Edgar Filing: WASHINGTON TRUST BANCORP INC

Document

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)



x	Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended SEPTEMBER 30, 2018 or



o	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from ______ to ______.

Commission file number: 001-32991

WASHINGTON TRUST BANCORP, INC.

(Exact name of registrant as specified in its charter)



RHODE ISLAND		05-0404671
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)



23 BROAD STREET
WESTERLY, RHODE ISLAND		02891
(Address of principal executive offices)		(Zip Code)

(401) 348-1200

(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. x Yes o No

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). x Yes o No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Mark one)



Large accelerated filer x		Accelerated filer o
Non-accelerated filer o		Smaller reporting company o
(Do not check if a smaller reporting company)		Emerging growth company o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised 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).

o Yes x No

The number of shares of common stock of the registrant outstanding as of October 31, 2018 was 17,294,570.



FORM 10-Q
WASHINGTON TRUST BANCORP, INC. AND SUBSIDIARIES
For the Quarter Ended September 30, 2018

TABLE OF CONTENTS
	Page Number
	Page Number
PART I. Financial Information
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets as of September 30, 2018 and December 31, 2017	3
Consolidated Statements of Income for the three and nine months ended September 30, 2018 and 2017	4
Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2018 and 2017	5
Consolidated Statements of Changes in Shareholders’ Equity for the nine months ended September 30, 2018 and 2017	6
Consolidated Statements of Cash Flows for the nine months ended September 30, 2018 and 2017	7
Condensed Notes to Unaudited Consolidated Financial Statements	8
(1) General Information	8
(2) Recently Issued Accounting Pronouncements	8
(3) Cash and Due from Banks	11
(4) Securities	11
(5) Loans	14
(6) Allowance for Loan Losses	21
(7) Borrowings	24
(8) Shareholders’ Equity	25
(9) Derivative Financial Instruments	26
(10) Balance Sheet Offsetting	29
(11) Fair Value Measurements	30
(12) Revenue from Contracts with Customers	36
(13) Defined Benefit Pension Plans	39
(14) Share-Based Compensation Arrangements	40
(15) Business Segments	40
(16) Other Comprehensive Income (Loss)	42
(17) Earnings Per Common Share	44
(18) Commitments and Contingencies	45
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations	47
Item 3. Quantitative and Qualitative Disclosures About Market Risk	76
Item 4. Controls and Procedures	76
PART II. Other Information
Item 1. Legal Proceedings	77
Item 1A. Risk Factors	77
Item 6. Exhibits	77
Signatures	78
Exhibit Index	79

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PART I. Financial Information

Item 1. Financial Statements



Washington Trust Bancorp, Inc. and Subsidiaries
Consolidated Balance Sheets (unaudited)	(Dollars in thousands, except par value)



	September 30, 2018			December 31, 2017
Assets:
Cash and due from banks		$72,934			$79,853
Short-term investments	2,917			3,070
Mortgage loans held for sale, at fair value	22,571			26,943
Securities:
Available for sale, at fair value	812,647			780,954
Held to maturity, at amortized cost (fair value $10,657 at September 30, 2018 and $12,721 at December 31, 2017)	10,863			12,541
Total securities	823,510			793,495
Federal Home Loan Bank stock, at cost	44,525			40,517
Loans:
Total loans	3,556,203			3,374,071
Less allowance for loan losses	26,509			26,488
Net loans	3,529,694			3,347,583
Premises and equipment, net	28,195			28,333
Investment in bank-owned life insurance	79,891			73,267
Goodwill	63,909			63,909
Identifiable intangible assets, net	8,400			9,140
Other assets	94,126			63,740
Total assets		$4,770,672			$4,529,850
Liabilities:
Deposits:
Noninterest-bearing deposits		$611,829			$578,410
Interest-bearing deposits	2,802,519			2,664,297
Total deposits	3,414,348			3,242,707
Federal Home Loan Bank advances	828,392			791,356
Junior subordinated debentures	22,681			22,681
Other liabilities	77,342			59,822
Total liabilities	4,342,763			4,116,566
Commitments and contingencies (Note 18)
Shareholders’ Equity:
Common stock of $.0625 par value; authorized 60,000,000 shares; issued and outstanding 17,290,443 shares at September 30, 2018 and 17,226,508 shares at December 31, 2017	1,081			1,077
Paid-in capital	119,220			117,961
Retained earnings	346,685			317,756
Accumulated other comprehensive loss	(39,077		)	(23,510		)
Total shareholders’ equity	427,909			413,284
Total liabilities and shareholders’ equity		$4,770,672			$4,529,850

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

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Washington Trust Bancorp, Inc. and Subsidiaries
Consolidated Statements of Income (unaudited)	(Dollars and shares in thousands, except per share amounts)



		Three Months				Nine Months
Periods ended September 30,		2018		2017		2018		2017
Interest income:
Interest and fees on loans			$38,877		$32,509		$110,556		$94,503
Taxable interest on securities		5,383		4,655		15,859		14,208
Nontaxable interest on securities		9		41		52		225
Dividends on Federal Home Loan Bank stock		634		467		1,700		1,293
Other interest income		261		197		723		457
Total interest and dividend income		45,164		37,869		128,890		110,686
Interest expense:
Deposits		6,546		3,835		16,222		10,928
Federal Home Loan Bank advances		4,937		3,816		13,627		10,669
Junior subordinated debentures		232		159		629		446
Other interest expense		—		—		—		1
Total interest expense		11,715		7,810		30,478		22,044
Net interest income		33,449		30,059		98,412		88,642
Provision for loan losses		350		1,300		750		2,400
Net interest income after provision for loan losses		33,099		28,759		97,662		86,242
Noninterest income:
Wealth management revenues		9,454		10,013		29,329		29,432
Mortgage banking revenues		2,624		3,036		8,403		8,295
Service charges on deposit accounts		885		942		2,651		2,726
Card interchange fees		983		894		2,791		2,598
Income from bank-owned life insurance		572		546		1,624		1,624
Loan related derivative income		278		1,452		1,087		2,744
Other income		419		400		1,066		1,180
Total noninterest income		15,215		17,283		46,951		48,599
Noninterest expense:
Salaries and employee benefits		17,283		17,362		52,359		51,697
Outsourced services		1,951		1,793		6,174		4,960
Net occupancy		2,013		1,928		5,945		5,662
Equipment		1,080		1,380		3,329		4,160
Legal, audit and professional fees		559		534		1,840		1,732
FDIC deposit insurance costs		410		308		1,236		1,258
Advertising and promotion		440		416		946		1,015
Amortization of intangibles		245		253		740		787
Change in fair value of contingent consideration		—		—		—		(310		)
Other expenses		2,081		2,780		6,911		7,385
Total noninterest expense		26,062		26,754		79,480		78,346
Income before income taxes		22,252		19,288		65,133		56,495
Income tax expense		4,741		6,326		13,737		18,552
Net income			$17,511		$12,962		$51,396		$37,943

Weighted average common shares outstanding - basic		17,283		17,212		17,263		17,201
Weighted average common shares outstanding - diluted		17,382		17,318		17,392		17,320
Per share information:	Basic earnings per common share		$1.01		$0.75		$2.97		$2.20
	Diluted earnings per common share		$1.01		$0.75		$2.95		$2.19
	Cash dividends declared per share		$0.43		$0.39		$1.29		$1.15

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

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Washington Trust Bancorp, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income (unaudited)	(Dollars in thousands)



	Three Months						Nine Months
Periods ended September 30,	2018			2017			2018			2017
Net income		$17,511			$12,962			$51,396			$37,943
Other comprehensive income (loss), net of tax:
Net change in fair value of securities available for sale	(4,531		)	1,094			(18,057		)	3,323
Net change in fair value of cash flow hedges	155			(13		)	1,409			(364		)
Net change in defined benefit plan obligations	361			217			1,081			427
Total other comprehensive (loss) income, net of tax	(4,015		)	1,298			(15,567		)	3,386
Total comprehensive income		$13,496			$14,260			$35,829			$41,329

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

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Washington Trust Bancorp, Inc. and Subsidiaries
Consolidated Statements of Changes in Shareholders' Equity (unaudited)	(Dollars and shares in thousands)



	Common Shares Outstanding	Common Stock		Paid-in Capital			Retained Earnings			Accumulated Other Comprehensive Loss			Total
Balance at January 1, 2018	17,227		$1,077		$117,961			$317,756			($23,510	)		$413,284
Net income	—	—		—			51,396			—			51,396
Total other comprehensive loss, net of tax	—	—		—			—			(15,567		)	(15,567		)
Cash dividends declared	—	—		—			(22,467		)	—			(22,467		)
Share-based compensation	—	—		1,977			—			—			1,977
Exercise of stock options, issuance of other compensation-related equity awards	63	4		(718		)	—			—			(714		)
Balance at September 30, 2018	17,290		$1,081		$119,220			$346,685			($39,077	)		$427,909



	Common Shares Outstanding	Common Stock		Paid-in Capital		Retained Earnings			Accumulated Other Comprehensive (Loss) Income			Total
Balance at January 1, 2017	17,171		$1,073		$115,123		$294,365			($19,757	)		$390,804
Net income	—	—		—		37,943			—			37,943
Total other comprehensive income, net of tax	—	—		—		—			3,386			3,386
Cash dividends declared	—	—		—		(19,974		)	—			(19,974		)
Share-based compensation	—	—		1,872		—			—			1,872
Exercise of stock options, issuance of other compensation-related equity awards	43	3		194		—			—			197
Balance at September 30, 2017	17,214		$1,076		$117,189		$312,334			($16,371	)		$414,228

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

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Washington Trust Bancorp, Inc. and Subsidiaries
Consolidated Statement of Cash Flows (unaudited)	(Dollars in thousands)



Nine months ended September 30,		2018			2017
Cash flows from operating activities:
Net income			$51,396			$37,943
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses		750			2,400
Depreciation of premises and equipment		2,454			2,613
Net amortization of premiums and discounts on securities and loans		2,157			2,560
Amortization of intangibles		740			787
Goodwill impairment		—			150
Share-based compensation		1,977			1,872
Tax benefit from stock option exercises and other equity awards		454			414
Income from bank-owned life insurance		(1,624		)	(1,624		)
Net gains on loan sales and commissions on loans originated for others, including fair value adjustments		(7,950		)	(8,004		)
Proceeds from sales of loans		306,095			345,539
Loans originated for sale		(296,367		)	(337,772		)
Change in fair value of contingent consideration liability		—			(310		)
Increase in other assets		(20,903		)	(9,548		)
Increase in other liabilities		19,256			6,537
Net cash provided by operating activities		58,435			43,557
Cash flows from investing activities:
Purchases of:	Mortgage-backed securities available for sale	(96,867		)	(35,213		)
	Other investment securities available for sale	(30,964		)	(19,963		)
Maturities and principal payments of:	Mortgage-backed securities available for sale	63,918			62,745
	Other investment securities available for sale	6,795			21,269
	Mortgage-backed securities held to maturity	1,603			2,283
(Purchases) remittance of Federal Home Loan Bank stock		(4,008		)	956
Net increase in loans		(181,853		)	(88,914		)
Purchases of loans		(1,750		)	(737		)
Proceeds from the sale of property acquired through foreclosure or repossession		49			513
Purchases of premises and equipment		(2,320		)	(2,184		)
Purchases of bank-owned life insurance		(5,000		)	—
Net cash used in investing activities		(250,397		)	(59,245		)
Cash flows from financing activities:
Net increase in deposits		171,641			93,329
Proceeds from Federal Home Loan Bank advances		1,462,500			1,000,000
Repayment of Federal Home Loan Bank advances		(1,425,464		)	(1,034,885		)
Payment of contingent consideration liability		(1,217		)	—
Net proceeds from stock option exercises and issuance of other equity awards		(714		)	194
Cash dividends paid		(21,856		)	(19,567		)
Net cash provided by financing activities		184,890			39,071
Net (decrease) increase in cash and cash equivalents		(7,072		)	23,383
Cash and cash equivalents at beginning of period		82,923			107,797
Cash and cash equivalents at end of period			$75,851			$131,180



Noncash Investing and Financing Activities:
Loans charged off		$889		$1,415
Loans transferred to property acquired through foreclosure or repossession	3,074		576
Supplemental Disclosures:
Interest payments		$28,596		$21,512
Income tax payments	12,585		19,272

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

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Condensed Notes to Unaudited Consolidated Financial Statements

(1) General Information

Washington Trust Bancorp, Inc. (the “Bancorp”) is a publicly-owned registered bank holding company that has elected to be a financial holding company. The Bancorp’s subsidiaries include The Washington Trust Company, of Westerly (the “Bank”), a Rhode Island chartered commercial bank founded in 1800, and Weston Securities Corporation (“WSC”). Through its subsidiaries, the Bancorp offers a comprehensive product line of banking and financial services, including commercial, residential and consumer lending, retail and commercial deposit products, and wealth management services through its offices in Rhode Island, eastern Massachusetts and Connecticut; its automated teller machines (“ATMs”); telephone banking; mobile banking and its internet website (www.washtrust.com).

The Unaudited Consolidated Financial Statements include the accounts of the Bancorp and its subsidiaries (collectively the “Corporation” or “Washington Trust”). All intercompany transactions have been eliminated. Certain previously reported amounts have been reclassified to conform to the current year’s presentation.

The accounting and reporting policies of the Corporation conform to accounting principles generally accepted in the United States of America (“GAAP”) and to general practices of the banking industry. In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ from those estimates.

The Unaudited Consolidated Financial Statements of the Corporation presented herein have been prepared pursuant to the rules of the Securities and Exchange Commission (“SEC”) for quarterly reports on Form 10-Q and do not include all of the information and note disclosures required by GAAP. In the opinion of management, all adjustments (consisting of normal recurring adjustments) and disclosures considered necessary for the fair presentation of the accompanying Unaudited Consolidated Financial Statements have been included. Interim results are not necessarily reflective of the results of the entire year. The accompanying Unaudited Consolidated Financial Statements should be read in conjunction with the Audited Consolidated Financial Statements and notes thereto included in the Annual Report on Form 10-K for the fiscal year ended December 31, 2017.

(2) Recently Issued Accounting Pronouncements

Revenue from Contracts with Customers - Topic 606

Accounting Standards Update No. 2014-09, “Revenue from Contracts with Customers” (“ASU 2014-09”), was issued in May 2014 and provides a revenue recognition framework for any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of non-financial assets unless those contracts are within the scope of other accounting standards. As issued, ASU 2014-09 was effective for annual periods beginning after December 15, 2016, including interim periods within that reporting period with early adoption not permitted. The standard permits the use of either the retrospective or cumulative effect transition method. In August 2015, Accounting Standards Update No. 2015-14, “Deferral of the Effective Date” (“ASU 2015-14”) was issued and delayed the effective date of ASU 2014-09 to annual and interim periods in fiscal years beginning after December 15, 2017. In 2016, Accounting Standards Update No. 2016-08, “Principal versus Agent Considerations” (“ASU 2016-08”), Accounting Standards Update No. 2016-10, “Identifying Performance Obligations and Licensing” (“ASU 2016-10”) and Accounting Standards Update No. 2016-12, “Narrow-Scope Improvements and Practical Expedients” (“ASU 2016-12”) were issued. These ASUs did not change the core principle for revenue recognition in Topic 606; instead, the amendments provided more detailed guidance in a few areas and additional implementation guidance and examples to reduce the degree of judgment necessary to comply with Topic 606. The effective date and transition requirements for ASU 2016-08, ASU 2016-10 and ASU 2016-12 were the same as those provided by ASU 2015-14. Management assembled a project team to address the changes pursuant to Topic 606. The project team completed a scope assessment and contract review for in-scope revenue streams. Washington Trust's largest source of revenue is net interest income on financial assets and liabilities, which was explicitly excluded from the scope of this ASU. Revenue streams that were within the scope of Topic 606 include wealth management revenues, service charges on deposit accounts and card interchange fees. Management adopted the provisions of ASU 2014-09 effective January 1, 2018, using the modified retrospective transition method. The adoption did not have a material impact on the Corporation’s consolidated financial statements. See Note 12 for further details.

Financial Instruments - Overall - Topic 825

Accounting Standards Update No. 2016-01, “Recognition and Measurement of Financial Assets and Financial Liabilities” (“ASU 2016-01”), was issued in January 2016 and provides revised guidance related to the accounting for and reporting of financial instruments. Some of the main provisions include: requiring most equity securities to be reported at fair value with unrealized gains and losses reported in the income statement; requiring separate presentation of financial assets and liabilities by

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Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

measurement category and form (i.e. securities or loans); clarifying that entities must assess valuation allowances on a deferred tax asset related to available for sale debt securities in combination with their other deferred tax assets; and eliminating the requirement to disclose the method and significant assumptions used to estimate fair value for financial instruments measured at amortized cost on the balance sheet. ASU 2016-01 was effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2017. Management adopted the provisions of ASU 2016-01 effective January 1, 2018. The adoption did not have a material impact on the Corporation’s consolidated financial statements.

Accounting Standards Update No. 2018-03, “Technical Corrections and Improvements to Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities” (“ASU 2018-03”), was issued in February 2018 to clarify certain aspects of the guidance issued in ASU 2016-01. Companies, such as Washington Trust, were not required to adopt the provisions of ASU 2018-03 until the interim period beginning after June 15, 2018. However, early adoption was permitted, as long as ASU 2016-01 provisions were adopted. Management early adopted the provisions of ASU 2018-03 effective January 1, 2018. The adoption did not have an impact on the Corporation’s consolidated financial statements.

Leases - Topic 842

Accounting Standards Update No. 2016-02, “Leases” (“ASU 2016-02”), was issued in February 2016 and provides revised guidance related to the accounting and reporting of leases. ASU 2016-02 requires lessees to recognize most leases on the balance sheet. The recognition, measurement and presentation of expenses and cash flows arising from a lease by a lessee will depend on its classification as a finance or operating lease. ASU 2016-02 requires a modified retrospective transition, with a number of practical expedients that entities may elect to apply. In January 2018, Accounting Standards Update No. 2018-01, “Leases (Topic 842): Land Easement Practical Expedient for Transition to Topic 842 (“ASU 2018-01”) was issued to address concerns about the costs and complexity of complying with the transition provisions of ASU 2016-02. In July 2018, Accounting Standards Update No. 2018-10, “Codification Improvements to Topic 842, Leases” (“ASU 2018-10”) was issued to provide more detailed guidance and additional clarification for implementing ASU 2016-02. Also in July 2018, Accounting Standards Update No. 2018-11, “Targeted Improvements” (“ASU 2018-11”) was issued and allows for an optional transition method in which the provisions of Topic 842 would be applied upon the adoption date and would not have to be retroactively applied to the earliest reporting period presented in the consolidated financial statements. The Corporation intends to use this optional transition method for the adoption of Topic 842. These ASUs are effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2018. Management assembled a project team that meets regularly to address the changes pursuant to Topic 842. The Corporation rents premises used in business operations under non-cancelable operating leases, which currently are not reflected in its Consolidated Balance Sheets. As disclosed in Note 18, the Corporation was committed to $36.6 million of future minimum lease payments under these non-cancelable operating leases. Upon adoption of ASU 2016-02 on January 1, 2019, the Corporation expects to report increased assets and liabilities as a result of recognizing right-of-use assets and lease liabilities in its Consolidated Balance Sheets. The Corporation does not expect a material change to the timing of expense recognition in the Consolidated Statements of Income.

Financial Instruments - Credit Losses - Topic 326

Accounting Standards Update No. 2016-13, “Financial Instruments - Credit Losses” (“ASU 2016-13”), was issued in June 2016. ASU 2016-13 requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts and requires enhanced disclosures related to the significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. In addition, ASU 2016-13 amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. ASU 2016-13 provides for a modified retrospective transition, resulting in a cumulative-effect adjustment to equity as of the beginning of the period in which the guidance is effective, except for debt securities for which an other-than-temporary impairment has previously been recognized. For these debt securities, a prospective transition approach will be adopted in order to maintain the same amortized cost prior to and subsequent to the effective date of ASU 2016-13. This ASU is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2019, with early adoption permitted in 2019. Washington Trust is evaluating the effect that this ASU will have on consolidated financial statements and disclosures. Management assembled a project team that meets regularly to evaluate the provisions of this ASU, to address the additional data requirements necessary and to determine the approach for implementation. The Corporation does not plan to early adopt ASU 2016-13 and it has not yet determined the impact it will have on its consolidated financial statements.

Statement of Cash Flows - Topic 230

Accounting Standards Update No. 2016-15, “Classification of Certain Cash Receipts and Cash Payments” (“ASU 2016-15”), was issued in August 2016. ASU 2016-15 provides classification guidance on certain cash receipts and cash payments, including,

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Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

but not limited to, debt prepayment costs, contingent consideration payments made after a business combination, proceeds from the settlement of insurance claims, proceeds from the settlement of bank-owned life insurance policies and distributions received from equity method investees. The adoption of ASU 2016-15 requires a retrospective transition method applied to each period presented. This ASU was effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2017. Management adopted the provisions of ASU 2016-15 effective January 1, 2018. The adoption did not have a material impact on the Corporation’s consolidated financial statements.

Accounting Standards Update No. 2016-18, “Restricted Cash” (“ASU 2016-18”), was issued in November 2016. ASU 2016-18 requires that a statement of cash flows explain the change during the period in the total of cash, cash equivalents and amounts generally described as restricted cash. Restricted cash should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The adoption of ASU 2016-18 requires a retrospective transition method applied to each period presented. This ASU was effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2017. Management adopted the provisions of ASU 2016-18 effective January 1, 2018. The adoption did not have a material impact on the Corporation’s consolidated financial statements.

Compensation - Retirement Benefits - Topic 715

Accounting Standards Update No. 2017-07, “Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost” (“ASU 2017-07”), was issued in March 2017. ASU 2017-07 requires that employers include the service cost component of net periodic benefit cost in the same line item as other employee compensation costs and all other components of net periodic benefit cost in a separate line item(s) in the statement of income. In addition, the line item in which the components of net periodic benefit cost other than the service cost are included shall be identified as such on the statement of income or in the notes to the financial statements. ASU 2017-07 was effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2017 requiring retrospective application for all periods presented. Management adopted the provisions of ASU 2017-07 effective January 1, 2018, utilizing the practical expedient that permitted employers to use the amounts previously disclosed in notes to financial statements as an estimation basis for applying the retrospective application requirements. The adoption of ASU 2017-07 resulted in an increase in salaries and employee benefits, a decrease in other expenses and no change to net income. The adoption did not have a material impact on the Corporation’s consolidated financial statements. See Note 13 for further details.

Accounting Standards Update No. 2018-14, “Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefit Plans” (“ASU 2018-14”), was issued in August 2018 to modify the disclosure requirements associated with defined benefit pension plans and other postretirement plans. ASU 2018-13 is effective for fiscal years ending after December 15, 2020, with early adoption permitted. The provisions under ASU 2018-13 are required to be applied retrospectively. The adoption of ASU 2018-14 is not expected to have a material impact on the Corporation’s consolidated financial statements.

Compensation - Stock Compensation - Topic 718

Accounting Standards Update No. 2017-09, “Scope of Modification Accounting” (“ASU 2017-09”), was issued in May 2017 to provide clarity when applying the guidance in Topic 718 to a change to the terms or conditions of a share-based payment award. ASU 2017-09 was effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2017 with provisions applied on a prospective basis. Management adopted the provisions of ASU 2017-09 effective January 1, 2018. The adoption did not have a material impact on the Corporation’s consolidated financial statements.

Derivatives and Hedging - Topic 815

Accounting Standards Update No. 2017-12, “Targeted Improvements to Accounting for Hedging Activities” (“ASU 2017-12”), was issued in August 2017 to better align financial reporting for hedging activities with the economic objectives of those activities. ASU 2017-12 is effective for fiscal years beginning after December 15, 2018, with early adoption, including adoption in an interim period, permitted. The provisions of ASU 2017-12 should be applied on a modified retrospective transition method in which the Corporation will recognize the cumulative effect of the change in the opening balance of retained earnings as of the adoption date. The Corporation has not yet determined the impact ASU 2017-12 will have on its consolidated financial statements.

Fair Value Measurement - Topic 820

Accounting Standards Update No. 2018-13, “Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement” (“ASU 2018-13”), was issued in August 2018 to modify the disclosure requirements related to fair value. ASU 2018-13 is effective for fiscal years beginning after December 15, 2019, with early adoption permitted, including adoption in an interim period. Certain provisions under ASU 2018-13 require prospective application, while other provisions require

- 10-

Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

retrospective application to all periods presented in the consolidated financial statements upon adoption. The adoption of ASU 2018-13 is not expected to have a material impact on the Corporation’s consolidated financial statements.

Intangibles - Goodwill and Other - Internal-Use Software - Topic 350

Accounting Standards Update No. 2018-15, “Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement that is a Service Contract” (“ASU 2018-15”), was issued in August 2018 to align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with those requirements that currently exist in GAAP for capitalizing implementation costs incurred to develop or obtain internal-use software. Implementation costs would either be capitalized or expensed as incurred depending on the project stage. All costs in the preliminary and post-implementation project stages are expensed as incurred, while certain costs within the application development stage are capitalized. ASU 2018-15 is effective for fiscal years beginning after December 15, 2019, with early adoption permitted, including adoption in an interim period. The adoption of ASU 2018-15 is not expected to have a material impact on the Corporation’s consolidated financial statements.

(3) Cash and Due from Banks

The Bank maintains certain average reserve balances to meet the requirements of the Board of Governors of the Federal Reserve System (“FRB”). Some or all of these reserve requirements may be satisfied with vault cash. Reserve balances amounted to $20.7 million at September 30, 2018 and $14.1 million at December 31, 2017 and were included in cash and due from banks in the Unaudited Consolidated Balance Sheets.

As of September 30, 2018 and December 31, 2017, cash and due from banks included interest-bearing deposits in other banks of $20.8 million and $31.9 million, respectively.

(4) Securities

The following tables present the amortized cost, gross unrealized holding gains, gross unrealized holding losses and fair value of securities by major security type and class of security:



(Dollars in thousands)
September 30, 2018	Amortized Cost		Unrealized Gains		Unrealized Losses			Fair Value
Securities Available for Sale:
Obligations of U.S. government-sponsored enterprises		$201,398		$9		($7,934	)		$193,473
Mortgage-backed securities issued by U.S. government agencies and U.S. government-sponsored enterprises	616,552		1,143		(24,833		)	592,862
Obligations of states and political subdivisions	935		2		—			937
Individual name issuer trust preferred debt securities	13,303		—		(839		)	12,464
Corporate bonds	13,911		—		(1,000		)	12,911
Total securities available for sale		$846,099		$1,154		($34,606	)		$812,647
Held to Maturity:
Mortgage-backed securities issued by U.S. government agencies and U.S. government-sponsored enterprises		$10,863		$—		($206	)		$10,657
Total securities held to maturity		$10,863		$—		($206	)		$10,657
Total securities		$856,962		$1,154		($34,812	)		$823,304

- 11-

Condensed Notes to Unaudited Consolidated Financial Statements – (continued)



(Dollars in thousands)
December 31, 2017	Amortized Cost		Unrealized Gains		Unrealized Losses			Fair Value
Securities Available for Sale:
Obligations of U.S. government-sponsored enterprises		$161,479		$—		($3,875	)		$157,604
Mortgage-backed securities issued by U.S. government agencies and U.S. government-sponsored enterprises	594,944		3,671		(7,733		)	590,882
Obligations of states and political subdivisions	2,355		4		—			2,359
Individual name issuer trust preferred debt securities	18,106		—		(1,122		)	16,984
Corporate bonds	13,917		13		(805		)	13,125
Total securities available for sale		$790,801		$3,688		($13,535	)		$780,954
Held to Maturity:
Mortgage-backed securities issued by U.S. government agencies and U.S. government-sponsored enterprises		$12,541		$180		$—			$12,721
Total securities held to maturity		$12,541		$180		$—			$12,721
Total securities		$803,342		$3,868		($13,535	)		$793,675

As of September 30, 2018 and December 31, 2017, securities with a fair value of $356.5 million and $357.8 million, respectively, were pledged as collateral for Federal Home Loan Bank of Boston (“FHLB”) borrowings, potential borrowings with the FRB, certain public deposits and for other purposes. See Note 7 for additional disclosure on FHLB borrowings.

The schedule of maturities of debt securities available for sale and held to maturity is presented below. Mortgage-backed securities are included based on weighted average maturities, adjusted for anticipated prepayments. All other debt securities are included based on contractual maturities. Actual maturities may differ from amounts presented because certain issuers have the right to call or prepay obligations with or without call or prepayment penalties.



(Dollars in thousands)	Available for Sale				Held to Maturity
September 30, 2018	Amortized Cost		Fair Value		Amortized Cost		Fair Value
Due in one year or less		$64,023		$61,577		$1,370		$1,344
Due after one year to five years	314,353		302,124		4,529		4,443
Due after five years to ten years	278,106		266,878		3,709		3,639
Due after ten years	189,617		182,068		1,255		1,231
Total securities		$846,099		$812,647		$10,863		$10,657

Included in the above table are debt securities with an amortized cost balance of $228.6 million and a fair value of $218.9 million at September 30, 2018 that are callable at the discretion of the issuers. Final maturities of the callable securities range from 8 months to 18 years, with call features ranging from 1 month to 3 years.

Other-Than-Temporary Impairment Assessment

Washington Trust assesses whether the decline in fair value of investment securities is other-than-temporary on a regular basis. Unrealized losses on debt securities may occur from current market conditions, increases in interest rates since the time of purchase, a structural change in an investment, volatility of earnings of a specific issuer, or deterioration in credit quality of the issuer. Management evaluates impairments in value both qualitatively and quantitatively to assess whether they are other-than-temporary.

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Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

The following tables summarize temporarily impaired securities, segregated by length of time the securities have been in a continuous unrealized loss position:



(Dollars in thousands)	Less than 12 Months						12 Months or Longer						Total
September 30, 2018	#	Fair Value		Unrealized Losses			#	Fair Value		Unrealized Losses			#	Fair Value		Unrealized Losses
Obligations of U.S. government-sponsored enterprises	8		$77,958		($2,040	)	11		$105,606		($5,894	)	19		$183,564		($7,934	)
Mortgage-backed securities issued by U.S. government agencies and U.S. government-sponsored enterprises	37	235,900		(6,567		)	34	304,937		(18,472		)	71	540,837		(25,039		)
Individual name issuer trust preferred debt securities	—	—		—			5	12,464		(839		)	5	12,464		(839		)
Corporate bonds	4	1,706		(13		)	5	11,205		(987		)	9	12,911		(1,000		)
Total temporarily impaired securities	49		$315,564		($8,620	)	55		$434,212		($26,192	)	104		$749,776		($34,812	)



(Dollars in thousands)	Less than 12 Months						12 Months or Longer						Total
December 31, 2017	#	Fair Value		Unrealized Losses			#	Fair Value		Unrealized Losses			#	Fair Value		Unrealized Losses
Obligations of U.S. government-sponsored enterprises	8		$69,681		($798	)	8		$87,923		($3,077	)	16		$157,604		($3,875	)
Mortgage-backed securities issued by U.S. government agencies and U.S. government-sponsored enterprises	20	128,965		(613		)	22	279,693		(7,120		)	42	408,658		(7,733		)
Individual name issuer trust preferred debt securities	—	—		—			7	16,984		(1,122		)	7	16,984		(1,122		)
Corporate bonds	3	921		(5		)	3	10,980		(800		)	6	11,901		(805		)
Total temporarily impaired securities	31		$199,567		($1,416	)	40		$395,580		($12,119	)	71		$595,147		($13,535	)

Further deterioration in credit quality of the underlying issuers of the securities, deterioration in the condition of the financial services industry, worsening of the current economic environment, or additional declines in real estate values, among other things, may further affect the fair value of these securities and increase the potential that certain unrealized losses be designated as other-than-temporary in future periods, and the Corporation may incur write-downs.

U.S. Government Agency and U.S. Government-Sponsored Enterprise Securities, including Mortgage-Backed Securities

The gross unrealized losses on U.S. government agency and U.S government-sponsored debt securities, including mortgage-backed securities, were primarily attributable to relative changes in interest rates since the time of purchase. The contractual cash flows for these securities are guaranteed by U.S. government agencies and U.S. government-sponsored enterprises. Management believes that the unrealized losses on these debt security holdings are a function of changes in investment spreads and interest rate movements and not changes in credit quality. Management expects to recover the entire amortized cost basis of these securities. Furthermore, Washington Trust does not intend to sell these securities and it is not more-likely-than-not that Washington Trust will be required to sell these securities before recovery of their cost basis, which may be maturity. Therefore, management does not consider these investments to be other-than-temporarily impaired at September 30, 2018.

Trust Preferred Debt Securities of Individual Name Issuers

Included in debt securities in an unrealized loss position at September 30, 2018 were five trust preferred securities issued by four individual companies in the banking sector. Management believes the unrealized losses on these holdings were attributable to the general widening of spreads for this category of debt securities issued by financial services companies since the time these securities were purchased. Based on the information available through the filing date of this report, all individual name issuer trust preferred debt securities held in our portfolio continue to accrue interest and make payments as expected with no payment deferrals or defaults on the part of the issuers. As of September 30, 2018, individual name issuer trust preferred debt securities with an amortized cost of $6.1 million and unrealized losses of $411 thousand were rated below investment grade by Standard & Poors, Inc. (“S&P”). Management reviewed the collectibility of these securities taking into consideration such factors as the financial condition of the issuers, reported regulatory capital ratios of the issuers, credit ratings, including ratings in effect as of

- 13-

Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

the reporting period date as well as credit rating changes between the reporting period date and the filing date of this report, and other information. We noted no additional downgrades to below investment grade between September 30, 2018 and the filing date of this report. Based on this review, management concluded that it expects to recover the entire amortized cost basis of these securities. Furthermore, Washington Trust does not intend to sell these securities and it is not more-likely-than-not that Washington Trust will be required to sell these securities before recovery of their cost basis, which may be maturity. Therefore, management does not consider these investments to be other-than-temporarily impaired at September 30, 2018.

Corporate Bonds

At September 30, 2018, Washington Trust had nine corporate bond holdings with unrealized losses totaling $1.0 million. These investment grade corporate bonds were issued by large corporations, primarily in the financial services industry. Management believes the unrealized losses on these bonds are a function of the changes in the investment spreads and interest rate movements and not changes in the credit quality of the issuers of the debt securities. Management expects to recover the entire amortized cost basis of these securities. Furthermore, Washington Trust does not intend to sell these securities and it is not more-likely-than-not that Washington Trust will be required to sell these securities before recovery of their cost basis, which may be maturity. Therefore, management does not consider these investments to be other-than-temporarily impaired at September 30, 2018.

(5) Loans

The following is a summary of loans:



(Dollars in thousands)	September 30, 2018				December 31, 2017
	Amount		%		Amount		%
Commercial:
Commercial real estate (1)		$1,240,350	35	%		$1,210,495	36	%
Commercial & industrial (2)	656,882		18		612,334		18
Total commercial	1,897,232		53		1,822,829		54
Residential Real Estate:
Residential real estate (3)	1,349,340		38		1,227,248		36
Consumer:
Home equity	282,331		8		292,467		9
Other (4)	27,300		1		31,527		1
Total consumer	309,631		9		323,994		10
Total loans (5)		$3,556,203	100	%		$3,374,071	100	%


(1)	Commercial real estate loans consist of commercial mortgages primarily secured by income producing property, as well as construction and development loans. Construction and development loans are made to businesses for land development or the on-site construction of industrial, commercial, or residential buildings.


(2)	Commercial & industrial consist of loans to businesses and individuals, a substantial portion of which are fully or partially collateralized by real estate.


(3)	Residential real estate loans consist of mortgage and homeowner construction loans secured by one- to four- family residential properties.


(4)	Other consumer loans consists of loans to individuals secured by general aviation aircraft and other personal installment loans.


(5)	Includes net unamortized loan origination costs of $4.8 million and $3.8 million, respectively, at September 30, 2018 and December 31, 2017 and net unamortized premiums on purchased loans of $746 thousand and $878 thousand, respectively, at September 30, 2018 and December 31, 2017.

As of September 30, 2018 and December 31, 2017, there were $1.9 billion and $1.6 billion, respectively, of loans pledged as collateral to the FHLB under a blanket pledge agreement and to the FRB for the discount window. See Note 7 for additional disclosure regarding borrowings.

- 14-

Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

Past Due Loans

Past due status is based on the contractual payment terms of the loan. The following tables present an age analysis of past due loans, segregated by class of loans:



(Dollars in thousands)	Days Past Due
September 30, 2018	30-59		60-89		Over 90		Total Past Due		Current		Total Loans
Commercial:
Commercial real estate		$—		$931		$—		$931		$1,239,419		$1,240,350
Commercial & industrial	—		20		122		142		656,740		656,882
Total commercial	—		951		122		1,073		1,896,159		1,897,232
Residential Real Estate:
Residential real estate	5,322		2,936		1,140		9,398		1,339,942		1,349,340
Consumer:
Home equity	1,854		534		551		2,939		279,392		282,331
Other	109		—		—		109		27,191		27,300
Total consumer	1,963		534		551		3,048		306,583		309,631
Total loans		$7,285		$4,421		$1,813		$13,519		$3,542,684		$3,556,203



(Dollars in thousands)	Days Past Due
December 31, 2017	30-59		60-89		Over 90		Total Past Due		Current		Total Loans
Commercial:
Commercial real estate		$6		$—		$4,954		$4,960		$1,205,535		$1,210,495
Commercial & industrial	3,793		2		281		4,076		608,258		612,334
Total commercial	3,799		2		5,235		9,036		1,813,793		1,822,829
Residential Real Estate:
Residential real estate	1,678		2,274		3,903		7,855		1,219,393		1,227,248
Consumer:
Home equity	2,798		75		268		3,141		289,326		292,467
Other	29		—		14		43		31,484		31,527
Total consumer	2,827		75		282		3,184		320,810		323,994
Total loans		$8,304		$2,351		$9,420		$20,075		$3,353,996		$3,374,071

Included in past due loans as of September 30, 2018 and December 31, 2017, were nonaccrual loans of $6.4 million and $11.8 million, respectively.

All loans 90 days or more past due at September 30, 2018 and December 31, 2017 were classified as nonaccrual.

- 15-

Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

Impaired Loans

Impaired loans include nonaccrual loans and loans restructured in a troubled debt restructuring. The Corporation identifies loss allocations for impaired loans on an individual loan basis.

The following is a summary of impaired loans:



(Dollars in thousands)	Recorded Investment (1)				Unpaid Principal				Related Allowance
	Sep 30, 2018		Dec 31, 2017		Sep 30, 2018		Dec 31, 2017		Sep 30, 2018		Dec 31, 2017
No Related Allowance Recorded
Commercial:
Commercial real estate		$—		$—		$—		$—		$—		$—
Commercial & industrial	4,825		4,986		4,877		5,081		—		—
Total commercial	4,825		4,986		4,877		5,081		—		—
Residential Real Estate:
Residential real estate	8,737		9,069		8,896		9,256		—		—
Consumer:
Home equity	1,582		557		1,583		557		—		—
Other	—		14		—		14		—		—
Total consumer	1,582		571		1,583		571		—		—
Subtotal	15,144		14,626		15,356		14,908		—		—
With Related Allowance Recorded
Commercial:
Commercial real estate		$—		$4,954		$—		$9,910		$—		$1,018
Commercial & industrial	54		191		75		212		—		1
Total commercial	54		5,145		75		10,122		—		1,019
Residential Real Estate:
Residential real estate	692		715		722		741		101		104
Consumer:
Home equity	52		—		51		—		8		—
Other	23		133		23		132		3		6
Total consumer	75		133		74		132		11		6
Subtotal	821		5,993		871		10,995		112		1,129
Total impaired loans		$15,965		$20,619		$16,227		$25,903		$112		$1,129
Total:
Commercial		$4,879		$10,131		$4,952		$15,203		$—		$1,019
Residential real estate	9,429		9,784		9,618		9,997		101		104
Consumer	1,657		704		1,657		703		11		6
Total impaired loans		$15,965		$20,619		$16,227		$25,903		$112		$1,129

(1)

The recorded investment in impaired loans consists of unpaid principal balance, net of charge-offs, interest payments received applied to principal and unamortized deferred loan origination fees and costs. For accruing impaired loans (troubled debt restructurings for which management has concluded that the collectibility of the loan is not in doubt), the recorded investment also includes accrued interest.

- 16-

Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

The following tables present the average recorded investment balance of impaired loans and interest income recognized on impaired loans segregated by loan class.




(Dollars in thousands)	Average Recorded Investment				Interest Income Recognized
Three months ended September 30,	2018		2017		2018		2017
Commercial:
Commercial real estate		$—		$8,041		$—		$21
Commercial & industrial	5,324		6,427		62		67
Total commercial	5,324		14,468		62		88
Residential Real Estate:
Residential real estate	9,265		15,107		96		102
Consumer:
Home equity	1,424		543		22		5
Other	25		142		—		2
Total consumer	1,449		685		22		7
Totals		$16,038		$30,260		$180		$197




(Dollars in thousands)	Average Recorded Investment				Interest Income Recognized
Nine months ended September 30,	2018		2017		2018		2017
Commercial:
Commercial real estate		$1,352		$9,117		$—		$73
Commercial & industrial	5,599		6,750		201		219
Total commercial	6,951		15,867		201		292
Residential Real Estate:
Residential real estate	9,709		15,750		293		374
Consumer:
Home equity	1,045		734		41		25
Other	85		142		5		8
Total consumer	1,130		876		46		33
Totals		$17,790		$32,493		$540		$699

Nonaccrual Loans

Loans, with the exception of certain well-secured loans that are in the process of collection, are placed on nonaccrual status and interest recognition is suspended when such loans are 90 days or more overdue with respect to principal and/or interest, or sooner if considered appropriate by management. Well-secured loans are permitted to remain on accrual status provided that full collection of principal and interest is assured and the loan is in the process of collection. Loans are also placed on nonaccrual status when, in the opinion of management, full collection of principal and interest is doubtful. When loans are placed on nonaccrual status, interest previously accrued but not collected on such loans is reversed against current period income. Subsequent interest payments received on nonaccrual loans are applied to the outstanding principal balance of the loan or recognized as interest income depending on management’s assessment of the ultimate collectability of the loan. Loans are removed from nonaccrual status when they have been current as to principal and interest generally for a period of six months, the borrower has demonstrated an ability to comply with repayment terms, and when, in management’s opinion, the loans are considered to be fully collectible.

- 17-

Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

The following is a summary of nonaccrual loans, segregated by class of loans:



(Dollars in thousands)	Sep 30, 2018		Dec 31, 2017
Commercial:
Commercial real estate		$—		$4,954
Commercial & industrial	122		283
Total commercial	122		5,237
Residential Real Estate:
Residential real estate	9,063		9,414
Consumer:
Home equity	1,624		544
Other	—		16
Total consumer	1,624		560
Total nonaccrual loans		$10,809		$15,211
Accruing loans 90 days or more past due		$—		$—

As of September 30, 2018 and December 31, 2017, loans secured by one- to four-family residential property amounting to $816 thousand and $4.4 million, respectively, were in process of foreclosure.

Nonaccrual loans of $4.4 million and $3.4 million, respectively, were current as to the payment of principal and interest at September 30, 2018 and December 31, 2017.

There were no significant commitments to lend additional funds to borrowers whose loans were on nonaccrual status at September 30, 2018.

- 18-

Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

Troubled Debt Restructurings

Loans are considered restructured in a troubled debt restructuring when the Corporation has granted concessions, that it otherwise would not have considered, to a borrower experiencing financial difficulties. These concessions may include modifications of the terms of the debt such as deferral of payments, extension of maturity, reduction of principal balance, reduction of the stated interest rate other than normal market rate adjustments, or a combination of these concessions. Debt may be bifurcated with separate terms for each tranche of the restructured debt. Restructuring a loan in lieu of aggressively enforcing the collection of the loan may benefit the Corporation by increasing the ultimate probability of collection.

Restructured loans are classified as accruing or non-accruing based on management’s assessment of the collectibility of the loan. Loans that are already on nonaccrual status at the time of the restructuring generally remain on nonaccrual status for approximately 6 months before management considers such loans for return to accruing status. Accruing restructured loans are placed into nonaccrual status if and when the borrower fails to comply with the restructured terms and management deems it unlikely that the borrower will return to a status of compliance in the near term.

Troubled debt restructurings are reported as such for at least one year from the date of the restructuring. In years after the restructuring, troubled debt restructured loans are removed from this classification if the restructuring did not involve a below-market rate concession and the loan is not deemed to be impaired based on the terms specified in the restructuring agreement.

The recorded investment in troubled debt restructurings consists of unpaid principal balance, net of charge-offs and unamortized deferred loan origination fees and costs, at the time of the restructuring. For accruing troubled debt restructured loans, the recorded investment also includes accrued interest. The recorded investment in troubled debt restructurings was $5.7 million and $11.2 million, respectively, at September 30, 2018 and December 31, 2017. The allowance for loan losses included specific reserves for these troubled debt restructurings of $104 thousand and $1.1 million, respectively, at September 30, 2018 and December 31, 2017.

As of September 30, 2018, there were no significant commitments to lend additional funds to borrowers whose loans had been restructured.

For the three months ended September 30, 2018, there were no loans modified as a troubled debt restructuring. For the nine months ended September 30, 2018, there was one loan modified as a troubled debt restructuring with a pre-modification and post-modification recorded investment of $608 thousand. This troubled debt restructuring included a combination of concessions pertaining to maturity and interest only payment terms. There were no loans modified as a troubled debt restructuring for the three and nine months ended September 30, 2017.

For both the three and nine months ended September 30, 2018, payment defaults on troubled debt restructured loans modified within the previous 12 months occurred on one loan with a carrying value of $608 thousand at the time of default. For the three months ended September 30, 2017, there were no payment defaults on troubled debt restructured loans modified within the previous 12 months. For the nine months ended September 30, 2017, payment defaults on troubled debt restructured loans modified within the previous 12 months occurred on two loans with a total carrying value of $1.6 million at the time of default.

- 19-

Condensed Notes to Unaudited Consolidated Financial Statements – (continued)

Credit Quality Indicators

Commercial

The Corporation utilizes an internal rating system to assign a risk to each of its commercial loans. Loans are rated on a scale of 1 to 10. This scale can be assigned to three broad categories including “pass” for ratings 1 through 6, “special mention” for 7-rated loans, and “classified” for loans rated 8, 9 or 10. The loan rating system takes into consideration parameters including the borrower’s financial condition, the borrower’s performance with respect to loan terms, the adequacy of collateral, the adequacy of guarantees and other credit quality characteristics. The weighted average risk rating of the Corporation’s commercial loan portfolio was 4.74 at September 30, 2018 and 4.70 at December 31, 2017. For non-impaired loans, the Corporation takes the risk rating into consideration along with other credit attributes in the establishment of an appropriate allowance for loan losses. See Note 6 for additional information.

A description of the commercial loan categories is as follows:

Pass - Loans with acceptable credit quality, defined as ranging from superior or very strong to a status of lesser stature. Superior or very strong credit quality is characterized by a high degree of cash collateralization or strong balance sheet liquidity. Lesser stature loans have an acceptable level of credit quality but exhibit some weakness in various credit metrics such as collateral adequacy, cash flow, secondary sources of repayment, or performance inconsistency or may be in an industry or of a loan type known to have a higher degree of risk.

Special Mention - Loans with potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in the Bank’s position as creditor at some future date. Special Mention assets are not adversely classified and do not expose the Bank to sufficient risk to warrant adverse classification. Examples of these conditions include but are not limited to outdated or poor quality financial data, strains on liquidity and leverage, losses or negative trends in operating results, marginal cash flow, weaknesses in occupancy rates or trends in the case of commercial real estate and frequent delinquencies.

Classified - Loans identified as “substandard,” “doubtful” or “loss” based on criteria consistent with guidelines provided by banking regulators. A “substandard” loan has defined weaknesses which make payment default or principal exposure likely, but not yet certain. Such loans are apt to be dependent upon collateral liquidation, a secondary source of repayment or an event outside of the normal course of business. The loans are closely watched and are either already on nonaccrual status or may be placed on nonaccrual status when management determines there is uncertainty of collectibility. A “doubtful” loan is placed on nonaccrual status and has a high probability of loss, but the extent of the loss is difficult to quantify due to dependency upon collateral having a value that is difficult to determine or upon some near-term event which lacks certainty. A loan in the “loss” category is considered generally uncollectible or the timing or amount of payments cannot be determined. “Loss” is not intended to imply that the loan has no recovery value, but rather, it is not practical or desirable to continue to carry the asset.

The Corporation’s procedures call for loan ratings and classifications to be revised whenever information becomes available that indicates a change is warranted. On a quarterly basis, management reviews the criticized loan portfolio, which generally consists of commercial loans that are risk-rated special mention or worse, and other selected loans. Management’s review focuses on the current status of the loans and strategies to improve the credit. An annual loan review program is conducted by a third party to provide an independent evaluation of the creditworthiness of the commercial loan portfolio, the quality of the underwriting and credit risk management practices and the appropriateness of the risk rating classifications. This review is supplemented with selected targeted internal reviews of the commercial loan portfolio.

The following table presents the commercial loan portfolio, segregated by category of credit quality indicator:



(Dollars in thousands)	Pass		Special Mention		Classified
	Sep 30, 2018	Dec 31, 2017	Sep 30, 2018	Dec 31, 2017	Sep 30, 2018	Dec 31, 2017
Commercial:
Commercial real estate	1,235,579	1,205,381	1,065	—	3,706	5,114
Commercial & industrial	593,673	592,749	55,012	9,804	8,197