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WASH > SEC Filings for WASH > Form 10-Q on 7-Nov-2012All Recent SEC Filings

Show all filings for WASHINGTON TRUST BANCORP INC

Form 10-Q for WASHINGTON TRUST BANCORP INC


7-Nov-2012

Quarterly Report


ITEM 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion should be read in conjunction with the Corporation's consolidated financial statements, and notes thereto, included in the Annual Report on Form 10-K for the year ended December 31, 2011, and in conjunction with the condensed unaudited consolidated financial statements and notes thereto included in Item 1 of this report. Operating results for the three and nine months ended September 30, 2012 are not necessarily indicative of the results for the full-year ended December 31, 2012 or any future period.

Forward-Looking Statements
This report contains statements that are "forward-looking statements." We may also make written or oral forward-looking statements in other documents we file with the SEC, in our annual reports to shareholders, in press releases and other written materials, and in oral statements made by our officers, directors or employees. You can identify forward-looking statements by the use of the words "believe," "expect," "anticipate," "intend," "estimate," "assume," "outlook," "will," "should," and other expressions that predict or indicate future events and trends and which do not relate to historical matters. You should not rely on forward-looking statements, because they involve known and unknown risks, uncertainties and other factors, some of which are beyond the control of the Corporation. These risks, uncertainties and other factors may cause the actual results, performance or achievements of the Corporation to be materially different from the anticipated future results, performance or achievements expressed or implied by the forward-looking statements.

Some of the factors that might cause these differences include the following:
continued weakness in general national, regional or international economic conditions or conditions affecting the banking or financial services industries or financial capital markets, volatility and disruption in national and international financial markets, government intervention in the U.S. financial system, reductions in net interest income resulting from interest rate volatility as well as changes in the balance and mix of loans and deposits, reductions in the market value of wealth management assets under administration, changes in the value of securities and other assets, reductions in loan demand, changes in loan collectibility, default and charge-off rates, changes in the size and nature of the Corporation's competition, changes in legislation or regulation and accounting principles, policies and guidelines such as the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, and changes in the assumptions used in making such forward-looking statements. In addition, the factors described under "Risk Factors" in Item 1A of our Annual Report on Form 10-K for the fiscal year ended December 31, 2011, as updated by our Quarterly Reports on Form 10-Q and other filings submitted to the SEC, may result in these differences. You should carefully review all of these factors, and you should be aware that there may be other factors that could cause these differences. These forward-looking statements were based on information, plans and estimates at the date of this report, and we assume no obligation to update any forward-looking statements to reflect changes in underlying assumptions or factors, new information, future events or other changes.

On October 29, 2012, Hurricane Sandy caused damage to some properties in the Corporation's market area, primarily along the shoreline of Rhode Island and Connecticut. The Corporation is assessing the possible impact of this event on its loan portfolio by identifying affected loans and evaluating collateral values. The Corporation will closely monitor any affected loans to determine if any changes in loan classifications or loan loss allocations are necessary.

Critical Accounting Policies and Estimates Accounting policies involving significant judgments, estimates and assumptions by management, which have, or could have, a material impact on the carrying value of certain assets and impact income are considered critical accounting policies. The Corporation considers the following to be its critical accounting policies: allowance for loan losses, review of goodwill and intangible assets for impairment and valuation of investment securities for impairment. There have been no significant changes in the Corporation's critical accounting policies and estimates from those disclosed in our Annual Report on Form 10-K for the year ended December 31, 2011.

Recently Issued Accounting Pronouncements See Note 2 to the Unaudited Consolidated Financial Statements for details of recently issued accounting pronouncements and their expected impact on the Corporation's consolidated financial position, results of operations or cash flows.

Overview
Washington Trust offers a comprehensive product line of financial services to individuals and businesses including commercial, residential and consumer lending, retail and commercial deposit products, and wealth management services through its offices in Rhode Island, eastern Massachusetts and Connecticut, ATMs, and its Internet website at www.washtrust.com.


Our largest source of operating income is net interest income, the difference between interest earned on loans and securities and interest paid on deposits and other borrowings. In addition, we generate noninterest income from a number of sources, including wealth management services, loan sales and commissions on loans originated for others, merchant credit card processing and deposit services. Our principal noninterest expenses include salaries and employee benefits, occupancy and facility-related costs, merchant processing costs, technology and other administrative expenses.

Our financial results are affected by interest rate volatility, changes in economic and market conditions, competitive conditions within our market area and changes in legislation, regulation and/or accounting principles. While the regional economic climate has improved in recent quarters, uncertainty surrounding future economic growth, consumer confidence, credit availability and corporate earnings remains. Management believes that overall credit quality continues to be affected by weaknesses in national and regional economic conditions, including high unemployment levels, particularly in Rhode Island.

We believe that the Corporation's financial strength and stability, capital resources and reputation as the largest independent bank headquartered in Rhode Island were key factors in the recent expansion of our retail and mortgage banking businesses and in delivering solid results in 2011 and to date in 2012. We opened a mortgage lending office in Warwick, Rhode Island, in February 2012 and our third full-service branch in Cranston, Rhode Island, in July 2012.

Composition of Earnings
Net income for the third quarter of 2012 amounted to $8.9 million, or 54 cents per diluted share, up from the $7.6 million, or 46 cents per diluted share, reported for the third quarter of 2011. The returns on average equity and average assets for the third quarter of 2012 were 12.02% and 1.17%, respectively, compared to 10.67% and 1.03%, respectively, for the same quarter in 2011.

For the nine months ended September 30, 2012, net income amounted to $26.1 million, or $1.58 per diluted share, up from $21.9 million, or $1.34 per diluted share, reported for the same period in 2011. The returns on average equity and average assets for the nine months of 2012 were 11.95% and 1.15%, respectively, compared to 10.52% and 1.01%, respectively, for the same period in 2011.

The increase in profitability over the 2011 periods primarily reflected strong mortgage banking results (net gains on loan sales and commissions on loans originated for others), higher net interest income and a lower provision for loan losses, partially offset by increases in salaries and employee benefit costs and income taxes.

In addition, 2012 and 2011 results also included the following items:
Balance sheet management transactions were executed in the second and third quarters of 2012 and the second quarter of 2011. See additional disclosure regarding 2012 transactions under the caption"Borrowings" in the Sources of Funds section. In the third quarter of 2012, the Corporation prepaid $32.4 million in Federal Home Loan Bank of Boston ("FHLBB") advances and recognized debt prepayment penalty expense of $1.2 million. There was no debt prepayment penalty expense recorded in the third quarter of 2011. For the nine months ended September 30, 2012 and 2011, the Corporation recognized net realized gains on securities of $217 thousand and $226 thousand, respectively, and debt prepayment penalty expense of $2.1 million and $221 thousand, respectively.

2012 Bank owned life insurance ("BOLI") income included a non-taxable gain of $528 thousand recognized in the third quarter of 2012, due to the receipt of life insurance proceeds.

Included in other income for the nine months ended September 30, 2012 and 2011 were gains on the sale of bank property amounting to $348 thousand and $203 thousand, respectively. These gains were recognized in the second quarters of each year.

There were no net impairment losses on investment securities recognized in earnings in the third quarter of 2012, while such losses totaled $158 thousand in the third quarter of 2011. Net impairment losses on investment securities recognized in earnings in the first nine months of 2012 and 2011 totaled $209 thousand and $191 thousand, respectively.

A charge of $131 thousand, classified in net occupancy expense, was recognized in the second quarter of 2012 for the termination of an operating lease associated with a branch closure in September 2012.

Net interest income for the three and nine months ended September 30, 2012 increased by $1.2 million, or 6%, and by $4.6 million, or 7%, from the same periods in 2011, primarily reflecting the benefit of lower funding costs as well as growth in average loan balances. The net interest margin (fully taxable equivalent net interest income as a percentage of average interest-earnings assets) for the quarter ended September 30, 2012 was 3.28%, up by 6 basis points from the third quarter a year earlier. For the


nine months ended September 30, 2012, the net interest margin was 3.28%, up from 3.20% reported for the same period in 2011.

The loan loss provision charged to earnings for the three and nine months ended September 30, 2012 amounted to $600 thousand and $2.1 million, respectively. Comparable amounts for the same periods in 2011 were $1.0 million and $3.7 million, respectively. Net charge-offs for the three and nine months ended September 30, 2012 totaled $296 thousand and $1.2 million, respectively, compared to $712 thousand and $2.6 million, respectively, for the same periods in 2011. Management believes that the level of the provision for loan losses has been consistent with the trend in asset quality and credit quality indicators.

For the three and nine months ended September 30, 2012, noninterest income increased by $4.0 million, or 31%, and $9.4 million, or 25%, respectively, from the comparable 2011 periods, reflecting increases in mortgage banking and wealth management revenues, as well as BOLI income.

Revenue from wealth management services is our largest source of noninterest income. For the three and nine months ended September 30, 2012, wealth management revenues totaled $7.2 million and $21.9 million, respectively, up by 6% and 2%, respectively, compared to the same periods in 2011. Wealth management assets under administration totaled $4.2 billion at September 30, 2012, up by $342.5 million, or 9%, from the balance at December 31, 2011, largely reflecting net investment appreciation and income resulting from favorable conditions in the financial markets. While the end of period balance of wealth management assets at September 30, 2012 was 9% higher than the end of period balance at December 31, 2011, the average balance of wealth management assets for the three and nine months ended September 30, 2012 was 4% and 1% higher, respectively, than the average balance for the same periods in 2011.

Mortgage banking revenues, which are dependent on mortgage origination volume and are sensitive to interest rates and the condition of the housing markets, amounted to $3.5 million and $9.6 million, respectively, for the three and nine months ended September 30, 2012, up by $2.4 million and $7.5 million, respectively, from the same periods in 2011. To a certain extent, the mortgage origination volume during 2012 reflects an increase in refinancing activity in response to sustained low market rates of interest. The increase over 2011 also reflected continued origination volume growth in our residential mortgage lending offices.

Noninterest expenses for the three and nine months ended September 30, 2012 increased by $3.7 million, or 16%, and $9.3 million, or 14%, respectively, from the comparable 2011 periods, primarily due to increases in salaries and employee benefit costs. Also included in the increase in noninterest expenses were the debt prepayment penalties and lease termination charge described above. The increase in salaries and employee benefit costs from 2011 reflected higher amounts of commissions paid to mortgage originators, higher staffing levels in support of mortgage origination and other business lines, higher incentive accruals and higher defined benefit plan costs primarily due to a lower discount rate in 2012 compared to 2011.

Income tax expense amounted to $3.9 million and $11.8 million, respectively, for the three and nine months ended September 30, 2012, up by $539 thousand and $2.2 million, respectively, from the same periods in 2011. The effective tax rate for the three months ended September 30, 2012 and 2011 was 30.3% and 30.5%, respectively. The effective tax rate for the third quarter of 2012 was 30.3%, reflecting the non-taxable gain related to the receipt of BOLI proceeds in the quarter. For the nine months ended September 30, 2012 and 2011, the effective tax rate was 31.2% and 30.5%, respectively. The increase in the year-to-date effective tax rate from 2011, reflected a higher portion of taxable income to pretax book income in 2012.

Results of Operations
Segment Reporting
Washington Trust manages its operations through two business segments, Commercial Banking and Wealth Management Services. Activity not related to the segments, such as the investment securities portfolio, wholesale funding activities and administrative units are considered Corporate. The Corporate unit also includes the residual impact of methodology allocations such as funds transfer pricing offsets. Methodologies used to allocate income and expenses to business lines are periodically reviewed and revised. The Corporate unit's net interest income increased in 2012, as compared to 2011, due to funding costs declining more than asset yields. The Corporate unit's 2012 year-to-date noninterest income increased $860 thousand from the comparable 2011 period, largely due to the $528 thousand gain recognized on the receipt of life insurance proceeds. Noninterest expenses for the Corporate unit totaled $10.4 million for the nine months ended September 30, 2012, an increase of $2.4 million compared to the same period in 2011, primarily reflecting an increase in debt prepayment penalties as discussed below. See Note 14 to the Unaudited Consolidated Financial Statements for additional disclosure related to business segments.


The Commercial Banking segment reported net income of $7.2 million and $20.4 million, respectively, for the three and nine months ended September 30, 2012. Comparable amounts for the same periods in 2011 were $6.1 million and $16.8 million, respectively. Commercial Banking net interest income for the three and nine months ended September 30, 2012, respectively, increased by $776 thousand, or 4%, and $2.7 million,or 5%, from the same periods in 2011, reflecting the benefit of lower funding costs, as well as growth in average loan balances. The provision for loan losses for the three and nine months ended September 30, 2012 declined by $400 thousand, or 40%, and $1.6 million, or 43%, respectively from the comparable 2011 periods. Noninterest income derived from the Commercial Banking segment totaled $8.7 million and $23 million, respectively, for the three and nine months ended September 30, 2012, up by $2.8 million, or 48%, and $8.1 million, or 54%, respectively, from the comparable 2011 periods, primarily due to higher mortgage banking revenues. Commercial Banking noninterest expenses for the three and nine months ended September 30, 2012, were up by $2.2 million, or 15%, and $6.6 million, or 16%, respectively, from the same periods in 2011, reflecting increases in salaries and employee benefit expenses.

The Wealth Management Services segment reported net income of $1.3 million and $3.9 million, respectively, for the three and nine months ended September 30, 2012. Noninterest income derived from the Wealth Management Services segment was $7.2 million and $21.9 million, respectively for the third quarter and nine months of 2012, up by 6% and 2%, respectively. when compared to the same periods in 2011. This noninterest income is largely dependent on the value of wealth management assets under administration and is closely tied to the performance of the financial markets. Wealth management assets under administration totaled $4.2 billion at September 30, 2012, up by $342.5 million, or 9%, from December 31, 2011. Noninterest expenses for the Wealth Management Services segment totaled $5.2 million and $15.6 million, respectively, for the three and nine months ended September 30, 2012, up by $183 thousand, or 4%, and up by $349 thousand, or 2%, respectively, from the same periods in 2011.

Net Interest Income
Net interest income continues to be the primary source of Washington Trust's operating income. Net interest income is affected by the level of interest rates, changes in interest rates and changes in the amount and composition of interest-earning assets and interest-bearing liabilities. Included in interest income are loan prepayment fees and certain other fees, such as late charges. The following discussion presents net interest income on a fully taxable equivalent ("FTE") basis by adjusting income and yields on tax-exempt loans and securities to be comparable to taxable loans and securities. For more information, see the section entitled "Average Balances / Net Interest Margin - Fully Taxable Equivalent (FTE) Basis" below.

FTE net interest income for the three and nine months ended September 30, 2012 increased by $1.2 million, or 5%, and $4.6 million, or 7%, respectively, from the same periods in 2011. The net interest margin was 3.28% for both the three and nine months ended September 30, 2012, compared to 3.22% and 3.20%, respectively, for the same periods in 2011. The increase in net interest income and improvement in the net interest margin were largely due to reduction in funding costs and growth in average loan balances.

Average interest-earning assets amounted to $2.8 billion for both the three and nine months ended September 30, 2012, up by 4% from the average balances for the same periods in 2011. Total average loans for the three and nine months ended September 30, 2012, increased by $173.7 million and $159.1 million, respectively, compared to the average balances for the same periods in 2011, with increases in both the commercial and residential real estate loan portfolios. The yield on total loans for the three and nine months ended September 30, 2012 decreased by 21 basis points and 19 basis points, respectively, from the comparable 2011 periods. These declines reflect the impact of a sustained low interest rate environment on loan yields.

Total average securities for the three and nine months ended September 30, 2012 decreased by $80.7 million and $46.5 million, respectively, from the average balances for the same periods a year earlier, primarily due to principal payments received on mortgage-backed securities not being reinvested. The FTE rate of return on securities for the three and nine months ended September 30, 2012 decreased by 24 basis points and 30 basis points, respectively, from the same periods last year. The decrease in total yield on securities reflects maturities and pay-downs of higher yielding securities.

Average interest-bearing liabilities for the three and nine months ended September 30, 2012, increased by $26.2 million, or 1%, and by $30.1 million, or 1%, respectively, from the comparable periods in 2011, with growth in lower-cost deposit balances, offset, in part, by decreases in time deposits and borrowings. The weighted average cost of funds for the three and nine months ended September 30, 2012 declined by 26 basis points, or 17%, and 27 basis points, or 17%, respectively, compared to the same periods in 2011, primarily due to declines in the rate paid on time deposits and FHLBB advances.


The average balance of FHLBB advances for the three and nine months ended September 30, 2012 was down by $49.5 million, or 10%, and by $854 thousand, or less than 1%, respectively, compared to the average balance for the same periods in 2011. The average rate paid on such advances for the three and nine months ended September 30, 2012 decreased by 31 basis points and 58 basis points, respectively, from the comparable periods in 2011, reflecting lower market interest rates on new advances and the benefit of the balance sheet management transactions executed in 2011 and 2012. See additional discussion under the caption "Borrowings" in the Sources of Funds section.

Total average interest-bearing deposits for the three and nine months ended September 30, 2012 increased by $97.0 million and $46.4 million, respectively, compared to the average balances for the same periods in 2011. This increase reflected growth in lower-cost deposit balances, partially offset by a decrease in time deposits. The average rate paid on interest-bearing deposits for the three and nine months ended September 30, 2012 decreased by 13 basis points and 16 basis points, respectively, compared to the same periods in 2011, primarily due to declines in the rate paid on time deposits. The average balance of noninterest-bearing demand deposits for the three and nine months ended September 30, 2012 increased by $57.1 million, or 20%, and $69.4 million, or 27%, respectively, when compared to the average balance for the same periods in 2011.


Average Balances / Net Interest Margin - Fully Taxable Equivalent (FTE) Basis The following tables present average balance and interest rate information. Tax-exempt income is converted to a FTE basis using the statutory federal income tax rate adjusted for applicable state income taxes net of the related federal tax benefit. For dividends on corporate stocks, the 70% federal dividends received deduction is also used in the calculation of tax equivalency. Average balances and yields for securities available for sale are based on amortized cost. Nonaccrual and renegotiated loans, as well as interest earned on these loans (to the extent recognized in the Consolidated Statements of Income) are included in amounts presented for loans.

Three months ended September 30,                       2012                                               2011
(Dollars in thousands)            Average Balance      Interest      Yield/ Rate     Average Balance      Interest      Yield/ Rate
Assets:
Commercial loans                       $1,193,006       $14,814          4.94 %           $1,066,916       $14,027          5.22 %
Residential real estate loans,
including mortgage loans held
for sale                                  739,744         8,041          4.32 %              688,856         7,950          4.58 %
Consumer loans                            320,431         3,133          3.89 %              323,744         3,184          3.90 %
Total loans                             2,253,181        25,988          4.59 %            2,079,516        25,161          4.80 %
Cash, federal funds sold and
short-term investments                     40,984            27          0.26 %               29,123            15          0.20 %
FHLBB stock                                40,418            52          0.51 %               42,008            28          0.26 %

Taxable debt securities                   417,525         3,672          3.50 %              487,172         4,640          3.78 %
Nontaxable debt securities                 68,815         1,008          5.83 %               77,333         1,134          5.82 %
Corporate stocks                                -             -             - %                2,513            48          7.58 %
Total securities                          486,340         4,680          3.83 %              567,018         5,822          4.07 %
Total interest-earning assets           2,820,923        30,747          4.34 %            2,717,665        31,026          4.53 %
Noninterest-earning assets                224,280                                            217,481
Total assets                           $3,045,203                                         $2,935,146
Liabilities and Shareholders'
Equity:
NOW accounts                             $260,829           $41          0.06 %             $232,023           $61          0.10 %
Money market accounts                     429,538           283          0.26 %              372,279           234          0.25 %
Savings accounts                          267,614            74          0.11 %              232,432            72          0.12 %
Time deposits                             896,770         2,993          1.33 %              921,056         3,441          1.48 %
FHLBB advances                            466,135         3,726          3.18 %              515,607         4,539          3.49 %
Junior subordinated debentures             32,991           393          4.74 %               32,991           393          4.73 %
Other                                         314             5          6.33 %               21,608           245          4.50 %
Total interest-bearing
liabilities                             2,354,191         7,515          1.27 %            2,327,996         8,985          1.53 %
Demand deposits                           337,547                                            280,453
Other liabilities                          57,315                                             42,453
Shareholders' equity                      296,150                                            284,244
Total liabilities and
shareholders' equity                   $3,045,203                                         $2,935,146
Net interest income                                     $23,232                                            $22,041
Interest rate spread                                                     3.07 %                                             3.00 %
Net interest margin                                                      3.28 %                                             3.22 %


Interest income amounts presented in the preceding table include the following adjustments for taxable equivalency:
(Dollars in thousands)

Three months ended September 30,  2012     2011
Commercial loans                  $148      $92
Nontaxable debt securities         348      388
Corporate stocks                     -       12
Total                             $496     $492




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