ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2018 — Commission File No. 0-2989
COMMERCE BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
(State of Incorporation)
(IRS Employer Identification No.)
Kansas City, MO
(Address of principal executive offices)
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of class
Name of exchange on which registered
$5 Par Value Common Stock
NASDAQ Global Select Market
Depositary Shares, each representing a 1/1000th interest in a share of 6.0% Series B Non-Cumulative Perpetual Preferred Stock
NASDAQ Global Select Market
Securities registered pursuant to Section 12(g) of the Act:
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes þ No o
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes o No þ
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer þ
Accelerated filer o
Non-accelerated filer o
Smaller reporting company o
Emerging growth company o
(Do not check if a smaller reporting company)
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
As of June 30, 2018, the aggregate market value of the voting stock held by non-affiliates of the Registrant was approximately $6,364,000,000.
As of February 14, 2019, there were 110,901,627 shares of Registrant’s $5 Par Value Common Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant’s definitive proxy statement for its 2019 annual meeting of shareholders, which will be filed within 120 days of December 31, 2018, are incorporated by reference into Part III of this Report.
Commerce Bancshares, Inc., a bank holding company as defined in the Bank Holding Company Act of 1956, as amended, was incorporated under the laws of Missouri on August 4, 1966. Through a second tier wholly-owned bank holding company, it owns all the outstanding capital stock of Commerce Bank (the “Bank”), which is headquartered in Missouri. The Bank engages in general banking business, providing a broad range of retail, mortgage banking, corporate, investment, trust, and asset management products and services to individuals and businesses. Commerce Bancshares, Inc. also owns, directly or through the Bank, various non-banking subsidiaries. Their activities include private equity investment, securities brokerage, insurance agency, and leasing activities. A list of Commerce Bancshares, Inc.'s subsidiaries is included as Exhibit 21.
Commerce Bancshares, Inc. and its subsidiaries (collectively, the "Company") is one of the nation’s top 50 bank holding companies, based on asset size. At December 31, 2018, the Company had consolidated assets of $25.5 billion, loans of $14.1 billion, deposits of $20.3 billion, and equity of $2.9 billion. The Company’s operations are consolidated for purposes of preparing the Company’s consolidated financial statements. The Company's principal markets, which are served by 169 branch facilities, are located throughout Missouri, Kansas, and central Illinois, as well as Tulsa and Oklahoma City, Oklahoma and Denver, Colorado. Its two largest markets are St. Louis and Kansas City, which serve as central hubs for the Company. The Company also has offices supporting its commercial customers in Dallas, Houston, Cincinnati, Nashville, Des Moines, Indianapolis, and Grand Rapids, and operates a payments business with sales representatives covering the continental United States of America (“U.S.”).
The Company’s goal is to be the preferred provider of financial services in its communities, based on strong customer relationships built through providing top quality service with a strong risk management culture, and employing a strong balance sheet with industry-leading capital levels. The Company operates under a super-community banking format which incorporates large bank product offerings coupled with deep local market knowledge, augmented by experienced, centralized support in select, critical areas. The Company’s focus on local markets is supported by an experienced team of bankers assigned to each market coupled with industry specialists. The Company also uses regional advisory boards, comprised of local business persons, professionals and other community representatives, who assist the Company in responding to local banking needs. In addition to this local market, community-based focus, the Company offers sophisticated financial products usually only available at much larger financial institutions.
The markets the Bank serves, being mainly located in the lower Midwest, provide natural sites for production and distribution facilities and serve as transportation hubs. The economy has been well-diversified in these markets with many major industries represented, including telecommunications, automobile, technology, financial services, aircraft and general manufacturing, health care, numerous service industries, and food and agricultural production. The real estate lending operations of the Bank are predominantly centered in its lower Midwestern markets. Historically, these markets have tended to be less volatile than in other parts of the country. Management believes the diversity and nature of the Bank’s markets has a mitigating effect on real estate loan losses in these markets.
From time to time, the Company evaluates the potential acquisition of various financial institutions. In addition, the Company regularly considers the purchase and disposition of real estate assets and branch locations as situations dictate. The Company seeks merger or acquisition partners that are culturally similar, have experienced management and either possess significant market presence or have potential for improved profitability through financial management, economies of scale and expanded services. The Company has not completed any bank acquisitions since 2013.
The Company employed 4,570 persons on a full-time basis and 299 persons on a part-time basis at December 31, 2018. The Company provides a comprehensive array of flexible benefit programs to its employees with a focus on financial and physical wellness. The Company's financial benefits package includes a company-matching 401(k) savings plan, a 529 college savings plan, and educational and adoption assistance programs. The Company's physical wellness package includes health, dental, vision, life and various other insurances, as well as a wellness program that incentivizes employees to live a healthy and balanced lifestyle. The Company has developed several training and development programs designed to challenge and develop the management and leadership skills of employees, promote collaboration amongst various internal departments and geographic locations, and share best-practices to meet the needs of customers and communities. The Company has also developed numerous training courses targeted to develop interpersonal and technical skills, as well as, to provide training on new banking regulations. None of the Company's employees are represented by collective bargaining agreements.
The Company operates in the highly competitive environment of financial services. The Company regularly faces competition from banks, savings and loan associations, credit unions, brokerage companies, mortgage companies, insurance companies, trust companies, credit card companies, private equity firms, leasing companies, securities brokers and dealers, financial technology companies, e-commerce companies, mutual fund companies, and other companies providing financial services. Some of these competitors are not subject to the same regulatory restrictions as domestic banks and bank holding companies. Some other competitors are significantly larger than the Company, and therefore have greater economies of scale, greater financial resources, higher lending limits, and may offer products and services that the Company does not provide. The Company competes by providing a broad offering of products and services to support the needs of customers, matched with a strong commitment to customer service. The Company also competes based on quality, innovation, convenience of locations, reputation, industry knowledge, and price. In its two largest markets, the Company has approximately 13% of the deposit market share in Kansas City and approximately 9% of the deposit market share in St. Louis.
The Company is managed in three operating segments: Commercial, Consumer, and Wealth. The Commercial segment provides a full array of corporate lending, merchant and commercial bank card products, leasing, and international services, as well as business and government deposit, investment, and cash management services. The Consumer segment includes the retail branch network, consumer installment lending, personal mortgage banking, and consumer debit and credit bank card activities. The Wealth segment provides traditional trust and estate planning services, brokerage services, and advisory and discretionary investment portfolio management services to both personal and institutional corporate customers. In 2018, the Commercial, Consumer and Wealth segments contributed 57%, 21% and 22% of total segment pre-tax income, respectively. Additional information relating to operating segments can be found on pages 48 and 95.
The Company's operations are affected by federal and state legislative changes, by the United States government, and by policies of various regulatory authorities, including those of the numerous states in which they operate. These include, for example, the statutory minimum legal lending rates, domestic monetary policies of the Board of Governors of the Federal Reserve System, United States fiscal policy, international currency regulations and monetary policies, the U.S. Patriot Act, and capital adequacy and liquidity constraints imposed by federal and state bank regulatory agencies.
Supervision and Regulation
The following information summarizes existing laws and regulations that materially affect the Company's operations. It does not discuss all provisions of these laws and regulations, and it does not include all laws and regulations that affect the Company presently or may affect the Company in the future.
The Company, as a bank holding company, is primarily regulated by the Board of Governors of the Federal Reserve System under the Bank Holding Company Act of 1956, as amended (BHC Act). Under the BHC Act, the Federal Reserve Board’s prior approval is required in any case in which the Company proposes to acquire all or substantially all the assets of any bank, acquire direct or indirect ownership or control of more than 5% of the voting shares of any bank, or merge or consolidate with any other bank holding company. With certain exceptions, the BHC Act also prohibits the Company from acquiring direct or indirect ownership or control of more than 5% of any class of voting shares of any non-banking company. Under the BHC Act, the Company may not engage in any business other than managing and controlling banks or furnishing certain specified services to subsidiaries, and may not acquire voting control of non-banking companies unless the Federal Reserve Board determines such businesses and services to be closely related to banking. When reviewing bank acquisition applications for approval, the Federal Reserve Board considers, among other things, the Bank’s record in meeting the credit needs of the communities it serves in accordance with the Community Reinvestment Act of 1977, as amended (CRA). Under the terms of the CRA, banks have a continuing obligation, consistent with safe and sound operation, to help meet the credit needs of their communities, including providing credit to individuals residing in low- and moderate-income areas. The Bank has a current CRA rating of “outstanding.”
The Company is required to file various reports and additional information with the Federal Reserve Board. The Federal Reserve Board regularly performs examinations of the Company. The Bank is a state-chartered Federal Reserve member bank and is subject to regulation, supervision and examination by the Federal Reserve Bank of Kansas City and the Missouri Division of Finance. The Bank is also subject to regulation by the Federal Deposit Insurance Corporation (FDIC). In addition, there are numerous other federal and state laws and regulations which control the activities of the Company, including requirements and limitations relating to capital and reserve requirements, permissible investments and lines of business, transactions with affiliates, loan limits, mergers and acquisitions, issuance of securities, dividend payments, and extensions of credit. The Bank is subject to
federal and state consumer protection laws, including laws designed to protect customers and promote fair lending. These laws include the Equal Credit Opportunity Act, the Fair Credit Reporting Act, the Truth in Lending Act, the Home Mortgage Disclosure Act, the Real Estate Settlement Procedures Act, and their respective state law counterparts. If the Company fails to comply with these or other applicable laws and regulations, it may be subject to civil monetary penalties, imposition of cease and desist orders or other written directives, removal of management and, in certain circumstances, criminal penalties. This regulatory framework is intended primarily for the protection of depositors and the preservation of the federal deposit insurance funds. Statutory and regulatory controls increase a bank holding company’s cost of doing business and limit the options of its management to employ assets and maximize income.
In addition to its regulatory powers, the Federal Reserve Bank affects the conditions under which the Company operates by its influence over the national supply of bank credit. The Federal Reserve Board employs open market operations in U.S. government securities and oversees changes in the discount rate on bank borrowings, changes in the federal funds rate on overnight inter-bank borrowings, and changes in reserve requirements on bank deposits in implementing its monetary policy objectives. These methods are used in varying combinations to influence the overall level of the interest rates charged on loans and paid for deposits, the price of the dollar in foreign exchange markets, and the level of inflation. The monetary policies of the Federal Reserve have a significant effect on the operating results of financial institutions, most notably on the interest rate environment. In view of changing conditions in the national economy and in the money markets, as well as the effect of credit policies of monetary and fiscal authorities, the Company makes no prediction as to possible future changes in interest rates, deposit levels or loan demand, or their effect on the financial statements of the Company.
The financial industry operates under laws and regulations that are under regular review by various agencies and legislatures and are subject to change. The Company currently operates as a bank holding company, as defined by the Gramm-Leach-Bliley Financial Modernization Act of 1999 (GLB Act), and the Bank qualifies as a financial subsidiary under the GLB Act, which allows it to engage in investment banking, insurance agency, brokerage, and underwriting activities that were not available to banks prior to the GLB Act. The GLB Act also included privacy provisions that limit banks’ abilities to disclose non-public information about customers to non-affiliated entities.
The Company must also comply with the requirements of the Bank Secrecy Act (BSA). The BSA is designed to help fight drug trafficking, money laundering, and other crimes. Compliance is monitored by the Federal Reserve. The BSA was enacted to prevent banks and other financial service providers from being used as intermediaries for, or to hide the transfer or deposit of money derived from, criminal activity. Since its passage, the BSA has been amended several times. These amendments include the Money Laundering Control Act of 1986 which made money laundering a criminal act, as well as the Money Laundering Suppression Act of 1994 which required regulators to develop enhanced examination procedures and increased examiner training to improve the identification of money laundering schemes in financial institutions.
The USA PATRIOT Act, established in 2001, substantially broadened the scope of U.S. anti-money laundering laws and regulations by imposing significant new compliance and due diligence obligations, creating new crimes and penalties and expanding the extra-territorial jurisdiction of the U.S. The regulations impose obligations on financial institutions to maintain appropriate policies, procedures and controls to detect, prevent, and report money laundering and terrorist financing. The regulations include significant penalties for non-compliance.
The Company is subject to regulation under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2011 (Dodd-Frank Act). Among its many provisions, the Dodd-Frank Act required stress-testing for certain financial services companies and established a new council of “systemic risk” regulators. The Dodd Frank Act also established the Consumer Financial Protection Bureau (CFPB) which is authorized to supervise certain financial services companies and has responsibility to implement, examine for compliance with, and enforce “Federal consumer financial law.” The Company is subject to examinations by the CFPB. The Dodd-Frank Act, through Title VI, commonly known as the Volcker Rule, placed trading restrictions on financial institutions and separated investment banking, private equity and proprietary trading (hedge fund) sections of financial institutions from their consumer lending arms. The Volcker Rule also restricts financial institutions from investing in and sponsoring certain types of investments.
In May 2018, the Economic Growth, Regulatory Relief, and Consumer Protection Act was signed into law which provides a number of limited amendments to the Dodd-Frank Act. Notable provisions of the legislation include: an increase in the asset threshold from $50 billion to $250 billion, above which the Federal Reserve is required to apply enhanced prudential standards; an exemption from the Volker Rule for insured depository institutions with less than $10 billion in consolidated assets; modifications to the Liquidity Coverage and Supplementary Leverage ratios; and the elimination of Dodd-Frank company-run stress tests for banks and bank holding companies with less than $250 billion in assets. While most of these provisions affect institutions larger than the Company, the Company is no longer required to prepare stress testing as specified by the Dodd-Frank Act.
Under Federal Reserve policy, the bank holding company, Commerce Bancshares, Inc. (the "Parent"), is expected to act as a source of financial strength to its bank subsidiary and to commit resources to support it in circumstances when it might not otherwise do so. In addition, loans by a bank holding company to any of its subsidiary banks are subordinate in right of payment to deposits and to certain other indebtedness of such subsidiary banks. In the event of a bank holding company’s bankruptcy, any commitment by the bank holding company to a federal bank regulatory agency to maintain the capital of a subsidiary bank will be assumed by the bankruptcy trustee and entitled to a priority of payment.
Substantially all of the deposits held by the Bank are insured up to applicable limits (generally $250,000 per depositor for each account ownership category) by the Deposit Insurance Fund (DIF) of the FDIC and are subject to deposit insurance assessments to maintain the DIF. In 2011, the FDIC released a final rule to implement provisions of the Dodd-Frank Act that affect deposit insurance assessments. Among other things, the Dodd-Frank Act raised the minimum designated reserve ratio from 1.15% to 1.35% of estimated insured deposits, removed the upper limit of the designated reserve ratio, required that the designated reserve ratio reach 1.35% by September 30, 2020, and required that the FDIC offset the effect of increasing the minimum designated reserve ratio on depository institutions with total assets of less than $10 billion. The Dodd-Frank Act provided the FDIC flexibility in the implementation of the increase in the designated reserve ratio, but it will ultimately result in increased deposit insurance costs to the Company. The Dodd-Frank Act also required that the FDIC redefine the assessment base to average consolidated assets minus average tangible equity.
On June 30, 2016, the DIF rose above the 1.15%, resulting in a reduction of the initial assessment rate for all banks and implementing a 4.5 basis point surcharge on insured depository institutions with total consolidated assets of $10 billion or more. Effective October 1, 2018, this surcharge was eliminated as the DIF reached its required level of 1.35% of estimated insured deposits. This had the effect of reducing the Company’s insurance costs by $1.5 million in the fourth quarter of 2018.
Payment of Dividends
The Federal Reserve Board may prohibit the payment of cash dividends to shareholders by bank holding companies if their actions constitute unsafe or unsound practices. The principal source of the Parent's cash revenues is cash dividends paid by the Bank. The amount of dividends paid by the Bank in any calendar year is limited to the net profit of the current year combined with the retained net profits of the preceding two years, and permission must be obtained from the Federal Reserve Board for dividends exceeding these amounts. The payment of dividends by the Bank may also be affected by factors such as the maintenance of adequate capital.
The Company is required to comply with the capital adequacy standards established by the Federal Reserve, which are based on the risk levels of assets and off-balance sheet financial instruments. Capital adequacy guidelines and prompt corrective action regulations involve quantitative measures of assets, liabilities, and certain off-balance sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to judgments by regulators regarding qualitative components, risk weightings, and other factors.
A new comprehensive capital framework was established by the Basel Committee on Banking Supervision, which was effective for large and internationally active U.S. banks and bank holding companies on January 1, 2015. A key goal of the new framework, known as "Basel III," was to strengthen the capital resources of banking organizations during normal and challenging business environments. Basel III increased minimum requirements for both the quantity and quality of capital held by banking organizations. The rule includes a new minimum ratio of common equity Tier 1 capital to risk-weighted assets of 4.5% and a common equity Tier 1 capital conservation buffer of 2.5% of risk-weighted assets. The capital conservation buffer, which is being phased in during 2016-2019, is intended to absorb losses during periods of economic stress. Failure to maintain the buffer will result in constraints on dividends, equity repurchases and executive compensation. The rule also adjusted the methodology for calculating risk-weighted assets to enhance risk sensitivity. At December 31, 2018, the Company met all capital adequacy requirements under Basel III on a fully phased-in basis as if such requirements had been in effect.
The Federal Deposit Insurance Corporation Improvement Act (FDICIA) requires each federal banking agency to take prompt corrective action to resolve the problems of insured depository institutions, including but not limited to those that fall below one or more prescribed minimum capital ratios. Pursuant to FDICIA, the FDIC promulgated regulations defining the following five categories in which an insured depository institution will be placed, based on the level of its capital ratios: well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized. Under the prompt corrective action provisions of FDICIA, an insured depository institution generally will be classified as well-capitalized (under
the Basel III rules mentioned above) if it has a Tier 1 capital ratio of at least 8%, a common equity Tier 1 capital ratio of at least 6.5%, a total capital ratio of at least 10%, and a Tier 1 leverage ratio of at least 5%. An institution that, based upon its capital levels, is classified as “well-capitalized,” “adequately capitalized,” or “undercapitalized,” may be treated as though it were in the next lower capital category if the appropriate federal banking agency, after notice and opportunity for hearing, determines that an unsafe or unsound condition, or an unsafe or unsound practice warrants such treatment. At each successive lower capital category, an insured depository institution is subject to more restrictions and prohibitions, including restrictions on growth, restrictions on interest rates paid on deposits, restrictions or prohibitions on payment of dividends, and restrictions on the acceptance of brokered deposits. Furthermore, if a bank is classified in one of the undercapitalized categories, it is required to submit a capital restoration plan to the federal bank regulator, and the holding company must guarantee the performance of that plan. The Bank has consistently maintained regulatory capital ratios at or above the “well-capitalized” standards.
As required by the Dodd-Frank Act, the Company performed stress tests as specified by the Federal Reserve requirement and published results beginning in 2014 through 2017. On May 24, 2018, the Economic Growth, Regulatory Relief, and Consumer Protection Act was enacted, which eliminated the required stress testing under the Dodd-Frank Act for banks with consolidated assets of less than $100 billion. The Company continues to perform periodic stress-testing based on its own internal criteria.
Executive and Incentive Compensation
Guidelines adopted by federal banking agencies prohibit excessive compensation as an unsafe and unsound practice, and describe compensation as "excessive" when the amounts paid are unreasonable or disproportionate to the services performed by an executive officer, employee, director or principal shareholder. The Federal Reserve Board has issued comprehensive guidance on incentive compensation intended to ensure that the incentive compensation policies do not undermine safety and soundness by encouraging excessive risk taking. This guidance covers all employees that have the ability to materially affect the risk profile of an organization, either individually or as part of a group, based on key principles that (i) incentives do not encourage risk-taking beyond the organization's ability to identify and manage risk, (ii) compensation arrangements are compatible with effective internal controls and risk management, and (iii) compensation arrangements are supported by strong corporate governance, including active and effective board oversight. Deficiencies in compensation practices may affect supervisory ratings and enforcement actions may be taken if incentive compensation arrangements pose a risk to safety and soundness.
Transactions with Affiliates
The Federal Reserve Board regulates transactions between the Bank and its subsidiaries. Generally, the Federal Reserve Act and Regulation W, as amended by the Dodd-Frank Act, limit the Company’s banking subsidiary and its subsidiaries to lending and other “covered transactions” with affiliates. The aggregate amount of covered transactions a banking subsidiary or its subsidiaries may enter into with an affiliate may not exceed 10% of the capital stock and surplus of the banking subsidiary. The aggregate amount of covered transactions with all affiliates may not exceed 20% of the capital stock and surplus of the banking subsidiary.
Covered transactions with affiliates are also subject to collateralization requirements and must be conducted on arm’s length terms. Covered transactions include (a) a loan or extension of credit by the banking subsidiary, including derivative contracts, (b) a purchase of securities issued to a banking subsidiary, (c) a purchase of assets by the banking subsidiary unless otherwise exempted by the Federal Reserve, (d) acceptance of securities issued by an affiliate to the banking subsidiary as collateral for a loan, and (e) the issuance of a guarantee, acceptance or letter of credit by the banking subsidiary on behalf of an affiliate.
Certain transactions with the Company's directors, officers or controlling persons are also subject to conflicts of interest regulations. Among other things, these regulations require that loans to such persons and their related interests be made on terms substantially the same as for loans to unaffiliated individuals, and must not create an abnormal risk of repayment or other unfavorable features for the financial institution. See Note 2 to the consolidated financial statements for additional information on loans to related parties.
The Company’s principal offices are located at 1000 Walnut Street, Kansas City, Missouri (telephone number 816-234-2000). The Company makes available free of charge, through its website at www.commercebank.com, reports filed with the Securities and Exchange Commission as soon as reasonably practicable after the electronic filing. These filings include the annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports.
Making or continuing an investment in securities issued by Commerce Bancshares, Inc., including its common and preferred stock, involves certain risks that you should carefully consider. If any of the following risks actually occur, its business, financial condition or results of operations could be negatively affected, the market price for your securities could decline, and you could lose all or a part of your investment. Further, to the extent that any of the information contained in this Annual Report on Form 10-K constitutes forward-looking statements, the risk factors set forth below also are cautionary statements identifying important factors that could cause the Company’s actual results to differ materially from those expressed in any forward-looking statements made by or on behalf of Commerce Bancshares, Inc.
Difficult market conditions may affect the Company’s industry.
The concentration of the Company’s banking business in the United States particularly exposes it to downturns in the U.S. economy. While current economic conditions are favorable, there remain risks in that environment.
In particular, the Company may face the following risks in connection with market conditions:
In the current national environment, positive trends in job growth, unemployment levels, consumer confidence, and credit conditions are expected to continue, but the current recovery is historically long, there has been recent stock market volatility, and consumer debt has been increasing. Further, the U.S. economy is affected by global economic events and conditions, including recent U.S. trade disputes with various countries. Although the Company does not hold foreign debt or have significant activities with foreign customers, the global economy, the strength of the U.S. dollar, and oil prices may ultimately affect interest rates, business import/export activity, capital expenditures by businesses, and investor confidence. Unfavorable changes in these factors may result in declines in consumer credit usage, adverse changes in payment patterns, reduced loan demand, and higher loan delinquencies and default rates. These could impact the Company’s future loan losses and provision for loan losses, as a significant part of the Company’s business includes consumer and credit card lending.
In addition to the results above, a slowdown in economic activity may cause declines in financial services activity, including declines in bank card, corporate cash management and other fee businesses, as well as the fees earned by the Company on such transactions.
The process used to estimate losses inherent in the Company’s loan portfolio requires difficult, subjective, and complex judgments, including consideration of economic conditions and how these economic predictions might impair the ability of its borrowers to repay their loans. If an instance occurs that renders these predictions no longer capable of accurate estimation, this may in turn impact the reliability of the process.
Competition in the industry could intensify as a result of the increasing consolidation of financial services companies in connection with current market conditions, thereby reducing market prices for various products and services which could in turn reduce the Company’s revenues.
The performance of the Company is dependent on the economic conditions of the markets in which the Company operates.
The Company’s success is heavily influenced by the general economic conditions of the specific markets in which it operates. Unlike larger national or other regional banks that are more geographically diversified, the Company provides financial services primarily throughout the states of Missouri, Kansas, central Illinois, Oklahoma, and Colorado. It also has a growing presence in additional states through its commercial banking offices in: Texas, Iowa, Indiana, Michigan, Ohio, and Tennessee. As the Company does not have a significant banking presence in other parts of the country, a prolonged economic downturn in these markets could have a material adverse effect on the Company’s financial condition and results of operations.
The Company operates in a highly competitive industry and market area.
The Company operates in the financial services industry and has numerous competitors including other banks and insurance companies, securities dealers, brokers, trust and investment companies, mortgage bankers, and financial technology companies. Consolidation among financial service providers and new changes in technology, product offerings and regulation continue to challenge the Company's marketplace position. As consolidation occurs, larger regional and national banks may enter the Company's markets and add to existing competition. Large, national financial institutions have substantial capital, technology and marketing resources. These new competitors may lower fees to grow market share, which could result in a loss of customers and lower fee revenue for the Company. They may have greater access to capital at a lower cost than the Company, and may have higher loan limits, both of which may adversely affect the Company’s ability to compete effectively. The Company must continue to make investments in its products and delivery systems to stay competitive with the industry, or its financial performance may suffer.
The soundness of other financial institutions could adversely affect the Company.
The Company’s ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institution counterparties. Financial services institutions are interrelated because of trading, clearing, counterparty or other relationships. The Company has exposure to many different industries and counterparties and routinely executes transactions with counterparties in the financial industry, including brokers and dealers, commercial banks, investment banks, mutual funds, and other institutional clients. Transactions with these institutions include overnight and term borrowings, interest rate swap agreements, securities purchased and sold, short-term investments, and other such transactions. Because of this exposure, defaults by, or rumors or questions about, one or more financial services institutions or the financial services industry in general, could lead to market-wide liquidity problems and defaults by other institutions. Many of these transactions expose the Company to credit risk in the event of default of its counterparty or client, while other transactions expose the Company to liquidity risks should funding sources quickly disappear. In addition, the Company’s credit risk may be exacerbated when the collateral held cannot be realized or is liquidated at prices not sufficient to recover the full amount of the exposure due to the Company. Any such losses could materially and adversely affect results of operations.
The Company is subject to increasingly extensive government regulation and supervision.
As part of the financial services industry, the Company has been subject to increasingly extensive federal and state regulation and supervision over the past several years. Banking regulations are primarily intended to protect depositors’ funds, federal deposit insurance funds, and the banking system, not shareholders. These regulations affect the Company’s lending practices, capital structure, investment practices, dividend policy, and growth, among other things. Congress and federal regulatory agencies continually review banking laws, regulations, and policies for possible changes. Changes to statutes, regulations, or regulatory policies, including changes in interpretation or implementation of statutes, regulations, or policies, could affect the Company in substantial and unpredictable ways. Such changes could subject the Company to additional costs, limit the types of financial services and products it may offer, and/or increase the ability of non-banks to offer competing financial services and products, among other things. Failure to comply with laws, regulations, or policies could result in sanctions by regulatory agencies, civil money penalties, and/or reputation damage, which could have a material adverse effect on the Company’s business, financial condition, and results of operations. While the Company has policies and procedures designed to prevent any such violations, there can be no assurance that such violations will not occur.
Significant changes in federal monetary policy could materially affect the Company’s business.
The Federal Reserve System regulates the supply of money and credit in the United States. Its policies determine in large part the cost of funds for lending and interest rates earned on loans and paid on borrowings and interest-bearing deposits. Credit conditions are influenced by its open market operations in U.S. government securities, changes in the member bank discount rate, and bank reserve requirements. Changes in Federal Reserve Board policies are beyond the Company’s control and difficult to predict, and such changes may result in lower interest margins and a lack of demand for credit products.
The Company is subject to both interest rate and liquidity risk.
With oversight from its Asset-Liability Management Committee, the Company devotes substantial resources to monitoring its liquidity and interest rate risk on a monthly basis. The Company's net interest income is the largest source of overall revenue to the Company, representing 62% of total revenue for the year ended December 31, 2018. The interest rate environment in which the Company operates fluctuates in response to general economic conditions and policies of various governmental and regulatory agencies, particularly the Federal Reserve Board, which regulates the supply of money and credit in the U.S. Changes in monetary policy, including changes in interest rates, will influence loan originations, deposit generation, demand for investments and revenues, and costs for earning assets and liabilities, and could significantly impact the Company’s net interest income.
The Federal Reserve Board raised the benchmark interest rate four times during 2018 for a total of 100 basis points. Future economic conditions or other factors could shift monetary policy resulting in no additional rate increases in 2019 or decreases in the benchmark rate. Furthermore, changes in interest rates could result in unanticipated changes to customer deposit balances and funding costs, and affect the Company’s source of funds for future loan growth.
The Company has a significant number of loans, derivative contracts, borrowings and other financial instruments with attributes that are either directly or indirectly dependent on LIBOR. In 2017, the U.K. Financial Conduct Authority announced that LIBOR is to be transitioned to alternative rates during the next four years. U.S. regulatory authorities have voiced similar support for phasing out LIBOR. The impact of alternatives to LIBOR on the valuations, pricing and operation of the Company's financial instruments is not yet known.
The Company’s asset valuation may include methodologies, models, estimations and assumptions which are subject to differing interpretations and could result in changes to asset valuations that may materially adversely affect its results of operations or financial condition.
The Company uses estimates, assumptions, and judgments when certain financial assets and liabilities are measured and reported at fair value. Assets and liabilities carried at fair value inherently result in greater financial statement volatility. Fair values and the information used to record valuation adjustments for certain assets and liabilities are based on quoted market prices and/or other observable inputs provided by independent third-party sources, when available. When such third-party information is not available, fair value is estimated primarily by using cash flow and other financial modeling techniques utilizing assumptions such as credit quality, liquidity, interest rates and other relevant inputs. Changes in underlying factors, assumptions, or estimates in any of these areas could materially impact the Company’s future financial condition and results of operations. Furthermore, if models used to calculate fair value of financial instruments are inadequate or inaccurate due to flaws in their design or execution, upon sale, the Company may not realize the cash flows of a financial instrument as modeled and could incur material, unexpected losses.
During periods of market disruption, including periods of significantly rising or high interest rates, rapidly widening credit spreads or illiquidity, it may be difficult to value certain assets if trading becomes less frequent and/or market data becomes less observable. There may be certain asset classes in active markets with significant observable data that become illiquid due to the current financial environment. In such cases, certain asset valuations may require more subjectivity and management judgment. As such, valuations may include inputs and assumptions that are less observable or require greater estimation. Further, rapidly changing and unprecedented credit and equity market conditions could materially impact the valuation of assets as reported within the Company’s consolidated financial statements, and the period-to-period changes in value could vary significantly. Decreases in value may have a material adverse effect on results of operations or financial condition.
The Company’s investment portfolio values may be adversely impacted by deterioration in the credit quality of underlying collateral within the various categories of investment securities it owns.
The Company generally invests in securities issued by municipal entities, government-backed agencies or privately issued securities, with collateral that are highly rated and evaluated at the time of purchase, however, these securities are subject to changes in market value due to changing interest rates and implied credit spreads. While the Company maintains rigorous risk management practices over bonds issued by municipalities, credit deterioration in these bonds could occur and result in losses. Certain mortgage and asset-backed securities (which are collateralized by residential mortgages, credit cards, automobiles, mobile homes or other assets) may decline in value due to actual or expected deterioration in the underlying collateral. Under accounting rules, when the impairment is due to declining expected cash flows, some portion of the impairment, depending on the Company’s intent to sell and the likelihood of being required to sell before recovery, must be recognized in current earnings. This could result in significant losses.
The Company maintains an allowance for loan losses that represents management’s best estimate of probable losses that have been incurred at the balance sheet date within the existing portfolio of loans. The level of the allowance reflects management’s continuing evaluation of industry concentrations, specific credit risks, loan loss experience, including emergence periods, current loan portfolio quality, present economic, political, and regulatory conditions, and unidentified losses inherent in the current loan portfolio. Although the loan losses have been stable during the past several years, an unforeseen deterioration of financial market conditions could result in larger loan losses, which may negatively affect the Company's results of operations and could further increase levels of its allowance for loan losses. In addition, the Company’s allowance level is subject to review by regulatory agencies, and that review could result in adjustments to the allowance for loan losses. See the section captioned “Allowance for Loan Losses” in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, of this report for further discussion related to the Company’s process for determining the appropriate level of the allowance for probable loan losses.
In 2016, the Financial Accounting Standards Board (FASB) issued a new accounting standard "Measurement of Credit Losses on Financial Instruments" (ASU 2016-13), which is effective January 1, 2020. This new standard significantly alters the way the reserve for credit losses is determined. The new standard utilizes a life of loan loss concept and will require significant operational changes, especially in data collection and analysis. While an implementation plan has been established and much progress has been made to date, the impact to the Company’s current reserve for credit losses from this new standard is not yet determined. Due to the significant changes required by this new standard, it is possible that higher reserves could be required resulting in reduced capital and earnings.
New lines of business or new products and services may subject the Company to additional risk.
From time to time, the Company may implement new lines of business or offer new products and services within existing lines of business. There are substantial risks and uncertainties associated with these efforts, particularly in instances where the markets are not fully developed. In developing and marketing new lines of business and new products or services, the Company may invest significant time and resources. Initial timetables for the introduction and development of new lines of business and new products or services may not be achieved and price and profitability targets may not prove feasible. External factors, such as compliance with regulations, competitive alternatives and shifting market preferences may also impact the successful implementation of a new line of business or a new product or service. Furthermore, any new line of business, or new product or service, could have a significant impact on the effectiveness of the Company’s system of internal controls. Failure to successfully manage these risks in the development and implementation of new lines of business and new products or services could have a material adverse effect on the Company’s financial condition and results of operations.
A successful cyber attack or other computer system breach could significantly harm the Company, its reputation and its customers.
The Company relies heavily on communications and information systems to conduct its business, and as part of its business, the Company maintains significant amounts of data about its customers and the products they use. Information security risks continue to increase due to new technologies, the increasing use of the Internet and telecommunication technologies (including mobile devices) to conduct financial and other business transactions, and the increased sophistication and activities of organized crime, perpetrators of fraud, hackers, and others. The Company makes significant investments in various technology to identify and prevent intrusions into its information system. The Company also has policies and procedures designed to prevent or limit the effect of failure, interruption or security breach of its information systems and performs regular audits using both internal and outside resources. However, there can be no assurances that any such failures, interruptions or security breaches will not occur, or if they do occur, that they will be adequately addressed. In addition to unauthorized access, denial-of-service attacks, or other operational disruptions could overwhelm Company websites and prevent the Company from adequately serving customers. Should any of the Company's systems become compromised or customer information be obtained by unauthorized parties, the reputation of the Company could be damaged, relationships with existing customers may be impaired, and the Company could be subject to lawsuits, all of which could result in lost business and have a material adverse effect on the Company’s business, financial condition and results of operations.
The Company’s operations rely on certain external vendors.
The Company relies on third-party vendors to provide products and services necessary to maintain day-to-day operations. For example, the Company outsources a portion of its information systems, communication, data management, and transaction processing to third parties. Accordingly, the Company is exposed to the risk that these vendors might not perform in accordance with the contracted arrangements or service level agreements because of changes in the vendor’s organizational structure, financial condition, support for existing products and services, or strategic focus. Such failure to perform could be disruptive to the Company’s operations, which could have a materially adverse impact on its business, results of operations and financial condition. These third parties are also sources of risk associated with operational errors, system interruptions or breaches and unauthorized disclosure of confidential information. If the vendors encounter any of these issues, the Company could be exposed to disruption of service, damage to reputation and litigation. Because the Company is an issuer of both debit and credit cards, it is periodically exposed to losses related to security breaches which occur at retailers that are unaffiliated with the Company (e.g., customer card data being compromised at retail stores). These losses include, but are not limited to, costs and expenses for card reissuance as well as losses resulting from fraudulent card transactions.
The Company continually encounters technological change.
The financial services industry is continually undergoing rapid technological change with frequent introductions of new technology-driven products and services, including the entrance of financial technology companies offering new financial service products. The Company regularly upgrades or replaces core technological systems and is currently in the process of replacing its core deposit system, which is a significant project. The effective use of technology increases efficiency and enables financial institutions to better serve customers and reduce costs. The Company’s future success depends, in part, upon its ability to address the needs of its customers by using technology to provide products and services that will satisfy customer demands, as well as to create additional efficiencies in the Company’s operations. Many of the Company’s competitors have substantially greater resources to invest in technological improvements. The Company may encounter significant problems or may not be able to effectively implement new technology-driven products, including the core deposit system, and services, or be successful in marketing the new products and services to its customers. These problems might include significant time delays, cost overruns, loss of key people, and technological system failures. Failure to successfully keep pace with technological change affecting the financial services industry or failure to successfully complete the replacement of the core deposit system, or another core technological system, could have a material adverse effect on the Company’s business, financial condition and results of operations.
Commerce Bancshares, Inc. relies on dividends from its subsidiary bank for most of its revenue.
Commerce Bancshares, Inc. is a separate and distinct legal entity from its banking and other subsidiaries. It receives substantially all of its revenue from dividends from its subsidiary bank. These dividends, which are limited by various federal and state regulations, are the principal source of funds to pay dividends on its preferred and common stock and to meet its other cash needs. In the event the subsidiary bank is unable to pay dividends, the Company may not be able to pay dividends or other obligations, which would have a material adverse effect on the Company's financial condition and results of operations.
The Company must attract and retain skilled employees.
The Company’s success depends, in large part, on its ability to attract and retain key people. Competition for the best people can be intense, and the Company spends considerable time and resources attracting, hiring, and retaining qualified people for its various business lines and support units. The unexpected loss of the services of one or more of the Company’s key personnel could have a material adverse impact on the Company’s business because of their skills, knowledge of the Company’s market, and years of industry experience, as well as the difficulty of promptly finding qualified replacement personnel.
The main offices of the Bank are located in the larger metropolitan areas of its markets in various multi-story office buildings. The Bank owns its main offices and leases unoccupied premises to the public. The larger office buildings include:
Net rentable square footage
% occupied in total
% occupied by Bank
Kansas City, MO
Kansas City, MO
Kansas City, MO
1551 N. Waterfront Pkwy
The Company has an additional 164 branch locations in Missouri, Illinois, Kansas, Oklahoma and Colorado which are owned or leased, and 151 off-site ATM locations.
The information required by this item is set forth in Item 8 under Note 20, Commitments, Contingencies and Guarantees on page 120.
The following are the executive officers of the Company as of February 21, 2019, each of whom is designated annually. There are no arrangements or understandings between any of the persons so named and any other person pursuant to which such person was designated an executive officer.
Name and Age
Positions with Registrant
Jeffery D. Aberdeen, 64
Controller of the Company since December 1995. He is also Controller of the Company's subsidiary bank, Commerce Bank.
Kevin G. Barth, 58
Executive Vice President of the Company since April 2005, and Community President and Chief Executive Officer of Commerce Bank since October 1998. Senior Vice President of the Company and Officer of Commerce Bank prior thereto.
Jeffrey M. Burik, 60
Senior Vice President of the Company since February 2013. Executive Vice President of Commerce Bank since November 2007.
Daniel D. Callahan, 62
Executive Vice President and Chief Credit Officer of the Company since December 2010 and Senior Vice President of the Company prior thereto. Executive Vice President of Commerce Bank since May 2003.
Sara E. Foster, 58
Executive Vice President of the Company since February 2012 and Senior Vice President of the Company prior thereto. Executive Vice President of Commerce Bank since January 2016 and Senior Vice President of Commerce Bank prior thereto.
John K. Handy, 55
Executive Vice President of the Company since January 2018 and Senior Vice President of the Company prior thereto. Community President and Chief Executive Officer of Commerce Bank since January 2018 and Senior Vice President of Commerce Bank prior thereto.
Robert S. Holmes, 55
Executive Vice President of the Company since April 2015, and Community President and Chief Executive Officer of Commerce Bank since January 2016. Prior to his employment with Commerce Bank in March 2015, he was employed at a Midwest regional bank where he served as managing director and head of Regional Banking.
Patricia R. Kellerhals, 61
Senior Vice President of the Company since February 2016 and Vice President of the Company prior thereto. Executive Vice President of Commerce Bank since 2005.
David W. Kemper, 68
Executive Chairman of the Company and of the Board of Directors of the Company since August 2018. Prior thereto, he was Chief Executive Officer of the Company and Chairman of the Board of Directors of the Company. He was President of the Company from April 1982 until February 2013. He is the brother of Jonathan M. Kemper (a former Vice Chairman of the Company), and father of John W. Kemper, President and Chief Executive Officer of the Company.
John W. Kemper, 41
Chief Executive Officer of the Company and Chairman and Chief Executive Officer of Commerce Bank since August 2018. Prior thereto, he was Chief Operating Officer of the Company. President of the Company since February 2013 and President of Commerce Bank since March 2013. Member of Board of Directors since September 2015. He is the son of David W. Kemper, Executive Chairman of the Company and nephew of Jonathan M. Kemper (a former Vice Chairman of the Company).
Charles G. Kim, 58
Chief Financial Officer of the Company since July 2009. Executive Vice President of the Company since April 1995 and Executive Vice President of Commerce Bank since January 2004. Prior thereto, he was Senior Vice President of Commerce Bank.
Douglas D. Neff, 50
Senior Vice President of the Company since January 2019 and Chairman and Chief Executive Officer of Commerce Bank Southwest Region since 2013.
Paula S. Petersen, 52
Senior Vice President of the Company since July 2016 and Executive Vice President of Commerce Bank since March 2012.
David L. Roller, 48
Senior Vice President of the Company since July 2016 and Senior Vice President of Commerce Bank since September 2010.
MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Commerce Bancshares, Inc.
Common Stock Data
Commerce Bancshares, Inc. common shares are listed on the Nasdaq Global Select Market (NASDAQ) under the symbol CBSH. The Company had 3,664 common shareholders of record as of December 31, 2018. Certain of the Company's shares are held in "nominee" or "street" name and the number of beneficial owners of such shares is approximately 58,500.
The following graph presents a comparison of Company (CBSH) performance to the indices named below. It assumes $100 invested on December 31, 2013 with dividends invested on a cumulative total shareholder return basis.
The following table sets forth information about the Company’s purchases of its $5 par value common stock, its only class of common stock registered pursuant to Section 12 of the Exchange Act, during the fourth quarter of 2018.
Total Number of Shares Purchased
Average Price Paid per Share
Total Number of Shares Purchased as Part of Publicly Announced Program
Maximum Number that May Yet Be Purchased Under the Program
October 1—31, 2018
November 1—30, 2018
December 1—31, 2018
The Company’s stock purchases shown above were made under authorizations by the Board of Directors. Under the most recent authorization in October 2015 of 5,000,000 shares, 2,249,563 shares remained available for purchase at December 31, 2018.
SELECTED FINANCIAL DATA
The required information is set forth below in Item 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This report may contain “forward-looking statements” that are subject to risks and uncertainties and include information about possible or assumed future results of operations. Many possible events or factors could affect the future financial results and performance of Commerce Bancshares, Inc. and its subsidiaries (the "Company"). This could cause results or performance to differ materially from those expressed in the forward-looking statements. Words such as “expects”, “anticipates”, “believes”, “estimates”, variations of such words and other similar expressions are intended to identify such forward-looking statements. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions which are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in, or implied by, such forward-looking statements. Readers should not rely solely on the forward-looking statements and should consider all uncertainties and risks discussed throughout this report. Forward-looking statements speak only as of the date they are made. The Company does not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made or to reflect the occurrence of unanticipated events. Such possible events or factors include the risk factors identified in Item 1a Risk Factors and the following: changes in economic conditions in the Company’s market area; changes in policies by regulatory agencies, governmental legislation and regulation; fluctuations in interest rates; changes in liquidity requirements; demand for loans in the Company’s market area; changes in accounting and tax principles; estimates made on income taxes; failure of litigation settlement agreements to become final in accordance with their terms; and competition with other entities that offer financial services.
The Company operates as a super-community bank and offers a broad range of financial products to consumer and commercial customers, delivered with a focus on high-quality, personalized service. It is the largest bank holding company headquartered in Missouri, with its principal offices in Kansas City and St. Louis, Missouri. Customers are served from 320 locations in Missouri, Kansas, Illinois, Oklahoma and Colorado and commercial offices throughout the nation's midsection. A variety of delivery platforms are utilized, including an extensive network of branches and ATM machines, full-featured online banking, and a central contact center.
The core of the Company’s competitive advantage is its focus on the local markets in which it operates, its offering of competitive, sophisticated financial products, and its concentration on relationship banking and high-touch service. In order to enhance shareholder value, the Company targets core revenue growth. To achieve this growth, the Company focuses on strategies that will expand new and existing customer relationships, offer opportunities for controlled expansion in additional markets, utilize improved technology, and enhance customer satisfaction.
Various indicators are used by management in evaluating the Company’s financial condition and operating performance. Among these indicators are the following:
Net income and earnings per share — Net income attributable to Commerce Bancshares, Inc. was $433.5 million, an increase of 35.7% compared to the previous year. The return on average assets was 1.76% in 2018, and the return on average common equity was 16.16%. Diluted earnings per share increased 37.0% in 2018 compared to 2017.
Total revenue — Total revenue is comprised of net interest income and non-interest income. Total revenue in 2018 increased $130.2 million, or 10.9% over 2017, driven by growth in net interest income and non-interest income of $90.1 million and $40.1 million, respectively. The growth in net interest income in 2018 was mainly due to higher rates on interest earning assets, which grew 44 basis points over 2017 rates, partially offset by higher rates on interest-bearing liabilities, which grew 15 basis points in 2018 over the prior year. Growth in non-interest income resulted principally from increases in bank card fees, trust fees, and deposit fees.
Non-interest expense — Total non-interest expense decreased .9% this year compared to 2017, mainly due to $32.0 million of donations made to a related foundation during 2017, which did not recur in 2018. Excluding these donations, non-interest expense grew 3.6% in the current year, primarily driven by higher expense for salaries and benefits.
Asset quality — Net loan charge-offs totaled $42.3 million in 2018, an increase of $650 thousand over those recorded in 2017, and averaged .30% of loans compared to .31% in the previous year. Total non-performing assets, which include non-accrual loans and foreclosed real estate, amounted to $13.9 million at December 31, 2018, compared to $12.7 million at December 31, 2017, and represented .10% of loans outstanding at December 31, 2018.
Shareholder return — During 2018, the Company paid cash dividends of $.895 per share on its common stock, representing an increase of 9.7% over the previous year, and paid dividends of 6% on its preferred stock. In 2018, the Company issued its 25th consecutive annual 5% common stock dividend, and in January 2019, the Company's Board of Directors authorized an increase of 16% in the common cash dividend. In 2018, the Company purchased 1,193,960 shares of treasury stock.
The following discussion and analysis should be read in conjunction with the consolidated financial statements and related notes. The historical trends reflected in the financial information presented below are not necessarily reflective of anticipated future results.
(Based on average balances)
Return on total assets
Return on common equity
Equity to total assets
Loans to deposits (1)
Non-interest bearing deposits to total deposits
Net yield on interest earning assets (tax equivalent basis)
(Based on end of period data)
Non-interest income to revenue(2)
Tier I common risk-based capital ratio (4)
Tier I risk-based capital ratio (4)
Total risk-based capital ratio (4)
Tier I leverage ratio (4)
Tangible common equity to tangible assets ratio(5)
Common cash dividend payout ratio
Includes loans held for sale.
Revenue includes net interest income and non-interest income.
The efficiency ratio is calculated as non-interest expense (excluding intangibles amortization) as a percent of revenue.
Risk-based capital information at December 31, 2018, 2017, 2016 and 2015 was prepared under Basel III requirements, which were effective January 1, 2015. Risk-based capital information for prior years was prepared under Basel I requirements.
The tangible common equity to tangible assets ratio is a measurement which management believes is a useful indicator of capital adequacy and utilization. It provides a meaningful basis for period to period and company to company comparisons, and also assist regulators, investors and analysts in analyzing the financial position of the Company. Tangible common equity and tangible assets are non-GAAP measures and should not be viewed as substitutes for, or superior to, data prepared in accordance with GAAP.
Net income attributable to Commerce Bancshares, Inc.
Preferred stock dividends
Net income available to common shareholders
N.M. - Not meaningful.
Net income attributable to Commerce Bancshares, Inc. (net income) for 2018 was $433.5 million, an increase of $114.2 million, or 35.7%, compared to $319.4 million in 2017. Diluted income per common share increased 37.0% to $3.78 in 2018, compared to $2.76 in 2017. The growth in net income resulted from increases of $90.1 million in net interest income and $40.1 million in non-interest income, as well as decreases of $6.5 million in non-interest expense, $4.6 million in income tax expense and $2.6 million in the provision for loan losses. These increases in net income were partly offset by a $25.5 million decrease in investment securities gains. The return on average assets was 1.76% in 2018 compared to 1.28% in 2017, and the return on average common equity was 16.16% in 2018 compared to 12.46% in 2017. At December 31, 2018, the ratio of tangible common equity to assets increased to 10.45%, compared to 9.84% at year end 2017.
During 2018, the increase in net interest income mainly resulted from increased rates on the Company’s loan and investment portfolios, partially offset by higher rates paid on interest-bearing deposits and borrowings. Total rates earned on average earning assets grew 44 basis points this year, while funding costs for deposits and borrowings increased by 15 basis points. Non-interest income grew 8.7% in 2018, primarily from growth in bank card, trust and deposit fee income. Investment securities net losses in 2018 were mainly comprised of net losses on sales of available for sale debt securities of $9.7 million and a $8.9 million adjustment to recognize dividend income on a liquidated equity security. These losses were offset by realized and unrealized net gains on the Company’s portfolio of private equity securities of $13.8 million, as well as gains of $4.3 million on sales and fair value adjustments on equity securities. Additionally, net securities gains in 2017 included a gain of $32.0 million on the appreciation of securities donated to a related foundation, which did not recur in 2018.
Non-interest expense declined $6.5 million in 2018 compared to 2017, with the decrease resulting from a $32.0 million donation of appreciated securities to a charitable organization in 2017 that did not recur in 2018. This decrease in non-interest expense was partly offset by increases in salaries and benefits, data processing and software, and marketing expense, which increased $19.9 million, $5.0 million, and $4.2 million, respectively. The provision for loan losses totaled $42.7 million, a decrease of $2.6 million from the previous year.
Net income attributable to Commerce Bancshares, Inc. for 2017 was $319.4 million, an increase of $44.0 million, or 16.0%, compared to $275.4 million in 2016. Diluted income per common share increased 16.5% to $2.76 in 2017, compared to $2.37 in 2016. The increase in net income resulted from increases of $53.6 million in net interest income, $14.7 million in non-interest income, and $25.1 million in investment securities gains, as well as a decrease of $13.6 million in income tax expense. These increases in net income were partly offset by increases of $55.1 million in non-interest expense and $8.9 million in the provision for loan losses. The return on average assets was 1.28% in 2017 compared to 1.12% in 2016, and the return on average common equity was 12.46% in 2017 compared to 11.33% in 2016. At December 31, 2017, the ratio of tangible common equity to assets increased to 9.84%, compared to 8.66% at year end 2016.
During 2017, net interest income increased $53.6 million compared to 2016. This increase reflected growth of $53.9 million in interest on loans, resulting from higher average balances and loan yields. In addition, interest on investment securities grew by $7.5 million due to higher rates earned, which included $2.0 million in additional inflation income earned on the Company's portfolio of U.S. Treasury inflation-protected securities (TIPS). Interest expense on deposits and borrowings rose by $10.7 million largely due to higher average rates paid. The provision for loan losses increased $8.9 million over the previous year, totaling $45.2 million in 2017, and was $3.6 million higher than net loan charge-offs. Net charge-offs increased by $9.7 million in 2017 compared
to 2016, mainly due to higher net charge-offs on consumer credit card loans and lower net recoveries on construction and business real estate loans.
Non-interest income in 2017 was $461.3 million, an increase of $14.7 million, or 3.3%, compared to $446.6 million in 2016. This increase resulted mainly from growth in trust fees, deposit account fees, and loan fees and sales, which increased $13.4 million, $3.7 million, and $2.5 million, respectively. Non-interest expense in 2017 was $744.3 million, an increase of $55.1 million over $689.2 million in 2016. The increase in non-interest expense included a $21.0 million, or 4.9%, increase in salaries and benefits expense due to higher full-time salaries, incentive compensation, and payroll taxes. As mentioned above, expense in 2017 also included $32.0 million of contribution expense resulting from the donation of appreciated securities to a charitable foundation. Investment securities net gains in 2017 totaled $25.1 million, largely resulting from these donations.
The Company distributed a 5% stock dividend for the 25th consecutive year on December 17, 2018. All per share and average share data in this report has been restated for the 2018 stock dividend.
Critical Accounting Policies
The Company's consolidated financial statements are prepared based on the application of certain accounting policies, the most significant of which are described in Note 1 to the consolidated financial statements. Certain of these policies require numerous estimates and strategic or economic assumptions that may prove inaccurate or be subject to variations which may significantly affect the Company's reported results and financial position for the current period or future periods. The use of estimates, assumptions, and judgments are necessary when financial assets and liabilities are required to be recorded at, or adjusted to reflect, fair value. Current economic conditions may require the use of additional estimates, and some estimates may be subject to a greater degree of uncertainty due to the current instability of the economy. The Company has identified several policies as being critical because they require management to make particularly difficult, subjective and/or complex judgments about matters that are inherently uncertain and because of the likelihood that materially different amounts would be reported under different conditions or using different assumptions. These policies relate to the allowance for loan losses, fair value measurement, and accounting for income taxes.
Allowance for Loan Losses
The Company performs periodic and systematic detailed reviews of its loan portfolio to assess overall collectability. The level of the allowance for loan losses reflects the Company's estimate of the losses inherent in the loan portfolio at any point in time. While these estimates are based on substantive methods for determining allowance requirements, actual outcomes may differ significantly from estimated results, especially when determining allowances for business, construction and business real estate loans. These loans are normally larger and more complex, and their collection rates are harder to predict. Personal banking loans, including personal real estate, credit card and consumer loans, are individually smaller and perform in a more homogenous manner, making loss estimates more predictable. Further discussion of the methodology used in establishing the allowance is provided in the Allowance for Loan Losses section of Item 7 and in Note 1 to the consolidated financial statements.
Fair Value Measurement
Investment securities, including available-for-sale, trading, equity and other securities, residential mortgage loans held for sale, derivatives and deferred compensation plan assets and associated liabilities are recorded at fair value on a recurring basis. Additionally, from time to time, other assets and liabilities may be recorded at fair value on a nonrecurring basis, such as impaired loans that have been reduced based on the fair value of the underlying collateral, other real estate (primarily foreclosed property), non-marketable equity securities and certain other assets and liabilities. These nonrecurring fair value adjustments typically involve write-downs of individual assets or application of lower of cost or fair value accounting.
Fair value is an estimate of the exchange price that would be received to sell an asset or paid to transfer a liability in an orderly transaction (i.e., not a forced transaction, such as a liquidation or distressed sale) between market participants at the measurement date and is based on the assumptions market participants would use when pricing an asset or liability. Fair value measurement and disclosure guidance establishes a three-level hierarchy for disclosure of assets and liabilities recorded at fair value. The fair value hierarchy, the extent to which fair value is used to measure assets and liabilities and the valuation methodologies and key inputs used are discussed in Note 16 on Fair Value Measurements.
At December 31, 2018, assets and liabilities measured using observable inputs that are classified as either Level 1 or Level 2 represented 98.9% and 99.6% of total assets and liabilities recorded at fair value, respectively. Valuations generated from model-based techniques that use at least one significant assumption not observable in the market are considered Level 3, and the Company's Level 3 assets totaled $100.4 million, or 1.2% of total assets recorded at fair value on a recurring basis. Unobservable assumptions reflect estimates of assumptions market participants would use in pricing the asset or liability. Fair value measurements for assets
and liabilities where limited or no observable market data exists often involves significant judgments about assumptions, such as determining an appropriate discount rate that factors in both liquidity and risk premiums, and in many cases may not reflect amounts exchanged in a current sale of the financial instrument. In addition, changes in market conditions may reduce the availability of quoted prices or observable data. For example, reduced liquidity in the capital markets or changes in secondary market activities could result in observable market inputs becoming unavailable. Therefore, when market data is not available, the Corporation would use valuation techniques requiring more management judgment to estimate the appropriate fair value.
Accounting for Income Taxes
Accrued income taxes represent the net amount of current income taxes which are expected to be paid attributable to operations as of the balance sheet date. Deferred income taxes represent the expected future tax consequences of events that have been recognized in the financial statements or income tax returns. Deferred tax assets and liabilities are measured using the enacted tax rates that are expected to apply to taxable income when such assets and liabilities are anticipated to be settled or realized. Current and deferred income taxes are reported as either a component of other assets or other liabilities in the consolidated balance sheets, depending on whether the balances are assets or liabilities. Judgment is required in applying generally accepted accounting principles in accounting for income taxes. The Company regularly monitors taxing authorities for changes in laws and regulations and their interpretations by the judicial systems. The aforementioned changes, as well as any changes that may result from the resolution of income tax examinations by federal and state taxing authorities, may impact the estimate of accrued income taxes and could materially impact the Company’s financial position and results of operations.
Net interest income, the largest source of revenue, results from the Company’s lending, investing, borrowing, and deposit gathering activities. It is affected by both changes in the level of interest rates and changes in the amounts and mix of interest earning assets and interest bearing liabilities. The following table summarizes the changes in net interest income on a fully taxable equivalent basis, by major category of interest earning assets and interest bearing liabilities, identifying changes related to volumes and rates. Changes not solely due to volume or rate changes are allocated to rate.
Change due to
Change due to
Interest income, fully taxable equivalent basis
Real estate- construction and land
Real estate - business
Real estate - personal
Revolving home equity
Consumer credit card
Total interest on loans
Loans held for sale
U.S. government and federal agency obligations
Government-sponsored enterprise obligations
State and municipal obligations
Total interest on investment securities
Federal funds sold and short-term securities purchased
under agreements to resell
Long-term securities purchased under agreements to
Interest earning deposits with banks
Total interest income
Interest bearing deposits:
Interest checking and money market
Certificates of deposit of less than $100,000
Certificates of deposit of $100,000 and over
Federal funds purchased and securities sold under agreements to repurchase
Total interest expense
Net interest income, fully taxable equivalent basis
Net interest income totaled $823.8 million in 2018, increasing $90.1 million, or 12.3%, compared to $733.7 million in 2017. On a tax equivalent (T/E) basis, net interest income totaled $840.1 million, and increased $73.5 million over 2017. This increase included growth of $76.8 million in loan interest income (T/E), resulting from higher average balances and higher rates earned. In addition, interest earned on investment securities increased $13.2 million, mainly due to higher rates earned and the receipt of $8.9 million in dividend income during the second quarter of 2018, which was related to a liquidated equity security that was carried at fair value. Interest expense on deposits and borrowings combined was $65.4 million and increased $21.6 million, mostly due to higher rates paid. The net yield on earning assets (T/E) was 3.53% in 2018 compared with 3.19% in 2017.
During 2018, loan interest income (T/E) grew $76.8 million over 2017 mainly due to higher rates earned coupled with increased average balances for most loan categories. The average tax equivalent rate earned on the loan portfolio increased 46 basis points to 4.53% in 2018 compared to 4.07% in 2017. The higher rates earned on the loan portfolio were partly related to continued actions taken by the Federal Reserve to raise short-term interest rates, which enabled much of the Company's loan portfolio to re-price higher. In addition, average loan balances increased 2.3%, or $314.4 million, this year. Increased interest on business loans was the main driver of overall higher loan interest income, mostly due to higher rates, as many of these loans contain variable interest rate terms. Average business loan balances also grew $131.0 million this year. Increases in average balances and rates on construction and business real estate loans drove interest income growth a combined $27.6 million this year. Interest on personal real estate loans increased $5.1 million as average balances were higher by $74.1 million or 3.7%, and the average rate grew 11 basis points. Interest on consumer loans grew $8.0 million over the prior year as the average rate earned increased 45 basis points, but was partly offset by a decline in average balances of $25.6 million. Consumer credit card loan interest was higher by $3.9 million due to growth of $24.9 million in average balances, coupled with a 13 basis point increase in the average rate earned.
Tax equivalent interest income on total investment securities increased $13.2 million during 2018, as the average rate earned increased 33 basis points, while average balances declined $661.6 million. The average rate on the total investment portfolio was 2.84% in 2018 compared to 2.51% in 2017, while the average balance of the total investment securities portfolio (excluding unrealized fair value adjustments on available for sale debt securities) was $8.8 billion in 2018 compared to an average balance of $9.5 billion in 2017. The increase in interest income was mainly due to higher interest earned on mortgage-backed securities, coupled with increased interest and dividend income on equity and other securities. These increases were partly offset lower interest earned on state and municipal securities. Interest income on mortgage-backed securities increased $22.1 million, due to an increase in average balances of $419.0 million and an increase of 29 basis points in the average rate earned. Interest income on equity securities increased due to $8.9 million in dividend income during the second quarter of 2018 (mentioned previously), while interest on other securities increased $1.9 million due to an increase in receipts of non-recurring equity investment dividends during 2018. Interest earned on U.S. government securities grew $2.0 million, which included growth of $2.1 million in inflation income on the Company's treasury inflation-protected securities (TIPS). Partly offsetting these increases in interest income were declines of $19.2 million, $2.5 million and $1.2 million in interest earned on state and municipal, asset-backed and government-sponsored enterprise (GSE) securities, respectively. The decline in state and municipal interest resulted from a decline of $310.0 million in average balances coupled with a lower tax equivalent rate due to tax law changes in 2018. Asset-backed securities interest decreased mainly due to a decline of $627.9 million in average balances, partly offset by higher average rates. Interest earned on GSE's declined mainly due to lower average balances, partly offset by growth in the average rate. Interest earned on deposits with banks increased $4.0 million mainly due to an 88 basis point increase in average rates earned and an increase of $112.7 million in average balances.
During 2018, interest expense on deposits increased $14.9 million over 2017 and resulted mainly from an 11 basis point increase in the overall average rate paid on deposits. Interest expense on interest checking and money market accounts increased $10.5 million due to higher rates paid, which rose nine basis points. The growth in interest expense on certificates of deposit was largely due to higher rates paid on certificates of deposit over $100,000, which increased 54 basis points, partly offset by lower total average certificate of deposit balances, which fell $363.3 million, or 17.5%. The overall rate paid on total deposits increased from .23% in 2017 to .34% in the current year. Interest expense on borrowings increased due to higher rates paid on customer repurchase agreements, partly offset by the elimination of all Federal Home Loan Bank (FHLB) borrowings in 2018. The overall average rate incurred on all interest bearing liabilities was .44% in 2018, compared to .29% in 2017.
During 2017, net interest income totaled $733.7 million, increasing $53.6 million, or 7.9%, compared to $680.0 million in 2016. On a tax equivalent (T/E) basis, net interest income totaled $766.6 million and increased $55.2 million over 2016. This increase included growth of $54.7 million in loan interest, resulting from higher average loan balances and higher rates earned. In addition, interest earned on investment securities increased $8.2 million, mainly due to higher rates earned. Interest expense on deposits and borrowings combined was $43.7 million and increased $10.7 million compared to 2016 largely due to higher rates paid. The net yield on earning assets (T/E) was 3.19% in 2017 compared to 3.04% in 2016.
During 2017, loan interest income (T/E) grew $54.7 million over 2016 due to average loan growth of $683.9 million, or 5.3%. The average tax equivalent rate earned on the loan portfolio was 4.07% in 2017 compared to 3.86% in 2016. Similar to 2018, the higher rates earned on the loan portfolio were partly related to increases in interest rate levels taken by the Federal Reserve during 2017. The largest increase in loan interest occurred in business loans, which was higher by $20.2 million as a result of growth in the average rate earned of 31 basis points. Also contributing to the increase were higher average business loan balances of $179.5 million, or 3.9%, as growth trends continued in commercial and industrial, tax-free, and lease loans. Construction and land loan interest grew $9.9 million due to a 71 basis point increase in average rates and a $103.1 million, or 13.2%, increase in average balances. Business real estate interest was higher by $12.7 million as a result of an increase in average balances of $253.7 million, or 10.4%, along with an increase in average rates of 13 basis points. Interest earned on consumer loans increased $6.0 million over the prior year as the average rate increased 12 basis points and average balances increased $89.2 million. Personal real estate
loan interest was higher by $2.9 million and resulted from growth in average balances of $83.3 million. Interest on consumer credit card loans rose $2.3 million due to a 40 basis point increase in the average rate earned.
Tax equivalent interest income on total investment securities increased $8.2 million during 2017, as the average rate earned increased nine basis points, while total average balances declined slightly. The average rate earned on the total investment portfolio was 2.51% in 2017 compared to 2.42% in 2016, while the average balance of the total investment securities portfolio (excluding unrealized fair value adjustments on available for sale debt securities) was approximately $9.5 billion during both years. The increase in interest income was mainly due to higher interest earned on U.S. government obligations, mortgage-backed securities, and other securities. Interest earned on U.S. government securities grew $4.1 million, which included growth of $2.0 million in inflation-adjusted interest on TIPS. In addition, average balances rose $179.9 million, or 24.5%. Interest income on mortgage-backed securities increased $6.7 million, due to an increase in average balances of $323.8 million, partly offset by a decline of three basis points in the average rate earned. Interest earned on asset-backed securities increased $1.4 million, mainly due to an increase of 30 basis points in the average rate earned, partly offset by a decline in average balances of $334.5 million. Interest income on other securities increased $2.9 million, largely due to one-time interest payments received on a private equity investment in 2017. Partly offsetting these increases in interest income were declines of $5.9 million and $1.2 million in interest on GSE and state and municipal securities, respectively. The decline in GSE interest resulted from a $139.4 million decline in average balances, coupled with a rate decrease of 61 basis points, while state and municipal interest was lower due to a decrease of $33.0 million in average balances. Interest earned on deposits with banks increased $1.3 million mainly due to a 55 basis point increase in average rates earned. Interest on long-term securities purchased under resell agreements increased $1.9 million in 2017 compared to 2016 due to an increase in the average rate of 53 basis points, partly offset by a $103.2 million decrease in the average balances of these instruments.
During 2017, interest expense on deposits increased $5.1 million over 2016. This growth was comprised of higher interest expense on money market and interest checking accounts of $2.9 million and higher interest expense on certificates of deposit of $2.2 million. The increase in money market and interest checking interest expense resulted mainly from higher average rates paid, which rose three basis points. The growth in certificate of deposit interest expense was largely due to higher rates paid on certificates of deposit over $100,000, which increased 19 basis points, partly offset by lower total average certificate of deposit balances, which fell $139.6 million, or 6.3%. The overall rate paid on total deposits increased from .19% in 2016 to .23% in the current year. Interest expense on borrowings increased $5.6 million, due to higher average rates paid on repurchase agreements during 2017, partly offset by lower FHLB borrowings. The overall average rate incurred on all interest bearing liabilities was .29% in 2017, compared to .22% in 2016.
Provision for Loan Losses
The provision for loan losses is recorded to bring the allowance for loan losses to a level deemed adequate by management based on the factors mentioned in the “Allowance for Loan Losses” section of this discussion. The provision for loan losses totaled $42.7 million in 2018, a decrease of $2.6 million from the 2017 provision of $45.2 million. In 2017, the provision exceeded net loan charge-offs by $3.6 million, increasing the allowance for loan losses by the same amount, whereas the 2018 provision was $400 thousand greater than net loan charge-offs for the year.
Net loan charge-offs for the year totaled $42.3 million and increased $650 thousand compared to $41.6 million in 2017. The increase in net loan charge-offs over the previous year was mainly the result of higher net charge-offs on business loans, which increased $724 thousand and was largely the result of a charge-off recorded on one larger loan. In addition, consumer credit card net charge-offs increased $325 thousand, while construction loan net recoveries declined $556 thousand. Partly offsetting these increases in net charge-offs were lower net charge-offs on consumer loans, which decreased $693 thousand from the prior year. The allowance for loan losses totaled $159.9 million at December 31, 2018, an increase of $400 thousand compared to the prior year, and represented 1.13% of outstanding loans at year end 2018, compared to 1.14% at year end 2017.
Total revenue is calculated as net interest income plus non-interest income.
Non-interest income totaled $501.3 million, an increase of $40.1 million, or 8.7%, compared to $461.3 million in 2017. Bank card fees increased $16.5 million, or 10.6%, over the prior year, as a result of growth in net debit card fees of $4.1 million and net corporate card fees of $14.8 million. These increases were partly offset by declines in net credit card fees of $1.6 million and net merchant fees of $836 thousand. The table below is a summary of bank card transaction fees for the last three years.
(Dollars in thousands)
Net debit card fees
Net credit card fees
Net merchant fees
Net corporate card fees
Total bank card transaction fees
Trust fee income increased $12.8 million, or 9.5%, as a result of continued growth in both personal (up 11.1%) and institutional (up 6.4%) trust fees. The market value of total customer trust assets totaled $50.0 billion at year end 2018, which was an increase of 2.7% over year end 2017 balances. Deposit account fees increased $4.5 million, or 4.9%, mainly due to growth of $2.4 million in corporate cash management fees, $1.1 million in deposit account service charges and $892 thousand in overdraft and return item fees. In 2018, corporate cash management fees comprised 40.7% of total deposit fees, while overdraft fees comprised 33.3% of total deposit fees. Capital market fees declined $275 thousand, or 3.4%, due to continued lower sales volumes, while consumer brokerage services revenue increased $1.2 million, or 8.0%, mainly due to growth in advisory and fixed annuity fees. Loan fees and sales decreased $1.2 million, or 8.8%, from the prior year mainly due to declines mortgage banking revenue as a result of lower originations of fixed-rate loans in 2018. Total mortgage banking revenue totaled $8.2 million in 2018 compared to $9.2 million in 2017. Other non-interest income increased $6.7 million, or 15.0%, over the prior year, mainly due to gains of $6.6 million recorded on the sale of branch properties in 2018. In addition, cash sweep commissions, interest rate swap fees, and fees from sales of tax credits increased $1.6 million, $2.1 million, and $1.6 million, respectively, over 2017. These increases were partly offset by lower gains of $1.1 million on sales of leased assets to customers upon lease termination.
During 2017, non-interest income increased $14.7 million, or 3.3%, to $461.3 million compared to $446.6 million in 2016. Bank card fees increased $1.1 million, or .7%, over 2016. This growth included increases of $2.2 million, or 6.6%, in net debit card fees and $2.1 million, or 2.5%, in net corporate card fees, partly offset by a decline of $3.0 million, or 12.9%, in net merchant fees. Trust fee income increased $13.4 million, or 11.0%, as a result of growth in both personal (up 10.3%) and institutional (up 11.9%) trust fees. The market value of total customer trust assets totaled $48.7 billion at year end 2017, which was an increase of 13.1% over year end 2016 balances. Deposit account fees increased $3.7 million, or 4.2%, mainly due to growth in service charges on deposits of $2.5 million, or 12.1%. In addition, overdraft fees increased $1.2 million, or 4.2%, while corporate cash management fees were flat. Capital market fees declined $2.7 million, or 25.0%, due to lower sales volumes, while consumer brokerage services revenue increased $846 thousand, or 6.1%, due to growth in advisory fees. Loan fees and sales increased $2.5 million in 2017 compared to 2016, mainly due to higher mortgage banking revenue. Other non-interest income decreased $4.1 million, or 8.5%, from 2016. This decrease was due in part to a decline in interest rate swap fees of $3.9 million due to lower origination volume. In addition, a large gain on a branch sale and a trust settlement were recorded in 2016, which did not recur in 2017. These declines were partly offset by higher gains of $1.2 million on sales of leased assets to customers upon lease termination.
Net gains (losses) on sales of available for sale debt securities
Net gains on sales of equity securities
Fair value adjustments on equity securities
Adjustment for dividend income on a liquidated equity investment
Donations of equity securities
Net gains (losses) on sales and fair value adjustments of private equity investments
Total investment securities gains (losses), net
Net gains and losses on investment securities during 2018, 2017 and 2016 are shown in the table above. Included in these amounts are gains and losses arising from sales of securities from the Company’s available for sale debt portfolio, including credit-related losses on debt securities identified as other-than-temporarily impaired. Also shown are gains and losses relating to private equity investments, which are primarily held by the Parent’s majority-owned private equity subsidiaries. These include fair value adjustments, in addition to gains and losses realized upon disposition. The portions of private equity investment gains and losses that are attributable to minority interests are reported as non-controlling interest in the consolidated statements of income, and resulted in expense of $2.8 million in 2018, compared to income of $575 thousand in 2017 and expense of $573 thousand in 2016.
Net securities losses of $488 thousand were recorded in 2018, which included $9.7 million in net losses realized on bond sales resulting from the Company's sale of approximately $680 million (book value) of bonds, mainly mortgage and asset-backed securities, as part of a strategy to extend the duration of the securities portfolio and improve net interest margins. Net securities losses also included $8.9 million in losses related to an adjustment for dividend income on a liquidated investment. These losses were offset by net gains totaling $13.8 million of fair value adjustments on private equity investments, in addition to fair value adjustments and net gains realized on sales of equity investments.
Net securities gains of $25.1 million were recorded in 2017, which included $31.1 million in gains realized upon donation of appreciated stock and $10.6 million in net gains realized on sales of equity securities. These gains were offset by net losses of $9.7 million realized on sales of available for sale debt securities, resulting from the Company's sale of approximately $790 million of bonds, mainly mortgage and asset-backed securities. Additionally, net securities losses included $499 thousand in net losses realized on the sale of private equity investments and $5.8 million in losses related to fair value adjustments on private equity investments.
Net securities losses of $53 thousand were recorded in 2016. The 2016 net loss included $1.9 million in gains realized upon dispositions of private equity investments, offset by net losses in fair value totaling $3.7 million on the Company's private equity investment portfolio. Additionally, the Company realized gains on sales of equity securities, including a $1.8 million gain resulting from the Parent's withdrawal from a private equity fund as required under the Volcker Rule investment prohibitions.
Salaries and benefits as a % of total non-interest expense
Number of full-time equivalent employees
Non-interest expense was $737.8 million in 2018, a decrease of $6.5 million, or .9%, from the previous year. Salaries and benefits expense increased $19.9 million, or 4.4%, mainly due to higher full-time salaries and medical expense. Growth in salaries expense was driven by increases in full-time salaries in information technology, consumer, wealth, commercial and other support units, while incentive compensation expense declined slightly from 2017. Full-time equivalent employees totaled 4,795 at December 31, 2018, reflecting a small decrease from 2017. Occupancy expense increased $432 thousand, or .9%, mainly due to higher rent, utilities and building services expense, while equipment expense decreased $443 thousand, or 2.4%, due to lower equipment depreciation expense. Supplies and communication expense decreased $2.2 million, or 9.4%, mainly due to lower voice and data network costs. Data processing and software expense increased $5.0 million, or 6.1%, primarily due to higher third party processing costs. Marketing expense increased $4.2 million, or 25.9%, due to new bank card initiatives and consumer marketing initiatives in 2018. Deposit insurance expense declined $2.4 million, or 17.4%, from the prior year mainly due to decreases in average assets, a lower assessment rate, and the elimination of the special FDIC surcharge in the fourth quarter of 2018. Community service costs decreased $31.9 million due to the contribution of appreciated securities to a related foundation in 2017, which did not recur in 2018. Other non-interest expense increased $938 thousand, or 1.5%, over the prior year mainly due to higher costs for professional fees (up $2.4 million) and directors fees (up $936 thousand). These increases were partly offset by lower bank card fraud losses (down $961 thousand).
In 2017, non-interest expense was $744.3 million, an increase of $55.1 million, or 8.0%, over 2016. Salaries and benefits expense increased $21.0 million, or 4.9%, mainly due to higher full-time salaries, incentive compensation, and payroll taxes. Incentive compensation included the accrual of a discretionary bonus of $3.3 million in December 2017 that was paid to approximately 75% of all employees. Growth in salaries expense resulted partly from staffing additions in commercial and consumer, information technology, and other support units. Full-time equivalent employees totaled 4,800 at December 31, 2017, an increase of .3% over 2016. Occupancy expense decreased $678 thousand, mainly due to higher net rental income and lower demolition costs on a branch replacement project. Supplies and communication expense decreased by $1.3 million, or 5.6%, mainly due to reissuance costs for new chip cards distributed to customers in 2016 and lower office supplies expense. Data processing and software expense increased $1.4 million, or 1.8%, mainly due to higher online subscription services and outsourced data provider fees, partly offset by lower bank card processing costs. Equipment expense decreased by $573 thousand, or 3.0%, while deposit insurance expense was higher by $659 thousand, or 4.9%, due to higher insurance rates. Costs for marketing increased slightly compared to 2016. Community service costs increased $30.5 million due to the contribution of $32.0 million of appreciated securities to a related foundation during 2017. Other non-interest expense increased $3.9 million, or 6.5%, over 2016 mainly due to higher costs for legal and professional fees (up $1.2 million), impairment losses on surplus branch sites (up $1.2 million), and lower deferred origination costs (down $1.5 million).
Income tax expense was $105.9 million in 2018, compared to $110.5 million in 2017 and $124.2 million in 2016. The effective tax rate, including the effect of non-controlling interest, was 19.6% in 2018 compared to 25.7% in 2017 and 31.1% in 2016.
Due to the enactment of new federal tax reform legislation in December 2017, federal tax rates were lowered from 35% to 21%, which lowered the Company's effective tax rate in 2018. Additionally, the Company adopted ASU 2016-09, "Improvements to Employee Share-Based Payment Accounting," on January 1, 2017, which requires all excess tax benefits (net of tax deficiencies) to be recognized as income tax expense or benefit in the income statement. The amount of excess tax benefits (net of tax deficiencies) recognized as a reduction to income tax expense totaled $4.7 million and $7.3 million in 2018 and 2017, respectively. In 2017, the Company also recorded income tax benefits of $11.8 million resulting from the contribution of appreciated securities to a charitable foundation.
Loan Portfolio Analysis
Classifications of consolidated loans by major category at December 31 for each of the past five years are shown in the table below. This portfolio consists of loans which were acquired or originated with the intent of holding to their maturity. Loans held for sale are separately discussed in a following section. A schedule of average balances invested in each loan category below appears on page 54.
Balance at December 31
Real estate — construction and land
Real estate — business
Real estate — personal
Revolving home equity
Consumer credit card
The contractual maturities of business and real estate loan categories at December 31, 2018, and a breakdown of those loans between fixed rate and floating rate loans are as follows.
The following table shows loan balances at December 31, 2018, segregated between those with fixed interest rates and those with variable rates that fluctuate with an index.
Fixed Rate Loans
Variable Rate Loans
% Variable Rate Loans
Real estate — construction and land
Real estate — business
Real estate — personal
Revolving home equity
Consumer credit card
Total loans at December 31, 2018 were $14.1 billion, an increase of $156.6 million, or 1.1%, over balances at December 31, 2017. The growth in loans during 2018 occurred in the business, business real estate, personal real estate, credit card and overdraft loan categories, while construction, consumer and revolving home equity loans declined from the prior year. Business loans increased $147.9 million, or 3.0%, reflecting growth in commercial and industrial loans, while commercial card and tax-advantaged lending declined. Business real estate loans increased $178.3 million, or 6.6%, due to the improved loan demand and the transfer of certain outstanding construction loans into this category. Construction loans decreased $99.2 million, or 10.2% mainly due to pay downs on certain completed projects and transfers to the business real estate loan category. Personal real estate loans increased $64.3 million, or 3.1%, on origination growth and demand for adjustable rate mortgages, which are retained on the balance sheet. The Company sells certain long-term fixed rate mortgage loans to the secondary market, and loan sales in 2018 totaled $193.5 million, compared to $199.8 million in 2017. Consumer loans decreased $148.9 million, or 7.1%, due to declines in automobile, fixed rate home equity and other consumer loans, along with continued run off of marine and recreational vehicle loan balances. Consumer credit card loans increased $30.3 million, or 3.9%, as a result of new account activity, while revolving home equity loan balances declined $24.2 million compared to balances at year end 2017.
The Company currently holds approximately 30% of its loan portfolio in the Kansas City market, 29% in the St. Louis market, and 41% in other regional markets. The portfolio is diversified from a business and retail standpoint, with 63% in loans to businesses and 37% in loans to consumers. The Company believes a diversified approach to loan portfolio management, strong underwriting criteria and an aversion toward credit concentrations, from an industry, geographic and product perspective, have contributed to low levels of problem loans and loan losses experienced over the last several years.
The Company participates in credits of large, publicly traded companies which are defined by regulation as shared national credits, or SNCs. Regulations define SNCs as loans exceeding $100 million that are shared by three or more financial institutions. The Company typically participates in these loans when business operations are maintained in the local communities or regional markets and opportunities to provide other banking services are present. At December 31, 2018, the balance of SNC loans totaled approximately $830.2 million, with an additional $1.3 billion in unfunded commitments.
Total business loans amounted to $5.1 billion at December 31, 2018 and include loans used mainly to fund customer accounts receivable, inventories, and capital expenditures. The business loan portfolio includes tax-advantaged loans and leases which carry tax free interest rates. These loans totaled $902.5 million at December 31, 2018, a decline of $32.6 million, or 3.5%, from December 31, 2017 balances. The business loan portfolio also includes direct financing and sales type leases totaling $557.3 million, which are used by commercial customers to finance capital purchases ranging from computer equipment to office and transportation equipment. These leases increased $25.8 million, or 4.9%, over 2017. The Company has outstanding energy-related loans totaling $143.8 million at December 31, 2018, which are further discussed on page 38. Also included in the business portfolio are corporate card loans, which totaled $297.0 million at December 31, 2018 and are made in conjunction with the Company’s corporate card business for corporate trade purchases. Corporate card loans are made to corporate, non-profit and government customers nationwide, but have very short-term maturities, which limit risk.
Business loans, excluding corporate card loans, are made primarily to customers in the regional trade area of the Company, generally the central Midwest, encompassing the states of Missouri, Kansas, Illinois, and nearby Midwestern markets, including
Iowa, Oklahoma, Colorado, Texas and Ohio. This portfolio is diversified from an industry standpoint and includes businesses engaged in manufacturing, wholesaling, retailing, agribusiness, insurance, financial services, public utilities, health care, and other service businesses. Emphasis is upon middle-market and community businesses with known local management and financial stability. Consistent with management’s strategy and emphasis upon relationship banking, most borrowing customers also maintain deposit accounts and utilize other banking services. Net loan charge-offs in this category totaled $2.1 million in 2018 (mainly representing a charge-off on one larger loan placed on non-accrual late in the year), compared to net loan charge-offs of $1.4 million recorded in 2017. Non-accrual business loans were $9.0 million (.2% of business loans) at December 31, 2018 compared to $5.9 million at December 31, 2017.
Real Estate-Construction and Land
The portfolio of loans in this category amounted to $869.7 million at December 31, 2018, which was a decrease of $99.2 million, or 10.2%, from the prior year and comprised 6.2% of the Company’s total loan portfolio. Commercial construction and land development loans totaled $664.6 million, or 76.4% of total construction loans at December 31, 2018. These loans decreased $101.3 million from 2017 year end balances; driving the decline in the total construction portfolio. Commercial construction loans are made during the construction phase for small and medium-sized office and medical buildings, manufacturing and warehouse facilities, apartment complexes, shopping centers, hotels and motels, and other commercial properties. Commercial land development loans relate to land owned or developed for use in conjunction with business properties. Residential construction and land development loans at December 31, 2018 totaled $205.1 million, or 23.6% of total construction loans. A stable construction market has contributed to improved loss trends, with net loan recoveries of $635 thousand and $1.2 million recorded in 2018 and 2017, respectively.
Total business real estate loans were $2.9 billion at December 31, 2018 and comprised 20.3% of the Company’s total loan portfolio. This category includes mortgage loans for small and medium-sized office and medical buildings, manufacturing and warehouse facilities, shopping centers, hotels and motels, churches, and other commercial properties. The business real estate borrowers and/or properties are generally located in local and regional markets where Commerce does business, and emphasis is placed on owner-occupied lending (36.1% of this portfolio), which presents lower risk levels. Additional information about business real estate loans by borrower is presented on page 36. At December 31, 2018, non-accrual balances amounted to $1.7 million, or .1% of business real estate loans, down from $2.7 million at year end 2017. The Company experienced net loan recoveries of $378 thousand in 2018, compared to net loan recoveries of $203 thousand in 2017.
Personal Banking Loans
At December 31, 2018, there were $2.1 billion in outstanding personal real estate loans, which comprised 15.0% of the Company’s total loan portfolio. The mortgage loans in this category are mainly for owner-occupied residential properties. The Company originates both adjustable and fixed rate mortgage loans, and at December 31, 2018, 32% of the portfolio was comprised of adjustable rate loans, while 68% was comprised of fixed rate loans. The Company does not purchase any loans from outside parties or brokers, and has never maintained or promoted subprime or reduced-document products. Levels of mortgage loan origination activity increased slightly in 2018, with originations of $563.0 million in 2018 compared with $560.8 million in 2017. Net loans retained by the Company increased $64.3 million, driven by increased demand for adjustable rate mortgage loans, which the Company retains, while loans sold to the secondary market decreased $6.3 million. The loan sales were made under a 2015 initiative to originate and sell certain long term fixed rate loans, resulting in sales of $199.8 million in 2017 and $193.5 million in 2018. The Company has experienced lower loan losses in this category than many others in the industry and believes this is partly because of its conservative underwriting culture, stable markets, and the fact that it does not offer subprime lending products or purchase loans from brokers. Net loan recoveries for 2018 amounted to $335 thousand, compared to net loan recoveries of $305 thousand in the previous year. The non-accrual balances of loans in this category decreased to $1.8 million at December 31, 2018, compared to $2.5 million at year end 2017.
Consumer loans consist of private banking, automobile, motorcycle, marine, tractor/trailer, recreational vehicle (RV), fixed rate home equity, patient health care financing and other types of consumer loans. These loans totaled $2.0 billion at year end 2018. Approximately 47% of the consumer portfolio consists of automobile loans, 20% in private banking loans, 5% in motorcycle loans, 14% in fixed rate home equity loans, 9% in heathcare financing loans and 3% in marine and RV loans. Total consumer loans decreased $148.9 million at year end in 2018 compared to year end 2017. Declines of $99.4 million in automobile loan originations, $28.5 million in fixed rate home equity loans, $20.9 million in marine and RV loans and $42.2 million in motorcycle loans were partly offset by growth of $25.3 million in patient health care financing and $12.4 million in private banking loans.
Also, auto loans totaling $25.9 million were sold to another institution this year. Net charge-offs on total consumer loans were $9.3 million in 2018, compared to $10.0 million in 2017, averaging .5% of consumer loans in both years. Consumer loan net charge-offs included marine and RV loan net charge-offs of $710 thousand, which were 1.2% of average marine and RV loans in 2018, compared to 1.4% in 2017.
Revolving Home Equity
Revolving home equity loans, of which 98% are adjustable rate loans, totaled $376.4 million at year end 2018. An additional $709.4 million was available in unused lines of credit, which can be drawn at the discretion of the borrower. Home equity loans are secured mainly by second mortgages (and less frequently, first mortgages) on residential property of the borrower. The underwriting terms for the home equity line product permit borrowing availability, in the aggregate, generally up to 80% or 90% of the appraised value of the collateral property at the time of origination. Net charge-offs totaled $55 thousand in 2018, compared to $185 thousand in 2017.
Consumer Credit Card
Total consumer credit card loans amounted to $814.1 million at December 31, 2018 and comprised 5.8% of the Company’s total loan portfolio. The credit card portfolio is concentrated within regional markets served by the Company. The Company offers a variety of credit card products, including affinity cards, rewards cards, and standard and premium credit cards, and emphasizes its credit card relationship product, Special Connections. Approximately 41% of the households that own a Commerce credit card product also maintain a deposit relationship with the subsidiary bank. At December 31, 2018, approximately 92% of the outstanding credit card loan balances had a floating interest rate, compared to 91% in the prior year. Net charge-offs amounted to $30.6 million in 2018, an increase of $325 thousand over $30.3 million in 2017.
Loans Held for Sale
At December 31, 2018, loans held for sale were comprised of certain long-term fixed rate personal real estate loans and loans extended to students while attending colleges and universities. The personal real estate loans are carried at fair value and totaled $13.5 million at December 31, 2018. The student loans, carried at the lower of cost or fair value, totaled $7.2 million at December 31, 2018. Both of these portfolios are further discussed in Note 2 to the consolidated financial statements.
Allowance for Loan Losses
The Company has an established process to determine the amount of the allowance for loan losses which assesses the risks and losses inherent in its portfolio. This process provides an allowance consisting of a specific allowance component based on certain individually evaluated loans and a general component based on estimates of reserves needed for pools of loans.
Loans subject to individual evaluation generally consist of business, construction, business real estate and personal real estate loans on non-accrual status, and include troubled debt restructurings that are on non-accrual status. These non-accrual loans are evaluated individually for impairment based on factors such as payment history, borrower financial condition and collateral. For collateral dependent loans, appraisals of collateral (including exit costs) are normally obtained annually but discounted based on date last received and market conditions. From these evaluations of expected cash flows and collateral values, specific allowances are determined.
Loans which are not individually evaluated are segregated by loan type and sub-type and are collectively evaluated. These loans include commercial loans (business, construction and business real estate) which have been graded pass, special mention, or substandard, and also includes all personal banking loans except personal real estate loans on non-accrual status. Collectively-evaluated loans include certain troubled debt restructurings with similar risk characteristics. Allowances for both personal banking and commercial loans use methods which consider historical and current loss trends, loss emergence periods, delinquencies, industry concentrations and unique risks. Economic conditions throughout the Company's market place, as monitored by Company credit officers, are also considered in the allowance determination process.
The Company’s estimate of the allowance for loan losses and the corresponding provision for loan losses rest upon various judgments and assumptions made by management. In addition to past loan loss experience, various qualitative factors are considered, such as current loan portfolio composition and characteristics, trends in delinquencies, portfolio risk ratings, levels of non-performing assets, credit concentrations, collateral values, and prevailing regional and national economic conditions. The Company has internal credit administration and loan review staff that continuously review loan quality and report the results of their reviews and examinations to the Company’s senior management and Board of Directors. Such reviews also assist management in establishing the level of the allowance. In using this process and the information available, management must consider various assumptions and exercise considerable judgment to determine the overall level of the allowance for loan losses. Because of these subjective factors, actual outcomes of inherent losses can differ from original estimates. The Company’s subsidiary bank continues
to be subject to examination by several regulatory agencies, and examinations are conducted throughout the year, targeting various segments of the loan portfolio for review. Refer to Note 1 to the consolidated financial statements for additional discussion on the allowance and charge-off policies.
At December 31, 2018, the allowance for loan losses was $159.9 million, compared to $159.5 million at December 31, 2017. The percentage of allowance to loans decreased slightly to 1.13% at December 31, 2018 compared to 1.14% at year end 2017. Total loans delinquent 90 days or more and still accruing were $16.7 million at December 31, 2018, a decrease of $1.5 million compared to year end 2017, mainly driven by a $2.2 million decrease in personal real estate loans delinquent 90 days or more, partly offset by an increase of $1.5 million in consumer credit card loan delinquencies. Non-accrual loans at December 31, 2018 were $12.5 million, an increase of $553 thousand over the prior year, mainly due to an increase in business non-accrual loans of $3.0 million. This increase was partially offset by decreases in business real estate and consumer non-accrual loans of $1.0 million and $834 thousand, respectively. The 2018 year end balance of non-accrual loans was comprised of $9.0 million of business loans, $1.7 million of business real estate loans and $1.8 million of personal real estate loans.
Net loan charge-offs totaled $42.3 million in 2018, representing a $650 thousand increase compared to net charge-offs of $41.6 million in 2017. The increase was largely due to higher business loan net charge-offs of $724 thousand and was mainly the result of a charge-off recorded on one larger loan, which was subsequently placed on non-accrual. In addition, consumer credit card loan net charge-offs increased $325 thousand, while net recoveries on construction loans declined $556 thousand. Partly offsetting these increases in net charge-offs were lower net loan charge-offs of $693 thousand on consumer loans. Consumer credit card net charge-offs were 3.98% of average consumer credit card loans in 2018 compared to 4.07% in 2017. Consumer credit card loan net charge-offs as a percentage of total net charge-offs decreased to 72.3% in 2018 compared to 72.6% in 2017. Consumer loan net charge-offs were .46% of average consumer loans in 2018, compared to .49% in 2017, and represented 22.0% of total net loan charge-offs in 2018.
The ratio of net charge-offs to total average loans outstanding in 2018 was .30%, compared to .31% in 2017 and .25% in 2016. The provision for loan losses in 2018 was $42.7 million, compared to provisions of $45.2 million in 2017 and $36.3 million in 2016.
The Company considers the allowance for loan losses of $159.9 million adequate to cover losses inherent in the loan portfolio at December 31, 2018.
The following schedule provides a breakdown of the allowance for loan losses by loan category and the percentage of each loan category to total loans outstanding at year end.
(Dollars in thousands)
Loan Loss Allowance Allocation
% of Loans to Total Loans
Loan Loss Allowance Allocation
% of Loans to Total Loans
Loan Loss Allowance Allocation
% of Loans to Total Loans
Loan Loss Allowance Allocation
% of Loans to Total Loans
Loan Loss Allowance Allocation
% of Loans to Total Loans
RE — construction and land
RE — business
RE — personal
Revolving home equity
Consumer credit card
Risk Elements of Loan Portfolio
Management reviews the loan portfolio continuously for evidence of problem loans. During the ordinary course of business, management becomes aware of borrowers that may not be able to meet the contractual requirements of loan agreements. Such loans are placed under close supervision with consideration given to placing the loan on non-accrual status, the need for an additional allowance for loan loss, and (if appropriate) partial or full loan charge-off. Loans are placed on non-accrual status when management does not expect to collect payments consistent with acceptable and agreed upon terms of repayment. After a loan is placed on non-accrual status, any interest previously accrued but not yet collected is reversed against current income. Interest is included in income only as received and only after all previous loan charge-offs have been recovered, so long as management is satisfied there is no impairment of collateral values. The loan is returned to accrual status only when the borrower has brought all past due principal and interest payments current, and, in the opinion of management, the borrower has demonstrated the ability to make future payments of principal and interest as scheduled. Loans that are 90 days past due as to principal and/or interest payments are generally placed on non-accrual, unless they are both well-secured and in the process of collection, or they are comprised of those personal banking loans that are exempt under regulatory rules from being classified as non-accrual. Consumer installment loans and related accrued interest are normally charged down to the fair value of related collateral (or are charged off in full if no collateral) once the loans are more than 120 days delinquent. Credit card loans and the related accrued interest are charged off when the receivable is more than 180 days past due.
The following schedule shows non-performing assets and loans past due 90 days and still accruing interest.
(Dollars in thousands)
Total non-accrual loans
Real estate acquired in foreclosure
Total non-performing assets
Non-performing assets as a percentage of total loans
Non-performing assets as a percentage of total assets
Loans past due 90 days and still accruing interest
The table below shows the effect on interest income in 2018 of loans on non-accrual status at year end.
Gross amount of interest that would have been recorded at original rate
Interest that was reflected in income
Interest income not recognized
Non-accrual loans, which are also classified as impaired, totaled $12.5 million at year end 2018, an increase of $553 thousand from the balance at year end 2017. The increase from December 31, 2017 occurred mainly in business loans, which increased $3.0 million but was partially offset by decreases in business real estate, consumer, and personal real estate non-accrual loans. At December 31, 2018, non-accrual loans were comprised primarily of business (71.7%), personal real estate (14.6%), and business real estate (13.7%) loans. Foreclosed real estate totaled $1.4 million at December 31, 2018, an increase of $732 thousand when compared to December 31, 2017. Total non-performing assets remain low compared to the overall banking industry in 2018, with
the non-performing loans to total loans ratio at .10% at December 31, 2018. Total loans past due 90 days or more and still accruing interest were $16.7 million as of December 31, 2018, a decrease of $1.5 million when compared to December 31, 2017. Balances by class for non-accrual loans and loans past due 90 days and still accruing interest are shown in the "Delinquent and non-accrual loans" section of Note 2 to the consolidated financial statements.
In addition to the non-performing and past due loans mentioned above, the Company also has identified loans for which management has concerns about the ability of the borrowers to meet existing repayment terms. They are classified as substandard under the Company’s internal rating system. The loans are generally secured by either real estate or other borrower assets, reducing the potential for loss should they become non-performing. Although these loans are generally identified as potential problem loans, they may never become non-performing. Such loans totaled $145.7 million at December 31, 2018, compared with $213.4 million at December 31, 2017, resulting in a decrease of $67.7 million. The decrease in potential problem loans was seen in all loan classes but was largely driven by a $55.4 million decline in business loans, mainly due to loans paying off and the upgrade of certain large commercial and industrial and lease loans.