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NWBI > SEC Filings for NWBI > Form 10-K on 28-Feb-2014All Recent SEC Filings

Show all filings for NORTHWEST BANCSHARES, INC.

Form 10-K for NORTHWEST BANCSHARES, INC.


28-Feb-2014

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS

Overview

Our principal business consists of attracting deposits and making loans secured by various types of collateral, including real estate and other assets in the markets in which we operate. Attracting and maintaining deposits is affected by a number of factors, including interest rates paid on competing investments offered by other financial and non-financial institutions, account maturities, fee structures, and levels of personal income and savings. Lending activities are affected by the demand for funds and thus are influenced by interest rates, the number and quality of lenders and regional economic conditions. Sources of funds for lending activities include deposits, borrowings, repayments on loans, cash flows from investment and mortgage-backed securities and income provided from operations.

Our earnings depend primarily on our level of net interest income, which is the difference between interest earned on our interest-earning assets, consisting primarily of loans and investment securities, and the interest paid on interest-bearing liabilities, consisting primarily of deposits, borrowed funds, and trust-preferred securities. Net interest income is a function of our interest rate spread, which is the difference between the average yield earned on our interest-earning assets and the average rate paid on our interest-bearing liabilities, as well as a function of the average balance of interest-earning assets compared to the average balance of interest-bearing liabilities. Also contributing to our earnings is noninterest income, which consists primarily of service charges and fees on loan and deposit products and services, fees related to insurance and investment management and trust services, and net gains and losses on the sale of assets. Net interest income and noninterest income are offset by provisions for loan losses, general administrative and other expenses, including employee compensation and benefits and occupancy and equipment costs, as well as by state and federal income tax expense.

Our net income was $66.7 million, or $0.73 per diluted share, for the year ended December 31, 2013 compared to $63.6 million, or $0.68 per diluted share, for the year ended December 31, 2012 and $64.2 million, or $0.64 per diluted share, for the year ended December 31, 2011. The loan loss provision was $18.5 million for the year ended December 31, 2013 compared to $26.3 million for the year ended December 31, 2012 and $34.2 million for the year ended December 31, 2011. We recorded other-than-temporary impairment losses on securities, which were reflected as a reduction of noninterest income, of $713,000, $331,000 and $937,000 for the years ended December 31, 2013, 2012 and 2011, respectively.

Other than our loans for the construction of one-to-four-family residential mortgage loans, we do not solicit "interest only" mortgage loans on one-to-four-family residential properties (where the borrower pays interest for an initial period, after which the loan converts to a fully amortizing loan). We also do not offer loans that provide for negative amortization of principal, such as "Option ARM" loans, where the borrower can pay less than the interest owed on the loan, resulting in an increased principal balance during the life of the loan. We do not directly solicit "subprime loans" (loans that generally target borrowers with FICO scores of less than 660) or Alt-A loans (traditionally defined as loans having less than full documentation). However, a portion of the loans originated by one of our subsidiaries, Northwest Consumer Discount Company ("NCDC"), consists of loans to persons with credit scores that would cause such loans to be considered subprime. NCDC has been in operation for over 25 years and has 50 offices throughout Pennsylvania. NCDC offers a variety of consumer loans for automobiles, appliances and furniture as well as residential mortgage loans. At December 31, 2013, NCDC's total loan portfolio was approximately $106.5 million with an average loan size of $4,139, an average FICO score of 621 and an average yield of approximately 18.0%. NCDC's total delinquency is approximately 4.9% of outstanding loans, with loans delinquent for 90 days or more at 1.7% of loans outstanding. Annual net charge-offs average approximately $3.3 million, or 3.1% of outstanding loans, and it maintains an allowance for loan losses of $5.5 million, or 5.1% of loans. Although loans originated through NCDC have higher average rates of delinquency and charge-offs than similar loans originated directly by Northwest Savings Bank, management believes that the higher yields on loans originated through NCDC compensate for the incremental credit risk exposure.

Critical Accounting Policies

Certain accounting policies are important to the understanding of our financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. Estimates associated with these policies are susceptible to material changes as a result of changes in facts and circumstances, including, but without limitation, changes in interest rates, performance of the economy, financial condition of borrowers and laws and regulations. The following are the accounting policies we believe are critical.


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Allowance for Loan Losses. We recognize that losses will be experienced on loans and that the risk of loss varies with the type of loan, the creditworthiness of the borrower, general economic conditions and the quality of the collateral for the loan. We maintain an allowance for losses inherent in the loan portfolio. The allowance for loan losses represents management's estimate of probable losses based on all available information. The allowance for loan losses is based on management's evaluation of the collectability of the loan portfolio, including past loan loss experience, known and inherent losses, information about specific borrower situations, estimated collateral values, and current economic conditions. The loan portfolio is reviewed regularly by management in its determination of the allowance for loan losses. The methodology for assessing the appropriateness of the allowance includes a review of historical losses, peer group comparisons, industry data and economic conditions. As an integral part of their examination process, regulatory agencies periodically review our allowance for loan losses and may require us to make additional provisions for estimated losses based upon judgments different from those of management. In establishing the allowance for loan losses, loss factors are applied to various pools of outstanding loans. Loss factors are derived using our historical loss experience and may be adjusted for factors that affect the collectability of the portfolio as of the evaluation date. Commercial loans over $1.0 million that are criticized are evaluated individually to determine the required allowance for loan losses and to evaluate the potential impairment. Although management believes that it uses the best information available to establish the allowance for loan losses, future adjustments to the allowance for loan losses may be necessary and results of operations could be adversely affected if circumstances differ substantially from the assumptions used in making the determinations. Because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that the existing allowance for loan losses is adequate or that increases will not be necessary should the quality of loans deteriorate as a result of the factors discussed previously. Any material increase in the allowance for loan losses may adversely affect our financial condition and results of operations. The allowance is based on information known at the time of the review. Changes in factors underlying the assessment could have a material impact on the amount of the allowance that is necessary and the amount of provision to be charged against earnings. Such changes could impact future results. For further information related to our allowance for loan losses, see note 1(f) of the notes to the Consolidated Financial Statements on page 69.

Valuation of Investment Securities. Our investment securities are classified as either held-to-maturity or available-for-sale. Held-to-maturity securities are carried at amortized cost, while available-for-sale securities are carried at fair value. Unrealized gains or losses on available-for-sale securities, net of deferred taxes, are reported in other comprehensive income. Fair values are determined as described in note 15 of the notes to the Consolidated Financial Statements on page 110. Semi-annually (at May 31 and November 30), we validate the prices received from these third parties by comparing them to prices provided by a different independent pricing service. We have reviewed the detailed valuation methodologies provided to us by our pricing services. Additional information related to our investment securities can be found in note 1(d) of the notes to the Consolidated Financial Statements on page 68.

We conduct a quarterly review and evaluation of all investment securities to determine if any declines in fair value are other than temporary. In making this determination, we consider the period of time the securities have been in an unrealized loss position, the percentage decline in comparison to the securities' amortized cost, the financial condition of the issuer, if applicable, and the delinquency or default rates of underlying collateral. We consider our intent to sell the investment securities evaluated and the likelihood that we will not have to sell the investment securities before recovery of their cost basis. If impairment exists, credit related impairment losses are recorded in earnings while noncredit related impairment losses are recorded in accumulated other comprehensive income, net of income taxes. Any future deterioration in the fair value of an investment security, or the determination that the existing unrealized loss of an investment security is other-than-temporary, may have a material adverse affect on future earnings.

Goodwill. Goodwill is not subject to amortization but must be tested for impairment at least annually, and possibly more frequently if certain events or changes in circumstances arise. Impairment testing requires that the fair value of each reporting unit be compared to its carrying amount, including goodwill. Reporting units are identified based upon analyzing each of our individual operating segments. A reporting unit is defined as any distinct, separately identifiable component of an operating segment for which complete, discrete financial information is available that management regularly reviews. Goodwill is allocated to the carrying value of each reporting unit based on its relative fair value at the time it is acquired. Determining the fair value of a reporting unit requires a high degree of subjective management judgment. With the assistance of an independent third party, we evaluate goodwill for possible impairment using four valuation methodologies including a public market peers


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approach, a comparable transactions approach, a control premium approach and a discounted cash flow approach. Future changes in the economic environment or the operations of the reporting units could cause changes to these variables, which could give rise to declines in the estimated fair value of the reporting unit. Declines in fair value could result in impairment being identified. We have established June 30 of each year as the date for conducting our annual goodwill impairment assessment. Quarterly, we evaluate if there are any triggering events that would require an update to our previous assessment. The variables are selected as of June 30th and the valuation model is run to determine the fair value of each reporting unit. We did not identify any individual reporting unit where the fair value was less than the carrying value.

Deferred Income Taxes. We use the asset and liability method of accounting for income taxes. Using this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. If current available information raises doubt as to the realization of the deferred tax assets, a valuation allowance is established. Deferred tax assets and liabilities are measured using enacted tax rates expected to be applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. We exercise significant judgment in evaluating the amount and timing of recognition of the resulting tax liabilities and assets. These judgments require us to make projections of future taxable income. The judgments and estimates we make in determining our deferred tax assets, which are inherently subjective, are reviewed on an ongoing basis as regulatory and business factors change. A reduction in estimated future taxable income could require us to record a valuation allowance. Changes in levels of valuation allowances could result in increased income tax expense, and could negatively affect earnings.

Pension Benefits. Pension expense and obligations are dependent on assumptions used in calculating such amounts. These assumptions include discount rates, anticipated salary increases, interest costs, expected return on plan assets, mortality rates, and other factors. In accordance with U.S. generally accepted accounting principles, actual results that differ from the assumptions are amortized over average future service and, therefore, generally affect recognized expense. While management believes that the assumptions used are appropriate, differences in actual experience or changes in assumptions may affect our pension obligations and future expense.

In determining the projected benefit obligations for pension benefits at December 31, 2013 and 2012, we used a discount rate of 4.86% and 4.06%, respectively. We use the Citigroup Pension Liability Index rates matching the duration of our benefit payments as of the measurement date to determine the discount rate. Our measurement date is December 31.


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Balance Sheet Analysis

Assets. Total assets at December 31, 2013 were $7.881 billion, a decrease of $61.1 million, or 0.8%, from $7.943 billion at December 31, 2012. This decrease in assets was primarily caused by a decrease in our marketable securities portfolio of $96.0 million, or 7.8%, to $1.138 billion at December 31, 2013 from $1.234 billion at December 31, 2012.

Cash. Total cash decreased by $59.8 million, or 13.2%, to $391.9 million at December 31, 2013, from $451.7 million at December 31, 2012. This decrease was a result of using cash to fund an increase in net loans receivable of $105.7 million and a net deposit decrease of $95.7 million.

Investment securities. Investment securities decreased by $96.0 million, or 7.8%, to $1.138 billion at December 31, 2013 from $1.234 billion at December 31, 2012. This decrease was a result of using the cash flow generated from these portfolios to fund loan growth and deposit outflow instead of reinvesting in investment securities. During the year ended December 31, 2013, we recognized other-than-temporary credit related impairment charges of $713,000 on two pooled trust preferred securities.

The following table sets forth certain information regarding the amortized cost and fair value of our available-for-sale investment securities portfolio and mortgage-backed securities portfolio at the dates indicated.

                                                   At December 31,
                                   2013                  2012                  2011
                           Amortized     Fair     Amortized    Fair     Amortized    Fair
                              cost       value      cost       value      cost       value
                                                    (In thousands)
Residential
mortgage-backed
securities available for
sale:
Fixed-rate pass through
certificates               $   85,306    87,272      85,134    91,400     110,364   118,564
Variable-rate pass
through certificates           78,890    82,399     104,591   109,899     135,103   141,778
Fixed-rate non-agency
CMOs                            3,894     3,998       5,700     5,620       9,521     8,974
Fixed-rate agency CMOs        265,769   255,393     227,608   230,326     112,670   116,136
Variable-rate non-agency
CMOs                              660       651         873       853       1,104       950
Variable-rate agency
CMOs                          146,908   147,361     225,383   226,407     240,963   242,822

Total residential
mortgage-backed
securities available for
sale                       $  581,427   577,074     649,289   664,505     609,725   629,224

Investment securities
available for sale:
U.S. Government, agency
and GSEs                   $  322,754   316,089     237,993   238,354      75,576    76,238
Municipal securities           91,449    92,578     127,628   134,208     162,491   169,288
Corporate debt issues          21,150    21,176      24,911    22,703      25,536    21,134
Equity securities and
mutual funds                    5,298     9,850      13,301    19,304      12,080    12,465

Total investment
securities available for
sale                       $  440,651   439,693     403,833   414,569     275,683   279,125


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The following table sets forth certain information regarding the amortized cost and fair value of our held-to-maturity investment securities portfolio and mortgage-backed securities portfolio at the dates indicated.

                                                      At December 31,
                                     2013                   2012                  2011
                              Amortized     Fair     Amortized    Fair     Amortized    Fair
                                cost        value      cost       value      cost       value
                                                      (In thousands)
Residential
mortgage-backed securities
held to maturity:
Fixed-rate pass through
certificates                 $    11,101    11,645      16,369    17,281      24,160    25,259
Variable-rate pass through
certificates                       5,172     5,243       6,548     6,534       9,066     9,160
Fixed-rate agency CMOs            34,425    35,172      56,713    58,719     108,881   111,642
Variable-rate agency CMOs          1,352     1,362       6,176     6,257      14,590    14,870

Total residential
mortgage-backed securities
held to maturity             $    52,050    53,422      85,806    88,791     156,697   160,931

Investment securities held
to maturity:
Municipal securities         $    69,316    70,639      69,275    73,178      74,692    78,481

Total investment
securities held to
maturity                     $    69,316    70,639      69,275    73,178      74,692    78,481

The following table sets forth information regarding the issuers and the carrying value of our mortgage-backed securities at the dates indicated.

                                                 At December 31,
                                            2013       2012      2011
                                                 (In thousands)
Residential mortgage-backed securities:
FNMA                                      $ 279,684   341,778   333,188
GNMA                                         66,802    97,648   142,774
FHLMC                                       264,752   287,942   280,686
SBA                                          12,569    15,775    18,624
Other (non-agency)                            5,317     7,168    10,649
Total mortgage-backed securities          $ 629,124   750,311   785,921

Further information and analysis of our investment portfolio, including tables with information related to gross unrealized gains and losses on available-for sale and held-to-maturity investment securities and tables showing the fair value and gross unrealized losses on investment securities aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position are located in note 3 of the notes to the Consolidated Financial Statements on page 75.


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Investment Portfolio Maturities and Yields. The following table sets forth the scheduled maturities, carrying values, amortized cost, market values and weighted average yields for our investment securities and mortgage-backed securities portfolios at December 31, 2013. Adjustable-rate mortgage-backed securities are included in the period in which interest rates are next scheduled to adjust.

                                                                                                 At December 31, 2013
                                                                 More than one year to     More than five years to
                                         One year or less             five years                  ten years            More than ten years                   Total
                                                   Annualized                Annualized                  Annualized               Annualized                           Annualized
                                                    weighted                  weighted                    weighted                 weighted                             weighted
                                      Amortized     average     Amortized     average      Amortized      average     Amortized    average     Amortized     Fair       average
                                         cost        yield         cost        yield         cost          yield        cost        yield        cost        value       yield
                                                                                                (Dollars in thousands)
Investment securities available for
sale:
Government sponsored entities         $        -            -      227,945         0.91 %      94,777          1.27 %         -            -     322,722     316,057         1.02 %
U.S. Government and agency
obligations                                   32         1.23 %          -            -             -             -           -            -          32          32         1.23 %
Municipal securities                         710         3.57 %      8,443         4.05 %      11,228          4.18 %    71,068         4.27 %    91,449      92,578         4.23 %
Corporate debt issues                          -            -            -            -             -             -      21,150         2.62 %    21,150      21,176         2.62 %
Equity securities and mutual funds             -            -            -                          -             -       5,298         2.47 %     5,298       9,850         2.47 %
Total investment securities
available for sale                           742         3.47 %    236,388         1.03 %     106,005          1.58 %    97,516         3.81 %   440,651     439,693         1.78 %
Residential mortgage-backed
securities available for sale:
Pass through certificates                 78,894         2.38 %      1,422         4.70 %      44,971          1.92 %    38,909         4.79 %   164,196     169,671         2.84 %
CMOs                                     147,568         0.66 %      8,877         3.50 %      74,397          1.48 %   186,389         1.55 %   417,231     407,403         1.27 %
Total residential mortgage-backed
securities available for sale            226,462         1.26 %     10,299         3.67 %     119,368          1.71 %   225,298         2.11 %   581,427     577,074         1.71 %

Investment securities
held-to-maturity:
Municipal securities                           -            -            -            -         8,002          3.78 %    61,314         4.15 %    69,316      70,639         4.11 %
Total investment securities
held-to-maturity                               -            -            -            -         8,002          3.78 %    61,314         4.15 %    69,316      70,639         4.11 %
Residential mortgage-backed
securities held-to-maturity:
Pass through certificates                  5,172         1.65 %          -            -             -             -      11,101         3.84 %    16,273      16,888         3.15 %
CMOs                                       1,352         1.11 %          -            -         8,743          2.24 %    25,682         3.04 %    35,777      36,534         2.77 %
Total residential mortgage-backed
securities held-to-maturity                6,524         1.53 %          -            -         8,743          2.24 %    36,783         3.28 %    52,050      53,422         2.89 %
Total investment securities and
mortgage-backed                       $  233,728         1.27 %    246,687         1.14 %     242,118          1.71 %   420,911         2.90 % 1,143,444   1,140,828         1.94 %


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Loans receivable. Net loans receivable increased by $105.7 million, or 1.9%, to $5.735 billion at December 31, 2013, from $5.629 billion at December 31, 2012. During 2013 personal banking loans increased by $67.6 million, or 1.8%, compared to last year. This increase occurred primarily in our residential mortgage loan portfolio, which increased by $67.4 million, or 2.8%, as a result of retaining most of the loan originations by our wholesale lending operations in the current year which had been previously sold into the secondary markets in prior years. Our efforts to expand beyond traditional residential mortgage lending continued to produce results as our commercial banking loan portfolio increased by $36.2 million, or 1.8%, to $2.011 billion at December 31, 2013 from $1.975 billion at December 31, 2012. Commercial real estate loans increased by $22.6 million, or 1.4%, and commercial loans increased by $13.6 million, or 3.5%, compared to the prior year.

Loans 30 days or more delinquent decreased by 141 loans and $25.8 million, or 16.4%, to 3,501 loans totaling $131.6 million at December 31, 2013 from 3,642 loans totaling $157.4 million at December 31, 2012. Delinquencies for all classes of loans with the exception of home equity loans decreased during the year ended December 31, 2013. Delinquencies on residential mortgage loans decreased by $6.9 million, or 10.4%, delinquencies on other consumer loans decreased by $784,000, or 8.5%, delinquencies on commercial real estate loans decreased by $11.3 million, or 26.8%, and delinquencies on commercial loans decreased by $7.4 million, or 32.9%, while delinquencies on home equity loans increased by $543,000, or 3.2%. Loans 90 days or more delinquent decreased by $10.5 million, or 15.5%, to $57.8 million at December 31, 2013 from $68.3 million at December 31, 2012. This represents the lowest level of loans 90 or more days delinquent since the economic downturn began in 2008.

The following table sets forth the recorded investment in loans receivable by state (based on borrowers' domicile) at December 31, 2013.

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