Company Quick10K Filing
Quick10K
Chemical Financial
Closing Price ($) Shares Out (MM) Market Cap ($MM)
$44.46 72 $3,180
10-Q 2018-09-30 Quarter: 2018-09-30
10-Q 2018-06-30 Quarter: 2018-06-30
10-Q 2018-03-31 Quarter: 2018-03-31
10-K 2017-12-31 Annual: 2017-12-31
10-Q 2017-09-30 Quarter: 2017-09-30
10-Q 2017-06-30 Quarter: 2017-06-30
10-Q 2017-03-31 Quarter: 2017-03-31
10-K 2016-12-31 Annual: 2016-12-31
10-Q 2016-09-30 Quarter: 2016-09-30
10-Q 2016-06-30 Quarter: 2016-06-30
10-Q 2016-03-31 Quarter: 2016-03-31
10-K 2015-12-31 Annual: 2015-12-31
8-K 2019-01-28 Other Events, Exhibits
8-K 2019-01-28 Enter Agreement, Officers, Amend Bylaw, Exhibits
8-K 2019-01-28 Earnings, Regulation FD, Exhibits
8-K 2019-01-28 Other Events, Exhibits
8-K 2019-01-22 Other Events
8-K 2019-01-11 Regulation FD, Exhibits
8-K 2018-11-06 Regulation FD, Exhibits
8-K 2018-10-23 Earnings, Other Events, Exhibits
8-K 2018-10-09 Regulation FD, Exhibits
8-K 2018-09-05 Regulation FD, Exhibits
8-K 2018-07-25 Other Events, Exhibits
8-K 2018-07-24 Earnings, Other Events, Exhibits
8-K 2018-07-11 Officers, Exhibits
8-K 2018-07-10 Regulation FD, Exhibits
8-K 2018-07-03 Officers, Exhibits
8-K 2018-04-30 Shareholder Vote
8-K 2018-04-24 Earnings, Other Events, Exhibits
8-K 2018-04-10 Regulation FD, Exhibits
8-K 2018-02-08 Regulation FD, Exhibits
8-K 2018-01-26 Amend Bylaw, Exhibits
8-K 2018-01-23 Earnings, Other Events, Exhibits
8-K 2018-01-09 Regulation FD, Exhibits
WFC Wells Fargo & Company
TCF TCF Financial
TRMK Trustmark
EGBN Eagle Bancorp
CHCO City Holding
PUB People's Utah Bancorp
ACBI Atlantic Capital Bancshares
MFSF Mutualfirst Financial
NBN Northeast Bancorp
OPBK OP Bancorp
CHFC 2018-09-30
Part I. Financial Information
Item 1. Financial Statements
Note 1: Basis of Presentation and Significant Accounting Policies
Note 2: Fair Value Measurements
Note 3: Investment Securities
Note 4: Loans
Note 5: Other Real Estate Owned and Repossessed Assets
Note 6: Goodwill
Note 7: Loan Servicing Rights
Note 8: Other Intangible Assets
Note 9: Derivative Instruments and Balance Sheet Offsetting
Note 10: Investments in Qualified Affordable Housing Projects, Federal Historic Projects and New Market Tax Credits
Note 11: Commitments, Contingencies and Guarantees
Note 12: Borrowings and Other Short-Term Liabilities
Note 13: Revenue From Contracts with Customers
Note 14: Share-Based Compensation
Note 15: Pension and Other Postretirement Benefit Plans
Note 16: Regulatory Capital
Note 17: Earnings per Common Share
Note 18: Accumulated Other Comprehensive Loss
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
Part II. Other Information
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 6. Exhibits
EX-31.1 chfc2018q3exhibit311.htm
EX-31.2 chfc2018q3exhibit312.htm
EX-32.1 chfc2018q3exhibit321.htm

Chemical Financial Earnings 2018-09-30

CHFC 10Q Quarterly Report

Balance SheetIncome StatementCash Flow

10-Q 1 chfc2018q310-q.htm 10-Q Document
 
 
 
 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549 
FORM 10-Q 
(Mark One)
þ
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended September 30, 2018
 
¨
Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from ____________ to ____________            
Commission File Number: 000-08185 
CHEMICAL FINANCIAL CORPORATION
(Exact Name of Registrant as Specified in Its Charter) 
Michigan
 
38-2022454
(State or Other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer
Identification No.)
 
 
333 W. Fort Street, Suite 1800
Detroit, Michigan
 
48226
(Address of Principal Executive Offices)
 
(Zip Code)
(800) 867-9757
(Registrant’s Telephone Number, Including Area Code)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  þ    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  þ    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company" and "emerging growth company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
 
þ
 
Accelerated filer
 
¨
 
 
 
 
Non-accelerated filer
 
¨ 
 
Smaller reporting company
 
¨
 
 
 
 
 
 
 
Emerging growth 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. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  þ
The number of shares outstanding of the registrant’s Common Stock, $1 par value, as of November 2, 2018, was 71,445,427 shares.
 
 
 
 
 



INDEX
Chemical Financial Corporation
Form 10-Q
Index to Form 10-Q
 
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Consolidated Statements of Financial Position as of September 30, 2018 (unaudited) and December 31, 2017
 
 
 
 
Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2018 and 2017 (unaudited)
 
 
 
 
Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended September 30, 2018 and 2017 (unaudited)
 
 
 
 
Consolidated Statements of Changes in Shareholders’ Equity for the Three and Nine Months Ended September 30, 2018 and 2017 (unaudited)
 
 
 
 
Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2018 and 2017 (unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

2


Forward-Looking Statements

This report contains forward-looking statements that are based on management's beliefs, assumptions, current expectations, estimates and projections about the financial services industry, the economy and us. Words and phrases such as "anticipates," "believes," "continue," "estimates," "expects," "forecasts," "future," "intends," "is likely," "judgment," "look ahead," "look forward," "on schedule," "opinion," "opportunity," "plans," "potential," "seeks," "predicts," "probable," "projects," "should," "strategic," "trend," "will," and variations of such words and phrases or similar expressions are intended to identify such forward-looking statements. These statements include, among others, statements related to: our belief that unrealized losses on our investment securities at September 30, 2018 were temporary in nature, our strategic plan to develop customer relationships that will drive core deposit growth and stability, management's belief that our commercial and commercial real estate loan portfolios are generally well-secured, management's opinion that our borrowing capacity could be expanded, the impact of projected changes in net interest income assuming changes to short-term market interest rates, statements regarding our risk exposure in our primary markets, as well as statements related to the anticipated effects on results of operations and financial condition from expected developments. All statements referencing future time periods are forward-looking.

Management's determination of the provision and allowance for loan losses; the carrying value of acquired loans, goodwill and mortgage servicing rights; the fair value of investment securities (including whether any impairment on any investment security is temporary or other-than-temporary and the amount of any impairment); and management's assumptions concerning pension and other postretirement benefit plans involve judgments that are inherently forward-looking. There can be no assurance that future loan losses will be limited to the amounts estimated. All of the information concerning interest rate sensitivity is forward-looking. The future effect of changes in the financial and credit markets and the national and regional economies on the banking industry, generally, and on us, specifically, are also inherently uncertain.

Forward-looking statements are based upon current beliefs and expectations and involve substantial risks and uncertainties that could cause actual results to differ materially from those expressed or implied by such forward-looking statements. Accordingly, such statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions ("risk factors") that are difficult to predict with regard to timing, extent, likelihood and degree of occurrence. Therefore, actual results and outcomes may materially differ from what may be expressed or forecasted in such forward-looking statements. We undertake no obligation to update, amend or clarify forward-looking statements, whether as a result of new information, future events or otherwise. Risk factors include, without limitation:

our ability to attract and retain new commercial lenders and other bankers as well as key operations staff in light of competition for experienced employees in the banking industry;
operational and regulatory challenges associated with our information technology systems and policies and procedures in light of our rapid growth and systems conversion in 2018;
our ability to grow deposits;
economic conditions (both generally and in our markets) may be less favorable than expected, which could result in, among other things, a deterioration in credit quality, a reduction in demand for credit and a decline in real estate values;
a general decline in the real estate and lending markets, particularly in our market areas, could negatively affect our financial results;
increased cybersecurity risk, including potential network breaches, business disruptions, or financial losses;
increases in competitive pressure in the banking and financial services industry:
the timing of when historic tax credits are placed into service could impact operating expenses:
risks related to potential mergers and acquisitions including potential deposit attrition, higher than expected costs, customer loss and business disruption, including, without limitation, potential difficulties in maintaining relationships with key personnel and other integration related-matters, and the potential inability to identify and successfully negotiate and complete additional successful combinations with potential merger or acquisition partners:
current or future restrictions or conditions imposed by our regulators on our operations may make it more difficult for us to achieve our goals;
legislative or regulatory changes, including changes in accounting standards and compliance requirements, may adversely affect us;
changes in the interest rate environment may reduce margins or the volumes or values of the loans we make or have acquired; and
economic, governmental, or other factors may prevent the projected population, residential, and commercial growth in the markets in which we operate.

3



In addition, risk factors include, but are not limited to, the risk factors described in Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2017 or disclosed in documents filed or furnished by the Corporation with or to the SEC after the filing of such Annual Report on Form 10-K. These and other factors are representative of the risk factors that may emerge and could cause a difference between an ultimate actual outcome and a preceding forward-looking statement.

4


Part I. Financial Information

Item 1.    Financial Statements
Chemical Financial Corporation
Consolidated Statements of Financial Position
(Dollars in thousands, except per share data)
 
September 30, 2018
 
December 31, 2017
 
 
(Unaudited)
 
 
Assets
 
 
Cash and cash equivalents:
 
 
 
 
Cash and cash due from banks
 
$
285,605

 
$
226,003

Interest-bearing deposits with the Federal Reserve Bank and other banks
 
379,158

 
229,988

Total cash and cash equivalents
 
664,763


455,991

Investment securities:
 
 
 
 
Carried at fair value
 
2,736,880

 
1,963,546

Held-to-maturity, at amortized cost (fair value of $598,197 and $662,906, respectively)
 
608,367

 
677,093

Total investment securities
 
3,345,247

 
2,640,639

Loans held-for-sale, at fair value
 
93,736

 
52,133

Loans
 
14,796,252

 
14,155,267

Allowance for loan losses
 
(104,041
)
 
(91,887
)
Net loans
 
14,692,211

 
14,063,380

Premises and equipment
 
123,305

 
126,896

Loan servicing rights, at fair value
 
72,707

 
63,841

Goodwill
 
1,134,568

 
1,134,568

Other intangible assets
 
29,981

 
34,271

Interest receivable and other assets
 
748,971

 
709,154

Total assets
 
$
20,905,489

 
$
19,280,873

Liabilities
 
 
 
 
Deposits:
 
 
 
 
Noninterest-bearing
 
$
4,015,323

 
$
3,725,779

Interest-bearing
 
11,429,529

 
9,917,024

Total deposits
 
15,444,852

 
13,642,803

Collateralized customer deposits
 
377,471

 
415,236

Short-term borrowings
 
1,670,000

 
2,000,000

Long-term borrowings
 
430,971

 
372,882

Interest payable and other liabilities
 
193,271

 
181,203

Total liabilities
 
18,116,565

 
16,612,124

Shareholders’ equity
 
 
 
 
Preferred stock, no par value:
 
 
 
 
Authorized – 2,000,000 shares at 9/30/18 and 12/31/17, none issued
 

 

Common stock, $1.00 par value per share:
 
 
 
 
Authorized – 135,000,000 shares at 9/30/18 and12/31/17
 
 
 
 
Issued and outstanding – 71,437,826 shares at 9/30/18 and 71,207,114 shares at 12/31/17
 
71,438

 
71,207

Additional paid-in capital
 
2,207,631

 
2,203,637

Retained earnings
 
567,510

 
419,403

Accumulated other comprehensive loss
 
(57,655
)
 
(25,498
)
Total shareholders’ equity
 
2,788,924

 
2,668,749

Total liabilities and shareholders’ equity
 
$
20,905,489

 
$
19,280,873

See accompanying notes to Consolidated Financial Statements (unaudited).

5


Chemical Financial Corporation
Consolidated Statements of Income
(Unaudited)
 
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(Dollars in thousands, except per share data)
 
2018
 
2017
 
2018
 
2017
Interest income
 
 
 
 
 
 
 
 
Interest and fees on loans
 
$
172,686

 
$
148,771

 
$
494,892

 
$
422,570

Interest on investment securities:
 
 
 
 
 
 
 
 
Taxable
 
16,360

 
9,326

 
43,485

 
21,207

Tax-exempt
 
6,178

 
4,577

 
17,732

 
13,238

Dividends on nonmarketable equity securities
 
1,368

 
1,039

 
5,458

 
2,906

Interest on deposits with the Federal Reserve Bank, other banks and Federal funds sold
 
1,785

 
1,231

 
4,326

 
3,052

Total interest income
 
198,377

 
164,944

 
565,893

 
462,973

Interest expense
 
 
 
 
 
 
 
 
Interest on deposits
 
27,250

 
12,926

 
62,874

 
32,424

Interest on collateralized customer deposits
 
721

 
462

 
1,886

 
808

Interest on short-term borrowings
 
9,510

 
6,129

 
28,084

 
12,100

Interest on long-term borrowings
 
1,415

 
1,799

 
4,168

 
5,968

Total interest expense
 
38,896

 
21,316

 
97,012

 
51,300

   Net interest income
 
159,481

 
143,628

 
468,881

 
411,673

Provision for loan losses
 
6,028

 
5,499

 
21,856

 
15,778

Net interest income after provision for loan losses
 
153,453

 
138,129

 
447,025

 
395,895

Noninterest income
 
 
 
 
 
 
 
 
Service charges and fees on deposit accounts
 
8,187

 
9,147

 
25,265

 
25,928

Wealth management revenue
 
6,040

 
6,188

 
19,539

 
18,973

Other charges and fees for customer services
 
6,481

 
6,624

 
18,109

 
25,249

Net gain on sale of loans and other mortgage banking revenue
 
9,837

 
5,241

 
31,216

 
24,280

Net gain on sale of investment securities
 

 
1

 
3

 
168

Other
 
7,372

 
4,921

 
22,357

 
17,102

Total noninterest income
 
37,917

 
32,122

 
116,489

 
111,700

Operating expenses
 
 
 
 
 
 
 
 
Salaries, wages and employee benefits
 
56,894

 
52,590

 
168,599

 
164,731

Occupancy
 
8,620

 
6,871

 
24,310

 
23,008

Equipment and software
 
8,185

 
7,582

 
24,120

 
24,248

Outside processing and service fees
 
12,660

 
9,626

 
33,689

 
26,061

Merger expenses
 

 
2,379

 

 
7,011

Restructuring expenses
 

 
18,824

 

 
18,824

Other
 
23,302

 
21,667

 
65,114

 
58,089

Total operating expenses
 
109,661

 
119,539

 
315,832

 
321,972

Income before income taxes
 
81,709

 
50,712

 
247,682

 
185,623

Income tax expense
 
11,312

 
10,253

 
36,701

 
45,546

Net income
 
$
70,397

 
$
40,459

 
$
210,981

 
$
140,077

Earnings per common share:
 
 
 
 
 
 
 
 
Basic
 
$
0.99

 
$
0.57

 
$
2.96

 
$
1.98

Diluted
 
$
0.98

 
$
0.56

 
$
2.93

 
$
1.95

Cash dividends declared per common share
 
$
0.34

 
$
0.28

 
$
0.90

 
$
0.82

See accompanying notes to Consolidated Financial Statements (unaudited).

6


Chemical Financial Corporation
Consolidated Statements of Comprehensive Income
(Unaudited)
 
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(Dollars in thousands)
 
2018
 
2017
 
2018
 
2017
Net income
 
$
70,397

 
$
40,459

 
$
210,981

 
$
140,077

Other comprehensive income, net of tax:
 
 
 
 
 
 
 
 
Unrealized holding gains (losses) on securities available-for-sale arising during the period
 
(16,634
)
 
1,376

 
(55,863
)
 
9,643

Reclassification adjustment for gains on realized income
 

 
(1
)
 
(3
)
 
(168
)
Tax effect
 
3,493

 
(481
)
 
11,732

 
(3,316
)
Net unrealized gains (losses) on securities available-for-sale, net of tax
 
(13,141
)
 
894

 
(44,134
)
 
6,159

Unrealized gains on interest rate swaps designated as cash flow hedges
 
4,111

 
550

 
16,176

 
84

Reclassification adjustment for (gains) losses included in net income
 
(662
)
 
575

 
(1,009
)
 
984

Tax effect
 
(724
)
 
(374
)
 
(3,185
)
 
(374
)
Net unrealized gains on interest rate swaps designated as cash flow hedges, net of tax
 
2,725

 
751

 
11,982

 
694

Plan remeasurement
 

 
11,238

 

 
11,238

Adjustment for pension and other postretirement benefits
 
142

 
537

 
426

 
1,613

Tax effect
 
(30
)
 
(4,121
)
 
(90
)
 
(4,498
)
Net adjustment for pension and other postretirement benefits
 
112

 
7,654

 
336

 
8,353

Other comprehensive income (loss), net of tax
 
(10,304
)
 
9,299

 
(31,816
)
 
15,206

Total comprehensive income, net of tax
 
$
60,093

 
$
49,758

 
$
179,165

 
$
155,283


See accompanying notes to Consolidated Financial Statements (unaudited).

7


Chemical Financial Corporation
Consolidated Statements of Changes in Shareholders’ Equity
(Unaudited)
(Dollars in thousands)
 
Common
stock
 
Additional
paid-in
capital
 
Retained
earnings
 
Accumulated other
comprehensive
income (loss)
 
Total
For the three months ended September 30, 2018
 
 
 
 
 
 
 
 
 
 
Beginning Balance
 
$
71,418

 
$
2,205,402

 
$
521,530

 
$
(47,351
)
 
$
2,750,999

Comprehensive income
 
 
 
 
 
70,397

 
(10,304
)
 
60,093

Cash dividends declared and paid of $0.34 per share
 
 
 
 
 
(24,417
)
 
 
 
(24,417
)
Net shares issued under share-based compensation plans
 
20

 
316

 
 
 
 
 
336

Share-based compensation expense
 

 
1,913

 
 
 
 
 
1,913

Ending Balance
 
$
71,438

 
$
2,207,631

 
$
567,510

 
$
(57,655
)
 
$
2,788,924

For the three months ended September 30, 2017
 
 
 
 
 
 
 
 
 
 
Beginning Balance
 
$
71,131

 
$
2,197,501

 
$
404,939

 
$
(34,129
)
 
$
2,639,442

Comprehensive income
 
 
 
 
 
40,459

 
9,299

 
49,758

Cash dividends declared and paid of $0.28 per share
 
 
 
 
 
(19,965
)
 
 
 
(19,965
)
Net shares issued under share-based compensation plans
 
21

 
(3,813
)
 
 
 
 
 
(3,792
)
Share-based compensation expense
 

 
7,646

 
 
 
 
 
7,646

Ending Balance
 
$
71,152

 
$
2,201,334

 
$
425,433

 
$
(24,830
)
 
$
2,673,089

For the nine months ended September 30, 2018
 
 
 
 
 
 
 
 
 
 
Beginning Balance
 
$
71,207

 
$
2,203,637

 
$
419,403

 
$
(25,498
)
 
$
2,668,749

Cumulative effect adjustment of change in accounting policy, net of tax impact(1)
 
 
 
 
 
1,680

 
(341
)
 
1,339

Comprehensive income
 
 
 
 
 
210,981

 
(31,816
)
 
179,165

Cash dividends declared and paid of $0.90 per share
 
 
 
 
 
(64,554
)
 
 
 
(64,554
)
Net shares issued under share-based compensation plans
 
231

 
(1,997
)
 
 
 
 
 
(1,766
)
Share-based compensation expense
 

 
5,991

 
 
 
 
 
5,991

Ending Balance
 
$
71,438

 
$
2,207,631

 
$
567,510

 
$
(57,655
)
 
$
2,788,924

For the nine months ended September 30, 2017
 
 
 
 
 
 
 
 
 
 
Beginning Balance
 
$
70,599

 
$
2,210,762

 
$
340,201

 
$
(40,036
)
 
$
2,581,526

Cumulative effect adjustment of change in accounting policy, net of tax impact(2)
 
 
 
 
 
3,659

 
 
 
3,659

Comprehensive income
 
 
 
 
 
140,077

 
15,206

 
155,283

Cash dividends declared and paid of $0.82 per share
 
 
 
 
 
(58,504
)
 
 
 
(58,504
)
Net shares issued under share-based compensation plans
 
553

 
(24,001
)
 
 
 
 
 
(23,448
)
Share-based compensation expense
 

 
14,573

 
 
 
 
 
14,573

Ending Balance
 
$
71,152

 
$
2,201,334

 
$
425,433

 
$
(24,830
)
 
$
2,673,089

(1) 
Refer to Note 1, Basis of Presentation and Significant Accounting Policies, Note 3, Investment Securities, Note 5, Other Real Estate Owned and Repossessed Assets and Note 9, Derivative Instruments and Balance Sheet Offsetting, for further details on the changes in accounting policy.
(2) 
Refer to Note 1, Basis of Presentation and Significant Accounting Policies and Note 7, Loan Servicing Rights for further details on the changes in accounting policy.

See accompanying notes to Consolidated Financial Statements (unaudited).

8


Chemical Financial Corporation
Consolidated Statements of Cash Flows
(Unaudited)
 
 
Nine Months Ended September 30,
(Dollars in thousands)
 
2018
 
2017
Cash flows from operating activities
 
 
 
 
Net income
 
$
210,981

 
$
140,077

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Provision for loan losses
 
21,856

 
15,778

Gains on sales of loans
 
(9,772
)
 
(26,537
)
Proceeds from sales of loans
 
569,768

 
601,694

Loans originated for sale
 
(599,671
)
 
(577,874
)
Net gains on sale of investment securities
 
(3
)
 
(168
)
Net losses (gains) from sales/writedowns of other real estate and repossessed assets
 
473

 
(597
)
Depreciation of premises and equipment
 
12,735

 
13,444

Amortization of intangible assets
 
4,290

 
4,564

Additions to loan servicing rights
 
(6,337
)
 
(6,461
)
Valuation change in loan servicing rights
 
(2,529
)
 
8,242

Net amortization of premiums and discounts on investment securities
 
14,174

 
13,933

Share-based compensation expense
 
5,991

 
14,573

Deferred income tax expense
 
18,134

 
36,508

Change in deferred tax valuation allowance
 
(456
)
 
60

Net increase in interest receivable and other assets
 
(34,702
)
 
(148,180
)
Net increase in interest payable and other liabilities
 
12,583

 
40,181

Net cash provided by operating activities
 
217,515

 
129,237

Cash flows from investing activities
 
 
 
 
Debt securities – available-for-sale:
 
 
 
 
Proceeds from maturities, calls and principal reductions
 
223,049

 
227,854

Proceeds from sales and redemptions
 
4,215

 
17,085

Purchases
 
(1,069,703
)
 
(1,041,744
)
Investment securities – held-to-maturity:
 
 
 
 
Proceeds from maturities, calls and principal reductions
 
91,317

 
73,762

Purchases
 
(23,523
)
 
(109,704
)
Net increase in loans
 
(661,400
)
 
(862,498
)
Proceeds from sales of other real estate and repossessed assets
 
10,156

 
15,569

Purchases of premises and equipment, net of disposals
 
(9,144
)
 
(11,616
)
Proceeds from returns of investment in equity method investments
 
326

 
143

Net cash used in investing activities
 
(1,434,707
)
 
(1,691,149
)
Cash flows from financing activities
 
 
 
 
Net increase in interest- and noninterest-bearing demand deposits and savings accounts
 
1,153,767

 
828,517

Net increase in time deposits
 
648,282

 
103,606

Net (decrease) increase in collateralized customer deposits and other short-term borrowings
 
(367,765
)
 
1,146,550

Proceeds from issuance of long-term borrowings
 
200,000

 

Repayment of long-term borrowings
 
(142,000
)
 
(200,000
)
Cash dividends paid
 
(64,554
)
 
(58,504
)
Proceeds from directors’ stock plans and exercise of stock options, net of shares withheld
 
3,016

 
3,353

Cash paid for payroll taxes upon conversion of share-based awards
 
(4,782
)
 
(26,801
)
Net cash provided by financing activities
 
1,425,964

 
1,796,721

Net increase in cash and cash equivalents
 
208,772

 
234,809

Cash and cash equivalents at beginning of period
 
455,991

 
474,402

Cash and cash equivalents at end of period
 
$
664,763

 
$
709,211

 
 
 
 
 
Supplemental disclosures of cash flow information:
 
 
 
 
Interest paid
 
$
93,150

 
$
51,505

Net income tax payments
 
4,599

 
9,922

Non-cash activities:
 
 
 
 
Loans transferred to other real estate and repossessed assets
 
8,785

 
8,972

Net transfer of loans held-for-sale to loans held- for-investment
 
(1,928
)
 
(2,651
)
Closed branch offices transferred to other assets
 

 
1,634

 
 
 
 
 
Business combinations:
 
 
 
 
Fair value of tangible assets acquired (noncash)
 
$

 
$
420

Goodwill, loans servicing rights and other identifiable intangible assets acquired
 

 
1,034

Liabilities assumed
 

 
1,454

See accompanying notes to Consolidated Financial Statements (unaudited).

9


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018





Note 1: Basis of Presentation and Significant Accounting Policies

Nature of Operations

Chemical Financial Corporation ("Corporation" or "Chemical") operates in a single operating segment — commercial banking. The Corporation is a financial holding company, headquartered in Detroit, Michigan, that operates through one commercial bank, Chemical Bank. Chemical Bank operates within Michigan, Northeast Ohio and Northern Indiana as a Michigan state-chartered commercial bank. Chemical Bank operates through an internal organizational structure of six regional banking units and offers a full range of traditional banking and fiduciary products and services to the residents and business customers in the Corporation’s geographical market areas. The products and services offered by the regional banking units, through branch banking offices, are generally consistent throughout the Corporation, as is the pricing of those products and services. The marketing of products and services throughout the Corporation’s regional banking units is generally uniform, as many of the markets served by the regional banking units overlap. The distribution of products and services is generally uniform throughout the Corporation’s regional banking units and is achieved primarily through retail branch banking offices, automated teller machines and electronically accessed banking products.

The Corporation’s primary sources of revenue are interest from its loan products and investment securities, service charges and fees from customer deposit accounts, wealth management revenue and net gain on sale of loans and other mortgage banking revenue.

Basis of Presentation and Principles of Consolidation

The accompanying unaudited Consolidated Financial Statements of the Corporation and its subsidiaries have been prepared in accordance with United States ("U.S.") generally accepted accounting principles ("GAAP") for interim financial information and with instructions to Form 10-Q, Securities and Exchange Commission ("SEC") rules and interpretive releases and prevailing practices within the banking industry and Rule 10-01 of Regulation S-X. Accordingly, the interim Consolidated Financial Statements do not include all of the information and footnotes required by GAAP for complete financial statements and should be read in conjunction with the Corporation’s Consolidated Financial Statements and footnotes thereto included in the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2017. In the opinion of management, the accompanying unaudited interim Consolidated Financial Statements contain all adjustments believed necessary to present fairly the financial condition and results of operations of the Corporation for the periods presented. All significant income and expenses are recorded on the accrual basis. Intercompany accounts and transactions have been eliminated in preparing the Consolidated Financial Statements. Operating results for the nine months ended September 30, 2018 are not necessarily indicative of the results that may be expected for the year ending December 31, 2018.

Use of Estimates

Management makes estimates and assumptions that affect the amounts reported in the Consolidated Financial Statements and accompanying footnotes. Estimates that are particularly susceptible to significant change include the determination of the allowance for loan losses, expected cash flows from acquired loans, income taxes and the valuation of loan servicing rights. Actual results could differ from these estimates.

Reclassifications

Certain amounts appearing in the Consolidated Financial Statements and notes thereto for prior periods have been reclassified to conform to the current presentation. The reclassifications had no effect on net income or shareholders’ equity as previously reported, except in case of the cumulative effect adjustment of change in accounting policy as noted.

Recently Adopted Accounting Policy

Effective January 1, 2017, the Corporation elected to account for all loan servicing rights ("LSRs") previously accounted for under the lower of cost or fair value method under the fair value method. The guidance in Accounting Standards Codification Subtopic 860-50, "Transfers and Servicing-Servicing Assets and Liabilities" provides that an entity may make an irrevocable decision to subsequently measure a class of servicing assets and servicing liabilities at fair value at the beginning of any fiscal year. The guidance allows for the Corporation to apply this election prospectively to all new and existing servicing assets and

10


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




servicing liabilities. Management believes this election will provide more comparable results to peers as many of those within our industry group account for loan servicing rights under the fair value method. The change in accounting policy in the first quarter of 2017 resulted in a cumulative adjustment to increase retained earnings in the amount of $3.7 million, net of taxes.

Recently Adopted Accounting Principles
Standard
Description
Adoption Date
Effect on the financial statements
ASU No. 2017-08, Receivables-Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities ("ASU 2017-08")

ASU 2017-08 reduces the amortization period for certain callable debt securities that are held at a premium to the earliest call date. Debt securities held at a discount will continue to be amortized as a yield adjustment over the life of the instrument.
April 1, 2017
The early adoption in the second quarter of 2017 did not have a material impact on the Consolidated Financial Statements.
ASU No. 2018-02, Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income ("ASU 2018-02")

ASU 2018-02 required deferred tax liabilities and assets to be adjusted for the effect of a change in tax laws or rate with the effect included in income from continuing operations in the reporting period that includes the enactment date.
Fourth quarter of 2017
The early adoption in the fourth quarter of 2017 resulted in a $4.5 million reclassification from accumulated other comprehensive income to retained earnings related to the income tax effects of the Tax Cuts and Jobs Act.

ASU No. 2014-09 - Revenue from Contracts with Customers (Topic 606)
ASU No. 2016-08 - Principal versus Agent Considerations
ASU No. 2016-10 - Identifying Performance Obligations and Licensing
ASU No. 2016-12,
Narrow-scope Improvements and Practical Expedients ("Updates to Topic 606")

The core principle of the Updates to Topic 606 is that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The standard is intended to clarify and converge the revenue recognition principles under GAAP and International Financial Reporting Standards and to streamline revenue recognition requirements in addition to expanding required revenue recognition disclosures.
January 1, 2018 under the modified retrospective method
A large majority of the Corporation's revenue is derived from net interest income, which is excluded from the scope of the guidance. Following detailed review of the Corporation's revenue streams not derived from net interest income on financial assets and liabilities, management identified the recognition of gains from other real estate sales financed by the Corporation to be in the scope of this amended guidance. Effective January 1, 2018, revenue for new seller financed other real estate owned sales will be determined according to the Updates to Topic 606. If all qualifications are met, gains associated with the sales will be recognized into income at the time of closing and therefore not deferred. The cumulative effect of the Updates to Topic 606 increased retained earnings by $1.2 million upon adoption. The comparative information has not been restated and continues to be reported under the accounting standards in effect for those periods. Additional required disclosures have been included in Note 13, Revenue from Contracts with Customers. The adoption is not expected to have a material impact on the Corporation's net income on an ongoing basis. Refer to Note 5, Other Real Estate Owned and Repossessed Assets, for further detail.

11


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




Standard
Description
Adoption Date
Effect on the financial statements
ASU No. 2016-01 - Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities ("ASU 2016-01")
ASU 2016-01 amended current guidance by: (i) requiring equity investments with readily determinable fair values to be measured at fair value with changes in fair value recognized in net income, (ii) allowing an entity to measure equity investments that do not have readily determinable fair values at either fair value or cost minus impairment, changes in measurement is recognized in net income, (iii) simplifying impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment, (iv) eliminating the requirement to disclose the methods and assumptions used to estimate the fair value of financial instruments measured at amortized cost; (v) requiring the use of exit price notion when measuring the fair value of financial instruments; (vi) requiring recognition of changes in the fair value related to instrument-specific credit risk in other comprehensive income if financial liabilities are measured at fair value, (vii) requiring separate presentation in financial statements by measurement category, and (viii) clarifying that an entity should evaluate the need for valuation allowance on deferred tax assets related to available-for-sale securities in combination with the entity’s other deferred tax assets.
January 1, 2018 using a modified retrospective approach with the exception of disclosure requirements which are adopted on a prospective basis
The Corporation identified available-for-sale investment securities qualifying as equity investments in the securities portfolio at January 1, 2018. The adoption resulted in recognizing the unrealized fair value related to the identified equity investments as a cumulative effect to retained earnings of $0.3 million. In addition, the Corporation has updated disclosures related to the fair value of financial instruments to the use of the exit price notion. Refer to Note 2, Fair Value Measurements and Note 3, Investment Securities, for further detail.
ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts as Cash Payments ("ASU 2016-15")
2016-15 was issued to reduce diversity in practice and prevent financial statement restatements. Cash flow issues include: debt prepayment or debt extinguishment costs, settlement of insurance claims, proceeds from the settlement of corporate-owned and bank-owned life insurance policies, distribution received from equity method investees, beneficial interests in securitization transactions and separately identifiable cash flows and application of the predominance principle.

January 1, 2018 using retrospective application
The adoption did not have a material effect on the presentation of our Consolidated Statements of Cash Flows, as current policies are either already in-line with the clarifications in the updated guidance, or the related cash flows are not material.
ASU No. 2017-07 - Compensation - Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost ("ASU 2017-07")
ASU 2017-07 improves the income statement presentation of net periodic benefit cost for an entity's pension and postretirement plans. The standard requires employers to disaggregate current service costs from other components of net benefit cost and present it with other compensation cost. Additionally net benefit cost becomes eligible for capitalization.
January 1, 2018 using the retrospective transition method
The adoption resulted in a reclassification of $31 thousand and $0.7 million of net periodic income from salaries, wages and employee benefits expense to other expenses on the Consolidated Statements of Income during the three and nine months ended September 30, 2017, respectively.
ASU No. 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvement to Account for Hedging Activities ("ASU 2017-12")
ASU 2017-12 eliminates the separate measurement of hedge ineffectiveness as well as the benchmark interest rate concept when applying hedge risk to variable-rate instruments. It also allows a company to elect to perform subsequent effectiveness assessments qualitatively if the initial quantitative hedge effectiveness assessment is found to be highly effective.
January 1, 2018
The early adoption resulted in a cumulative adjustment from opening retained earnings to accumulated other comprehensive income of $3 thousand, which represented all previously recognized hedge ineffectiveness.
ASU No. 2018-15 - Intangible-Goodwill and Other-Internal-Use Software (Subtopic 350-40): Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract ("ASU 2018-15")
ASU 2018-15 clarifies the accounting treatment for implementation costs for hosting arrangements that are service contracts. The amendments in this update align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal use software in accordance with subtopic 350-40. Under this guidance costs for implementation activities during the development stage shall be capitalized. The said capitalized-costs shall be expensed over the term of the hosting arrangement.
Third quarter of 2018 applied retrospectively
The early adoption in the third quarter did not have a material effect on the Consolidated Financial Statements.
    

12


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




Effective during the nine months ended 2018, the Corporation also adopted the following standards, none of which had a material impact to the Corporation's financial statements or financial statement disclosures:
Standard
 
Effective Date
2016-04
Liabilities—Extinguishments of Liabilities (Subtopic 405-20): Recognition of Breakage for Certain Prepaid Stored-Value Products
 
January 1, 2018
2016-16
Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory
 
January 1, 2018
2016-18
Statement of Cash Flows (Topic 230): Restricted Cash
 
January 1, 2018
2017-01
Business Combinations (Topic 805): Clarifying the Definition of a Business
 
January 1, 2018
2017-05
Other Income - Gains and Losses from the Derecognition of Nonfinancial Assets
 
January 1, 2018
2017-09
Compensation-Stock Compensation (Topic 718): Scope of Modification Accounting
 
January 1, 2018
Note 2: Fair Value Measurements
Fair value, as defined by GAAP, is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability. The price in the principal (or most advantageous) market used to measure the fair value of the asset or liability is not adjusted for transaction costs. An orderly transaction is a transaction that assumes exposure to the market for a period prior to the measurement date to allow for market activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii) knowledgeable, (iii) able to transact and (iv) willing to transact.
The Corporation utilizes fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. Investment securities — carried at fair value, loans held-for-sale, loan servicing rights and derivatives are recorded at fair value on a recurring basis. Additionally, the Corporation may be required to record other assets, such as impaired loans, goodwill, other intangible assets, other real estate and repossessed assets, at fair value on a nonrecurring basis. These nonrecurring fair value adjustments typically involve the application of lower of cost or market accounting or write-downs of individual assets.
The Corporation determines the fair value of its financial instruments based on a three-level hierarchy established by GAAP. The classification and disclosure of assets and liabilities within the hierarchy is based on whether the inputs to the valuation methodology used for measurement are observable or unobservable. Observable inputs reflect market-derived or market-based information obtained from independent sources, while unobservable inputs reflect management’s estimates about market data. The three levels of inputs that may be used to measure fair value within the GAAP hierarchy are as follows:
Level 1
Valuation is based upon quoted prices for identical instruments traded in active markets.
Level 2
Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market. Level 2 valuations for the Corporation include government and government-sponsored agency securities, including securities issued by the Federal Home Loan Bank ("FHLB"), Federal Home Loan Mortgage Corporation, Federal National Mortgage Association, Federal Farm Credit Bank, Student Loan Marketing Corporation and the Small Business Administration, securities issued by certain state and political subdivisions, residential mortgage-backed securities, collateralized mortgage obligations, corporate bonds, preferred stock and available-for-sale trust preferred securities. Valuations are obtained from a third-party pricing service for these investment securities. Additionally included in Level 2 valuations are loans held for sale and derivative assets and liabilities.
Level 3
Valuation is generated from model-based techniques that use at least one significant assumption not observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques include use of option pricing models, discounted cash flow models, yield curves and similar techniques. The determination of fair value requires management judgment or estimation and generally is corroborated by external data, which includes third-party pricing services. Level 3 valuations for the Corporation include impaired loans, goodwill, core deposit intangible assets, non-compete intangible assets, LSRs and other real estate and repossessed assets.

13


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018





A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below. These valuation methodologies were applied to all of the Corporation’s financial assets and financial liabilities carried at fair value and all financial instruments disclosed at fair value. Transfers of assets or liabilities between levels of the fair value hierarchy are recognized at the beginning of the reporting period, when applicable.

In general, fair value is based upon quoted market prices, where available. If quoted market prices are not available, fair value is based upon third-party pricing services when available. Fair value may also be based on internally developed models that primarily use, as inputs, observable market-based parameters. Valuation adjustments may be required to record financial instruments at fair value. Any such valuation adjustments are applied consistently over time. The Corporation's valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values.

While management believes the Corporation’s valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date. Furthermore, the fair value amounts may change significantly after the date of the statement of financial position from the amounts reported in the Consolidated Financial Statements and related notes.

Assets and Liabilities Recorded at Fair Value on a Recurring Basis

Investment securities: Investment securities are recorded at fair value on a recurring basis with the exception of those classified as held-to-maturity. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are generally measured using independent pricing models or other model-based valuation techniques that include market inputs, such as benchmark yields, reported trades, broker dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data and industry and economic events.

Loans held-for-sale: The Corporation has elected the fair value option for all loans held-for-sale. Accordingly, loans held-for-sale are recorded at fair value on a recurring basis. The fair values of loans held-for-sale are based on the market price for similar loans sold in the secondary market, and therefore, are classified as Level 2 valuations.

Loan servicing rights: The Corporation has elected to account for all LSRs under the fair value measurement method. A third party valuation model is used to determine the fair value at the end of each reporting period utilizing a discounted cash flow analysis using interest rates and prepayment speed assumptions currently quoted for comparable instruments and a discount rate determined by management.  Because of the nature of the valuation inputs, the Corporation classifies loan servicing rights as Level 3. Refer to Note 7, "Loan Servicing Rights," for the assumptions included in the valuation of loan servicing rights.

Derivatives: The Corporation enters into interest rate lock commitments with prospective borrowers to be sold into the secondary market and forward commitments for the future delivery of mortgage loans to third party investors, which are carried at fair value on a recurring basis. The fair value of these commitments is based on the fair value of related mortgage loans determined using observable market data. Interest rate lock commitments are adjusted for expectations of exercise and funding. This adjustment is not considered to be a material input. The Corporation classifies interest rate lock commitments and forward contracts related to mortgage loans to be delivered for sale as recurring Level 2.
 
Derivative instruments held or issued for risk management or customer-initiated activities are traded in over-the counter markets where quoted market prices are not readily available. Fair value for over-the-counter derivative instruments is measured on a recurring basis using third party models that use primarily market observable inputs, such as yield curves and option volatilities. The fair value for these derivatives may include a credit valuation adjustment that is determined by applying a credit spread for the counterparty or the Corporation, as appropriate, to the total expected exposure of the derivative after considering collateral and other master netting arrangements. These adjustments, which are considered Level 3 inputs, are based on estimates of current credit spreads to evaluate the likelihood of default. The Corporation assessed the significance of the impact of the credit valuation adjustments on the overall valuation of its derivative positions at both September 30, 2018 and December 31, 2017 and it was determined that the credit valuation adjustments were not significant to the overall valuation of its derivatives. As a result, the Corporation classifies its risk management interest rate swaps designated as cash flow hedges and customer-initiated derivatives valuations in Level 2 of the fair value hierarchy.


14


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




Foreign exchange forward and option contracts are entered into primarily to accommodate the needs of the customer. These derivatives are not designated as hedging. Fair value of foreign exchange forward and option contracts are measured on a recurring basis using third party models that use primarily market observable inputs, such as yield curves and option volatilities. The Corporation classifies its foreign exchange forward and option contracts in Level 2 of the fair value hierarchy.

Written and purchased option derivatives consist of instruments to facilitate an equity-linked time deposit product (the "Power Equity CD"). The Power Equity CD is a time deposit that provides the purchaser a guaranteed return of principal at maturity plus a potential equity return, while the Corporation receives a known stream of funds based on equity returns. The written and purchased options are mirror derivative instruments which are carried at fair value on the Consolidated Statements of Financial Position. Fair value measurements for the Power Equity CD are determined using quoted prices of underlying stocks, along with other terms and features of the derivative instrument. As a result, the Power Equity CD derivatives are classified as Level 2 valuations.


15


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




Disclosure of Recurring Basis Fair Value Measurements

For assets and liabilities measured at fair value on a recurring basis, quantitative disclosures about the fair value measurements for each major category of assets and liabilities follow:
(Dollars in thousands)
Quoted Prices In Active Markets for Identical Assets
(Level 1)
 
Significant Other
Observable Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Total
September 30, 2018
 
 
 
 
 
 
 
Investment securities – carried at fair value:
 
 
 
 
 
 
 
Government and government-sponsored agencies
$

 
$
254,453

 
$

 
$
254,453

State and political subdivisions

 
491,909

 

 
491,909

Residential mortgage-backed securities

 
177,021

 

 
177,021

Collateralized mortgage obligations

 
1,477,818

 

 
1,477,818

Corporate bonds

 
287,405

 

 
287,405

Trust preferred securities

 
48,274

 

 
48,274

Total investment securities – carried at fair value

 
2,736,880

 

 
2,736,880

Loans held-for-sale

 
93,736

 

 
93,736

Loan servicing rights

 

 
72,707

 
72,707

Derivative assets:
 
 
 
 
 
 
 
Customer-initiated derivatives

 
21,390

 

 
21,390

Foreign exchange forwards

 
3

 

 
3

Forward contracts related to mortgage loans to be delivered for sale

 
760

 

 
760

Interest rate lock commitments

 
1,081

 

 
1,081

Power Equity CD

 
1,260

 

 
1,260

Risk management derivatives

 
21,067

 

 
21,067

Total derivatives

 
45,561

 

 
45,561

Total assets at fair value
$

 
$
2,876,177

 
$
72,707

 
$
2,948,884

Derivative liabilities:
 
 
 
 
 
 
 
Customer-initiated derivatives
$

 
$
21,703

 
$

 
$
21,703

Foreign exchange forwards

 
3

 

 
3

Power Equity CD

 
1,260

 

 
1,260

Total derivatives

 
22,966

 

 
22,966

Total liabilities at fair value
$

 
$
22,966

 
$

 
$
22,966

December 31, 2017
 
 
 
 
 
 
 
Investment securities – available-for-sale:
 
 
 
 
 
 
 
Government and government-sponsored agencies
$

 
$
202,916

 
$

 
$
202,916

State and political subdivisions

 
345,970

 

 
345,970

Residential mortgage-backed securities

 
150,131

 

 
150,131

Collateralized mortgage obligations

 
1,033,845

 

 
1,033,845

Corporate bonds

 
192,794

 

 
192,794

Trust preferred securities

 
36,066

 

 
36,066

Preferred stock

 
1,824

 

 
1,824

Total investment securities – available-for-sale

 
1,963,546

 

 
1,963,546

Loans held-for-sale

 
52,133

 

 
52,133

Loan servicing rights

 

 
63,841

 
63,841

Derivative assets:
 
 
 
 
 
 
 
Customer-initiated derivatives

 
9,376

 

 
9,376

Interest rate lock commitments

 
1,222

 

 
1,222

Power Equity CD

 
2,184

 

 
2,184

Risk management derivatives

 
5,899

 

 
5,899

Total derivatives

 
18,681

 

 
18,681

Total assets at fair value
$

 
$
2,034,360

 
$
63,841

 
$
2,098,201

Derivative liabilities:
 
 
 
 
 
 
 
Customer-initiated derivatives
$

 
$
10,139

 
$

 
$
10,139

Forward contracts related to mortgage loans to be delivered for sale

 
34

 

 
34

Power Equity CD

 
2,184

 

 
2,184

Total derivatives

 
12,357

 

 
12,357

Total liabilities at fair value
$

 
$
12,357

 
$

 
$
12,357


16


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




    
There were no transfers between levels within the fair value hierarchy during the nine months ended September 30, 2018 and 2017.
The following table summarizes the changes in Level 3 assets measured at fair value on a recurring basis.
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
(Dollars in thousands)
Loan servicing rights
Balance, beginning of period
$
70,364

 
$
64,522

 
$
63,841

 
$
48,085

Transfer in based on new accounting policy election(1)

 

 

 
15,891

Gains (losses):
 
 
 
 
 
 
 
Recorded in earnings (realized):
 
 
 
 
 
 
 
Recorded in "Net gain on sale of loans and other mortgage banking revenue"
257

 
(4,651
)
 
2,529

 
(8,242
)
New originations
2,086

 
2,324

 
6,337

 
6,461

Balance, end of period
$
72,707


$
62,195


$
72,707


$
62,195

(1) 
Refer to Note 1, Basis of Presentation and Significant Accounting Policies, for further details.

The Corporation has elected the fair value option for loans held-for-sale. These loans are intended for sale and the Corporation believes that the fair value is the best indicator of the resolution of these loans. Interest income is recorded based on the contractual terms of the loans in accordance with the Corporation's policy on loans held for investment in "Interest and fees on loans" in the Consolidated Statements of Income. There were no loans held-for-sale on nonaccrual status or 90 days past due and on accrual status as of September 30, 2018 and December 31, 2017.
 
The aggregate fair value, contractual balance (including accrued interest), and gain or loss for loans held-for-sale carried at fair value option was as follows:
(Dollars in thousands)
 
September 30, 2018
 
December 31, 2017
Aggregate fair value
 
$
93,736

 
$
52,133

Contractual balance
 
91,839

 
50,597

Unrealized gain (loss)
 
1,897

 
1,536

 
The total amount of gains (losses) from loans held-for-sale included in the Consolidated Statements of Income were as follows:
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(Dollars in thousands)
 
2018
 
2017
 
2018
 
2017
Interest income(1)
 
$
849

 
$
810

 
$
1,670

 
$
1,824

Change in fair value(2)
 
577

 
614

 
361

 
2,002

Net gain on sales of loans(2)
 
4,241

 
6,512

 
9,772

 
26,537

Total included in earnings
 
$
5,667

 
$
7,936

 
$
11,803

 
$
30,363

(1) 
Included in "Interest and fees on loans" in the Consolidated Statements of Income.
(2) 
Included in "Net gain on sale of loans and other mortgage banking revenue" in the Consolidated Statements of Income.

Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis

Investment securities: Investment securities classified as held-to-maturity are recorded at fair value if the value is below amortized cost and the Corporation has determined that such unrealized loss is an other-than-temporary impairment. Fair value measurement is based upon quoted prices, if available. If quoted prices are not available, fair values are generally measured using independent pricing models or other model-based valuation techniques that include market inputs, such as benchmark yields,

17


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




reported trades, broker dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, reference data and industry and economic events.
    
Impaired Loans: The Corporation does not record loans held for investment at fair value on a recurring basis. However, from time to time, a loan is considered impaired and an allocation of the allowance (valuation allowance) may be established or a portion of the loan is charged off. Loans for which it is probable that payment of interest and principal will not be made in accordance with the contractual terms of the loan agreement are considered impaired. The fair value of impaired loans is estimated using one of several methods, including the loan’s observable market price, the fair value of the collateral or the present value of the expected future cash flows discounted at the loan’s effective interest rate. Those impaired loans not requiring a valuation allowance represent loans for which the fair value of the expected repayments or collateral exceed the remaining carrying amount of such loans. Impaired loans where a valuation allowance is established or a portion of the loan is charged off based on the fair value of collateral are subject to nonrecurring fair value measurement and require classification in the fair value hierarchy. The Corporation records impaired loans as Level 3 valuations as there is generally no observable market price or management determines the fair value of the collateral is further impaired below the independent appraised value. When management determines the fair value of the collateral is further impaired below appraised value, discounts ranging between 20% and 30% of the appraised value are used depending on the nature of the collateral and the age of the most recent appraisal.

Goodwill: Goodwill is subject to impairment testing on an annual basis. The assessment of goodwill for impairment requires a significant degree of judgment. In the event the assessment indicates that it is more-likely-than-not that the fair value is less than the carrying value, the asset is considered impaired and recorded at fair value. Goodwill that is impaired and subject to nonrecurring fair value measurements is a Level 3 valuation. At September 30, 2018 and December 31, 2017, no goodwill was impaired.
Other intangible assets: Other intangible assets consist of core deposit intangible assets and non-compete intangible assets. These items are recorded at fair value when initially recorded. Subsequently, core deposit intangible assets and non-compete intangible assets are amortized primarily on an accelerated basis over periods ranging from ten to fifteen years for core deposit intangible assets and one year for non-compete intangible assets and are subject to impairment testing whenever events or changes in circumstances indicate that the carrying amount exceeds the fair value of the asset. If core deposit intangible asset or non-compete intangible asset impairment is identified, the Corporation classifies impaired core deposit intangible assets and impaired non-compete intangible assets subject to nonrecurring fair value measurements as Level 3 valuations. At September 30, 2018 and December 31, 2017, there was no impairment identified for core deposit intangible assets or non-compete intangible assets.
Other real estate owned and repossessed assets: The carrying amounts for other real estate and repossessed assets are reported in the Consolidated Statements of Financial Position under "Interest receivable and other assets." Other real estate and repossessed assets include real estate and other types of assets repossessed by the Corporation. Other real estate and repossessed assets are recorded at the lower of cost or fair value upon the transfer of a loan to other real estate and repossessed assets and, subsequently, continue to be measured and carried at the lower of cost or fair value. Fair value is based upon independent market prices, appraised values of the property or management’s estimation of the value of the property. The Corporation records other real estate and repossessed assets as Level 3 valuations as management generally determines that the fair value of the property is impaired below the appraised value. When management determines the fair value of the property is further impaired below appraised value, discounts ranging between 20% and 30% of the appraised value are used depending on the nature of the property and the age of the most recent appraisal.

18


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




Disclosure of Nonrecurring Basis Fair Value Measurements
Certain assets may be required to be measured at fair value on a nonrecurring basis. The carrying value of these assets represent end of period values, which approximate the fair value measurements that occurred on the various measurement dates during the period. For assets measured at fair value on a nonrecurring basis, quantitative disclosures about fair value measurements for each major category of assets follows:
(Dollars in thousands)
 
Significant Unobservable
Inputs (Level 3)
September 30, 2018
 
 
Impaired loans
 
$
73,137

Other real estate and repossessed assets
 
1,843

Total
 
$
74,980

December 31, 2017
 
 
Impaired loans
 
$
70,619

Other real estate and repossessed assets
 
2,899

Total
 
$
73,518

There were no liabilities recorded at fair value on a nonrecurring basis at either September 30, 2018 or December 31, 2017.
The following table presents additional information about the significant unobservable inputs used in the fair value measurement of financial assets measured on a nonrecurring basis that were categorized within the Level 3 of the fair value hierarchy:
(Dollars in thousands)
 
Fair Value at
September 30, 2018
 
Valuation Technique
 
Significant Unobservable Inputs
 
Range
Impaired loans
 
$
73,137

 
Appraisal of collateral
 
Discount for type of collateral and age of appraisal
 
20%-30%
Other real estate and repossessed assets
 
1,843

 
Appraisal of property
 
Discount for type of property and age of appraisal
 
20%-30%
Disclosures about Fair Value of Financial Instruments
GAAP requires disclosures about the estimated fair value of the Corporation's financial instruments, including those financial assets and liabilities that are not measured and reported at fair value on a recurring or nonrecurring basis. The Corporation utilized the fair value hierarchy in computing the fair values of its financial instruments. In cases where quoted market prices were not available, the Corporation employed the exit-price notion following the adoption of ASU 2016-01 on January 1, 2018 and used the present value method prior to the adoption of ASU 2016-01, using unobservable inputs requiring management's judgment to estimate the fair values of its financial instruments, which are considered Level 3 valuations. These Level 3 valuations are affected by the assumptions made and, accordingly, are not necessarily indicative of amounts that would be realized in a current market exchange. It is also the Corporation's general practice and intent to hold the majority of its financial instruments until maturity and, therefore, the Corporation does not expect to realize the estimated amounts disclosed.

19


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




A summary of carrying amounts and estimated fair values of the Corporation’s financial instruments not recorded at fair value in their entirety on a recurring basis on the Consolidated Statements of Financial Position are disclosed in the table below.
 
Level in Fair Value Measurement
Hierarchy
 
September 30, 2018
 
December 31, 2017
(Dollars in thousands)
 
Carrying
Amount
 
Fair
Value
 
Carrying
Amount
 
Fair
Value
Financial assets:
 
 
 
 
 
 
 
 
 
Investment securities:
 
 
 
 
 
 
 
 
 
Held-to-maturity
Level 2
 
$
607,867

 
$
597,747

 
$
676,593

 
$
662,516

Held-to-maturity
Level 3
 
500

 
450

 
500

 
390

Net loans(1)
Level 3
 
14,692,211

 
14,301,208

 
14,063,380

 
14,114,545

Financial liabilities:
 
 
 
 
 
 
 
 
 
Time deposits
Level 2
 
$
3,865,489

 
$
3,827,695

 
$
3,217,207

 
$
3,225,847

Collateralized customer deposits
Level 2
 
377,471

 
376,969

 
415,236

 
415,236

Short-term borrowings
Level 2
 
1,670,000

 
1,669,662

 
2,000,000

 
1,999,137

Long-term borrowings
Level 2
 
430,971

 
426,105

 
372,882

 
367,984

(1) 
Included $73.1 million and $70.6 million of impaired loans recorded at fair value on a nonrecurring basis at September 30, 2018 and December 31, 2017, respectively.

The short-term nature of certain assets and liabilities result in their carrying value approximating fair value. These include cash and cash equivalents, nonmarketable equity securities, interest receivable, bank owned life insurance, deposits without defined maturities and interest payable.



20


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




Note 3: Investment Securities
The following is a summary of the amortized cost and fair value of investment securities carried at fair value and investment securities held-to-maturity at September 30, 2018 and December 31, 2017:
 
 
Investment Securities Carried at Fair Value
(Dollars in thousands)
 
Amortized
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair
Value
September 30, 2018
 
 
 
 
 
 
 
 
Debt securities
 
 
 
 
 
 
 
 
Government and government-sponsored agencies
 
$
258,643

 
$
14

 
$
4,204

 
$
254,453

State and political subdivisions
 
506,277

 
187

 
14,555

 
491,909

Residential mortgage-backed securities
 
182,983

 
6

 
5,968

 
177,021

Collateralized mortgage obligations
 
1,517,172

 

 
39,354

 
1,477,818

Corporate bonds
 
293,828

 
485

 
6,908

 
287,405

Trust preferred securities
 
47,378

 
1,004

 
108

 
48,274

Total
 
$
2,806,281

 
$
1,696

 
$
71,097

 
$
2,736,880

December 31, 2017
 
 
 
 
 
 
 
 
Debt securities
 
 
 
 
 
 
 
 
Government and government-sponsored agencies
 
$
203,099

 
$
765

 
$
948

 
$
202,916

State and political subdivisions
 
350,088

 
310

 
4,428

 
345,970

Residential mortgage-backed securities
 
151,752

 
5

 
1,626

 
150,131

Collateralized mortgage obligations
 
1,042,240

 
89

 
8,484

 
1,033,845

Corporate bonds
 
193,230

 
1,156

 
1,592

 
192,794

Trust preferred securities
 
34,848

 
1,280

 
62

 
36,066

Total debt securities available-for-sale
 
1,975,257

 
3,605

 
17,140

 
1,961,722

Equity securities
 
 
 
 
 
 
 
 
Preferred stock
 
1,389

 
435

 

 
1,824

Total equity securities
 
1,389

 
435

 

 
1,824

Total
 
$
1,976,646

 
$
4,040

 
$
17,140

 
$
1,963,546


 
 
Investment Securities Held-to-Maturity
(Dollars in thousands)
 
Amortized
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair
Value
September 30, 2018
 
 
 
 
 
 
 
 
State and political subdivisions
 
$
607,867

 
$
1,917

 
$
12,037

 
$
597,747

Trust preferred securities
 
500

 

 
50

 
450

Total
 
$
608,367

 
$
1,917

 
$
12,087

 
$
598,197

December 31, 2017
 
 
 
 
 
 
 
 
State and political subdivisions
 
$
676,593

 
$
3,856

 
$
17,933

 
$
662,516

Trust preferred securities
 
500

 

 
110

 
390

Total
 
$
677,093

 
$
3,856

 
$
18,043

 
$
662,906


Investment securities are classified at the time they are acquired as either available-for-sale, held-to-maturity or carried at fair value based upon various factors, including asset/liability management strategies, liquidity and profitability objectives and regulatory requirements. Debt securities classified as available-for-sale and equity securities are recorded at fair value. Investment securities carried at fair value may be sold prior to maturity based upon asset/liability management decisions. Unrealized gains or losses on available-for-sale debt securities are recorded as part of accumulated other comprehensive income in stockholders’ equity. Unrealized gains or losses on equity securities were recorded as part of accumulated other comprehensive income in stockholders' equity through December 31, 2017. Effective January 1, 2018, the amendments within ASU 2016-01, require that equity investments be measured at fair value with changes in fair value recognized in net income. At January 1, 2018, the

21


Chemical Financial Corporation
Notes to Consolidated Financial Statements (Unaudited)
September 30, 2018




Corporation's equity securities consisted of $1.8 million in preferred stocks. The Corporation recognized a cumulative effect adjustment in the amount of $344 thousand as of January 1, 2018 to reclassify the fair value position into retained earnings. Beginning January 1, 2018, the fair value changes on equity securities are recognized in net income, rather than in accumulated other comprehensive income. The Corporation sold its remaining position in equity securities during the second quarter of 2018. Held-to-maturity securities are carried at amortized cost, adjusted for amortization of premiums or accretion of discounts.

The majority of the Corporation’s residential mortgage-backed securities and collateralized mortgage obligations are backed by a U.S. government agency (Government National Mortgage Association) or a government sponsored enterprise (Federal Home Loan Mortgage Corporation or Federal National Mortgage Association).

Proceeds from sales of investment securities carried at fair value and the associated gains and losses recorded in earnings are listed below:
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(Dollars in thousands)
 
2018
 
2017
 
2018
 
2017
Proceeds
 
$

 
$
7,035

 
$
4,215

 
$
17,085

Gross gains
 

 
1

 
42

 
168

Gross losses
 

 

 
(39
)
 


The following is a summary of the amortized cost and fair value of investment securities at September 30, 2018, by maturity, for both carried at fair value and held-to-maturity. The maturities of residential mortgage-backed securities and collateralized mortgage obligations are based on scheduled principal payments. The maturities of all other debt securities are based on final contractual maturity.
 
 
September 30, 2018
(Dollars in thousands)
 
Amortized
Cost
 
Fair Value
Investment Securities Carried at Fair Value:
 
 
 
 
Due in one year or less
 
$
32,586

 
$
32,424

Due after one year through five years
 
121,421

 
119,478

Due after five years through ten years
 
455,582

 
443,027

Due after ten years
 
2,196,692

 
2,141,951

Total
 
$
2,806,281

 
$
2,736,880

Investment Securities Held-to-Maturity:
 
 
 
 
Due in one year or less
 
$
57,403

 
$
57,248