Document
Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.  20549
 
FORM 10-Q
 
(Mark One)
 
x          Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period
    ended September 30, 2018
or
o                 Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition
period from              to            
 
Commission File Number: 1-6887
 
BANK OF HAWAII CORPORATION
(Exact name of registrant as specified in its charter)
Delaware
 
99-0148992
(State of incorporation)
 
(I.R.S. Employer Identification No.)
 
 
 
130 Merchant Street, Honolulu, Hawaii
 
96813
(Address of principal executive offices)
 
(Zip Code)
 1-888-643-3888
(Registrant’s telephone number, including area code)
 
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 x 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 (Section 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 x  No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company.  See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer x
Accelerated filer o
Non-accelerated filer o 
Smaller reporting company o
 
Emerging growth company o
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes o  No x
 
As of October 16, 2018, there were 41,752,644 shares of common stock outstanding.

Table of Contents

Bank of Hawaii Corporation
Form 10-Q
Index
 
 
 
Page
 
 
 
Part I - Financial Information
 
 
 
 
Item 1.
Financial Statements (Unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

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Bank of Hawaii Corporation and Subsidiaries
Consolidated Statements of Income (Unaudited)
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
(dollars in thousands, except per share amounts)
2018

 
2017

 
2018

 
2017

Interest Income
 

 
 

 
 

 
 

Interest and Fees on Loans and Leases
$
104,248

 
$
94,621

 
$
303,193

 
$
273,467

Income on Investment Securities
 
 
 
 
 
 
 
Available-for-Sale
12,588

 
11,987

 
37,109

 
34,906

Held-to-Maturity
20,821

 
20,334

 
62,828

 
59,958

Deposits
10

 
5

 
24

 
12

Funds Sold
1,393

 
1,579

 
2,996

 
3,165

Other
364

 
235

 
1,005

 
673

Total Interest Income
139,424

 
128,761

 
407,155

 
372,181

Interest Expense
 

 
 

 
 

 
 

Deposits
10,931

 
6,663

 
27,971

 
15,352

Securities Sold Under Agreements to Repurchase
4,667

 
4,664

 
13,848

 
14,928

Funds Purchased
33

 
—

 
169

 
42

Short-Term Borrowings
28

 
—

 
57

 
64

Other Debt
838

 
1,117

 
2,731

 
3,327

Total Interest Expense
16,497

 
12,444

 
44,776

 
33,713

Net Interest Income
122,927

 
116,317

 
362,379

 
338,468

Provision for Credit Losses
3,800

 
4,000

 
11,425

 
12,650

Net Interest Income After Provision for Credit Losses
119,127

 
112,317

 
350,954

 
325,818

Noninterest Income
 

 
 

 
 

 
 

Trust and Asset Management
10,782

 
11,050

 
33,319

 
34,325

Mortgage Banking
1,965

 
3,237

 
6,289

 
10,356

Service Charges on Deposit Accounts
7,255

 
8,188

 
21,249

 
24,522

Fees, Exchange, and Other Service Charges
14,173

 
13,764

 
42,906

 
41,061

Investment Securities Gains (Losses), Net
(729
)
 
(566
)
 
(3,097
)
 
11,047

Annuity and Insurance
1,360

 
1,429

 
4,413

 
5,585

Bank-Owned Life Insurance
1,620

 
1,861

 
5,258

 
4,908

Other
5,056

 
3,447

 
16,478

 
11,758

Total Noninterest Income
41,482

 
42,410

 
126,815

 
143,562

Noninterest Expense
 

 
 

 
 

 
 

Salaries and Benefits
51,782

 
51,190

 
158,352

 
152,031

Net Occupancy
8,702

 
7,727

 
25,824

 
24,026

Net Equipment
6,116

 
5,417

 
17,488

 
16,624

Data Processing
4,241

 
3,882

 
12,695

 
11,173

Professional Fees
2,206

 
3,044

 
7,525

 
8,415

FDIC Insurance
2,057

 
2,107

 
6,396

 
6,413

Other
15,434

 
15,231

 
47,433

 
46,673

Total Noninterest Expense
90,538

 
88,598

 
275,713

 
265,355

Income Before Provision for Income Taxes
70,071

 
66,129

 
202,056

 
204,025

Provision for Income Taxes
13,138

 
20,248

 
36,365

 
62,306

Net Income
$
56,933

 
$
45,881

 
$
165,691

 
$
141,719

Basic Earnings Per Share
$
1.37

 
$
1.09

 
$
3.96

 
$
3.35

Diluted Earnings Per Share
$
1.36

 
$
1.08

 
$
3.93

 
$
3.32

Dividends Declared Per Share
$
0.60

 
$
0.52

 
$
1.72

 
$
1.52

Basic Weighted Average Shares
41,620,776

 
42,251,541

 
41,846,080

 
42,336,441

Diluted Weighted Average Shares
41,899,401

 
42,565,364

 
42,133,776

 
42,662,163

 
The accompanying notes are an integral part of the Consolidated Financial Statements (Unaudited).

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Table of Contents

Bank of Hawaii Corporation and Subsidiaries
Consolidated Statements of Comprehensive Income (Unaudited)
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
(dollars in thousands)
2018

 
2017

 
2018

 
2017

Net Income
$
56,933

 
$
45,881

 
$
165,691

 
$
141,719

Other Comprehensive Income (Loss), Net of Tax:
 

 
 

 
 

 
 

Net Unrealized Gains (Losses) on Investment Securities
(5,599
)
 
444

 
(17,694
)
 
8,444

Defined Benefit Plans
216

 
146

 
648

 
439

Total Other Comprehensive Income (Loss)
(5,383
)
 
590

 
(17,046
)
 
8,883

Comprehensive Income
$
51,550

 
$
46,471

 
$
148,645

 
$
150,602

 
The accompanying notes are an integral part of the Consolidated Financial Statements (Unaudited).

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Table of Contents

Bank of Hawaii Corporation and Subsidiaries
Consolidated Statements of Condition (Unaudited)
(dollars in thousands)
September 30,
2018

 
December 31,
2017

Assets
 

 
 

Interest-Bearing Deposits in Other Banks
$
3,725

 
$
3,421

Funds Sold
104,199

 
181,413

Investment Securities
 

 
 

Available-for-Sale
2,049,687

 
2,232,979

Held-to-Maturity (Fair Value of $3,549,235 and $3,894,121)
3,664,487

 
3,928,170

Loans Held for Sale
18,063

 
19,231

Loans and Leases
10,231,062

 
9,796,947

Allowance for Loan and Lease Losses
(108,690
)
 
(107,346
)
Net Loans and Leases
10,122,372

 
9,689,601

Total Earning Assets
15,962,533

 
16,054,815

Cash and Due From Banks
227,049

 
263,017

Premises and Equipment, Net
142,928

 
130,926

Accrued Interest Receivable
54,839

 
50,485

Foreclosed Real Estate
1,909

 
1,040

Mortgage Servicing Rights
24,463

 
24,622

Goodwill
31,517

 
31,517

Bank-Owned Life Insurance
282,637

 
280,034

Other Assets
263,859

 
252,596

Total Assets
$
16,991,734

 
$
17,089,052

 
 
 
 
Liabilities
 

 
 

Deposits
 

 
 

Noninterest-Bearing Demand
$
4,678,981

 
$
4,724,300

Interest-Bearing Demand
2,975,069

 
3,082,563

Savings
5,444,053

 
5,389,013

Time
1,745,232

 
1,688,092

Total Deposits
14,843,335

 
14,883,968

Short-Term Borrowings
629

 
—

Securities Sold Under Agreements to Repurchase
504,293

 
505,293

Other Debt
185,662

 
260,716

Retirement Benefits Payable
36,288

 
37,312

Accrued Interest Payable
7,689

 
6,946

Taxes Payable and Deferred Taxes
15,549

 
24,009

Other Liabilities
144,962

 
138,940

Total Liabilities
15,738,407

 
15,857,184

Shareholders’ Equity
 

 
 

Common Stock ($.01 par value; authorized 500,000,000 shares;
issued / outstanding: September 30, 2018 - 58,070,578 / 41,809,551
and December 31, 2017 - 57,959,074 / 42,401,443)
577

 
576

Capital Surplus
569,223

 
561,161

Accumulated Other Comprehensive Loss
(59,238
)
 
(34,715
)
Retained Earnings
1,612,998

 
1,512,218

Treasury Stock, at Cost (Shares: September 30, 2018 - 16,261,027
and December 31, 2017 - 15,557,631)
(870,233
)
 
(807,372
)
Total Shareholders’ Equity
1,253,327

 
1,231,868

Total Liabilities and Shareholders’ Equity
$
16,991,734

 
$
17,089,052

 The accompanying notes are an integral part of the Consolidated Financial Statements (Unaudited).

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Table of Contents

Bank of Hawaii Corporation and Subsidiaries
Consolidated Statements of Shareholders’ Equity (Unaudited)
(dollars in thousands)
Common
Shares Outstanding

 
Common Stock

 
Capital
Surplus

 
Accum.
Other
Compre-
hensive
Income
(Loss)

 
Retained Earnings

 
Treasury Stock

 
Total

Balance as of December 31, 2017
42,401,443

 
$
576

 
$
561,161

 
$
(34,715
)
 
$
1,512,218

 
$
(807,372
)
 
$
1,231,868

Net Income
—

 
—

 
—

 
—

 
165,691

 
—

 
165,691

Other Comprehensive Loss
—

 
—

 
—

 
(17,046
)
 
—

 
—

 
(17,046
)
Reclassification of the Income Tax Effects of the
Tax Cuts and Jobs Act from AOCI
—

 
—

 
—

 
(7,477
)
 
7,477

 
—

 
—

Share-Based Compensation
—

 
—

 
6,208

 
—

 
—

 
—

 
6,208

Common Stock Issued under Purchase and Equity
Compensation Plans
203,289

 
1

 
1,854

 
—

 
251

 
4,127

 
6,233

Common Stock Repurchased
(795,181
)
 
—

 
—

 
—

 
—

 
(66,988
)
 
(66,988
)
Cash Dividends Declared ($1.72 per share)
—

 
—

 
—

 
—

 
(72,639
)
 
—

 
(72,639
)
Balance as of September 30, 2018
41,809,551

 
$
577

 
$
569,223

 
$
(59,238
)
 
$
1,612,998

 
$
(870,233
)
 
$
1,253,327

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance as of December 31, 2016
42,635,978

 
$
576

 
$
551,628

 
$
(33,906
)
 
$
1,415,440

 
$
(772,201
)
 
$
1,161,537

Net Income
—

 
—

 
—

 
—

 
141,719

 
—

 
141,719

Other Comprehensive Income
—

 
—

 
—

 
8,883

 
—

 
—

 
8,883

Share-Based Compensation
—

 
—

 
5,332

 
—

 
—

 
—

 
5,332

Common Stock Issued under Purchase and Equity
Compensation Plans
319,377

 
—

 
1,570

 
—

 
(383
)
 
10,552

 
11,739

Common Stock Repurchased
(442,007
)
 
—

 
—

 
—

 
—

 
(36,371
)
 
(36,371
)
Cash Dividends Declared ($1.52 per share)
—

 
—

 
—

 
—

 
(64,946
)
 
—

 
(64,946
)
Balance as of September 30, 2017
42,513,348

 
$
576

 
$
558,530

 
$
(25,023
)
 
$
1,491,830

 
$
(798,020
)
 
$
1,227,893

The accompanying notes are an integral part of the Consolidated Financial Statements (Unaudited).

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Table of Contents

Bank of Hawaii Corporation and Subsidiaries
Consolidated Statements of Cash Flows (Unaudited)
 
Nine Months Ended
 
September 30,
(dollars in thousands)
2018

 
2017

Operating Activities
 

 
 

Net Income
$
165,691

 
$
141,719

Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities:
 

 
 

Provision for Credit Losses
11,425

 
12,650

Depreciation and Amortization
10,512

 
9,832

Amortization of Deferred Loan and Lease Fees
(330
)
 
(744
)
Amortization and Accretion of Premiums/Discounts on Investment Securities, Net
25,633

 
29,685

Share-Based Compensation
6,208

 
5,332

Benefit Plan Contributions
(1,352
)
 
(11,098
)
Deferred Income Taxes
(6,557
)
 
3,871

Net Gains on Sales of Loans and Leases
(2,642
)
 
(5,615
)
Net Losses (Gains) on Sales of Investment Securities
3,097

 
(11,047
)
Proceeds from Sales of Loans Held for Sale
215,897

 
238,137

Originations of Loans Held for Sale
(214,047
)
 
(231,464
)
Net Tax Benefits from Share-Based Compensation
985

 
2,515

Net Change in Other Assets and Other Liabilities
(5,148
)
 
(37,405
)
Net Cash Provided by Operating Activities
209,372

 
146,368

 
 
 
 
Investing Activities
 

 
 

Investment Securities Available-for-Sale:
 

 
 

Proceeds from Sales, Prepayments and Maturities
287,744

 
289,771

Purchases
(147,694
)
 
(417,899
)
Investment Securities Held-to-Maturity:
 

 
 

Proceeds from Prepayments and Maturities
653,488

 
654,484

Purchases
(399,346
)
 
(795,272
)
Net Change in Loans and Leases
(444,529
)
 
(722,352
)
Proceeds from Sales of Loans
—

 
137,717

Premises and Equipment, Net
(22,514
)
 
(21,489
)
Net Cash Used in Investing Activities
(72,851
)
 
(875,040
)
 
 
 
 
Financing Activities
 

 
 

Net Change in Deposits
(40,634
)
 
727,920

Net Change in Short-Term Borrowings
(371
)
 
(27,701
)
Repayments of Long-Term Debt
(75,000
)
 
—

Proceeds from Issuance of Common Stock
6,233

 
11,679

Repurchase of Common Stock
(66,988
)
 
(36,371
)
Cash Dividends Paid
(72,639
)
 
(64,946
)
Net Cash Provided by (Used in) Financing Activities
(249,399
)
 
610,581

 
 
 
 
Net Change in Cash and Cash Equivalents
(112,878
)
 
(118,091
)
Cash and Cash Equivalents at Beginning of Period
447,851

 
879,607

Cash and Cash Equivalents at End of Period
$
334,973

 
$
761,516

Supplemental Information
 

 
 

Cash Paid for Interest
$
44,033

 
$
32,331

Cash Paid for Income Taxes
32,403

 
49,957

Non-Cash Investing Activities:
 

 
 

Transfer from Loans to Foreclosed Real Estate
2,592

 
2,559

Transfers from Loans to Loans Held for Sale
—

 
86,625

 
The accompanying notes are an integral part of the Consolidated Financial Statements (Unaudited).

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Table of Contents

Bank of Hawaii Corporation and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)

Note 1.  Summary of Significant Accounting Policies

Basis of Presentation

Bank of Hawaii Corporation (the “Parent”) is a Delaware corporation and a bank holding company headquartered in Honolulu, Hawaii.  Bank of Hawaii Corporation and its subsidiaries (collectively, the “Company”) provide a broad range of financial products and services to customers in Hawaii, Guam, and other Pacific Islands.  The accompanying consolidated financial statements include the accounts of the Parent and its subsidiaries. The Parent’s principal operating subsidiary is Bank of Hawaii (the “Bank”). 

The consolidated financial statements in this report have not been audited by an independent registered public accounting firm, but in the opinion of management, reflect all adjustments necessary for a fair presentation of the results for the interim periods. All such adjustments are of a normal recurring nature. Intercompany accounts and transactions have been eliminated in consolidation. Certain prior period information has been reclassified to conform to the current period presentation. Operating results for the interim periods disclosed herein are not necessarily indicative of the results that may be expected for the full fiscal year or for any future period.

The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.  Accordingly, they do not include all of the information and accompanying notes required by GAAP for complete financial statements and should be read in conjunction with the audited consolidated financial statements and related notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017. 

Use of Estimates in the Preparation of Financial Statements

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts in the financial statements and accompanying notes.  Actual results may differ from those estimates and such differences could be material to the financial statements.

Variable Interest Entities

Variable interests are defined as contractual ownership or other interests in an entity that change with fluctuations in an entity’s net asset value. The primary beneficiary consolidates the variable interest entity (“VIE”). The primary beneficiary is defined as the enterprise that has both the power to direct the activities of the VIE that most significantly impact the entity’s economic performance and the obligation to absorb losses or the right to receive benefits that could be significant to the VIE.

The Company has limited partnership interests in several low-income housing partnerships. These partnerships provide funds for the construction and operation of apartment complexes that provide affordable housing to lower-income households. If these developments successfully attract a specified percentage of residents falling in that lower-income range, state and/or federal income tax credits are made available to the partners. The tax credits are generally recognized over 10 years. In order to continue receiving the tax credits each year over the life of the partnership, the low-income residency targets must be maintained.

Prior to January 1, 2015, the Company utilized the effective yield method whereby the Company recognized tax credits generally over 10 years and amortized the initial cost of the investment to provide a constant effective yield over the period that tax credits are allocated to the Company. On January 1, 2015, the Company adopted ASU No. 2014-01, “Accounting for Investments in Qualified Affordable Housing Projects” prospectively for new investments. ASU No. 2014-01 permits reporting entities to make an accounting policy election to account for their investments in qualified affordable housing projects using the proportional amortization method if certain conditions are met. As permitted by ASU No. 2014-01, the Company elected to continue to utilize the effective yield method for investments made prior to January 1, 2015.


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Unfunded commitments to fund these low-income housing partnerships were $15.4 million and $17.5 million as of September 30, 2018 and December 31, 2017, respectively. These unfunded commitments are unconditional and legally binding and are recorded in other liabilities in the consolidated statements of condition. See Note 6 Affordable Housing Projects Tax Credit Partnerships for more information.

The Company also has limited partnership interests in solar energy tax credit partnership investments. These partnerships develop, build, own and operate solar renewable energy projects. Over the course of these investments, the Company expects to receive federal and state tax credits, tax-related benefits, and excess cash available for distribution, if any. The Company may be called to sell its interest in the limited partnerships through a call option once all investment tax credits have been recognized. Tax benefits associated with these investments are generally recognized over six years.
These entities meet the definition of a VIE; however, the Company is not the primary beneficiary of the entities as the general partner has both the power to direct the activities that most significantly impact the economic performance of the entities and the obligation to absorb losses or the right to receive benefits that could be significant to the entities. While the partnership agreements allow the limited partners, through a majority vote, to remove the general partner, this right is not deemed to be substantive as the general partner can only be removed for cause.

The investments in these entities are initially recorded at cost, which approximates the maximum exposure to loss as a result of the Company’s involvement with these unconsolidated entities. The balance of the Company’s investments in these entities was $81.2 million and $87.6 million as of September 30, 2018 and December 31, 2017, respectively, and is included in other assets in the consolidated statements of condition.

Tax Cuts and Jobs Act

Public law No. 115-97, known as the Tax Cuts and Jobs Act (the "Tax Act"), which was enacted on December 22, 2017, reduced the U.S. federal corporate tax rate from 35% to 21% effective January 1, 2018. Also on December 22, 2017, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 118 (“SAB 118”), which provides guidance on accounting for tax effects of the Tax Act. SAB 118 provides a measurement period of up to one year from the enactment date to complete the accounting. Any adjustments during this measurement period will be included in net earnings from continuing operations as an adjustment to income tax expense in the reporting period when such adjustments are determined. Based on the information available and current interpretation of the rules, the Company estimated the impact of the reduction in the corporate tax rate and remeasurement of certain deferred tax assets and liabilities. The provisional amount recorded in the fourth quarter of 2017 related to the remeasurement of the Company's deferred tax balance resulted in additional income tax expense of $3.6 million. An additional $0.1 million was expensed in the first quarter of 2018 due to the remeasurement of the Company’s deferred tax balance. In addition, during the first quarter of 2018, the Company recorded a $2.0 million basis adjustment on its low income housing partnership investments, which consequently reduced income tax expense by the same amount. The remeasurement of the Company’s deferred tax balance in the third quarter of 2018 resulted in an income tax expense reduction of $0.3 million. The Company finalized the impact of the Tax Act in the third quarter of 2018.

Accounting Standards Adopted in 2018

In May 2014, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2014-09, “Revenue from Contracts with Customers.” The standard’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so, companies generally will be required to use more judgment and make more estimates than under prior guidance. These may include identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. Subsequent to the issuance of ASU 2014-09, the FASB issued targeted updates to clarify specific implementation issues including ASU No. 2016-08, “Principal versus Agent Considerations (Reporting Revenue Gross versus Net),” ASU No. 2016-10, “Identifying Performance Obligations and Licensing,” ASU No. 2016-12, “Narrow-Scope Improvements and Practical Expedients,” and ASU No. 2016-20 “Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers.” For financial reporting purposes, the standard allows for either full retrospective adoption, meaning the standard is applied to all of the periods presented, or modified retrospective adoption, meaning the standard is applied only to the most current period presented in the financial statements with the cumulative effect of initially applying the standard recognized at the date of initial application. Since the standard does not apply to revenue associated with financial instruments, including loans and securities that are accounted for under other GAAP, the new standard did not have a material impact on revenue most closely associated with financial instruments, including interest income and expense. The Company completed its overall assessment of revenue streams and review of related contracts potentially affected by the ASUs, including trust and asset management fees, deposit related fees, interchange fees, merchant income, and annuity and insurance commissions.

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Based on this assessment, the Company concluded that ASU 2014-09 did not materially change the method in which the Company currently recognizes revenue for these revenue streams. The Company also completed its evaluation of certain costs related to these revenue streams to determine whether such costs should be presented as expenses or contra-revenue (i.e., gross vs. net). Based on its evaluation, the Company determined that the classification of certain debit and credit card related costs should change (i.e., costs previously recorded as expense is now recorded as contra-revenue, and vice versa). These classification changes resulted in immaterial changes to both revenue and expense. The Company also determined that certain costs related to ATMs should be recorded as an expense rather than a reduction of revenue. This change did not have a material effect to noninterest income or expense. The Company adopted ASU 2014-09 and its related amendments on its required effective date of January 1, 2018 utilizing the modified retrospective approach. Since there was no net income impact upon adoption of the new guidance, a cumulative effect adjustment to opening retained earnings was not deemed necessary. Consistent with the modified retrospective approach, the Company did not adjust prior period amounts for the debit and credit card costs and the ATM costs reclassifications noted above. See Note 15 Revenue Recognition for more information.

In January 2016, the FASB issued ASU No. 2016-01, “Recognition and Measurement of Financial Assets and Financial Liabilities.” This ASU addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments by making targeted improvements to GAAP as follows: (1) require equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer; (2) simplify the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment. When a qualitative assessment indicates that impairment exists, an entity is required to measure the investment at fair value; (3) eliminate the requirement to disclose the fair value of financial instruments measured at amortized cost for entities that are not public business entities; (4) eliminate the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet; (5) require public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes; (6) require an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments; (7) require separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements; and (8) clarify that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity’s other deferred tax assets. The Company adopted ASU No. 2016-01 on January 1, 2018 did not have a material impact on the Company’s Consolidated Financial Statements. In accordance with (5) above, the Company measured the fair value of its loan portfolio as of September 30, 2018 using an exit price notion (see Note 14 Fair Value of Assets and Liabilities).

In August 2016, the FASB issued ASU No. 2016-15, “Classification of Certain Cash Receipts and Cash Payments.” At the time, GAAP was unclear or did not include specific guidance on how to classify certain transactions in the statement of cash flows. This ASU is intended to reduce diversity in practice in how eight particular transactions are classified in the statement of cash flows. ASU No. 2016-15 was effective for interim and annual reporting periods beginning after December 15, 2017. Entities were required to apply the guidance retrospectively. If it is impracticable to apply the guidance retrospectively for an issue, the amendments related to that issue would be applied prospectively. The Company adopted ASU No. 2016-15 on January 1, 2018. ASU No. 2016-15 did not have a material impact on the Company’s Consolidated Financial Statements.

In March 2017, the FASB issued ASU No. 2017-07, “Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost.” Under the new guidance, employers are required to present the service cost component of the net periodic benefit cost in the same income statement line item (e.g., Salaries and Benefits) as other employee compensation costs arising from services rendered during the period. In addition, only the service cost component will be eligible for capitalization in assets. Employers will present the other components of net periodic benefit cost separately (e.g., Other Noninterest Expense) from the line item that includes the service cost. ASU No. 2017-07 became effective for interim and annual reporting periods beginning after December 15, 2017. Employers will apply the guidance on the presentation of the components of net periodic benefit cost in the income statement retrospectively. The guidance limiting the capitalization of net periodic benefit cost in assets to the service cost component will be applied prospectively. The Company adopted ASU No. 2017-07 on January 1, 2018 and utilized the ASU’s practical expedient allowing entities to estimate amounts for comparative periods using the information previously disclosed in their pension and other postretirement benefit plan footnote. ASU No. 2017-07 did not have a material impact on the Company’s Consolidated Financial Statements.


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In February 2018, the FASB issued ASU No. 2018-02, “Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income.”  This ASU allows a reclassification from accumulated other comprehensive income (“AOCI”) to retained earnings for certain income tax effects stranded in AOCI as a result of the Tax Act.  Consequently, the reclassification eliminates the stranded tax effects resulting from the Tax Act and is intended to improve the usefulness of information reported to financial statement users. However, because the ASU only relates to the reclassification of the income tax effects of the Tax Act, the underlying guidance that requires the effect of a change in tax laws or rates to be included in income from continuing operations is not affected.  ASU No. 2018-02 is effective for the Company's reporting period beginning on January 1, 2019; early adoption is permitted. The Company elected to adopt ASU No. 2018-02 during the first quarter of 2018, and elected to reclassify the income tax effects of the Tax Act from AOCI to retained earnings. The reclassification decreased AOCI and increased retained earnings by $7.5 million, with zero net effect on total shareholders’ equity. The Company utilizes the individual securities approach when releasing income tax effects from AOCI for its investment securities.

In September 2018, the FASB issued ASU No. 2018-15, “Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract.” This ASU requires an entity in a cloud computing arrangement (i.e., hosting arrangement) that is a service contract to follow the internal-use software guidance in ASC 350-40 to determine which implementation costs to capitalize as assets or expense as incurred. Capitalized implementation costs should be presented in the same line item on the balance sheet as amounts prepaid for the hosted service, if any (generally as an “other asset”). The capitalized costs will be amortized over the term of the hosting arrangement, with the amortization expense being presented in the same income statement line item as the fees paid for the hosted service. ASU 2018-15 is effective for interim and annual reporting periods beginning after December 15, 2019; early adoption is permitted. The Company elected to adopt ASU 2018-15 during the quarter ended September 30, 2018 on a prospective basis. ASU 2018-15 did not have a material impact on the Company’s Consolidated Financial Statements.

Accounting Standards Pending Adoption

In February 2016, the FASB issued ASU No. 2016-02, “Leases.” Under the new guidance, lessees will be required to recognize the following for all leases (with the exception of short-term leases): 1) a lease liability, which is the present value of a lessee’s obligation to make lease payments, and 2) a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. Lessor accounting under the new guidance remains largely unchanged as it is substantially equivalent to existing guidance for sales-type leases, direct financing leases, and operating leases. Leveraged leases have been eliminated, although lessors can continue to account for existing leveraged leases using the current accounting guidance. Other limited changes were made to align lessor accounting with the lessee accounting model and the new revenue recognition standard. All entities will classify leases to determine how to recognize lease-related revenue and expense. Quantitative and qualitative disclosures will be required by lessees and lessors to meet the objective of enabling users of financial statements to assess the amount, timing, and uncertainty of cash flows arising from leases. The intention is to require enough information to supplement the amounts recorded in the financial statements so that users can understand more about the nature of an entity’s leasing activities. ASU No. 2016-02 is effective for interim and annual reporting periods beginning after December 15, 2018. All entities are required to use a modified retrospective approach for leases that exist or are entered into after the beginning of the earliest comparative period in the financial statements. As the Company expects to elect the transition option provided in ASU No. 2018-11 (see below), the modified retrospective approach will be applied on January 1, 2019 (as opposed to January 1, 2017). The Company also expects to elect certain relief options offered in ASU 2016-02 including the package of practical expedients, the option not to separate lease and non-lease components and instead to account for them as a single lease component, and the option not to recognize right-of-use assets and lease liabilities that arise from short-term leases (i.e., leases with terms of twelve months or less). The Company will likely not elect the hindsight practical expedient, which allows entities to use hindsight when determining lease term and impairment of right-of-use assets. The Company has several lease agreements, such as branch locations, which are currently considered operating leases, and therefore, not recognized on the Company’s consolidated statements of condition. The Company expects the new guidance will require these lease agreements to be recognized on the consolidated statements of condition as a right-of-use asset and a corresponding lease liability. Therefore, the Company’s preliminary evaluation indicates the provisions of ASU No. 2016-02 are expected to impact the Company’s consolidated statements of condition, along with the Company’s regulatory capital ratios. However, the Company does not expect the new guidance to have a material impact on the Company’s consolidated statements of income. The Company is nearing completion of its effort to compile a complete inventory of arrangements containing a lease and accumulating the lease data necessary to apply the amended guidance. In addition, the Company is implementing new software to aid in the transition, and the majority of the Company’s leases have been entered into this new leasing software program.


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In June 2016, the FASB issued ASU No. 2016-13, “Measurement of Credit Losses on Financial Instruments.” This ASU significantly changes how entities will measure credit losses for most financial assets and certain other instruments that are not measured at fair value through net income. In issuing the standard, the FASB is responding to criticism that today’s guidance delays recognition of credit losses. The standard will replace today’s “incurred loss” approach with an “expected loss” model. The new model, referred to as the current expected credit loss (“CECL”) model, will apply to: (1) financial assets subject to credit losses and measured at amortized cost, and (2) certain off-balance sheet credit exposures. This includes, but is not limited to, loans, leases, held-to-maturity securities, loan commitments, and financial guarantees. The CECL model does not apply to available-for-sale (“AFS”) debt securities. For AFS debt securities with unrealized losses, entities will measure credit losses in a manner similar to what they do today, except that the credit losses will be recognized as allowances rather than reductions in the amortized cost of the securities. As a result, entities will recognize improvements to estimated credit losses immediately in earnings rather than as interest income over time, as they do today. The ASU also simplifies the accounting model for purchased credit-impaired debt securities and loans. ASU 2016-13 also expands the disclosure requirements regarding an entity’s assumptions, models, and methods for estimating the allowance for loan and lease losses. In addition, entities will need to disclose the amortized cost balance for each class of financial asset by credit quality indicator, disaggregated by the year of origination. ASU No. 2016-13 is effective for interim and annual reporting periods beginning after December 15, 2019; early adoption is permitted for interim and annual reporting periods beginning after December 15, 2018. Entities will apply the standard’s provisions as a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective (i.e., modified retrospective approach). The Company is continuing its implementation efforts through its Company-wide implementation team. This team has assigned roles and responsibilities, key tasks to complete, and a general timeline to be followed. The team meets periodically to discuss the latest developments and ensure progress is being made. The team also keeps current on evolving interpretations and industry practices related to ASU 2016-13 via webcasts, publications, conferences, and peer bank meetings. The team has been working with an advisory consultant and is in the process of finalizing the methodologies that will be utilized. The Company’s preliminary evaluation indicates the provisions of ASU No. 2016-13 are expected to impact the Company’s Consolidated Financial Statements, in particular the level of the reserve for credit losses.  The Company is continuing to evaluate the extent of the potential impact. 

In August 2017, the FASB issued ASU No. 2017-12, “Targeted Improvements to Accounting for Hedging Activities.” This ASU’s objectives are to (1) improve the transparency and understandability of information conveyed to financial statement users about an entity’s risk management activities by better aligning the entity’s financial reporting for hedging relationships with those risk management activities; and (2) reduce the complexity of and simplify the application of hedge accounting by preparers. ASU No. 2017-12 is effective for interim and annual reporting periods beginning after December 15, 2018; early adoption is permitted. The Company currently does not designate any derivative financial instruments as formal hedging relationships, and therefore, does not utilize hedge accounting. However, the Company is currently evaluating this ASU to determine whether its provisions will enhance the Company’s ability to employ risk management strategies, while improving the transparency and understanding of those strategies for financial statement users.

In July 2018, the FASB issued ASU No. 2018-11, “Leases - Targeted Improvements” to provide entities with relief from the costs of implementing certain aspects of the new leasing standard, ASU No. 2016-02. Specifically, under the amendments in ASU 2018-11: (1) entities may elect not to recast the comparative periods presented when transitioning to the new leasing standard, and (2) lessors may elect not to separate lease and non-lease components when certain conditions are met. The amendments have the same effective date as ASU 2016-02 (January 1, 2019 for the Company). The Company expects to elect both transition options. ASU 2018-11 is not expected to have a material impact on the Company’s Consolidated Financial Statements.

In August 2018, the FASB issued ASU No. 2018-13, “Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement.” This ASU eliminates, adds and modifies certain disclosure requirements for fair value measurements. Among the changes, entities will no longer be required to disclose the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, but will be required to disclose the range and weighted average used to develop significant unobservable inputs for Level 3 fair value measurements. ASU No. 2018-13 is effective for interim and annual reporting periods beginning after December 15, 2019; early adoption is permitted. Entities are also allowed to elect early adoption the eliminated or modified disclosure requirements and delay adoption of the new disclosure requirements until their effective date. As ASU No. 2018-13 only revises disclosure requirements, it will not have a material impact on the Company’s Consolidated Financial Statements.

In August 2018, the FASB issued ASU No. 2018-14, “Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefit Plans.” This ASU makes minor changes to the disclosure requirements for employers that sponsor defined benefit pension and/or other postretirement benefit plans. ASU 2018-14 is effective for fiscal years ending after December 15, 2020; early adoption is permitted. As ASU 2018-14 only revises disclosure requirements, it will not have a material impact on the Company’s Consolidated Financial Statements.

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Note 2.  Cash and Cash Equivalents

The following table provides a reconciliation of cash and cash equivalents reported within the consolidated statements of condition that sum to the total of the same such amounts shown in the consolidated statements of cash flows:
(dollars in thousands)
September 30,
2018

 
December 31,
2017

Interest-Bearing Deposits in Other Banks
$
3,725

 
$
3,421

Funds Sold
104,199

 
181,413

Cash and Due From Banks
227,049

 
263,017

Total Cash and Cash Equivalents
$
334,973

 
$
447,851

 
 
 
 


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Table of Contents

Note 3.  Investment Securities

The amortized cost, gross unrealized gains and losses, and fair value of the Company’s investment securities as of September 30, 2018 and December 31, 2017 were as follows:

(dollars in thousands)
Amortized Cost

 
Gross
Unrealized Gains

 
Gross
Unrealized Losses

 
Fair Value

September 30, 2018
 

 
 

 
 

 
 

Available-for-Sale:
 

 
 

 
 

 
 

Debt Securities Issued by the U.S. Treasury and Government Agencies
$
420,400

 
$
474

 
$
(2,710
)
 
$
418,164

Debt Securities Issued by States and Political Subdivisions
574,755

 
4,275

 
(2,383
)
 
576,647

Debt Securities Issued by Government-Sponsored Enterprises
55


—


—

 
55

Debt Securities Issued by Corporations
224,997

 
65

 
(1,071
)
 
223,991

Mortgage-Backed Securities:
 

 
 

 
 

 
 

    Residential - Government Agencies
198,364

 
1,807

 
(1,138
)
 
199,033

    Residential - U.S. Government-Sponsored Enterprises
595,632

 
338

 
(23,778
)
 
572,192

    Commercial - Government Agencies
64,414

 
—

 
(4,809
)
 
59,605

Total Mortgage-Backed Securities
858,410

 
2,145

 
(29,725
)
 
830,830

Total
$
2,078,617

 
$
6,959

 
$
(35,889
)
 
$
2,049,687

Held-to-Maturity:
 

 
 

 
 

 
 

Debt Securities Issued by the U.S. Treasury and Government Agencies
$
422,762

 
$
—

 
$
(2,185
)
 
$
420,577

Debt Securities Issued by States and Political Subdivisions
235,588

 
5,271

 
—

 
240,859

Debt Securities Issued by Corporations
101,120

 
—

 
(3,248
)
 
97,872

Mortgage-Backed Securities:
 
 
 
 
 
 
 

    Residential - Government Agencies
1,956,198

 
3,140

 
(79,935
)
 
1,879,403

    Residential - U.S. Government-Sponsored Enterprises
768,121

 
226

 
(31,029
)
 
737,318

    Commercial - Government Agencies
180,698

 
—

 
(7,492
)
 
173,206

Total Mortgage-Backed Securities
2,905,017

 
3,366


(118,456
)

2,789,927

Total
$
3,664,487

 
$
8,637

 
$
(123,889
)
 
$
3,549,235

 
 
 
 
 
 
 
 
December 31, 2017
 

 
 

 
 

 
 

Available-for-Sale:
 

 
 

 
 

 
 

Debt Securities Issued by the U.S. Treasury and Government Agencies
$
424,912

 
$
2,053

 
$
(1,035
)
 
$
425,930

Debt Securities Issued by States and Political Subdivisions
618,167

 
9,894

 
(1,042
)
 
627,019

Debt Securities Issued by Corporations
268,003

 
199

 
(2,091
)
 
266,111

Mortgage-Backed Securities:
 
 
 
 
 
 
 

    Residential - Government Agencies
233,268

 
3,129

 
(1,037
)
 
235,360

    Residential - U.S. Government-Sponsored Enterprises
619,795

 
420

 
(10,403
)
 
609,812

    Commercial - Government Agencies
71,999

 
—

 
(3,252
)
 
68,747

Total Mortgage-Backed Securities
925,062

 
3,549

 
(14,692
)
 
913,919

Total
$
2,236,144

 
$
15,695

 
$
(18,860
)
 
$
2,232,979

Held-to-Maturity:
 

 
 

 
 

 
 

Debt Securities Issued by the U.S. Treasury and Government Agencies
$
375,074

 
$
18

 
$
(1,451
)
 
$
373,641

Debt Securities Issued by States and Political Subdivisions
238,504

 
9,125

 
—

 
247,629

Debt Securities Issued by Corporations
119,635

 
123

 
(1,591
)
 
118,167

Mortgage-Backed Securities:
 
 
 
 
 
 
 

    Residential - Government Agencies
2,229,985

 
9,975

 
(37,047
)
 
2,202,913

    Residential - U.S. Government-Sponsored Enterprises
763,312

 
911

 
(11,255
)
 
752,968

    Commercial - Government Agencies
201,660

 
797

 
(3,654
)
 
198,803

Total Mortgage-Backed Securities
3,194,957

 
11,683

 
(51,956
)
 
3,154,684

Total
$
3,928,170

 
$
20,949

 
$
(54,998
)
 
$
3,894,121


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The table below presents an analysis of the contractual maturities of the Company’s investment securities as of September 30, 2018.  Debt securities issued by government agencies (Small Business Administration securities) and mortgage-backed securities are disclosed separately in the table below as these investment securities may prepay prior to their scheduled contractual maturity dates.
(dollars in thousands)
Amortized Cost

 
Fair Value

Available-for-Sale:
 

 
 

Due in One Year or Less
$
51,919

 
$
51,866

Due After One Year Through Five Years
631,703

 
630,347

Due After Five Years Through Ten Years
94,253

 
95,875

Due After Ten Years
22,912

 
23,568

 
800,787

 
801,656

 
 
 
 
Debt Securities Issued by Government Agencies
419,420

 
417,201

Mortgage-Backed Securities:
 

 
 

    Residential - Government Agencies
198,364

 
199,033

    Residential - U.S. Government-Sponsored Enterprises
595,632

 
572,192

    Commercial - Government Agencies
64,414

 
59,605

Total Mortgage-Backed Securities
858,410

 
830,830

Total
$
2,078,617

 
$
2,049,687

 
 
 
 
Held-to-Maturity:
 

 
 

Due in One Year or Less
$
164,903

 
$
164,495

Due After One Year Through Five Years
347,271

 
346,571

Due After Five Years Through Ten Years
230,227

 
230,391

Due After Ten Years
17,069

 
17,851

 
759,470

 
759,308

Mortgage-Backed Securities:
 

 
 

    Residential - Government Agencies
1,956,198

 
1,879,403

    Residential - U.S. Government-Sponsored Enterprises
768,121

 
737,318

    Commercial - Government Agencies
180,698

 
173,206

Total Mortgage-Backed Securities
2,905,017

 
2,789,927

Total
$
3,664,487

 
$
3,549,235


Investment securities with carrying values of $2.5 billion and $2.4 billion as of September 30, 2018 and December 31, 2017, respectively, were pledged to secure deposits of governmental entities and securities sold under agreements to repurchase.

The table below presents the gains and losses from the sales of investment securities for the three and nine months ended September 30, 2018 and 2017.
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
(dollars in thousands)
2018

 
2017

 
2018

 
2017

Gross Gains on Sales of Investment Securities
$
—

 
$
—

 
$
—

 
$
12,467

Gross Losses on Sales of Investment Securities
(729
)
 
(566
)
 
(3,097
)
 
(1,420
)
Net Gains (Losses) on Sales of Investment Securities
$
(729
)
 
$
(566
)
 
$
(3,097
)
 
$
11,047


The losses during    the three months ended September 30, 2018 were due to fees paid to the counterparties of the Company’s prior Visa Class B share sale transactions. The losses during the nine months ended September 30, 2018 were due to fees paid to the counterparties of the Company’s prior Visa Class B share sale transactions combined with a $1.0 million liability recorded in second quarter 2018 related to a change in the Visa Class B conversion ratio.


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Table of Contents

The Company’s gross unrealized losses and the related fair value of investment securities, aggregated by investment category and length of time in a continuous unrealized loss position, were as follows:
 
Less Than 12 Months
 
12 Months or Longer
 
Total
(dollars in thousands)
Fair Value

 
Gross Unrealized Losses

 
Fair Value

 
Gross Unrealized Losses

 
Fair Value

 
Gross Unrealized Losses

September 30, 2018
 

 
 

 
 

 
 

 
 

 
 

Available-for-Sale:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury
   and Government Agencies
$
188,906

 
$
(1,089
)
 
$
168,680

 
$
(1,621
)
 
$
357,586

 
$
(2,710
)
Debt Securities Issued by States
   and Political Subdivisions
256,816

 
(1,894
)
 
45,914

 
(489
)
 
302,730

 
(2,383
)
Debt Securities Issued by U.S.
   Government-Sponsored Enterprises
50

 
—

 
—

 
—

 
50

 
—

Debt Securities Issued by Corporations
24,940

 
(60
)
 
163,986

 
(1,011
)
 
188,926

 
(1,071
)
Mortgage-Backed Securities:
 
 
 
 
 
 
 
 


 


    Residential - Government Agencies
11,614

 
(128
)
 
16,470

 
(1,010
)
 
28,084

 
(1,138
)
    Residential - U.S. Government-Sponsored Enterprises
133,539

 
(3,236
)
 
417,167

 
(20,542
)
 
550,706

 
(23,778
)
    Commercial - Government Agencies
—

 
—

 
59,605

 
(4,809
)
 
59,605

 
(4,809
)
Total Mortgage-Backed Securities
145,153

 
(3,364
)
 
493,242

 
(26,361
)
 
638,395

 
(29,725
)
Total
$
615,865

 
$
(6,407
)
 
$
871,822

 
$
(29,482
)
 
$
1,487,687

 
$
(35,889
)
Held-to-Maturity:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury
   and Government Agencies
$
296,511

 
$
(1,116
)
 
$
124,066

 
$
(1,069
)
 
$
420,577

 
$
(2,185
)
Debt Securities Issued by Corporations
38,493

 
(839
)
 
59,378

 
(2,409
)
 
97,871

 
(3,248
)
Mortgage-Backed Securities:
 
 
 
 
 
 
 
 
 
 
 
    Residential - Government Agencies
444,465

 
(11,878
)
 
1,238,576

 
(68,057
)
 
1,683,041

 
(79,935
)
    Residential - U.S. Government-Sponsored Enterprises
241,918

 
(5,869
)
 
489,643

 
(25,160
)
 
731,561

 
(31,029
)
    Commercial - Government Agencies
98,194

 
(1,854
)
 
75,013

 
(5,638
)
 
173,207

 
(7,492
)
Total Mortgage-Backed Securities
784,577

 
(19,601
)
 
1,803,232

 
(98,855
)
 
2,587,809

 
(118,456
)
Total
$
1,119,581

 
$
(21,556
)
 
$
1,986,676

 
$
(102,333
)
 
$
3,106,257

 
$
(123,889
)
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2017
 

 
 

 
 

 
 

 
 

 
 

Available-for-Sale:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury
     and Government Agencies
$
103,842

 
$
(599
)
 
$
132,071

 
$
(436
)
 
$
235,913

 
$
(1,035
)
Debt Securities Issued by States
     and Political Subdivisions
172,343

 
(1,032
)
 
734

 
(10
)
 
173,077

 
(1,042
)
Debt Securities Issued by Corporations
12,985

 
(15
)
 
192,927

 
(2,076
)
 
205,912

 
(2,091
)
Mortgage-Backed Securities:
 
 
 
 
 
 
 
 
 
 
 
     Residential - Government Agencies
11,035

 
(4
)
 
10,618

 
(1,033
)
 
21,653

 
(1,037
)
     Residential - U.S. Government-Sponsored Enterprises
429,342

 
(5,720
)
 
150,887

 
(4,683
)
 
580,229

 
(10,403
)
     Commercial - Government Agencies
—

 
—

 
68,747

 
(3,252
)
 
68,747

 
(3,252
)
Total Mortgage-Backed Securities
440,377

 
(5,724
)
 
230,252

 
(8,968
)
 
670,629

 
(14,692
)
Total
$
729,547

 
$
(7,370
)
 
$
555,984

 
$
(11,490
)
 
$
1,285,531

 
$
(18,860
)
Held-to-Maturity:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury
and Government Agencies
$
254,283

 
$
(532
)
 
$
89,391

 
$
(919
)
 
$
343,674

 
$
(1,451
)
Debt Securities Issued by Corporations
25,490

 
(110
)
 
58,869

 
(1,481
)
 
84,359

 
(1,591
)
Mortgage-Backed Securities:
 
 
 
 
 
 
 
 
 
 
 
     Residential - Government Agencies
1,030,472

 
(12,262
)
 
704,545

 
(24,785
)
 
1,735,017

 
(37,047
)
     Residential - U.S. Government-Sponsored Enterprises
293,530

 
(3,106
)
 
339,232

 
(8,149
)
 
632,762

 
(11,255
)
     Commercial - Government Agencies
497

 
(5
)
 
82,288

 
(3,649
)
 
82,785

 
(3,654
)
Total Mortgage-Backed Securities
1,324,499

 
(15,373
)
 
1,126,065

 
(36,583
)
 
2,450,564

 
(51,956
)
Total
$
1,604,272

 
$
(16,015
)
 
$
1,274,325

 
$
(38,983
)
 
$
2,878,597

 
$
(54,998
)


15
Table of Contents

The Company does not believe that the investment securities that were in an unrealized loss position as of September 30, 2018, which were comprised of 520 individual securities, represent an other-than-temporary impairment.  Total gross unrealized losses were primarily attributable to changes in interest rates, relative to when the investment securities were purchased, and not due to the credit quality of the investment securities.  As of September 30, 2018 and December 31, 2017, the gross unrealized losses reported for mortgage-backed securities were mostly related to investment securities issued by the Government National Mortgage Association. The Company does not intend to sell the investment securities that were in an unrealized loss position and it is not more likely than not that the Company will be required to sell the investment securities before recovery of their amortized cost basis, which may be at maturity.

Interest income from taxable and non-taxable investment securities for the three and nine months ended September 30, 2018 and 2017 were as follows:
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
(dollars in thousands)
2018

 
2017

 
2018

 
2017

Taxable
$
28,855

 
$
27,441

 
$
85,931

 
$
79,949

Non-Taxable
4,554

 
4,880

 
14,006

 
14,915

Total Interest Income from Investment Securities
$
33,409

 
$
32,321

 
$
99,937

 
$
94,864


As of September 30, 2018, included in the Company’s investment securities portfolio were debt securities issued by political subdivisions within the State of Hawaii of $463.3 million, representing 57% of the total fair value of the Company’s municipal debt securities. Of the entire Hawaii municipal bond portfolio, 96% were credit-rated Aa2 or better by Moody’s while the remaining Hawaii municipal bonds were credit-rated A1 or better by at least one nationally recognized statistical rating organization. Of the Company’s total Hawaii municipal bond holdings, 80% were general obligation issuances. As of September 30, 2018, there were no other holdings of municipal debt securities that were issued by a single state or political subdivision which comprised more than 10% of the total fair value of the Company’s municipal debt securities.

As of September 30, 2018 and December 31, 2017, the carrying value of the Company’s Federal Home Loan Bank of Des Moines stock and Federal Reserve Bank stock was as follows:
(dollars in thousands)
September 30,
2018

 
December 31,
2017

Federal Home Loan Bank Stock
$
17,000

 
$
20,000

Federal Reserve Bank Stock
20,858

 
20,645

Total
$
37,858

 
$
40,645


These securities can only be redeemed or sold at their par value and only to the respective issuing government-supported institution or to another member institution.  The Company records these non-marketable equity securities as a component of other assets and periodically evaluates these securities for impairment.  Management considers these non-marketable equity securities to be long-term investments.  Accordingly, when evaluating these securities for impairment, management considers the ultimate recoverability of the par value rather than recognizing temporary declines in value.

Visa Class B Restricted Shares

In 2008, the Company received Visa Class B restricted shares as part of Visa’s initial public offering. These shares are transferable only under limited circumstances until they can be converted into the publicly traded Class A common shares. This conversion will not occur until the settlement of certain litigation which will be indemnified by Visa members, including the Company. Visa funded an escrow account from its initial public offering to settle these litigation claims. Should this escrow account be insufficient to cover these litigation claims, Visa is entitled to fund additional amounts to the escrow account by reducing each member bank’s Class B conversion ratio to unrestricted Class A shares. As of September 30, 2018, the conversion ratio was 1.6298. See Note 12 Derivative Financial Instruments for more information.

The Company occasionally sells these Visa Class B shares to other financial institutions. Concurrent with every sale the Company enters into an agreement with the buyer that requires payment to the buyer in the event Visa further reduces the conversion ratio. Based on the existing transfer restriction and the uncertainty of the outcome of the Visa litigation mentioned above, the remaining 83,014 Class B shares (135,296 Class A equivalents) that the Company owns as of September 30, 2018 are carried at a zero cost basis.


16
Table of Contents

Note 4.    Loans and Leases and the Allowance for Loan and Lease Losses

Loans and Leases

The Company’s loan and lease portfolio was comprised of the following as of September 30, 2018 and December 31, 2017:

(dollars in thousands)
September 30,
2018

 
December 31,
2017

Commercial
 

 
 

Commercial and Industrial
$
1,314,609

 
$
1,279,347

Commercial Mortgage
2,237,020

 
2,103,967

Construction
176,447

 
202,253

Lease Financing
172,232

 
180,931

Total Commercial
3,900,308

 
3,766,498

Consumer
 

 
 

Residential Mortgage
3,596,627

 
3,466,773

Home Equity
1,625,208

 
1,585,455

Automobile
625,086

 
528,474

Other 1
483,833

 
449,747

Total Consumer
6,330,754

 
6,030,449

Total Loans and Leases
$
10,231,062

 
$
9,796,947

1 
Comprised of other revolving credit, installment, and lease financing.
The majority of the Company’s lending activity is with customers located in the State of Hawaii. A substantial portion of the Company’s real estate loans are secured by real estate in Hawaii.

Net gains related to sales of residential mortgage loans, recorded as a component of mortgage banking income were $0.4 million and $1.4 million for the three months ended September 30, 2018 and 2017, respectively, and $1.1 million and $4.6 million for the nine months ended September 30, 2018 and 2017, respectively.

17
Table of Contents

Allowance for Loan and Lease Losses (the “Allowance”)

The following presents by portfolio segment, the activity in the Allowance for the three and nine months ended September 30, 2018 and 2017.  The following also presents by portfolio segment, the balance in the Allowance disaggregated on the basis of the Company’s impairment measurement method and the related recorded investment in loans and leases as of September 30, 2018 and 2017.

(dollars in thousands)
Commercial

 
Consumer

 
Total

Three Months Ended September 30, 2018
 

 
 

 
 

Allowance for Loan and Lease Losses:
 

 
 

 
 

Balance at Beginning of Period
$
63,712

 
$
44,476

 
$
108,188

Loans and Leases Charged-Off
(449
)
 
(5,578
)
 
(6,027
)
Recoveries on Loans and Leases Previously Charged-Off
542

 
2,187

 
2,729

Net Loans and Leases Recovered (Charged-Off)
93

 
(3,391
)
 
(3,298
)
Provision for Credit Losses
1,274

 
2,526

 
3,800

Balance at End of Period
$
65,079

 
$
43,611

 
$
108,690

Nine Months Ended September 30, 2018
 

 
 

 
 

Allowance for Loan and Lease Losses:
 

 
 

 
 

Balance at Beginning of Period
$
65,822

 
$
41,524

 
$
107,346

Loans and Leases Charged-Off
(1,140
)
 
(16,536
)
 
(17,676
)
Recoveries on Loans and Leases Previously Charged-Off
1,236

 
6,359

 
7,595

Net Loans and Leases Recovered (Charged-Off)
96

 
(10,177
)
 
(10,081
)
Provision for Credit Losses
(839
)
 
12,264

 
11,425

Balance at End of Period
$
65,079

 
$
43,611

 
$
108,690

As of September 30, 2018
 

 
 

 
 

Allowance for Loan and Lease Losses:
 

 
 

 
 

Individually Evaluated for Impairment
$
135

 
$
3,810

 
$
3,945

Collectively Evaluated for Impairment
64,944

 
39,801

 
104,745

Total
65,079

 
43,611

 
108,690

Recorded Investment in Loans and Leases:
 

 
 

 
 

Individually Evaluated for Impairment
$
12,190

 
$
42,218

 
$
54,408

Collectively Evaluated for Impairment
3,888,118

 
6,288,536

 
10,176,654

Total
$
3,900,308

 
$
6,330,754

 
$
10,231,062

 
 
 
 
 
 
Three Months Ended September 30, 2017
 

 
 

 
 

Allowance for Loan and Lease Losses:
 

 
 

 
 

Balance at Beginning of Period
$
66,182

 
$
40,171

 
$
106,353

Loans and Leases Charged-Off
(611
)
 
(5,607
)
 
(6,218
)
Recoveries on Loans and Leases Previously Charged-Off
598

 
2,148

 
2,746

Net Loans and Leases Recovered (Charged-Off)
(13
)
 
(3,459
)
 
(3,472
)
Provision for Credit Losses
295

 
3,705

 
4,000

Balance at End of Period
$
66,464

 
$
40,417

 
$
106,881

Nine Months Ended September 30, 2017
 

 
 

 
 

Allowance for Loan and Lease Losses:
 

 
 

 
 

Balance at Beginning of Period
$
65,680

 
$
38,593

 
$
104,273

Loans and Leases Charged-Off
(909
)
 
(16,500
)
 
(17,409
)
Recoveries on Loans and Leases Previously Charged-Off
1,200

 
6,167

 
7,367

Net Loans and Leases Recovered (Charged-Off)
291

 
(10,333
)
 
(10,042
)
Provision for Credit Losses
493

 
12,157

 
12,650

Balance at End of Period
$
66,464

 
$
40,417

 
$
106,881

As of September 30, 2017
 

 
 

 
 

Allowance for Loan and Lease Losses:
 

 
 

 
 

Individually Evaluated for Impairment
$
136

 
$
3,762

 
$
3,898

Collectively Evaluated for Impairment
66,328

 
36,655

 
102,983

Total
$
66,464

 
$
40,417

 
$
106,881

Recorded Investment in Loans and Leases:
 

 
 

 
 

Individually Evaluated for Impairment
$
21,738

 
$
39,385

 
$
61,123

Collectively Evaluated for Impairment
3,718,225

 
5,794,608

 
9,512,833

Total
$
3,739,963

 
$
5,833,993

 
$
9,573,956


18
Table of Contents

Credit Quality Indicators

The Company uses several credit quality indicators to manage credit risk in an ongoing manner.  The Company uses an internal credit risk rating system that categorizes loans and leases into pass, special mention, or classified categories.  Credit risk ratings are applied individually to those classes of loans and leases that have significant or unique credit characteristics that benefit from a case-by-case evaluation.  These are typically loans and leases to businesses or individuals in the classes which comprise the commercial portfolio segm