Loans and Allowance for Credit Losses

The following table provides outstanding balances related to each of our loan types:



	March 31, 2014		December 31, 2013
	(dollars in thousands)
Commercial, financial, agricultural and other	$	1,017,412	$	1,021,056
Real estate construction	95,110		93,289
Residential real estate	1,240,169		1,262,718
Commercial real estate	1,290,852		1,296,472
Loans to individuals	608,670		610,298
Total loans and leases net of unearned income	$	4,252,213	$	4,283,833

Credit Quality Information

As part of the on-going monitoring of credit quality within the loan portfolio, the following credit worthiness categories are used in grading our loans:



Pass		Acceptable levels of risk exist in the relationship. Includes all loans not adversely classified as OAEM, substandard or doubtful.



Other Assets Especially Mentioned (OAEM)		Potential weaknesses that deserve management’s close attention. The potential weaknesses may result in deterioration of the repayment prospects or weaken the Bank’s credit position at some future date. The credit risk may be relatively minor, yet constitute an undesirable risk in light of the circumstances surrounding the specific credit. No loss of principal or interest is expected.



Substandard		Well-defined weakness or a weakness that jeopardizes the repayment of the debt. A loan may be classified as substandard as a result of deterioration of the borrower’s financial condition and repayment capacity. Loans for which repayment plans have not been met or collateral equity margins do not protect the Company may also be classified as substandard.



Doubtful		Loans with the characteristics of substandard loans with the added characteristic that collection or liquidation in full, on the basis of presently existing facts and conditions, is highly improbable.

The use of creditworthiness categories to grade loans permits management’s use of migration analysis to estimate a portion of credit risk. The Company’s internal creditworthiness grading system provides a measurement of credit risk based primarily on an evaluation of the borrower’s cash flow and collateral. Movements between these rating categories provides a predictive measure of credit losses and therefore assists in determining the appropriate level for the loan loss reserves. Category ratings are reviewed each quarter, at which time management analyzes the results, as well as other external statistics and factors related to loan performance. Loans that migrate towards higher risk rating levels generally have an increased risk of default, whereas loans that migrate toward lower risk ratings generally will result in a lower risk factor being applied to those related loan balances.

The following tables represent our credit risk profile by creditworthiness:



	March 31, 2014
	Commercial, financial, agricultural and other		Real estate construction		Residential real estate		Commercial real estate		Loans to individuals		Total
	(dollars in thousands)
Pass	$	945,063	$	83,456	$	1,225,083	$	1,242,664	$	608,491	$	4,104,757
Non-Pass
OAEM	23,958		8,686		3,375		30,207		1		66,227
Substandard	48,391		2,968		11,711		17,981		178		81,229
Doubtful	—		—		—		—		—		—
Total Non-Pass	72,349		11,654		15,086		48,188		179		147,456
Total	$	1,017,412	$	95,110	$	1,240,169	$	1,290,852	$	608,670	$	4,252,213



	December 31, 2013
	Commercial, financial, agricultural and other		Real estate construction		Residential real estate		Commercial real estate		Loans to individuals		Total
	(dollars in thousands)
Pass	$	943,107	$	79,679	$	1,245,422	$	1,243,170	$	610,094	$	4,121,472
Non-Pass
OAEM	35,429		9,710		5,161		28,823		1		79,124
Substandard	42,520		3,900		12,135		24,479		203		83,237
Doubtful	—		—		—		—		—		—
Total Non-Pass	77,949		13,610		17,296		53,302		204		162,361
Total	$	1,021,056	$	93,289	$	1,262,718	$	1,296,472	$	610,298	$	4,283,833

Portfolio Risks

The credit quality of our loan portfolio can potentially represent significant risk to our earnings, capital, regulatory agency relationships, investment community reputation and shareholder returns. First Commonwealth devotes a substantial amount of resources managing this risk primarily through our credit administration department that develops and administers policies and procedures for underwriting, maintaining, monitoring and collecting activities. Credit administration is independent of lending departments and oversight is provided by the credit committee of the First Commonwealth Board of Directors.

Criticized loans have been evaluated when determining the appropriateness of the allowance for credit losses, which we believe is adequate to absorb losses inherent to the portfolio as of March 31, 2014. However, changes in economic conditions, interest rates, borrower financial condition, delinquency trends or previously established fair values of collateral factors could significantly change those judgmental estimates.

Risk factors associated with commercial real estate and construction related loans are monitored closely since this is an area that represents a significant portion of the loan portfolio and has experienced the most stress during the economic downturn.

Age Analysis of Past Due Loans by Segment

The following tables delineate the aging analysis of the recorded investments in past due loans as of March 31, 2014 and December 31, 2013. Also included in these tables are loans that are 90 days or more past due and still accruing because they are well-secured and in the process of collection.



	March 31, 2014
	30 - 59 days past due		60 - 89 days past due		90 days and greater and still accruing		Nonaccrual		Total past due and nonaccrual		Current		Total
	(dollars in thousands)
Commercial, financial, agricultural and other	$	971	$	490	$	300	$	28,268	$	30,029	$	987,383	$	1,017,412
Real estate construction	40		—		—		1,698		1,738		93,372		95,110
Residential real estate	4,265		1,004		746		10,011		16,026		1,224,143		1,240,169
Commercial real estate	2,020		665		21		5,526		8,232		1,282,620		1,290,852
Loans to individuals	2,094		682		1,383		177		4,336		604,334		608,670
Total	$	9,390	$	2,841	$	2,450	$	45,680	$	60,361	$	4,191,852	$	4,252,213



	December 31, 2013
	30 - 59 days past due		60 - 89 days past due		90 days and greater and still accruing		Nonaccrual		Total past due and nonaccrual		Current		Total
	(dollars in thousands)
Commercial, financial, agricultural and other	$	594	$	319	$	185	$	23,631	$	24,729	$	996,327	$	1,021,056
Real estate construction	—		—		—		2,567		2,567		90,722		93,289
Residential real estate	4,002		524		1,041		10,520		16,087		1,246,631		1,262,718
Commercial real estate	1,199		23		13		8,966		10,201		1,286,271		1,296,472
Loans to individuals	2,895		990		1,266		204		5,355		604,943		610,298
Total	$	8,690	$	1,856	$	2,505	$	45,888	$	58,939	$	4,224,894	$	4,283,833

Nonaccrual Loans

The previous tables summarize nonaccrual loans by loan segment. The Company generally places loans on nonaccrual status when the full and timely collection of interest or principal becomes uncertain, when part of the principal balance has been charged off and no restructuring has occurred, or the loans reach a certain number of days past due. Generally, loans 90 days or more past due are placed on nonaccrual status, except for consumer loans which are placed in nonaccrual status at 150 days past due.

When a loan is placed on nonaccrual, the accrued unpaid interest receivable is reversed against interest income and all future payments received are applied as a reduction to the loan principal. Generally, the loan is returned to accrual status when (a) all delinquent interest and principal become current under the terms of the loan agreement or (b) the loan is both well-secured and in the process of collection and collectability is no longer doubtful.

Impaired Loans

Management considers loans to be impaired when, based on current information and events, it is determined that the Company will not be able to collect all amounts due according to the loan contract, including scheduled interest payments. Determination of impairment is treated the same across all loan categories. When management identifies a loan as impaired, the impairment is measured based on the present value of expected future cash flows, discounted at the loan’s effective interest rate, except when the sole source for repayment of the loan is the operation or liquidation of collateral. When the loan is collateral dependent, the appraised value less estimated cost to sell is utilized. If management determines the value of the impaired loan is less than the recorded investment in the loan, impairment is recognized through an allowance estimate or a charge-off to the allowance. Troubled debt restructured loans on accrual status are considered to be impaired loans.

When the ultimate collectability of the total principal of an impaired loan is in doubt and the loan is on nonaccrual status, all payments are applied to principal, under the cost recovery method. When the ultimate collectability of the total principal of an impaired loan is not in doubt and the loan is on nonaccrual status, contractual interest is credited to interest income when received, under the cash basis method.

Nonperforming loans decreased $3.2 million during the three months ended March 31, 2014. Contributing to this decrease was the sale of three real estate construction loans totaling $0.7 million and the payoff of four loans totaling $6.9 million. The payoffs included a $3.1 million commercial real estate loan with a non-profit organization in western Pennsylvania, a $2.9 million commercial real estate loan to a real estate investor in western Pennsylvania, a $0.6 million commercial relationship with a western Pennsylvania glass manufacturer and a $0.3 million commercial real estate loan with a western Pennsylvania real estate investor. Additionally, charge-offs recognized during the first three months of 2014 include $0.5 million for a commercial industrial loan to a local energy company, $0.4 million for a consumer home equity loan in western Pennsylvania and $0.6 million for a commercial loan in western Pennsylvania.

Offsetting the previously noted decreases in nonperforming loans is a total of $9.6 million in loans which were moved into nonaccrual status during the three months ended March 31, 2014, the majority of which relates to an $8.0 million commercial industrial loan relationship. In addition to this, $1.1 million in consumer loans which were 150 days or more past due were moved to nonaccrual status.

The specific allowance for nonperforming loans increased by $1.7 million at March 31, 2014 compared to December 31, 2013, primarily due to the specific reserve on the previously mentioned loan which was transferred to nonaccrual status, offset by charge-offs of amounts reserved for in prior periods as well as the payoff of certain nonaccrual loans previously discussed. Unfunded commitments related to nonperforming loans were $3.4 million at March 31, 2014 and after consideration of available collateral related to these commitments, a reserve of $0.1 million was established was established for these off balance sheet exposures.

There were no loans held for sale at March 31, 2014 and December 31, 2013; however, sales of loans during the three months ended March 31, 2013 resulted in gains of $0.1 million. During the three months ended March 31, 2014 no gains were recognized on the sale of loans.

Significant nonaccrual loans as of March 31, 2014, include the following:

•

$10.9 million of commercial industrial loans to a local energy company. These loans were originated from 2008 to 2011 and were placed in nonaccrual status during the third quarter of 2013. One of these loans, totaling $2.7 million, was modified, resulting in TDR classification in the second quarter of 2012. A second of these loans, totaling $0.3 million was modified, resulting in TDR classification in the first quarter of 2013. During the three months ended March 31, 2014, chargeoffs of $0.5 million related to this relationship were recorded. A valuation of the collateral was completed during the third quarter of 2013.


•	$8.0 million commercial industrial loans to a gas drilling related business in Louisiana. These loans were originated in 2012 and placed on nonaccrual status in the first quarter of 2014.


•	$2.4 million, the remaining portion net of reserves, of a $44.1 million unsecured loan to a western Pennsylvania real estate developer. This loan was originated in 2004 and was placed on nonaccrual status in the fourth quarter of 2009. Charge-offs of $28.5 million have been recorded on this loan. In April 2014, the remaining balance of this loan was paid off.


•	$3.2 million in commercial real estate and industrial loans to a specialty metal processor in western Pennsylvania. This loan were originated in 2003 and were placed on nonaccrual status in the second quarter of 2013. The assets collateralizing this relationship as well as the appraisal for the real estate collateral were valued in the second quarter of 2013.

The following tables include the recorded investment and unpaid principal balance for impaired loans with the associated allowance amount, if applicable, as of March 31, 2014 and December 31, 2013. Also presented are the average recorded investment in impaired loans and the related amount of interest recognized while the loan was considered impaired. Average balances are calculated using month-end balances of the loans for the period reported and are included in the table below based on its period-end allowance position.



	March 31, 2014						December 31, 2013
	Recorded investment		Unpaid principal balance		Related allowance		Recorded investment		Unpaid principal balance		Related allowance
	(dollars in thousands)
With no related allowance recorded:
Commercial, financial, agricultural and other	$	9,788	$	10,960			$	6,752	$	7,649
Real estate construction	2,213		2,782				3,486		6,664
Residential real estate	9,864		10,741				9,333		9,952
Commercial real estate	7,348		8,423				13,606		14,719
Loans to individuals	270		297				289		307
Subtotal	29,483		33,203				33,466		39,291
With an allowance recorded:
Commercial, financial, agricultural and other	22,940		23,559		9,886		21,482		22,082		7,364
Real estate construction	638		1,780		74		414		737		94
Residential real estate	2,841		3,435		496		3,533		3,585		1,282
Commercial real estate	301		315		47		488		612		84
Loans to individuals	—		—		—		—		—		—
Subtotal	26,720		29,089		10,503		25,917		27,016		8,824
Total	$	56,203	$	62,292	$	10,503	$	59,383	$	66,307	$	8,824



	For the Three-Months Ended March 31
	2014				2013
	Average recorded investment		Interest Income Recognized		Average recorded investment		Interest Income Recognized
	(dollars in thousands)
With no related allowance recorded:
Commercial, financial, agricultural and other	$	10,953	$	17	$	8,592	$	51
Real estate construction	2,438		12		7,877		—
Residential real estate	9,825		49		8,516		37
Commercial real estate	9,498		33		33,978		11
Loans to individuals	271		1		247		1
Subtotal	32,985		112		59,210		100
With an allowance recorded:
Commercial, financial, agricultural and other	17,649		45		25,803		19
Real estate construction	638		—		2,685		13
Residential real estate	3,161		8		2,457		4
Commercial real estate	307		1		6,704		25
Loans to individuals	—		—		—		—
Subtotal	21,755		54		37,649		61
Total	$	54,740	$	166	$	96,859	$	161

Troubled debt restructured loans are those loans whose terms have been renegotiated to provide a reduction or deferral of principal or interest as a result of the financial difficulties experienced by the borrower, who could not obtain comparable terms from alternate financing sources.

The following table provides detail as to the total troubled debt restructured loans and total commitments outstanding on troubled debt restructured loans:



	March 31, 2014		December 31, 2013
	(dollars in thousands)
Troubled debt restructured loans
Accrual status	$	10,523	$	13,495
Nonaccrual status	12,327		16,980
Total	$	22,850	$	30,475
Commitments
Letters of credit	$	—	$	—
Unused lines of credit	709		452
Total	$	709	$	452

At March 31, 2014, troubled debt restructured loans decreased $7.6 million compared to December 31, 2013, and commitments related to troubled debt restructured loans increased $0.3 million for the same period. This decrease in loans is primarily a result of the payoff of three commercial loans totaling $6.6 million, including a $3.1 million commercial real estate loan with a non-profit organization and a $2.9 million commercial real estate loan in western Pennsylvania. The increase in unused line of credit commitments is related to two commercial borrowers.

The following tables provide detail, including specific reserves and reasons for modification, related to loans identified as troubled debt restructurings:



	For the Three-Months Ended March 31, 2014
		Type of Modification
	Number of Contracts	Extend Maturity		Modify Rate		Modify Payments		Total Pre-Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment		Specific Reserve
	(dollars in thousands)
Commercial, financial, agricultural and other	1	$	60	$	—	$	—	$	60	$	60	$	29
Residential real estate	13	—		172		517		689		676		5
Commercial real estate	1	—		—		12		12		8		—
Loans to individuals	6	—		31		20		51		47		—
Total	21	$	60	$	203	$	549	$	812	$	791	$	34



	For the Three-Months Ended March 31, 2013
		Type of Modification
	Number of Contracts	Extend Maturity		Modify Rate		Modify Payments		Total Pre-Modification Outstanding Recorded Investment		Post- Modification Outstanding Recorded Investment		Specific Reserve
	(dollars in thousands)
Commercial, financial, agricultural and other	2	$	426	$	—	$	12	$	438	$	377	$	—
Residential real estate	9	7		214		514		735		677		—
Commercial real estate	1	—		244		—		244		242		—
Loans to individuals	4	—		23		4		27		25		—
Total	16	$	433	$	481	$	530	$	1,444	$	1,321	$	—

The troubled debt restructurings included in the above tables are also included in the impaired loan tables provided earlier in this note. Loans defined as modified due to a change in rate may include loans that were modified for a change in rate as well as a reamortization of the principal and an extension of the maturity. For the three months ended March 31, 2014 and 2013, $0.2 million and $0.5 million, respectively, of total rate modifications represent loans with modifications to the rate as well as payment as a result of reamortization. For both 2014 and 2013 the changes in loan balances between the pre-modification balance and the post-modification balance are due to customer payments.

A troubled debt restructuring is considered to be in default when a restructured loan is 90 days or more past due. The following table provides information related to restructured loans that were considered to default during the three months ended March 31:



	2014			2013
	Number of Contracts	Recorded Investment		Number of Contracts	Recorded Investment
	(dollars in thousands)
Residential real estate	4	$	138	1	$	10
Loans to individuals	—	—		1	6
Total	4	$	138	2	$	16

The following tables provide detail related to the allowance for credit losses:



	For the Three-Months Ended March 31, 2014
	Commercial, financial, agricultural and other			Real estate construction			Residential real estate			Commercial real estate			Loans to individuals			Unallocated		Total
	(dollars in thousands)
Allowance for credit losses:
Beginning Balance	$	22,663		$	6,600		$	7,727		$	11,778		$	5,457		$	—	$	54,225
Charge-offs	(1,601		)	—			(1,095		)	(140		)	(810		)	—		(3,646		)
Recoveries	85			169			244			20			178			—		696
Provision (credit)	4,978			(555		)	(850		)	(539		)	197			—		3,231
Ending Balance	$	26,125		$	6,214		$	6,026		$	11,119		$	5,022		$	—	$	54,506
Ending balance: individually evaluated for impairment	$	9,886		$	74		$	496		$	47		$	—		$	—	$	10,503
Ending balance: collectively evaluated for impairment	16,239			6,140			5,530			11,072			5,022			—		44,003
Loans:
Ending balance	1,017,412			95,110			1,240,169			1,290,852			608,670					4,252,213
Ending balance: individually evaluated for impairment	31,730			2,797			9,103			5,773			—					49,403
Ending balance: collectively evaluated for impairment	985,682			92,313			1,231,066			1,285,079			608,670					4,202,810



	For the Three-Months Ended March 31, 2013
	Commercial, financial, agricultural and other			Real estate construction			Residential real estate			Commercial real estate			Loans to individuals			Unallocated			Total
	(dollars in thousands)
Allowance for credit losses:
Beginning Balance	$	19,852		$	8,928		$	5,908		$	22,441		$	4,132		$	5,926		$	67,187
Charge-offs	(538		)	(84		)	(322		)	(8,544		)	(988		)	—			(10,476		)
Recoveries	128			12			723			97			94			—			1,054
Provision (credit)	833			(1,123		)	(560		)	4,476			901			(30		)	4,497
Ending Balance	$	20,275		$	7,733		$	5,749		$	18,470		$	4,139		$	5,896		$	62,262
Ending balance: individually evaluated for impairment	$	9,846		$	503		$	1,091		$	1,249		$	—		$	—		$	12,689
Ending balance: collectively evaluated for impairment	10,429			7,230			4,658			17,221			4,139			5,896			49,573
Loans:
Ending balance	1,057,663			70,461			1,255,515			1,243,676			591,495						4,218,810
Ending balance: individually evaluated for impairment	33,322			8,917			7,813			21,369			—						71,421
Ending balance: collectively evaluated for impairment	1,024,341			61,544			1,247,702			1,222,307			591,495						4,147,389

The change in the unallocated portion of the allowance for credit losses comparing March 31, 2014 with March 31, 2013 is a result of the unallocated portion of the allowance for credit losses no longer being treated as a separate component of the allowance as of December 31, 2013. Instead it is incorporated into the reserve provided for each loan category. This portion of the allowance for credit losses reflects the qualitative or environmental factors that are likely to cause estimated credit losses to differ from historical loss experience.