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PVTB > SEC Filings for PVTB > Form 10-Q on 1-Nov-2012All Recent SEC Filings

Show all filings for PRIVATEBANCORP, INC

Form 10-Q for PRIVATEBANCORP, INC


1-Nov-2012

Quarterly Report


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

INTRODUCTION

PrivateBancorp, Inc. ("PrivateBancorp" or the "Company"), is a Delaware corporation and bank holding company headquartered in Chicago, Illinois. Through our wholly-owned bank subsidiary, The PrivateBank and Trust Company (the "Bank" or the "PrivateBank"), we provide customized business and personal financial services to middle market companies and business owners, executives, entrepreneurs and families in all the markets and communities we serve. As of September 30, 2012, we had 35 offices located in ten states, primarily in the Midwest, with a majority of our business conducted in the greater Chicago market.

We deliver a full spectrum of commercial and personal banking products and services to our clients through our commercial banking, community banking and private wealth businesses. We offer clients a full range of lending, treasury management, investment and capital markets products to meet their commercial needs and residential mortgage banking, private banking, trust and investment services to meet their personal needs.

Management's discussion and analysis should be read in conjunction with the unaudited interim consolidated financial statements and accompanying notes presented elsewhere in this report, as well as our audited consolidated financial statements and accompanying notes included in our 2011 Annual Report on Form 10-K. Results of operations for the nine months ended September 30, 2012 are not necessarily indicative of results to be expected for the year ending December 31, 2012. Unless otherwise stated, all earnings per share data included in this section and throughout the remainder of this discussion are presented on a fully-diluted basis.

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

Statements contained in this report that are not historical facts may constitute forward-looking statements within the meaning of federal securities laws. Forward-looking statements represent management's beliefs and expectations regarding future events,


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such as our anticipated future financial results, credit quality, revenues, expenses, or other financial items, and the impact of business plans and strategies or legislative or regulatory actions. Forward-looking statements are typically identified by words such as "may," "might," "will," "should," "could," "would," "expect," "plan," "anticipate," "intend," "believe," "estimate," "predict," "project," "potential," or "continue" and other comparable terminology.

Our ability to predict results or the actual effects of future plans, strategies or events is inherently uncertain. Factors which could cause actual results to differ from those reflected in forward-looking statements include, but are not limited to:

unforeseen credit quality problems or further deterioration in problem assets that could result in charge-offs greater than we have anticipated in our allowance for loan losses;

adverse developments impacting one or more large credits;

the extent of further deterioration in real estate values in our market areas, particularly in the Chicago area;

difficulties in resolving problem credits or slower than anticipated dispositions of other real estate owned which may result in increased losses or higher credit-related operating costs;

continued uncertainty regarding U.S. and global economic recovery and economic outlook, and ongoing volatility in market conditions, that may impact credit quality or prolong weakness in demand for loans or other banking products and services;

unanticipated withdrawals of significant client deposits;

lack of sufficient or cost-effective sources of liquidity or funding;

loss of key personnel or an inability to recruit and retain appropriate talent;

unanticipated changes in interest rates, prolonged low interest rate environment or significant tightening of credit spreads;

competitive pricing trends;

uncertainty relating to recently proposed regulatory capital rules that could, depending on the nature of our assets, require us to maintain higher levels of regulatory capital;

uncertainty regarding implications of recently adopted or proposed rules and regulations, or those remaining to be proposed in connection with the implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act, that may negatively affect our revenues or profitability;

other legislative, regulatory accounting or tax changes affecting financial services companies and/or the products and services offered by financial services companies;

changes in monetary or fiscal policies of the U.S. Government; or

failures or disruptions to our data processing or other information or operational systems, including the potential impact of disruptions or breaches at our third party service providers.

Forward-looking statements are subject to significant risks, assumptions and uncertainties and could be affected by many factors, including those set forth in the "Risk Factors" section of our Form 10-K for the year ended December 31, 2011, "Risk Factors" and "Management's Discussion and Analysis of Financial Condition and Results of Operations" sections of this Form 10-Q as well as those set forth in our subsequent periodic and current reports filed with the SEC. These factors should be considered in evaluating forward-looking statements and undue reliance should not be placed on our forward-looking statements. Forward-looking statements speak only as of the date they are made and we assume no obligation to update any of these statements in light of new information, future events or otherwise unless required under the federal securities laws.
CRITICAL ACCOUNTING POLICIES

Our consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles ("U.S. GAAP"), and our accounting policies are consistent with predominant practices in the financial services industry. Critical accounting policies are those policies that require management to make the most significant estimates, assumptions, and judgments based on information available at the date of the financial statements that affect the amounts reported in the financial statements and accompanying notes. Future changes in information may affect these estimates, assumptions, and judgments, which, in turn, may affect amounts reported in the consolidated financial statements.

Our most significant accounting policies are presented in Note 1, "Summary of Significant Accounting Policies," to the Notes to Consolidated Financial Statements in our 2011 Annual Report on Form 10-K. These policies, along with the disclosures presented in the other consolidated financial statement notes and in this discussion, provide information on how significant assets and liabilities are valued in the consolidated financial statements and how those values are determined. Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions, and estimates underlying those amounts,


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management has determined that our accounting policies with respect to the allowance for loan losses, goodwill and intangible assets, income taxes and fair value measurement of certain assets and liabilities are the accounting areas requiring subjective or complex judgments that are most important to our financial position and results of operations, and, as such, are considered to be critical accounting policies, as discussed below.

Allowance for Loan Losses

We maintain an allowance for loan losses at a level management believes is sufficient to absorb credit losses inherent in our loan portfolio. The allowance for loan losses is assessed quarterly and represents an accounting estimate of probable losses in the portfolio at each balance sheet date based on a review of available and relevant information at that time. The allowance consists of reserves for probable losses that have been identified relating to specific borrowing relationships that are individually evaluated for impairment ("the specific component"), as well as probable losses inherent in our loan portfolio that are not specifically identified ("the general allocated component"), which is determined using a methodology that is a function of quantitative and qualitative factors applied to segments of our loan portfolio as well as management's judgment.

The specific component relates to impaired loans. Impaired loans consist of nonaccrual loans (which include nonaccrual troubled debt restructurings ("TDRs")) and loans classified as accruing TDRs. A loan is considered impaired when, based on current information and events, management believes that it is probable that we will be unable to collect all amounts due (both principal and interest) according to the original contractual terms of the loan agreement. Once a loan is determined to be impaired, the amount of impairment is measured based on the loan's observable fair value, fair value of the underlying collateral less selling costs if the loan is collateral-dependent, or the present value of expected future cash flows discounted at the loan's effective interest rate.

If the measurement of the impaired loan is less than the recorded investment in the loan, impairment is recognized by creating a specific valuation reserve as a component of the allowance for loan losses. Impaired loans exceeding $500,000 are evaluated individually, while loans less than $500,000 are evaluated as pools using historical loss experience, as well as management's loss expectations, for the respective asset class and product type. Of total impaired loans of $238.3 million at September 30, 2012, 91% had balances in excess of $500,000.

All impaired loans and their related reserves are reviewed and updated each quarter. Any impaired loan for which a determination has been made that the economic value is permanently reduced is charged-off against the allowance for loan losses to reflect its current economic value in the period in which the determination is made.

At the time a collateral-dependent loan is initially determined to be impaired, we review the existing collateral appraisal. If the most recent appraisal is greater than a year old, a new appraisal is obtained on the underlying collateral. The Company generally obtains "as is" appraisal values for use in the evaluation of collateral dependent impaired loans. Appraisals for loans in excess of $500,000 are updated with a new independent appraisal at least annually and are formally reviewed by our internal appraisal department upon receipt of a new appraisal as well as at the six-month interval between the independent appraisals. If during the course of the six-month review period there is evidence supporting a meaningful decline in the value of collateral, the appraised value is either internally adjusted downward or a new appraisal is required to support the value of the impaired loan. With an immaterial number of exceptions, all appraisals and internal reviews are current under this methodology at September 30, 2012.

To determine the general allocated component of the allowance for loan losses, we segregate loans by originating line of business and vintage ("transformational" and "legacy") for reserve purposes because of observable similarities in the performance experience of loans underwritten by these business units. In general, loans originated by the business units that existed prior to the strategic changes of the Company in 2007 are considered "legacy" loans. Loans originated by a business unit that was established in connection with or following the strategic business transformation plan are considered "transformational" loans. Renewals or restructurings of legacy loans may continue to be evaluated as legacy loans depending on the structure or defining characteristics of the new transaction. The Company has implemented a line of business model that has reorganized the legacy business units so that after 2009, all new loan originations are considered transformational.

The methodology produces an estimated range of potential loss exposure for the product types within each originating line of business. We consider the appropriate balance of the general allocated component of the reserve within these ranges based on a variety of internal and external quantitative and qualitative factors to reflect data or timeframes not captured by the basic allowance framework as well as market and economic data and management judgment. In certain instances, these additional factors and judgments may lead to management's conclusion that the appropriate level of the reserve is outside the range determined through the basic allowance framework.


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Determination of the allowance is inherently subjective, as it requires significant estimates, including the amounts and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, risk ratings, product type and vintage, as well as consideration of current economic trends and portfolio attributes, all of which may be susceptible to significant change. For instance, loss rates in our allowance methodology typically reflect the Company's more recent loss experience, by product, on a trailing twelve or eighteen month basis. These loss rates consider both cumulative charge-offs to date and other real estate owned valuation adjustments in the individual product categories that comprise our allowance. Default estimates use a multi-year cumulative calculation of defaults by originating line of business, vintage and rating. In addition, we compare current model-derived and historically-established reserve levels to recent charge-off trends and history in considering the appropriate final level of reserve at each product level.

Credit exposures deemed to be uncollectible are charged-off against the allowance, while recoveries of amounts previously charged-off are credited to the allowance. A provision for loan losses, which is a charge against earnings, is recorded to bring the allowance for loan losses to a level that, in management's judgment, is appropriate to absorb probable losses in the loan portfolio as of the balance sheet date.

Goodwill and Intangible Assets

Goodwill represents the excess of purchase price over the fair value of net assets acquired using the acquisition method of accounting. Other intangible assets represent purchased assets that also lack physical substance but can be distinguished from goodwill because of contractual or other legal rights or because the asset is capable of being sold or exchanged either on its own or in combination with a related contract, asset, or liability.

Goodwill is allocated to reporting units at acquisition. Subsequently, goodwill is not amortized but, instead, is tested at the reporting unit level at least annually for impairment or more often if an event occurs or circumstances change that indicate it is more likely than not that the fair value of a reporting unit is less than its carrying amount. In the event that we conclude that all or a portion of our goodwill is impaired, a non-cash charge for the amount of such impairment would be recorded in earnings. Such a charge would have no impact on tangible or regulatory capital. The Company is not aware of any events or circumstances that would indicate impairment of goodwill at September 30, 2012.

The impairment testing process is conducted by assigning net assets and goodwill to each reporting unit. In "step one," the fair value of each reporting unit is compared to the recorded book value. Our step one calculation of each reporting unit's fair value is based upon a simple average of two metrics: (1) a primary market approach, which measures fair value based upon trading multiples of independent publicly traded financial institutions of comparable size and character to the reporting units, and (2) an income approach, which estimates fair value based upon discounted cash flows ("DCF") and terminal value (using the perpetuity growth method). If the fair value of the reporting unit exceeds its carrying value, goodwill is not considered impaired and "step two" is not considered necessary. If the carrying value of a reporting unit exceeds its fair value, the impairment test continues ("step two") by comparing the carrying value of the reporting unit's goodwill to the implied fair value of goodwill. The implied fair value of goodwill is determined using the residual approach, where the fair value of a reporting unit is allocated to all of the assets and liabilities of that unit as if the reporting unit had been acquired in a business combination and the fair value of the reporting unit, calculated in step one, is the price paid to acquire the reporting unit. The excess of the fair value of the reporting unit over the amounts assigned to its assets and liabilities is the implied fair value of goodwill. An impairment charge is recognized to the extent the carrying value of goodwill exceeds the implied fair value of goodwill.

Under new accounting guidance effective January 1, 2012, the Company has the option at the time of its annual impairment testing to perform a qualitative assessment for each reporting unit to determine of whether it is more likely than not that the fair value of a reporting unit is less than its carrying value before applying the existing two-step goodwill impairment test. If the Company concludes that this is the case, the Company would proceed with the existing two-step test, as described above. Otherwise, the Company would be able to bypass the two-step test and conclude that goodwill is not impaired from a qualitative perspective.

Goodwill impairment testing is considered a "critical accounting estimate" as estimates and assumptions are made about future performance and cash flows, as well as other prevailing market factors. For our annual impairment testing, we engage an independent valuation firm to assist in the computation of the fair value estimates of each reporting unit. In connection with obtaining an independent third-party valuation, management provides certain information and assumptions that are utilized in the DCF and implied fair value calculations. Assumptions critical to the process include: forecasted earnings, which are developed for each segment by considering several key business drivers such as historical performance, forward interest rates (using forward interest rate curves to forecast future expected interest rates), anticipated loan and deposit growth, and industry and economic trends; discount rates; and credit quality assessments, among other considerations. We provide the best information available at the time to be used in these estimates and calculations.


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Identified intangible assets that have a finite useful life are amortized over that life in a manner that reflects the estimated decline in the economic value of the identified intangible asset and are subject to impairment testing whenever events or changes in circumstances indicate that the carrying value may not be recoverable. During the third quarter of 2012, there were no events or circumstances to indicate that there may be impairment of intangible assets. The Company's intangible assets include core deposit premiums, client relationship, and assembled workforce intangibles. All of these intangible assets have finite lives and are amortized on a straight line basis over varying periods not exceeding 15 years.

Income Taxes

The determination of income tax expense or benefit, and the amounts of current and deferred income tax assets and liabilities are based on complex analyses of many factors, including interpretations of federal and state income tax laws, current financial accounting standards, the difference between tax and financial reporting bases of assets and liabilities (temporary differences), assessments of the likelihood that the reversals of deferred deductible temporary differences will yield tax benefits, and estimates of reserves required for tax uncertainties. In addition, for interim reporting purposes, management generally determines its income tax provision, before consideration of any discrete items, based on its current best estimate of pre-tax income, permanent differences and the resulting effective tax rate expected for the full year.

We are subject to the federal income tax laws of the United States and the tax laws of the states and other jurisdictions where we conduct business. We periodically undergo examination by various governmental taxing authorities. Such authorities may require that changes in the amount of tax expense be recognized when their interpretations of tax law differ from those of management, based on their judgments about information available to them at the time of their examinations. There can be no assurance that future events, such as court decisions, new interpretations of existing law or positions by federal or state taxing authorities, will not result in tax liability amounts that differ from our current assessment of such amounts, the impact of which could be significant to future results.

Temporary differences may give rise to deferred tax assets or liabilities, which are recorded on our Consolidated Statements of Financial Condition. We assess the likelihood that deferred tax assets will be realized in future periods based on weighing both positive and negative evidence and establish a valuation allowance for those deferred tax assets for which recovery is unlikely, based on a standard of "more likely than not." In making this assessment, we must make judgments and estimates regarding the ability to realize these assets through:
(a) the future reversal of existing taxable temporary differences, (b) future taxable income, (c) the possible application of future tax planning strategies, and (d) carryback to taxable income in prior years. We have not established a valuation allowance relating to our deferred tax assets at September 30, 2012. However, there is no guarantee that the tax benefits associated with these deferred tax assets will be fully realized. We have concluded, as of September 30, 2012, that it is more likely than not that such tax benefits will be realized.

In the preparation of income tax returns, tax positions are taken based on interpretations of federal and state income tax laws for which the outcome of such positions may not be certain. We periodically review and evaluate the status of uncertain tax positions and may establish tax reserves for tax benefits that may not be realized. The amount of any such reserves are based on the standards for determining such reserves as set forth in current accounting guidance and our estimates of amounts that may ultimately be due or owed (including interest). These estimates may change from time to time based on our evaluation of developments subsequent to the filing of the income tax return, such as tax authority audits, court decisions or other tax law interpretations. There can be no assurance that any tax reserves will be sufficient to cover tax liabilities that may ultimately be determined to be owed. At September 30, 2012, we had $122,000 of tax reserves established relating to uncertain tax positions that would favorably affect the Company's effective tax rate if recognized in future periods.

For additional discussion of income taxes, see "Management's Discussion and Analysis of Financial Condition and Results of Operations - Income Taxes," Note 13 of "Notes to Consolidated Financial Statements" in Item 1 of this Form 10-Q, and Notes 1 and 15 of "Notes to Consolidated Financial Statements" in our 2011 Annual Report on Form 10-K.

Fair Value Measurements

Certain of the Company's assets and liabilities are measured at fair value at each reporting date, including securities available-for-sale, derivatives, and certain loans held-for-sale. Additionally, other assets are measured at fair value on a nonrecurring basis, including impaired loans and other real estate owned ("OREO"), which are subject to fair value adjustments under certain circumstances.

The Company measures fair value in accordance with U.S. GAAP, which defines fair value as 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.


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U.S. GAAP establishes a fair value hierarchy that categorizes fair value measurements based on the observability of the valuation inputs used in determining fair value. Level 1 valuations are based on unadjusted quoted prices for identical instruments traded in active markets. Level 2 valuations are based on quoted prices for similar instruments, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data. Level 3 valuations use at least one significant unobservable input that is supported by little or no market activity.

Judgment is required to determine whether certain assets measured at fair value are included in Level 2 or Level 3. When making this judgment, we consider all available information, including observable market data, indications of market liquidity and orderliness, and our understanding of the valuation techniques and significant inputs used. Classification of Level 2 or Level 3 is based upon the specific facts and circumstances of each instrument or instrument category and judgments are made regarding the significance of the Level 3 inputs to the instrument's fair value measurement in its entirety. If Level 3 inputs are considered significant, the instrument is classified as Level 3.

Judgment is also required when determining the fair value of an asset or liability when either relevant observable inputs do not exist or available observable inputs are in a market that is not active. When relevant observable inputs are not available, the Company must use its own assumptions about future cash flows and appropriately risk-adjusted discount rates. Conversely, in some cases observable inputs may require significant adjustments. For example, in cases where the volume and level of trading activity in an asset or liability is very limited, actual transaction prices vary significantly over time or among market participants, or the prices are not current, the observable inputs may not be relevant and could require adjustment.

The Company uses a variety of methods to measure the fair value of financial instruments on a recurring basis and to validate the overall reasonableness of the fair values obtained from external sources on at least a quarterly basis, including evaluating pricing service inputs and methodologies, using exception reports based on analytical criteria, comparing prices obtained to prices received from other pricing sources, and reviewing the reasonableness of prices based on Company knowledge of market liquidity and other market-related conditions. The use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date. The inability to precisely measure the fair value of certain assets, such as OREO, may lead to changes in the fair value of those assets over time as unobservable inputs change, which can result in volatility in the amount of income or loss recorded for a particular position from quarter to quarter.

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