BNC Bancorp 10Q 2013 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

x Quarterly Report Pursuant to Section 13 or 15(d)

of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2013

¨ Transition Report Pursuant to Section 13 or 15(d)

of the Securities Exchange Act of 1934

For the transition period ended

Commission File Number 000-50128

BNC Bancorp

(Exact name of registrant as specified in its charter)

North Carolina		47-0898685
(State or other jurisdiction of		(I.R.S. Employer Identification No.)
incorporation or organization)

3980 Premier Drive
High Point, North Carolina		27265
(Address of principal executive offices)		(Zip Code)

Registrant's telephone number, including area code (336) 476-9200

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. Yesx No¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 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). Yesx 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” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer¨	Accelerated filerx

Non-accelerated filer ¨ (Do not check if a smaller reporting company)	Smaller reporting company¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes¨ Nox

As of November 7, 2013, the registrant had outstanding 26,569,311 shares of Common Stock, no par value.

BNC BANCORP AND SUBSIDIARIES

FORM 10-Q

INDEX

		Page No.

PART I.	FINANCIAL INFORMATION

Item 1.	Financial Statements (Unaudited)

	Consolidated Balance Sheets at September 30, 2013 and December 31, 2012	3

	Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2013 and 2012	4

	Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended September 30, 2013 and 2012	5

	Consolidated Statements of Shareholders’ Equity for the Nine Months Ended September 30, 2013 and 2012	6

	Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2013 and 2012	7

	Notes to Consolidated Financial Statements	8

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	38

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	50

Item 4.	Controls and Procedures	51

PART II.	OTHER INFORMATION

Item 1.	Legal Proceedings	51

Item 1A.	Risk Factors	51

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	51

Item 3.	Default Upon Senior Securities	51

Item 4	Mine Safety Disclosures	51

Item 5.	Other Information	51

Item 6.	Exhibits	51

SIGNATURES		52

EXHIBIT INDEX		53

BNC BANCORP AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except per share data)

	September 30,
	2013			December 31,
	(Unaudited)			2012
Assets
Cash and due from banks	$	39,901		$	42,989
Interest-earning deposits in other banks		28,982			191,082
Investment securities available-for-sale, at fair value		257,960			341,539
Investment securities held-to-maturity, at amortized cost (fair value of $232,221 and $118,235 at September 30, 2013 and December 31, 2012, respectively)		242,489			114,805
Federal Home Loan Bank stock, at cost		11,697			7,604
Loans held for sale		17,732			57,414
Loans:
Covered under loss-share agreements		201,799			248,930
Not covered under loss-share agreements		1,898,243			1,786,328
Less allowance for loan losses		(32,358	)		(40,292	)
Net loans		2,067,684			1,994,966
Accrued interest receivable		10,580			11,363
Premises and equipment, net		69,605			66,615
Other real estate owned:
Covered under loss-share agreements		18,401			23,102
Not covered under loss-share agreements		29,271			28,811
FDIC indemnification asset		32,042			53,519
Investment in bank-owned life insurance		72,556			70,756
Goodwill and other intangible assets, net		31,410			32,193
Other assets		38,399			47,030
Total assets	$	2,968,709		$	3,083,788

Liabilities and Shareholders' Equity
Deposits:
Non-interest bearing demand	$	299,670		$	275,605
Interest-bearing demand		1,172,512			1,221,089
Time deposits		963,679			1,159,615
Total deposits		2,435,861			2,656,309
Short-term borrowings		143,674			32,382
Long-term debt		112,880			88,173
Accrued expenses and other liabilities		18,501			24,680
Total liabilities		2,710,916			2,801,544

Shareholders' Equity:
Preferred stock, no par value, authorized 20,000,000 shares;
Series A, Fixed Rate Cumulative Perpetual Preferred Stock, $1,000 liquidation value per share, 31,260 shares issued and outstanding at December 31, 2012, net of discount		-			30,717
Series B, Mandatorily Convertible Non-Voting Preferred Stock, $10 stated value, 1,804,566 shares issued and outstanding at December 31, 2012		-			17,161
Common stock, no par value; authorized 60,000,000 shares; 20,533,733 and 20,462,667 shares issued and outstanding at September 30, 2013 and December 31, 2012, respectively		158,546			157,541
Common stock, non-voting, no par value; authorized 20,000,000 shares; 5,992,213 and 4,187,647 shares issued and outstanding at September 30, 2013 and December 31, 2012, respectively		57,849			40,688
Retained earnings		39,653			30,708
Stock in directors rabbi trust		(3,019	)		(3,090	)
Directors deferred fees obligation		3,019			3,090
Accumulated other comprehensive income		1,745			5,429
Total shareholders' equity		257,793			282,244
Total liabilities and shareholders' equity	$	2,968,709		$	3,083,788

See accompanying notes to consolidated financial statements.

BNC BANCORP AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME (Unaudited)

(Dollars in thousands, except per share data)

	Three Months Ended					Nine Months Ended
	September 30,					September 30,
	2013		2012			2013			2012

Interest Income:
Loans, including fees	$	29,758	$	24,250		$	88,517		$	70,372
Investment securities:
Taxable		1,067		1,097			3,153			3,622
Tax-exempt		3,095		2,400			8,869			7,139
Interest-earning balances and other		88		67			295			158
Total interest income		34,008		27,814			100,834			81,291
Interest Expense:
Demand deposits		3,980		3,562			11,119			10,705
Time deposits		2,275		3,711			8,212			11,573
Short-term borrowings		134		35			305			296
Long-term debt		983		755			2,463			2,198
Total interest expense		7,372		8,063			22,099			24,772
Net Interest Income		26,636		19,751			78,735			56,519
Provision for loan losses, net		3,350		3,708			9,753			17,217
Net interest income after provision for loan losses		23,286		16,043			68,982			39,302
Non-Interest Income:
Mortgage fees		2,408		1,773			7,269			4,267
Service charges		1,000		746			2,960			2,233
Earnings on bank-owned life insurance		571		425			1,672			1,230
Gain (loss) on sale of investment securities, net		-		756			(52	)		2,375
Bargain purchase gain on acquisition		-		-			-			7,734
Other		1,845		1,553			5,779			4,905
Total non-interest income		5,824		5,253			17,628			22,744
Non-Interest Expense:
Salaries and employee benefits		12,584		10,291			38,117			29,884
Occupancy		1,666		1,240			4,856			3,438
Furniture and equipment		1,351		993			3,990			3,019
Data processing and supplies		883		619			2,326			2,012
Advertising and business development		228		509			1,425			1,272
Insurance, professional and other services		1,437		2,136			4,352			4,702
FDIC insurance assessments		660		609			2,106			1,709
Loan, foreclosure and other real estate owned expenses		1,962		2,658			6,856			7,279
Other		1,659		1,344			5,277			4,086
Total non-interest expense		22,430		20,399			69,305			57,401
Income before income tax expense (benefit)		6,680		897			17,305			4,645
Income tax expense (benefit)		1,650		(492	)		3,329			(760	)
Net Income		5,030		1,389			13,976			5,405
Less preferred stock dividends and discount accretion		-		601			1,060			1,803
Net Income Available to Common Shareholders	$	5,030	$	788		$	12,916		$	3,602

Basic earnings per common share	$	0.19	$	0.04		$	0.49		$	0.25
Diluted earnings per common share	$	0.19	$	0.04		$	0.49		$	0.25
Dividends declared and paid per common share	$	0.05	$	0.05		$	0.15		$	0.15

See accompanying notes to consolidated financial statements.

BNC BANCORP AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)

(Dollars in thousands)

	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2013			2012			2013			2012

Net income	$	5,030		$	1,389		$	13,976		$	5,405

Other comprehensive income (loss):
Investment securities:
Unrealized holding gain (loss) on investments securities available-for-sale		(2,831	)		1,409			(14,714	)		4,394
Tax effect		1,091			(545	)		5,672			(1,695	)
Reclassification of (gains) losses recognized in net income		-			(756	)		52			(2,375	)
Tax effect		-			292			(20	)		916
Amortization of unrealized gains on investment securities transferred from available-for-sale to held-to-maturity		(166	)		(134	)		(457	)		(403	)
Tax effect		64			51			176			155
Net of tax amount		(1,842	)		317			(9,291	)		992
Cash flow hedging activities:
Unrealized holding gains (losses)		(975	)		(134	)		1,961			(566	)
Tax effect		376			53			(756	)		219
Reclassification of losses recognized in net income		2,625			2,014			7,163			5,807
Tax effect		(1,012	)		(778	)		(2,761	)		(2,240	)
Net of tax amount		1,014			1,155			5,607			3,220
Total other comprehensive income (loss)		(828	)		1,472			(3,684	)		4,212
Total comprehensive income	$	4,202		$	2,861		$	10,292		$	9,617

See accompanying notes to consolidated financial statements.

BNC BANCORP AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (Unaudited)

Nine Months Ended September 30, 2013 and 2012

(Dollars in thousands, except per share data)

																																Directors			Accumulated
							Non-voting				Common			Preferred			Preferred			Preferred			Preferred						Stock in			deferred			other com-
	Common stock						common stock				stock			stock			stock			stock			stock			Retained			directors			fees			prehensive
	Shares			Amount			Shares		Amount		warrants			Series A			Series B			Series B-1			Series C			earnings			Rabbi trust			obligation			income			Total

Balance, December 31, 2011		9,100,890		$	87,421			-	$	-	$	2,412		$	30,237		$	17,161		$	-		$	-		$	25,614		$	(2,505	)	$	2,505		$	1,010		$	163,855
Net income		-			-			-		-		-			-			-			-			-			5,405			-			-			-			5,405
Directors deferred fees		-			-			-		-		-			-			-			-			-			-			(585	)		585			-			-
Other comprehensive income, net of tax		-			-			-		-		-			-			-			-			-			-			-			-			4,212			4,212
Preferred stock issued, net		-			-			-		-		-			-			-			40,688			27,620			-			-			-			-			68,308
Common stock issued pursuant to:
Exercise of stock options		48,092			286			-		-		-			-			-			-			-			-			-			-			-			286
Income tax benefit		-			17			-		-		-			-			-			-			-			-			-			-			-			17
Shares traded to exercise options		(19,189	)		(148	)		-		-		-			-			-			-			-			-			-			-			-			(148	)
Stock-based compensation		41,501			411			-		-		-			-			-			-			-			-			-			-			-			411
Dividend reinvestment plan		21,066			162			-		-		-			-			-			-			-			-			-			-			-			162
Acquisition of KeySource		1,810,267			13,942			-		-		-			-			-			-			-			-			-			-			-			13,942
Conversion of preferred stock		10,356,613			68,308			-		-		-			-			-			(40,688	)		(27,620	)		-			-			-			-			-
Redemption of common stock warrant		-			1,472			-		-		(2,412	)		-			-			-			-			-			-			-			-			(940	)
Cash dividends:
Common stock, $0.15 per share		-			-			-		-		-			-			-			-			-			(1,887	)		-			-			-			(1,887	)
Preferred stock, net of accretion		-			-			-		-		-			360			-			-			-			(1,803	)		-			-			-			(1,443	)
Balance, September 30, 2012		21,359,240		$	171,871			-	$	-	$	-		$	30,597		$	17,161		$	-		$	-		$	27,329		$	(3,090	)	$	3,090		$	5,222		$	252,180

Balance, December 31, 2012		20,462,667		$	157,541			4,187,647	$	40,688	$	-		$	30,717		$	17,161		$	-		$	-		$	30,708		$	(3,090	)	$	3,090		$	5,429		$	282,244
Net income		-			-			-		-		-			-			-			-			-			13,976			-			-			-			13,976
Directors deferred fees		-			-			-		-		-			-			-			-			-			-			71			(71	)		-			-
Other comprehensive loss, net of tax		-			-			-		-		-			-			-			-			-			-			-			-			(3,684	)		(3,684	)
Redemption of preferred stock		-			-			-		-		-			(31,260	)		-			-			-			-			-			-			-			(31,260	)
Stock-based compensation		52,479			811			-		-		-			-			-			-			-			-			-			-			-			811
Dividend reinvestment plan		18,587			194			-		-		-			-			-			-			-			-			-			-			-			194
Conversion of preferred stock		-			-			1,804,566		17,161		-			-			(17,161	)		-			-			-			-			-			-			-
Cash dividends:
Common stock, $0.15 per share		-			-			-		-		-			-			-			-			-			(3,971	)		-			-			-			(3,971	)
Preferred stock, net of accretion		-			-			-		-		-			543			-			-			-			(1,060	)		-			-			-			(517	)
Balance, September 30, 2013		20,533,733		$	158,546			5,992,213	$	57,849	$	-		$	-		$	-		$	-		$	-		$	39,653		$	(3,019	)	$	3,019		$	1,745		$	257,793

See accompanying notes to consolidated financial statements.

BNC BANCORP AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(Dollars in thousands)

	Nine Months Ended
	September 30,
	2013			2012
Operating activities
Net income	$	13,976		$	5,405
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses		9,753			17,217
Depreciation and amortization		3,351			2,098
Amortization of premiums, net		3,386			744
Amortization of intangible assets		783			396
Accretion of fair value purchase accounting adjustments		(11,938	)		(4,792	)
Bargain purchase gain on acquisition		-			(7,734	)
Cash flow hedge expense		7,163			5,807
Stock-based compensation		811			411
Deferred compensation		393			630
Earnings on bank-owned life insurance		(1,672	)		(1,230	)
Net loss (gain) on sale of investment securities available-for-sale		52			(2,375	)
Loss on sale of premises and equipment		109			183
Losses on other real estate owned		2,498			4,107
Gain on sale of loans (mortgage fees)		(7,269	)		(4,267	)
Origination of loans held for sale		(257,981	)		(184,460	)
Proceeds from sales of loans held for sale		289,828			168,440
Decrease in accrued interest receivable		783			1,897
Decrease in FDIC indemnification asset		22,615			49,959
Decrease in other assets		12,353			1,997
(Decrease) increase in accrued expenses and other liabilities		(7,190	)		1,706
Net cash provided by operating activities		81,804			56,139
Investing activities
Purchases of investment securities available-for-sale		(78,518	)		(47,635	)
Purchases of investment securities held-to-maturity		(43,751	)		(14,272	)
Proceeds from sales of investment securities available-for-sale		15,973			57,134
Proceeds from maturities and payments of investment securities available-for-sale		42,425			30,044
Proceeds from maturities and payments of investment securities held-to-maturity		1,209			-
(Purchase) redemption of Federal Home Loan Bank stock		(4,093	)		2,716
Net increase in loans		(78,635	)		(69,354	)
Purchases of premises and equipment		(6,102	)		(7,935	)
Proceeds from disposal of premises and equipment		47			283
Investment in bank-owned life insurance		(128	)		-
Investment in other real estate owned		(1,972	)		(1,052	)
Proceeds from sales of other real estate owned		25,084			35,827
Net cash received from acquisitions		-			67,387
Net cash provided by (used in) by investing activities		(128,461	)		53,143
Financing activities
Net decrease in deposits		(218,804	)		(38,986	)
Net increase (decrease) in short-term borrowings		111,292			(33,856	)
Net increase in long-term-debt		24,535			-
Preferred stock (redeemed) issued , net		(31,260	)		68,308
Common stock issued from exercise of stock options		-			138
Common stock issued pursuant to dividend reinvestment plan		194			162
Redemption of common stock warrant		-			(940	)
Cash dividends paid, net of accretion		(4,488	)		(3,330	)
Net cash used in financing activities		(118,531	)		(8,504	)
Net increase (decrease) in cash and cash equivalents		(165,188	)		100,778
Cash and cash equivalents, beginning of period		234,071			55,829
Cash and cash equivalents, end of period	$	68,883		$	156,607

Supplemental Statement of Cash Flows Disclosure
Interest paid	$	22,573		$	24,594
Income taxes paid		932			1,606
Summary of Noncash Investing and Financing Activities
Transfer of loans to other real estate owned	$	22,622		$	32,131
Transfer of loans held for sale to loans		15,104			-
FDIC indemnification asset increase for losses, net		5,901			12,984
Transfer of investment securities from available-for-sale to held-to-maturity		86,526			-

See accompanying notes to consolidated financial statements.

NOTE 1 – BASIS OF PRESENTATION

BNC Bancorp (the “Company”) is a bank holding company for Bank of North Carolina (“BNC”), a wholly-owned subsidiary, headquartered in High Point, North Carolina. BNC is a full service commercial bank providing commercial banking services tailored to the particular banking needs of the communities it serves in North and South Carolina. BNC’s primary source of revenue is derived from loans to customers, who are predominantly individuals and small to medium size businesses in BNC’s market areas.

These consolidated financial statements and notes are presented in accordance with the instructions for Form 10-Q and, therefore, do not include all information and notes necessary for a complete presentation of financial position, results of operations and cash flow activity required in accordance with accounting principles generally accepted in the United States of America (“GAAP”). In the opinion of management, all normal recurring adjustments necessary for a fair statement of the consolidated financial position and consolidated results of operations have been made. The information contained in the consolidated financial statements and footnotes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012 should be referred to in connection with these unaudited interim consolidated financial statements.

The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. On an ongoing basis, the Company evaluates its estimates, including those relating to the allowance for loan losses, determination of fair value of acquired assets and assumed liabilities, and valuation of goodwill and intangible assets.

Reclassifications

Certain amounts in the 2012 consolidated financial statements have been reclassified to conform to the 2013 presentation. The reclassifications had no effect on net income, net income available to common shareholders or shareholders' equity as previously reported.

Recently Adopted and Issued Accounting Standards

In July 2013, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2013-10,Derivatives and Hedging (Topic 815): Inclusion of the Fed Funds Effective Swap Rate (or Overnight Index Swap Rate) as a Benchmark Interest Rate for Hedge Accounting Purposes (“ASU 2013-10”) to provide guidance on the risks that are permitted to be hedged in a fair value or cash flow hedge. Among those risks for financial assets and financial liabilities is the risk of changes in a hedged item’s fair value or a hedged transaction’s cash flows attributable to changes in the designated benchmark interest rate (referred to as interest rate risk). The provisions were effective prospectively for qualifying new or redesignated hedging relationships entered into on or after July 17, 2013. The Company does not expect the adoption of this ASU to have a material impact onthe Company's consolidated financial statements.

In July 2013, the FASB issued ASU No. 2013-11,Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists (“ASU 2013-11”) to provide guidance on the financial statement presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists thereby reducing diversity in practice. The amendments in ASU 2013-11 are effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. Early adoption is permitted. The amendments are to be applied prospectively to all unrecognized tax benefits that exist at the effective date with retrospective applicationpermitted.The Company does not expect the adoption of this ASU to have a material impactthe Company's consolidated financial statements.

In February 2013, the FASB issued ASU No. 2013-02,Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income. This ASUrequires that companies present either in a single note or parenthetically on the face of the financial statements, the effect of significant amounts reclassified from each component of accumulated other comprehensive income based on its source (e.g., the release due to cash flow hedges from interest rate contracts) and the income statement line items affected by the reclassification (e.g., interest income or interest expense). If a component is not required to be reclassified to net income in its entirety, companies would instead cross reference to the related footnote for additional information. This ASU is effective for fiscal and interim reporting periods beginning after December 15, 2012. The adoption of this ASU did not have a material impact on the Company's consolidated financial statements.

In October 2012, the FASB issued ASU No. 2012-06,Business Combinations (Topic 805): Subsequent Accounting for an Indemnification Asset Recognized at the Acquisition Date as a Result of a Government-Assisted Acquisition of a Financial Institution, which addresses diversity in practice regarding the subsequent measurement of an indemnification asset in a government-assisted acquisition of a financial institution that includes a loss-sharing agreement. The amendments are effective for interim and annual reporting periods beginning on or after December 15, 2012 with early adoption permitted. The adoption of this ASU did not have a material impact on the Company’s consolidated financial statements.

In December 2011, the FASB issued ASU 2011-11,Balance Sheet (Topic 210): Disclosures about Offsetting Assets and Liabilities. Under this update, the Company will be required to disclose both gross information and net information about both instruments and transactions eligible for offset in the statement of financial position and transactions subject to an agreement similar to a master netting arrangement. The scope would include derivatives, sale and repurchase agreements and securities borrowing and securities lending arrangements. This disclosure is intended to enable financial statement users to understand the effect of such arrangements on the Company’s financial position. The objective of this update is to support further convergence between U.S. GAAP and International Financial Reporting Standards. In January 2013, the FASB released ASU 2013-01 Balance Sheet (Topic 210): Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities.Under this update, the FASB limited the scope of ASU 2011-11 to items identified in the implementation guidance which include derivatives, sale and repurchase agreements and securities borrowing and securities lending arrangements that are either offset on the balance sheet or subject to an enforceable master netting agreement. Both of these updates are effective for annual reporting periods beginning on or after January 1, 2013. The adoption of this ASU did not have a material impact on the Company’s consolidated financial statements.

NOTE 2 – ACQUISITIONS

Acquisition of Randolph Bank & Trust Company

On October 1, 2013, the Company completed the acquisition of Randolph Bank & Trust Company (“Randolph”) pursuant to the terms of the Agreement and Plan of Merger dated May 31, 2013. Randolph was a commercial bank with approximately $290 million in assets that served small businesses and professionals and operated six branches in the Piedmont-Triad area of North Carolina. This acquisition aligns with the Company’s strategy of growth focused within existing markets. Randolph’s branch offices will continue to operate under the Randolph name until systems are converted in early December.

Randolph shareholders received 0.87 shares of BNC voting common stock for each share of Randolph common stock, or cash in the amount of $10.00 per share. Eighty percent of Randolph common shares were converted into the right to receive BNC voting common stock, while the remaining 20% were converted into the right to receive cash. As part of the closing, Randolph preferred shareholders, including the United States Department of the Treasury (“Treasury”), received cash payments equal to the liquidation value of their preferred shares. The Company paid total consideration of approximately $20.6 million.

The Company is in the process of obtaining third-party valuations to determine the fair value of loans, property, plant and equipment and intangible assets acquired from Randolph. As a result, it is impracticable to disclose the preliminary purchase price allocation as of the filing date of these unaudited consolidated financial statements.

As the acquisition closed subsequent to September 30, 2013, none of the assets acquired, liabilities assumed or results of operations for Randolph are included in the Company’s financial information as of and for the three and nine months ended September 30, 2013.

Acquisition of First Trust Bank

On November 30, 2012, the Company completed the acquisition of First Trust Bank (“First Trust”), which operated three branches in Charlotte, North Carolina. The acquisition of First Trustexpanded and enhanced the BNC franchise in the metropolitan Charlotte market.

A summary of assets received and liabilities assumed for First Trust, as well as the associated fair value adjustments, are as follows (dollars in thousands):

	As Recorded by First Trust			Fair Value Adjustments			As Recorded by BNC
Assets
Cash and due from banks	$	46,079		$	-		$	46,079
Investment securities available-for-sale		124,616			-			124,616
Federal Home Loan Bank stock, at cost		753			-			753
Loans		179,702			(9,820	)(1)		169,882
Premises and equipment		6,938			866	(2)		7,804
Accrued interest receivable		1,565			-			1,565
Other real estate owned		8,686			(535	)(3)		8,151
Core deposit intangible		-			1,826	(4)		1,826
Other assets		12,337			3,295	(5)		15,632
Total assets acquired	$	380,676		$	(4,368	)		376,308
Liabilities
Deposits	$	(323,139	)	$	(884	)(6)	$	(324,023	)
Short-term borrowings		(7,899	)		-			(7,899	)
Other liabilities		(2,849	)		-			(2,849	)
Total liabilities assumed	$	(333,887	)	$	(884	)		(334,771	)

Net assets acquired								41,537
Total consideration paid								36,565
Bargain purchase gain							$	4,972

Explanation of fair value adjustments:

(1) - Adjustment for the fair value of the acquired loan portfolio.

(2) - Adjustment for fair value of acquired premises and equipment.

(3) - Adjustment for the fair value of the acquired other real estate owned.

(4) - Adjustment for the estimated value of the core deposit intangible.

(5) - Adjustment for deferred tax asset recognized from acquisition.

(6) - Adjustment for the estimated fair value of time deposits.

A summary of the consideration paid for First Trust is as follows (dollars in thousands):

Common stock issued (3,276,101 shares)	$	26,177
Cash payments to First Trust stockholders		10,388
Total consideration paid	$	36,565

Acquisition of KeySource Financial, Inc.

On September 14, 2012, the Company completed the acquisition of KeySource Financial, Inc. (“KeySource”), which operated one branch in Durham, North Carolina. The acquisition of KeySourceexpanded and enhanced the BNC franchise in the Raleigh-Durham market.

A summary of assets received and liabilities assumed for KeySource, as well as the associated fair value adjustments, are as follows (dollars in thousands):

	As Recorded by			Fair Value			As Recorded
	KeySource			Adjustments			by BNC
Assets
Cash and due from banks	$	19,847		$	-		$	19,847
Investment securities available-for-sale		3,445			-			3,445
Federal Home Loan Bank stock, at cost		430			-			430
Loans		148,295			(8,690	)(1)		139,605
Premises and equipment		650			-			650
Accrued interest receivable		547			-			547
Other real estate owned		1,289			(150	)(2)		1,139
Core deposit intangible		-			621	(3)		621
Other assets		4,445			3,516	(4)		7,961
Total assets acquired	$	178,948		$	(4,703	)		174,245
Liabilities
Deposits	$	(151,553	)	$	(854	)(5)		(152,407	)
Short-term borrowings		(780	)		-			(780	)
Long-term debt		(5,999	)		(48	)(6)		(6,047	)
Other liabilities		(1,754	)		102	(7)		(1,652	)
Total liabilities assumed	$	(160,086	)	$	(800	)		(160,886	)

Net assets acquired								13,359
Total consideration paid								13,942
Goodwill							$	583

Explanation of fair value adjustments:

(1) - Adjustment for the fair value of the acquired loan portfolio.

(2) - Adjustment for the fair value of the acquired other real estate owned.

(3) - Adjustment for the estimated value of the core deposit intangible.

(4) - Adjustment for deferred tax asset recognized from acquisition.

(5) - Adjustment for the estimated fair value of time deposits.

(6) - Adjustment for the fair value of the subordinated debt assumed.

(7) - Adjustment for the reversal of an accrued liability.

A summary of the consideration paid for KeySource is as follows (dollars in thousands):

Common stock issued (1,810,267 shares)	$	13,686
Fair value of KeySource stock options assumed		256
Total consideration paid	$	13,942

None of the goodwill is deductible for income tax purposes.

Acquisition of Branches from The Bank of Hampton Roads

On September 21, 2012, the Company acquired two branchesof Gateway Bank & Trust Company located in Cary and Chapel Hill, North Carolina, respectively, which were owned and operated by The Bank of Hampton Roads (“BHR”). The estimated fair value of the assets acquired, which included cash, premises and equipment, and other assets, totaled $24.1 million, while the estimated fair value of liabilities assumed, which included deposits and other liabilities, totaled $24.5 million. BNC recorded approximately $400,000 of goodwill related to this acquisition. None of the goodwill is deductible for income tax purposes.

FDIC-Assisted Acquisition of Carolina Federal Savings Bank

On June 8, 2012, the Company acquired certain assets and liabilities of Carolina Federal Savings Bank (“Carolina Federal”), a federal thrift organized under the laws of the United States and headquartered in Charleston, South Carolina, from the Federal Deposit Insurance Corporation (the “FDIC”), as receiver of Carolina Federal. Carolina Federal operated two branches in the Charleston market. There is no loss-sharing arrangement with the FDIC with respect to this transaction. The FDIC paid the Company an asset discount in the amount of $10.7 million at closing and the deposits were acquired without a premium.

A summary of the assets received and liabilities assumed from the FDIC for Carolina Federal, as well as the associated fair value adjustments, are as follows (dollars in thousands):

	As Recorded by			Fair Value			As Recorded
	Carolina Federal			Adjustments			by BNC
Assets
Cash and due from banks	$	8,394		$	-		$	8,394
Federal Home Loan Bank stock, at cost		112			-			112
Loans		32,328			(2,862	)(1)		29,466
Accrued interest receivable		124			-			124
Core deposit intangible		-			93	(2)		93
Other assets		35			1,291	(3)		1,326
Total assets acquired	$	40,993		$	(1,478	)	$	39,515
Liabilities
Deposits	$	(52,992	)	$	(148	)(4)	$	(53,140	)
Deferred tax liability		-			(2,981	)(5)		(2,981	)
Other liabilities		(42	)		-			(42	)
Total liabilities assumed		(53,034	)		(3,129	)		(56,163	)
Excess of liabilities assumed over assets acquired	$	(12,041	)

Aggregate fair value adjustments				$	(4,607	)

Cash received from the FDIC								21,400
Net assets acquired (net after-tax gain)								4,752
Income tax effect								2,982
Net assets acquired (bargain purchase gain)							$	7,734

Explanation of fair value adjustments:

(1) - Adjustment for the fair value of the acquired loan portfolio.

(2) - Adjustment for the estimated value of the core deposit intangible.

(3) - Adjustment for amount due to BNC from the FDIC.

(4) - Adjustment for the estimated fair value of time deposits.

(5) - Adjustment for the deferred tax liability from the acquisition gain.

The Company has determined the above noted acquisitions constitute a business combination as defined by FASB ASC Topic 805:Business Combinations(“ASC Topic 805”), which establishes principles and requirements for how the acquirer of a business recognizes and measures in its financial statements the identifiable assets acquired and the liabilities assumed. The Company has recorded the assets purchased and liabilities assumed at their estimated fair value in accordance with ASC Topic 805.

The estimated fair values are subject to refinement for up to one year after the closing date of the acquisition as additional information regarding closing date fair value becomes available. During this one year period, the causes of any changes in cash flow estimates are considered to determine whether the change results from circumstances that existed as of the acquisition date or if the change results from an event that occurred after the date of acquisition.

NOTE 3 – SHAREHOLDERS’ EQUITY

Conversion of Preferred Stock

On February 7, 2013, all 1,804,566 shares of the Company’s Mandatorily Convertible Non-Voting Preferred Stock, Series B were converted into 1,804,566 shares of the Company’s non-voting common stock.

Series A Preferred Stock Issued under TARP

On December 5, 2008, as part of the Treasury’s Troubled Asset Relief Program (“TARP”) Capital Purchase Program (“CPP”), the Company issued and sold to the Treasury 31,260 shares of Fixed Rate Cumulative Perpetual Preferred Stock, Series A (the “Series A Preferred Stock”), and a warrant to purchase up to 543,337 shares of the Company’s common stock at an exercise price of $8.63 per share. On August 29, 2012, the Treasury completed the auction and sale of its investment in the Company’s Series A Preferred Stock to private investors. The Company received no proceeds from the auction. On September 19, 2012, the Company repurchased the warrant from the Treasury for approximately $940,000. The warrant has been cancelled.

On April 29, 2013, the Company redeemed all 31,260 shares of the Series A Preferred Stock that were issued under the Treasury’s TARP CPP. The redemption was made using cash on hand and the proceeds of a $30.0 million term loan that was obtained in April 2013. See further discussion of the terms of the loan agreement at Note 9.

NOTE 4 - EARNINGS PER SHARE

Basic earnings per common share is computed using the weighted average number of common shares and participating securities outstanding during the reporting period. Diluted earnings per common share is the amount of earnings available to each share of common stock during the reporting period adjusted to include the effect of potentially dilutive common shares. Potentially dilutive common shares include incremental shares issued for stock options, restricted stock awards and the warrant under the Treasury’s TARP CPP (collectively referred to herein as “Stock Rights”). Potentially dilutive common shares are excluded from the computation of dilutive earnings per share in the periods in which the effect would be anti-dilutive. As discussed in Note 3, the warrant issued in connection with the Treasury’s TARP CPP was repurchased by the Company and cancelled in September 2012.

The Company's basic and diluted earnings per share calculations are presented in the following table (dollars in thousands, except per share data):

	Three Months Ended September 30,				Nine Months Ended September 30,
	2013		2012		2013		2012
Net income available to common shareholders	$	5,030	$	788	$	12,916	$	3,602
Add: Convertible preferred stock dividends		-		90		-		270
Net income available to participating common shareholders	$	5,030	$	878	$	12,916	$	3,872

Weighted average common shares - basic		26,501,769		19,840,076		26,229,236		13,548,555
Add: Effect of convertible preferred stock		-		1,804,566		251,185		1,804,566
Weighted average participating common shares - basic		26,501,769		21,644,642		26,480,421		15,353,121
Effects of dilutive Stock Rights		80,317		1,395		13,064		5,334
Weighted average participating common shares - diluted		26,582,086		21,646,037		26,493,485		15,358,455

Basic earnings per common share	$	0.19	$	0.04	$	0.49	$	0.25
Diluted earnings per common share	$	0.19	$	0.04	$	0.49	$	0.25

For the three and nine months ended September 30, 2013, respectively, there were 71,500 and 390,002 shares of Stock Rights excluded in computing diluted common shares outstanding because the exercise price exceeded the average share value for the periods. For the three and nine months ended September 30, 2012, respectively, there were 455,411 shares of Stock Rights excluded in computing diluted common shares outstanding because the exercise price exceeded the average share value for the periods.

NOTE 5 – INVESTMENT SECURITIES

The amortized cost, gross unrealized gains and losses, and estimated fair values of investment securities as of September 30, 2013 and December 31, 2012 are as follows (dollars in thousands):

			Gross		Gross
	Amortized		Unrealized		Unrealized		Fair
	Cost		Gains		Losses		Value
September 30, 2013:
Available-for-sale:
U.S. government agencies	$	15,250	$	-	$	553	$	14,697
State and municipals		180,335		2,820		5,458		177,697
Corporate debt securities		8,000		27		156		7,871
Other debt securities		4,718		-		358		4,360
Mortgage-backed securities:
Residential government sponsored		45,017		1,717		513		46,221
Other government sponsored		6,849		269		4		7,114
	$	260,169	$	4,833	$	7,042	$	257,960
Held-to-maturity:
State and municipals	$	216,489	$	376	$	9,614	$	207,251
Corporate debt securities		16,000		10		1,040		14,970
Other debt securities		10,000		-		-		10,000
	$	242,489	$	386	$	10,654	$	232,221

			Gross		Gross
	Amortized		Unrealized		Unrealized		Fair
	Cost		Gains		Losses		Value
December 31, 2012:
Available-for-sale:
U. S government agencies	$	15,735	$	660	$	-	$	16,395
State and municipals		213,679		11,359		1,152		223,886
Mortgage-backed securities:
Residential government sponsored		83,764		3,155		29		86,890
Other government sponsored		13,923		450		5		14,368
	$	327,101	$	15,624	$	1,186	$	341,539
Held-to-maturity:
State and municipals	$	108,805	$	4,576	$	146	$	113,235
Corporate debt securities		6,000		-		1,000		5,000
	$	114,805	$	4,576	$	1,146	$	118,235

During the second quarter of 2013, the Company transferred $86.5 million of available-for-sale state and municipal debt securities to the held-to-maturity category, reflecting the Company’s intent to hold those securities to maturity. Transfers of investment securities into the held-to-maturity category from the available-for-sale category are made at fair value at the date of transfer. The related $1.2 million of unrealized holding gain that was included in the transfer is retained in other comprehensive income and in the carrying value of the held-to-maturity securities. This amount will be amortized as an adjustment to interest income over the remaining life of the securities. This will offset the impact of amortization of the net premium created in the transfer. There were no gains or losses recognized as a result of this transfer.

The amortized cost and estimated fair value of investment securities at September 30, 2013, by contractual maturity, are shown below (dollars in thousands). The expected life of mortgage-backed securities will differ from contractual maturities because borrowers may have the right to call or prepay the underlying mortgage loans with or without call or prepayment penalties. For purposes of the maturity table, mortgage-backed securities have been included in maturity groupings based on the contractual maturity.

	Amortized Cost		Fair Value

Available-for-sale:
Due in one year or less	$	3,965	$	4,005
Due after one through five years		475		485
Due after five through ten years		18,828		18,904
Due after ten years		236,901		234,566
	$	260,169	$	257,960

Held-to-maturity:
Due in one year or less	$	543	$	555
Due after one year through five years		11,863		10,954
Due after five through ten years		23,474		23,425
Due after ten years		206,609		197,287
	$	242,489	$	232,221

At September 30, 2013 and December 31, 2012, investment securities with an estimated fair value of approximately $173.4 million and $175.1 million, respectively, were pledged to secure public deposits and for other purposes required or permitted by law.

The following is a summary of realized gains and losses from the sales of investment securities classified as available-for-sale (dollars in thousands):

	For the Three Months Ended September 30,				For the Nine Months Ended September 30,
	2013		2012		2013			2012

Proceeds from sales	$	-	$	17,563	$	15,797		$	57,134

Gross realized gains on sales	$	-	$	756	$	176	(1)	$	2,476
Gross realized losses on sales		-		-		(228	)		(101	)
Total realized gains (losses), net	$	-	$	756	$	(52	)	$	2,375

(1) Gain was derived from the redemption of preferred stock from another financial institution that was purchased at auction from the Treasury.

The following tables show gross unrealized losses and fair values of investment securities, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position, at September 30, 2013 and December 31, 2012 (dollars in thousands):

	Less Than 12 Months				12 Months or More				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
September 30, 2013:	Value		Losses		Value		Losses		Value		Losses
Available-for-sale:
U.S. Government agencies	$	14,697	$	553	$	-	$	-	$	14,697	$	553
State and municipals		89,139		5,458		-		-		89,139		5,458
Corporate debt securities		2,844		156		-		-		2,844		156
Other debt securities		4,360		358		-		-		4,360		358
Mortgage-backed securities		20,237		517		-		-		20,237		517
	$	131,277	$	7,042	$	-	$	-	$	131,277	$	7,042

Held-to-maturity:
State and municipals	$	184,751	$	9,342	$	3,628	$	272	$	188,379	$	9,614
Corporate debt securities		-		-		4,960		1,040		4,960		1,040
	$	184,751	$	9,342	$	8,588	$	1,312	$	193,339	$	10,654

	Less Than 12 Months				12 Months or More				Total
	Fair		Unrealized		Fair		Unrealized		Fair		Unrealized
December 31, 2012:	Value		Losses		Value		Losses		Value		Losses
Available-for-sale:
State and municipals	$	75,551	$	1,152	$	-	$	-	$	75,551	$	1,152
Mortgage-backed securities		22,465		34		-		-		22,465		34
	$	98,016	$	1,186	$	-	$	-	$	98,016	$	1,186

Held-to-maturity:
State and municipals	$	10,301	$	146	$	-	$	-	$	10,301	$	146
Corporate debt securities		-		-		5,000		1,000		5,000		1,000
	$	10,301	$	146	$	5,000	$	1,000	$	15,301	$	1,146

At September 30, 2013, the unrealized losses relate to 228 state and municipal securities, 19 mortgage-backed securities, five agency securities, three corporate debt securities and one other debt security. Three of the state and municipal securities have been in an unrealized loss position for greater than 12 months. The Company noted all state and municipal securities with an unrealized loss were rated as investment grade at September 30, 2013. The gross unrealized losses reported for the mortgage-backed securities relate to investment securities issued by the Federal National Mortgage Association, the Government National Mortgage Association, or Federal Home Loan Mortgage Corporation (“Freddie Mac”). All the securities with an unrealized loss have been in that position for less than 12 months. The gross unrealized losses reported for the agency securities relate to investment securities issued by Freddie Mac or the United States Small Business Administration. The agency securities with an unrealized loss have been in that position for less than 12 months. The Freddie Mac securities have investment grade ratings. The corporate debt securities are with well-capitalized and sound financial institutions. Two of the corporate debt securities have been in that position for more than 12 months. These securities are all rated as investment grade. The other debt security is backed by a pool of student loan debt. The security has been in that position for less than 12 months and has an investment grade rating.

The Company does not intend to sell, and it is not more likely than not that the Company will be required to sell, these investment securities before the anticipated recovery of the amortized cost basis. The unrealized loss for these securities are caused by changes in market interest rates and not credit concerns related to the respective issuers. Based on this analysis, the Company does not consider these investment securities to be other-than-temporarily impaired at September 30, 2013.

NOTE 6 – LOANS AND ALLOWANCE FOR LOAN LOSSES

Major categories of loans, including loans covered under loss-share agreements with the FDIC (“covered”) and loans not covered under loss-share agreements (“non-covered”) at September 30, 2013 and December 31, 2012 are summarized below (dollars in thousands):

	September 30, 2013						December 31, 2012
	Covered		Non-covered				Covered		Non-covered
	Loans (1)		Loans (2)		Total		Loans (1)		Loans (2)		Total

Commercial real estate	$	101,728	$	1,157,088	$	1,258,816	$	114,757	$	1,034,686	$	1,149,443
Commercial construction		20,251		193,206		213,457		33,447		183,747		217,194
Commercial and industrial		6,755		148,391		155,146		10,898		150,870		161,768
Leases		-		16,061		16,061		-		13,209		13,209
Total commercial		128,734		1,514,746		1,643,480		159,102		1,382,512		1,541,614
Residential construction		16		28,947		28,963		215		34,514		34,729
Residential mortgage		71,096		346,110		417,206		87,015		359,260		446,275
Consumer and other		1,953		8,440		10,393		2,598		10,042		12,640
	$	201,799	$	1,898,243	$	2,100,042	$	248,930	$	1,786,328	$	2,035,258

(1) The unpaid principal balance for covered loans was $211.1 million and $272.7 million at September 30, 2013 and December 31, 2012, respectively.

(2) Amount includes $269.0 million and $347.2 million of acquired, non-covered loans as of September 30, 2013 and December 31, 2012, respectively.

The Company evaluates loans acquired with evidence of credit deterioration in accordance with the provisions of ASC Topic 310-30:Loans and Debt Securities Acquired with Deteriorated Credit Quality. Credit-impaired loans are those loans showing evidence of credit deterioration since origination and it is probable, at the date of acquisition, the Company will not collect all contractually required principal and interest payments. Generally, the acquired loans that meet the Company’s definition for nonaccrual status fall within the definition of credit-impaired covered loans.

Covered loans acquired will be reimbursed for a substantial portion of any future losses on them under the terms of the FDIC loss-share agreements. The covered loans are reported in loans exclusive of the expected reimbursement from the FDIC. Covered loans are initially recorded at fair value at the acquisition date. The covered loans are and will be subject to the Company’s internal and external credit review and monitoring. Prospective losses incurred on covered loans are eligible for partial reimbursement by the FDIC. Subsequent decreases in the amount expected to be collected result in a provision for loan losses, an increase in the allowance for loan losses, and a proportional increase to the FDIC indemnification asset for the estimated amount to be reimbursed. Subsequent increases in the amount expected to be collected result in the reversal of any previously-recorded provision for loan losses and related allowance for loan losses and decreases to the FDIC indemnification asset, or accretion of certain fair value amounts into interest income in future periods if no provision for loan losses had been recorded.

A portion of the fair value discount on acquired covered loans has an accretable yield associated with those loans that is accreted into interest income over the estimated remaining life of the loans. The remaining nonaccretable difference represents cash flows not expected to be collected. The changes in the carrying amount of covered acquired loans and accretable yield for loans receivable for the nine months ended September 30, 2013 and the year ended December 31, 2012 is as follows (dollars in thousands):

	September 30, 2013						December 31, 2012
	Accretable			Carrying			Accretable			Carrying
	Yield			Amount			Yield			Amount

Balance at beginning of period	$	(12,895	)	$	248,930		$	(8,387	)	$	320,033
Reductions from payments and foreclosures, net		-			(54,337	)		-			(74,998	)
Reclass from non-accretable to accretable yield		(1,545	)		-			(8,403	)		-
Accretion		7,206			7,206			3,895			3,895
Balance at end of period	$	(7,234	)	$	201,799		$	(12,895	)	$	248,930

The Company has the ability to borrow funds from the Federal Home Loan Bank (“FHLB”) and from the Federal Reserve Bank. At September 30, 2013 and December 31, 2012, real estate loans with carrying values of $681.3 million and $462.4 million, respectively, were pledged to secure borrowing facilities from these institutions.

The Company has adopted comprehensive lending policies, underwriting standards and loan review procedures, which are reviewed on a regular basis. Each class of financing receivable detailed below is subject to risks that could have an adverse impact on the credit quality of the loan portfolio.

Commercial real estate loans

Commercial real estate loans consist primarily of loans secured by nonresidential (owner occupied and/or non-owner occupied) real estate, multifamily housing, and agricultural loans. Commercial real estate is primarily dependent on successful operation or management of the property. While these loans are normally secured by commercial buildings for office, storage and warehouse space, it is possible that the liquidation of the collateral will not fully satisfy the obligation. The primary risk associated with multifamily loans is the ability of the income-producing property that collateralizes the loan to produce adequate cash flow to service the debt. High unemployment or generally weak economic conditions may result in customers having to provide rental rate concessions to achieve adequate occupancy rates.

Commercial construction loans

Commercial construction loans, including land development loans, are highly dependent on the supply and demand for commercial real estate in the markets served by BNC as well as the demand for newly constructed residential homes and lots that customers are developing. Continuing deterioration in demand could result in significant decreases in the underlying collateral values and make repayment of the outstanding loans more difficult for customers.

Commercial and industrial and leases

Each commercial loan or lease is centrally underwritten based primarily upon the customer’s ability to generate the required cash flow to service the debt in accordance with the contractual terms and conditions of the loan agreement. A complete understanding of the borrower’s businesses including the experience and background of the principals is obtained prior to approval. To the extent that the loan or lease is secured by collateral, which is usually personal property or business assets such as inventory or accounts receivable, which is true for the majority of commercial loans and leases, the likely value of the collateral and level of strength the collateral brings to the transaction is evaluated. To the extent that the principals or other parties provide personal guarantees, the relative financial strength and liquidity of each guarantor is assessed. Common risks include general economic conditions within the markets the Bank serves, as well as risks that are specific to each transaction including demand for products and services, personal events such as disability or change in marital status, and reductions in the value of collateral.

Residential construction loans

Residential construction loans are made to individuals and are typically secured by 1-4 family residential property. Significant and rapid declines in real estate values or demand can result in increased difficulty in converting these construction loans to permanent loans. Such a decline in values has led to unprecedented levels of foreclosures and losses within the banking industry. In addition, there has been an increase in the average time houses are on the market for sale.

Residential mortgage loans

Each residential mortgage loan is underwritten using credit scoring and analysis tools. These credit scoring tools take into account factors such as payment history, credit utilization, length of credit history, types of credit currently in use, and recent credit inquiries. To the extent that the loan is secured by collateral, the likely value of that collateral is evaluated. Common risks to each class of non-commercial loans include risks that are not specific to individual transactions such as general economic conditions within the markets BNC serves, particularly unemployment and potential declines in real estate values. Personal events such as disability or change in marital status also add risk to residential mortgage loans. Second mortgage loans and home equity lines of credit generally involve greater credit risk than first mortgage loans because they are secured by mortgages that are subordinate to the first mortgage on the property. If the borrower is forced into foreclosure, the Company will not receive any proceeds from the sale of the property until the first mortgage has been completely repaid. Over the past two years, the Company has significantly tightened underwriting criteria and requirements for second mortgage and home equity lines of credit. This includes requiring higher credit scores from borrowers and limiting loan-to-value ratios.

Since substantially all first mortgage loans originated by the Company are eligible for sale in the secondary market, and the Company typically does not service the related first mortgage loans if they are sold, the Company may be unable to track the delinquency status of the related first mortgage loans and whether such loans are at risk of foreclosure by others. At September 30, 2013, second mortgage loans and home equity lines of credit for which the Company did not own or service the related first mortgage loans totaled approximately $89.3 million, which represented approximately 98% of the total second liens held by the Company. The Company monitors the increased credit risk associated with second mortgage loans and home equity lines of credit for which the Company does not own or service the related first mortgage loans by obtaining updated credit information on all borrowers from the credit bureaus as part of the overall management of the relationship. If these procedures identify significant deterioration in a borrower’s credit quality, the Company may freeze the borrower’s ability to make additional principal draws under the home equity lines of credit.

Home equity lines of credit are offered as “revolving” lines of credit which have a 15-year maturity and draw period. Scheduled monthly interest payments are the only required payments during the term of the line. The full principal amount is due at maturity as a lump-sum balloon payment. At maturity, home equity loans are re-underwritten based on our current underwriting standards and updated appraisals are generally obtained. Our underwriting criteria for such loans require the borrowers to qualify as if the loans require principal and interest payments for the complete term of the loans sufficient to fully amortize the loans. If the borrowers qualify under our current underwriting standards, the loans are either renewed, converted to conventional second mortgage loans that are fully amortizing, or refinanced along with the existing first mortgage into a new first mortgage loan. Borrowers may be required to repay a portion of the outstanding principal balance to qualify for such renewals. At September 30, 2013, approximately 97% of the home equity lines of credit were still paying interest only. The following table summarizes the maturity dates of our home equity lines of credit as of September 30, 2013 (dollars in thousands):

2013	$	171
2014		1,570
2015		1,316
2016		3,189
2017		3,463
2018		4,392
Thereafter		99,725
	$	113,826

Consumer and other loans

Consumer and other loans include loans secured by personal property such as automobiles, marketable securities, other titled recreational vehicles including boats and motorcycles, as well as unsecured consumer debt. The value of underlying collateral within this class is especially volatile due to potential rapid depreciation in values since date of loan origination in excess of principal repayment. Consumer loan collections are sensitive to job loss, illness and other personal factors.

An analysis of the allowance for loan losses for the three and nine months ended September 30, 2013 and 2012, respectively, is as follows (dollars in thousands):

	Commercial			Commercial			Commercial					Residential			Residential			Consumer
2013	Real Estate			Construction			and Industrial			Leases		Construction			Mortgage			and Other			Total
Allowance for loan losses:
Three months ended:
Balance July 1, 2013	$	12,891		$	6,997		$	3,541		$	-	$	377		$	8,773		$	280		$	32,859
Charge-offs		(1,658	)		(1,241	)		(1,053	)		-		-			(2,264	)		(53	)		(6,269	)
Recoveries		607			551			167			-		2			144			10			1,481
Provision (a)		1,729			615			(379	)		38		(145	)		1,577			(85	)		3,350
Change in FDIC indemnification asset (a)		(70	)		(119	)		435			-		-			645			46			937
Balance September 30, 2013	$	13,499		$	6,803		$	2,711		$	38	$	234		$	8,875		$	198		$	32,358

Nine months ended:
Balance January 1, 2013	$	15,718		$	9,807		$	3,578		$	18	$	593		$	10,441		$	137		$	40,292
Charge-offs		(3,383	)		(9,165	)		(3,292	)		-		-			(7,935	)		(279	)		(24,054	)
Recoveries		1,479			1,386			453			-		23			377			25			3,743
Provision (a)		1,364			2,975			1,556			20		(380	)		3,968			250			9,753
Change in FDIC indemnification asset (a)		(1,679	)		1,800			416			-		(2	)		2,024			65			2,624
Balance September 30, 2013	$	13,499		$	6,803		$	2,711		$	38	$	234		$	8,875		$	198		$	32,358

2012
Allowance for loan losses:
Three months ended:
Balance July 1, 2012	$	14,335		$	11,130		$	5,591		$	18	$	650		$	9,038		$	94		$	40,856
Charge-offs		(2,843	)		(2,033	)		(2,262	)		-		(40	)		(3,838	)		(41	)		(11,057	)
Recoveries		687			61			44			-		24			140			2			958
Provision (b)		(134	)		1,759			(359	)		-		(56	)		2,486			12			3,708
Change in FDIC indemnification asset (b)		-			-			-			-		-			358			-			358
Balance September 30, 2012	$	12,045		$	10,917		$	3,014		$	18	$	578		$	8,184		$	67		$	34,823

Nine months ended:
Balance January 1, 2012	$	11,789		$	10,957		$	4,338		$	18	$	699		$	3,058		$	149		$	31,008
Charge-offs		(6,632	)		(9,722	)		(4,392	)		-		(220	)		(6,425	)		(152	)		(27,543	)
Recoveries		704			926			261			-		24			718			11			2,644
Provision (b)		2,778			6,476			2,439			-		75			5,390			59			17,217
Change in FDIC indemnification asset (b)		3,406			2,280			368			-		-			5,443			-			11,497
Balance September 30, 2012	$	12,045		$	10,917		$	3,014		$	18	$	578		$	8,184		$	67		$	34,823

(a) The provision for loan losses includes the "net" provision on covered loans after coverage provided by FDIC loss-share agreements, which totaled $216,000 and $619,000 for the three and nine months ended September 30, 2013, respectively. This resulted in an increase in the FDIC indemnification asset of $937,000 and $2.6 million for the three and nine months ended September 30, 2013, respectively, which is the difference between the net provision on covered loans and the total additions to the allowance for loan losses allocable to the covered loans portfolio of $1.2 million and $3.2 million for the three and nine months ended September 30, 2013, respectively.

(b) The provision for loan losses includes the "net" provision on covered loans after coverage provided by FDIC loss-share agreements, which totaled $82,000 and $2.8 million for the three and nine months ended September 30, 2012, respectively. This resulted in an increase in the FDIC indemnification asset of $358,000 and $11.5 million for the three and nine months ended September 30, 2012, respectively, which is the difference between the net provision on covered loans and the total additions to the allowance for loan losses allocable to the covered loans portfolio of $440,000 and $14.3 million for the three and nine months ended September 30, 2012, respectively.

The following table provides a breakdown of the recorded investment in loans and the allowance for loan losses based on the method of determining the allowance:

	Commercial		Commercial		Commercial				Residential		Residential		Consumer
September 30, 2013	Real Estate		Construction		and Industrial		Leases		Construction		Mortgage		and Other		Total
Ending balances:
Specific reserves:
Impaired loans	$	2,671	$	1,393	$	42	$	-	$	39	$	1,402	$	2	$	5,549
Purchase credit impaired loans		3,982		609		275		-		-		2,754		17		7,637
Total specific reserves		6,653		2,002		317		-		39		4,156		19		13,186
General reserves		6,846		4,801		2,394		38		195		4,719		179		19,172
Total	$	13,499	$	6,803	$	2,711	$	38	$	234	$	8,875	$	198	$	32,358

Loans:
Ending balance:
Individually evaluated for impairment	$	34,399	$	13,293	$	1,367	$	-	$	357	$	15,893	$	60	$	65,369
Purchase credit impaired loans		106,065		21,103		7,637		-		16		55,995		1,950		192,766
Loans collectively evaluated for impairment		1,118,352		179,061		146,142		16,061		28,590		345,318		8,383		1,841,907
Total	$	1,258,816	$	213,457	$	155,146	$	16,061	$	28,963	$	417,206	$	10,393	$	2,100,042

December 31, 2012
Ending balances:
Specific reserves:
Impaired loans	$	578	$	3,023	$	4	$	-	$	2	$	1,612	$	-	$	5,219
Purchase credit impaired loans		6,518		2,704		1,569		-		-		4,000		18		14,809
Total specific reserves		7,096		5,727		1,573		-		2		5,612		18		20,028
General reserves		8,622		4,080		2,005		18		591		4,829		119		20,264
Total	$	15,718	$	9,807	$	3,578	$	18	$	593	$	10,441	$	137	$	40,292

Loans:
Ending balance:
Individually evaluated for impairment	$	26,076	$	19,367	$	1,682	$	-	$	361	$	16,850	$	127	$	64,463
Purchase credit impaired loans		121,983		34,666		12,397		-		5,741		68,273		2,590		245,650
Loans collectively evaluated for impairment		1,001,384		163,161		147,689		13,209		28,627		361,152		9,923		1,725,145
Total	$	1,149,443	$	217,194	$	161,768	$	13,209	$	34,729	$	446,275	$	12,640	$	2,035,258

The following presents information related to impaired loans, excluding purchased impaired loans, as of September 30, 2013 and December 31, 2012 (dollars in thousands):

							Impaired Loans - With
	Impaired Loans - With Allowance						No Allowance
					Allowance
			Unpaid		for				Unpaid
	Recorded		Principal		Loan Losses		Recorded		Principal
September 30, 2013:	Investment		Balance		Allocated		Investment		Balance
Originated:
Commercial real estate	$	26,632	$	26,554	$	2,627	$	7,321	$	7,310
Commercial construction		7,473		7,515		1,362		5,470		5,775
Commercial and industrial		666		662		41		538		535
Residential construction		358		357		39		-		-
Residential mortgage		11,056		11,021		1,378		3,597		3,594
Consumer and other		23		23		2		37		37
Total originated		46,208		46,132		5,449		16,963		17,251
Acquired (non-covered):
Commercial real estate		419		493		45		557		565
Commercial construction		389		388		30		-		-
Commercial and industrial		50		49		1		117		138
Residential mortgage		290		319		25		1,035		1,111
Total acquired (non-covered)		1,148		1,249		101		1,709		1,814
Acquired (covered):
Commercial real estate		-		-		-		99		109
Commercial construction		-		-		-		223		233
Commercial and industrial		-		-		-		4		37
Residential mortgage		-		-		-		6,345		6,498
Total acquired (covered)		-		-		-		6,671		6,877
Total loans	$	47,356	$	47,381	$	5,550	$	25,343	$	25,942

							Impaired Loans - With
	Impaired Loans - With Allowance						No Allowance
					Allowance
			Unpaid		for				Unpaid
	Recorded		Principal		Loan Losses		Recorded		Principal
December 31, 2012:	Investment		Balance		Allocated		Investment		Balance
Originated:
Commercial real estate	$	7,918	$	7,891	$	562	$	17,915	$	17,867
Commercial construction		11,838		11,815		3,022		7,581		7,552
Commercial and industrial		99		99		1		1,352		1,351
Residential construction		362		361		2		-		-
Residential mortgage		10,772		10,755		1,526		4,801		4,788
Consumer and other		-		-		-		124		122
Total originated		30,989		30,921		5,113		31,773		31,680
Acquired (non-covered):
Commercial real estate		500		800		16		248		256
Commercial and industrial		240		240		3		-		-
Residential mortgage		601		607		87		765		895
Consumer and other		-		-		-		5		5
Total acquired (non-covered)		1,341		1,647		106		1,018		1,156
Acquired (covered):
Commercial real estate		-		-		-		548		625
Commercial construction		-		-		-		530		561
Commercial and industrial		-		-		-		143		176
Residential mortgage		-		-		-		5,504		5,749
Total acquired (covered)		-		-		-		6,725		7,111
Total loans	$	32,330	$	32,568	$	5,219	$	39,516	$	39,947

The following presents information related to the average recorded investment, excluding purchase impaired loans, and interest income recognized on impaired loans for the three and nine months ended September 30, 2013 and 2012 (dollars in thousands):

	Three Months Ended September 30,								Nine Months Ended September 30,
	2013				2012				2013				2012
	Average		Interest		Average		Interest		Average		Interest		Average		Interest
	recorded		income		recorded		income		recorded		income		recorded		income
	investment		recognized		investment		recognized		investment		recognized		investment		recognized
Impaired loans with allowance:
Commercial real estate	$	27,158	$	311	$	14,074	$	184	$	19,039	$	583	$	12,841	$	330
Commercial construction		5,905		72		10,266		106		6,814		163		9,296		251
Commercial and industrial		603		10		363		35		363		14		1,410		74
Residential construction		433		4		363		3		359		9		330		7
Residential mortgage		11,299		129		11,311		134		11,444		253		9,763		238
Consumer and other		21		-		18		-		41		-		31		-
Total impaired loans with allowance	$	45,419	$	526	$	36,395	$	462	$	38,060	$	1,022	$	33,671	$	900
Impaired loans with no allowance:
Commercial real estate	$	9,146	$	149	$	13,936	$	163	$	16,153	$	425	$	10,591	$	461
Commercial construction		6,667		166		9,644		136		10,356		198		10,924		322
Commercial and industrial		481		6		1,411		28		686		10		911		38
Residential construction		-		-		-		-		-		-		491		9
Residential mortgage		11,389		164		7,024		74		11,490		208		7,212		154
Consumer and other		41		-		123		3		51		-		96		7
Total impaired loans with no allowance	$	27,724	$	485	$	32,138	$	404	$	38,736	$	841	$	30,225	$	991

For the three and nine months ended September 30, 2013 and 2012, the amount of interest income recognized within the period that the loans were impaired was primarily related to loans modified in a troubled debt restructuring (“TDR”) that remained on accrual status. For the three and nine months ended September 30, 2013 and 2012, the amount of interest income recognized using a cash-basis method of accounting during the period that the loans were impaired was not material.

The following presents an aging analysis of past due loans as of September 30, 2013 and December 31, 2012 (dollars in thousands):

					Greater
					than
	30-59 Days		60-89 Days		90 Days				Total				Total
September 30, 2013:	Past Due		Past Due		Past Due		Nonaccrual		Past Due		Current		Loans
Originated:
Commercial real estate	$	1,795	$	-	$	-	$	5,881	$	7,676	$	968,792	$	976,468
Commercial construction		2,570		179		83		6,066		8,898		165,964		174,862
Commercial and industrial		694		11		-		293		998		137,286		138,284
Leases		-		-		-		-		-		16,061		16,061
Residential construction		-		-		-		-		-		28,174		28,174
Residential mortgage		1,888		702		-		6,851		9,441		278,100		287,541
Consumer and other		6		-		-		37		43		7,802		7,845
Total originated		6,953		892		83		19,128		27,056		1,602,179		1,629,235
Acquired (non-covered):
Commercial real estate		-		689		-		605		1,294		179,326		180,620
Commercial construction		-		-		-		244		244		18,100		18,344
Commercial and industrial		145		-		-		168		313		9,794		10,107
Residential construction		-		-		-		-		-		773		773
Residential mortgage		364		38		-		1,117		1,519		57,050		58,569
Consumer and other		-		-		-		-		-		595		595
Total acquired (non-covered)		509		727		-		2,134		3,370		265,638		269,008
Acquired (covered):
Commercial real estate		419		-		-		11,729		12,148		89,580		101,728
Commercial construction		589		-		-		5,107		5,696		14,555		20,251
Commercial and industrial		302		-		-		487		789		5,966		6,755
Residential construction		-		-		-		-		-		16		16
Residential mortgage		1,345		171		-		12,524		14,040		57,056		71,096
Consumer and other		-		62		1		45		108		1,845		1,953
Total acquired (covered)		2,655		233		1		29,892		32,781		169,018		201,799
Total loans	$	10,117	$	1,852	$	84	$	51,154	$	63,207	$	2,036,835	$	2,100,042

					Greater
					than
	30-59 Days		60-89 Days		90 Days				Total				Total
December 31, 2012:	Past Due		Past Due		Past Due		Nonaccrual		Past Due		Current		Loans
Originated:
Commercial real estate	$	731	$	1,080	$	-	$	3,522	$	5,333	$	818,764	$	824,097
Commercial construction		369		-		-		7,586		7,955		145,924		153,879
Commercial and industrial		243		8		-		1,121		1,372		123,040		124,412
Leases		-		-		-		-		-		13,209		13,209
Residential construction		-		-		-		-		-		21,704		21,704
Residential mortgage		1,205		2,133		-		7,356		10,694		282,037		292,731
Consumer and other		9		127		-		-		136		8,988		9,124
Total originated		2,557		3,348		-		19,585		25,490		1,413,666		1,439,156
Acquired (non-covered):
Commercial real estate		1,255		-		-		1,179		2,434		208,155		210,589
Commercial construction		315		-		-		-		315		29,553		29,868
Commercial and industrial		113		-		-		248		361		26,097		26,458
Residential construction		136		-		-		-		136		12,674		12,810
Residential mortgage		960		-		-		1,425		2,385		64,144		66,529
Consumer and other		1		1		-		5		7		911		918
Total acquired (non-covered)		2,780		1		-		2,857		5,638		341,534		347,172
Acquired (covered):
Commercial real estate		5,257		84		-		12,730		18,071		96,686		114,757
Commercial construction		-		113		-		14,961		15,074		18,373		33,447
Commercial and industrial		55		-		-		1,170		1,225		9,673		10,898
Residential construction		-		-		-		-		-		215		215
Residential mortgage		3,593		352		-		18,057		22,002		65,013		87,015
Consumer and other		70		1		-		63		134		2,464		2,598
Total acquired (covered)		8,975		550		-		46,981		56,506		192,424		248,930
Total loans	$	14,312	$	3,899	$	-	$	69,423	$	87,634	$	1,947,624	$	2,035,258

Credit quality indicators

The Company uses several credit quality indicators to manage credit risk in an ongoing manner. The Company's primary credit quality indicators use an internal credit risk rating system that categorizes loans and leases into pass, special mention, or classified categories. Credit risk ratings are applied individually to those classes of loans and leases that have significant or unique credit characteristics that benefit from a case-by-case evaluation. These are typically loans and leases to businesses or individuals in the classes which comprise the commercial portfolio segment. Groups of loans and leases that are underwritten and structured using standardized criteria and characteristics are typically risk rated and monitored collectively. These are typically loans and leases to individuals in the classes which comprise the consumer portfolio segment.

At least annually the Company will review all loans exceeding a certain threshold and assign a risk rating. Loans excluded from the scope of the annual review process are generally classified as pass credits until: (a) they become past due; (b) management becomes aware of a deterioration in the creditworthiness of the borrower; or (c) the customer contacts the Company for a modification or new loan. The Company uses the following definitions for risk ratings:

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

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

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

Loss. Loans classified as loss are considered uncollectible and are in the process of being charged-off, as soon as practical, once so classified.

The following presents the recorded investment in the Company’s loans, by credit quality indicator, as of September 30, 2013 and December 31, 2012 (dollars in thousands):

			Pass		Special
September 30, 2013:	Total		Credits		Mention		Substandard		Doubtful		Loss
Originated:
Commercial real estate	$	976,468	$	890,829	$	38,800	$	46,839	$	-	$	-
Commercial construction		174,862		147,718		13,262		13,882		-		-
Commercial and industrial		138,284		130,480		5,086		2,718		-		-
Leases		16,061		16,061		-		-		-		-
Residential construction		28,174		26,485		1,063		626		-		-
Residential mortgage		287,541		249,273		19,765		18,503		-		-
Consumer and other		7,845		7,624		183		38		-		-
Total originated		1,629,235		1,468,470		78,159		82,606		-		-
Total acquired (non-covered):
Commercial real estate		180,620		158,043		12,872		9,705		-		-
Commercial construction		18,344		13,406		1,576		3,362		-		-
Commercial and industrial		10,107		9,033		59		1,015		-		-
Residential construction		773		773		-		-		-		-
Residential mortgage		58,569		44,954		8,350		5,265		-		-
Consumer and other		595		525		70		-		-		-
Total acquired (non-covered):		269,008		226,734		22,927		19,347		-		-
Acquired (covered):
Commercial real estate		101,728		61,917		15,319		17,242		5,185		2,065
Commercial construction		20,251		10,479		1,733		7,544		495		-
Commercial and industrial		6,755		4,548		1,284		533		390		-
Residential construction		16		-		16		-		-		-
Residential mortgage		71,096		39,097		14,076		10,460		7,055		408
Consumer and other		1,953		1,750		158		44		-		1
Total acquired (covered)		201,799		117,791		32,586		35,823		13,125		2,474
Total loans	$	2,100,042	$	1,812,995	$	133,672	$	137,776	$	13,125	$	2,474

			Pass		Special
December 31, 2012:	Total		Credits		Mention		Substandard		Doubtful		Loss
Originated:
Commercial real estate	$	824,097	$	739,050	$	39,562	$	45,485	$	-	$	-
Commercial construction		153,879		115,996		18,088		19,795		-		-
Commercial and industrial		124,412		117,546		4,385		2,481		-		-
Leases		13,209		13,209		-		-		-		-
Residential construction		21,704		19,546		440		1,718		-		-
Residential mortgage		292,731		250,083		21,831		20,817		-		-
Consumer and other		9,124		8,760		320		44		-		-
Total originated		1,439,156		1,264,190		84,626		90,340		-		-
Acquired (non-covered):
Commercial real estate		210,589		192,016		6,993		11,080		500		-
Commercial construction		29,868		24,060		2,228		3,580		-		-
Commercial and industrial		26,458		24,491		1,401		326		-		240
Residential construction		12,810		7,086		176		5,548		-		-
Residential mortgage		66,529		57,965		4,445		4,119		-		-
Consumer and other		918		903		10		5		-		-
Total acquired (non-covered)		347,172		306,521		15,253		24,658		500		240
Acquired (covered):
Commercial real estate		114,757		69,401		19,744		14,960		10,642		10
Commercial construction		33,447		14,605		1,493		9,715		7,634		-
Commercial and industrial		10,898		6,251		2,745		1,118		784		-
Residential construction		215		16		199		-		-		-
Residential mortgage		87,015		46,039		17,069		11,956		11,808		143
Consumer and other		2,598		2,237		291		58		11		1
Total acquired (covered)		248,930		138,549		41,541		37,807		30,879		154
Total loans	$	2,035,258	$	1,709,260	$	141,420	$	152,805	$	31,379	$	394

Modifications

A modification of a loan constitutes a TDR when a borrower is experiencing financial difficulty and the modification constitutes a concession. The Company offers various types of concessions when modifying a loan, however, forgiveness of principal is rarely granted. Commercial and industrial loans modified in a TDR often involve temporary interest-only payments, term extensions, and converting revolving credit lines to term loans. Additional collateral, a co-borrower, or a guarantor is often requested. Commercial mortgage and construction loans modified in a TDR often involve reducing the interest rate for the remaining term of the loan, extending the maturity date at an interest rate lower than the current market rate for new debt with similar risk, or substituting or adding a new borrower or guarantor. Construction loans modified in a TDR may also involve extending the interest-only payment period. Residential mortgage loans modified in a TDR are primarily comprised of loans where monthly payments are lowered to accommodate the borrowers’ financial needs for a period of time. After the lowered monthly payment period ends, the borrower reverts back to paying principal and interest per the original terms with the maturity date adjusted accordingly. Land loans are also included in the class of residential mortgage loans. Land loans are typically structured as interest-only monthly payments with a balloon payment due at maturity. Land loans modified in a TDR typically involve extending the balloon payment by one to three years, changing the monthly payments from interest-only to principal and interest. Home equity modifications are made infrequently and are not offered if the Company also holds the first mortgage. Home equity modifications are uniquely designed to meet the specific needs of each borrower. Occasionally, the terms will be modified to a standalone second lien mortgage, thereby changing their loan class from home equity to residential mortgage.

Loans modified in a TDR are, in many cases, already on non-accrual status and partial charge-offs have in some cases already been taken against the outstanding loan balance. As a result, loans modified in a TDR for the Company may have the financial effect of increasing the specific allowance associated with the loan. An allowance for impaired consumer and commercial loans that have been modified in a TDR is measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s observable market price, or the estimated fair value of the collateral, less any selling costs, if the loan is collateral dependent. Management exercises significant judgment in developing these estimates. Once we classify a loan a TDR, the loan is only removed from TDR classification under three circumstances: (1) the loan is paid off, (2) the loan is charged off or (3) if, at the beginning of the current fiscal year, the loan has performed in accordance with the modified terms for a minimum of six consecutive months and at the time of modification the loan’s interest rate represented a then current market interest rate for a loan of similar risk.

The following table provides a summary of loans modified as TDRs at September 30, 2013 and December 31, 2012 (dollars in thousands):

							Allowance for
					Total		Loan Losses
	Accrual		Nonaccrual		TDRs		Allocated
September 30, 2013:
Commercial real estate	$	4,296	$	1,081	$	5,377	$	759
Commercial construction		2,221		3,314		5,535		569
Commercial and industrial		692		-		692		16
Residential mortgage		6,569		1,162		7,731		505
Consumer and other		24		38		62		2
Total modifications	$	13,802	$	5,595	$	19,397	$	1,851
Total contracts		10		40		50

							Allowance for
					Total		Loan Losses
	Accrual		Nonaccrual		TDRs		Allocated
December 31, 2012:
Commercial real estate	$	16,010	$	2,314	$	18,324	$	904
Commercial construction		11,420		1,030		12,450		1,960
Commercial and industrial		322		1,029		1,351		-
Residential mortgage		8,015		4,639		12,654		1,165
Consumer and other		122		11		133		-
Total modifications	$	35,889	$	9,023	$	44,912	$	4,029
Total contracts		44		20		64

As of September 30, 2013 and December 31, 2012, the Company had no available commitments outstanding on TDRs.

The Company offers a variety of modifications to borrowers. The modification categories offered can generally be described in the following categories:

Rate modification -A modification in which the interest rate is changed.

Term modification - A modification in which the maturity date, timing of payments or frequency of payments is changed.

Interest only modification – A modification in which the loan is converted to interest only payments for a period of time.

Payment modification – A modification in which the principal and interest payment are lowered from the original contractual terms.

Combination modification – Any other type of modification, including the use of multiple categories above.

The following table presents new TDRs, by modification category, for the three and nine months ended September 30, 2013 and 2012 (dollars in thousands). All balances represent the recorded investment as of the end of the period in which the modification was made.

	Three Months Ended September 30, 2013
					Interest
	Rate		Term		only		Combination		Total
	modifications		modifications		modifications		modifications		modifications
Commercial real estate	$	-	$	-	$	331	$	-	$	331
Commercial and industrial		-		40		536		-		576
Residential mortgage		-		84		390		371		845
Total modifications	$	-	$	124	$	1,257	$	371	$	1,752

	Nine Months Ended September 30, 2013
					Interest
	Rate		Term		only		Combination		Total
	modifications		modifications		modifications		modifications		modifications
Commercial real estate	$	101	$	648	$	331	$	911	$	1,991
Commercial construction		128		-		152		553		833
Commercial and industrial		-		129		536		-		665
Residential mortgage		452		84		1,076		573		2,185
Consumer and other		-		23		-		-		23
Total modifications	$	681	$	884	$	2,095	$	2,037	$	5,697

	Three Months Ended September 30, 2012
					Interest
	Rate		Term		only		Combination		Total
	modifications		modifications		modifications		modifications		modifications
Commercial real estate	$	-	$	-	$	1,893	$	458	$	2,351
Commercial construction		-		-		380		-		380
Residential mortgage		-		59		-		2,097		2,156
Consumer and other		-		-		11		-		11
Total modifications	$	-	$	59	$	2,284	$	2,555	$	4,898

	Nine Months Ended September 30, 2012
					Interest
	Rate		Term		only		Combination		Total
	modifications		modifications		modifications		modifications		modifications
Commercial real estate	$	-	$	2,517	$	3,034	$	11,083	$	16,634
Commercial construction		-		641		1,693		-		2,334
Commercial and industrial		-		34		-		294		328
Residential mortgage		-		515		3,233		4,993		8,741
Consumer and other		-		-		11		-		11
Total modifications	$	-	$	3,707	$	7,971	$	16,370	$	28,048

The following table summarizes the period-end balance for loans modified and classified as TDRs in the previous 12 months for which a payment default has occurred during the period (dollars in thousands). The Company defines payment default as movement of the restructuring to nonaccrual status, foreclosure or charge-off, whichever occurs first.

	Three Months Ended		Nine Months Ended
	September 30, 2013		September 30, 2013
Commercial construction	$	-	$	5,906
Commercial and industrial		-		29
Residential construction		630		630

	Three Months Ended		Nine Months Ended
	September 30, 2012		September 30, 2012
Commercial real estate	$	838	$	2,522
Commercial construction		1,975		5,961
Commercial and industrial		-		2,339

Loans held for sale

The Company originates certain single family, residential first mortgage loans for sale on a presold basis. Loan sale activity for the three and nine months ended September 30, 2013 and 2012 is summarized below (dollars in thousands):

	Three Months Ended September 30,				Nine Months Ended September 30,
	2013		2012		2013		2012
Loans held for sale at September 30,	$	17,732	$	29,883	$	17,732	$	29,883
Proceeds from sales of loans held for sale		91,540		60,839		289,828		168,440
Mortgage fees		2,408		1,773		7,269		4,267

NOTE 7 – FDIC INDEMNIFICATION ASSET

The Company has recorded an indemnification asset related to loss share agreements entered into with the FDIC wherein the FDIC will reimburse the Company for certain amounts related to certain acquired loans and other real estate owned should the Company experience a loss. Under the loss sharing arrangements, the FDIC has agreed to absorb 80% of all future losses and workout expenses on these assets which occur prior to the expiration of the loss sharing agreements. The Company entered into the respective loss-share agreements with the acquisition of Beach First National Bank (“Beach First”) and Blue Ridge Savings Bank (“Blue Ridge”).

Each loss sharing arrangement consists of one single family residential mortgage loan agreement and one commercial and other loans and other real estate owned agreement. The single family residential mortgage loan loss-share agreements provide for FDIC loss sharing and reimbursement for recoveries to the FDIC for ten years from April 9, 2010 and October 14, 2011 for the purchases of Beach First and Blue Ridge, respectively, and reimbursement to the FDIC for ten years from these dates. The commercial and other loan and other real estate owned loss-share agreements provide for FDIC loss sharing for five years from the above stated dates, and reimbursement to the FDIC for eight years from the above dates.

FDIC indemnification asset activity for the three and nine months ended September 30, 2013 and 2012 is summarized as follows (dollars in thousands):

	Three Months Ended September 30,						Nine Months Ended September 30,
	2013			2012			2013			2012
Balance at beginning of period	$	38,166		$	72,483		$	53,519		$	91,851
Accretion of present value discount, net		83			524			59			1,155
Post-acquisition adjustments		268			(348	)		1,079			12,984
Receipt of payment from FDIC		(6,475	)		(16,628	)		(22,615	)		(49,959	)
Balance at end of period	$	32,042		$	56,031		$	32,042		$	56,031

The FDIC indemnification asset is measured separately from the related covered assets and is initially recorded at fair value. The fair value was estimated using projected cash flows related to the loss-share agreements based on the expected reimbursements for losses and the applicable loss-share percentages. Cash flow projections are reviewed and updated prospectively as loss estimates related to both covered loans and covered OREO change.

NOTE 8 – DERIVATIVES

The Company utilizes derivative financial instruments primarily to hedge its exposure to changes in interest rates. All derivative financial instruments are recorded on the balance sheet at their respective fair values. The Company does not use financial instruments or derivatives for any trading or other speculative purposes.

The primary focus of the Company’s asset/liability management program is to monitor the sensitivity of the Company’s net portfolio value and net income under varying interest rate scenarios to take steps to control its risks. On a quarterly basis, the Company simulates the net portfolio value and net income expected to be earned over a twelve-month period following the date of simulation. The simulation is based on a projection of market interest rates at varying levels and estimates the impact of such market rates on the levels of interest-earning assets and interest-bearing liabilities during the measurement period. Based upon the outcome of the simulation analysis, the Company considers the use of derivatives as a means of reducing the volatility of net portfolio value and projected net income within certain ranges of projected changes in interest rates. The Company evaluates the effectiveness of entering into any derivative instrument agreement by measuring the cost of such an agreement in relation to the reduction in net portfolio value and net income volatility within an assumed range of interest rates. The Company also has derivatives that are a result of a service it provides to certain qualifying customers, which includes a matched book of derivative instruments offered to customers in order to minimize their interest rate risk.

Derivatives Designated as Cash Flow Hedges of Interest Rate Risk

The Company has variable rate funding which creates exposure to variability in interest payments due to changes in interest rates. During the first quarter of 2009, the Company entered into a five-year interest rate derivative contract, with a notional amount of $250 million, to offset the effects of interest rate changes on an unsecured $250 million variable rate money market funding arrangement. Under this cash flow hedge relationship, the Company has structured a synthetic cap, where the objective is to offset the effect of interest rate changes, whenever funding rates are higher than the strike rate of the synthetic cap. During the third quarter of 2009, the Company paid $24 million to self-finance the transaction, thus securing a traditional interest rate cap. The maturity date of this interest rate cap is February 16, 2014.

In March 2013, the Company entered into a forward-starting interest rate swap transaction with a notional amount of$125 million to effectively convert$125 million of its variable-rate money market funding arrangement to fixed interest rate debt as of the forward-starting date of the swap transaction. The effective date of this interest rate swap is September 16, 2014 and the termination date is March 18, 2019. The swap transaction was designated as a cash flow hedge of the changes in cash flows attributable to changes in one-month LIBOR, the benchmark interest rate being hedged, associated with the interest payments made on the first$125 million of the Company's variable rate money market funding arrangement, which are indexed to one-month LIBOR.

Derivatives Not Designated as Hedges

The Company utilizes derivative financial instruments, including interest rate swaps, caps and/or floors, as part of its ongoing efforts to mitigate its interest rate risk exposure and to help its commercial customers manage their exposure to interest rate fluctuations. To mitigate the interest rate risk associated with these customer contracts, the Company enters into an offsetting derivative contract position. These derivative positions are recorded at fair value on the Company’s consolidated balance sheet and, due to the matched nature of these derivative instruments, changes in fair value do not impact the Company’s earnings. At September 30, 2013 and December 31, 2012, the Company had notional amounts of $22.9 million and $18.0 million, respectively, on interest rate contracts with corporate customers and in offsetting interest rate contracts with another financial institution to mitigate the Company’s rate exposure on its corporate customers’ contracts.

The fair value of the Company’s derivatives as of September 30, 2013 and December 31, 2012 is as follows (dollars in thousands):

	September 30, 2013					December 31, 2012
	Notional		Balance Sheet			Notional		Balance Sheet
	Amount		Location	Fair Value		Amount		Location	Fair Value
Derivative assets:
Derivatives designated as hedging instruments:
Interest rate cap	$	250,000	Other assets	$	1	$	250,000	Other assets	$	40
Interest rate swap		125,000	Other assets		2,001		-	N/A		-
	$	375,000		$	2,002	$	250,000		$	40

Derivatives not designated as hedging instruments:
Interest rate swaps	$	17,229	Other assets	$	431	$	11,499	Other assets	$	672
Interest rate cap/floor		5,635	Other assets		138		6,524	Other assets		330
	$	22,864		$	569	$	18,023		$	1,002

Derivative liabilities:
Derivatives not designated as hedging instruments:
Interest rate swaps	$	22,864	Accrued expenses and other liabilities	$	569	$	18,023	Accrued expenses and other liabilities	$	1,002

The derivative instruments held by the Company are subject to master netting arrangements which contain a legally enforceable right to offset recognized amounts and settle such amounts on a net basis. The Company has elected to present the financial assets and financial liabilities associated with these arrangements on a gross basis in the Consolidated Balance Sheets. Cash collateral is posted by the counterparty with net liability positions in accordance with contract thresholds.

Information about financial instruments that are eligible for offset in the consolidated balance sheet as of September 30, 2013 and December 31, 2012 is presented in the following tables (dollar amounts in thousands):


	Gross Amount Recognized		Gross Amounts Offset in the Consolidated Balance Sheets		Net Amounts Presented in the Consolidated Balance Sheets		Gross Amounts Not Offset in the Consolidated Balance Sheets				Net
	Gross Amount Recognized		Gross Amounts Offset in the Consolidated Balance Sheets		Net Amounts Presented in the Consolidated Balance Sheets		Financial Instruments		Collateral Held/Pledged		Net
September 30, 2013
Derivative assets	$	2,571	$	-	$	2,571	$	-	$	2,230	$	341
Derivative liabilities		569		-		569		-		569		-
Total derivative instruments	$	3,140	$	-	$	3,140	$	-	$	2,799	$	341

December 31, 2012
Derivative assets	$	1,042		-		1,042		-		-		1,042
Derivative liabilities		1,002		-		1,002		-		1,002		-
Total derivative instruments	$	2,044	$	-	$	2,044	$	-	$	1,002	$	1,042

The Company has recorded a net loss of $717,000, net of tax, as accumulated other comprehensive loss atSeptember 30, 2013 associated with cash flow hedging instruments and expects losses of $1.9 million, net of tax, to be reclassified into earnings within the next 12 months. The following table presents the losses recorded in the Consolidated Statements of Income and Consolidated Statements of Comprehensive Income, respectively, relating to derivative instruments designated as cash flow hedges (dollars in thousands, net of tax):

	Three Months Ended September 30,						Nine Months Ended September 30,
	2013			2012			2013		2012
Derivatives designated as hedging instruments:
Amount of net gain (losses) recorded in OCI (effective portion)	$	(599	)	$	(81	)	$	1,205	$	(347	)
Amount of net loss reclassified from OCI to earnings (1)		1,613			1,236			4,402		3,567

(1) Amount recorded in interest expense on demand deposits in the Consolidated Statements of Income

The amounts included in accumulated other comprehensive income will be reclassified to interest expense should the hedges no longer be considered effective.No amount of ineffectiveness was included in net income for the nine months endedSeptember 30, 2013 and 2012.The Company will continue to assess the effectiveness of the hedges on a quarterly basis.

Counterparty Credit Risk -By entering into derivative instrument contracts, the Company exposes itself, from time to time, to counterparty credit risk. Counterparty credit risk is the failure of the counterparty to perform under the terms of the derivative contract. When the fair value of a derivative contract is in an asset position, the counterparty has a liability to the Company, which creates credit risk for the Company. The Company attempts to minimize this risk by selecting counterparties with investment grade credit ratings, limiting its exposure to any single counterparty and regularly monitoring its market position with each counterparty.

Credit-Risk Related Contingent Features –The Company’s derivative instruments contain provisions allowing the financial institution counterparty to terminate the contracts in certain circumstances, such as a default by the Company on its indebtedness or the failure to maintain its regulatory status as a well-capitalized institution. These derivative agreements also contain provisions regarding the posting of collateral by each party. As of September 30, 2013, the aggregate fair value of derivative instruments with credit-risk-related contingent features that were in a net liability position was $569,000, for which the Company has posted collateral of $1.3 million.

NOTE 9 – BORROWINGS

Short-term borrowings at September 30, 2013 and December 31, 2012 consisted of the following (dollars in thousands):

	September 30, 2013		December 31, 2012
Customer repurchase agreements	$	27,394	$	30,332
Advances from FHLB		114,000		2,000
Federal funds purchased		2,280		50
	$	143,674	$	32,382

Customer repurchase agreements are sweep accounts with next day maturities utilized by larger commercial customers to earn interest on their funds. Securities are pledged to these customers in an amount equal to the outstanding balance.

Long-term debt at September 30, 2013 and December 31, 2012 consisted of the following (dollars in thousands):

	September 30, 2013		December 31, 2012

FHLB advances	$	59,542	$	62,000
Term loan		29,625		-
Junior subordinated debentures		23,713		26,173
Total	$	112,880	$	88,173

During the first quarter of 2013, the Company prepaid and restructured $20.0 million in FHLB advances. The early repayment of the debt resulted in a prepayment penalty of $2.7 million, which will be amortized to interest expense in future periods as an adjustment to the cost of the new FHLB advances.

On April 26, 2013, the Company entered into a $30.0 million senior unsecured term loan agreement (the “Term Loan”). The Term Loan currently bears interest at 5.50% and matures on April 26, 2018. The net proceeds from the Term Loan were used to redeem the Company’s Series A Preferred Stock. The Company was not in violation of any covenants included in the Term Loan agreement as of September 30, 2013.

On July 1, 2013, the Company exercised its redemption option and redeemed $2.4 million of its 8.00% fixed rate convertible junior subordinated debentures. These debentures were acquired as part of the acquisition of KeySource.

NOTE 10 – ACCUMULATED OTHER COMPREHENSIVE INCOME

The changes in accumulated other comprehensive income, net of taxes, for the three and nine months ended September 30, 2013 and 2012 are as follows (dollars in thousands):

	Unrealized			Unrealized Holding Gains
	Holding Gains on Available-			on Investment Securities Transferred			Unrealized Holding			Total Accumulated
	For-Sale Investment Securities			from Available- For-Sale to Held- to-Maturity			Losses on Cash Flow Hedging Activities			Other Comprehensive Income
Balance at June 30, 2013	$	383		$	3,921		$	(1,731	)	$	2,573
Other comprehensive income (loss) before reclassifications		(1,740	)		-			(599	)		(2,339	)
Amounts reclassified from accumulated other comprehensive income		-			(102	)		1,613			1,511
Net current period other comprehensive income (loss)		(1,740	)		(102	)		1,014			(828	)
Balance at September 30, 2013	$	(1,357	)	$	3,819		$	(717	)	$	1,745

	Unrealized			Unrealized Holding Gains
	Holding Gains on Available-			on Investment Securities Transferred			Unrealized Holding			Total Accumulated
	For-Sale Investment Securities			from Available- For-Sale to Held- to-Maturity			Losses on Cash Flow Hedging Activities			Other Comprehensive Income
Balance at December 31, 2012	$	8,872		$	2,881		$	(6,324	)	$	5,429
Other comprehensive income (loss) before reclassifications		(9,042	)		-			1,205			(7,837	)
Amounts reclassified from accumulated other comprehensive income		32			(281	)		4,402			4,153
Amounts transferred as a result of the reclassification of securities from available-for-sale to held-to-maturity		(1,219	)		1,219			-			-
Net current period other comprehensive income (loss)		(10,229	)		938			5,607			(3,684	)
Balance at September 30, 2013	$	(1,357	)	$	3,819		$	(717	)	$	1,745

	Unrealized			Unrealized Holding Gains
	Holding Gains on Available-			on Investment Securities Transferred			Unrealized Holding			Total Accumulated
	For-Sale Investment Securities			from Available- For-Sale to Held- to-Maturity			Losses on Cash Flow Hedging Activities			Other Comprehensive Income
Balance at June 30, 2012	$	9,477		$	3,046		$	(8,773	)	$	3,750
Other comprehensive income (loss) before reclassifications		864			-			(81	)		783
Amounts reclassified from accumulated other comprehensive income		(464	)		(83	)		1,236			689
Net current period other comprehensive income (loss)		400			(83	)		1,155			1,472
Balance at September 30, 2012	$	9,877		$	2,963		$	(7,618	)	$	5,222

	Unrealized			Unrealized Holding Gains
	Holding Gains on Available-			on Investment Securities Transferred			Unrealized Holding			Total Accumulated
	For-Sale Investment Securities			from Available- For-Sale to Held- to-Maturity			Losses on Cash Flow Hedging Activities			Other Comprehensive Income
Balance at December 31, 2011	$	8,637		$	3,211		$	(10,838	)	$	1,010
Other comprehensive income (loss) before reclassifications		2,699			-			(347	)		2,352
Amounts reclassified from accumulated other comprehensive income		(1,459	)		(248	)		3,567			1,860
Net current period other comprehensive income (loss)		1,240			(248	)		3,220			4,212
Balance at September 30, 2012	$	9,877		$	2,963		$	(7,618	)	$	5,222

The following table details reclassification adjustments from accumulated other comprehensive income during the three and nine months ended September 30, 2013 (dollars in thousands):

	Amount Reclassified
	from Accumulated
	Other Comprehensive Income For the
Details about Accumulated Other Comprehensive Income Components	Three Months Ended September 30, 2013			Affected Line Item in the Consolidated Statement of Income

Unrealized holding gains – investment securities transferred from available-for-sale to held-to-maturity (1)		166		Interest income - investment securities
		(64	)	Income tax benefit (expense)
		102		Total, net of tax

Unrealized holding losses – cash flow hedge instruments		(2,625	)	Interest expense - demand deposits
		1,012		Income tax benefit (expense)
		(1,613	)	Total, net of tax
Total reclassifications for the period	$	(1,511	)	Total, net of tax

	Amount Reclassified
	from Accumulated
	Other Comprehensive Income For the
Details about Accumulated Other Comprehensive Income Components	Nine Months Ended September 30, 2013			Affected Line Item in the Consolidated Statement of Income
Unrealized holding gains – investment securities available-for-sale	$	(52	)	Gain (loss) on sale of investment securities, net
		20		Income tax benefit (expense)
		(32	)	Total, net of tax

Unrealized holding gains – investment securities transferred from available-for-sale to held-to-maturity (1)		457		Interest income - investment securities
		(176	)	Income tax benefit (expense)
		281		Total, net of tax

Unrealized holding losses – cash flow hedge instruments		(7,163	)	Interest expense - demand deposits
		2,761		Income tax benefit (expense)
		(4,402	)	Total, net of tax
Total reclassifications for the period	$	(4,153	)	Total, net of tax

(1) The amortization of the unrealized holding gains in accumulated other comprehensive income at the date of transfer partially offsets the amortization of the difference between the par value and fair value of the investment securities at the date of transfer. Both components are amortized as an adjustment of yield.

NOTE 11 - FAIR VALUE MEASUREMENT

ASC Topic 820, Fair Value Measurements and Disclosures, establishes a framework for measuring fair value, establishes a three-level valuation hierarchy for disclosure of fair value measurement and enhances disclosure requirements for fair value measurements. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date. The three levels of valuations are defined as follows:

Level 1 – Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2 – Inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

Level 3 – Inputs to the valuation methodology are unobservable and significant to the fair value measurement, and require significant management judgment or estimation using pricing models, discounted cash flow methodologies or similar techniques.

Fair Value on a Recurring Basis – The Company measures certain assets at fair value on a recurring basis and the following is a general description of the methods used to value such assets.

Investment Securities Available-for-Sale – The fair value of our investment securities available-for-sale are determined by a third-party pricing service. The valuations provided by the third-party pricing service are based on observable market inputs, which include benchmark yields, reported trades, issuer spreads, benchmark securities, bids, offers and reference data obtained from market research publications. The valuation of mortgage-backed securities also includes new issue data, monthly payment information and “To Be Announced” prices. The valuation of state and municipal securities also include the use of material event notices. We review the prices supplied by the independent pricing service, as well as their underlying pricing methodologies, for reasonableness. At least annually, we will validate prices supplied by the independent pricing service by comparing to prices obtained from a second third-party source. The Company classifies these investment securities as Level 2 valuation.

Derivative Assets and Liabilities –The values of derivative instruments held or issued by the Company for risk management purposes are traded in over-the-counter markets where quoted market prices are not readily available. For those derivatives, the Company measures fair value using models that use primarily market observable inputs, such as yield curves and option volatilities, and include the value associated with counterparty credit risk. The Company classifies derivative instruments as Level 2 valuation.

Below is a table that presents information about certain assets and liabilities measured at fair value on a recurring basis (dollars in thousands):

	Assets and Liabilities
	Measured at		Fair Value Measured Using
Description	Fair Value		Level 1		Level 2		Level 3
September 30, 2013:
Assets:
Investment securities available-for-sale:
U.S. government agencies	$	14,697	$	-	$	14,697	$	-
State and municipals		177,697		-		177,697		-
Corporate debt securities		7,871		-		7,871		-
Other debt securities		4,360		-		4,360		-
Mortgage-backed securities:
Residential government sponsored		46,221		-		46,221		-
Other government sponsored		7,114		-		7,114		-
Total investment securities available-for-sale		257,960		-		257,960		-
Derivative instruments:
Interest rate swap - cash flow hedge		2,001		-		2,001		-
Interest rate cap - cash flow hedge		1		-		1		-
Interest rate swap - not designated		431		-		431		-
Interest rate cap/floor - not designated		138		-		138		-
Total derivative instruments		2,571		-		2,571		-
Total assets measured at fair value on a recurring basis	$	260,531	$	-	$	260,531	$	-
Liabilities:
Interest rate swap - not designated	$	569	$	-	$	569	$	-
Total liabilities measured at fair value on a recurring basis	$	569	$	-	$	569	$	-

December 31, 2012:
Assets:
Investment securities available-for-sale:
U.S. government agencies	$	16,395	$	-	$	16,395	$	-
State and municipals		223,886		-		223,886		-
Mortgage-backed securities:
Residential government sponsored		86,890		-		86,890		-
Other government sponsored		14,368		-		14,368		-
Total investment securities available-for-sale		341,539		-		341,539		-
Derivative instruments:
Interest rate cap - cash flow hedge		40		-		40		-
Interest rate swap - not designated		672		-		672		-
Interest rate cap/floor - not designated		330		-		330		-
Total derivative instruments		1,042		-		1,042		-
Total assets measured at fair value on a recurring basis	$	342,581	$	-	$	342,581	$	-
Liabilities:
Interest rate swap - not designated	$	1,002	$	-	$	1,002	$	-
Total liabilities measured at fair value on a recurring basis	$	1,002	$	-	$	1,002	$	-

Fair Value on a Nonrecurring Basis –The Company measures certain assets at fair value on a nonrecurring basis and the following is a general description of the methods used to value such assets.

Loans Held for Sale – Loans held for sale are carried at the lower of cost or market value. The fair value of loans held for sale is based on what secondary markets are currently offering for portfolios with similar characteristics. As such, the Company classifies loans subjected to nonrecurring fair value adjustments as Level 2 valuation.

Impaired Loans –The Company considers a loan impaired when it is probable that the Company will be unable to collect all amounts due according to the original contractual terms of the note agreement, including both principal and interest. Management has determined that nonaccrual loans and loans that have had their terms restructured in a troubled debt restructuring meet this impaired loan definition. For individually evaluated impaired loans, the amount of impairment is based upon the present value of expected future cash flows discounted at the loan’s effective interest rate or the estimated fair value of the underlying collateral for collateral-dependent loans, which the Company classifies as a Level 3 valuation.

Other Real Estate Owned –Other real estate owned is initially recorded at the lower of carrying value or fair value. Fair value is based upon independent market prices, appraised values of the collateral or management’s estimation of the value of the collateral, which the Company classifies as a Level 3 valuation.

Below is a table that presents information about certain assets and liabilities measured at fair value on a nonrecurring basis (dollars in thousands):

	Assets
	Measured at		Fair Value Measured Using
Description	Fair Value		Level 1		Level 2		Level 3
September 30, 2013:
Loans held for sale	$	17,732	$	-	$	17,732	$	-
Impaired loans		244,949		-		-		244,949
Other real estate owned		47,672		-		-		47,672
Total assets measured at fair value on a nonrecurring basis	$	310,353	$	-	$	17,732	$	292,621

December 31, 2012:
Loans held for sale	$	57,414	$	-	$	57,414	$	-
Impaired loans		290,085		-		-		290,085
Other real estate owned		51,913		-		-		51,913
Total assets measured at fair value on a nonrecurring basis	$	399,412	$	-	$	57,414	$	341,998

Below is a table that presents the valuation and unobservable inputs for Level 3 assets and liabilities measured at fair value on a nonrecurring basis at September 30, 2013 (dollars in thousands):

Fair Value at

Valuation

Range of

Description

September 30, 2013

Methodology

Unobservable Inputs

Inputs

Impaired loans

244,949

Appraised value

Discount to reflect current market conditions and ultimate collectability

0% - 20%

Other real estate owned

47,672

Appraised value

Discount to reflect current market conditions

0% - 20%

Estimated fair values of financial instruments have been estimated by the Company using the provisions of ASC Topic 825,Financial Instruments (“ASC 825”), which requires disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate that value. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques.

Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instruments. ASC 825 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company.

The carrying value and estimated fair values of the Company’s financial instruments, including those that are not measured and reported at fair value on a recurring basis or nonrecurring basis, at the dates indicated are as follows (dollars in thousands):

	September 30, 2013
	Carrying		Estimated
	Value		Fair Value		Level 1		Level 2		Level 3
Financial assets:
Cash and cash equivalents	$	68,883	$	68,883	$	68,883	$	-	$	-
Investment securities available-for-sale		257,960		257,960		-		257,960		-
Investment securities held-to-maturity		242,489		232,221		-		232,221		-
Federal Home Loan Bank stock		11,697		11,697		-		11,697		-
Loans held for sale		17,732		17,732		-		17,732		-
Loans receivable, net		2,067,684		2,085,777		-		1,840,828		244,949
Accrued interest receivable		10,580		10,580		-		10,580		-
FDIC indemnification asset		32,042		32,042		-		-		32,042
Investment in bank-owned life insurance		72,556		72,556		-		72,556		-
Interest rate swap derivative - cash flow hedge		2,001		2,001		-		2,001		-
Interest rate cap derivative - cash flow hedge		1		1		-		1		-
Interest rate swap derivative - not designated		431		431		-		431		-
Interest rate cap/floor derivative - not designated		138		138		-		138		-
Financial liabilities:
Demand deposits and savings	$	1,472,182	$	1,472,182	$	-	$	1,472,182	$	-
Time deposits		963,697		972,363		-		972,363		-
Short-term borrowings		143,674		143,674		-		143,674		-
Long-term debt		112,880		106,330		-		106,330		-
Accrued interest payable		1,683		1,683		-		1,683		-
Interest rate swap derivative - not designated		569		569		-		569		-

	December 31, 2012
	Carrying		Estimated
	Value		Fair Value		Level 1		Level 2		Level 3
Financial assets:
Cash and cash equivalents	$	234,071	$	234,071	$	234,071	$	-	$	-
Investment securities available-for-sale		341,539		341,539		-		341,539		-
Investment securities held-to-maturity		114,805		118,235		-		118,235		-
Federal Home Loan Bank stock		7,604		7,604		-		7,604		-
Loans held for sale		57,414		57,414		-		57,414		-
Loans receivable, net		1,994,966		1,976,745		-		1,686,660		290,085
Accrued interest receivable		11,363		11,363		-		11,363		-
FDIC indemnification asset		53,519		53,519		-		-		53,519
Investment in bank-owned life insurance		70,756		70,756		-		70,756		-
Interest rate cap derivative - cash flow hedge		40		40		-		40		-
Interest rate swap derivative - not designated		672		672		-		672		-
Interest rate cap/floor derivative - not designated		330		330		-		330		-
Financial liabilities:
Demand deposits and savings	$	1,496,694	$	1,496,694	$	-	$	1,496,694	$	-
Time deposits		1,159,615		1,170,560		-		1,170,560		-
Short-term borrowings		32,382		32,382		-		32,382		-
Long-term debt		88,173		83,292		-		83,292		-
Accrued interest payable		2,158		2,158		-		2,158		-
Interest rate swap derivative - not designated		1,002		1,002		-		1,002		-

The following methods and assumptions were used to estimate the fair value of financial instruments that have not been previously discussed:

Cash and cash equivalents - The carrying amounts reported in the balance sheets for cash and cash equivalents approximate the fair value of those assets.

Investment securities held-to-maturity - The fair value of our investment securities held-to-maturity are determined by a third-party pricing service. The valuations provided by the third-party pricing service for state and municipal securities are based on observable market inputs, which include benchmark yields, reported trades, issuer spreads, benchmark securities, bids, offers and the use of material event notices.

We review the prices supplied by the independent pricing service, as well as their underlying pricing methodologies, for reasonableness. At least annually, we will validate prices supplied by the independent pricing service by comparing to prices obtained from a second third-party source.

Federal home loan bank stock - The fair value for FHLB stock is its carrying value, since this is the amount for which it could be redeemed. There is no active market for this stock and the Company, in order to be a member of the FHLB, is required to maintain a minimum investment.

Loans receivable, net - The fair values for loans are estimated using discounted cash flow analyses using interest rates currently being offered for loans with similar terms and credit ratings for the same remaining maturities, adjusted for the allowance for loan losses.

FDIC indemnification asset - The fair value for the FDIC indemnification asset is estimated based on discounted future cash flows using current discount rates.

Investment in bank-owned life insurance - The carrying value of life insurance approximates fair value because this investment is carried at cash surrender value, as determined by the insurer.

Accrued interest receivable and accrued interest payable - The carrying amount of accrued interest is assumed to approximate fair value.

Deposits - The fair values disclosed for deposits with no stated maturity (e.g., interest and non-interest checking, passbook savings, and certain types of money market accounts) are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). Fair values for deposits with a stated maturity date (time deposits) are estimated using a discounted cash flow calculation that applies interest rates currently being offered on these accounts to a schedule of aggregated expected monthly maturities on time deposits.

Short-term borrowings - The carrying amount of short-term borrowings is assumed to approximate fair value.

Long-term debt – The fair value is estimated by discounting the future contractual cash flows using current market interest rates for similar debt over the same remaining term.

NOTE 12 – OFF-BALANCE SHEET RISK

The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, unfunded lines of credit, and standby letters of credit. These instruments involve elements of credit risk in excess of amounts recognized in the accompanying consolidated financial statements.

The Company's risk of loss in the event of nonperformance by the other party to the commitment to extend credit, lines of credit and standby letters of credit is represented by the contractual amount of these instruments. The Company uses the same credit policies in making commitments under such instruments as it does for on-balance sheet instruments. The amount of collateral obtained, if any, is based on management's evaluation of the borrower. Collateral held varies, but may include accounts receivable, inventory, real estate and time deposits with financialinstitutions. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent cash requirements.

At September 30, 2013 and December 31, 2012, the outstanding off-balance sheet financial instruments whose contract amounts represent potential credit risk are as follows (dollars in thousands):

	September 30,		December 31,
	2013		2012
Commitments under unfunded loans and lines of credit	$	273,996	$	272,308
Letters of credit		10,145		12,172
Unused credit card lines		4,332		4,536
Commitments to sell loans held for sale		17,732		57,414

The Company is subject in the normal course of business to various pending and threatened legal proceedings in which claims for monetary damages are asserted. Management, after consultation with legal counsel, does not anticipate that the aggregate ultimate liability arising out of litigation pending or threatened against the Company will be material to the Company’s consolidated financial position. On an on-going basis the Company assesses any potential liabilities or contingencies in connection with such legal proceedings. For those matters where it is deemed probable that the Company will incur losses and the amount of the losses can be reasonably estimated, the Company would record an expense and corresponding liability in its consolidated financial statements.

As a result of the Company’s FDIC-assisted acquisition activity, the Company has pending litigation as a result of the Beach First and Blue Ridge acquisitions and could have potential litigation from the Carolina Federal acquisition. Any resulting losses from these proceedings would be covered by the terms of the FDIC’s loss-share indemnification agreement.

NOTE 13 – EMPLOYEE BENEFITS

In May 2013, the Company’s shareholders approved the BNC Bancorp 2013 Omnibus Stock Incentive Plan (the “2013 Omnibus Plan”). The Compensation Committee of the BNC Bancorp Board of Directors may grant or award eligible participants with stock options, rights to receive restricted shares of common stock, restricted stock units, stock appreciation rights, and other stock-based awards or any combination of awards (collectively referred to herein as “Rights”). As of May 3013, no further awards were to be granted under the previous BNC Bancorp Omnibus Stock Ownership and Long Term Incentive Plan (the “2006 Omnibus Plan”). At September 30, 2013, the Company had 393,419 grants of Rights issued under the 2006 Omnibus Plan. At September 30, 2013, the Company had 45,500 grants of Rights issued and 1,454,500 Rights available for grants or awards under the 2013 Omnibus Plan.

On September 14, 2012, the Company merged with KeySource and assumed all of the outstanding and unexercised stock options from KeySource’s non-statutory and incentive stock option plans. At September 30, 2013, the Company had 284,219 grants of stock options issued and 35,607 stock options available for issuance related to these plans.

Stock Option Awards. The fair value of each option award is estimated on the date of grant using the Black-Scholes-Merton option pricing model. The risk-free interest rate is based on the U.S. Treasury rate for the expected life at the time of grant. Volatility is based on the average volatility of the Company based upon previous trading history. The expected life and forfeiture assumptions are based on historical data. Dividend yield is based on the yield at the time of the option grant. There were no grants of options during the nine months ended September 30, 2013.

A summary of stock option activity for the nine months ended September 30, 2013 is presented below (dollars in thousands, except per share data):

					Weighted
			Weighted		Average
			Average		Remaining	Aggregate
			Exercise		Contractual	Intrinsic
	Shares		Price		Term	Value

Outstanding at December 31, 2012		436,939	$	11.32
Exercised		-		-
Forfeited or expired		24,602		11.00
Outstanding at September 30, 2013		412,337	$	11.34	3.4 years	$	846
Exercisable at September 30, 2013		409,513	$	11.35	3.4 years	$	836
Share options expected to vest		2,824	$	9.71	6.6 years	$	10

The related compensation expense recognized for stock option awards was $9,000 and $66,000 for the nine months ended September 30, 2013 and 2012, respectively. Included in the 2012 amount was $55,000 of additional compensation expense related to the excess fair value of the stock options assumed from KeySource. As of September 30, 2013, there was $8,000 of total unrecognized compensation cost related to non-vested stock options granted under the plans. That cost is expected to be recognized over a weighted average period of 1.11 years.

Restricted Stock Awards.A summary of the activity of the Company’s non-vested stock awards during the nine months ended September 30, 2013 is presented below:

				Weighted
				Average
	Number of			Grant-Date
	Shares			Fair Value

Non-vested at December 31, 2012		153,723		$	7.73
Granted		214,000			9.75
Vested		(55,922	)		7.32
Forfeited		(1,000	)		7.95
Non-vested at September 30, 2013		310,801		$	9.19

The Company measures the fair value of restricted shares based on the price of BNC’s common stock on the grant date, and compensation expense is recorded over the vesting period. The related compensation expense recognized for restricted stock awards for the nine months ended September 30, 2013 and 2012 was $802,000 and $310,000, respectively. As of September 30, 2013, there was $2.1 million of total unrecognized compensation cost related to non-vested restricted stock granted under the plans. That cost is expected to be recognized over a weighted average period of 1.54 years. The grant-date fair value of restricted stock grants vested during the nine months ended September 30, 2013 was $409,000.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Throughout this Quarterly Report on Form 10-Q, “the Company,” “we,” “us,” or “our” refers to BNC Bancorp and our consolidated subsidiaries, including Bank of North Carolina (sometimes referred to as “BNC” as a separate legal entity), except where the context indicates otherwise.

Forward-Looking Statements

This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, regarding the financial condition, results of operations, business plans and the future performance of the Company that are based on the beliefs and assumptions of the management and the information available to management at the time that these disclosures were prepared. Words such as “anticipates,” “believes,” “estimates,” “expects,” “forecasts,” “intends,” “plans,” “projects,” “may,” “will,” “should,” and other similar expressions are intended to identify these forward-looking statements. Such statements are subject to factors that could cause actual results to differ materially from anticipated results. Such factors include, but are not limited to, the following:

the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, as amended, and other reforms will subject us to a variety of new and more stringent legal and regulatory requirements, including increased scrutiny from our regulators;

changes in local, regional and international business, economic or political conditions in the regions where we operate or have significant assets;

changes in trade, monetary and fiscal policies of various governmental bodies and central banks could affect the economic environment in which we operate;

adverse changes in credit quality trends;

our ability to determine accurate values of certain assets and liabilities;

adverse behaviors in securities, public debt, and capital markets, including changes in market liquidity and volatility;

our ability to anticipate interest rate changes correctly and manage interest rate risk presented through unanticipated changes in our interest rate risk position and/or short- and long-term interest rates;

unanticipated changes in our liquidity position, including but not limited to our ability to enter the financial markets to manage and respond to any changes to our liquidity position;

adequacy of our risk management program;

increased competitive pressure due to consolidation;

unanticipated adverse effects and integration costs of acquisitions and dispositions of assets, business units or affiliates;

our failure to realize anticipated benefits of our acquisitions or to realize the benefits within the existing time frame; or

our ability to integrate acquisitions and retain existing customers and attract new ones.

Management’s discussion and analysis is intended to assist readers in understanding and evaluating our consolidated financial condition and results of operations. This discussion should be read in conjunction with our consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2012.

Critical Accounting Policies

We prepare our consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”). The preparation of these consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amount of revenues and expenses during the reporting period. The more critical accounting and reporting policies include accounting for the allowance for loan losses, valuation of goodwill and intangible assets, and valuation of assets acquired and liabilities assumed in business combinations. Accordingly, the Company’s critical accounting policies are discussed in detail in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012. The Company’s significant accounting policies are discussed in detail in Note 1 in the “Notes to Consolidated Financial Statements” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012. There have been no changes to the Company’s significant accounting policies during 2013. Additional disclosures regarding the effects of new accounting pronouncements are included in Note 1 “Basis of Presentation” included herein.

Overview and Executive Summary

The Company was formed in 2002 to serve as a one-bank holding company for BNC, a full service commercial bank, incorporated under the laws of the State of North Carolina on November 15, 1991, that opened for business on December 3, 1991. Throughout this Quarterly Report, results of operations will relate to BNC’s operations, unless a specific reference is made to the Company and its operating results other than through BNC’s business and activities.

We are registered with the Board of Governors of the Federal Reserve System under the Bank Holding Company Act of 1956, as amended, and the bank holding company laws of North Carolina. BNC operates under the rules and regulations of, and is subject to examination by, the FDIC and the North Carolina Office of the Commissioner of Banks, North Carolina Department of Commerce. BNC is also subject to certain regulations of the Federal Reserve System governing the reserves to be maintained against deposits and other matters. Our principal executive offices are located at 3980 Premier Drive, High Point, North Carolina 27265.

Our primary sources of revenue are interest and fee income from our lending and investing activities, primarily consisting of making business loans to small to medium-sized businesses, and, to a lesser extent, from our investment portfolio. We provide a wide range of banking services tailored to the particular banking needs of the communities we serve. We are principally engaged in the business of attracting deposits from the general public and using those deposits, together with other funding from our lines of credit, to make primarily commercial and consumer loans. We target business professionals and small to mid-size business customers with credit relationships in the $250,000 to $15 million range that are generally too small for the regional banks but too large for smaller community banks with lower legal lending limits. We offer our customers superior customer service, convenient branch locations and experienced bankers.

We have experienced steady, primarily organic growth over our history. Over the past three fiscal years, we have expanded our franchise through select acquisitions, which include whole-bank acquisitions and acquisitions made with the assistance of the Federal Deposit Insurance Corporation (“FDIC”). The following acquisitions have been completed during the past three fiscal years:

On October 1, 2013, we acquired Randolph Bank & Trust Company (“Randolph”), a commercial bank with $290 million in assets serving small businesses and professionals in the Piedmont-Triad area of North Carolina. Randolph operated six branches in the Piedmont-Triad area and this acquisition aligns with our strategy of growth focused within existing markets;

On November 30, 2012, we acquired First Trust Bank (“First Trust”), which operated three branches in the greater Charlotte, North Carolina metropolitan area. This acquisition expanded and enhanced our footprint in the metropolitan Charlotte market;

On September 21, 2012, we acquired the deposits and certain other assets of two branches that were owned by The Bank of Hampton Roads, a subsidiary of Hampton Roads Bankshares, Inc., located in Cary, North Carolina and Chapel Hill, North Carolina;

On September 14, 2012, we acquired KeySource Financial, Inc., a North Carolina corporation serving as a one-bank holding company for KeySource Commercial Bank, a North Carolina banking corporation (“KeySource”), with one branch in Durham, North Carolina. The acquisition of KeySource, as well as the acquisition of the BHR branches, further increased our presence in the combined Raleigh-Durham Metropolitan Statistical Area, the market with the highest forecasted five-year growth rate in North Carolina;

On June 8, 2012, we acquired certain assets and liabilities of Carolina Federal Savings Bank (“Carolina Federal”) in Charleston, South Carolina, pursuant to a Purchase and Assumption agreement with the FDIC. Under the terms of the agreement, we acquired certain assets and deposits from the FDIC as receiver of Carolina Federal. There was no loss-share arrangement with the FDIC in regards to this transaction; and

During 2011, we acquired Regent Bank of South Carolina, a commercial bank organized under the banking laws of South Carolina. We also acquired certain assets and assumed certain liabilities of Blue Ridge Savings Bank, Inc., headquartered in Asheville, North Carolina, in a FDIC-assisted transaction which included loss-share arrangements.

As the Randolph acquisition closed subsequent to September 30, 2013, none of the assets acquired, liabilities assumed or results of operations for Randolph are included in the Company’s financial information as of and for the three and nine months ended September 30, 2013.

During the first nine months of 2013, management has focused on executing its strategic plan to replace high cost deposits and improve net interest margin. This goal was accomplished using excess liquidity that had aggregated during the end of 2012, overnight funding from the Federal Home Loan Bank (“FHLB”), and the reduction of interest rates paid on time deposits. This process was further accelerated during the second quarter of 2013 with the announced acquisition of Randolph and the anticipated increase in liquid assets to be acquired in the transaction. The Company has also utilized excess cash and additional FHLB short-term borrowings to replace maturing investment securities with higher yield municipal bonds, which have contributed to the improvement in net interest margin. As a result of this strategic initiative, cash on hand and time deposits have decreased by $165.2 million and $195.9 million, respectively, between December 31, 2012 and September 30, 2013. Over the same time period, we purchased $62.7 million of investment securities, net of proceeds from maturities and sales, and increased short-term borrowings by $111.3 million.

During the third quarter of 2013, we saw significant economic improvement in our markets and an associated increase in lending activities. We anticipate this growth to continue through the end of 2013 and into 2014. Going forward, management will focus on replenishing the deposit portfolio with lower cost, transaction-based deposits and will continue to focus on liquidity to fund the anticipated growth in lending. In October 2013, we utilized excess liquidity obtained from the acquisition of Randolph, along with cash on hand, to repay $85.0 million of short-term FHLB borrowings.

Analysis of Results of Operations

For the quarter ended September 30, 2013, net income totaled $5.0 million, an increase of 262.1% compared to net income of $1.4 million for the third quarter of 2012. Net income available to common shareholders for the quarter ended September 30, 2013 was $5.0 million, or $0.19 per diluted share, an increase of 538.3% compared to net income available to common shareholders of $788,000, or $0.04 per diluted share, for the third quarter of 2012.

For the nine months ended September 30, 2013, net income totaled $14.0 million, an increase of 158.6% when compared to net income of $5.4 million for the nine months ended September 30, 2012. Net income available to common shareholders for the nine months ended September 30, 2013 was $12.9 million, or $0.49 per diluted share, an increase of 258.6% compared to net income available to common shareholders of $3.6 million, or $0.25 per diluted share, for the nine months ended September 30, 2012.

The comparability of earnings per share was impacted by a significant increase in average common shares outstanding during the second half of 2012, which was a result of the conversion of the Company’s preferred stock to common stock, as well as additional common stock issued in connection with the acquisitions of KeySource and First Trust. For the nine months ended September 30, 2013 and 2012, average fully-diluted shares outstanding were 26.5 million and 15.4 million, respectively.

Two important and commonly used measures of bank profitability are return on average assets (net income available to common shareholders as a percentage of average total assets) and return on average common shareholders’ equity (net income available to common shareholders as a percentage of average common shareholders’ equity). The annualized return on average assets was 0.68% for the third quarter of 2013, compared to 0.12% for the third quarter of 2012. The annualized return on average assets was 0.59% for the nine months ended September 30, 2013, compared to 0.20% for the nine months ended September 30, 2012. The annualized return on average common equity was 7.81% for the third quarter of 2013, an increase from return on average common equity of 1.75% for the third quarter of 2012. The annualized return on average common equity was 6.82% for the nine months ended September 30, 2013, an increase from return on average common equity of 3.50% for the comparable period of 2012.

Net Interest Income and Net Interest Margin

Net interest income is our primary source of revenue. Net interest income is the difference between interest income on interest-earning assets, such as loans and investment securities, and the interest expense on interest-bearing deposits and other borrowings used to fund interest-earning and other assets or activities. Net interest income is affected by changes in interest rates and by the amount and composition of earning assets and interest-bearing liabilities, as well as the sensitivity of the balance sheet to changes in interest rates, including characteristics such as the fixed or variable nature of the financial instruments, contractual maturities, repricing frequencies, loan prepayment behavior, and the use of interest rate derivative financial instruments. To compare tax-exempt asset yields to taxable yields, the yield on tax-exempt loans and investment securities is computed on a fully-taxable equivalent basis (“FTE”). Net interest income and yield on interest-earning assets are discussed below on a FTE basis.

FTE net interest income for the third quarter of 2013 was $28.5 million, an increase of 34.9% from $21.1 million for the third quarter of 2012. FTE net interest margin was 4.26% for the third quarter of 2013, an increase of 51 basis points from 3.75% for the third quarter of 2012. FTE net interest income for the nine months ended September 30, 2013 was $83.9 million, an increase of 38.3% from $60.7 million for the nine months ended September 30, 2012. FTE net interest margin was 4.26% for the nine months ended September 30, 2013, an increase of 51 basis points from 3.75% for the comparable period of 2012.

Average interest-earning assets were $2.65 billion for the third quarter of 2013, an increase of 18.5% from $2.24 billion for the third quarter of 2012. Average interest-earning assets were $2.63 billion for the nine months ended September 30, 2013, an increase of 22.0% from $2.16 billion for the nine months ended September 30, 2012. The increase in average interest-earning assets from 2012 is primarily due to interest-earning assets acquired from First Trust and KeySource during the second half of 2012, as well as increased loan production during the first nine months of 2013.

The Company’s average yield on interest-earning assets was 5.36% for the third quarter of 2013, an increase of 17 basis points from 5.19% for the third quarter of 2012. The increase from the third quarter of 2012 was due to increased interest rates earned on portfolio loans, as well as increased level of loan accretion from the acquired loan portfolios. Loan accretion during the third quarter of 2013 totaled $3.2 million, an increase of 200.8% from $1.1 million of accretion recorded in the third quarter of 2012.

The Company’s average yield on interest-earning assets was 5.38% for the nine months ended September 30, 2013, an increase of 9 basis points compared to 5.29% for the comparable period of 2012. The increase from 2012 was due to higher interest rates on portfolio loans, as well as increased level of loan accretion from the acquired loan portfolios. Loan accretion during the nine months ended September 30, 2013 totaled $10.2 million, an increase of 186.2% from loan accretion of $3.6 million for the nine months ended September 30, 2012.

Average interest-bearing liabilities were $2.38 billion for the third quarter of 2013, an increase of 15.0% from $2.07 billion for the third quarter of 2012. Average interest-bearing liabilities were $2.39 billion for the nine months ended September 30, 2013, an increase of 15.2% from $2.07 billion for the comparable period of 2012. The increase in average interest-bearing liabilities from 2012 is primarily due to the acquisitions of First Trust and KeySource during the second half of 2012, as well as increased borrowings during the nine months ended September 30, 2013.

The Company’s average cost of interest-bearing liabilities was 1.23% for the third quarter of 2013, a decrease of 32 basis points from 1.55% for the third quarter of 2012. The decrease was due to the Company’s continued effort to reduce exposure to higher cost deposit products, as well as lower interest rates paid on borrowings, which was offset by continued increases in cash flow hedging expense. For the third quarter of 2013, cash flow hedging expenses totaled $2.6 million, compared to $2.0 million for the third quarter of 2012. Without the cash flow hedging expense, FTE net interest margin for the third quarter of 2013 was 4.65%, compared to 4.11% for the third quarter of 2012.

The Company’s average cost of interest-bearing liabilities was 1.24% for the nine months ended September 30, 2013, a decrease of 36 basis points from 1.60% for the comparable period of 2012. This decrease was primarily due to the Company’s decision to reduce exposure to higher cost deposit products and aggressively reduce deposit rates over the past three quarters, as well as reductions in interest rates paid on borrowings. These rate decreases were slightly offset by an increase in cash flow hedging expense, which totaled $7.2 million for the nine months ended September 30, 2013, compared to $5.8 million for the comparable period of 2012. Without the cash flow hedging expense, FTE net interest margin for the nine months ended September 30, 2013 was 4.54%, compared to 4.11% for the comparable period of 2012.

The following tables set forth the major components of net interest income and the related annualized yields and rates for the three and nine months ended September 30, 2013 and 2012, respectively (dollars in thousands):

Table 1

Average Balance and Net Interest Income (FTE)

	Three Months Ended							Three Months Ended
	September 30, 2013							September 30, 2012
	Average				Average			Average				Average
	balance		Interest		rate			balance		Interest		rate
Interest-earning assets:
Loans and leases (1)	$	2,072,907	$	29,485		5.64	%	$	1,778,937	$	24,076		5.38	%
Loans held for sale		33,348		273		3.25	%		26,187		174		2.64	%
Investment securities, taxable		127,359		1,067		3.32	%		102,924		1,097		4.24	%
Investment securities, tax-exempt (2)		357,600		4,913		5.45	%		233,429		3,749		6.39	%
Interest-earning balances and other		59,175		88		0.59	%		95,331		67		0.28	%
Total interest-earning assets		2,650,389		35,826		5.36	%		2,236,808		29,163		5.19	%
Other assets		295,443							286,479
Total assets	$	2,945,832						$	2,523,287
Interest-bearing liabilities:
Demand deposits	$	1,094,495		3,937		1.43	%	$	933,437		3,486		1.49	%
Savings deposits		78,113		43		0.22	%		57,856		76		0.52	%
Time deposits		979,871		2,275		0.92	%		955,657		3,711		1.54	%
Borrowings		228,336		1,117		1.94	%		123,325		790		2.55	%
Total interest-bearing liabilities		2,380,815		7,372		1.23	%		2,070,275		8,063		1.55	%
Non-interest-bearing deposits		288,887							194,006
Other liabilities		20,606							17,965
Shareholders' equity		255,524							241,041
Total liabilities and shareholder's equity	$	2,945,832						$	2,523,287
Net interest income and
interest rate spread			$	28,454		4.13	%			$	21,100		3.64	%
Net interest margin						4.26	%						3.75	%

(1) Average outstanding balances are net of deferred costs and unearned discounts and include nonaccrual loans.

(2) Yields on tax-exempt investments have been adjusted to a fully taxable-equivalent basis. The taxable-equivalent adjustment was $1.8 million and $1.3 million for the three months ended September 30, 2013 and 2012, respectively.

	Nine Months Ended							Nine Months Ended
	September 30, 2013							September 30, 2012
	Average				Average			Average				Average
	balance		Interest		rate			balance		Interest		rate
Interest-earning assets:
Loans and leases (1)	$	2,049,965	$	87,546		5.71	%	$	1,738,084	$	69,924		5.37	%
Loans held for sale		38,808		971		3.35	%		20,286		448		2.95	%
Investment securities, taxable		133,139		3,153		3.17	%		111,571		3,622		4.34	%
Investment securities, tax-exempt (2)		340,293		14,078		5.53	%		225,625		11,332		6.71	%
Interest-earning balances and other		72,760		295		0.54	%		64,715		158		0.33	%
Total interest-earning assets		2,634,965		106,043		5.38	%		2,160,281		85,484		5.29	%
Other assets		312,471							296,697
Total assets	$	2,947,436						$	2,456,978
Interest-bearing liabilities:
Demand deposits	$	1,086,706		10,975		1.35	%	$	912,738		10,533		1.54	%
Savings deposits		79,799		144		0.24	%		47,708		172		0.48	%
Time deposits		1,038,873		8,212		1.06	%		986,168		11,573		1.57	%
Borrowings		179,775		2,768		2.06	%		123,624		2,494		2.69	%
Total interest-bearing liabilities		2,385,153		22,099		1.24	%		2,070,238		24,772		1.60	%
Non-interest-bearing deposits		274,694							176,196
Other liabilities		18,998							14,944
Shareholders' equity		268,591							195,600
Total liabilities and shareholder's equity	$	2,947,436						$	2,456,978
Net interest income and
interest rate spread			$	83,944		4.14	%			$	60,712		3.69	%
Net interest margin						4.26	%						3.75	%

(1) Average outstanding balances are net of deferred costs and unearned discounts and include nonaccrual loans.

(2) Yields on tax-exempt investments have been adjusted to a fully taxable-equivalent basis. The taxable-equivalent adjustment was $5.2 million and $4.2 million for the nine months ended September 30, 2013 and 2012, respectively.

The following table presents certain information regarding changes in our interest income and interest expense for the periods indicated. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to changes in interest rates and volume (dollars in thousands):

Table 2

Volume and Rate Variance Analysis

	Three Months Ended									Nine Months Ended
	September 30, 2013 vs. 2012									September 30, 2013 vs. 2012
	Increase (decrease) due to									Increase (decrease) due to
	Volume			Rate			Total			Volume		Rate			Total
Interest income:
Loans and leases	$	4,151		$	1,258		$	5,409		$	12,863	$	4,759		$	17,622
Loans held for sale		54			45			99			435		88			523
Investment securities, taxable		236			(266	)		(30	)		602		(1,071	)		(469	)
Investment securities, tax-exempt (1)		1,863			(699	)		1,164			5,238		(2,492	)		2,746
Interest-earning balances and other		(39	)		60			21			26		111			137
Increase in interest income		6,265			398			6,663			19,164		1,395			20,559

Interest expense:
Deposits:
Demand deposits		601			(150	)		451			1,871		(1,429	)		442
Savings deposits		19			(52	)		(33	)		86		(114	)		(28	)
Time deposits		85			(1,521	)		(1,436	)		507		(3,868	)		(3,361	)
Borrowings		596			(269	)		327			996		(722	)		274
Increase (decrease) in interest expense		1,301			(1,992	)		(691	)		3,460		(6,133	)		(2,673	)
Increase in net interest income	$	4,964		$	2,390		$	7,354		$	15,704	$	7,528		$	23,232

(1) Interest income on tax-exempt investments has been adjusted to a fully taxable-equivalent basis.

Provision for Loan Losses

Provision for loan losses are charged to income to bring the allowance for loan losses to a level deemed appropriate by management. In evaluating the allowance for loan losses, management considers factors that include growth, composition and industry diversification of the portfolio, historical loan loss experience, current delinquency levels, adverse situations that may affect a borrower's ability to repay, estimated value of any underlying collateral, prevailing economic conditions and other relevant factors.

During the third quarter of 2013, the Company recorded a provision for loan losses of $3.4 million, a decrease of 9.7% from $3.7 million recorded during the third quarter of 2012. Of the $3.4 million in provision expense, $3.1 million related to non-covered loans. During the three months ended September 30, 2013, the Company recorded a gross provision of $1.2 million for loss-share loans, of which approximately $1 million was recorded through a FDIC indemnification asset and the remaining recorded through the Company’s provision expense.

During the nine months ended September 30, 2013, the Company recorded a provision for loan losses of $9.8 million, a decrease of 43.4% from $17.2 million recorded in the comparable period of 2012. Of the $9.8 million in provision expense, $9.1 million related to non-covered loans. During the nine months ended September 30, 2013, the Company recorded a gross provision of $3.2 million for loss-share loans, of which $2.6 million was recorded through a FDIC indemnification asset and the remaining was recorded through the Company’s provision expense.

Non-Interest Income

Non-interest income was $5.8 million for the third quarter of 2013, an increase of 10.9% from $5.3 million for the third quarter of 2012. Excluding proceeds received from an insurance settlement, acquisition gains (includes bargain purchase gains and income related to the subsequent settlement of a liability assumed in an acquisition), FDIC-related income and gain (loss) on sale of securities, adjusted non-interest income was $5.2 million for the third quarter of 2013, an increase of 34.6% from $3.9 million for the third quarter of 2012. Despite an increase in mortgage rates which has caused a significant decline in refinance activity, mortgage origination fees remained stable due to mortgage origination activity being heavily weighted to purchase volume in the second and third quarters of 2013.

For the nine months ended September 30, 2013, non-interest income was $17.6 million, a decrease of 22.5% compared to non-interest income of $22.7 million for the nine months ended September 30, 2012. Excluding proceeds received from an insurance settlement, acquisition gains, FDIC-related income and gain (loss) on sale of securities, adjusted non-interest income was $16.2 million for the nine months ended September 30, 2013, an increase of 43.1% from $11.3 million for the comparable period of 2012. The increase was primarily due to increased volume of mortgage originations, as the Company continued to expand commissioned originators across key target markets.

The following are the components of non-interest income for the periods presented (dollars in thousands):

Table 3

Non-Interest Income

	Three Months Ended September 30,				Nine Months Ended September 30,
	2013		2012		2013			2012
Mortgage fees	$	2,408	$	1,773	$	7,269		$	4,267
Service charges		1,000		746		2,960			2,233
Earnings on bank-owned life insurance		571		425		1,672			1,230
Gain (loss) on sale of investment securities, net		-		756		(52	)		2,375
Bargain purchase gain on acquisition		-		-		-			7,734
Other		1,845		1,553		5,779			4,905
Total non-interest income	$	5,824	$	5,253	$	17,628		$	22,744

Non-Interest Expense

Non-interest expense was $22.4 million for the third quarter of 2013, an increase of 10.0% from $20.4 million for the third quarter of 2012. Excluding transaction-related costs, adjusted non-interest expense for the third quarter of 2013 was $21.9 million, an increase of 18.1% from $18.5 million for the third quarter of 2012. Transaction-related costs include legal and professional fees, personnel costs, data processing expenses, and other miscellaneous expenses directly attributable to the transaction. The increase from the third quarter of 2012 was primarily due to an increased number of employees and facilities purchased in connection with the acquisitions of First Trust and KeySource during the second half of 2012.

Non-interest expense was $69.3 million for the first nine months of 2013, an increase of 20.7% from $57.4 million for the first nine months of 2012. Excluding transaction-related costs, adjusted non-interest expense for the nine months ended September 30, 2013 was $67.4 million, an increase of 25.8% from $53.6 million for the nine months ended September 30, 2012. The increase from 2012 was primarily due to an increased number of employees and facilities purchased in connection with the acquisitions of First Trust and KeySource during the second half of 2012.

The following are the components of non-interest expense for the periods presented (dollars in thousands):

Table 4

Non-Interest Expense

	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2013		2012		2013		2012
Salaries and employee benefits	$	12,584	$	10,291	$	38,117	$	29,884
Occupancy		1,666		1,240		4,856		3,438
Furniture and equipment		1,351		993		3,990		3,019
Data processing and supplies		883		619		2,326		2,012
Advertising and business development		228		509		1,425		1,272
Insurance, professional and other services		1,437		2,136		4,352		4,702
FDIC insurance assessments		660		609		2,106		1,709
Loan, foreclosure and other real estate owned		1,962		2,658		6,856		7,279
Other		1,659		1,344		5,277		4,086
Total non-interest expense	$	22,430	$	20,399	$	69,305	$	57,401

In evaluating our business and performance, we utilize adjusted non-interest income, which excludes income derived from sources that are not deemed as core business operations. We also utilize adjusted non-interest expense, which excludes transaction-related expenses directly associated with our acquisitions. These adjusted amounts are considered non-GAAP financial measures. We believe the use of these non-GAAP financial measures provides additional clarity in assessing our results.

See the following table for the reconciliation of these non-GAAP financial measures with financial measures defined by GAAP (dollars in thousands):

Table 5

Reconciliation of Non-GAAP Measures

	For the Three Months Ended
Adjusted Non-interest Income	September 30, 2013		September 30, 2012
Non-interest income (GAAP)	$	5,824	$	5,253
Less: Insurance settlement		479		-
Gain on sale of investment securities		-		756
FDIC income		136		627
Adjusted non-interest income (non-GAAP)	$	5,209	$	3,870

	For the Nine Months Ended
Adjusted Non-interest Income	September 30, 2013			September 30, 2012
Non-interest income (GAAP)	$	17,628		$	22,744
Less: Insurance settlement		479			-
Bargain purchase gain on acquisition		-			7,734
Gain on settlement of acquisition-related liability		719			-
Gain (loss) on sale of investment securities		(52	)		2,375
FDIC income		277			1,310
Adjusted non-interest income (non-GAAP)	$	16,205		$	11,325

	For the Three Months Ended
Adjusted Non-interest Expense	September 30, 2013		September 30, 2012
Non-interest expense (GAAP)	$	22,430	$	20,399
Less: Transaction-related expenses (GAAP)		540		1,861
Adjusted non-interest expense (non-GAAP)	$	21,890	$	18,538

	For the Nine Months Ended
Adjusted Non-interest Expense	September 30, 2013		September 30, 2012
Non-interest expense (GAAP)	$	69,305	$	57,401
Less: Transaction-related expenses (GAAP)		1,884		3,806
Adjusted non-interest expense (non-GAAP)	$	67,421	$	53,595

Income Taxes

We generate significant amounts of non-taxable income from tax-exempt investment securities and from investments in bank-owned life insurance. Accordingly, the level of such income in relation to income before income taxes significantly affects our effective tax rate.

Our income tax expense was $1.7 million for the third quarter of 2013, an increase of $2.2 million from $492,000 of income tax benefit for the third quarter of 2012. Our income tax expense was $3.3 million for the nine months ended September 30, 2013, an increase of $4.1 million as compared to an income tax benefit of $760,000 for the nine months ended September 30, 2012. For the three and nine months ended September 30, 2013, respectively, increases in our income tax expense were associated with higher levels of total income subject to taxes, which have exceeded increases in our non-taxable sources of income. Our effective tax rates for the third quarter of 2013 and 2012 were 24.7% and (54.8%), respectively. Our effective tax rates for the first nine months of 2013 and 2012 were 19.2% and (16.4%), respectively.

Analysis of Financial Condition

As previously discussed, during the first nine months of 2013 management has focused on execution of a strategic plan to replace high cost deposits with lower cost, transaction-related deposits. This goal was accomplished using excess liquidity that had aggregated during the end of 2012, overnight funding from the FHLB, and the reduction of interest rates paid on time deposits. This process was further accelerated during the second quarter of 2013 with the announced acquisition of Randolph and the anticipated increase in liquid assets to be acquired in the transaction. As a result, total assets at September 30, 2013 were $2.97 billion, a decrease of 3.7% as compared to total assets of $3.08 billion at December 31, 2012.

Investment Securities

The investment securities portfolio is intended to provide us with adequate liquidity, flexibility in asset/liability management, a source of stable income, and is structured with minimum credit exposure. Investment securities were $500.4 million at September 30, 2013, an increase of 9.7% from total investment securities of $456.3 million at December 31, 2012. The majority of securities in the portfolio are bank-qualified municipal government securities and mortgage-backed securities issued or guaranteed by U.S. government agencies. We also maintain portfolios of securities consisting of CMOs issued or guaranteed by U.S. government agencies, as well as corporate debt securities. Our investment securities portfolio is comprised of high quality securities that are designed to enhance liquidity while providing acceptable rates of return.

The Company purchased $122.3 million of investment securities during the nine months ended September 30, 2013, which was offset by $59.6 million of sales, maturities and payments received during the same period. Net unrealized losses in our available-for-sale investment securities portfolio were $2.2 million as of September 30, 2013, as compared to a net unrealized gain of $14.4 million as of December 31, 2012. The decrease in gross unrealized gains was primarily attributable to changes in interest rates related to our state and municipal securities portfolio, relative to when the investments were purchased. Our decision to transfer $84.5 million of available-for-sale state and municipal debt securities to the held-to-maturity category, reflecting our intent to hold those securities to maturity, reduced the impact of these interest rate changes.

Loans

The following table presents the composition of our loan portfolio as of September 30, 2013 and December 31, 2012 (dollars in thousands):

Table 6

Loan Portfolio Composition

	September 30, 2013					December 31, 2012
	Amount		% of Total Loans			Amount		% of Total Loans
Non-covered (1):
Commercial real estate	$	1,157,088		55.1	%	$	1,034,686		50.8	%
Commercial construction		193,206		9.2	%		183,747		9.0	%
Commercial and industrial		148,391		7.1	%		150,870		7.4	%
Leases		16,061		0.7	%		13,209		0.7	%
Residential construction		28,947		1.4	%		34,514		1.7	%
Residential mortgage		346,110		16.5	%		359,260		17.7	%
Consumer and other		8,440		0.4	%		10,042		0.5	%
Total non-covered		1,898,243		90.4	%		1,786,328		87.8	%

Covered:
Commercial real estate		101,728		4.8	%		114,757		5.6	%
Commercial construction		20,251		1.0	%		33,447		1.6	%
Commercial and industrial		6,755		0.3	%		10,898		0.5	%
Residential construction		16		0.1	%		215		0.1	%
Residential mortgage		71,096		3.4	%		87,015		4.3	%
Consumer and other		1,953		0.1	%		2,598		0.1	%
Total covered		201,799		9.6	%		248,930		12.2	%

Total portfolio loans	$	2,100,042		100.0	%	$	2,035,258		100.0	%

(1) Amount includes $269.0 million and $347.2 million of acquired, non-covered loans as of September 30, 2013 and December 31, 2012, respectively.

Total portfolio loans increased by 3.2% from December 31, 2012 to $2.10 billion as of September 30, 2013. Loans not recorded at fair value, which includes originated loans and acquired loans that are no longer required to be recorded at fair value under GAAP, increased 16.3% from December 31, 2012. Included in the 16.3% increase in loans not recorded at fair value is $57.2 million of loans that were transferred from other categories during the nine months ended September 30, 2013. Excluding these transfers, loans not recorded at fair value increased 12.4% from December 31, 2012 to September 30, 2013.

During the first nine months of 2013, there were net increases in our non-covered commercial real estate (“CRE”) and commercial construction portfolios of 11.8% and 5.1%, respectively. These increases have been slightly offset by a 7.9% decrease in residential mortgage loans, which includes the impact of $15.1 million transferred from held for sale to the Company’s portfolio during the third quarter of 2013. Increases in our CRE portfolio have been primarily in shopping centers, both construction and refinanced credits, typically anchored by regional or national tenants, followed by medical & professional office loans and hotels. The growth in commercial construction continues to primarily be driven by increased demand for investment property new construction loans. The growth in all areas of the Bank’s loan portfolio continues to follow our strategic business goal of expanding in selected metropolitan areas with high growth rates, which includes the Charlotte, Raleigh-Durham and Greensboro markets in North Carolina, as well as Greenville, South Carolina.

Our loan policies and procedures establish the basic guidelines governing our lending operations. Generally, the guidelines address the types of loans that we seek, target markets, underwriting and collateral requirements, terms, interest rate and yield considerations and compliance with laws and regulations. All loans or credit lines are subject to approval procedures and amount limitations. These limitations apply to the borrower's total outstanding indebtedness to us, including the indebtedness of any guarantor. The policies are reviewed and approved at least annually by our Board of Directors. We supplement our own supervision of the loan underwriting and approval process with periodic loan audits by internal loan examiners and outside professionals experienced in loan review work. We have focused our portfolio lending activities on experienced and successful commercial real estate investors that have access to multiple sources of funding.

Asset Quality

Nonperforming assets, which consist of nonaccrual loans, loans 90 days or more past due and other real estate owned (“OREO”), were 3.33% of total assets at September 30, 2013, as compared to 3.93% at December 31, 2012. Nonperforming assets not covered by loss-share were 1.84% of total assets not covered by loss-share as of September 30, 2013, compared to 1.82% at December 31, 2012. The covered assets are covered by FDIC loss-share agreements that provide 80% protection on those assets and are being carried at estimated fair value.

We place loans on nonaccrual status when it is probable that the future collectability of the loan balance and collections of interest are in doubt. Loans may be returned to accrual status when all principal and interest amounts contractually due (including arrearages) are reasonably assured of repayment within an acceptable period of time and there is a sustained period of repayment performance by the borrower.

Nonaccrual loans not covered by loss-share agreements totaled $21.3 million at September 30, 2013, a decrease of 5.2% from $22.4 million at December 31, 2012. Excluding loans covered by loss-share agreements, nonperforming loans as a percentage of total loans was 1.12% as of September 30, 2013, as compared to 1.26% as of December 31, 2012. Nonaccrual loans covered by loss-share agreements totaled $29.9 million as of September 30, 2013, a decrease of 36.4% from $47.0 million at December 31, 2012. The decrease is due to the Company’s sustained efforts in resolving acquired nonperforming loans, which include more diligent collection efforts and charge-offs, as needed.

The following is a summary of nonperforming assets at the periods presented (dollars in thousands):

Table 7

Nonperforming Assets

	September 30,			June 30,			March 31,			December 31,			September 30,
	2013			2013			2013			2012			2012
Nonaccrual loans:
Not covered by loss-share agreements	$	21,262		$	22,276		$	27,212		$	22,442		$	25,220
Covered by loss-share agreements		29,892			44,317			52,274			46,981			54,427
90 days or more past due:
Not covered by loss-share agreements		83			823			-			-			4,137
Covered by loss-share agreements		1			-			-			-			1
Other real estate owned:
Not covered by loss-share agreements		29,271			29,143			31,177			28,811			25,589
Covered by loss-share agreements		18,401			17,668			20,709			23,102			30,077
Total nonperforming assets	$	98,910		$	114,227		$	131,372		$	121,336		$	139,451
Total nonperforming assets not covered by loss-share agreements	$	50,616		$	52,242		$	58,389		$	51,253		$	54,946

Total nonperforming assets to total assets		3.33	%		3.90	%		4.48	%		3.93	%		5.14	%
Total nonperforming assets to total assets (not covered by loss share)		1.84	%		1.94	%		2.19	%		1.82	%		2.28	%

Total nonperforming loans to total portfolio loans		2.44	%		3.29	%		3.91	%		3.41	%		4.41	%
Total nonperforming loans to total portfolio loans (not covered by loss share)		1.12	%		1.26	%		1.52	%		1.26	%		1.80	%

Troubled debt restructurings not included in above	$	13,719		$	12,639		$	10,896		$	35,889		$	34,195

Troubled debt restructurings (“TDRs”) were $19.4 million as of September 30, 2013, of which $3.0 million was covered under loss-share. Of the $19.4 million of TDRs, $13.7 million are performing under the terms of the restructured agreements, as compared to $44.9 million of TDRs as of December 31, 2012, of which $35.9 million were performing under the terms of the restructured agreements. The decrease in performing TDRs was primarily due to a significant amount of restructurings that are no longer required to be reported as TDRs due to contractual performance over a passage of time.

OREO at September 30, 2013 totaled $47.7 million, which is a decrease of 8.2% from $51.9 million at December 31, 2012. At September 30, 2013, the carrying value of OREO covered by loss-share agreements was $18.4 million, a decrease of 20.3% from $23.1 million at December 31, 2012. OREO not covered by loss-share agreements totaled $29.3 million at September 30, 2013, a slight increase from $28.8 million at December 31, 2012. Of the $29.3 million in non-covered OREO at September 30, 2013, $3.2 million was acquired from our recent acquisitions. The Company has sold $6.8 million and $25.1 million of OREO properties during the three and nine months ended September 30, 2013, respectively, which was offset by $8.5 and $22.6 million of additions to OREO. For the three and nine months ended September 30, 2013, the Company recorded valuation adjustments of $1.1 million and $3.5 million, respectively, an increase from valuation adjustments of $1.6 million and $4.3 million for the three and nine months ended September 30, 2012, respectively.

The following is a summary of OREO at the periods presented (dollars in thousands):

Table 8

Other Real Estate Owned

	September 30, 2013		December 31, 2012
Covered under loss-share agreements:
Residential 1-4 family properties	$	7,033	$	7,897
Multifamily properties		40		303
Commercial properties		4,101		5,226
Construction, land development and other land		7,227		9,676
		18,401		23,102
Not covered under loss-share agreements:
Residential 1-4 family properties		2,888		2,185
Commercial properties		5,651		7,882
Construction, land development and other land		20,732		18,744
		29,271		28,811
Total other real estate owned	$	47,672	$	51,913

Allowance for Loan Losses

The allowance for loan losses was $32.4 million at September 30, 2013, a decrease of 19.7% from $40.3 million at December 31, 2012. This decrease was primarily due to a decrease in the allowance for loans covered under loss-share agreements, which was $7.4 million as of September 30, 2013, a decrease of $7.9 million from an allowance of $15.3 million as of December 31, 2012. The decrease in the allowance for loans covered under loss-share agreements is a direct result of the continued reduction in loans covered under loss-share agreements. The allowance for loans not covered by loss-share agreements was $25.0 million as of September 30, 2013, which is consistent with the allowance recorded as of December 31, 2012. Loan loss reserves to total portfolio loans were 1.54% and 1.98% at September 30, 2013 and December 31, 2012, respectively. The allowance for loan loss allocated to loans not marked to fair value was 1.46% and 1.72% at September 30, 2013 and December 31, 2012, respectively.

While management considers the allowance for loan losses to be adequate based on information currently available, future additions to the allowance may be necessary due to changes in economic conditions or management’s assumptions as to future delinquencies, recoveries and losses. In addition, various regulatory agencies periodically review our loan losses and loan loss reserve methodology and there can be no assurances that the regulatory agencies will not require management to recognize additions to the allowance for loan losses based on their judgments about all relevant information utilized in the methodologies.

Net loan charge-offs for the third quarter of 2013 were $4.8 million, which included $2.4 million on loans covered under loss-share agreements and $2.4 million on loans not covered under loss-share agreements. The Company’s share of the covered net loan charge-offs was $500,000, with the remainder being reimbursed by the FDIC. Combined with the $2.4 million of non-covered net charge-offs, the Company incurred $2.9 million in net charge-off losses, or 0.55% of average loans, during the third quarter of 2013, compared to $6.9 million, or 1.54% of average loans, for the third quarter of 2012.

Net loan charge-offs for the nine months ended September 30, 2013 were $20.3 million, which included $11.1 million on loans covered under loss-share agreements and $9.2 million on loans not covered under loss-share agreements. The Company’s share of the covered net loan charge-offs for the nine months ended September 30, 2013 was $2.2 million, with the remainder being reimbursed by the FDIC. Combined with the $9.2 million of non-covered net charge-offs, the Company incurred $11.4 million in net charge-off losses, or 0.75% of average loans, during the nine months ended September 30, 2013, compared to $24.9 million, or 1.21% of average loans, for the comparable period of 2012.

The following table presents information related to the allowance for loan losses for the three and nine months ended September 30, 2013 and 2012 (dollars in thousands):

Table 9

Analysis of Allowance for Loan Losses

	For the Three Months Ended						For the Nine Months Ended
	September 30,						September 30,
	2013			2012			2013			2012
Beginning balance	$	32,859		$	40,856		$	40,292		$	31,008
Provision for credit losses:
Non-covered loans		3,134			3,626			9,134			14,384
Covered loans		216			82			619			2,833
Change in FDIC indemnification asset		937			358			2,624			11,497
Net charge-offs on loans covered under loss-share		(2,390	)		(4,020	)		(11,103	)		(11,446	)
Charge-offs on loans not covered under loss-share:
Commercial real estate		(769	)		(1,949	)		(1,287	)		(5,350	)
Commercial construction		(1,168	)		(1,240	)		(5,562	)		(3,832	)
Commercial and industrial		(58	)		(1,947	)		(1,571	)		(2,504	)
Residential construction		-			-			-			(180	)
Residential mortgage		(978	)		(1,713	)		(2,371	)		(2,419	)
Consumer and other		(14	)		(21	)		(190	)		(68	)
Total charge-offs		(2,987	)		(6,870	)		(10,981	)		(14,353	)

Recoveries on loans not covered under loss-share:
Commercial real estate		163			680			462			697
Commercial construction		277			53			830			59
Commercial and industrial		121			9			367			52
Residential construction		2			23			20			23
Residential mortgage		19			24			81			62
Consumer and other		7			2			13			7
Total recoveries		589			791			1,773			900
Net charge-offs on loans not covered under loss-share		(2,398	)		(6,079	)		(9,208	)		(13,453	)
Ending balance	$	32,358		$	34,823		$	32,358		$	34,823

Deposits

Total deposits at September 30, 2013 were $2.44 billion, a decrease of 8.3% from total deposits of $2.66 billion as of December 31, 2012. This decrease was primarily due to the Company’s decision to utilize excess liquidity and FHLB borrowings to repay wholesale time and non-core deposits as they matured, as well as aggressively reducing time deposit rates over the past three fiscal quarters. Wholesale deposits now comprise 33.8% of total deposits at September 30, 2013, as compared to 30.5% as of December 31, 2012, due to the overall reduction in total deposits and an increase in wholesale savings and money market deposits during the nine months ended September 30, 2013. At September 30, 2013, time deposits were 39.6% of total deposits, compared to 43.7% at December 31, 2012. The Company is focused on replenishing the deposit portfolio with lower cost, transaction-based deposits.

Borrowings

Total borrowings at September 30, 2013 were $256.6 million, an increase of 112.8% from total borrowings of $120.6 million as of December 31, 2012. At September 30, 2013, $143.7 million of these borrowings were short-term, while the remaining $112.9 million were long-term. The increase in borrowings was primarily due to $109.5 million of additional short-term borrowings from the Federal Home Loan Bank, which were used to repay wholesale and non-core deposits as part of the Company’s deleveraging strategy, as well as the purchase of investment securities based on the Company’s strategic plan to reduce higher cost deposits and improve net interest margin. Upon closing of the acquisition of Randolph, the Company utilized $85.0 million of liquid assets to repay the short-term borrowings from the FHLB. In addition, during the second quarter of 2013 the Company obtained a $30.0 million term loan and used the proceeds to redeem the $31.3 million of Series A Preferred Stock.

Capital Resources

On September 30, 2013, shareholders’ equity was $257.8 million, a decrease of 8.7% from shareholders’ equity of $282.2 million as of December 31, 2012. As a result of the redemption of Series A Preferred Stock, the Company recorded $356,000 of additional discount accretion during the second quarter of 2013. After this redemption and the conversion of 1,804,566 shares of Series B preferred stock to non-voting common stock in February 2013, the Company no longer has any preferred stock issued or outstanding.

The Company and BNC are subject to regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can cause certain mandatory and discretionary actions by regulators that, if undertaken, could have a material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and BNC must meet specific capital guidelines that involve quantitative and qualitative measures. These measures were established by regulation to ensure capital adequacy.

As of September 30, 2013, the Company and BNC were “well capitalized” and exceeded the minimum thresholds established under this regulatory framework. Tier I risk-based capital ratio for BNC was 12.18%, the total risk-based capital ratio was 13.44% and the Tier I leverage ratio was 9.44%. At September 30, 2013, the Company’s total risk-based capital ratio was 12.23%, thus classifying the Company as “well-capitalized” for regulatory purposes. There have been no conditions or events since September 30, 2013 that management believes have changed either the Company’s or BNC’s capital classifications.

Liquidity

Market and public confidence in our financial strength and in the strength of financial institutions in general will largely determine our access to appropriate levels of liquidity. This confidence is significantly dependent on our ability to maintain sound asset quality and appropriate levels of capital resources.

Liquidity is defined as our ability to meet anticipated customer demands for funds under credit commitments and deposit withdrawals at a reasonable cost and on a timely basis, pay operating expenses, and meet regulatory liquidity requirements. Management measures our liquidity position by giving consideration to both on- and off-balance sheet sources of, and demands for, funds on a daily and weekly basis.

Sources of liquidity include cash and cash equivalents, net of federal requirements to maintain reserves against deposit liabilities, investment securities eligible for pledging to secure borrowings from dealers and customers pursuant to securities sold under repurchase agreements; investments available for sale; loan repayments; loan sales; deposits, both from our local markets and the wholesale markets; borrowings from the FHLB and Federal Reserve discount window; and borrowings from correspondent banks under unsecured overnight federal funds credit lines and secured lines of credit. We are also provided liquidity through various interest-bearing and non-interest bearing deposit accounts.

Our cash liquidity position, which includes cash and cash equivalents and investment securities, was $569.3 million at September 30, 2013, compared to $690.4 million at December 31, 2012. Supplementing customer deposits as a source of funding, we have the ability to borrow up to $385.4 million from the FHLB of Atlanta, with $176.0 million outstanding at September 30, 2013. We also have the ability to borrow from the Federal Reserve Discount Window in the amount of $132.2 million, with no outstanding balances. These amounts are based on assets currently pledged. In addition, we may purchase federal funds through unsecured federal funds guidance lines of credit totaling $45.0 million, with no outstanding balance as of September 30, 2013.

We believe that our combined aggregate liquidity position is sufficient to meet the funding requirements of loan demand and deposit maturities and withdrawals in the near term.

Contractual Obligations

Refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2012 for discussion with respect to the Company’s contractual obligations. Additional disclosures about the Company’s contractual obligations are included in Note 9 “Borrowings” in the “Notes to Consolidated Financial Statements.”

Item 3. Quantitative and Qualitative Disclosures About Market Risk

As described in more detail in Part II, Item 7A of our Annual Report on Form 10-K for the year ended December 31, 2012, asset/liability management involves the evaluation, monitoring and management of interest rate risk, liquidity and funding. While the Board of Directors has overall responsibility for the Company’s asset/liability management policies, BNC’s Asset and Liability Committee monitors loan, investment, and liability portfolios to ensure comprehensive management of interest rate risk and adherence to the Bank’s policies. The Company has not experienced any material change in the risk of its portfolios of interest-earning assets and interest-bearing liabilities from December 31, 2012 to September 30, 2013.

Item 4. Controls and Procedures

(a)

Evaluation of disclosure controls and procedures. As of the end of the period covered by this quarterly report, our management, together with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), conducted an evaluation of the effectiveness of our disclosure controls and procedures in accordance with Rule 13a-15 under the Securities Exchange Act of 1934 as amended (the “Exchange Act”). Based on the evaluation of our disclosure controls and procedures as of the end of the period covered by this quarterly report, our CEO and CFO concluded that, as of such date, our disclosure controls and procedures were effective to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is (a) accumulated and communicated to our management, including our CEO and CFO, as appropriate to allow timely decisions regarding required disclosure, and (b) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

(b)

Changes in internal control over financial reporting.There were no changes in our internal control over financial reporting that occurred during the last fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

Refer to Note 12 “Off-Balance Sheet Risk” in the “Notes to Consolidated Financial Statements”.

Item 1A. Risk Factors

In addition to the other information set forth in this report and in our other reports and statements that we file with the SEC, including our quarterly reports on Form 10-Q, careful consideration should be given to the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2012, which could materially affect our business, financial condition or future results. The risks described in our Annual Report on Form 10-K are not the only risks facing our Company. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.

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

None

Item 3. Defaults Upon Senior Securities

None

Item 4. Mine Safety Disclosures

Not Applicable

Item 5. Other Information

None

Item 6. Exhibits

The exhibits listed in the accompanying exhibit index are filed as part of this quarterly report.

SIGNATURES

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

	BNC BANCORP
	(Registrant)

November 12, 2013	/s/ Richard D. Callicutt II
	Richard D. Callicutt II
	President, Chief Executive Officer and Director

November 12, 2013	/s/ David B. Spencer
	David B. Spencer
	Senior Executive Vice President and Chief Financial
	Officer (Principal Financial Officer)

EXHIBIT INDEX

Exhibit No.		Description

31.1		Certification of the Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Certification of the Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32		Certification of the Chief Executive Officer and the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

99.1		Temporary Hardship Exemption

Exhibit (101)*		The following financial information from our Quarterly Report on Form 10-Q for the quarter ended September 30, 2013, filed on November 12, 2013, formatted in XBRL (eXtensible Business Reporting Language) includes: (i) the Consolidated Balance Sheets at September 30, 2013 and December 31, 2012, (ii) the Consolidated Statements of Income for the three and nine months ended September 30, 2013 and 2012, (iii) the Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2013 and 2012, (iv) the Consolidated Statements of Shareholders’ Equity for the nine months ended September 30, 2013 and 2012, (v) the Consolidated Statements of Cash Flows for the nine months ended September 30, 2013 and 2012, and (vi) Notes to Consolidated Financial Statements, tagged as blocks of text and in detail.

* To be filed by amendment per Temporary Hardship Exemption under Regulation S-T.

Positive
Negative
Uncertain
Constraining
Legalese
Litigous
Readability	H.S. junior Bad

BNC Bancorp (BNNC) Inactive 10-Q2013 Q3 Quarterly report

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