UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q10-Q/A

[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2011

OR

[ ]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ____________ to _____________

LAKELAND FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
 

 
Indiana0-1148735-1559596
(State or Other Jurisdiction(Commission File Number)(IRS Employer
of Incorporation or Organization) Identification No.)


202 East Center Street, P.O. Box 1387, Warsaw, Indiana 46581-1387
(Address of Principal Executive Offices)(Zip Code)

(574) 267-6144
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 __

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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes XNo__

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 the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act). (check one):

Large accelerated filer __   Accelerated filer X   Non-accelerated filerfiler__  (do not check if a smaller reporting company)   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 __   No X

Number of shares of common stock outstanding at July 31, 2011:  16,206,919


 
 
 

LAKELAND FINANCIAL CORPORATION
Form 10-Q Quarterly Report
Table of Contents

PART I.

 Page Number
Item 1.
Financial Statements
1
Item 2.
Management’s Discussion and Analysis of
Financial Condition and Results of Operations
36
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
52
Item 4.
Controls and Procedures
52Explanatory Note

PART II.

Page Number
Item 1.
Legal Proceedings
53
Item 1A.
Risk Factors
53
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
53
Item 3.
Defaults Upon Senior Securities
53
Item 4.
Removed and Reserved
54
Item 5.
Other Information
54
Item 6.
Exhibits
54
This Form 10-Q/A amends the Quarterly Report on Form 10-Q
Signature Page
55



PART 1
LAKELAND FINANCIAL CORPORATION
ITEM 1 – FINANCIAL STATEMENTS


LAKELAND FINANCIAL CORPORATION
CONSOLIDATED BALANCE SHEETS
As of Lakeland Financial Corp. for the quarterly period ended June 30, 2011 (the "Form 10-Q"), as filed with the Securities and December 31, 2010
(Exchange Commission on August 9, 2011, for the sole purpose of furnishing the Interactive Data Files as Exhibit 101 in thousands except for share data)

(Page 1accordance with Rule 405(a)(2) of 2)

 June 30, December 31,
 2011 2010
 (Unaudited)  
ASSETS   
Cash and due from banks $             53,933  $             42,513
Short-term investments6,392 17,628
  Total cash and cash equivalents60,325 60,141
    
Securities available for sale (carried at fair value)446,955 442,620
Real estate mortgage loans held for sale3,103 5,606
    
Loans, net of allowance for loan losses of $51,260 and $45,0072,097,172 2,044,952
    
Land, premises and equipment, net30,707 30,405
Bank owned life insurance39,560 38,826
Accrued income receivable8,812 9,074
Goodwill4,970 4,970
Other intangible assets126 153
Other assets43,288 45,179
  Total assets $        2,735,018  $        2,681,926







(continued)



1










LAKELAND FINANCIAL CORPORATION
CONSOLIDATED BALANCE SHEETS
As of June 30, 2011Regulation S-T. Exhibit 101 provides the financial statements and December 31, 2010
(related notes from the Form 10-Q formatted in thousands except for share data)

(Page 2 of 2)

 June 30, December 31,
 2011 2010
 (Unaudited)  
LIABILITIES AND EQUITY   
    
LIABILITIES   
Noninterest bearing deposits $           309,508  $           305,107
Interest bearing deposits1,966,991 1,895,918
  Total deposits2,276,499 2,201,025
    
Short-term borrowings   
  Federal funds purchased9,000 0
  Securities sold under agreements to repurchase127,026 142,015
  U.S. Treasury demand notes2,408 2,037
  Other short-term borrowings0 30,000
    Total short-term borrowings138,434 174,052
    
Accrued expenses payable12,578 11,476
Other liabilities2,139 2,318
Long-term borrowings15,040 15,041
Subordinated debentures30,928 30,928
    Total liabilities2,475,618 2,434,840
    
EQUITY   
Common stock:  90,000,000 shares authorized, no par value   
 16,203,119 shares issued and 16,137,462 outstanding as of June 30, 2011   
 16,169,119 shares issued and 16,078,420 outstanding as of December 31, 201086,422 85,766
Retained earnings170,218 161,299
Accumulated other comprehensive income3,762 1,350
Treasury stock, at cost (2011 - 65,657 shares, 2010 - 90,699 shares)(1,091) (1,418)
  Total stockholders' equity259,311 246,997
    
  Noncontrolling interest89 89
  Total equity259,400 247,086
    Total liabilities and equity $        2,735,018  $        2,681,926



The accompanying notes are an integral part of these consolidated financial statements.




2


LAKELAND FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
For the Three Months and Six Months Ended June 30, 2011 and 2010
(in thousands except for share and per share data)

(Unaudited)

(Page 1 of 2)

 Three Months Ended Six Months Ended
 June 30, June 30,
 2011 2010 2011 2010
NET INTEREST INCOME       
Interest and fees on loans       
  Taxable $        26,300  $        25,945  $        52,165  $        51,295
  Tax exempt                122                   19                 243                   38
Interest and dividends on securities       
  Taxable             3,361              4,113              7,418              8,341
  Tax exempt                687                 708              1,376              1,353
Interest on short-term investments                  78                   27                   96                   41
    Total interest income           30,548            30,812            61,298            61,068
        
Interest on deposits             7,093              6,933            13,778            13,448
Interest on borrowings       
  Short-term                147                 188                 318                 437
  Long-term                363                 539                 723              1,070
    Total interest expense             7,603              7,660            14,819            14,955
        
NET INTEREST INCOME           22,945            23,152            46,479            46,113
        
Provision for loan losses             2,900              5,750              8,500            11,276
        
NET INTEREST INCOME AFTER PROVISION FOR       
  LOAN LOSSES           20,045            17,402            37,979            34,837
        
NONINTEREST INCOME       
Wealth advisory fees                929                 833              1,747              1,625
Investment brokerage fees                621                 471              1,352              1,016
Service charges on deposit accounts             1,939              2,202              3,902              4,060
Loan, insurance and service fees             1,260              1,074              2,336              1,994
Merchant card fee income                288                 303                 522                 583
Other income                646                 483              1,018              1,015
Mortgage banking income                203                   74                 154                 165
Net securities gains (losses)                  32                     0                (166)                     0
Other than temporary impairment loss on available-for-sale securities:       
  Total impairment losses recognized on securities                    0                  (81)                (121)                (252)
  Loss recognized in other comprehensive income                    0                     0                     0                     0
  Net impairment loss recognized in earnings                    0                  (81)                (121)                (252)
  Total noninterest income             5,918              5,359            10,744            10,206


(continued)



3


LAKELAND FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
For the Three Months and Six Months Ended June 30, 2011 and 2010
(in thousands except for share and per share data)

(Unaudited)

(Page 2 of 2)

 Three Months Ended Six Months Ended
 June 30, June 30,
 2011 2010 2011 2010
NONINTEREST EXPENSE       
Salaries and employee benefits             8,018              7,559            16,191            15,070
Occupancy expense                752                 699              1,627              1,488
Equipment costs                510                 522              1,064              1,051
Data processing fees and supplies                979                 960              2,091              1,926
Credit card interchange                    0                   49                     2                 113
Other expense             3,714              3,636              7,166              6,825
  Total noninterest expense           13,973            13,425            28,141            26,473
        
INCOME BEFORE INCOME TAX EXPENSE           11,990              9,336            20,582            18,570
        
Income tax expense             4,001              3,117              6,628              6,330
        
NET INCOME $          7,989  $          6,219  $        13,954  $        12,240
        
Dividends and accretion of discount on preferred stock                    0              2,382                     0              3,187
        
NET INCOME AVAILABLE TO COMMON SHAREHOLDERS $          7,989  $          3,837  $        13,954  $          9,053
        
        
BASIC WEIGHTED AVERAGE COMMON SHARES    16,201,311     16,114,408     16,198,348     16,103,080
        
BASIC EARNINGS PER COMMON SHARE $            0.49  $            0.24  $            0.86  $            0.56
        
DILUTED WEIGHTED AVERAGE COMMON SHARES    16,300,229     16,212,460     16,296,684     16,195,254
        
DILUTED EARNINGS PER COMMON SHARE $            0.49  $            0.24  $            0.86  $            0.56




The accompanying notes are an integral part of these consolidated financial statements.




4

LAKELAND FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
For the Six Months Ended June 30, 2011 and 2010
(in thousands except for share and per share data)
(Unaudited)

        Accumulated    
        Other   Total
  Preferred Common Retained Comprehensive Treasury Stockholders'
  Stock Stock Earnings Income (Loss) Stock Equity
             
             
Balance at January 1, 2010  $           54,095  $           83,487  $         149,945  $                   (5,993)  $           (1,540)  $          279,994
Comprehensive income:            
  Net income                   12,240                    12,240
 Other comprehensive income (loss), net of tax                              6,513                    6,513
    Comprehensive income                          18,753
  Common stock cash dividends declared, $.31 per share                    (4,989)                    (4,989)
  Treasury shares purchased under deferred directors' plan            
    (6,190 shares)                      112                      (112)                         0
  Treasury shares sold under deferred directors' plan            
    (4,477 shares)                      (90)                          90                         0
  Stock activity under stock compensation plans (48,158 shares)                      530                           530
  Stock compensation expense                      970                           970
  Redemption of 56,044 shares preferred stock             (56,044)                      (56,044)
  Accretion of preferred stock discount                 1,949                  (1,949)                             0
  Preferred stock dividend paid and/or accrued                    (1,251)                    (1,251)
Balance at June 30, 2010  $                    0  $           85,009  $         153,996  $                       520  $           (1,562)  $          237,963
             
Balance at January 1, 2011  $                    0  $           85,766  $         161,299  $                    1,350  $           (1,418)  $          246,997
Comprehensive income:            
  Net income                   13,954                    13,954
 Other comprehensive income (loss), net of tax                              2,412                    2,412
    Comprehensive income                          16,366
  Common stock cash dividends declared, $.31 per share                    (5,035)                    (5,035)
  Treasury shares purchased under deferred directors' plan            
    (5,058 shares)                      113                      (113)                         0
  Treasury shares sold under deferred directors' plan            
    (30,100 shares)                    (440)                        440                         0
  Stock activity under stock compensation plans (34,000 shares)                      336                           336
  Stock compensation expense                      647                           647
Balance at June 30, 2011  $                    0  $           86,422  $         170,218  $                    3,762  $           (1,091)  $          259,311

The accompanying notes are an integral part of these consolidated financial statements.

5


LAKELAND FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Six Months Ended June 30, 2011 and 2010
(in thousands)
(Unaudited)
(Page 1 of 2)

 2011 2010
Cash flows from operating activities:   
Net income $            13,954  $            12,240
Adjustments to reconcile net income to net cash from operating   
      activities:   
  Depreciation                 1,100                  1,110
  Provision for loan losses                 8,500                11,276
  Loss on sale and write down of other real estate owned                    263                       17
  Amortization of intangible assets                      27                       27
  Amortization of loan servicing rights                    266                     291
  Net change in loan servicing rights valuation allowance                      (7)                     130
  Loans originated for sale             (30,642)              (25,735)
  Net gain on sales of loans                  (659)                   (600)
  Proceeds from sale of loans               33,482                26,154
  Net gain on sales of premises and equipment                      (1)                         0
  Net loss on sales of securities available for sale                    166                         0
  Impairment on available for sale securities                    121                     252
  Net securities amortization                 1,202                     707
  Stock compensation expense                    647                     970
  Earnings on life insurance                  (586)                   (522)
  Tax benefit of stock option exercises                    (91)                   (160)
  Net change:   
    Accrued income receivable                    262                   (578)
    Accrued expenses payable                 1,006                   (377)
    Other assets                  (469)                (2,909)
    Other liabilities                    (66)                     260
      Total adjustments               14,521                10,313
        Net cash from operating activities               28,475                22,553
    
Cash flows from investing activities:   
  Proceeds from sale of securities available for sale               73,318                         0
  Proceeds from maturities, calls and principal paydowns of   
    securities available for sale               38,446                48,311
  Purchases of securities available for sale           (113,507)              (60,374)
  Purchase of life insurance                  (148)                     (14)
  Net increase in total loans             (60,990)              (51,900)
  Proceeds from sales of land, premises and equipment                      44                         0
  Purchases of land, premises and equipment               (1,445)                   (783)
  Proceeds from sales of other real estate                    948                     670
        Net cash from investing activities             (63,334)              (64,090)

(Continued)

6

LAKELAND FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Six Months Ended June 30, 2011 and 2010
(in thousands)
(Unaudited)
(Page 2 of 2)

 2011 2010
Cash flows from financing activities:   
  Net increase in total deposits               75,474              280,006
  Net decrease in short-term borrowings             (35,618)            (175,366)
  Payments on long-term borrowings                      (1)                       (1)
  Common dividends paid               (5,022)                (4,989)
  Preferred dividends paid                    (13)                (1,601)
  Redemption of preferred stock                        0              (56,044)
  Proceeds from stock option exercise                    336                     530
  Purchase of treasury stock                  (113)                   (112)
        Net cash from financing activities               35,043                42,423
Net change in cash and cash equivalents                    184                     886
Cash and cash equivalents at beginning of the period               60,141                55,983
Cash and cash equivalents at end of the period $            60,325  $            56,869
Cash paid during the period for:   
    Interest $            13,300  $            14,415
    Income taxes                 8,822                10,740
Supplemental non-cash disclosures:   
    Loans transferred to other real estate                    270                     198


XBRL (eXtensible Business Reporting Language).
 
 

No other changes have been made to the Form 10-Q other than the furnishing of the exhibit described above. This Form 10-Q/A speaks as of the original filing date of the Form 10-Q, does not reflect events that may have occurred subsequent to the original filing date, and does not modify or update in any way disclosures made in the Form 10-Q.
The accompanying notesinteractive data files on Exhibit 101 hereto are an integral partnot deemed filed with the Securities and Exchange Commission and are not to be incorporated by reference into any filing of these consolidated financial statements.Lakeland Financial Corp. under the Securities Act of 1933, as amended, or the Securities Act of 1934, as amended, and otherwise are not subject to liability under those sections.

















 
7



LAKELAND FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2011

(Table amounts in thousands except for share and per share data)

(Unaudited)

NOTE 1. BASIS OF PRESENTATION

This report is filed for Lakeland Financial Corporation (the “Company”) and its wholly owned subsidiary, Lake City Bank (the “Bank”). All significant inter-company balances and transactions have been eliminated in consolidation. Also included is the Bank’s wholly owned subsidiary, LCB Investments II, Inc. (“LCB Investments”). LCB Investments also owns LCB Funding, Inc. (“LCB Funding”), a real estate investment trust.

The unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and with instructions for Form 10-Q. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (all of which are normal and recurring in nature) considered necessary for a fair presentation have been included. Operating results for the three-month and six-month periods ending June 30, 2011 are not necessarily indicative of the results that may be expected for the year ending December 31, 2011. The 2010 Lakeland Financial Corporation Annual Report on Form 10-K should be read in conjunction with these statements.

NOTE 2. EARNINGS PER SHARE

Basic earnings per common share is net income available to common shareholders divided by the weighted average number of common shares outstanding during the period.  Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable under stock options, stock awards and warrants.

  Three Months Ended June 30, Six Months Ended June 30,
  2011 2010 2011 2010
Net income  $             7,989  $             6,219  $           13,954  $           12,240
Dividends and accretion of discount on preferred stock                      0                2,382                      0                3,187
Net income available to common shareholders  $             7,989  $             3,837  $           13,954  $             9,053
         
         
Weighted average shares outstanding for basic earnings per common share         16,201,311         16,114,408         16,198,348         16,103,080
Dilutive effect of stock options, awards and warrants               98,918               98,052               98,336               92,174
Weighted average shares outstanding for diluted earnings per common share         16,300,229         16,212,460         16,296,684         16,195,254
         
Basic earnings per common share  $              0.49  $              0.24  $              0.86  $              0.56
Diluted earnings per common share  $              0.49  $              0.24  $              0.86  $              0.56


8
Stock options for 70,000 and 89,918 shares for the three-month periods ended June 30, 2011 and June 30, 2010, respectively, were not considered in computing diluted earnings per common share because they were antidilutive.  Stock options for 70,000 and 109,000 shares for the six-month periods ended June 30, 2011 and June 30, 2010, respectively, were not considered in computing diluted earnings per common share because they were antidilutive.  In addition, warrants for 198,269 shares for the three-month and six-month periods ended June 30, 2010, were not considered in computing diluted earnings per share because they were antidilutive.

NOTE 3. LOANS

 June 30,December 31,
 20112010
Commercial and industrial loans:      
  Working capital lines of credit loans $   360,813   16.8 % $   281,546   13.5 %
  Non-working capital loans      371,001   17.3       384,138   18.4 
    Total commercial and industrial loans      731,814   34.1       665,684   31.8 
       
Commercial real estate and multi-family residential loans:      
  Construction and land development loans      133,194     6.2       106,980     5.1 
  Owner occupied loans      333,236   15.5       329,760   15.8 
  Nonowner occupied loans      336,496   15.7       355,393   17.0 
  Multifamily loans       22,557     1.0        24,158     1.2 
    Total commercial real estate and multi-family residential loans      825,483   38.4       816,291   39.0 
       
Agri-business and agricultural loans:      
  Loans secured by farmland95,526     4.4 111,961     5.4 
  Loans for agricultural production103,052     4.8 117,518     5.6 
    Total agri-business and agricultural loans198,578     9.2 229,479   11.0 
       
Other commercial loans       53,702     2.5        38,778     1.9 
  Total commercial loans   1,809,577   84.2    1,750,232   83.7 
       
Consumer 1-4 family mortgage loans:      
  Closed end first mortgage loans      107,471     5.0       103,118     4.9 
  Open end and junior lien loans      178,274     8.3       182,325     8.7 
  Residential construction and land development loans         3,273     0.2          4,140     0.2 
  Total consumer 1-4 family mortgage loans      289,018   13.5       289,583   13.8 
       
Other consumer loans       50,176     2.3        51,123     2.4 
  Total consumer loans      339,194   15.8       340,706   16.3 
  Subtotal   2,148,771 100.0 %   2,090,938 100.0 %
Less:  Allowance for loan losses      (51,260)        (45,007)  
           Net deferred loan fees           (339)             (979)  
Loans, net $2,097,172   $2,044,952  






9


NOTE 4. ALLOWANCE FOR LOAN LOSSES AND CREDIT QUALITY


The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method as of June 30, 2011:

   Commercial            
   Real Estate     Consumer      
 Commercial and Multifamily Agri-business Other 1-4 Family Other    
 and Industrial Residential and Agricultural Commercial Mortgage Consumer Unallocated Total
Three Months Ended June 30, 2011 
Balance April 1, $               22,549  $               17,884  $                 1,194  $                    270  $                 2,480  $                    548  $                 3,570  $               48,495
  Provision for loan losses506 1,855 (246) 290 499 108 (112) 2,900
  Loans charged-off(189) (25) 0 0 (337) (98) 0 (649)
  Recoveries133 318 0 0 16 47 0 514
    Net loans charged-off(56) 293 0 0 (321) (51) 0 (135)
Balance June 30, $               22,999  $               20,032  $                    948  $                    560  $                 2,658  $                    605  $                 3,458  $               51,260
Six Months Ended June 30, 2011               
Balance January 1, $               21,479  $               15,893  $                 1,318  $                    270  $                 1,694  $                    682  $                 3,671  $               45,007
  Provision for loan losses1,877 5,228 (370) 290 1,662 26 (213) 8,500
  Loans charged-off(587) (1,416) 0 0 (717) (229) 0 (2,949)
  Recoveries230 327 0 0 19 126 0 702
    Net loans charged-off(357) (1,089) 0 0 (698) (103) 0 (2,247)
Balance June 30, $               22,999  $               20,032  $                    948  $           ��        560  $                 2,658  $                    605  $                 3,458  $               51,260
                
Allowance for loan losses:               
  Ending allowance balance attributable to loans:               
    Individually evaluated for impairment $                 9,534  $                 5,663  $                    101  $                    190  $                    100  $                        0  $                        0  $               15,588
    Collectively evaluated for impairment13,465 14,369 847 370 2,558 605 3,458 35,672
                
Total ending allowance balance $               22,999  $               20,032  $                    948  $                    560  $                 2,658  $                    605  $                 3,458  $               51,260
                
                
Loans:               
  Loans individually evaluated for impairment $               22,244  $               26,024  $                 1,007  $                    192  $                 1,962  $                        0  $                        0  $               51,429
  Loans collectively evaluated for impairment709,523 799,239 197,535 53,510 287,020 50,176 0 2,097,003
                
Total ending loans balance $             731,767  $             825,263  $             198,542  $               53,702  $             288,982  $               50,176  $                        0  $          2,148,432

The recorded investment in loans does not include accrued interest.



10


The following table presents the balance in the allowance for loan losses and the recorded investment in loans by portfolio segment and based on impairment method as of December 31, 2010:

   Commercial            
   Real Estate     Consumer      
 Commercial and Multifamily Agri-business Other 1-4 Family Other    
 and Industrial Residential and Agricultural Commercial Mortgage Consumer Unallocated Total
  
Allowance for loan losses:               
  Ending allowance balance attributable to loans:               
    Individually evaluated for impairment $                 6,911  $                 4,663  $                    301  $                    190  $                      76  $                        0  $                        0  $               12,141
    Collectively evaluated for impairment14,568 11,230 1,017 80 1,618 682 3,671 32,866
                
Total ending allowance balance $               21,479  $               15,893  $                 1,318  $                    270  $                 1,694  $                    682  $                 3,671  $               45,007
                
                
Loans:               
  Loans individually evaluated for impairment $               20,988  $               23,358  $                 1,259  $                    197  $                 2,204  $                        0  $                        0  $               48,006
  Loans collectively evaluated for impairment644,551 791,715 228,305 38,542 287,729 51,111 0 2,041,953
                
Total ending loans balance $             665,539  $             815,073  $             229,564  $               38,739  $             289,933  $               51,111  $                        0  $          2,089,959

The recorded investment in loans does not include accrued interest.







11





The following is an analysis of the allowance for loan losses for the three months and six months ended June 30, 2010:

 Three Months Six Months 
 ended ended 
 June 30, June 30, 
 2010 2010 
     
Balance at beginning of period $           36,332  $         32,073 
Provision for loan losses                5,750             11,276 
Loans charged-off               (4,845)             (6,377) 
Recoveries                   127                  392 
  Net loans charged-off               (4,718)             (5,985) 
Balance at end of period $           37,364  $         37,364 
     
 Six Monthes ended 
 June 30, 
 2011 2010 
     
Allowance for loan losses to total loans2.39%1.82%







12




The following table presents loans individually evaluated for impairment as of and for the three-month and six-month periods ended June 30, 2011:

       Three Months Ended June 30, 2011 Six Months Ended June 30, 2011
           Cash Basis     Cash Basis
 Unpaid   Allowance for Average Interest Interest Average Interest Interest
 Principal Recorded Loan Losses Recorded Income Income Recorded Income Income
 Balance Investment Allocated Investment Recognized Recognized Investment Recognized Recognized
                  
With no related allowance recorded: ��               
  Commercial real estate and multi-family residential loans:                 
    Nonowner occupied loans $      841  $          841  $                    0  $          844  $               0  $               0  $          850  $               0  $               0
                  
With an allowance recorded:                 
  Commercial and industrial loans:                 
    Working capital lines of credit loans5,208 5,208 3,159 5,311 3 3 5,463 6 6
    Non-working capital loans17,037 17,036 6,375 16,565 163 180 15,864 290 291
                  
  Commercial real estate and multi-family residential loans:                 
    Construction and land development loans1,237 1,239 245 1,332 0 0 1,364 0 0
    Owner occupied loans3,061 2,927 929 2,987 6 6 3,096 12 12
    Nonowner occupied loans20,877 21,017 4,489 20,858 18 18 20,404 35 35
    Multifamily loans0 0 0 0 0 0 0 0 0
                  
  Agri-business and agricultural loans:                 
    Loans secured by farmland761 760 83 691 0 0 546 0 0
    Loans for agricultural production247 247 18 363 0 0 591 0 0
                  
  Other commercial loans192 192 190 193 0 0 194 0 0
                  
  Consumer 1-4 family mortgage loans:                 
    Closed end first mortgage loans1,962 1,962 100 1,812 19 8 1,828 31 22
    Open end and junior lien loans0 0 0 0 0 0 28 0 0
    Residential construction loans0 0 0 0 0 0 0 0 0
                  
  Other consumer loans0 0 0 0 0 0 0 0 0
                  
Total $ 51,423  $     51,429  $           15,588  $     50,956  $           209  $           215  $     50,228  $           374  $           366

The recorded investment in loans does not include accrued interest.



13


The following table presents loans individually evaluated for impairment by class of loans as of December 31, 2010:

 Unpaid   Allowance for
 Principal Recorded Loan Losses
 Balance Investment Allocated
      
With no related allowance recorded:     
  Commercial real estate and multi-family residential loans:     
    Nonowner occupied loans $                    870  $                    869  $                        0
      
With an allowance recorded:     
  Commercial and industrial loans:     
    Working capital lines of credit loans5,651 5,652 2,944
    Non-working capital loans15,335 15,336 3,967
      
  Commercial real estate and multi-family residential loans:     
    Construction and land development loans1,402 1,401 195
    Owner occupied loans2,908 2,909 948
    Nonowner occupied loans18,186 18,179 3,520
    Multifamily loans0 0 0
      
  Agri-business and agricultural loans:     
    Loans secured by farmland405 406 83
    Loans for agricultural production853 853 218
      
  Other commercial loans197 197 190
      
  Consumer 1-4 family mortgage loans:     
    Closed end first mortgage loans2,067 2,063 75
    Open end and junior lien loans141 141 1
    Residential construction loans0 0 0
      
  Other consumer loans0 0 0
      
Total $               48,015  $               48,006  $               12,141

The recorded investment in loans does not include accrued interest.

The following table presents information on impaired loans for the three and six months ended June, 30 2010.

 Three Months Six Months
 ended ended
 June 30, June 30,
 2010 2010
    
Average of impaired loans during the period $         40,944  $         37,443
Interest income recognized during impairment                 200                  225
Cash-basis interest income recognized                 212                  233



14

The following table presents the recorded investment in nonaccrual and loans past due over 90 days still on accrual by class of loans as of June 30, 2011 and December 31, 2010:

 June 30, 2011 December 31, 2010
   Loans Past Due   Loans Past Due
   Over 90 Days   Over 90 Days
   Still   Still
 Nonaccrual Accruing Nonaccrual Accruing
  Commercial and industrial loans:       
    Non-impaired watch list loans $                    362  $                         0  $                    372  $                        0
    Working capital lines of credit loans4,959 0 5,405 0
    Non-working capital loans6,697 0 4,786 0
        
  Commercial real estate and multi-family residential loans:       
    Non-impaired watch list loans0 0 26 0
    Construction and land development loans1,239 0 1,400 0
    Owner occupied loans2,591 0 2,935 0
    Nonowner occupied loans18,779 0 19,049 0
    Multifamily loans0 0 0 0
        
  Agri-business and agricultural loans:       
    Non-impaired watch list loans84 0 0 0
    Loans secured by farmland761 0 406 0
    Loans for agricultural production247 0 878 0
        
  Other commercial loans0 0 197 0
        
  Consumer 1-4 family mortgage loans:       
    Closed end first mortgage loans1,147 134 842 318
    Open end and junior lien loans174 0 267 0
    Residential construction loans0 0 0 0
        
  Other consumer loans200 0 20 12
        
Total $               37,240  $                     134  $               36,583  $                    330

The recorded investment in loans does not include accrued interest.


15

The following table presents the aging of the recorded investment in past due loans as of June 30, 2011 by class of loans:

 30-89 Greater than      
 Days 90 Days Total Loans Not  
 Past Due Past Due Past Due Past Due Total
          
  Commercial and industrial loans:         
    Non-impaired watch list loans $                       0  $                     362  $                   362  $             38,555  $            38,917
    Working capital lines of credit loans0 4,959 4,959 343,688 348,647
    Non-working capital loans220 6,697 6,917 337,286 344,203
          
  Commercial real estate and multi-family residential loans:         
    Non-impaired watch list loans0 0 0 65,348 65,348
    Construction and land development loans64 1,239 1,303 115,560 116,863
    Owner occupied loans95 2,591 2,686 307,575 310,261
    Nonowner occupied loans0 18,779 18,779 292,430 311,209
    Multifamily loans0 0 0 21,582 21,582
          
  Agri-business and agricultural loans:         
    Non-impaired watch list loans0 84 84 2,830 2,914
    Loans secured by farmland0 761 761 93,873 94,634
    Loans for agricultural production0 247 247 100,747 100,994
          
  Other commercial loans0 0 0 53,702 53,702
          
  Consumer 1-4 family mortgage loans:         
    Closed end first mortgage loans1,689 1,281 2,970 104,491 107,461
    Open end and junior lien loans100 174 274 177,974 178,248
    Residential construction loans121 0 121 3,152 3,273
          
  Other consumer loans90 200 290 49,886 50,176
          
Total $                2,379  $                37,374  $              39,753  $        2,108,679  $       2,148,432

The recorded investment in loans does not include accrued interest.

16
The following table presents the aging of the recorded investment in past due loans as of December 31, 2010 by class of loans:

 30-89 Greater than      
 Days 90 Days Total Loans Not  
 Past Due Past Due Past Due Past Due Total
          
  Commercial and industrial loans:         
    Non-impaired watch list loans $                       0  $                     372  $                   372  $             54,977  $            55,349
    Working capital lines of credit loans0 5,405 5,405 261,556 266,961
    Non-working capital loans462 4,786 5,248 337,981 343,229
          
  Commercial real estate and multi-family residential loans:         
    Non-impaired watch list loans0 26 26 60,473 60,499
    Construction and land development loans0 1,400 1,400 88,089 89,489
    Owner occupied loans27 2,935 2,962 304,702 307,664
    Nonowner occupied loans0 19,049 19,049 314,245 333,294
    Multifamily loans0 0 0 24,127 24,127
          
  Agri-business and agricultural loans:         
    Non-impaired watch list loans0 0 0 4,131 4,131
    Loans secured by farmland0 406 406 109,465 109,871
    Loans for agricultural production0 878 878 114,684 115,562
          
  Other commercial loans0 197 197 38,542 38,739
          
  Consumer 1-4 family mortgage loans:         
    Closed end first mortgage loans2,333 1,160 3,493 99,405 102,898
    Open end and junior lien loans237 267 504 182,395 182,899
    Residential construction loans0 0 0 4,136 4,136
          
  Other consumer loans145 32 177 50,934 51,111
          
Total $                3,204  $                36,913  $              40,117  $        2,049,842  $       2,089,959

The recorded investment in loans does not include accrued interest.


17


Troubled Debt Restructurings:

Troubled debt restructured loans are included in the totals for impaired loans. The Company has allocated $6.4 million and $4.1 million of specific reserves to customers whose loan terms have been modified in troubled debt restructurings as of June 30, 2011 and December 31, 2010. The Company is not committed to lend additional funds to debtors whose loans have been modified in a troubled debt restructuring.

 June 30, December 31,
 2011 2010
  
Accruing troubled debt restructured loans $             11,526  $                8,547
Nonaccrual troubled debt restructured loans                  8,550                    6,091
Total troubled debt restructured loans $             20,076  $              14,638

Credit Quality Indicators:

The Company categorizes loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. The Company analyzes commercial loans individually by classifying the loans as to credit risk. This analysis is performed on a quarterly basis for Special Mention, Substandard and Doubtful grade loans and annually on Pass grade loans over $250,000.

The Company uses the following definitions for risk ratings:

Special Mention. Loans classified as special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date.

Substandard. Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.

Doubtful. Loans classified as doubtful have all the weaknesses inherent in those classified as substandard, with the added characteristics that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.







18

Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be pass rated loans with the exception of consumer troubled debt restructurings which are evaluated and listed with Substandard commercial grade loans.  Loans listed as not rated are consumer loans included in groups of homogenous loans.  As of June 30, 2011 and based on the most recent analysis performed, the risk category of loans by class of loans is as follows:

   Special     Not
 Pass Mention Substandard Doubtful Rated
          
  Commercial and industrial loans:         
    Non-impaired watch list loans $                       0  $            12,284  $              26,633  $                        0  $                       0
    Working capital lines of credit loans343,431 0 5,208 0 8
    Non-working capital loans325,427 7,468 9,568 0 1,740
          
  Commercial real estate and multi-family residential loans:         
    Non-impaired watch list loans0 28,005 37,343 0 0
    Construction and land development loans115,624 0 1,239 0 0
    Owner occupied loans307,242 0 2,927 0 92
    Nonowner occupied loans291,135 0 20,074 0 0
    Multifamily loans21,582 0 0 0 0
          
  Agri-business and agricultural loans:         
    Non-impaired watch list loans0 1,955 959 0 0
    Loans secured by farmland93,852 0 761 0 21
    Loans for agricultural production100,565 0 247 0 182
          
  Other commercial loans53,406 104 192 0 0
          
  Consumer 1-4 family mortgage loans:         
    Closed end first mortgage loans17,287 416 3,207 0 86,551
    Open end and junior lien loans13,479 0 415 0 164,354
    Residential construction loans0 0 0 0 3,273
          
  Other consumer loans8,913 0 776 0 40,487
          
Total $         1,691,943  $            50,232  $            109,549  $                        0  $            296,708

The recorded investment in loans does not include accrued interest.
19
As of December 31, 2010 the risk category of loans by class of loans is as follows:

   Special     Not
 Pass Mention Substandard Doubtful Rated
          
  Commercial and industrial loans:         
    Non-impaired watch list loans $                       0  $            22,282  $              33,067  $                        0  $                       0
    Working capital lines of credit loans261,210 0 5,751 0 0
    Non-working capital loans325,976 0 15,327 0 1,926
          
  Commercial real estate and multi-family residential loans:         
    Non-impaired watch list loans0 23,722 36,777 0 0
    Construction and land development loans88,088 0 1,401 0 0
    Owner occupied loans304,661 0 2,911 0 92
    Nonowner occupied loans314,247 0 19,047 0 0
    Multifamily loans24,127 0 0 0 0
          
  Agri-business and agricultural loans:         
    Non-impaired watch list loans0 2,008 2,123 0 0
    Loans secured by farmland109,444 0 405 0 22
    Loans for agricultural production114,495 0 853 0 214
          
  Other commercial loans38,400 0 339 0 0
          
  Consumer 1-4 family mortgage loans:         
    Closed end first mortgage loans17,398 427 1,386 0 83,687
    Open end and junior lien loans13,380 0 178 0 169,341
    Residential construction loans0 0 0 0 4,136
          
  Other consumer loans9,394 0 497 0 41,220
          
Total $         1,620,820  $            48,439  $            120,062  $                        0  $            300,638

The recorded investment in loans does not include accrued interest.


20


NOTE 5. SECURITIES

Information related to the fair value and amortized cost of securities available for sale and the related gross unrealized gains and losses recognized in accumulated other comprehensive income (loss) is provided in the tables below.

   Gross Gross  
 Fair Unrealized Unrealized Amortized
 Value Gain Losses Cost
June 30, 2011       
  U.S. Treasury securities1,047  $          43  $            0  $     1,004
  U.S. Government sponsored agencies5,086 49 0 5,037
  Agency residential mortgage-backed securities329,106 8,287 (206) 321,025
  Non-agency residential mortgage-backed securities37,898 298 (2,374) 39,974
  State and municipal securities73,818 2,824 (127) 71,121
    Total $ 446,955  $   11,501  $   (2,707)  $ 438,161
        
December 31, 2010       
  U.S. Treasury securities $     1,036  $          32  $            0  $     1,004
  U.S. Government sponsored agencies0 0 0 0
  Agency residential mortgage-backed securities308,851 10,422 (837) 299,266
  Non-agency residential mortgage-backed securities62,773 331 (6,136) 68,578
  State and municipal securities69,960 1,538 (637) 69,059
    Total $ 442,620  $   12,323  $   (7,610)  $ 437,907

Information regarding the fair value and amortized cost of available for sale debt securities by maturity as of June 30, 2011 is presented below. Maturity information is based on contractual maturity for all securities other than mortgage-backed securities. Actual maturities of securities may differ from contractual maturities because borrowers may have the right to prepay the obligation without prepayment penalty.

 Fair Amortized
 Value Cost
Due in one year or less $       2,229  $      2,207
Due after one year through five years17,388 16,683
Due after five years through ten years36,227 34,694
Due after ten years24,107 23,578
 79,951 77,162
Mortgage-backed securities367,004 360,999
  Total debt securities $   446,955  $  438,161




21

Information regarding security proceeds, gross gains and gross losses are presented below.

 Six months ended June 30,
 2011 2010
Sales of securities available for sale   
  Proceeds $      73,318  $               0
  Gross gains4,005 0
  Gross losses(4,171) 0
    
 Three months ended June 30,
 2011 2010
Sales of securities available for sale   
  Proceeds $        4,471  $               0
  Gross gains76 0
  Gross losses(44) 0


The Company sold 36 securities with a total book value of $73.5 million and a total fair value of $73.3 million during the first six months of 2011.  The sales were related to a strategic realignment of the securities portfolio, and included six of the seven non-agency residential mortgage backed securities on which the Company had previously recognized other-than-temporary impairment.  There were no securities sales during the first six months of 2010.

Purchase premiums or discounts are recognized in interest income using the interest method over the terms of the securities or over estimated lives for mortgage-backed securities. Gains and losses on sales are based on the amortized cost of the security sold and recorded on the trade date.

Securities with carrying values of $259.3 million and $258.8 million were pledged as of June 30, 2011 and 2010, as collateral for deposits of public funds, securities sold under agreements to repurchase, borrowings from the FHLB and for other purposes as permitted or required by law.

Information regarding securities with unrealized losses as of June 30, 2011 and December 31, 2010 is presented below. The tables distribute the securities between those with unrealized losses for less than twelve months and those with unrealized losses for twelve months or more.

 Less than 12 months 12 months or more Total
 Fair Unrealized Fair Unrealized Fair Unrealized
 Value Losses Value Losses Value Losses
June 30, 2011           
            
U.S. Treasury securities $             0  $           0  $          0  $          0  $            0  $           0
Agency residential mortgage-backed securities36,533 162 4,893 44 41,426 206
Non-agency residential mortgage-backed securities815 2 27,887 2,372 28,702 2,374
State and municipal securities10,292 127 0 0 10,292 127
  Total temporarily impaired $    47,640  $       291  $ 32,780  $   2,416  $   80,420  $    2,707

22
 Less than 12 months 12 months or more Total
 Fair Unrealized Fair Unrealized Fair Unrealized
 Value Losses Value Losses Value Losses
December 31, 2010           
            
U.S. Treasury securities $             0  $           0  $          0  $          0  $            0  $           0
Agency residential mortgage-backed securities55,193 821 4,170 16 59,363 837
Non-agency residential mortgage-backed securities1,607 2 50,786 6,134 52,393 6,136
State and municipal securities15,811 577 422 60 16,233 637
  Total temporarily impaired $    72,611  $    1,400  $ 55,378  $   6,210  $ 127,989  $    7,610

The number of securities with unrealized losses as of June 30, 2011 and December 31, 2010 is presented below.

 Less than 12 months  
 12 months or more Total
June 30, 2011     
      
U.S. Treasury securities0 0 0
Agency residential mortgage-backed securities11 2 13
Non-agency residential mortgage-backed securities1 9 10
State and municipal securities21 0 21
  Total temporarily impaired33 11 44
      
December 31, 2010     
      
U.S. Treasury securities0 0 0
Agency residential mortgage-backed securities13 1 14
Non-agency residential mortgage-backed securities1 18 19
State and municipal securities35 1 36
  Total temporarily impaired49 20 69

All of the following are considered to determine whether or not the impairment of these securities is other-than-temporary. Ninety-three percent of the securities are backed by the U.S. Government, government agencies, government sponsored agencies or are A rated or better, except for certain non-local municipal securities which are not rated. Mortgage-backed securities which are not issued by the U.S. Government or government sponsored agencies (non-agency residential mortgage-backed securities) met specific criteria set by the Asset Liability Management Committee at their time of purchase, including having the highest rating available by either Moody’s or S&P. None of the securities have call provisions (with the exception of the municipal securities) and payments as originally agreed have been received. For the government, government-sponsored agency and municipal securities, management did not have concerns of credit losses and there was nothing to indicate that full principal will not be received. Management considered the unrealized losses on these securities to be primarily interest rate driven and does not expect material losses given current market conditions unless the securities are sold, which at this time management does not have the intent to sell nor will it more likely than not be required to sell these securities before the recovery of their amortized cost basis.

As of June 30, 2011, the Company had $37.9 million of collateralized mortgage obligations which were not issued by the federal government or government sponsored agencies, but were rated AAA by S&P and/or Aaa by Moody’s at the time of purchase. At December 31, 2010, the Company had $62.8 million of these collateralized mortgage obligations.  During the first quarter of 2011, the Company sold eight of the non-agency residential mortgage backed securities as part of a strategic realignment of the investment portfolio.  The securities sold had a book value of $21.9 million and a fair value of $17.7 million.  The sales included six of the seven non-agency mortgage backed securities on which the Company had previously recognized other-than-temporary impairment.  Two of the 15 remaining non-agency residential mortgage backed securities were still rated AAA/Aaa as of June 30, 2011, but 13 were downgraded by S&P, Fitch and/or Moody’s, including 10 which were ranked below investment grade by one or more rating agencies.  Of the five securities rated AAA/Aaa at December 31, 2010, three have been downgraded, but were still rated as investment grade.  Of the 10 that were below AAA/Aaa at December 31, 2010, two incurred further downgrades.

23
For these non-agency residential mortgage-backed securities, additional analysis is performed to determine if the impairment is temporary or other-than-temporary in which case impairment would need to be recorded for these securities. The Company performs an independent analysis of the cash flows of the individual securities based upon assumptions as to collateral defaults, prepayment speeds, expected losses and the severity of potential losses.  Based upon the initial review, securities may be identified for further analysis computing the net present value using an appropriate discount rate (the current accounting yield) and comparing it to the book value of the security to determine if there is any other-than-temporary impairment that must be recorded. Based on this analysis of the non-agency residential mortgage-backed securities, the Company recorded an other-than-temporary impairment of $0 and $121,000, respectively, relating to one security in the three-months and six-months ended June 30, 2011, which is equal to the credit loss, establishing a new, lower amortized cost basis.  Because management did not have the intent to sell these securities nor did management believe that it was more likely than not they would be required to sell these securities before the recovery of their new, lower amortized cost basis, management did not consider the remaining unrealized losses of the investment securities to be other-than-temporarily impaired at June 30, 2011.

The following table provides information about debt securities for which only a credit loss was recognized in income and other losses are recorded in other comprehensive income.  The table represents the three months and six months ended June 30, 2011 and 2010.









242
 












Accumulated
Three Months Ended June 30, 2011Credit Losses
Balance April 1, 2011 $           194
Sales of securities for which other-than-temporary impairment losses were previously recognized           0
Additional increases to the amount of credit loss for which other-than-temporary impairment was previously recognized              0
Balance June 30, 2011 $           194

Accumulated
Three Months Ended June 30, 2010Credit Losses
Balance April 1, 2010 $           396
Additions related to other-than-temporary impairment losses not previously recognized              81
Balance June 30, 2010 $           477

Accumulated
Six Months Ended June 30, 2011Credit Losses
Balance January 1, 2011 $           1,812
Sales of securities for which other-than-temporary impairment losses were previously recognized           (1,739)
Additional increases to the amount of credit loss for which other-than-temporary impairment was previously recognized              121
Balance June 30, 2011 $           194

Accumulated
Six Months Ended June 30, 2010Credit Losses
Balance January 1, 2010 $           225
Additions related to other-than-temporary impairment losses not previously recognized              252
Balance June 30, 2010 $           477



25

Information on securities with at least one rating below investment grade as of June 30, 2011 is presented below.

       6/30/20111-Month3-Month6-Month 
  Other ThanJune 30, 2011LowestConstantConstantConstant 
  TemporaryParBookMarketUnrealizedCreditDefaultDefaultDefaultCredit
DescriptionCUSIPImpairmentValueValueValueGain/(Loss)RatingRateRateRateSupport
CWHL 2006-18 2A712543WAJ7 $               0 $   3,370 $   3,305 $   3,008 $        (297)CC0.001.453.853.72
CWALT 2005-46CB A112667G6U203,7943,6163,219(397)CC0.601.511.873.86
CWALT 2005-J8 1A312667GJ2005,4255,2024,762(440)Caa20.005.492.716.72
CHASE 2005-S3 A416162WNE50823818815(3)B11.072.222.124.37
CHASE 2006-S3 1A516162XAE701,8791,8751,770(105)CC8.995.285.463.20
CMSI 2007-6 1A5173103AE202,9422,9402,861(79)B10.001.182.766.74
GSR 2006-10F 1A136266WAC604,3884,0823,843(239)CC0.000.000.003.09
MALT 2004-6 7A1576434SK103,2623,2413,29554BB0.000.000.0011.00
MANA 2007-F1 1A159023YAA202,7322,6792,266(413)D0.000.002.520.00
RFMSI 2006-S5 A1474957EAP21942,9582,7152,352(363)CC1.493.774.470.83
   $           194 $ 31,573 $ 30,473 $ 28,191 $     (2,282)     



All of these securities are super senior or senior tranche non-agency residential mortgage-backed securities.  The credit support is the credit support percentage for a tranche from other subordinated tranches, which is the amount of principal in the subordinated tranches expressed as a percentage of the remaining principal in the super senior/senior tranche.  The super senior/senior tranches receive the prepayments and the subordinate tranches absorb the losses.  The super senior/senior tranches do not absorb losses until the subordinate tranches are gone.


26


The Company does not have a history of actively trading securities, but keeps the securities available for sale should liquidity or other needs develop that would warrant the sale of securities. While these securities are held in the available for sale portfolio, it is management’s current intent and ability to hold them until a recovery in fair value or maturity.

NOTE 6. EMPLOYEE BENEFIT PLANS

Components of Net Periodic Benefit Cost

 Six Months Ended June 30,
 Pension Benefits SERP Benefits
 2011 2010 2011 2010
Interest cost $          71  $          68  $          33  $          34
Expected return on plan assets(78) (78) (40) (42)
Recognized net actuarial (gain) loss41 50 31 28
  Net pension expense (benefit) $          34  $          40  $          24  $          20

 Three Months Ended June 30,
 Pension Benefits SERP Benefits
 2011 2010 2011 2010
Interest cost $          35  $          34  $          16  $          17
Expected return on plan assets(39) (39) (20) (21)
Recognized net actuarial (gain) loss21 25 16 14
  Net pension expense (benefit) $          17  $          20  $          12  $          10

The Company previously disclosed in its financial statements for the year ended December 31, 2010 that it did not expect to contribute to its pension in 2011 and did expect to contribute $90,000 to its SERP plan in 2011.  No contributions were made to the pension plan and $90,000 was contributed to the SERP plan as of June 30, 2011.

NOTE 7.  NEW ACCOUNTING PRONOUNCEMENTS

In January 2011, the FASB issued ASU No. 2011-01, “Deferral of the Effective Date of Disclosures about Troubled Debt Restructurings in Update No. 2010-20.”  The provisions of ASU No. 2010-20 required the disclosure of more granular information on the nature and extent of troubled debt restructurings and their effect on the allowance for loan and lease losses effective for the Company’s reporting period ended March 31, 2011.  The amendments in ASU No. 2011-01 defer the effective date related to these disclosures, enabling creditors to provide such disclosures after the FASB completes their project clarifying the guidance for determining what constitutes a troubled debt restructuring.  As the provisions of this ASU only defer the effective date of disclosure requirements related to troubled debt restructurings, the adoption of this ASU will have no impact on the Company’s statements of income and condition.
In April 2011, the FASB issued ASU No. 2011-02, “A Creditor’s Determination of Whether a Restructuring is a Troubled Debt Restructuring.”  The provisions of ASU No. 2011-02 provide additional guidance related to determining whether a creditor has granted a concession, include factors and examples for creditors to consider in evaluating whether a restructuring results in a delay in payment that is insignificant, prohibit creditors from using the borrower’s effective rate test to evaluate whether a concession has been granted to the borrower, and add factors for creditors to use in determining whether a borrower is experiencing financial difficulties.  A provision in ASU No. 2011-02 also ends the FASB’s deferral of the additional disclosures about troubled debt restructurings as required by ASU No. 2010-20.  The provisions of ASU No. 2011-02 are effective for the Company’s reporting period ending September 30, 2011.  The adoption of ASU No. 2011-02 is not expected to have a material impact on the Company’s statements of income and condition.

27
In May 2011, the FASB issued ASU No. 2011-04, “Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs.”  ASU No. 2011-04 results in a consistent definition of fair value and common requirements for measurement of and disclosure about fair value between U.S. GAAP and International Financial Reporting Standards (“IFRS”).  The changes to U.S. GAAP as a result of ASU No. 2011-04 are as follows:  (1) The concepts of highest and best use and valuation premise are only relevant when measuring the fair value of nonfinancial assets (that is, it does not apply to financial assets or any liabilities); (2) U.S. GAAP currently prohibits application of a blockage factor in valuing financial instruments with quoted prices in active markets.  ASU No. 2011-04 extends that prohibition to all fair value measurements; (3) An exception is provided to the basic fair value measurement principles for an entity that holds a group of financial assets and financial liabilities with offsetting positions in market risks or counterparty credit risk that are managed on the basis of the entity’s net exposure to either of those risks.  This exception allows the entity, if certain criteria are met, to measure the fair value of the net asset or liability position in a manner consistent with how market participants would price the net risk position; (4) Aligns the fair value measurement of instruments classified within an entity’s shareholders’ equity with the guidance for liabilities; and (5) Disclosure requirements have been enhanced for recurring Level 3 fair value measurements to disclose quantitative information about unobservable inputs and assumptions used, to describe the valuation processes used by the entity, and to describe the sensitivity of fair value measurements to changes in unobservable inputs and interrelationships between those inputs.  In addition, entities must report the level in the fair value hierarchy of items that are not measured at fair value in the statement of condition but whose fair value must be disclosed.  The provisions of ASU No. 2011-04 are effective for the Company’s interim and annual periods beginning on or after December 15, 2011.  The adoption of ASU No. 2011-04 is not expected to have a material impact on the Company’s statements of income and condition.

NOTE 8.  FAIR VALUE DISCLOSURES

Fair value is the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. There are three levels of inputs that may be used to measure fair values:
Level 1Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.
Level 2Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3Significant unobservable inputs that reflect a company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.
28
The Company used the following methods and significant assumptions to estimate the fair value of each type of financial instrument:

Securities:  Securities available for sale are valued primarily by a third party pricing service. The fair values of securities available for sale are determined on a recurring basis by obtaining quoted prices on nationally recognized securities exchanges (Level 1 inputs) or pricing models utilizing significant observable inputs such as matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities (Level 2 inputs). These models utilize the market approach with standard inputs that include, but are not limited to benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers and reference data. There were no transfers from or into Level 1, Level 2 or Level 3 during the first six months of 2011.

Mortgage banking derivatives:  The fair value of derivatives are based on observable market data as of the measurement date (Level 2).

Impaired loans:  Impaired loans with specific allocations of the allowance for loan losses are generally assessed against higher than normal discounted advance ratios of collateral as approved at the time of funding, with consideration given for any supplemental credit support from guarantors. Consideration is given for the type and nature of collateral, as well as the anticipated liquidation value to develop a discount for the advance ratios on each credit.  Commercial real estate is generally discounted from its appraised value by 20-50% after various considerations including age of the appraisal, current net operating income realized, general market conditions where the property is located, type of property and potential buyer base.  The appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant. Raw and finished inventory is discounted from its cost or book value by 35-65%, depending on the marketability of the goods.  Finished goods are generally discounted by 30-60%, depending on the ease of marketability, cost of transportation or scope of use of the finished good.  Work in process inventory is typically discounted by 50-100%, depending on the length of manufacturing time, types of components used in the completion process, and the breadth of the user base.  Equipment is valued at a percentage of depreciated book value or recent appraised value, if available, and is typically discounted at 30-70% after various considerations including age and condition of the equipment, marketability, breadth of use, and whether the equipment includes unique components or add-ons.  Marketable securities are discounted by 10-30%, depending on the type of investment, age of valuation report and general market conditions.  This methodology is based on a market approach and typically results in a Level 3 classification of the inputs for determining fair value.

Mortgage servicing rights:  As of June 30, 2011 the fair value of the Company’s Level 3 servicing assets for residential mortgage loans was $2.5 million, some of which are not currently impaired and therefore carried at amortized cost.  These residential mortgage loans have a weighted average interest rate of 5.14%, a weighted average maturity of 20 years and are secured by homes generally within the Company’s market area of Northern Indiana.  A valuation model is used to estimate fair value, which is based on an income approach.  The inputs used include estimates of prepayment speeds, discount rate, cost to service, escrow account earnings, contractual servicing fee income, ancillary income, late fees, and float income.  The most significant assumption used to value mortgage servicing rights is prepayment rate.  Prepayment rates are estimated based on published industry consensus prepayment rates.  At June 30, 2011 the constant prepayment speed (PSA) used was 276 and the discount rate used was 9.2%.  At June 30, 2010 the constant prepayment speed (PSA) used was 386 and the discount rate used was 9.5%.

29
Other real estate owned:  Nonrecurring adjustments to certain commercial and residential real estate properties classified as other real estate owned are measured at the lower of carrying amount or fair value, less costs to sell. Fair values are generally based on third party appraisals of the property, resulting in a Level 3 classification. In cases where the carrying amount exceeds the fair value, less costs to sell, an impairment loss is recognized.

Real estate mortgage loans held for sale:  Real estate mortgage loans held for sale are carried at the lower of cost or fair value, as determined by outstanding commitments, from third party investors.

The table below presents the balances of assets measured at fair value on a recurring basis:

 June 30, 2011
 Fair Value Measurements Using Assets
AssetsLevel 1 Level 2 Level 3 at Fair Value
U.S. Treasury securities $             1,047  $                      0  $                     0  $              1,047
U.S. Government sponsored agencies0 5,086 0 5,086
Agency residential mortgage-backed securities0 329,106 0 329,106
Non-agency residential mortgage-backed securities0 37,898 0 37,898
State and municipal securities0 73,818 0 73,818
Total Securities1,047 445,908 0 446,955
        
Mortgage banking derivative0 188 0 188
        
Total assets $             1,047  $           446,096  $                     0  $          447,143

 December 31, 2010
 Fair Value Measurements Using Assets
AssetsLevel 1 Level 2 Level 3 at Fair Value
U.S. Treasury securities $             1,036  $                      0  $                     0  $              1,036
Agency residential mortgage-backed securities0 308,851 0 308,851
Non-agency residential mortgage-backed securities0 62,773 0 62,773
State and municipal securities0 69,960 0 69,960
Total Securities1,036 441,584 0 442,620
        
Mortgage banking derivative0 357 0 357
        
Total assets $             1,036  $           441,941  $                     0  $          442,977


30
The table below presents the balances of assets measured at fair value on a nonrecurring basis:

 June 30, 2011
 Fair Value Measurements Using Assets
AssetsLevel 1 Level 2 Level 3 at Fair Value
      
Impaired loans:       
  Commercial and industrial loans:       
    Working capital lines of credit loans $                   0  $                     0  $            2,271  $             2,271
    Non-working capital loans0 0 4,515 4,515
        
  Commercial real estate and multi-family residential loans:       
    Construction and land development loans0 0 992 992
    Owner occupied loans0 0 2,132 2,132
    Nonowner occupied loans0 0 16,389 16,389
    Multifamily loans0 0 0 0
        
  Agri-business and agricultural loans:       
    Loans secured by farmland0 0 306 306
    Loans for agricultural production0 0 229 229
        
  Other commercial loans0 0 2 2
        
  Consumer 1-4 family mortgage loans:       
    Closed end first mortgage loans0 0 893 893
    Open end and junior lien loans0 0 0 0
    Residential construction loans0 0 0 0
        
  Other consumer loans0 0 0 0
        
Total impaired loans $                   0  $                     0  $          27,729  $          27,729
        
Mortgage servicing rights0 0 12 12
Other real estate owned                       0                          0                      16                       16
        
Total assets $                   0  $                     0  $          27,757  $          27,757




31






 December 31, 2010
 Fair Value Measurements Using Assets
AssetsLevel 1 Level 2 Level 3 at Fair Value
      
Impaired loans:       
  Commercial and industrial loans:       
    Working capital lines of credit loans $                   0  $                     0  $            2,708  $             2,708
    Non-working capital loans0 0 4,990 4,990
        
  Commercial real estate and multi-family residential loans:       
    Construction and land development loans0 0 1,207 1,207
    Owner occupied loans0 0 1,960 1,960
    Nonowner occupied loans0 0 14,666 14,666
    Multifamily loans0 0 0 0
        
  Agri-business and agricultural loans:       
    Loans secured by farmland0 0 322 322
    Loans for agricultural production0 0 635 635
        
  Other commercial loans0 0 7 7
        
  Consumer 1-4 family mortgage loans:       
    Closed end first mortgage loans0 0 815 815
    Open end and junior lien loans0 0 140 140
    Residential construction loans0 0 0 0
        
  Other consumer loans0 0 0 0
        
Total impaired loans $                   0  $                     0  $          27,450  $          27,450
        
Mortgage servicing rights                       0                          0                      11                       11
        
Total assets $                   0  $                     0  $          27,461  $          27,461
        


Impaired loans, which are measured for impairment using the fair value of the collateral for collateral dependent loans, had a gross carrying amount of $42.5 million, with a valuation allowance of $14.8 million, resulting in additional provision for loan losses of $3.4 million and $2.5 million, respectively, for the six months and three months ended June 30, 2011.  In addition, $7,000 and $4,000, respectively, in impairment of mortgage servicing rights, measured using Level 3 inputs within the fair value hierarchy, was recovered during the six months and three months ended June 30, 2011.  The Company also recognized a $20,000 reduction in the value of other real estate owned during the six months ended June 30, 2011.




32




The following table contains the estimated fair values and the related carrying values of the Company’s financial instruments. Items which are not financial instruments are not included.

 June 30, 2011 December 31, 2010
 Carrying Estimated Carrying Estimated
 Value Fair Value Value Fair Value
  
Financial Assets:       
 Cash and cash equivalents $     60,325  $     60,325  $         60,141  $         60,141
 Securities available for sale446,955 446,955 442,620 442,620
 Real estate mortgages held for sale3,103 3,136 5,606 5,661
 Loans, net2,097,172 2,094,915 2,044,952 2,041,812
 Federal Home Loan Bank stock7,313 N/A 8,511 N/A
 Federal Reserve Bank stock3,420 N/A 3,420 N/A
 Accrued interest receivable8,803 8,803 9,064 9,064
Financial Liabilities:       
 Certificates of deposit(969,788) (979,975) (949,559) (962,456)
 All other deposits(1,306,711) (1,306,711) (1,251,466) (1,251,466)
 Securities sold under agreements to repurchase(127,026) (127,026) (142,015) (142,015)
 Other short-term borrowings(11,408) (11,408) (32,037) (32,037)
 Long-term borrowings(15,040) (16,072) (15,041) (15,991)
 Subordinated debentures(30,928) (31,251) (30,928) (31,242)
 Standby letters of credit(308) (308) (321) (321)
 Accrued interest payable(6,497) (6,497) (4,978) (4,978)

For purposes of the above disclosures of estimated fair value, the following assumptions were used as of June 30, 2011 and December 31, 2010. The estimated fair value for cash and cash equivalents, demand and savings deposits, variable rate loans, variable rate short term borrowings and accrued interest is considered to approximate cost. The fair value of Federal Home Loan Bank and Federal Reserve Bank stock is not determinable as there are restrictions on its transferability. The estimated fair value for fixed rate loans, certificates of deposit and fixed rate borrowings is based on discounted cash flows using current market rates applied to the estimated life. Real estate mortgages held for sale are based upon the actual contracted price for those loans sold but not yet delivered, or the current Federal Home Loan Mortgage Corporation price for normal delivery of mortgages with similar coupons and maturities at year-end. The fair value of subordinated debentures is based on the rates currently available to the Company with similar term and remaining maturity and credit spread. The fair value of off-balance sheet items is based on the current fees or costs that would be charged to enter into or terminate such arrangements. The estimated fair value of other financial instruments approximate cost and are not considered significant to this presentation.

NOTE 9. COMPREHENSIVE INCOME

Comprehensive income consists of net income and other comprehensive income.  Other comprehensive income includes unrealized gains and losses on securities available-for-sale and changes in the funded status of pension plans which are also recognized as separate components of equity.  Following is a summary of other comprehensive income for the three months and six months ended June 30, 2011 and 2010:

33

   Three months ended June 30, Six months ended June 30,
   2011 2010 2011 2010
Net income $            7,989  $            6,219  $          13,954  $          12,240
Other comprehensive income       
 Change in securities available for sale:       
  Unrealized holding gain on securities available for sale       
    arising during the period               3,914                6,339                3,794              10,641
  Reclassification adjustment for (gains)/losses included in net income(32) 0 166 0
  Reclassification adjustment for other than temporary impairment0                     81                   121                   252
  Net securities gain activity during the period               3,882                6,420                4,081              10,893
  Tax effect              (1,560)               (2,613)               (1,573)               (4,406)
  Net of tax amount               2,322                3,807                2,508                6,487
 Defined benefit pension plans:       
  Net gain(loss) on defined benefit pension plans0 0                  (233) (35)
  Amortization of net actuarial loss                    37                     39                     72                     78
  Net gain /(loss) activity during the period                    37 39                  (161) 43
  Tax effect                    (16)                    (15)                     65                    (17)
  Net of tax amount                    21                     24                    (96)                     26
          
  Total other comprehensive income, net of tax               2,343                3,831                2,412                6,513
          
Comprehensive income $          10,332  $          10,050  $          16,366  $          18,753


The following table summarizes the changes within each classification of accumulated other comprehensive income for the six months ended June 30, 2011 and 2010:

   Current  
 Balance Period Balance
 at December 31, 2010 Change at June 30, 2011
      
Unrealized gain on securities available for sale     
  without other than temporary impairment $                           4,285  $             1,446  $                           5,731
Unrealized loss on securities available for sale     
  with other than temporary impairment                            (1,425)                 1,062                                (363)
      
Total unrealized gain on securities available for sale                              2,860                 2,508                               5,368
      
Unrealized loss on defined benefit pension plans                            (1,510)                    (96)                             (1,606)
      
Total $                           1,350  $             2,412  $                           3,762
      
      
      



34


   Current  
 Balance Period Balance
 at December 31, 2009 Change at June 30, 2010
      
Unrealized loss on securities available for sale     
  without other than temporary impairment $                         (2,814)  $             6,570  $                           3,756
Unrealized loss on securities available for sale     
  with other than temporary impairment(1,606) (83) (1,689)
      
Total unrealized loss on securities available for sale                            (4,420)                 6,487                               2,067
      
Unrealized loss on defined benefit pension plans                            (1,573)                      26                             (1,547)
      
Total $                         (5,993)  $             6,513  $                              520

NOTE 10. SUBSEQUENT EVENTS

There were no subsequent events that would have a material impact to the financial statements presented in this Form 10-Q.

NOTE 11. RECLASSIFICATIONS

Certain amounts appearing in the financial statements and notes thereto for prior periods have been reclassified to conform with the current presentation. The reclassification had no effect on net income or stockholders’ equity as previously reported.


















35



Part 1
LAKELAND FINANCIAL CORPORATION
ITEM 2 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
and
RESULTS OF OPERATIONS

June 30, 2011

OVERVIEW

Lakeland Financial Corporation is the holding company for Lake City Bank. The Company is headquartered in Warsaw, Indiana and operates 43 offices in 12 counties in Northern Indiana and a loan production office in Indianapolis, Indiana. The Company earned $14.0 million for the first six months of 2011, versus $12.2 million in the same period of 2010, an increase of 14.0%.  Net income was positively impacted by a $2.8 million decrease in the provision for loan losses, an increase in noninterest income of $538,000 and an increase in net interest income of $366,000.  Offsetting this positive impact was an increase of $1.7 million in noninterest expense.  Basic earnings per common share for the first six months of 2011 were $0.86 per share, versus $0.56 per share for the first six months of 2010.  Diluted earnings per common share reflect the potential dilutive impact of stock options, stock awards and warrants.  Diluted earnings per common share for the first six months of 2011 were $0.86 per share, versus $0.56 for the first six months of 2010.  Basic and diluted earnings per common share for the first six months of 2010 were impacted by $3.2 million in dividends and accretion of discount on preferred stock.  The Company redeemed the preferred stock, which had been issued to the U.S. Treasury under the Capital Purchase Program, in the second quarter of 2010.

Net income for the second quarter of 2011 was $8.0 million, an increase of 28.5% versus $6.2 million for the comparable period of 2010.  The increase was driven by a $2.9 million decrease in the provision for loan losses as well as a $559,000 increase in noninterest income.  Offsetting these positive impacts was an increase of $548,000 in noninterest expense, as well as a decrease of $207,000 in net interest income.  Basic earnings per common share for the second quarter of 2011 were $0.49 per share, versus $0.24 per share for the second quarter of 2010.  Diluted earnings per common share for the second quarter of 2011 were $0.49 per share, versus $0.24 per share for the second quarter of 2010.  Basic and diluted earnings per common share for the second quarter of 2010 were impacted by $2.4 million in dividends and accretion of discount on preferred stock.

RESULTS OF OPERATIONS

Net Interest Income

For the six-month period ended June 30, 2011, net interest income totaled $46.5 million, an increase of 0.8%, or $366,000, versus the first six months of 2010.  This increase was primarily due to a $124.1 million, or 5.0%, increase in average earning assets to $2.604 billion.  The Company’s net interest margin was 3.66% for the six-month period ended June 30, 2011, versus 3.80% for the comparable period in 2010.  For the three-month period ended June 30, 2011, net interest income totaled $22.9 million, a decrease of 0.9%, or $207,000, versus the second quarter of 2010.  This decrease was primarily due to a 22 basis point decrease in the Company’s net interest margin to 3.53% for the three-month period ended June 30, 2011, versus 3.75% for the comparable period of 2010.  Average earning assets increased $131.4 million, or 5.2%, to $2.646 billion in the second quarter of 2011, versus the second quarter of 2010.

36
Given the Company’s mix of interest earning assets and interest bearing liabilities at June 30, 2011, the Company would generally be considered to have a relatively neutral balance sheet structure.  The Company’s balance sheet structure would normally be expected to produce a stable or declining net interest margin in a declining rate environment.  As the Company’s balance sheet has become more neutral in structure, management believes rate movements and other factors such as deposit mix, market deposit rate pricing and non-bank deposit products could have an impact on net interest margin.  Over time, the Company’s mix of deposits has shifted to more reliance on transaction accounts such as Rewards Checking, as well as the Rewards Savings product and corporate and public fund money market and repurchase agreements, which generally carry a higher interest rate cost than other types of interest bearing deposits.

During the first six months of 2011, total interest and dividend income increased by $230,000, or 0.4%, to $61.3 million, versus $61.1 million during the first six months of 2010.  This increase was primarily the result of an increase in average earning assets of $124.1 million, or 5.0%.  The tax equivalent yield on average earning assets decreased 21 basis points to 4.8% for the six-month period ended June 30, 2011 versus the same period of 2010.  During the second quarter of 2011, total interest and dividend income decreased by $264,000, or 0.9%, to $30.5 million, versus $30.8 million during the second quarter of 2010.  This decrease was primarily the result of a 28 basis point decrease in the tax equivalent yield on average earning assets to 4.7% in the second quarter of 2011, versus 5.0% for the same period of 2010.  Average earning assets increased by $131.4 million, or 5.2%, in the second quarter of 2011 versus the same period of 2010.

During the first six months of 2011, loan interest income increased by $1.1 million, or 2.1%, to $52.4 million, versus $51.3 million during the first six months of 2010. The increase was driven by a $90.2 million, or 4.5%, increase in average daily loan balances.  During the second quarter of 2011, loan interest income increased by $458,000, or 1.8%, to $26.4 million, versus $26.0 million during the second quarter of 2010. The increase was driven by a $93.0 million, or 4.6%, increase in average daily loan balances.

The average daily securities balances for the first six months of 2011 increased $13.0 million, or 3.1%, to $433.8 million, versus $420.8 million for the same period of 2010. During the same periods, income from securities decreased by $900,000, or 9.3%, to $8.8 million versus $9.7 million during the first six months of 2010.  The decrease was primarily the result of a 56 basis point decrease in the tax equivalent yield on securities, to 4.4%, versus 5.0% in the first six months of 2010.  The average daily securities balances for the second quarter of 2011 increased $1.7 million, or 0.4%, to $429.3 million, versus $427.6 million for the same period of 2010. During the same periods, income from securities decreased by $773,000, or 16.0%, to $4.0 million versus $4.8 million during the second quarter of 2010.  The decrease was primarily the result of a 75 basis point decrease in the tax equivalent yield on securities, to 4.1%, versus 4.9% in the second quarter of 2010.

Despite the Company’s change in deposit mix to include higher costing deposit types, total interest expense decreased $136,000, or 0.9%, to $14.8 million for the six-month period ended June 30, 2011, from $15.0 million for the comparable period in 2010. The decrease was primarily the result of a nine basis point decrease in the Company’s daily cost of funds to 1.2%, versus 1.3% for the same period of 2010.  This decrease was generally caused by lower competitive interest rates in the Company’s market areas than were present in early 2010 and favorable pricing on brokered certificates of deposit.  Total interest expense decreased $57,000, or 0.7%, to $7.6 million for the second quarter of 2011, versus $7.7 million for the second quarter of 2010.  The decrease was primarily the result of a nine basis point decrease in the Company’s cost of funds to 1.2%, from 1.3% for the same period of 2010.

37
On an average daily basis, total deposits (including demand deposits) increased $252.7 million, or 12.5%, to $2.281 billion for the six-month period ended June 30, 2011, versus $2.028 billion during the same period in 2010.  The average daily balances for the second quarter of 2011 increased $209.0 million, or 9.8%, to $2.336 billion from $2.127 billion during the second quarter of 2010.  On an average daily basis, noninterest bearing demand deposits were $294.2 million for the six-month period ended June 30, 2011, versus $246.9 million for the same period in 2010.  The average daily noninterest bearing demand deposit balances for the second quarter of 2011 were $294.2 million, versus $253.0 million for the second quarter of 2010.  On an average daily basis, interest bearing transaction accounts increased $179.9 million, or 27.2%, to $841.5 million for the six-month period ended June 30, 2011, versus the same period in 2010.  Average daily interest bearing transaction accounts increased $179.4 million, or 25.2%, to $890.0 million for the second quarter of 2011, versus $710.7 million for the second quarter of 2010.  When comparing the six months ended June 30, 2011 with the same period of 2010, the average daily balance of time deposits, which pay a higher rate of interest compared to demand deposit and transaction accounts, decreased $36.3 million.  The rate paid on time deposit accounts decreased 20 basis points to 1.7% for the six-month period ended June 30, 2011, versus the same period in 2010.  During the second quarter of 2011, the average daily balance of time deposits decreased $68.6 million, and the rate paid decreased 13 basis points to 1.7%, versus the second quarter of 2010.  Despite the low interest rate environment, the Company has been able to attract and retain retail deposit customers through offering innovative deposit products such as Rewards Checking and Savings.  These products pay somewhat higher interest rates, but also encourage certain customer behaviors such as using debit cards and electronic statements, which have the effect of generating additional third-party fee income and reducing the Company’s processing costs.

The Company’s funding strategy is generally focused on leveraging its retail branch network to grow traditional retail deposits and on its presence with commercial customers and public fund entities in its Indiana markets to generate deposits.  In addition, the Company has expanded this strategy and has utilized out-of-market deposit programs such as brokered certificates of deposit and the Certificate of Deposit Account Registry Service (CDARS) program.  Due to ongoing loan growth, the Company sought these deposits and has expanded its funding strategy over time to include these out-of-market deposit programs.  The Company believes that these deposit programs represent an appropriate tool in the overall liquidity and funding strategy.  On an average daily basis, total brokered certificates of deposit increased $23.8 million to $162.2 million for the six-month period ended June 30, 2011, versus $138.4 million for the same period in 2010.  During the second quarter of 2011, average daily brokered certificates of deposit were $148.8 million, versus $168.4 million during the second quarter of 2010.  On an average daily basis, total public fund certificates of deposit decreased $75.1 million to $101.7 million for the six-month period ended June 30, 2011, versus $176.8 million for the same period in 2010.  During the second quarter of 2011, average daily public fund certificates of deposit were $108.7 million, versus $197.7 million during the second quarter of 2010.  In addition, the Company had average public fund interest bearing transaction accounts of $103.9 million and $106.0 million, respectively, in the six months and three months ended June 30, 2011, versus $78.6 million and $81.6 million for the comparable period of 2010.  Availability of public fund deposits can be cyclical, primarily due to the timing differences between when real estate property taxes are collected versus when those tax revenues are spent, as well as the intense competition for these funds.

38
Average daily balances of borrowings were $193.0 million during the six months ended June 30, 2011, versus $285.6 million during the same period of 2010, and the rate paid on borrowings increased two basis points to 1.1%.  During the second quarter of 2011 the average daily balances of borrowings decreased $45.6 million to $182.4 million, versus $228.0 million for the same period of 2010, and the rate paid on borrowings decreased 16 basis points to 1.1%.  The decrease in average borrowings during 2011 was driven by the discontinuance of the Federal Reserve Bank’s Term Auction Facility (TAF) during the first quarter of 2010.  Average daily borrowings under the facility were $62.6 million during the six months ended June 30, 2010, and the Company’s last borrowing matured on April 8, 2010.  On an average daily basis, total deposits (including demand deposits) and purchased funds increased 6.9% during both the six-month and the three-month periods ended June 30, 2011 versus the same periods in 2010.

The Board of Directors and management recognize the importance of liquidity during times of normal operations and in times of stress.  Therefore, during 2010, the Company formalized and expanded upon its extensive Contingency Funding Plan (CFP).  The formal CFP was developed to ensure that the multiple liquidity sources available to the Company are detailed. The CFP identifies the potential funding sources, which include the Federal Home Loan Bank of Indianapolis, The Federal Reserve Bank, brokered certificates of deposit, certificates of deposit available from the CDARS program, repurchase agreements, and Fed Funds. The CFP also address the role of the securities portfolio in liquidity.

Further, the plan identifies CFP team members and expressly details their respective roles. Potential risk scenarios are identified and the plan includes multiple scenarios, including short-term and long-term funding crisis situations. Under the long-term funding crisis, two additional scenarios are identified: a moderate risk scenario and a highly stressed scenario. The CFP indicates the responsibilities and the actions to be taken by the CFP Team under each scenario. Monthly reports to management and the Board of Directors under the CFP include an early warning indicator matrix and pro forma cash flows for the various scenarios.  The Company will continue to carefully monitor its liquidity planning and will consider adjusting its plans as circumstances warrant.

The following tables set forth consolidated information regarding average balances and rates:

39


DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY;
INTEREST RATES AND INTEREST DIFFERENTIAL
(in thousands of dollars)
                 
    Six Months Ended June 30, 
      2011      2010   
    Average Interest    Average Interest   
    Balance Income Yield (1)  Balance Income Yield (1) 
ASSETS               
Earning assets:               
  Loans:               
    Taxable (2)(3)   $    2,106,601  $         52,165 4.99%  $    2,025,194  $         51,295 5.11%
    Tax exempt (1)              10,809                  360 6.71                1,970                    54 5.49 
  Investments: (1)               
    Available for sale           433,848               9,488 4.41            420,818             10,371 4.97 
  Short-term investments             19,830                    15 0.15              30,119                    30 0.20 
  Interest bearing deposits             33,106                    81 0.49                1,994                    11 1.11 
                 
Total earning assets        2,604,194             62,109 4.81%        2,480,095             61,761 5.02%
                 
Nonearning assets:              
  Cash and due from banks             59,019 0                46,190 0   
  Premises and equipment             30,523 0                29,347 0   
  Other nonearning assets             95,639 0                90,479 0   
  Less allowance for loan losses           (48,090) 0               (35,527) 0   
                 
Total assets   $    2,741,285  $         62,109     $    2,610,584  $         61,761   


(1)Tax exempt income was converted to a fully taxable equivalent basis at a 35 percent tax rate for 2011 and 2010. The tax equivalent rate for tax exempt loans and tax exempt securities included the TEFRA adjustment applicable to nondeductible interest expenses.
(2)Loan fees, which are immaterial in relation to total taxable loan interest income for the six months ended June 30, 2011 and 2010, are included as taxable loan interest income.
(3)Nonaccrual loans are included in the average balance of taxable loans.


40


DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY;
INTEREST RATES AND INTEREST DIFFERENTIAL (Cont.)
(in thousands of dollars)
                 
    Six Months Ended June 30, 
      2011      2010   
    Average Interest    Average Interest   
    Balance Expense Yield  Balance Expense Yield 
LIABILITIES AND STOCKHOLDERS'             
EQUITY               
                 
Interest bearing liabilities:              
  Savings deposits  $       165,448  $              447 0.54%  $       103,646  $              287 0.56%
  Interest bearing checking accounts          841,512               5,224 1.25            661,573               3,754 1.14 
  Time deposits:               
    In denominations under $100,000          342,711               3,352 1.97            321,020               3,876 2.43 
    In denominations over $100,000          636,971               4,755 1.51            694,980               5,531 1.60 
  Miscellaneous short-term borrowings          147,005                  318 0.44            214,613                  437 0.41 
  Long-term borrowings              
  and subordinated debentures            45,968                  723 3.17              70,969               1,070 3.04 
                 
Total interest bearing liabilities       2,179,615             14,819 1.37%        2,066,801             14,955 1.46%
                 
Noninterest bearing liabilities              
 and stockholders' equity:              
  Demand deposits           294,164 0              246,892 0   
  Other liabilities              14,556 0                16,326 0   
Stockholders' equity           252,950 0              280,565 0   
Total liabilities and stockholders'             
 equity   $    2,741,285  $         14,819     $    2,610,584  $         14,955   
                 
Net interest differential - yield on             
 average daily earning assets    $         47,290 3.66%    $         46,806 3.80%


41

DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY;
INTEREST RATES AND INTEREST DIFFERENTIAL
(in thousands of dollars)
                 
    Three Months Ended June 30, 
      2011      2010   
    Average Interest    Average Interest   
    Balance Income Yield (1)  Balance Income Yield (1) 
ASSETS               
Earning assets:               
  Loans:               
    Taxable (2)(3)   $    2,126,494  $         26,300 4.96%  $    2,042,428  $         25,945 5.10%
    Tax exempt (1)              10,849                  180 6.66                1,901                    26 5.51 
  Investments: (1)               
    Available for sale           429,276               4,388 4.10            427,573               5,170 4.85 
  Short-term investments             16,467                      5 0.12              40,265                    22 0.22 
  Interest bearing deposits             62,973                    73 0.46                2,481                      5 0.81 
                 
Total earning assets        2,646,059             30,946 4.69%        2,514,648             31,168 4.97%
                 
Nonearning assets:              
  Cash and due from banks             66,036 0                51,157 0   
  Premises and equipment             30,623 0                29,252 0   
  Other nonearning assets             95,571 0                90,258 0   
  Less allowance for loan losses           (49,526) 0               (37,258) 0   
                 
Total assets   $    2,788,763  $         30,946     $    2,648,057  $         31,168   


(1)Tax exempt income was converted to a fully taxable equivalent basis at a 35 percent tax rate for 2011 and 2010. The tax equivalent rate for tax exempt loans and tax exempt securities included the TEFRA adjustment applicable to nondeductible interest expenses.
(2)Loan fees, which are immaterial in relation to total taxable loan interest income for the three months ended June 30, 2011 and 2010, are included as taxable loan interest income.
(3)Nonaccrual loans are included in the average balance of taxable loans.


42

DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY;
INTEREST RATES AND INTEREST DIFFERENTIAL (Cont.)
(in thousands of dollars)
                 
    Three Months Ended June 30, 
      2011      2010   
    Average Interest    Average Interest   
    Balance Expense Yield  Balance Expense Yield 
LIABILITIES AND STOCKHOLDERS'             
EQUITY               
                 
Interest bearing liabilities:              
  Savings deposits  $       167,076  $              223 0.54%  $       110,010  $              163 0.59%
  Interest bearing checking accounts          890,042               2,790 1.26            710,683               2,077 1.17 
  Time deposits:               
    In denominations under $100,000          345,998               1,695 1.96            317,414               1,860 2.35 
    In denominations over $100,000          638,947               2,385 1.50            736,111               2,833 1.54 
  Miscellaneous short-term borrowings          136,419                  147 0.43            157,006                  188 0.48 
  Long-term borrowings              
  and subordinated debentures            45,967                  363 3.17              70,969                  539 3.05 
                 
Total interest bearing liabilities       2,224,449               7,603 1.37%        2,102,193               7,660 1.47%
                 
Noninterest bearing liabilities              
 and stockholders' equity:              
  Demand deposits           294,172 0              253,030 0   
  Other liabilities              14,299 0                16,441 0   
Stockholders' equity           255,843 0              276,393 0   
Total liabilities and stockholders'             
 equity   $    2,788,763  $           7,603     $    2,648,057  $           7,660   
                 
Net interest differential - yield on             
 average daily earning assets    $         23,343 3.54%    $         23,508 3.75%



43


Provision for Loan Losses

Based on management’s review of the adequacy of the allowance for loan losses, provisions for loan losses of $8.5 million and $2.9 million were recorded during the six-month and three-month periods ended June 30, 2011, versus provisions of $11.3 million and $5.8 million recorded during the same periods of 2010.  Factors impacting the provision included the amount and status of classified and watch list credits, the level of charge-offs, management’s overall view on current credit quality and the regional and national economic conditions impacting credit quality, the amount and status of impaired loans, the amount and status of past due accruing loans (90 days or more), and overall loan growth as discussed in more detail below in the analysis relating to the Company’s financial condition.

Noninterest Income

Noninterest income categories for the six-month and three-month periods ended June 30, 2011 and 2010 are shown in the following table:

 Six Months Ended
 June 30,
     Percent
 2011 2010 Change
       
Wealth advisory fees $   1,747  $   1,625          7.5%
Investment brokerage fees      1,352       1,016        33.1 
Service charges on deposit accounts      3,902       4,060        (3.9) 
Loan, insurance and service fees      2,336       1,994        17.2 
Merchant card fee income         522          583      (10.5) 
Other income      1,018       1,015          0.3 
Mortgage banking income         154          165        (6.7) 
Net securities gains (losses)       (166)              0  N/A 
Impairment on available-for-sale securities (includes total losses of $121 and $252,      
   net of $0 and $0 recognized in other comprehensive income, pre-tax)       (121)         (252)      (52.0) 
  Total noninterest income $ 10,744  $ 10,206          5.3%


 Three Months Ended
 June 30,
     Percent
 2011 2010 Change
       
Wealth advisory fees $      929  $      833        11.5%
Investment brokerage fees         621          471        31.8 
Service charges on deposit accounts      1,939       2,202      (11.9) 
Loan, insurance and service fees      1,260       1,074        17.3 
Merchant card fee income         288          303        (5.0) 
Other income         646          483        33.7 
Mortgage banking income         203            74      174.3 
Net securities gains (losses)           32              0  N/A 
Impairment on available-for-sale securities (includes total losses of $0 and $81,      
   net of $0 and $0 recognized in other comprehensive income, pre-tax)             0           (81)  N/A 
  Total noninterest income $   5,918  $   5,359        10.4%

44
Noninterest income increased $538,000 and $559,000 respectively, for the six-month and three-month periods ended June 30, 2011 versus the same periods in 2010.  Loan, insurance and service fees increased by $342,000 and $186,000, respectively, driven by greater debit card usage and increases in other ancillary revenue sources.  In addition, investment brokerage fees increased by $336,000 and $150,000, respectively, driven by greater trading activity.  Wealth advisory fees increased due to the increased value of certain trust assets upon which many of the fees are based.  Noninterest income was negatively impacted by decreases of $158,000 and $263,000 in service charges on deposit accounts due to fewer overdraft charges.

Noninterest Expense

Noninterest expense categories for the six-month and three-month periods ended June 30, 2011 and 2010 are shown in the following table:

 Six Months Ended
 June 30,
     Percent
 2011 2010 Change
       
Salaries and employee benefits $ 16,191  $ 15,070       7.4%
Occupancy expense      1,627       1,488       9.3 
Equipment costs      1,064       1,051       1.2 
Data processing fees and supplies      2,091       1,926       8.6 
Credit card interchange             2          113   (98.2) 
Other expense      7,166       6,825       5.0 
  Total noninterest expense $ 28,141  $ 26,473       6.3%

 Three Months Ended
 June 30,
     Percent
 2011 2010 Change
       
Salaries and employee benefits $   8,018  $   7,559       6.1%
Occupancy expense         752          699       7.6 
Equipment costs         510          522     (2.3) 
Data processing fees and supplies         979          960       2.0 
Credit card interchange             0            49  N/A 
Other expense      3,714       3,636       2.1 
  Total noninterest expense $ 13,973  $ 13,425       4.1%

The Company's noninterest expense increased $1.7 million and $548,000, respectively, in the six-month and three-month periods ended June 30, 2011 versus the same periods of 2010.  Salaries and employee benefits increased by $1.1 million and $459,000, respectively, in the six-month and three-month periods ended June 30, 2011 versus the same period of 2010.  These increases were driven by staff additions and normal merit increases.  In addition, the Company’s performance based compensation expense increased due to performance versus corporate objectives and increased recognition levels.  Data processing fees increased by $165,000 during 2011, due to one-time expenses associated with the Company’s conversion to a new core processor.  The core conversion was completed during the second quarter of 2011.  In addition, other expense increased by $341,000 in 2011, driven by $116,000 of credit related costs and higher advertising expenses of $97,000.

45
Income Tax Expense

Income tax expense increased $298,000, or 4.7%, for the first six months of 2011, compared to the same period in 2010.  The combined state franchise tax expense and the federal income tax expense, as a percentage of income before income tax expense, decreased to 32.2% during the first six months of 2011 compared to 34.1% during the same period of 2010.  The change was driven by fluctuations in the percentage of revenue being derived from tax-advantaged sources in the six-month period of 2011, compared to the same period in 2010.  The combined tax expense was 33.4% in both the second quarter of 2011 and 2010.

CRITICAL ACCOUNTING POLICIES

Certain of the Company’s accounting policies are important to the portrayal of the Company’s financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. Estimates associated with these policies are susceptible to material changes as a result of changes in facts and circumstances. Some of the facts and circumstances which could affect these judgments include changes in interest rates, in the performance of the economy or in the financial condition of borrowers. Management believes that its critical accounting policies include determining the allowance for loan losses, the valuation of mortgage servicing rights and the valuation and other-than-temporary impairment of investment securities. The Company’s critical accounting policies are discussed in detail in the Annual Report for the year ended December 31, 2010 (incorporated by reference as part of the Company’s 10-K filing).

FINANCIAL CONDITION

Total assets of the Company were $2.735 billion as of June 30, 2011, an increase of $53.1 million, or 2.0%, when compared to $2.682 billion as of December 31, 2010.

Total cash and cash equivalents increased by $184,000, or 0.3%, to $60.3 million at June 30, 2011 from $60.1 million at December 31, 2010.

Total securities available-for-sale increased by $4.3 million, or 1.0%, to $447.0 million at June 30, 2011 from $442.6 million at December 31, 2010. The increase was a result of a number of transactions in the securities portfolio.  Securities purchases totaled $113.5 million.  Offsetting this increase were securities sales totaling $73.8 million, paydowns totaling $34.5 million, maturities and calls of securities totaling $4.0 million and securities amortization net of accretion was $1.2 million.  In addition, the net unrealized gain/loss of the securities portfolio increased by $4.1 million.  The increase in fair market value was primarily driven by higher market values for non-agency residential mortgage-backed securities.  The investment portfolio is generally managed to limit the Company’s exposure to risk by containing mostly mortgage-backed securities, other securities which are either directly or indirectly backed by the federal government or a local municipal government and collateralized mortgage obligations rated AAA by S&P and/or Aaa by Moody’s at the time of purchase.  As of June 30, 2011, the Company had $37.9 million of collateralized mortgage obligations which were not backed by the federal government, but were rated AAA by S&P and/or Aaa by Moody’s at the time of purchase.

46
Two of the 15 non-agency collateralized mortgage obligations are still rated AAA/Aaa as of June 30, 2011, but 13 had been downgraded since the time of purchase by S&P, Fitch and/or Moody’s, including 10 which were ranked below investment grade by one or more rating agencies.  On a quarterly basis, the Company performs an analysis of the cash flows of these securities based on assumptions as to collateral defaults, prepayment speeds, expected losses and the severity of potential losses.  Based upon the initial analysis, securities may be identified for further analysis computing the net present value and comparing it to the book value to determine if there is any other-than-temporary impairment to be recorded.  Based on the analyses as of June 30, 2011, the Company did not realize any additional other-than-temporary impairment on any of the 15 non-agency residential mortgage backed securities.

Real estate mortgage loans held-for-sale decreased by $2.5 million, or 44.7%, to $3.1 million at June 30, 2011 from $5.6 million at December 31, 2010. The balance of this asset category is subject to a high degree of variability depending on, among other things, recent mortgage loan rates and the timing of loan sales into the secondary market. During the six months ended June 30, 2011, $30.6 million in real estate mortgages were originated for sale and $32.8 million in mortgages were sold.

Total loans, excluding real estate mortgage loans held for sale, increased by $58.5 million to $2.148 billion at June 30, 2011 from $2.090 billion at December 31, 2010. The portfolio breakdowns at both June 30, 2011 and December 31, 2010 reflected 84% commercial and industrial, including commercial real estate and agri-business, 14% residential real estate and home equity and 2% consumer loans.

The Company has a high percentage of commercial and commercial real estate loans, most of which are extended to small or medium-sized businesses. Commercial loans represent higher dollar loans to fewer customers and therefore higher credit risk than other types of loans. Pricing is adjusted to manage the higher credit risk associated with these types of loans. The Company also generally requires new and renewed variable rate commercial loans to have floor rates.  The majority of fixed rate residential mortgage loans, which represent increased interest rate risk, are sold in the secondary market, as well as some variable rate mortgage loans. The remainder of the variable rate mortgage loans and a small number of fixed rate mortgage loans are retained.

Loans are charged against the allowance for loan losses when management believes that the principal is uncollectible. Subsequent recoveries, if any, are credited to the allowance. The allowance is an amount that management believes will be adequate to absorb probable incurred credit losses relating to specifically identified loans based on an evaluation, as well as other probable incurred losses inherent in the loan portfolio. The evaluations take into consideration such factors as changes in the nature and volume of the loan portfolio, overall portfolio quality, review of specific problem loans and current economic conditions that may affect the borrower’s ability to repay. Management also considers trends in adversely classified loans based upon a monthly review of those credits. An appropriate level of general allowance is determined after considering the following factors:  application of historical loss percentages, emerging market risk, commercial loan focus and large credit concentrations, new industry lending activity and current economic conditions. Federal regulations require insured institutions to classify their own assets on a regular basis. The regulations provide for three categories of classified loans – substandard, doubtful and loss. The regulations also contain a special mention category. Special mention is defined as loans that do not currently expose an insured institution to a sufficient degree of risk to warrant classification, but do possess credit deficiencies or potential weaknesses deserving management’s close attention.  The Company’s policy is to establish a specific allowance for loan losses for any assets classified as substandard or doubtful.  If an asset or portion thereof is classified as loss, the Company’s policy is to either establish specified allowances for loan losses in the amount of 100% of the portion of the asset classified loss, or charge off such amount. At June 30, 2011, on the basis of management’s review of the loan portfolio, the Company had loans totaling $160.5 million on the classified loan list versus $169.3 million on December 31, 2010. As of June 30, 2011, the Company had $58.9 million of assets classified special mention, $101.6 million classified as substandard, $0 classified as doubtful and $0 classified as loss as compared to $48.4 million, $120.1 million, $0 and $0 at December 31, 2010.  In addition, at June 30, 2011 the Company had sixteen loans totaling $20.1 million accounted for as troubled debt restructurings – seven mortgage loans totaling $1.2 million with total allocations of $94,000, a $6.0 million commercial credit with an allocation of $3.9 million, a $7.1 million commercial credit with an allocation of $1.3 million, a $1.8 million commercial credit with an allocation of $700,000, a $1.4 million commercial credit with an allocation of $550,000, a $1.1 million commercial credit with an allocation of $159,000, an $826,000 commercial credit with an allocation of $55,000, a $478,000 commercial credit with an allocation of $100,000 and a $368,000 commercial credit with an allocation of $92,000.  The Company has no commitments to lend additional funds to any of the borrowers of those sixteen loans.  At December 31, 2010, the Company had ten relationships totaling $14.6 million accounted for as troubled debt restructurings – eight mortgage loans totaling $1.4 million with total allocations of $70,000, a $6.1 million commercial credit with an allocation of $3.2 million and a $7.2 million commercial credit with an allocation of $2.5 million.

47
Allowance estimates are developed by management taking into account actual loss experience, adjusted for current economic conditions. The Company generally has regular discussions regarding this methodology with regulatory authorities.  Allowance estimates are considered a prudent measurement of the risk in the Company’s loan portfolio and are applied to individual loans based on loan type. In accordance with current accounting guidance, the allowance is provided for losses that have been incurred as of the balance sheet date and is based on past events and current economic conditions, and does not include the effects of expected losses on specific loans or groups of loans that are related to future events or expected changes in economic conditions.

Net charge-offs totaled $136,000 in the second quarter of 2011, versus $4.7 million during the second quarter of 2010 and $2.1 million during the first quarter of 2011.

The allowance for loan losses increased 13.9%, or $6.4 million, from $45.0 million at December 31, 2010 to $51.3 million at June 30, 2011.  Pooled loan allocations increased $2.8 million from $12.9 million at December 31, 2010 to $15.7 million at June 30, 2011, which was primarily a result of management’s overall view on current credit quality.  Impaired loan allocations increased $3.4 million from $12.1 million at December 31, 2010 to $15.6 million at June 30, 2011 and other specifically reviewed loan allocations were unchanged at $16.3 million at December 31, 2010 and June 30, 2011.  This increase in impaired allocations was primarily due to increases in the allocations of existing impaired loans as well as the addition of two commercial credits to the impaired loans category.  The unallocated component of the allowance for loan losses decreased $213,000 from $3.7 million at December 31, 2010 to $3.5 million at June 30, 2011, based on management’s assessment of economic and other qualitative factors impacting the loan portfolio, including the ongoing economic challenges in the Company’s market area.  While management has begun to see some positive trends, including stabilization in watchlist credits, management anticipates a slow recovery and therefore recognized only a slight decrease in the unallocated component of the allowance for loan losses.  Management believed the allowance for loan losses at June 30, 2011 was at a level commensurate with the overall risk exposure of the loan portfolio. However, if economic conditions do not continue to improve, certain borrowers may experience difficulty and the level of nonperforming loans, charge-offs and delinquencies could rise and require further increases in the provision for loan losses.

48
Total impaired loans increased by $3.4 million to $51.4 million at June 30, 2011 from $48.0 million at December 31, 2010.  A loan is impaired when full payment under the original loan terms is not expected. Impairment is evaluated in the aggregate for smaller-balance loans of similar nature such as residential mortgage, and consumer loans, and on an individual loan basis for other loans. If a loan is impaired, a portion of the allowance may be allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral if repayment is expected solely from the collateral.  The increase in the impaired loans category was primarily due to the addition of three commercial credits totaling $4.4 million.  One borrower is engaged in the health care field and the other two are engaged in commercial real estate development.  The increase in impaired loans was partially offset by pay-offs and charge-offs.  Of the $51.4 million in impaired loans, $36.3 million were on nonaccrual status at June 30, 2011.  The following table summarizes nonperforming assets at June 30, 2011 and December 31, 2010.

 June 30,December 31,
 20112010
 (in thousands)
NONPERFORMING ASSETS:  
Nonaccrual loans including nonaccrual troubled debt restructured loans $         37,235  $         36,591 
Loans past due over 90 days and still accruing                 134                  330 
Total nonperforming loans $         37,369  $         36,921 
Other real estate              2,753                3,695 
Repossessions                   8                     42 
Total nonperforming assets $         40,130  $         40,659 
   
Impaired loans including troubled debt restructurings $         51,423  $         48,015 
   
Nonperforming loans to total loans1.74%1.77%
Nonperforming assets to total assets1.47%1.52%
   
Nonperforming troubled debt restructured loans (included in nonaccrual loans) $           8,550 $           6,091 
Performing troubled debt restructured loans            11,526 8,547 
Total troubled debt restructured loans $         20,076  $          14,638 

Total nonperforming assets decreased by $529,000, or 1.3%, to $40.1 million during the six-month period ended June 30, 2011.  The decrease was primarily due to the aforementioned charge-offs and pay-offs as well as the sale of other real estate.  Seven commercial relationships represented 78.5% of total nonperforming loans.  Three of the seven relationships are each less than $2.0 million.  A $15.0 million commercial relationship consisting of four loans represents the largest exposure in the nonperforming category.  The borrower is engaged in real estate development.   Borrower collateral, including real estate and the personal guarantees of its principals, support the credit.  The Company took a $1.7 million charge-off related to this credit in the fourth quarter of 2009, and no charge-offs were taken in 2010 or have been taken in 2011.

49
A $6.0 million credit to a manufacturer tied to the housing industry represented the second largest exposure in the nonperforming category.  The credit is accounted for as a troubled debt restructuring.  Borrower collateral including real estate, receivables, inventory and equipment support the credit, however, there are no guarantors.  The Company took a $906,000 charge-off related to this credit in 2008, and no charge-offs were taken in 2009 or 2010, or have been taken in 2011.

A commercial relationship consisting of two loans totaling $2.7 million represented the third largest exposure in the nonperforming category.  The borrower is engaged in sales tied to the recreational vehicle industry as well as residential real estate development.  Borrower collateral, including real estate and the personal guarantees of its principals, support the credit.  The Company took $1.3 million in charge-offs related to this relationship during 2008, and no charge-offs were taken in 2009 or 2010, or have been taken in 2011.

There can be no assurances that full repayment of the loans discussed above will result.  Management does not foresee a rapid recovery from the challenging economic conditions in the Company’s markets as certain industries, including residential and commercial real estate development, recreational vehicle and mobile home manufacturing and other regional industries continue to experience general slow-downs and negative growth.  The Company’s growth strategy has promoted diversification among industries as well as a continued focus on enforcement of a strong credit environment and an aggressive position on loan work-out situations.  While the Company believes that the impact on the Company of these industry-specific issues affecting real estate development and recreational vehicle and mobile home manufacturers will be somewhat mitigated by the Company’s overall growth strategy, the economic factors impacting its entire geographic footprint will continue to present challenges.  Additionally, the Company’s overall asset quality position can be influenced by a small number of credits due to the focus on commercial lending activity and the granularity inherent in this strategy.

Total deposits increased by $75.5 million, or 3.4%, to $2.276 billion at June 30, 2011 from $2.201 billion at December 31, 2010. The increase resulted from increases of $32.5 million in certificates of deposit of $100,000 and over, $31.5 million in interest bearing transaction accounts, $26.8 million in public fund certificates of deposit of $100,000 or more, $19.2 million in other certificates of deposit, $11.2 million in money market accounts, $8.2 million in savings accounts, and $4.4 million in demand deposits.  Offsetting these increases were decreases of $55.0 million in brokered deposits and $3.3 million in CDARS certificates of deposit.

Total short-term borrowings decreased by $35.6 million, or 20.5%, to $138.4 million at June 30, 2011 from $174.1 million at December 31, 2010.  The decrease resulted primarily from decreases of $30.0 million in other borrowings, primarily from short-term advances from the Federal Home Loan Bank of Indianapolis.  In addition, securities sold under agreements to repurchase decreased by $15.0 million.  Offsetting these decreases were increases of $9.0 million in federal funds purchased.

Total equity increased by $12.3 million, or 5.0%, to $259.4 million at June 30, 2011 from $247.1 million at December 31, 2010.  The increase in total equity resulted from net income of $14.0 million, plus the increase in the accumulated other comprehensive income of $2.4 million, less dividends of $5.0 million, plus $647,000 in stock compensation expense, plus $336,000 for stock issued through options exercised (including tax benefit).

50
The FDIC’s risk-based capital regulations require that all insured banking organizations maintain an 8.0% total risk-based capital ratio. The FDIC has also established definitions of “well capitalized” as a 5.0% Tier I leverage capital ratio, a 6.0% Tier I risk-based capital ratio and a 10.0% total risk-based capital ratio. All of the Bank’s ratios continue to be above these “well capitalized” levels. The Federal Reserve also has established minimum regulatory capital requirements for bank holding companies.  As of June 30, 2011, the Company had regulatory capital in excess of these minimum requirements with a Tier 1 leverage capital ratio, Tier 1 risk-based capital ratio and total risk-based capital ratio of 10.0%, 12.3% and 13.6%, respectively.

FORWARD-LOOKING STATEMENTS

This document (including information incorporated by reference) contains, and future oral and written statements of the Company and its management may contain, forward-looking statements, within the meaning of such term in the Private Securities Litigation Reform Act of 1995, with respect to the financial condition, results of operations, plans, objectives, future performance and business of the Company. Forward-looking statements, which may be based upon beliefs, expectations and assumptions of the Company’s management and on information currently available to management, are generally identifiable by the use of words such as “believe,” “expect,” “anticipate,” “plan,” “intend,” “estimate,” “may,” “will,” “would,” “could,” “should” or other similar expressions. Additionally, all statements in this document, including forward-looking statements, speak only as of the date they are made, and the Company undertakes no obligation to update any statement in light of new information or future events.

The Company’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain. The factors, which could have a material adverse effect on the operations and future prospects of the Company and its subsidiaries are detailed in the “Risk Factors” section included under Item 1a. of Part I of our Form 10-K. In addition to the risk factors described in that section, there are other factors that may impact any public company, including ours, which could have a material adverse effect on the operations and future prospects of the Company and its subsidiaries.  These additional factors include, but are not limited to, the following:

·  Legislative or regulatory changes or actions, including the “Dodd-Frank Wall Street Reform and Consumer Protection Act” and the regulations required to be promulgated there under, which may adversely affect the business of the Company and its subsidiaries.
·  The costs, effects and outcomes of existing or future litigation.
·  Changes in accounting policies and practices, as may be adopted by state and federal regulatory agencies, the Financial Accounting Standards Board, the Securities and Exchange Commission and the Public Company Accounting Oversight Board.
·  The ability of the Company to manage risks associated with the foregoing as well as anticipated.

These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements.

51
ITEM 3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest rate risk represents the Company’s primary market risk exposure. The Company does not have a material exposure to foreign currency exchange risk, does not have any material amount of derivative financial instruments and does not maintain a trading portfolio. The board of directors annually reviews and approves the policy used to manage interest rate risk. The policy was last reviewed and approved in May 2011. The policy sets guidelines for balance sheet structure, which are designed to protect the Company from the impact that interest rate changes could have on net income, but does not necessarily indicate the effect on future net interest income. The Company, through its Asset/Liability Committee, manages interest rate risk by monitoring the computer simulated earnings impact of various rate scenarios and general market conditions. The Company then modifies its long-term risk parameters by attempting to generate the type of loans, investments, and deposits that currently fit the Company’s needs, as determined by the Asset/Liability Committee. This computer simulation analysis measures the net interest income impact of various interest rate scenario changes during the next 12 months. If the change in net interest income is less than 3% of primary capital, the balance sheet structure is considered to be within acceptable risk levels. As of June 30, 2011, the Company’s potential pretax exposure was within the Company’s policy limit, and not significantly different from December 31, 2010.

ITEM 4 – CONTROLS AND PROCEDURES

As required by Rules 13a-15(b) and 15d-15(b) under the Securities Exchange Act of 1934, management has evaluated, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, the effectiveness of the Company’s disclosure controls and procedures as of the end of the period covered by this report. Based on this evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures (as defined in Securities Exchange Act Rules 13a-15(e) and 15d-15(e)) were effective as of June 30, 2011.  Disclosure controls and procedures are designed to ensure that information required to be disclosed by the Company in reports that it files or submits under the Securities Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.  These disclosure controls and procedures include controls and procedures designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act is accumulated and communicated to management, including the Company’s Chief Executive Officer and Chief Financial Officer, or persons performing similar functions, as appropriate, to allow timely decisions regarding required disclosure.
During the quarter ended June 30, 2011, there were no changes to the Company’s internal control over financial reporting that have materially affected or are reasonably likely to materially affect its internal control over financial reporting.






52


LAKELAND FINANCIAL CORPORATION

FORM 10-Q

June 30, 2011

Part II - Other Information

Item 1. Legal proceedings

There are no material pending legal proceedings to which the Company or its subsidiaries is a party other than ordinary routinelitigation incidental to their respective businesses.

Item 1A. Risk Factors

There have been no material changes to the risk factors disclosed in Item 1A of Part I of the Company’s 2010 Form 10-K.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

The following table provides information as of June 30, 2011 with respect to shares of common stock repurchased by the Company during the quarter then ended:

Issuer Purchases of Equity Securities(a)

       Maximum Number (or
     Total Number of Appropriate Dollar
     Shares Purchased as Value) of Shares that
     Part of Publicly May Yet Be Purchased
 Total Number of Average Price Announced Plans or Under the Plans or
PeriodShares Purchased Paid per Share Programs Programs
        
April 1-30                                 0  $                       0                                         0  $                                          0
May 1-31                             473                    21.36                                         0                                              0
June 1-30                                 0                           0                                         0                                              0
        
Total                             473  $                21.36                                         0  $                                          0


(a)The shares purchased during the periods were credited to the deferred share accounts of 
non-employee directors under the Company’s directors’ deferred compensation plan.  These
shares were purchased in the ordinary course of business and consistent with past practice.

Item 3. Defaults Upon Senior Securities

            None

53

Item 4. Removed and Reserved


Item 5. Other Information

            None

Item 6. Exhibits

10.1Form of Retirement Transition Agreement between Lakeland Financial Corporation and Charles D. Smith (incorporated by reference to Exhibit 10.1 of the Company’s Form 8-K filed on July 13, 2011.*
  
31.1Certification of Chief Executive Officer Pursuant to Rule 13a-14(a)/15d-14(a)*
  
31.2Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a)*
  
32.1Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.*
  
32.2Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.*
101.INSInteractive data files pursuant to Rule 405 of Regulation S-T: (i) Consolidated Balance Sheets at June 30, 2011 and December 31, 2010; (ii) Consolidated Statements of Income for the three and six months ended June 30, 2011 and June 30, 2010; (iii) Consolidated Statements of Changes in Stockholders’ Equity for the six months ended June 30, 2011 and June 30, 2010; (iv) Consolidated Statements of Cash Flows for the six months ended June 30, 2011 and June 30, 2010; and (v) Notes to Consolidated Financial Statements, tagged as blocks of text.**




* Previously filed.






** As provided in Rule 406T of Regulation S-T, this information shall not be deemed “filed” for purposes of Sections 11 and 12 of the Securities Act of 1933 and Section 18 of the Securities Exchange Act of 1934, or otherwise subject to liability under those sections.





 
543
 








LAKELAND FINANCIAL CORPORATION

FORM 10-Q

June 30, 2011

Part II - Other Information

Signatures




Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.



LAKELAND FINANCIAL CORPORATION
(Registrant)



Date: August 8,16, 2011/s/ Michael L. Kubacki
 Michael L. Kubacki – Chief Executive Officer
  


Date: August 8,16, 2011/s/ David M. Findlay
 David M. Findlay –President
 and Chief Financial Officer


Date: August 8,16, 2011/s/ Teresa A. Bartman
 Teresa A. Bartman – Senior Vice President-
 Finance and Controller




 
554