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UBNK > SEC Filings for UBNK > Form 10-K on 13-Mar-2014All Recent SEC Filings

Show all filings for UNITED FINANCIAL BANCORP, INC.

Form 10-K for UNITED FINANCIAL BANCORP, INC.


13-Mar-2014

Annual Report


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

This discussion and analysis reflects our consolidated financial statements and other relevant statistical data, and is intended to enhance your understanding of our financial condition and results of operations. The information in this section has been derived from the audited consolidated financial statements, which appear beginning on page F-1 of this Annual Report. You should read the information in this section in conjunction with the business and financial information regarding the Company provided in this Annual Report on Form 10-K.

Overview

Our results of operations depend primarily on our net interest income. Net interest income is the difference between the interest income we earn on our interest-earning assets, consisting primarily of loans, investment securities (including mortgage-backed securities, other securities and corporate and municipal bonds) and other interest-earning assets (primarily Federal Home Loan Bank stock and cash and cash equivalents), and the interest paid on our interest-bearing liabilities, consisting primarily of savings accounts, money market accounts, transaction accounts, certificates of deposit and Federal Home Loan Bank advances.


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Our results of operations are also affected by our provision for loan losses, non-interest income and non-interest expense. Non-interest income consists primarily of deposit account fees, wealth management income, increases in cash value of bank-owned life insurance, gains and losses on the sales of loans and of securities, impairment charges for securities and miscellaneous other income. Non-interest expense consists primarily of compensation and employee benefits, data processing, occupancy, marketing and public relations, professional services, printing and office supplies, acquisition related costs and other operating expenses. Our results of operations also may be affected significantly by general and local economic and competitive conditions, changes in market interest rates, governmental policies and actions of regulatory authorities.

Critical Accounting Policies

The SEC defines "critical accounting policies" as those that require application of management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in future periods. The Company's significant accounting policies are described in Note 1 to the consolidated financial statements. Please see those policies in conjunction with this discussion. Management believes that the following policies would be considered critical under the SEC's definition:

Allowance for Loan Losses. The allowance for loan losses is the amount estimated by management as necessary to cover credit losses inherent in the loan portfolio at the balance sheet date. The allowance is established through the provision for loan losses, which is charged against income. The methodology for determining the allowance for loan losses is considered a critical accounting policy by management due to the high degree of judgment involved, the subjectivity of the assumptions utilized and the potential for changes in the economic environment that could result in adjustments to the amount of the recorded allowance for loan losses.

Management performs a quarterly evaluation of the adequacy of the allowance for loan losses. We consider a variety of factors in establishing this estimate including, but not limited to, prior loss experience, current economic conditions, trends in nonperforming loans and delinquency rates, the adequacy of the underlying collateral, the financial strength of the borrower, results of internal loan reviews and other relevant factors. This evaluation is inherently subjective as it requires material estimates by management that may be susceptible to significant change based on changes in economic and real estate market conditions.

A loan is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired.

The Company periodically may agree to modify the contractual terms of loans. When a loan is modified and a concession is made to a borrower experiencing financial difficulty, the modification is considered a troubled debt restructuring ("TDR"). All TDRs are initially classified as impaired.

The allowance consists of specific, general and unallocated components, as further described below.

Specific component. The specific component relates to loans that are classified as impaired. Impairment is measured on a loan by loan basis for the commercial segment (commercial and industrial, commercial real estate and construction) by either the present value of expected future cash flows discounted at the loan's effective interest rate or the fair value of the collateral if the loan is collateral dependent. A specific allowance is established when the discounted cash flows (or collateral value) of the impaired loan is lower than the carrying value of the loan. Groups of smaller balance homogenous loans are collectively evaluated for impairment. Accordingly, the Company does not separately identify individual loans in the consumer segment (residential real estate, home equity and consumer loans) for impairment disclosures, unless such loans are subject to a troubled debt restructuring agreement.


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The Company has established a Business Banking unit within its Commercial Lending Department. The portfolio is made up of both commercial and industrial loans less than $250,000 and commercial real estate loans less than $500,000 which are managed by exception. This grouping of loans is considered a homogenous pool of loans and collectively evaluated for impairment. Accordingly, the Company does not separately identify individual loans within this unit for impairment disclosures, unless such loans are subject to a troubled debt restructuring agreement.

General component. The general component is based on historical loss experience adjusted for qualitative factors stratified by each of the loan classes:
commercial and industrial, commercial real estate, construction, residential real estate, home equity and consumer. Management uses an average of historical losses based on a time frame appropriate to capture relevant loss data for each loan class. This historical loss factor for each loan class is adjusted for the following qualitative factors: the levels/trends in delinquencies and nonaccruals; levels and trends in charge-offs and recoveries; trends in volume and terms of loans; effects of changes in risk selection and underwriting standards and other changes in lending policies, procedures and practices; experience, ability and depth of lending management and staff; national and local economic trends and conditions; industry conditions; and effects of changes in credit concentrations. This analysis establishes factors that are applied to each loan class to determine the amount of the general component of the allowance for loan losses. There were no changes in the Company's policies or methodology pertaining to the general component of the allowance for loan losses during 2013.

Unallocated component. An unallocated component is maintained to cover uncertainties that could affect management's estimate of probable losses. The unallocated component of the allowance reflects the margin of imprecision inherent in the underlying assumptions used in the methodologies for estimating allocated and general reserves in the portfolio.

Reserve for Unfunded Commitments. The Company also maintains a reserve for unfunded credit commitments to provide for the risk of loss inherent in these arrangements. The reserve is determined using a methodology similar to the analysis of the allowance for loan losses, taking into consideration probabilities of future funding requirements. The reserve for unfunded commitments is included in other liabilities and was $142,000 and $213,000 at December 31, 2013 and 2012, respectively.

Evaluation of the Investment Portfolio for Other-Than-Temporary Impairment. The evaluation of the investment portfolio for other-than-temporary impairment is also a critical accounting estimate. On a quarterly basis, we review securities with a decline in fair value below the amortized cost of the investment to determine whether the decline in fair value is temporary or other-than-temporary. Declines in the fair value of marketable equity securities below their cost that are deemed to be other-than-temporary based on the severity and duration of the impairment are reflected in earnings as realized losses. In estimating other-than-temporary impairment losses for held to maturity and available for sale debt securities, impairment is required to be recognized if (1) we intend to sell the security; (2) it is "more likely than not" that we will be required to sell the security before recovery of its amortized cost basis; or (3) the present value of expected cash flows is not sufficient to recover the entire amortized cost basis. For all impaired held to maturity and available for sale securities that we intend to sell, or more likely than not will be required to sell, the full amount of the other-than-temporary impairment is recognized through earnings. For all other impaired held to maturity or available for sale securities, credit-related other-than-temporary impairment is recognized through earnings, while non-credit related other-than-temporary impairment is recognized in other comprehensive income, net of applicable taxes.

Income Taxes. The Company uses the asset and liability method of accounting for income taxes in which deferred tax assets and liabilities are established for the temporary differences between the financial reporting basis and the tax basis of the Company's asset and liabilities. The realization of the net deferred tax asset generally depends upon future levels of taxable income and the existence of prior years' taxable income, to which "carry back" refund claims could be made. A valuation allowance is maintained for deferred tax assets that management estimates are more likely than not to be unrealizable based on available evidence at the time the estimate is made. Significant management judgment is required in determining income tax expense and deferred


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tax assets and liabilities. In determining the valuation allowance, the Company uses historical and forecasted future operating results, based upon approved business plans, including a review of the eligible carryforward periods, tax planning opportunities and other relevant considerations. These underlying assumptions can change from period to period. For example, tax law changes or variances in future projected operating performance could result in a change in the valuation allowance. Should actual factors and conditions differ materially from those considered by management, the actual realization of the net deferred tax asset could differ materially from the amounts recorded in the financial statements. If the Company is not able to realize all or part of our net deferred tax asset in the future, an adjustment to the deferred tax asset valuation allowance would be charged to income tax expense in the period such determination was made.

Goodwill and Identifiable Intangible Assets. Goodwill and identifiable intangible assets are recorded as a result of business acquisitions and combinations. These assets are evaluated for impairment annually or whenever events or changes in circumstances indicate the carrying value of these assets may not be recoverable. If the carrying amount exceeds fair value, an impairment charge is recorded to income. The fair value is based on observable market prices, when practicable. Other valuation techniques may be used when market prices are unavailable, including estimated discounted cash flows and market multiples analyses. These types of analyses contain uncertainties because they require management to make assumptions and to apply judgment to estimate industry economic factors and the profitability of future business strategies. In the event of future changes in fair value, the Company may be exposed to an impairment charge that could be material.

Fair Valuation of Financial Instruments. The Company uses fair value measurements to record fair value adjustments to certain financial instruments and to determine fair value disclosures. Trading assets, securities available for sale, and derivative instruments are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis, or to establish a loss allowance or write-down based on the fair value of impaired assets. Further, the notes to financial statements include information about the extent to which fair value is used to measure assets and liabilities, the valuation methodologies used and its impact to earnings. Additionally, for financial instruments not recorded at fair value, the notes to financial statements disclose the estimate of their fair value. Due to the judgments and uncertainties involved in the estimation process, the estimates could result in materially different results under different assumptions and conditions.

Comparison of Financial Condition at December 31, 2013 and 2012

Balance Sheet Summary. Total assets increased $79.5 million, or 3.3%, to $2.48 billion at December 31, 2013 from $2.40 billion at December 31, 2012 due to growth in net loans, held to maturity investment securities and interest-bearing deposits, partially offset by a decrease in securities available for sale. Net loans increased $63.7 million, or 3.5%, to $1.87 billion at December 31, 2013 from $1.81 billion at December 31, 2012 due to origination activity, partially offset by normal amortization and repayments. Held to maturity investment securities increased $28.2 million, or 34.0%, to $111.2 million at December 31, 2013 from $83.0 million at December 31, 2012 due to purchases totaling $51.2 million primarily of government-sponsored mortgage-backed securities and industrial revenue bonds, partially offset by maturities, calls and repayments of government-sponsored agency debt and mortgage-backed securities of $22.2 million. Interest-bearing deposits increased $19.0 million reflecting an increase in cash balances at the Federal Reserve Bank. Securities available for sale decreased $29.7 million, or 10.1%, due to calls, maturities and repayments of mortgage-backed securities partially offset by purchases of securities available for sale. At year end, the Company continued to have considerable liquidity consisting of a large amount of marketable loans and investment securities, substantial unused borrowing capacity at the Federal Home Loan Bank and the Federal Reserve Bank and access to funding through the repurchase agreement and brokered deposit markets. The Company's balance sheet is also supported by a strong capital position, with total stockholders' equity of $302.8 million, or 12.2% of total assets, at December 31, 2013.

Loans. Net loans increased $63.7 million, or 3.5%, to $1.87 billion at December 31, 2013 from $1.81 billion at December 31, 2012. Commercial real estate loans increased $47.9 million, or 5.9%, to $862.6 million,


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primarily attributable to business development efforts and competitive products and pricing. One- to four-family residential mortgage loans increased $24.7 million, or 5.6%, to $466.6 million due to originations of 10- and 15-year loans as a result of promotional efforts and continued lower market interest rates, partially offset by payments and sales of 30-year fixed rate loan originations. Construction loans increased $10.0 million, or 19.0%, to $62.8 million, due to successful business development efforts, including relationships with successful developers, and improving real estate markets in Massachusetts and Connecticut. A significant portion of these loans mature in less than a year and will either convert to permanent financing or pay-off in full. Commercial and industrial loans decreased $13.1 million, or 4.3%, to $293.1 million due to repayments offset by new loan originations. We continued to focus our efforts on growing the commercial real estate and commercial and industrial loan portfolios in order to increase our interest income and improve our net interest rate spread.

Asset Quality. Throughout 2013, economic conditions improved modestly despite the effects of sequestration and the government shutdown. Our asset quality has also been impacted by a strategy adopted several years ago to emphasize the origination of commercial and industrial loans and commercial mortgages. These loans have increased as a percentage of our total loan portfolio in recent years and generally have more risk than one- to four-family residential mortgage loans. Because the repayment of commercial and industrial loans and commercial mortgages depends on the successful management and operation of the borrower's properties or related businesses, repayment of such loans can be affected by adverse conditions in the real estate market or the local economy.

As a result of the NEBS acquisition, we experienced an increase in non-performing loans and classified assets in 2012 which continue to be somewhat elevated as compared to historic periods. Non-performing loans increased $1.3 million to $16.0 million, or 0.85% of total loans, at December 31, 2013 as compared to $14.7 million, or 0.81% of total loans, at December 31, 2012, primarily as a result of the NEBS acquisition and continued migration of delinquent loans, primarily commercial real estate loans. Including non-performing loans, the Company has identified $87.7 million of classified assets at December 31, 2013 compared to $95.5 million at December 31, 2012. The decrease of $7.8 million in classified assets is due, in large part, to active efforts to exit marginal credits as well as the upgrade of credits which have exhibited improvement. Classified assets include loans that are performing or non-performing, are of lesser quality and are reported as special mention, substandard, doubtful or loss, as well as other real estate owned. At December 31, 2013 and 2012, classified loans primarily consisted of special mention and substandard commercial business loans and commercial mortgages. Commercial real estate loans make up 56.9% of total classified assets while construction loans for single family homes, subdivisions, and condominium developments represent 5.8%. Other real estate owned totaled $2.5 million at December 31, 2013 and comprises twelve properties, of which seven are residential properties, three are commercial and two are manufactured homes. Management cannot predict the extent to which economic conditions may worsen or other factors may impact borrowers and the classified assets. Accordingly, additional loans may become 90 days or more past due, be placed on nonaccrual status, become classified or restructured, or require increased allowance coverage and provision for loan losses.

Deposits. Total deposits increased $98.3 million, or 5.3%, to $1.95 billion at December 31, 2013 from $1.85 billion at December 31, 2012, primarily due to growth in core deposits accounts of $71.7 million, or 6.3%, to $1.21 billion at December 31, 2013 from $1.14 billion at December 31, 2012. The growth in core deposit account balances was driven by competitive products and pricing, attention to excellence in customer service and targeted promotional activities. Certificates of deposit increased by $26.6 million, or $3.8%, to $734.0 million at December 31, 2012 compared to $707.4 million at December 31, 2012 mainly as a result of the issuance of $20.0 million in brokered CDs with a weighted average rate of 1.28% and a weighted average maturity of 3.7 years.

FHLB Advances. FHLB advances decreased $1.9 million, or 1.3%, to $139.7 million at December 31, 2013 as additional advances used to fund loan originations were more than offset by paydowns.

Repurchase Agreements. Repurchase agreements decreased $7.6 million, or 15.6%, to $41.6 million at December 31, 2013 from $49.2 million at December 31, 2012 due to a decrease in overnight customer repurchase agreements.


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Total Stockholders' Equity. Total stockholders' equity decreased $4.4 million, or 1.4%, to $302.8 million at December 31, 2013 from $307.2 million at December 31, 2012 primarily due to cash dividends paid of $8.5 million, common stock repurchases of $7.3 million and other comprehensive loss of $6.5 million partially offset by net income of $17.4 million.

Comparison of Operating Results for the Years Ended December 31, 2013 and 2012

Net Income. Net income for the year ended December 31, 2013 totaled $17.4 million, or $0.87 per diluted share, compared to net income of $3.6 million, or $0.24 per diluted share, for the same period in 2012. Excluding branch closing costs totaling $987,000, merger-related expenses of $879,000, net gains from sales of securities totaling $227,000, a $206,000 gain related to an investment in a venture capital fund accounted for on a cash basis and the related net tax benefit of $387,000, net income would have been $18.4 million, or $0.92 per diluted share, for the year ended December 31, 2013. Excluding merger-related expenses of $5.0 million, a $4.5 million ESOP plan termination expense, FHLB advance prepayment penalties totaling $227,000, impairment charges on securities of $202,000 and the related tax benefit of $660,000, net income would have been $12.8 million, or $0.83 per diluted share for the year ended December 31, 2012.


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Average Balances and Yields. The following table sets forth average balance sheets, average yields and costs, and certain other information for the periods indicated. No tax-equivalent yield adjustments were made, as the effect thereof was not material. Loan fees are not included in interest income amounts. All average balances are daily average balances. Non-accrual loans were included in the computation of average balances, but have been reflected in the table as loans carrying a zero yield.

                                                                    Years Ended December 31,
                                                     2013                                              2012
                                   Average         Interest and       Yield/         Average         Interest and       Yield/
                                   Balance          Dividends          Cost          Balance          Dividends          Cost
                                                                     (Dollars in thousands)
Interest-earning assets:
Loans:
Residential real estate (1)      $    453,511     $       17,067         3.76%     $    331,143     $       14,926         4.51%
Commercial real estate                904,669             45,567         5.04%          551,980             29,717         5.38%
Home equity loans                     179,115              6,086         3.40%          144,411              5,152         3.57%
Commercial and industrial             305,046             15,189         4.98%          203,667              9,781         4.80%
Consumer and other                     19,977              1,114         5.58%           15,206                825         5.43%

Total loans (2)                     1,862,318             85,023         4.57%        1,246,407             60,401         4.85%
Investment securities                 361,324              9,168         2.54%          341,868             10,544         3.08%
Other interest-earning assets          31,658                102         0.32%           39,816                226         0.57%

Total interest-earning assets       2,255,300             94,293         4.18%        1,628,091             71,171         4.37%
Noninterest-earning assets (3)        179,243                                           116,252

Total assets                     $  2,434,543                                      $  1,744,343


Interest-bearing liabilities:
Savings accounts                 $    343,452              1,196         0.35%     $    270,349              1,328         0.49%
Money market accounts                 430,459              1,603         0.37%          316,228              1,501         0.47%
NOW accounts                           81,758                277         0.34%           57,780                204         0.35%
Certificates of deposit               730,907              8,320         1.14%          451,991              7,433         1.64%

Total interest-bearing
deposits                            1,586,576             11,396         0.72%        1,096,348             10,466         0.95%
FHLB advances                         129,936              2,859         2.20%          108,818              3,360         3.09%
Other interest-bearing
liabilities                            75,342              1,148         1.52%           55,732              1,166         2.09%

Total interest-bearing
liabilities                         1,791,854             15,403         0.86%        1,260,898             14,992         1.19%
Demand deposits                       322,207                                           232,569
Other noninterest-bearing
liabilities                            16,490                                            11,865

Total liabilities                   2,130,551                                         1,505,332
Stockholders' equity                  303,992                                           239,011

Total liabilities and
stockholders' equity             $  2,434,543                                      $  1,744,343

Net interest income                               $       78,890                                    $       56,179

Interest rate spread (4)                                                 3.32%                                             3.18%
Net interest-earning assets
(5)                              $    463,446                                      $    367,193

Net interest margin (6)                                                  3.50%                                             3.45%
Average interest-earning
assets to average
interest-bearing liabilities                                           125.86%                                           129.12%

(1) Includes loans held for sale.

(2) Loans, including non-accrual loans, are net of deferred loan origination costs and advanced funds.

(3) Includes bank-owned life insurance, the income on which is classified as non-interest income.

(4) Interest rate spread represents the difference between the yield on average interest-earning assets and the cost of average interest-bearing liabilities.

(5) Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities.

(6) Net interest margin represents net interest income divided by average total interest-earning assets.


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Rate/Volume Analysis. The following table presents the effects of changing . . .

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