UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

Commission File Number: 001-34981

Fidelity Southern Corporation

(Exact name of registrant as specified in its charter)

Georgia		58-1416811
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)
3490 Piedmont Road, Suite 1550, Atlanta GA		30305
(Address of principal executive offices)		(Zip Code)

(404) 639-6500

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o		Accelerated filer o		Non-accelerated filer o		Smaller Reporting Company þ
				(Do not check if a Smaller Reporting Company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class		Shares Outstanding at October 31, 2011
Common Stock, no par value		13,048,328

 

 

FIDELITY SOUTHERN CORPORATION

INDEX

		Page
Part I. Financial Information
Item l. Financial Statements (Unaudited)
Consolidated Balance Sheets as of September 30, 2011 (unaudited) and December 31, 2010			3
Consolidated Statements of Income (unaudited) for the Three Months and the Nine Months Ended September 30, 2011 and 2010			4
Consolidated Statements of Cash Flows (unaudited) for the Nine Months Ended September 30, 2011 and 2010			5
Notes to Consolidated Financial Statements (unaudited)			6
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			28
Item 3. Quantitative and Qualitative Disclosures about Market Risk			41
Item 4. Controls and Procedures			41
Part II. Other Information			42
Item 1. Legal Proceedings			42
Item 1A. Risk Factors			42
Item 6. Exhibits			42
Signature Page			42
Exhibit 31.1
Exhibit 31.2
Exhibit 32.1
Exhibit 32.2
EX-101 INSTANCE DOCUMENT
EX-101 SCHEMA DOCUMENT
EX-101 CALCULATION LINKBASE DOCUMENT
EX-101 LABELS LINKBASE DOCUMENT
EX-101 PRESENTATION LINKBASE DOCUMENT

PART I — FINANCIAL INFORMATION

FIDELITY SOUTHERN CORPORATION AND SUBSIDIARIES

		(Unaudited)
		September 30,				December 31,
		2011				2010
		(Dollars in thousands)
Assets
Cash and due from banks		$	114,837			$	45,761
Interest-bearing deposits with banks			2,587				1,481
Federal funds sold			810				517
Cash and cash equivalents			118,234				47,759
Investment securities available-for-sale (amortized cost of $233,691 and $160,740 at September 30, 2011 and December 31, 2010, respectively)			238,488				161,478
Investment securities held-to-maturity (approximate fair value of $10,525 and $14,926 at September 30, 2011 and December 31, 2010, respectively)			9,680				14,110
Investment in FHLB stock			6,413				6,542
Loans held-for-sale (loans at fair value: $71,063 at September 30, 2011; $155,029 at December 31, 2010)			125,268				209,898
Loans			1,500,094				1,403,372
Allowance for loan losses			(29,381	)			(28,082	)
Loans, net of allowance for loan losses			1,470,713				1,375,290
Premises and equipment, net			22,057				19,510
Other real estate, net			24,494				20,525
Accrued interest receivable			7,825				7,990
Bank owned life insurance			31,183				30,275
Other assets			55,320				51,923
Total Assets		$	2,109,675			$	1,945,300
Liabilities
Deposits:
Noninterest-bearing demand deposits		$	247,660			$	185,614
Interest-bearing deposits:
Demand and money market			447,154				427,590
Savings			401,759				398,012
Time deposits, $100,000 and over			322,251				246,317
Other time deposits			346,693				355,715
Total deposits			1,765,517				1,613,248
Other short-term borrowings			40,011				32,977
Subordinated debt			67,527				67,527
Other long-term debt			52,500				75,000
Accrued interest payable			2,078				2,973
Other liabilities			19,030				13,064
Total liabilities			1,946,663				1,804,789
Shareholders’ Equity
Preferred stock, no par value. Authorized 10,000,000; 48,200 shares issued and outstanding			46,240				45,578
Common stock, no par value. Authorized 50,000,000; issued and outstanding 13,034,346 and 10,829,492 at September 30, 2011 and December 31, 2010			72,320				57,542
Unrealized gain on investments, net of tax			2,974				458
Retained earnings			41,478				36,933
Total shareholders’ equity			163,012				140,511
Total liabilities and shareholders’ equity		$	2,109,675			$	1,945,300

See accompanying notes to consolidated financial statements

FIDELITY SOUTHERN CORPORATION AND SUBSIDIARIES

		Nine Months Ended								Three Months Ended
		September 30,								September 30,
		2011				2010				2011				2010
		(Dollars in thousands, except per share data)
Interest income
Loans, including fees		$	64,302			$	64,886			$	21,258			$	22,068
Investment securities			4,994				6,350				1,592				1,602
Federal funds sold and bank deposits			199				149				109				43
Total interest income			69,495				71,385				22,959				23,713
Interest expense
Deposits			12,790				18,732				3,810				5,507
Short-term borrowings			512				898				168				185
Subordinated debt			3,365				3,378				1,122				1,138
Other long-term debt			1,056				1,135				304				446
Total interest expense			17,723				24,143				5,404				7,276
Net interest income			51,772				47,242				17,555				16,437
Provision for loan losses			15,025				10,150				4,400				5,025
Net interest income after provision for loan losses			36,747				37,092				13,155				11,412
Noninterest income
Service charges on deposit accounts			2,995				3,291				1,023				1,072
Other fees and charges			1,929				1,596				676				553
Mortgage banking activities			16,629				14,842				5,186				7,042
Indirect lending activities			4,310				3,397				1,600				1,200
SBA lending activities			6,592				1,797				756				951
Bank owned life insurance			979				980				326				324
Securities gains			1,078				2,291				—				—
Other			1,246				1,122				411				419
Total noninterest income			35,758				29,316				9,978				11,561
Noninterest expense
Salaries and employee benefits			34,115				30,634				11,652				11,729
Furniture and equipment			2,280				2,002				737				684
Net occupancy			3,389				3,374				1,094				1,159
Communication			1,636				1,390				541				471
Professional and other services			4,119				3,391				1,474				1,279
Other real estate expense			5,567				5,939				1,316				1,412
FDIC insurance premiums			2,136				2,657				428				890
Other			8,531				6,409				3,173				2,355
Total noninterest expense			61,773				55,796				20,415				19,979
Income before income tax expense			10,732				10,612				2,718				2,994
Income tax expense			3,166				3,467				608				913
Net income			7,566				7,145				2,110				2,081
Preferred stock dividends			(2,469	)			(2,469	)			(823	)			(823	)
Net income available to common equity		$	5,097			$	4,676			$	1,287			$	1,258
Earnings per share:
Basic earnings per share		$	0.43			$	0.43			$	0.10			$	0.12
Diluted earnings per share		$	0.38			$	0.39			$	0.09			$	0.10
Weighted average common shares outstanding-basic			11,862,364				10,819,597				13,031,875				10,819,597
Weighted average common shares outstanding-fully diluted			13,348,764				12,118,745				14,410,371				12,118,745

See accompanying notes to consolidated financial statements.

FIDELITY SOUTHERN CORPORATION AND SUBSIDIARIES

		Nine Months Ended
		September 30,
		2011				2010
		(In thousands)
Operating Activities
Net income		$	7,566			$	7,145
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Provision for loan losses			15,025				10,150
Depreciation and amortization of premises and equipment			1,515				1,344
Other amortization			2,190				1,372
Reserve for impairment of other real estate			3,532				3,588
Share-based compensation			23				186
Proceeds from sales of loans			1,036,728				829,134
Proceeds from sales of other real estate			11,950				10,118
Loans originated for resale			(932,597	)			(874,641	)
Gain on loan sales			(19,501	)			(9,756	)
Gain on sales of investment securities			(1,078	)			(2,291	)
Gain on sales of other real estate			(547	)			(541	)
Increase in cash value of bank owned life insurance			(908	)			(909	)
Net increase in deferred income taxes			(1,608	)			(2,097	)
Changes in assets and liabilities which provided (used) cash:
Accrued interest receivable			165				(316	)
Other assets			(4,758	)			5,759
Accrued interest payable			(895	)			(1,833	)
Other liabilities			5,966				3,907
Net cash provided by (used in) operating activities			122,768				(19,681	)
Investing Activities
Purchases of investment securities available-for-sale			(171,838	)			(230,141	)
Purchases of investment in FHLB stock			—				(90	)
Proceeds from sale of investment securities available-for-sale			32,781				94,676
Maturities and calls of investment securities held-to-maturity			4,437				3,643
Maturities and calls of investment securities available-for-sale			66,414				123,921
Redemption of investment in FHLB stock			129				315
Net increase in loans			(129,353	)			(89,605	)
Capital improvements to other real estate			—				(350	)
Purchases of premises and equipment			(4,062	)			(2,481	)
Net cash used in investing activities			(201,492	)			(100,112	)
Financing Activities
Net increase in transactional accounts			85,357				132,047
Net increase (decrease) in time deposits			66,912				(121,598	)
Net (decrease) increase in borrowings			(15,466	)			5,845
Dividends paid			(135	)			(6	)
Proceeds from the issuance of common stock			14,338				2,195
Preferred stock dividends paid			(1,807	)			(1,807	)
Net cash provided by financing activities			149,199				16,676
Net increase (decrease) in cash and cash equivalents			70,475				(103,117	)
Cash and cash equivalents, beginning of period			47,759				171,120
Cash and cash equivalents, end of period		$	118,234			$	68,003
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest		$	18,618			$	25,976
Income taxes		$	8,886			$	2,278
Non-cash transfers to other real estate		$	18,904			$	12,287
Accretion on U.S. Treasury preferred stock		$	662			$	662
Loans transferred from held-for-sale		$	1,586			$	3,884

See accompanying notes to consolidated financial statements.

FIDELITY SOUTHERN CORPORATION AND SUBSIDIARIES

1. Basis of Presentation

The accompanying unaudited consolidated financial statements include the accounts of Fidelity Southern Corporation and its wholly owned subsidiaries (“Fidelity”). Fidelity Southern Corporation (“FSC”) owns 100% of Fidelity Bank (the “Bank”), and LionMark Insurance Company, an insurance agency offering consumer credit related insurance products. FSC also owns five subsidiaries established to issue trust preferred securities, which entities are not consolidated for financial reporting purposes in accordance with Accounting Standards Codification (“ASC”) 942-810-55, as FSC is not the primary beneficiary. The “Company”, as used herein, includes FSC and its subsidiaries, unless the context otherwise requires.

These unaudited consolidated financial statements have been prepared in conformity with U.S. generally accepted accounting principles followed within the financial services industry for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required for complete financial statements.

In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the periods covered by the statements of income. Actual results could differ significantly from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for loan losses, the valuation of mortgage loans held-for-sale, the calculations of and the amortization of capitalized servicing rights, the valuation of net deferred income taxes and the valuation of real estate or other assets acquired in connection with foreclosures or in satisfaction of loans. In addition, the actual lives of certain amortizable assets and income items are estimates subject to change. The Company principally operates in one business segment, which is community banking.

In the opinion of management, all adjustments considered necessary for a fair presentation of the financial position and results of operations for the interim periods have been included. All such adjustments are normal recurring accruals. Certain previously reported amounts have been reclassified to conform to current presentation. These reclassifications had no impact on previously reported net income, or shareholders’ equity or cash flows. The Company’s significant accounting policies are described in Note 1 of the Notes to Consolidated Financial Statements included in our 2010 Annual Report on Form 10-K filed with the Securities and Exchange Commission. There were no new accounting policies or changes to existing policies adopted in the first nine months of 2011, which had a significant effect on the results of operations or statement of financial condition. For interim reporting purposes, the Company follows the same basic accounting policies and considers each interim period as an integral part of an annual period.

Operating results for the nine month period ended September 30, 2011, are not necessarily indicative of the results that may be expected for the year ended December 31, 2011. These statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K and Annual Report to Shareholders for the year ended December 31, 2010.

2. Shareholders’ Equity

The Board of Governors of the Federal Reserve System (the “FRB”) is the primary regulator of FSC, a bank holding company. The Bank is a state chartered commercial bank subject to Federal and state statutes applicable to banks chartered under the banking laws of the State of Georgia and to banks whose deposits are insured by the Federal Deposit Insurance Corporation (the “FDIC”), the Bank’s primary Federal regulator. The Bank is a wholly owned subsidiary of the Company. The Bank’s state regulator is the Georgia Department of Banking and Finance (the “GDBF”). The FDIC and the GDBF examine and evaluate the financial condition, operations, and policies and procedures of state chartered commercial banks, such as the Bank, as part of their legally prescribed oversight responsibilities.

The FRB, FDIC, and GDBF have established capital adequacy requirements as a function of their oversight of bank holding companies and state chartered banks. Each bank holding company and each bank must maintain certain minimum capital ratios. At September 30, 2011 and December 31, 2010, the Company exceeded all capital ratios required by the FRB, FDIC, and GDBF to be considered well capitalized.

In May 2011, the Company increased capital $14.4 million in a private placement of common stock. The 2,167,166 shares were sold for $6.65 per share, with no investor purchasing shares resulting in beneficial ownership of more than 9.9% of the Company’s common stock.

Earnings per share were calculated as follows:

		For the Quarter Ended September 30,
		2011				2010
		(Dollars in thousands, except per share data)
Net income		$	2,110			$	2,081
Less dividends on preferred stock and accretion of discount			(823	)			(823	)
Net income available to common equity		$	1,287			$	1,258
Average common shares outstanding			12,967				10,550
Effect of stock dividends			65				266
Average common shares outstanding — basic			13,032				10,816
Dilutive stock options and warrants			1,378				1,378
Average common shares outstanding — dilutive			14,410				12,194
Earnings per share — basic		$	0.10			$	0.12
Earnings per share — dilutive		$	0.09			$	0.10

		For the Nine Months Ended September 30,
		2011				2010
		(Dollars in thousands, except per share data)
Net income		$	7,566			$	7,145
Less dividends on preferred stock and accretion of discount			(2,469	)			(2,469	)
Net income available to common equity		$	5,097			$	4,676
Average common shares outstanding			11,803				10,659
Effect of stock dividends			59				161
Average common shares outstanding — basic			11,862				10,820
Dilutive stock options and warrants			1,487				1,299
Average common shares outstanding — dilutive			13,349				12,119
Earnings per share — basic		$	0.43			$	0.43
Earnings per share — dilutive		$	0.38			$	0.39

Average number of shares for 2011 and 2010 includes participating securities related to unvested restricted stock awards. There were 150,907 in common stock options with an average exercise price of $18.37 at September 30, 2011, and 158,407 in options with an average price of $18.38 at September 30, 2010, which would have been included in the calculation of dilutive earnings per share except that to do so would have an anti-dilutive impact on earnings per share.

3. Contingencies

Due to the nature of their activities, the Company and its subsidiaries are at times engaged in various legal proceedings that arise in the course of normal business, some of which were outstanding as of September 30, 2011. While it is difficult to predict or determine the outcome of these proceedings, it is the opinion of management, after consultation with its legal counsel, that the ultimate liabilities, if any, will not have a material adverse impact on the Company’s consolidated results of operations, financial position, or cash flows.

4. Comprehensive Income

Comprehensive income includes net income and other comprehensive income (loss), related to unrealized gains and losses on investment securities classified as available-for-sale. All other comprehensive income (loss) items are tax effected at a rate of 38% for each period.

During the third quarter and first nine months of 2011, other comprehensive income net of tax was $1.7 million and $2.5 million, respectively. Other comprehensive income, net of tax, was $292,000 and $1.6 million for the comparable periods in 2010. Comprehensive income for the third quarter and first nine months of 2011 was $3.8 million and $10.1 million, respectively, compared to $2.4 million and $8.8 million for the same periods in 2010.

5. Share-Based Compensation

The Company’s 1997 Stock Option Plan authorized the grant of options to management personnel for up to 500,000 shares of the Company’s common stock. All options granted have three year to eight year terms and vest and become fully exercisable at the end of three years to five years of continued employment. No options may be or were granted after June 30, 2007, under this plan.

The Fidelity Southern Corporation Equity Incentive Plan (the “2006 Incentive Plan”), as amended, permits the grant of stock options, stock appreciation rights, restricted stock and other incentive awards (“Incentive Awards”). Pursuant to an amendment to the Plan adopted by the shareholders on April 26, 2011, the maximum number of shares of the Company’s common stock that may be issued under the 2006 Incentive Plan is 2,250,000 shares, all of which may be stock options. Generally, no award shall be exercisable or become vested or payable more than 10 years after the date of grant. Options granted under the 2006 Incentive Plan have four year terms and become fully exercisable at the end of three years of continued employment. Incentive awards available under the 2006 Incentive Plan totaled 212,227 shares at September 30, 2011.

In the first quarter of 2010, FSC granted 154,078 restricted shares of common stock under the 2006 Equity Incentive Plan to certain employees. The stock was granted at $4.50 per share, vests 40% after two years and then 20% per year through five years and will be fully vested after January 22, 2015. The restricted stock is subject to section 111 of the Emergency Economic Stabilization Act of 2008, as amended by the American Recovery and Reinvestment Act of 2009 and regulations issued by the Department of the Treasury. At September 30, 2011, there was $451,000 in remaining unrecognized compensation cost related to the restricted stock.

A summary of option activity as of September 30, 2011, and changes during the nine month period then ended is presented below:

										Weighted
						Weighted				Average
		Number of				Average				Remaining				Aggregate
		share				Exercise				Contractual				Intrinsic
		options				Price				Terms				Value
Outstanding at January 1, 2011			492,239			$	8.59
Granted			—				—
Exercised			334				8.57
Forfeited			121,000				18.70
Outstanding at September 30, 2011			370,905			$	5.30			1.8 years				$	434,000
Exercisable at September 30, 2011			370,905			$	5.30			1.8 years				$	434,000

Share-based compensation expense was not significant for the three month and nine month periods ended September 30, 2011.

6. Fair Value Election and Measurement

The Company adopted the provisions of SFAS No. 157, “Fair Value Measurements”, now codified in FASB ASC 820-10-35, for financial assets and financial liabilities, which establishes a common definition of fair value and framework for measuring fair value under U.S. GAAP. Fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. FASB ASC 820-10-35 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurements) and the lowest priority to unobservable inputs (level 3 measurements). The three levels of the fair value hierarchy under FASB ASC 820-10-35 are described below:

Level 1 — Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;

Level 2 — Quoted prices in markets that are not active, or inputs that are observable, either directly, for substantially the full term of the asset or liability;

Level 3 — Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported by little or no market activity).

A financial instrument’s level within the hierarchy is based on the lowest level of input that is significant to the fair value measurement.

In certain circumstances, fair value enables a company to more accurately align its financial performance with the economic value of hedged assets. Fair value enables a company to mitigate the non-economic earnings volatility caused from financial assets and financial liabilities being carried at different bases of accounting, as well as to more accurately portray the active and dynamic management of a company’s balance sheet.

In accordance with SFAS No. 159 “The Fair Value Option for Financial Assets and Financial Liabilities” which is now codified in ASC 825-10-25, the Company has elected to record mortgage loans held-for-sale at fair value. The following is a description of mortgage loans held-for-sale as of September 30, 2011, including the specific reasons for electing fair value and the strategies for managing these assets on a fair value basis.

Mortgage Loans Held-for-Sale

The Company records mortgage loans held-for-sale at fair value in order to eliminate the complexities and inherent difficulties of achieving hedge accounting and to better align reported results with the underlying economic changes in value of the loans and related hedge instruments. This election impacts the timing and recognition of origination fees and costs, as well as servicing value. Specifically, origination fees and costs, which had been appropriately deferred under SFAS No. 91 “Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases” now codified in ASC 310-20-25 and previously recognized as part of the gain/loss on sale of the loans, are now recognized in earnings at the time of origination. Interest income on mortgage loans held-for-sale is recorded on an accrual basis in the consolidated statement of income under the heading “Interest income — loans, including fees”. The servicing value is included in the fair value of the Interest Rate Lock Commitments (“IRLCs”) with borrowers. The mark to market adjustments related to loans held-for-sale and the associated economic hedges are captured in mortgage banking activities.

Valuation Methodologies and Fair Value Hierarchy

The primary financial instruments that the Company carries at fair value include investment securities, IRLCs, derivative instruments, and loans held-for-sale. Classification in the fair value hierarchy of financial instruments is based on the criteria set forth in SFAS No. 157, now codified in FASB ASC 820-10-35.

Debt securities issued by U.S. Government corporations and agencies, debt securities issued by states and political subdivisions, and agency residential mortgage backed securities classified as available-for-sale are reported at fair value utilizing Level 2 inputs. For these securities, the Company obtains fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things. The investments in the Company’s portfolio are generally not quoted on an exchange but are actively traded in the secondary institutional markets.

The fair value of mortgage loans held-for-sale is based on what secondary markets are currently offering for portfolios with similar characteristics predominantly consisting of those conforming to government sponsored entity or agency standards. The fair value measurements consider observable data that may include market trade pricing from brokers and the mortgage-backed security markets. As such, the Company classifies these loans as Level 2.

The Company classifies IRLCs on residential mortgage loans held-for-sale, which are derivatives under SFAS No. 133 now codified in ASC 815-10-15, on a gross basis within other liabilities or other assets. The fair value of these commitments, while based on interest rates observable in the market, is highly dependent on the ultimate closing of the loans. These “pull-through” rates are based on both the Company’s historical data and the current interest rate environment and reflect the Company’s best estimate of the likelihood that a commitment will ultimately result in a closed loan. As a result of the adoption of Staff Accounting Bulletin No. 109 (“SAB No. 109”), the loan servicing value is also included in the fair value of IRLCs. Because these inputs are not transparent in market trades, IRLCs are considered to be Level 3 assets.

Derivative instruments are primarily transacted in the secondary mortgage and institutional dealer markets and priced with observable market assumptions at a mid-market valuation point, with appropriate valuation adjustments for liquidity and credit risk. For purposes of valuation adjustments to its derivative positions under FASB ASC 820-10-35, the Company has evaluated liquidity premiums that may be demanded by market participants, as well as the credit risk of its counterparties and its own credit if applicable. To date, no material losses due to a counterparty’s inability to pay any net uncollateralized position has been incurred.

The credit risk associated with the underlying cash flows of an instrument carried at fair value was a consideration in estimating the fair value of certain financial instruments. Credit risk was considered in the valuation through a variety of inputs, as applicable, including, the actual default and loss severity of the collateral, and level of subordination. The assumptions used to estimate credit risk applied relevant information that a market participant would likely use in valuing an instrument. Because mortgage loans held-for-sale are sold within a few weeks of origination, it is unlikely to demonstrate any of the credit weaknesses discussed above and as a result, there were no credit related adjustments to fair value at September 30, 2011.

The following tables present financial assets measured at fair value at September 30, 2011 and December 31, 2010, on a recurring basis and the change in fair value for those specific financial instruments in which fair value has been elected at September 30, 2011 and 2010. The changes in the fair value of economic hedges were also recorded in mortgage banking activities and are designed to partially offset the change in fair value of the mortgage loans held-for-sale and interest rate lock commitments referenced in the tables below.

						Fair Value Measurements at
						September 30, 2011
		Assets				Quoted Prices				Significant
		Measured at				in Active				Other				Significant
		Fair Value				Markets for				Observable				Unobservable
		September 30,				Identical Assets				Inputs				Inputs
		2011				(Level 1)				(Level 2)				(Level 3)
		(In thousands)
Debt securities issued by U.S. Government corporations and agencies		$	66,634			$	—			$	66,634			$	—
Debt securities issued by states and political subdivisions			11,867				—				11,867				—
Residential mortgage-backed securities — Agency			159,987				—				159,987				—
Mortgage loans held-for-sale			71,063				—				71,063				—
Other Assets(1)			6,467				—				—				6,467
Other Liabilities(1)			2,624				—				—				2,624

						Fair Value Measurements at
						December 31, 2010
		Assets				Quoted Prices				Significant
		Measured at				in Active				Other				Significant
		Fair Value				Markets for				Observable				Unobservable
		December 31,				Identical Assets				Inputs				Inputs
		2010				(Level 1)				(Level 2)				(Level 3)
		(In thousands)
Debt securities issued by U.S. Government corporations and agencies		$	26,336			$	—			$	26,336			$	—
Debt securities issued by states and political subdivisions			11,330				—				11,330				—
Residential mortgage-backed securities — Agency			123,812				—				123,812				—
Mortgage loans held-for-sale			155,029				—				155,029				—
Other Assets(1)			6,627				—				—				6,627
Other Liabilities(1)			446				—				—				446

		For Items Measured at Fair Value Pursuant to
		Election of the Fair Value Option: Fair Value Gain
		related to Mortgage Banking Activities for the
		Three Months Ended
		September 30, 2011				September 30, 2010
		(In thousands)
Mortgage loans held-for-sale		$	1,321			$	(1,262	)

		For Items Measured at Fair Value Pursuant to
		Election of the Fair Value Option: Fair Value Gain
		related to Mortgage Banking Activities for the
		Nine Months Ended
		September 30, 2011				September 30, 2010
		(In thousands)
Mortgage loans held-for-sale		$	3,924			$	2,365

The tables below presents a reconciliation of all assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (level 3) during the three and nine months ended September 30, 2011 and 2010.

		Other				Other
		Assets(1)				Liabilities(1)
		(In thousands)
Beginning Balance July 1, 2011		$	1,809			$	(8	)
Total gains (losses) included in earnings:(2)
Issuances			6,467				(2,624	)
Settlements and closed loans			(1,275	)			—
Expirations			(534	)			8
Total gains (losses) included in other comprehensive income			—				—
Ending Balance September 30, 2011 (3)		$	6,467			$	(2,624	)

		Other				Other
		Assets(1)				Liabilities(1)
		(In thousands)
Beginning Balance January 1, 2011		$	6,627			$	(446	)
Total gains (losses) included in earnings:(2)
Issuances			10,032				(2,856	)
Settlements and closed loans			(2,785	)			178
Expirations			(7,407	)			500
Total gains (losses) included in other comprehensive income			—				—
Ending Balance September 30, 2011 (3)		$	6,467			$	(2,624	)

		Other				Other
		Assets(1)				Liabilities(1)
		(In thousands)
Beginning Balance July 1, 2010		$	2,447			$	(2,714	)
Total gains (losses) included in earnings:(2)
Issuances			2,768				(714	)
Settlements and closed loans			(1,864	)			2
Expirations			(583	)			2,712
Total gains (losses) included in other comprehensive income			—				—
Ending Balance September 30, 2010 (3)		$	2,768			$	(714	)

		Other				Other
		Assets(1)				Liabilities(1)
		(In thousands)
Beginning Balance January 1, 2010		$	1,778			$	(55	)
Total gains (losses) included in earnings:(2)
Issuances			6,503				(3,465	)
Settlements and closed loans			(2,524	)			48
Expirations			(2,989	)			2,758
Total gains (losses) included in other comprehensive income			—				—
Ending Balance September 30, 2010 (3)		$	2,768			$	(714	)

The following tables present the assets that are measured at fair value on a non-recurring basis by level within the fair value hierarchy as reported on the consolidated statements of financial position at September 30, 2011, and December 31, 2010.

		Fair Value Measurements at September 30, 2011
						Quoted Prices in				Significant				Significant
						Active Markets for				Other				Unobservable
						Identical Assets				Observable				Inputs				Valuation
		Total				Level 1				Inputs Level 2				Level 3				Allowance
		(In thousands)
Impaired loans		$	59,160			$	—			$	—			$	59,160			$	(7,778	)
ORE			24,494				—				—				24,494				(6,638	)
Mortgage servicing rights			8,675				—				—				8,675				(2,144	)
SBA servicing rights			5,876				—				—				5,876				(333	)

		Fair Value Measurements at December 31, 2010
						Quoted Prices in				Significant				Significant
						Active Markets for				Other				Unobservable
						Identical Assets				Observable				Inputs				Valuation
		Total				Level 1				Inputs Level 2				Level 3				Allowance
		(In thousands)
Impaired loans		$	79,954			$	—			$	—			$	79,954			$	(6,218	)
ORE			20,525				—				—				20,525				(6,403	)
Mortgage servicing rights			5,495				—				—				5,495				(85	)
SBA servicing rights			2,624				—				—				2,624				(203	)

Impaired loans are evaluated and valued at the time the loan is identified as impaired, at the lower of cost or fair value. Fair value is measured based on the value of the collateral securing these loans and is classified as a Level 3 in the fair value hierarchy. Collateral may include real estate or business assets, including equipment, inventory and accounts receivable. The value of real estate collateral is determined based on an appraisal by qualified licensed appraisers hired by the Company. If significant, the value of business equipment is based on an appraisal by qualified licensed appraisers hired by the Company otherwise, the equipment’s net book value on the business’ financial statements is the basis for the value of business equipment. Inventory and accounts receivable collateral are valued based on independent field examiner review or aging reports. Appraised and reported values may be discounted based on management’s historical knowledge, changes in market conditions from the time of the valuation, and management’s expertise and knowledge of the client and client’s business. Impaired loans are evaluated on at least a quarterly basis for additional impairment and adjusted accordingly.

Mortgage servicing rights are initially recorded at fair value when mortgage loans are sold servicing retained. These assets are then amortized in proportion to and over the period of estimated net servicing income. On a monthly basis these servicing assets are assessed for impairment based on fair value. Management determines fair value by stratifying the servicing portfolio into homogeneous subsets with unique behavior characteristics, converting those characteristics into income and expense streams, adjusting those streams for prepayments, present valuing the adjusted streams, and combining the present values into a total. If the cost basis of any loan stratification tranche is higher than the present value of the tranche, an impairment is recorded.

SBA servicing rights are initially recorded at fair value when loans are sold servicing retained. These assets are then amortized in proportion to and over the period of estimated net servicing income. On a monthly basis these servicing assets are assessed for impairment based on fair value. Management determines fair value by stratifying the servicing portfolio into homogeneous subsets with unique behavior characteristics, converting those characteristics into income and expense streams, adjusting those streams for prepayments, present valuing the adjusted streams, and combining the present values into a total. If the cost basis of any loan stratification tranche is higher than the present value of the tranche, an impairment is recorded.

Foreclosed assets in Other Real Estate are adjusted to fair value upon transfer of the loans to foreclosed assets. Subsequently, foreclosed assets are carried at the lower of carrying value or fair value less estimated selling costs. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral. When the fair value of the collateral is based on an observable market price or a current appraised value, the Company records the foreclosed asset as nonrecurring Level 2. When an appraised value is not available or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, the Company records the foreclosed asset as nonrecurring Level 3. Appraised and reported values may be discounted based on management’s historical knowledge, changes in market conditions from the time of the valuation, and management’s expertise and knowledge of the client and client’s business.

The following tables present the difference between the aggregate fair value and the aggregate unpaid principal balance of loans held-for-sale for which the fair value option has been elected as of September 30, 2011 and December 31, 2010. The tables also include the difference between aggregate fair value and the aggregate unpaid principal balance of loans that are 90 days or more past due, as well as loans in nonaccrual status.

						Aggregate Unpaid
		Aggregate Fair Value				Principal Balance Under				Fair Value Over
		September 30, 2011				FVO September 30, 2011				Unpaid Principal
		(In thousands)
Loans held-for-sale		$	71,063			$	69,081			$	1,982
Past due loans of 90+ days			—				—				—
Nonaccrual loans			—				—				—

						Aggregate Unpaid				Fair Value
		Aggregate Fair Value				Principal Balance Under				Under Unpaid
		December 31, 2010				FVO December 31, 2010				Principal
		(In thousands)
Loans held-for-sale		$	155,029			$	156,971			$	(1,942	)
Past due loans of 90+ days			—				—				—
Nonaccrual loans			—				—				—

SFAS No. 107, “Disclosures about Fair Value of Financial Instruments,” (“SFAS No. 107”) as amended by FASB Staff Position No. FAS 107-1 and APB 28-1, “Interim Disclosures about Fair Value of Financial Instruments” now codified in ASC 825-10-50 requires disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate that value. In cases where quoted market prices are not available, fair values are based on settlements using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets, and, in many cases, could not be realized in immediate settlement of the instrument. ASC 825-10-50 excludes certain financial instruments and all non-financial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company.

		September 30, 2011								December 31, 2010
		Carrying								Carrying
		Amount				Fair Value				Amount				Fair Value
		(In thousands)
Financial Instruments (Assets):
Cash and due from banks		$	117,424			$	117,424			$	47,242			$	47,242
Federal funds sold			810				810				517				517
Investment securities available-for-sale			238,488				238,488				161,478				161,478
Investment securities held-to-maturity			9,680				10,525				14,110				14,926
Investment in FHLB stock			6,413				6,413				6,542				6,542
Total loans(1)			1,595,981				1,475,337				1,585,188				1,469,404
Total financial instruments (assets)			1,968,796			$	1,848,997							$	1,700,109
Non-financial instruments (assets)			140,879								130,223
Total assets		$	2,109,675							$	1,945,300
Financial Instruments (Liabilities):
Noninterest-bearing demand deposits		$	247,660			$	247,660			$	185,614			$	185,614
Interest-bearing deposits			1,517,857				1,526,412				1,427,634				1,433,558
Total deposits			1,765,517				1,774,072				1,613,248				1,619,172
Short-term borrowings			40,011				40,229				32,977				32,977
Subordinated debt			67,527				59,158				67,527				63,279
Other long-term debt			52,500				52,193				75,000				75,457
Total financial instruments (liabilities)			1,925,555			$	1,925,652				1,788,752			$	1,790,885
Non-financial instruments (liabilities and shareholders’ equity)			184,120								156,548
Total liabilities and shareholders’ equity		$	2,109,675							$	1,945,300

The carrying amounts reported in the consolidated balance sheets for cash, due from banks, and Federal funds sold approximate the fair values of those assets. For investment securities, fair value equals quoted market prices, if available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities or dealer quotes.

Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type. The fair value of performing loans is calculated by discounting scheduled cash flows through the remaining maturities using estimated market discount rates that reflect the credit and interest rate risk inherent in the loans along with a market risk premium and liquidity discount.

Fair value for significant nonperforming loans is estimated taking into consideration recent external appraisals of the underlying collateral for loans that are collateral dependent. If appraisals are not available or if the loan is not collateral dependent, estimated cash flows are discounted using a rate commensurate with the risk associated with the estimated cash flows. Assumptions regarding credit risk, cash flows, and discount rates are judgmentally determined using available market information and specific borrower information.

The fair value of deposits with no stated maturities, such as noninterest-bearing demand deposits, savings, interest-bearing demand, and money market accounts, is equal to the amount payable on demand. The fair value of time deposits is based on the discounted value of contractual cash flows based on the discounted rates currently offered for deposits of similar remaining maturities.

The carrying amounts reported in the consolidated balance sheets for short-term debt generally approximate those liabilities’ fair values with the exception of FHLB advances which are estimated based on the current rates offered to us for debt of the same remaining maturity.

The fair value of the Company’s long-term debt is estimated based on the quoted market prices for the same or similar issues or on the current rates offered to us for debt of the same remaining maturities.

For off-balance sheet instruments, fair values are based on rates currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing for loan commitments and letters of credit. Fees related to these instruments were immaterial at September 30, 2011 and December 31, 2010, and the carrying amounts represent a reasonable approximation of their fair values. Loan commitments, letters and lines of credit, and similar obligations typically have variable interest rates and clauses that deny funding if the customer’s credit quality deteriorates. Therefore, the fair values of these items are not significant and are not included in the foregoing schedule.

This presentation excludes certain nonfinancial instruments. The disclosures also do not include certain intangible assets, such as customer relationships, and deposit base intangibles. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company.

7. Derivative Financial Instruments

The Company maintains a risk management program to manage interest rate risk and pricing risk associated with its mortgage lending activities. The risk management program includes the use of forward contracts and other derivatives that are recorded in the financial statements at fair value and are used to offset changes in value of the mortgage inventory due to changes in market interest rates. As a normal part of its operations, the Company enters into derivative contracts to economically hedge risks associated with overall price risk related to IRLCs and mortgage loans held-for-sale carried at fair value under ASC 825-10-25. Fair value changes occur as a result of interest rate movements as well as changes in the value of the associated servicing. Derivative instruments used include forward sale commitments and IRLCs. All derivatives are carried at fair value in the Consolidated Balance Sheets in other assets or other liabilities. A gross loss of $2.3 million for the first nine months of 2011 associated with the forward sales commitments and IRLCs, is recorded in the Consolidated Statements of Income in mortgage banking activities.

The Company’s risk management derivatives are based on underlying risks primarily related to interest rates and forward sales commitments. Forwards are contracts for the delayed delivery or net settlement of an underlying instrument, such as a mortgage loan, in which the seller agrees to deliver on a specified future date, either a specified instrument at a specified price or yield or the net cash equivalent of an underlying instrument. These hedges are used to preserve the Company’s position relative to future sales of loans to third parties in an effort to minimize the volatility of the expected gain on sale from changes in interest rate and the associated pricing changes.

Credit and Market Risk Associated with Derivatives

Derivatives expose the Company to credit risk. If the counterparty fails to perform, the credit risk at that time would be equal to the net derivative asset position, if any, for that counterparty. The Company minimizes the credit or repayment risk in derivative instruments by entering into transactions with high quality counterparties that are reviewed periodically by the Company’s Risk Management area.

The Company’s derivative positions as of September 30, 2011, were as follows:

		Contract or Notional
		Amount
		(In thousands)
Forward rate commitments		$	295,558
Interest rate lock commitments			229,844
Total derivatives contracts		$	525,402

8. Investments

Investment securities at September 30, 2011 and December 31, 2010, are summarized as follows:

		September 30, 2011								December 31, 2010
		Amortized								Amortized
		Cost				Fair Value				Cost				Fair Value
		(In thousands)
Available-for-Sale:
Obligations of U.S. Government corporations and agencies:
Due in less than one year		$	20,000			$	20,160			$	10,000			$	10,039
Due after one year through five years			46,135				46,474				16,135				16,297
Municipal securities:
Due in less than one year			501				505				—				—
Due after one year through five years			5,644				5,788				5,592				5,482
Due five years through ten years			5,559				5,574				6,113				5,848
Residential mortgage-backed securities-agency:
Due after one year through five years			140,606				144,110				118,958				119,962
Due five years through ten years			15,246				15,877				3,942				3,850
		$	233,691			$	238,488			$	160,740			$	161,478
Held-to-Maturity:
Residential mortgage-backed securities-agency:
Due in less than one year		$	—			$	—			$	1,770			$	1,785
Due after one year through five years			9,680				10,525				12,340				13,141
		$	9,680			$	10,525			$	14,110			$	14,926

The Bank sold five securities available-for-sale totaling $32.8 million during the nine month period ended September 30, 2011. Proceeds received totaled $33.9 million for a gross gain of $1.1 million. The Bank sold 16 securities held-for-sale totaling $98.3 million during the nine month period ended September 30, 2010. Proceeds received totaled $100.6 million for a gross gain of $2.3 million. The Bank had six securities for a total of $53.2 million called during the nine month period ended September 30, 2011. Fourteen securities for a total of $110.7 million were called during the nine months ended September 30, 2010. There were no investments held in trading accounts during 2011 and 2010.

		September 30, 2011
						Gross				Gross				Other than
		Amortized				Unrealized				Unrealized				Temporary
		Cost				Gains				Losses				Impairment				Fair Value
		(In thousands)
Available-for-Sale:
Obligations of U.S. Government corporations and agencies		$	66,135			$	512			$	(13	)		$	—			$	66,634
Municipal securities			11,704				321				(158	)			—				11,867
Residential mortgage-backed securities — agency			155,852				4,135				—				—				159,987
		$	233,691			$	4,968			$	(171	)		$	—			$	238,488
Held-to-Maturity:
Residential mortgage-backed securities — agency		$	9,680			$	845			$	—			$	—			$	10,525
		$	9,680			$	845			$	—			$	—			$	10,525