

 

   June 30, 2017 
   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  $2,447   $150,960   $746   $21,022 
U.S. government guaranteed mortgage-backed securities   188    10,568    265    5,692 
Corporate bonds   59    6,678         
State and municipal bonds   44    1,557         
Government-sponsored enterprise obligations   721    24,429         
Mutual funds   60    3,485    223    2,888 
Total available-for-sale  $3,519   $197,677   $1,234   $29,602 

 

  

December 31, 2016

 
   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  $3,016   $147,691   $1,008   $27,303 
U.S. government guaranteed mortgage-backed securities   192    12,536    211    4,814 
Corporate bonds   203    18,481         
State and municipal bonds   95    1,507    27    305 
Government-sponsored enterprise obligations   1,132    42,008         
Mutual funds   79    3,429    211    2,867 
Total available-for-sale  $4,717   $225,652   $1,457   $35,289 

 

10 

 

 

   June 30, 2017 
   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  58   $153,407   $2,447    1.6%  9   $21,768   $746    3.4%
U.S. government guaranteed mortgage-backed securities  3    10,756    188    1.7   3    5,957    265    4.4 
Government sponsored enterprise obligations  9    25,150    721    2.9   0             
Corporate bonds  3    6,737    59    0.9   0             
State and municipal bonds  3    1,601    44    2.7   0             
Mutual funds  1    3,545    60    1.7   2    3,111    223    7.2 
       $201,196   $3,519            $30,836   $1,234      

 

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.

 

5.        LOANS AND ALLOWANCE FOR LOAN LOSSES

 

Loans consisted of the following amounts:  June 30,   December 31, 
   2017   2016 
   (In thousands) 
Commercial real estate  $716,831   $720,741 
Residential real estate:          
Residential   545,966    522,083 
Home equity   92,240    92,083 
Commercial and industrial   244,014    222,286 
Consumer   4,531    4,424 
Total Loans   1,603,582    1,561,617 
Unearned premiums and deferred loan fees and costs, net   5,082    4,867 
Allowance for loan losses   (10,418)   (10,068)
   $1,598,246   $1,556,416 

 

During the six months ended June 30, 2017 and 2016, we purchased residential real estate loans aggregating $34.4 million and $70.4 million, respectively.

 

We have transferred a portion of our originated commercial real estate and commercial and industrial 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 June 30, 2017 and December 31, 2016, we serviced commercial loans for participants aggregating $33.9 million and $42.6 million, respectively.

 

Mortgage loans serviced for others are not included in the accompanying consolidated balance sheets. The unpaid balances of these loans totaled $69.9 million and $75.2 million at June 30, 2017 and December 31, 2016, respectively. Service fee income of $34,000 and $2,000 was recorded for the six months ended June 30, 2017 and 2016, respectively, and is included in service charges and fees on the consolidated statements of net income.

 

11 

 

 

Residential real estate mortgages are originated by the Bank both for its portfolio and for sale into the secondary market. The Bank may sell its loans to institutional investors such as the Federal Home Loan Mortgage Corporation. Under loan sale and servicing agreements with the investor, the Bank generally continues to service the residential real estate mortgages. The Bank pays the investor an agreed upon rate on the loan, which is less than the interest rate received from the borrower. The Bank retains the difference as a fee for servicing the residential real estate mortgages. The Bank capitalizes mortgage servicing rights at their fair value upon sale of the related loans, amortizes the asset over the estimated life of the serviced loan, and periodically assesses the asset for impairment. The significant assumptions used by a third party to estimate the fair value of capitalized servicing rights at June 30, 2017, include weighted average prepayment speed for the portfolio using the Public Securities Association Standard Prepayment Model (203 PSA), weighted average internal rate of return (10.05%), weighted average servicing fee (0.2501%), and average net cost to service loans ($58.30 per loan). The estimated fair value of capitalized servicing rights may vary significantly in subsequent periods primarily due to changing market interest rates, and their effect on prepayment speeds and discount rates.

 

A summary of the activity in the balances of mortgage servicing rights follows:

 

   Three Months
Ended
June 30,
2017
   Six Months
Ended
June 30,
2017
 
   (In thousands) 
         
Balance at the beginning of period:  $436   $465 
Capitalized mortgage servicing rights        
Amortization   (28)   (57)
Balance at the end of period  $408   $408 
Fair value at the end of period  $570   $570 

 

Prior to the acquisition of Chicopee in 2016, mortgage servicing rights were not material to the consolidated financial statements, and therefore, were not recorded.

 

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.

 

12 

 

 

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.

 

13 

 

 

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 June 30, 2017 and 2016 is as follows:

 

   Commercial
Real Estate
   Residential
Real Estate
   Commercial
and Industrial
   Consumer   Unallocated   Total 
   (In thousands) 
Three Months Ended    
Balance at March 31, 2016  $3,786   $2,429   $2,590   $18   $32   $8,855 
Provision (credit)   75    374    207    8    (39)   625 
Charge-offs               (18)       (18)
Recoveries   95    1        12        108 
Balance at June 30, 2016  $3,956   $2,804   $2,797   $20   $(7)  $9,570 
                               
Balance at March 31, 2017  $4,334   $3,086   $2,744   $43   $20   $10,227 
Provision (credit)   138    60    108    51    (7)   350 
Charge-offs       (42)   (120)   (53)       (215)
Recoveries       22    22    12        56 
Balance at June 30, 2017  $4,472   $3,126   $2,754   $53   $13   $10,418 
                               
Six Months Ended                              
Balance at December 31, 2015  $3,856   $2,431   $2,485   $22   $46   $8,840 
Provision (credit)   (676)   422    312    20    (53)   25 
Charge-offs   (170)   (50)       (40)       (260)
Recoveries   946    1        18        965 
Balance at June 30, 2016  $3,956   $2,804   $2,797   $20   $(7)  $9,570 
                               
Balance at December 31, 2016  $4,083   $2,862   $3,085   $38   $   $10,068 
Provision (credit)   307    281    (71)   120    13    650 
Charge-offs   (36)   (41)   (285)   (133)       (495)
Recoveries   118    24    25    28        195 
Balance at June 30, 2017  $4,472   $3,126   $2,754   $53   $13   $10,418 

 

14 

 

 

Further information pertaining to the allowance for loan losses by segment at June 30, 2017 and December 31, 2016 follows:

 

   Commercial
Real Estate
   Residential
Real Estate
   Commercial
and Industrial
   Consumer   Unallocated   Total 
   (In thousands) 
June 30, 2017                        
                         
Amount of allowance for impaired loans  $   $   $   $   $   $ 
Amount of allowance for non-impaired loans   4,472    3,126    2,754    53    13    10,418 
Total allowance for loan losses  $4,472   $3,126   $2,754   $53   $13   $10,418 
                               
Impaired loans  $3,974   $3,172   $3,823   $116   $   $11,085 
Non-impaired loans   698,314    630,866    239,084    4,415        1,572,679 
Loans acquired with deteriorated credit quality   14,543    4,168    1,107            19,818 
Total loans  $716,831   $638,206   $244,014   $4,531   $   $1,603,582 
                               
December 31, 2016                              
                               
Amount of allowance for impaired loans  $   $   $   $   $   $ 
Amount of allowance for non-impaired loans   4,083    2,862    3,085    38        10,068 
Total allowance for loan losses   4,083    2,862    3,085    38        10,068 
                               
Impaired loans   3,335    452    3,042            6,829 
Non-impaired loans   701,766    609,107    217,972    4,424        1,533,269 
Loans acquired with deteriorated credit quality   15,640    4,607    1,272            21,519 
Total loans  $720,741   $614,166   $222,286   $4,424   $   $1,561,617 

 

15 

 

 

The following is a summary of past due and non-accrual loans by class at June 30, 2017 and December 31, 2016:

 

   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) 
June 30, 2017                        
Commercial real estate  $342   $   $136   $478   $   $2,185 
Residential real estate:                              
Residential   215    243    638    1,096        1,576 
Home equity   290    246        536        36 
Commercial and industrial   374    15    104    493        3,651 
Consumer   59    6    29    94        37 
Total legacy loans   1,280    510    907    2,697        7,485 
                               
Loans acquired from Chicopee Savings Bank   2,860    557    1,126    4,543        6,507 
                               
Total  $4,140   $1,067   $2,033   $7,240   $   $13,992 
                               
December 31, 2016                              
Commercial real estate  $302   $555   $137   $994   $   $2,740 
Residential real estate:                              
Residential   791    262    689    1,742        1,658 
Home equity   208    36        244        37 
Commercial and industrial   326    32        358        3,214 
Consumer   27    9    7    43        14 
Total legacy loans   1,654    894    833    3,381        7,663 
                               
Loans acquired from Chicopee Savings Bank   3,854    1,907    551    6,312        6,394 
                               
Total past due loans  $5,508   $2,801   $1,384   $9,693   $   $14,057 

  

The following is a summary of impaired loans by class at June 30, 2017 and December 31, 2016:

 

   Impaired Loans(1) 
           Three Months Ended   Six Months Ended(1) 
   At June 30, 2017(1)   June 30, 2017   June 30, 2017 
   Recorded
Investment
   Unpaid
Principal
Balance
   Average
Recorded
Investment
   Interest
Income
Recognized
   Average
Recorded
Investment
   Interest
Income
Recognized
 
   (In thousands) 
Impaired loans without a valuation allowance:                    
Commercial real estate  $18,517   $20,982   $19,202   $234   $19,316   $451 
Residential real estate   7,093    7,612    6,822    11    6,314    23 
Home equity   247    338    249    1    187    2 
Commercial and industrial   4,930    11,336    4,740    67    4,586    129 
Consumer   116    120    93        64     
                               
Total impaired loans  $30,903   $40,388   $31,106   $313   $30,467   $605 

 

 

(1) Includes loans acquired with deteriorated credit quality and performing troubled debt restructurings.

  

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   Impaired Loans 
           Three Months Ended   Six Months Ended 
   At December 31, 2016(1)   June 30, 2016   June 30, 2016 
   Recorded
Investment
   Unpaid
Principal
Balance
   Average
Recorded
Investment
   Interest
Income
Recognized
   Average
Recorded
Investment
   Interest
Income
Recognized
 
   (In thousands) 
Impaired loans without a valuation allowance:                    
Commercial real estate  $18,975   $21,330   $3,549   $20   $3,583   $32 
Residential real estate   5,059    5,676    507        466     
Commercial and industrial   4,314    11,049    3,531        3,472     
                               
Total impaired loans  $28,348   $38,055   $7,587   $20   $7,521   $32 

 

 

(1) Includes loans acquired with deteriorated credit quality from the Chicopee Bancorp, Inc. merger.

 

No interest income was recognized for impaired loans on a cash-basis method during the three and six months ended June 30, 2017 or 2016. Interest income recognized on impaired loans during the three and six months ended June 30, 2017 and 2016 related to TDRs.

 

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. There were no loans modified in TDRs during the three and six months ended June 30, 2017. A substandard impaired loan relationship in the amount of $5.1 million was designated a TDR during the three months ended June 30, 2016. The bank entered into a forbearance agreement which offered an interest only period. Due to the borrower continuing to experience declining sales, the interest only period was extended during the second quarter of 2016, resulting in the TDR classification. The loans are on non-accrual and are current. The loans are measured for impairment quarterly and appropriate reserves/charge offs have been taken.

 

   Three Months Ended   Six Months Ended 
   June 30, 2016   June 30, 2016 
   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   $1,975   $1,975    1   $1,975   $1,975 
Commercial and Industrial   2    3,135    3,135    3    3,150    3,150 
Residential               2    164    164 
Total   3   $5,110   $5,110    6   $5,289   $5,289 

 

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A default occurs when a loan is 30 days or more past due. No TDRs defaulted within twelve months of restructuring during the three and six months ended June 30, 2017 or 2016.

 

There were no charge-offs on TDRs during the three and six months ended June 30, 2017 and 2016.

 

Loans Acquired with Deteriorated Credit Quality

 

The following is a summary of loans acquired with evidence of credit deterioration from Chicopee as of June 30, 2017.

 

    Contractual
Required
Payments
Receivable
   Cash Expected
To Be
Collected
   Non-
Accretable
Discount
   Accretable
Yield
   Loans
Receivable
 
    (In thousands) 
                      
Balance at December 31, 2016   $37,437   $29,040   $8,397   $7,521   $21,519 
Collections    (2,314)   (1,981)   (333)   (692)   (1,289)
Dispositions    (632)   (406)   (226)   6    (412)
Balance at June 30, 2017   $34,491   $26,653   $7,838   $6,835   $19,818 

 

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 $66.2 million and $88.9 million at June 30, 2017 and December 31, 2016, 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.

 

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The following table presents our loans by risk rating at June 30, 2017 and December 31, 2016:

 

   Commercial
Real Estate
   Residential
1-4 Family
   Home
Equity
   Commercial
and Industrial
   Consumer   Total 
   (In thousands) 
June 30, 2017                        
Loans rated 1 – 3  $661,602   $540,028   $92,048   $191,012   $4,410   $1,489,100 
Loans rated 4   32,529            37,764    5    70,298 
Loans rated 5   12,594            5,920        18,514 
Loans rated 6   10,106    5,938    192    9,318    116    25,670 
   $716,831   $545,966   $92,240   $244,014   $4,531   $1,603,582 
                               
December 31, 2016                              
Loans rated 1 – 3  $673,957   $516,339   $91,964   $180,675   $4,391   $1,467,326 
Loans rated 4   24,207            16,621    6    40,834 
Loans rated 5   14,068            6,727        20,795 
Loans rated 6   6,604    5,744    119    15,379    27    27,873 
Loans rated 7   1,905            2,884        4,789 
   $720,741   $522,083   $92,083   $222,286   $4,424   $1,561,617 

 

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6.       GOODWILL AND OTHER INTANGIBLES

 

Goodwill

Goodwill for the six months ended June 30, 2017 is summarized as follows:

 

    Six Months Ended
June 30,
2017
 
      (In thousands) 
Balance at December 31, 2016   $13,747 
Current period adjustments    (1,260)
Balance at June 30, 2017   $12,487 

 

At June 30, 2017 and December 31, 2016, the Company’s goodwill related to the acquisition of Chicopee in October 2016. Annually, or more frequently if events or changes in circumstances warrant such evaluation, the Company evaluates its goodwill for impairment. No goodwill impairment was recorded for the six months ended June 30, 2017.

 

During the three months ended March 31, 2017, management completed their evaluation of premises and equipment acquired from Chicopee, which resulted in a $2.4 million adjustment to the provisional fair values of bank premises acquired and a $1.4 million reduction in goodwill. The remaining adjustments to goodwill of $140,000 during the three months ended March 31, 2017 resulted from information obtain during the quarter about events and circumstances that existed as of the acquisition date.

 

Core Deposit Intangibles

In connection with the assumption of $545.7 million of deposit liabilities from the Chicopee acquisition in October 2016, of which $345.2 million were core deposits, the Bank recorded a core deposit intangible of $4.5 million. The resulting core deposit intangible is amortized over twelve years using the straight-line method. Core deposit intangibles are summarized as follows:

 

    Six Months Ended
June 30,
2017
 
      (In thousands) 
 Balance at December 31, 2016   $4,438 
 Amortization    (188)
 Balance at June 30, 2017   $4,250 

 

Amortization expense was $188,000 for the six months ended June 30, 2017. At June 30, 2017, future amortization of the core deposit intangible totals $375,000 for each of the next five years and $2.4 million thereafter.

 

7. SHARE-BASED COMPENSATION

 

Stock Options – Under the terms of the Chicopee merger agreement dated October 21, 2016, each option to purchase shares of Chicopee common stock issued by Chicopee and outstanding at the effective time of the merger pursuant to the Chicopee 2007 Equity Incentive Plan fully vested and converted into an option to purchase shares of WNEB common stock on the same terms and conditions as were applicable before the merger, except (1) the number of shares of WNEB common stock subject to the new option was adjusted to be equal to the product of the number of shares of Chicopee common stock subject to the existing option and the exchange ratio (rounding fractional shares to the nearest whole share) and (2) the exercise price per share of WNEB common stock under the new option was adjusted to be equal to the exercise price per share of Chicopee common stock of the existing option divided by the exchange ratio (rounded to the nearest whole cent).

 

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A summary of stock option activity for the six months ended June 30, 2017 is presented below. No options were outstanding during the six months ended June 30, 2016.

                           
      Shares     Weighted Average Exercise Price     Weighted
Average
Remaining Contractual
Term
(in years)
    Aggregate
Intrinsic
Value
(in thousands)
 
                           
Outstanding at December 31, 2016     1,178,899   $ 6.01     1.98   $ 3,930  
Exercised     (921,849 )   5.93     0.91     3,675  
Outstanding at June 30, 2017     257,050   $ 6.31     4.91   $ 982  
                           
Exercisable at June 30, 2017     257,050   $ 6.31     4.91   $ 982  

 

Cash received for options exercised during the six months ended June 30, 2017 was $5.5 million.

 

Restricted Stock Awards In May 2014, our shareholders approved a stock-based compensation plan under which up to 516,000 shares of our common stock were reserved for grants of stock awards, including stock options and restricted stock, which may be granted to any officer, key employee or non-employee director of WNEB. 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.

 

In January 2015, 48,560 shares were granted under this plan and vest ratably over five years. The fair market value of shares awarded, based on the market price at the date of grant, was recorded as unearned compensation and is being amortized over the applicable vesting period.

 

In 2016, the Compensation Committee (the “Committee”) approved the long-term incentive program (the “LTI Plan”). The LTI Plan provides a periodic award that is both performance and retention based in that it is designed to recognize the executive’s responsibilities, reward demonstrated performance and leadership and to retain such executives. The objective of the LTI Plan is to align compensation for the named executive officers and directors over a multi-year period directly with the interests of our shareholders by motivating and rewarding creation and preservation of long-term financial strength, shareholder value and relative shareholder return.

 

The LTI Plan includes eligible officers of the Company who are nominated by the Company’s Chief Executive Officer and approved by the Committee. The LTI Plan is triggered by the Company’s achievement of satisfactory safety and soundness results from its most recent regulatory examination. Employee stock grants made through the 2016 LTI plan will be a combination of 50% time-vested restricted stock and 50% performance-based restricted stock.

 

In May 2016, 62,740 shares were granted under the LTI Plan. Of this total, 36,543 shares are retention-based, with 10,352 vesting in one year and 26,191 vesting ratably over a three year period. The remaining 26,197 shares granted are performance based and are subject to the achievement of the 2016 LTI performance metric before vesting is realized after a three year period. For the performance shares, the primary performance metric for 2016 awards is return on equity. Performance shares will be earned based upon how the Company performs relative to threshold and target absolute goals (i.e. Company-specific, not relative to a peer index) over the three-year performance period. The threshold amount for the performance period will be a return on equity of 5.85% and a target amount of 6.32%. Participants will be able to earn between 50% (for threshold performance) and 100% of the target amount for the performance shares but will not earn additional shares if performance exceeds target performance.

 

In May 2017, 89,042 shares were granted under the LTI Plan. Of this total, 55,159 shares are retention-based, with 21,276 vesting in one year and 33,883 vesting ratably over a three year period. The remaining 33,883 shares granted are performance based and are subject to the achievement of the 2017 LTI performance metric before vesting is realized after a three year period. For the performance shares, the primary performance metric for 2017 awards is return on equity. Performance shares will be earned based upon how the Company performs relative to threshold, target and maximum absolute goals (i.e. Company-specific, not relative to a peer index) on an annual performance period, but will be distributed at the end of the three year period.

 

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The threshold, target and maximum for the three year period under the 2017 Plan is as follows:

 

     Return on Equity Targets 
       
Performance Period Ending    Threshold    Target    Maximum 
                 
December 31, 2017    6.00%   6.60%   7.30%
December 31, 2018    6.30%   7.00%   7.60%
December 31, 2019    6.50%   7.20%   7.90%

 

Participants will be able to earn between 50% (for threshold performance), 100% (for target performance) and 150% (for the maximum performance).

 

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. Shares granted under performance-based conditions are monitored on a quarterly basis in order to compare actual results to the performance metric established, with any necessary adjustments being recognized through share-based compensation expense and unearned compensation. At June 30, 2017, an additional 315,658 shares were available for future grants under this plan.

 

Our stock award plan activity for the six months ended June 30, 2017 and 2016 is summarized below:

 

     Unvested Stock Awards Outstanding 
            
     Shares    Weighted Average Grant Date Fair Value 
Outstanding at December 31, 2016    91,371   $7.51 
Shares granted    89,042    10.15 
Shares vested    (21,552)   7.44 
Outstanding at June 30, 2017    158,861   $9.00 
            
Outstanding at December 31, 2015    54,160   $7.28 
Shares granted    62,740    7.73 
Shares vested    (11,200)   7.18 
Outstanding at June 30, 2016    105,700   $7.56 

 

We recorded compensation cost related to the stock awards of $331,000 and $101,000 for the six months ended June 30, 2017 and 2016, respectively.

 

8. 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 $174.2 million at June 30, 2017 and $155.0 million at December 31, 2016. We have an “Ideal Way” line of credit with the FHLBB for $9.5 million at June 30, 2017 and December 31, 2016. Interest on this line of credit is payable at a rate determined and reset by the FHLBB on a daily basis. The outstanding principal is due daily, but the portion not repaid will be automatically renewed. There were no advances outstanding on the line of credit as of June 30, 2017 or December 31, 2016. Customer repurchase agreements were $16.8 million at June 30, 2017 and $17.4 million at December 31, 2016. 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 June 30, 2017 or December 31, 2016.  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.

 

22

 

 

Long-term debt consists of FHLBB advances with an original maturity of one year or more. At June 30, 2017, we had $117.7 million in long-term debt with the FHLBB. This compares to $124.8 million in long-term debt with FHLBB advances at December 31, 2016.

 

Customer repurchase agreements are collateralized by government-sponsored enterprise obligations with fair value of $6.8 million and $24.6 million, and mortgage backed securities with a fair value of $67.9 million and $57.6 million, at June 30, 2017 and December 31, 2016, 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.

 

All FHLBB advances are collateralized by a blanket lien on our owner occupied residential real estate loans and certain eligible commercial real estate loans.

 

9. PENSION BENEFITS

 

We maintain a pension plan for our eligible employees. On September 30, 2016, we effected a soft freeze on the Plan and therefore no new participants will be included in the Plan after such effective date. 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 2017. No contributions have been made to the plan for the six months ended June 30, 2017. 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.

 

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

                           
    Three Months Ended
June 30,
 

Six Months Ended,
June 30,

 
      2017     2016     2017     2016  
    (In thousands)  
Service cost   $ 266   $ 276   $ 533   $ 569  
Interest cost     253     240     507     480  
Expected return on assets     (299 )   (275 )   (597 )   (549 )
Actuarial loss     51     31     102     47  
Net periodic pension cost   $ 271   $ 272   $ 545   $ 547  

 

10. 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.

 

23

 

 

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 June 30, 2017 and December 31, 2016.

 

 June 30, 2017  Asset Derivatives  Liability Derivatives
   Balance Sheet Location  Fair Value   Balance Sheet Location  Fair Value 
   (In thousands)
                 
Interest rate swaps     Other Assets  $7   Other Liabilities  $2,929 

 

 December 31, 2016  Asset Derivatives  Liability Derivatives
   Balance Sheet Location  Fair Value   Balance Sheet Location  Fair Value 
   (In thousands)
                 
Interest rate swaps  Other Assets  $   Other Liabilities  $3,152 

 

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 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 June 30, 2017 and December 31, 2016:

 

June 30, 2017  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  $75,000    2.9    1.20%   2.46%  $          (2,922)

 

 December 31, 2016  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  $75,000    3.4    0.92%   2.46%  $          (3,152)

 

During 2016, we terminated a forward-starting interest rate swap with a notional amount of $32.5 million and incurred a termination fee of $3.4 million. During 2015, we terminated forward-starting interest rate swaps with a notional amount of $47.5 million and incurred a termination fee of $2.4 million. The termination fees are amortized as a reclassification of other comprehensive income into interest expense over the terms of the previously hedged borrowings, which were six and five years for the swaps terminated in 2016 and 2015, respectively.

 

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 six months ended June 30, 2017 or 2016.

 

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

 

24

 

 

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

 

   Amount of Gain (Loss) Recognized in OCI on Derivative (Effective Portion) 
   Three Months Ended
June 30,
   Six Months Ended
June 30,
 
   2017   2016   2017   2016 
   (In thousands) 
Interest rate swaps  $(346)  $(729)  $(293)  $(3,280)

 

Amounts reported in accumulated other comprehensive loss related to these derivatives are reclassified to interest expense as interest payments are made on our rate sensitive assets/liabilities. The amount reclassified from accumulated other comprehensive income into net income for the effective portion of interest rate swaps and termination fees was $515,000 and $356,000 during the three months ended June 30, 2017 and 2016, respectively and $1.1 million and $603,000 during the six months ended June 30, 2017 and 2016, respectively. During the next 12 months, we estimate that $1.9 million will be reclassified as an increase in interest expense. During the six months ended June 30, 2017 and 2016, no gains or losses were reclassified from accumulated other comprehensive loss into income for ineffectiveness on cash flow hedges.

 

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.

 

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 June 30, 2017, 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 $2.9 million. As of June 30, 2017, we have minimum collateral posting thresholds with certain of our derivative counterparties and mortgage-backed securities with a fair value of $4.8 million posted as collateral against our obligations under these agreements. If we had breached any of these provisions at June 30, 2017, we could have been required to settle our obligations under the agreements at the termination value.

 

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11. 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 and mortgage-backed 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.

 

Federal Home Loan Bank and other 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, 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 time deposits approximate their fair values at the reporting date. Fair values for fixed-rate time deposits are estimated using a discounted cash flow calculation that applies market interest rates currently being offered on time deposits to a schedule of aggregated expected monthly maturities on time deposits.

 

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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:

  

   June 30, 2017 
   Level 1   Level 2   Level 3   Total 
Assets:  (In thousands) 
Securities available-for-sale                    
Government-sponsored mortgage-backed securities  $   $202,861   $   $202,861 
U.S. government guaranteed mortgage-backed securities       16,261        16,261 
Corporate bonds       49,990        49,990 
State and municipal bonds       3,482        3,482 
Government-sponsored enterprise obligations       24,429        24,429 
Mutual funds   6,372            6,372 
Total securities available-for-sale   6,372    297,023        303,395 
                     
Interest rate swaps       7        7 
Total assets  $6,372   $297,030   $   $303,402 
                     
Liabilities:                    
Interest rate swaps  $   $2,929   $   $2,929 

  

   December 31, 2016 
   Level 1   Level 2   Level 3   Total 
Assets:  (In thousands) 
Government-sponsored mortgage-backed securities  $   $180,136   $   $180,136 
U.S. government guaranteed mortgage-backed securities       17,350        17,350 
Corporate bonds       50,317        50,317 
State and municipal bonds       4,008        4,008 
Government-sponsored enterprise obligations       42,008        42,008 
Mutual funds   6,296            6,296 
Total assets  $6,296   $293,819   $   $300,115 
                     
Liabilities:                    
Interest rate swaps  $   $3,152   $   $3,152 

 

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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. There were no assets measured at fair value on a non-recurring basis at June 30, 2017. The following table summarizes the fair value hierarchy used to determine each adjustment and the carrying value of the related assets at June 30, 2016. Total losses represent the change in carrying value as a result of fair value adjustments related to assets still held at June 30, 2016.

 

    At June 30, 2016    Three Months Ended
June 30, 2016
    Six Months Ended
June 30, 2016
 
    Level 1    Level 2    Level 3    Total
Gains (Losses)
    Total
Gains (Losses)
 
    (In thousands)           
Impaired Loans  $   $   $119   $(50)  $(220)
Total Assets  $   $   $119   $(50)  $(220)

  

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.

  

There were no transfers to or from Level 1 and 2 during the three and six months ended June 30, 2017 and 2016. We did not measure any liabilities at fair value on a non-recurring basis on the consolidated balance sheets.

 

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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:

  

   June 30, 2017 
   Carrying
Value
   Fair Value 
       Level 1   Level 2   Level 3   Total 
   (In thousands) 
Assets:                    
Cash and cash equivalents  $19,407   $19,407   $   $   $19,407 
Securities available-for-sale   303,395    6,372    297,023        303,395 
Federal Home Loan Bank of Boston and other restricted stock   16,075            16,075    16,075 
Loans - net   1,598,246            1,571,612    1 ,571,612 
Accrued interest receivable   5,594            5,594    5,594 
Mortgage servicing rights   408        570        570 
Derivative assets   7        7        7 
                          
Liabilities:                         
Deposits   1,495,337            1,498,194    1,498,194 
Short-term borrowings   191,008        191,000        191,000 
Long-term debt   117,704        118,113        118,113 
Accrued interest payable   420            420    420 
Derivative liabilities   2,929        2,929        2,929 

  

   December 31, 2016 
   Carrying
Value
   Fair Value 
       Level 1   Level 2   Level 3   Total 
   (In thousands) 
Assets:                    
Cash and cash equivalents  $70,234   $70,234   $   $   $70,234 
Securities available-for-sale   300,115    6,296    293,819        300,115 
Federal Home Loan Bank of Boston and other restricted stock   16,124            16,124    16,124 
Loans - net   1,556,416            1,525,274    1,525,274 
Accrued interest receivable   5,782            5,782    5,782 
Mortgage servicing rights   465        628        628 
                          
Liabilities:                         
Deposits   1,518,071            1,521,580    1,521,580 
Short-term borrowings   172,351        172,351        172,351 
Long-term debt   124,836        125,183        125,183 
Accrued interest payable   1,012            1,012    1,012 
Derivative liabilities   3,152        3,152        3,152 

 

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12. RECENT ACCOUNTING PRONOUNCEMENTS

 

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic 606). The amendments in this Update create Topic 606, Revenue from Contracts with Customers, and supersede the revenue recognition requirements in Topic 605, Revenue Recognition, including most industry-specific revenue recognition guidance throughout the Industry Topics of the Codification. The core principle of Topic 606 is that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. This ASU is effective for annual reporting periods, including interim periods, beginning after December 15, 2017. We do not expect the application of this guidance to have a material impact on our consolidated financial statements.

  

In January 2016, the FASB issued ASU 2016-01, Financial Instruments – Overall, (Subtopic 825-10). The amendments in this Update address certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. Targeted improvements to generally accepted accounting principles include the requirement for equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income and the elimination of the requirement for public business entities to disclose the methods and significant assumptions used to estimate the fair value for financial instruments measured at amortized cost. The amendments in this Update are effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. We do not expect the application of this guidance to have a material impact on our consolidated financial statements.

 

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), which supersedes the requirements in Topic 840, Leases. The objective of Topic 842 is to establish the principles that lessees and lessors shall apply to report useful information to users of financial statements about the amount, timing, and uncertainty of cash flows arising from a lease. The core principle of Topic 842 is that a lessee should recognize the assets and liabilities that arise from leases. The amendments in this Update are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early application of the amendments in this Update is permitted for all entities. Management is currently evaluating the impact to the consolidated financial statements of adopting this Update but does not expect adoption to have a material impact on our consolidated financial statements.

 

In March 2016, the FASB issued ASU 2016-09, Compensation – Stock Compensation: Improvements to Employee Share-Based Payment Accounting (Topic 718).  This Update was issued as part of the FASB’s simplification initiative.  The areas for simplification in this Update involve several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows.  The Company adopted this Update during the six months ended June 30, 2017 and recorded a tax benefit of $821,000 on stock options exercised.

  

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326), which requires entities to measure all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts.  The ASU also requires enhanced disclosures to help financial statement users better understand significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an entity’s portfolio. These disclosures include qualitative and quantitative requirements that provide additional information about the amounts recorded in the financial statements.  This ASU is effective for fiscal years beginning after December 15, 2019, and for interim periods within that fiscal years.  Early application will be permitted for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. The Company is in the process of evaluating the standard.  We have put together a project team that has begun to identify appropriate loan segments along with related historical losses for each segment and potential models that would be most appropriate for each individual segment.  We have not quantified the effects of any models, but do expect the standard to significantly change the approach to calculating our allowance for loan losses. 

 

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In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230), Classification of Certain Cash Receipts and Cash Payments. This Update provides guidance on eight specific cash flow issues: Debt prepayment or debt extinguishment costs; settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing; contingent consideration payments made after a business combination; proceeds from the settlement of insurance claims; proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies; distributions received from equity method investees; beneficial interests in securitization transactions; separately identifiable cash flows and application of the predominance principle. The amendments in this Update are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. Early adoption is permitted. We do not expect the application of this guidance to have a material impact on our consolidated financial statements.

 

In March 2017, the FASB issued ASU No. 2017-08—Receivables—Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities. This Update amends guidance on the amortization period of premiums on certain purchased callable debt securities. Specifically, the amendments shorten the amortization period of premiums on certain purchased callable debt securities to the earliest call date. The amendments affect all entities that hold investments in callable debt securities that have an amortized cost basis in excess of the amount that is repayable by the issuer at the earliest call date (that is, at a premium). The amendments are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. We do not expect the application of this guidance to have a material impact on our consolidated financial statements.

 

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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 areas of western Massachusetts and 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.

  

You should read the following financial results for the three and six months ended June 30, 2017 in the context of this strategy.

  

Net income was $3.8 million, or $0.12 per diluted share, for the three months ended June 30, 2017, compared to $389,000, or $0.02 per diluted share, for the same period in 2016. For the six months ended June 30, 2017, net income was $8.9 million, or $0.30 per diluted share, as compared to net income of $2.4 million, or $0.14 per diluted share, for the same period in 2016.

 

The provision for loan losses was $350,000 and $625,000 for the three months ended June 30, 2017 and 2016, respectively, and $650,000 and $25,000 for the six months ended June 30, 2017, respectively. The lower provision for the six months ended June 30, 2016 was primarily the result of an $852,000 partial recovery on a previously charged-off single commercial real estate loan during the first quarter 2016.

 

Net interest income was $14.7 million and $8.0 million for the three months ended June 30, 2017 and 2016, respectively. The net interest margin, on a tax-equivalent basis, was 3.11% for the three months ended June 30, 2017, compared to 2.62% for the same period in 2016. Net interest income was $29.2 million and $16.2 million for the six months ended June 30, 2017 and 2016, respectively. The net interest margin, on a tax-equivalent basis, was 3.09% and 2.61% for the six months ended June 30, 2017 and 2016, respectively.

 

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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 six months ended June 30, 2017. 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 2016 Annual Report.

 

COMPARISON OF FINANCIAL CONDITION AT JUNE 30, 2017 AND DECEMBER 31, 2016

  

Total assets were $2.1 billion at June 30, 2017, compared to $2.1 billion at December 31, 2016. The decrease in total assets was primarily due to a $50.8 million, or 72.4%, decrease in cash and cash equivalents, offset by a $42.2 million, or 2.7%, increase in total loans and a $3.3 million, or 1.1%, increase in securities available-for-sale.

 

Total loans of $1.6 billion increased $42.2 million, or 2.7%, at June 30, 2017, from $1.6 billion at December 31, 2016. The increase was due to a $24.0 million, or 3.9%, increase in residential loans, including home equity loans, an increase of $21.7 million, or 9.8%, in commercial and industrial loans, partially offset by a decrease of $3.9 million, or 0.5%, in commercial real estate loans. The decrease in the commercial real estate portfolio was largely related to the expected payoff of a $7.5 million completed commercial real estate construction project during first quarter 2017.

 

All loans where the payments are 90 days or more in arrears as of the closing date of each month are placed on nonaccrual status. Nonperforming loans were $14.0 million at June 30, 2017 and $14.1 million at December 31, 2016. If all nonaccrual loans had been performing in accordance with their terms, we would have earned additional interest income of $392,000 and $219,000 for the six months ended June 30, 2017 and 2016, respectively. At June 30, 2017 and December 31, 2016, our nonperforming loans to total loans were 0.87% and 0.90%, respectively, while our nonperforming assets to total assets were 0.67% and 0.69%, respectively. A summary of our nonaccrual and past due loans by class are listed in Note 5 of the accompanying unaudited consolidated financial statements.

 

During the three months ended March 31, 2017, management completed their evaluation of premises and equipment acquired from Chicopee, which resulted in a $2.4 million adjustment to the provisional fair values of bank premises acquired and a $1.4 million reduction to goodwill. The remaining adjustments to goodwill of $140,000 during the three months ended March 31, 2017 resulted from information obtain during the quarter about events and circumstances that existed as of the acquisition date. There were no adjustments to goodwill during the three months ended June 30, 2017. A summary of our goodwill and other intangibles are listed in Note 6 of the accompanying unaudited consolidated financial statements.

 

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Total deposits decreased $22.7 million, or 1.5%, at June 30, 2017, from $1.5 billion at December 31, 2016. Core deposits, defined as all deposits except time deposits, represented 62.3% of total deposits, and decreased $13.0 million, or 1.4%, from $945.1 million at December 31, 2016 to $932.1 million at June 30, 2017. Demand deposits decreased $4.5 million, or 1.5%, to $299.5 million, money market accounts decreased $14.3 million, or 3.5%, to $395.0 million, and savings accounts decreased $1.5 million, or 1.0%, to $148.0 million, interest-bearing checking accounts increased $7.3 million, or 8.9%, to $89.8 million. The changes in demand and money market accounts were primarily due to seasonality and volatility with the Company’s commercial and municipal customer base. Time deposits decreased $9.7 million, or 1.7%, from $573.0 million at December 31, 2016 to $563.2 million at June 30, 2017. The decrease in time deposits is due to non-relationship customers and brokered deposits seeking higher yields. We are focused on allowing high cost non-relationship deposits to mature and be replaced with low cost relationship-based core deposits.

 

Borrowings increased $11.5 million, or 3.9%, to $308.7 million at June 30, 2017 from $297.2 million at December 31, 2016. Short-term borrowings increased $18.6 million, or 10.8%, to $191.0 million at June 30, 2017 from $172.4 million at December 31, 2016 due to an increase in short-term FHLBB funding. Long-term debt decreased $7.1 million, or 5.7%, to $117.7 million at June 30, 2017 from $124.8 million at December 31, 2016. Our short-term borrowings and long-term debt are discussed in Note 8 of the accompanying unaudited consolidated financial statements.

 

Shareholders’ equity was $251.2 million, or 12.1% of total assets, at June 30, 2017 and $238.4 million, or 11.5% of total assets, at December 31, 2016. The increase in shareholders’ equity during the six months reflects net income of $8.9 million, the exercise of stock options for $5.5 million and other comprehensive income of $2.6 million. These increases were offset by the repurchase of common stock for $3.1 million and the payment of regular dividends of $1.8 million for the six months ended June 30, 2017.

  

COMPARISON OF OPERATING RESULTS FOR THE THREE MONTHS ENDED JUNE 30, 2017 AND JUNE 30, 2016

 

General

 

Net income was $3.8 million, or $0.12 per diluted share, for the quarter ended June 30, 2017, compared to $389,000, or $0.02 per diluted share, for the same period in 2016. Net interest income was $14.7 million and $8.0 million for the three months ended June 30, 2017 and 2016, 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 June 30, 2017 and 2016, 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. 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.

 

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   Three Months Ended June 30, 
   2017   2016 
   Average       Average Yield/   Average       Average Yield/ 
   Balance   Interest   Cost   Balance   Interest   Cost 
   (Dollars in thousands) 
ASSETS:                        
Interest-earning assets                              
Loans(1)(2)  $1,602,057   $16,472    4.11%  $869,877