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EFSC > SEC Filings for EFSC > Form 10-Q on 3-May-2013All Recent SEC Filings

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Form 10-Q for ENTERPRISE FINANCIAL SERVICES CORP


3-May-2013

Quarterly Report


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

Some of the information in this report contains "forward-looking statements" within the meaning of and are intended to be covered by the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements typically are identified with use of terms such as "may," "might," "will, "should," "expect," "plan," "anticipate," "believe," "estimate," "predict," "potential," "could," "continue" and the negative of these terms and similar words, although some forward-looking statements are expressed differently. Our ability to predict results or the actual effect of future plans or strategies is inherently uncertain. You should be aware that our actual results could differ materially from those contained in the forward-looking statements due to a number of factors, including, but not limited to: credit risk; changes in the appraised valuation of real estate securing impaired loans; outcomes of litigation and other contingencies; exposure to general and local economic conditions; risks associated with rapid increases or decreases in prevailing interest rates; consolidation within the banking industry; competition from banks and other financial institutions; our ability to attract and retain relationship officers and other key personnel; burdens imposed by federal and state regulation; changes in regulatory requirements; changes in accounting regulation or standards applicable to banks; and other risks discussed under the caption "Risk Factors" of our most recently filed Form 10-K and within this Form 10-Q, all of which could cause the Company's actual results to differ from those set forth in the forward-looking statements.

Readers are cautioned not to place undue reliance on our forward-looking statements, which reflect management's analysis and expectations only as of the date of such statements. Forward-looking statements speak only as of the date they are made, and the Company does not intend, and undertakes no obligation, to publicly revise or update forward-looking statements after the date of this report, whether as a result of new information, future events or otherwise, except as required by federal securities law. You should understand that it is not possible to predict or identify all risk factors. Readers should carefully review all disclosures we file from time to time with the Securities and Exchange Commission which are available on our website at www.enterprisebank.com.

Introduction

The following discussion describes the significant changes to the financial condition of the Company that have occurred during the first three months of 2013 compared to the financial condition as of December 31, 2012. In addition, this discussion summarizes the significant factors affecting the results of operations, liquidity and cash flows of the Company for the three months ended March 31, 2013, compared to the same period in 2012. This discussion should be read in conjunction with the accompanying consolidated financial statements included in this report and our Annual Report on Form 10-K for the year ended December 31, 2012.

Executive Summary

The Company reported net income of $10.0 million for the three months ended March 31, 2013, compared to net income of $6.2 million for the same period in 2012. The Company diluted earnings per share of $0.53, compared to $0.31 for the prior year period.

Below are highlights of our Banking and Wealth Management segments. For more information on our segments, see Note 9 -Segment Reporting.

Banking Segment
Loans - Portfolio loans totaled $2.3 billion at March 31, 2013, flat with December 31, 2012 and up $81.9 million, or 4% from March 31, 2012. Loans covered under FDIC shared loss agreements ("Covered loans") were $182.8 million at March 31, 2013, a decrease of $18.3 million or 9% from December 31, 2012 and a decrease of $86.4 million or 32% from March 31, 2012.

Portfolio loans excluding covered loans ("Noncovered loans") decreased $20.2 million, or 1%, from December 31, 2012. Commercial & Industrial loans decreased $13.7 million or 1% and Construction Real Estate loans decreased


$4.7 million or 3%, while Residential Real Estate loans increased $2.7 million or 2%. The nominal decrease in loans at March 31, 2013 compared to December 31, 2012 reflected a significant amount of loan fundings in late December of 2012. Average loans in the first quarter of 2013, increased $88.2 million, or 4%, from average loans in the fourth quarter of 2012. Noncovered loans increased $168.3 million or 9% from March 31, 2012. Commercial and Industrial loans increased $157.1 million or 20% while Residential and Construction Real Estate loans declined $1.8 million or 1%.
See Note 4 - Portfolio Loans Not Covered by Loss Share and Note 5 - Portfolio Loans Covered by Loss Share for more information.
Deposits - Total deposits at March 31, 2013 were $2.5 billion, a decrease of $164.1 million, or 6%, and $209.4 million, or 8%, from December 31, 2012 and March 31, 2012, respectively. The decrease is mainly due to a decline in certificates of deposit as the Company continues to force a decline through lower cost pricing. Demand deposits decreased $81.3 million or 12% from December 31, 2012 and increased $13.4 million or 2% from March 31, 2012 while interest bearing transaction accounts decreased $33.9 million or 2% from December 31, 2012 and $34.0 million or 2% from March 31, 2012. The decrease in the demand and interest bearing deposits from December 31, 2012 is mainly due to seasonality and the expiration of the FDIC's Transaction Account Guarantee ("TAG") program.

Asset quality - Nonperforming loans were $32.2 million at March 31, 2013, compared to $38.7 million at December 31, 2012 and $47.2 million at March 31, 2012. Nonperforming loans represented 1.54% of total Noncovered loans at March 31, 2013 versus 1.84% at December 31, 2012 and 2.46% at March 31, 2012. Excluding non-accrual loans and Covered loans, portfolio loans that were 30-89 days delinquent at March 31, 2013 remained at very low levels, representing 0.12% of the portfolio compared to 0.10% at December 31, 2012 and 0.62% at March 31, 2012.

Provision for loan losses not covered under FDIC loss share was $1.9 million in the first quarter of 2013, compared to $1.7 million in the first quarter of 2012. See Note 4 - Portfolio Loans Not Covered by Loss Share and Provision and Allowance for Loan Losses and Nonperforming Assets in this section for more information.
Interest rate margin - The net interest rate margin was 5.10% for the first quarter of 2013, compared to 5.39% for the fourth quarter of 2012 and 4.33% in the first quarter of 2012. See Net Interest Income in this section for more information.

Covered loans and other assets covered under FDIC shared loss agreements - The following table illustrates the net revenue contribution of covered assets for the most recent five quarters.

                                                                   For the Quarter ended
(in thousands)               March 31, 2013     December 31, 2012     September 30, 2012      June 30, 2012     March 31, 2012
Accretion income            $       7,112      $           7,442     $           7,995       $       7,155     $       7,081
Accelerated cash flows              7,209                  9,778                 7,446               5,315             2,691
Other                                 324                    419                   103                 106               130
Total interest income              14,645                 17,639                15,544              12,576             9,902
Provision for loan losses          (2,256 )                 (653 )             (10,889 )              (206 )          (2,285 )
Gain on sale of other real
estate                                689                    105                    34                 769             1,173
Change in FDIC loss share
receivable                         (4,085 )               (8,131 )               1,912              (5,694 )          (2,956 )
Change in FDIC clawback
liability                            (304 )                 (575 )                   -                   -                 -
Pre-tax net revenue         $       8,689      $           8,385     $           6,601       $       7,445     $       5,834


Wealth Management Segment

Fee income from the Wealth Management segment includes Wealth Management revenue and income from state tax credit brokerage activities. Wealth Management revenue was $1.9 million in the first quarter of 2013, an increase of $168,000, or 9%, over the linked fourth quarter and an increase of $234,000, or 14%, over the period ended March 31, 2012. See Noninterest Income in this section for more information.

Net Interest Income

Three months ended March 31, 2013 and 2012

Net interest income (on a tax equivalent basis) was $37.4 million for the three months ended March 31, 2013 compared to $31.0 million for the same period of 2012, an increase of $6.5 million, or 21%. Total interest income increased $4.9 million and total interest expense decreased $1.6 million.

Average interest-earning assets increased $98.8 million, or 3%, to $3.0 billion for the quarter ended March 31, 2013 from $2.9 billion for the quarter ended March 31, 2012. Average loans increased $119.4 million, or 5%, to $2.3 billion for the quarter ended March 31, 2013, from $2.2 billion for the quarter ended March 31, 2012. Noncovered loans increased $209.9 million while Covered loans decreased $90.5 million. Average securities increased $17.6 million or 3%, while short-term investments decreased $38.3 million or 30% from the first quarter of 2012. Interest income on earning assets decreased $1.3 million primarily due to lower volume on Covered loans and increased $6.2 million primarily due to higher yields on Covered loans, for a net increase of $4.9 million versus the first quarter of 2012.

For the quarter ended March 31, 2013, average interest-bearing liabilities decreased $94.4 million, or 4%, to $2.4 billion compared to $2.5 billion for the quarter ended March 31, 2012. The decrease resulted from a $230.1 million decrease in average interest-bearing deposits, partially offset by a $135.7 million increase in borrowed funds from customer repurchase agreements. The decrease in average interest-bearing deposits is due to a $213.6 million decrease in certificates of deposit, and a $32.9 million decrease in average money market accounts and savings accounts, partially offset by an increase of $16.4 million in interest-bearing transaction accounts. For the first quarter of 2013, interest expense on interest-bearing liabilities decreased $1.2 million due to declining rates and $355,000 due to the impact of lower volumes, for a total decrease of $1.6 million versus the first quarter of 2012.

The tax-equivalent net interest rate margin was 5.10% for the first quarter of 2013, compared to 5.39% for the fourth quarter of 2012 and 4.33% in the first quarter of 2012. In the first quarter of 2013, Covered loans yielded 31.38% primarily due to cash flows on paid off loans that exceeded expectations.


Average Balance Sheet

The following table presents, for the periods indicated, certain information
related to our average interest-earning assets and interest-bearing liabilities,
as well as, the corresponding interest rates earned and paid, all on a tax
equivalent basis.
                                                               Three months ended March 31,
                                                 2013                                                 2012
                                                                    Average                                              Average
                                                   Interest         Yield/                              Interest         Yield/
(in thousands)             Average Balance      Income/Expense       Rate       Average Balance      Income/Expense       Rate
Assets
Interest-earning assets:
Taxable loans (1)         $      2,060,818     $        24,182        4.76 %   $      1,867,159     $        24,084        5.19 %
Tax-exempt loans (2)                46,809                 856        7.42               30,572                 586        7.71
Covered loans (3)                  189,230              14,644       31.38              279,700               9,902       14.24
              Total loans        2,296,857              39,682        7.01            2,177,431              34,572        6.39
Taxable investments in
debt and equity
securities                         547,672               2,212        1.64              542,446               2,543        1.89
Non-taxable investments
in debt and equity
securities (2)                      43,551                 492        4.58               31,144                 365        4.71
Short-term investments              87,975                  47        0.22              126,231                  77        0.25
     Total securities and
   short-term investments          679,198               2,751        1.64              699,821               2,985        1.72
   Total interest-earning
                   assets        2,976,055              42,433        5.78            2,877,252              37,557        5.25
Noninterest-earning
assets:
Cash and due from banks             18,327                                               15,292
Other assets                       270,982                                              410,756
Allowance for loan losses          (46,082 )                                            (36,444 )
             Total assets $      3,219,282                                     $      3,266,856

Liabilities and Shareholders' Equity
Interest-bearing
liabilities:
Interest-bearing
transaction accounts      $        260,224     $           138        0.22 %   $        243,861     $           191        0.32 %
Money market accounts            1,007,642                 882        0.35            1,072,747               1,430        0.54
Savings                             88,334                  59        0.27               56,104                  69        0.49
Certificates of deposit            553,250               1,938        1.42              766,819               2,779        1.46
   Total interest-bearing
                 deposits        1,909,450               3,017        0.64            2,139,531               4,469        0.84
Subordinated debentures             85,081                 952        4.54               85,081               1,149        5.43
Borrowed funds                     356,713               1,042        1.18              221,029                 968        1.76
   Total interest-bearing
              liabilities        2,351,244               5,011        0.86            2,445,641               6,586        1.08
Noninterest bearing
liabilities:
Demand deposits                    612,090                                              567,511
Other liabilities                   15,186                                                8,760
        Total liabilities        2,978,520                                            3,021,912
Shareholders' equity               240,762                                              244,944
      Total liabilities &
     shareholders' equity $      3,219,282                                     $      3,266,856
      Net interest income                      $        37,422                                      $        30,971
      Net interest spread                                             4.92 %                                               4.17 %
 Net interest rate margin
                      (4)                                             5.10                                                 4.33

(1) Average balances include non-accrual loans. The income on such loans is included in interest but is recognized only upon receipt. Loan fees, net of amortization of deferred loan origination fees and costs, included in interest income are approximately $504,000 and $319,000 for the three months ended March 31, 2013 and 2012, respectively.


(2) Non-taxable income is presented on a fully tax-equivalent basis using a 39% tax rate in 2013 and 36% tax rate in 2012. The tax-equivalent adjustments were $523,000 and $342,000 for the three months ended March 31, 2013 and 2012, respectively.

(3) Covered loans are loans covered under FDIC shared-loss agreements.

(4) Net interest income divided by average total interest-earning assets.

Rate/Volume
The following table sets forth, on a tax-equivalent basis for the periods
indicated, a summary of the changes in interest income and interest expense
resulting from changes in yield/rates and volume.

                                                          2013 compared to 2012
                                                      Three months ended March 31,
                                                       Increase (decrease) due to
(in thousands)                                  Volume(1)         Rate(2)           Net
Interest earned on:
Taxable loans                                $      2,252      $    (2,154 )   $        98
Tax-exempt loans (3)                                  293              (23 )           270
Covered loans                                      (4,003 )          8,745           4,742
Taxable investments in debt and equity
securities                                             22             (353 )          (331 )
Non-taxable investments in debt and equity
securities (3)                                        137              (10 )           127
Short-term investments                                (22 )             (8 )           (30 )
Total interest-earning assets                $     (1,321 )    $     6,197     $     4,876

Interest paid on:
Interest-bearing transaction accounts        $         12      $       (65 )   $       (53 )
Money market accounts                                 (83 )           (465 )          (548 )
Savings                                                29              (39 )           (10 )
Certificates of deposit                              (771 )            (70 )          (841 )
Subordinated debentures                                 -             (197 )          (197 )
Borrowed funds                                        458             (384 )            74
Total interest-bearing liabilities                   (355 )         (1,220 )        (1,575 )
Net interest income                          $       (966 )    $     7,417     $     6,451

(1) Change in volume multiplied by yield/rate of prior period.

(2) Change in yield/rate multiplied by volume of prior period.

(3) Nontaxable income is presented on a fully tax-equivalent basis using the combined statutory federal and state income tax rate in effect for each year.

NOTE: The change in interest due to both rate and volume has been allocated to rate and volume changes in proportion to the relationship of the absolute dollar amounts of the change in each.

Provision and Allowance for Loan Losses

The provision for loan losses not covered under FDIC loss share was $1.9 million in the first quarter of 2013 compared to $1.7 million in the first quarter of 2012.

For Covered loans, the Company remeasures contractual and expected cash flows on a quarterly basis. When the remeasurement process results in a decrease in expected cash flows, typically due to an increase in expected credit losses, impairment is recorded through provision for loan losses. The provision for loan losses on Covered loans was $2.3 million in both the first quarter of 2013 and 2012.


Excluding the Covered loans, the allowance for loan losses was 1.56% of total loans at March 31, 2013, compared to 1.63% at December 31, 2012, and 1.96% at March 31, 2012. Management believes that the allowance for loan losses is adequate to absorb inherent losses in the loan portfolio.

Excluding the Covered loans, net charge-offs in the first quarter of 2013 were $3.7 million, representing an annualized rate of 0.72% of average loans, compared to net charge-offs of $2.1 million, an annualized rate of 0.45% of average loans, in the first quarter of 2012. Approximately 5% of the net charge-offs in the first quarter of 2013 were related to Construction and Land Development loans, 81% were related to Commercial Real Estate loans, 15% were related to Residential Real Estate Loans, 1% were related to Consumer and Other loans and there were 2% net recoveries in Commercial & Industrial loans.


The following table summarizes changes in the allowance for loan losses arising from loans charged off and recoveries on loans previously charged off, by loan category, and additions to the allowance charged to expense.

                                                         Three months ended March 31,
(in thousands)                                             2013                 2012
Allowance at beginning of period, for loans not
covered under FDIC loss share                       $        34,330       $       37,989
Loans charged off:
Commercial and industrial                                      (206 )               (585 )
Real estate:
Commercial                                                   (3,364 )               (931 )
Construction and Land Development                              (190 )               (856 )
Residential                                                    (986 )               (362 )
Consumer and other                                              (34 )                  -
Total loans charged off                                      (4,780 )             (2,734 )
Recoveries of loans previously charged off:
Commercial and industrial                                       298                   96
Real estate:
Commercial                                                      341                   17
Construction and Land Development                                14                  152
Residential                                                     396                  356
Consumer and other                                                -                    2
Total recoveries of loans                                     1,049                  623
Net loan chargeoffs                                          (3,731 )             (2,111 )
Provision for loan losses                                     1,853                1,718
Allowance at end of period, for loans not covered
under FDIC loss share                               $        32,452       $       37,596

Allowance at beginning of period, for loans covered
under FDIC loss share                               $        11,547       $        1,635
  Loans charged off                                            (178 )               (910 )
  Recoveries of loans                                             -                    -
Other                                                          (112 )                  -
Net loan chargeoffs                                            (290 )               (910 )
Provision for loan losses                                     2,256                2,285
Allowance at end of period, for loans covered under
FDIC loss share                                     $        13,513       $        3,010

Total Allowance at end of period                    $        45,965       $       40,606

Excludes loans covered under FDIC loss share
Average loans                                       $     2,101,933       $    1,897,731
Total portfolio loans                                     2,085,872            1,917,550
Net chargeoffs to average loans                                0.72 %               0.45 %
Allowance for loan losses to loans                             1.56                 1.96


Nonperforming assets

The following table presents the categories of nonperforming assets and other ratios as of the dates indicated.

                                                             March 31,       March 31,
(in thousands)                                                 2013            2012
Non-accrual loans                                          $    30,374     $    33,963
Loans past due 90 days or more and still accruing interest       1,843               -
Restructured loans                                                   5          13,221
Total nonperforming loans                                       32,222          47,184
Foreclosed property (1)                                          7,202          19,655
Total nonperforming assets (1)                             $    39,424     $    66,839

Excludes assets covered under FDIC loss share
Total assets (1)                                           $ 3,123,928     $ 3,245,154
Total portfolio loans                                        2,085,872       1,917,550
Total loans plus foreclosed property                         2,093,074       1,937,205
Nonperforming loans to total loans                                1.54 %          2.46 %
Nonperforming assets to total loans plus foreclosed
property                                                          1.88            3.45
Nonperforming assets to total assets (1)                          1.26            2.06

Allowance for loans not covered under FDIC loss share to
nonperforming loans                                                101 %            80 %

(1) Excludes assets covered under FDIC shared-loss agreements, except for their inclusion in total assets.

Nonperforming loans

Nonperforming loans exclude Covered loans that are accounted for on a pool basis, as the pools are considered to be performing. See Note 5 - Portfolio Loans covered under loss share for more information on these loans.

Nonperforming loans, were $32.2 million at March 31, 2013, a decrease from $38.7 million at December 31, 2012, and $47.2 million at March 31, 2012. The nonperforming loans are comprised of approximately 32 relationships with the largest being a $4.7 million Commercial and Industrial loan. Five relationships comprise 51% of the nonperforming loans. Approximately 33% were located in the St. Louis market, 38% of the nonperforming loans were located in the Kansas City market, and 29% were located in the Arizona market. At March 31, 2013, there were no performing restructured loans that have been excluded from the nonperforming loan amounts.

Nonperforming loans represented 1.54% of Noncovered loans at March 31, 2013, versus 1.84% at December 31, 2012 and 2.46% at March 31, 2012.


Nonperforming loans based on Call Report codes were as follows:

                                    2013                          2012
(in thousands)                     1st Qtr     4th Qtr     3rd Qtr     2nd Qtr     1st Qtr
Construction and Land Development $  5,387    $  4,695    $ 10,095    $ 11,278    $ 12,109
Commercial Real Estate              16,495      22,534      15,231      20,067      21,225
Residential Real Estate              2,528       2,564       3,883       4,543       4,631
. . .
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