First Midwest Bancorp 10Q 2012 Q3 Quarterly report

UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ______________ FORM 10-Q (Mark One)
[X]	Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended September 30, 2012
or
[ ]	Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from _________ to __________.
Commission File Number 0-10967 _______________ FIRST MIDWEST BANCORP, INC. (Exact name of registrant as specified in its charter)
Delaware (State or other jurisdiction of incorporation or organization)		36-3161078 (IRS Employer Identification No.)
One Pierce Place, Suite 1500 Itasca, Illinois 60143-9768 (Address of principal executive offices) (zip code) ______________ Registrant’s telephone number, including area code: (630) 875-7450 ______________
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ].
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [X] 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 (as defined in Rule 12b-2 of the Exchange Act). Large accelerated filer [X] Accelerated filer [ ] Non-accelerated filer [ ] Smaller reporting company [ ]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X].
As of November 9, 2012, there were 74,843,350 shares of $.01 par value common stock outstanding.

FIRST MIDWEST BANCORP, INC.

FORM 10-Q

TABLE OF CONTENTS

		Page
Part I.	FINANCIAL INFORMATION
Item 1.	Financial Statements (Unaudited)
	Consolidated Statements of Financial Condition	5
	Condensed Consolidated Statements of Income	6
	Consolidated Statements of Comprehensive Income	7
	Consolidated Statements of Changes in Stockholders’ Equity	8
	Condensed Consolidated Statements of Cash Flows	9
	Notes to the Condensed Consolidated Financial Statements	10
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	44
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	77
Item 4.	Controls and Procedures	79
Part II.	OTHER INFORMATION
Item 1.	Legal Proceedings	79
Item 1A.	Risk Factors	79
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	81
Item 6.	Exhibits

GLOSSARY OF TERMS
First Midwest Bancorp, Inc. provides the following list of acronyms as a tool for the reader. The acronyms identified below are used in the Notes to the Condensed Consolidated Financial Statements and in Management’s Discussion and Analysis of Financial Condition & Results of Operations.
ALCO	Asset Liability Committee
ATM	automated teller machine
Bank	First Midwest Bank (the Company’s wholly owned and principal operating subsidiary)
BOLI	bank-owned life insurance
CDOs	collateralized debt obligations
CMOs	collateralized mortgage obligations
Code	the Code of Ethics and Standards of Conduct of First Midwest Bancorp, Inc.
Common Stock	shares of common stock of First Midwest Bancorp, Inc. $0.01 par value per share, which are traded on the Nasdaq Stock Market under the symbol “FMBI”
Company	First Midwest Bancorp, Inc.
CSV	cash surrender value
FASB	Financial Accounting Standards Board
FDIC	Federal Deposit Insurance Corporation
Federal Reserve	Board of Governors of the Federal Reserve system
FHLB	Federal Home Loan Bank
GAAP	U.S. generally accepted accounting principles
LIBOR	London Interbank Offered Rate
MBSs	mortgage-backed securities
OREO	other real estate owned or properties acquired through foreclosure in partial or total satisfaction of certain loans as a result of borrower defaults
OTTI	other-than-temporary impairment
SEC	U.S. Securities and Exchange Commission
TDR	troubled debt restructurings
Treasury	U.S. Department of the Treasury
TRUPS	trust preferred junior subordinated debentures
VIE	variable interest entity

INTRODUCTION

First Midwest Bancorp, Inc. (the “Company”, “we”, or “our”) is a bank holding company headquartered in the Chicago suburb of Itasca, Illinois with operations throughout the greater Chicago metropolitan area as well as northwest Indiana, central and western Illinois, and eastern Iowa. Our principal subsidiary is First Midwest Bank (the “Bank”), which provides a broad range of commercial and retail banking and wealth management services to consumer, commercial and industrial, commercial real estate, and public or governmental customers. We are committed to meeting the financial needs of the people and businesses in the communities where we live and work by providing customized banking solutions, quality products, and innovative services that fulfill those financial needs.

CAUTIONARY STATEMENT PURSUANT TO THE PRIVATE SECURITIES

LITIGATION REFORM ACT OF 1995

We include or incorporate by reference in this Quarterly Report on Form 10-Q, and from time to time our management may make, statements that may constitute “forward-looking statements” within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These statements are not historical facts, but instead represent only management’s beliefs regarding future events, many of which, by their nature, are inherently uncertain and outside our control. Although we believe the expectations reflected in any forward-looking statements are reasonable, it is possible that our actual results and financial condition may differ, possibly materially, from the anticipated results and financial condition indicated in such statements. In some cases, you can identify these statements by forward-looking words such as “may,” “might,” “will,” “should,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “probable,” “potential,” or “continue,” and the negative of these terms and other comparable terminology. We caution you not to place undue reliance on forward-looking statements, which speak only as of the date of this report or when made.

Forward-looking statements are subject to known and unknown risks, uncertainties, and assumptions and may contain projections relating to our future financial performance including our growth strategies and anticipated trends in our business. For a detailed discussion of these and other risks and uncertainties that could cause actual results and events to differ materially from such forward-looking statements, you should refer to the sections entitled “Risk Factors” and “Management’s Discussion and Analysis of Results of Operations” in this report and in our Annual Report on Form 10-K for the year ended December 31, 2011 as well as our subsequent periodic and current reports filed with the U.S. Securities and Exchange Commission (“SEC”). However, these risks and uncertainties are not exhaustive. Other sections of this report describe additional factors that could adversely impact our business and financial performance.

PART I. FINANCIAL INFORMATION (Unaudited)

ITEM 1. FINANCIAL STATEMENTS

FIRST MIDWEST BANCORP, INC.

CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

(Amounts in thousands, except per share data)

				September 30, 2012		December 31, 2011
Assets				(Unaudited)
Cash and due from banks				$	124,447	$		123,354
Interest-bearing deposits in other banks					393,927			518,176
Trading securities, at fair value					15,512			14,469
Securities available-for-sale, at fair value					1,191,582			1,013,006
Securities held-to-maturity, at amortized cost					41,944			60,458
Federal Home Loan Bank and Federal Reserve Bank stock, at cost					47,232			58,187
Loans held-for-sale					90,011			4,200
Loans, excluding covered loans					5,218,345			5,088,113
�� Covered loans					216,610			260,502
Allowance for loan and covered loan losses					(102,445)			(119,462)
Net loans					5,332,510			5,229,153
Other real estate owned (“OREO”), excluding covered OREO					36,487			33,975
Covered OREO					8,729			23,455
Federal Deposit Insurance Corporation (“FDIC”) indemnification asset					47,191			65,609
Premises, furniture, and equipment					132,005			134,977
Accrued interest receivable					30,688			29,826
Investment in bank-owned life insurance (“BOLI”)					206,043			206,235
Goodwill and other intangible assets					281,914			283,650
Other assets					186,954			174,864
Total assets				$	8,167,176	$		7,973,594
Liabilities
Noninterest-bearing deposits				$	1,773,928	$		1,593,773
Interest-bearing deposits					4,975,127			4,885,402
Total deposits					6,749,055			6,479,175
Borrowed funds					183,691			205,371
Senior and subordinated debt					231,171			252,153
Accrued interest payable and other liabilities					69,824			74,308
Total liabilities					7,233,741			7,011,007
Stockholders’ Equity
Common stock					858			858
Additional paid-in capital					417,245			428,001
Retained earnings					773,976			810,487
Accumulated other comprehensive loss, net of tax					(9,248)			(13,276)
Treasury stock, at cost					(249,396)			(263,483)
Total stockholders’ equity					933,435			962,587
Total liabilities and stockholders’ equity				$	8,167,176	$		7,973,594
	September 30, 2012			December 31, 2011
	Preferred Shares	Common Shares		Preferred Shares		Common Shares
Par Value	None	$	0.01	None		$	0.01
Shares authorized	1,000		100,000	1,000			100,000
Shares issued	-		85,787	-			85,787
Shares outstanding	-		74,831	-			74,435
Treasury shares	-		10,956	-			11,352
See accompanying notes to the unaudited condensed consolidated financial statements.

FIRST MIDWEST BANCORP, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Amounts in thousands, except per share data)

(Unaudited)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Interest Income
Loans	$	63,672	$	64,085	$	187,156	$	190,091
Investment securities		8,058		8,633		25,406		28,346
Covered loans		3,223		6,640		11,898		22,117
Federal funds sold and other short-term investments		631		817		1,910		2,200
Total interest income		75,584		80,175		226,370		242,754
Interest Expense
Deposits		4,126		6,654		14,317		21,294
Borrowed funds		507		706		1,512		2,073
Senior and subordinated debt		3,691		2,280		11,395		6,845
Total interest expense		8,324		9,640		27,224		30,212
Net interest income		67,260		70,535		199,146		212,542
Provision for loan and covered loan losses		111,791		20,425		152,459		58,680
Net interest income after provision for loan and covered losses		(44,531)		50,110		46,687		153,862
Noninterest Income
Service charges on deposit accounts		9,502		10,215		27,010		27,922
Wealth management fees		5,415		4,982		16,201		15,272
Other service charges, commissions, and fees		4,187		4,289		11,804		12,509
Card-based fees		5,246		4,931		15,578		14,622
Total fee-based revenues		24,350		24,417		70,593		70,325
Net securities (losses) gains (reclassified from other comprehensive (loss) income)		(217)		449		(1,009)		2,520
Gain on FDIC-assisted transaction		3,289		-		3,289		-
Net trading gains (losses)		685		(2,352)		1,511		(1,610)
Other		1,027		2,077		3,476		4,067
Total noninterest income		29,134		24,591		77,860		75,302
Noninterest Expense
Salaries and wages		26,881		22,957		77,990		74,115
Retirement and other employee benefits		6,230		6,225		18,737		19,439
Net occupancy and equipment expense		8,108		8,157		23,952		25,272
Technology and related costs		2,906		2,709		8,615		8,029
Professional services		6,665		7,571		19,199		18,330
Net OREO expense		3,208		4,174		9,196		13,328
FDIC premiums		1,785		1,799		5,163		6,232
Other expenses		14,340		10,584		31,041		30,568
Total noninterest expense		70,123		64,176		193,893		195,313
(Loss) income before income tax (benefit) expense		(85,520)		10,525		(69,346)		33,851
Income tax (benefit) expense		(36,993)		1,583		(35,076)		4,212
Net (loss) income		(48,527)		8,942		(34,270)		29,639
Preferred dividends and accretion on preferred stock		-		(2,586)		-		(7,749)
Net loss (income) applicable to non-vested restricted shares		715		(93)		500		(330)
Net (loss) income applicable to common shares	$	(47,812)	$	6,263	$	(33,770)	$	21,560
Per Common Share Data
Basic (loss) earnings per common share	$	(0.65)	$	0.09	$	(0.46)	$	0.29
Diluted (loss) earnings per common share	$	(0.65)	$	0.09	$	(0.46)	$	0.29
Dividends declared per common share	$	0.01	$	0.01	$	0.03	$	0.03
Weighted-average common shares outstanding		73,742		73,361		73,636		73,258
Weighted-average diluted common shares outstanding		73,742		73,361		73,636		73,258
See accompanying notes to the unaudited condensed consolidated financial statements.

FIRST MIDWEST BANCORP, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Amounts in thousands)

(Unaudited)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Net (loss) income	$	(48,527)	$	8,942	$	(34,270)	$	29,639
Available-for-sale securities
Unrealized holding gains:
Before tax		4,065		6,902		5,555		29,288
Tax effect		(1,574)		(2,711)		(2,123)		(11,473)
Net of tax		2,491		4,191		3,432		17,815
Less: reclassification of net (losses) gains included in net (loss) income:
Before tax		(217)		449		(1,009)		2,520
Tax effect		89		(184)		413		(1,031)
Net of tax		(128)		265		(596)		1,489
Net unrealized holding gains		2,619		3,926		4,028		16,326
Total other comprehensive income		2,619		3,926		4,028		16,326
Total comprehensive (loss) income	$	(45,908)	$	12,868	$	(30,242)	$	45,965

	Accumulated Unrealized (Loss) Gain on Securities Available- for-Sale		Unrecognized Net Pension Costs		Total Accumulated Other Comprehensive Loss
Balance at January 1, 2011	$	(19,806)	$	(7,933)	$	(27,739)
Other comprehensive income		16,326		-		16,326
Balance at September 30, 2011	$	(3,480)	$	(7,933)	$	(11,413)
Balance at January 1, 2012	$	(354)	$	(12,922)	$	(13,276)
Other comprehensive income		4,028		-		4,028
Balance at September 30, 2012	$	3,674	$	(12,922)	$	(9,248)

See accompanying notes to the unaudited condensed consolidated financial statements.

FIRST MIDWEST BANCORP, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(Amounts in thousands, except per share data)

(Unaudited)

	Common Shares Outstanding	Preferred Stock		Common Stock		Additional Paid-in Capital		Retained Earnings		Accumulated Other Comprehensive Loss		Treasury Stock		Total
Balance at January 1, 2011	74,096	$	190,882	$	858	$	437,550	$	787,678	$	(27,739)	$	(277,184)	$	1,112,045
Comprehensive income					-		-		29,639		16,326				45,965
Common dividends declared ($0.03 per common share)	-		-		-		-		(2,234)		-		-		(2,234)
Preferred dividends declared ($37.50 per preferred share)	-		-		-		-		(7,238)		-		-		(7,238)
Accretion on preferred stock	-		511		-		-		(511)		-		-		-
Share-based compensation expense	-		-		-		5,138		-		-		-		5,138
Restricted stock activity	395		-		-		(16,972)		-		-		15,220		(1,752)
Treasury stock (purchased for) issued to benefit plans	(6)		-		-		(69)		-		-		55		(14)
Balance at September 30, 2011	74,485	$	191,393	$	858	$	425,647	$	807,334	$	(11,413)	$	(261,909)	$	1,151,910
Balance at January 1, 2012	74,435	$	-	$	858	$	428,001	$	810,487	$	(13,276)	$	(263,483)	$	962,587
Comprehensive (loss) income	-		-		-				(34,270)		4,028		-		(30,242)
Common dividends declared ($0.03 per common share)	-		-		-				(2,241)		-		-		(2,241)
Share-based compensation expense	-		-		-		4,568		-		-		-		4,568
Restricted stock activity	398		-		-		(15,256)		-		-		13,980		(1,276)
Treasury stock (purchased for) issued to benefit plans	(2)		-		-		(68)		-		-		107		39
Balance at September 30, 2012	74,831	$	-	$	858	$	417,245	$	773,976	$	(9,248)	$	(249,396)	$	933,435

See accompanying notes to the unaudited condensed consolidated financial statements.

FIRST MIDWEST BANCORP, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Dollar amounts in thousands) (Unaudited)
	Nine Months Ended September 30,
	2012		2011
Net cash provided by operating activities	$	125,225	$	140,884
Investing Activities
Proceeds from maturities, repayments, and calls of securities available-for-sale		289,839		201,613
Proceeds from sales of securities available-for-sale		50,633		177,456
Purchases of securities available-for-sale		(515,064)		(269,786)
Proceeds from maturities, repayments, and calls of securities held-to-maturity		52,107		37,275
Purchases of securities held-to-maturity		(33,593)		(30,330)
Proceeds from the redemption of Federal Reserve Bank and Home Loan Bank stock		11,918		3,151
Net increase in loans		(310,269)		(228)
Proceeds from claims on BOLI, net of purchases		1,144		2,588
Proceeds from sales of OREO		42,379		27,071
Proceeds from sales of premises, furniture, and equipment		3		5,535
Purchases of premises, furniture, and equipment		(6,298)		(5,757)
Proceeds received from the FDIC in an FDIC-assisted transaction		21,996		-
Other cash proceeds received in an FDIC-assisted transaction		4,984		-
Net cash (used in) provided by investing activities		(390,221)		148,588
Financing Activities
Net increase in deposit accounts		197,162		115,132
Net (decrease) increase in borrowed funds		(31,636)		82,455
Payments for the retirement of subordinated debt		(20,004)		-
Cash dividends paid		(2,238)		(9,468)
Restricted stock activity		(1,414)		(1,117)
Excess tax (expense) benefit related to share-based compensation		(30)		83
Net cash provided by financing activities		141,840		187,085
Net (decrease) increase in cash and cash equivalents		(123,156)		476,557
Cash and cash equivalents at beginning of period		641,530		585,776
Cash and cash equivalents at end of period	$	518,374	$	1,062,333
Supplemental Disclosures:
Non-cash transfers of loans to OREO	$	33,383	$	28,191
Non-cash transfer of loans held-for-investment to loans held-for-sale		92,292		10,015
Non-cash transfer of loans held-for-sale to loans held-for-investment		1,500		-
Non-cash transfer of OREO to premises, furniture, and equipment		-		841
Dividends declared but unpaid		749		746
See accompanying notes to the unaudited condensed consolidated financial statements.

NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation – The accompanying unaudited condensed consolidated interim financial statements of First Midwest Bancorp, Inc. (the “Company”), a Delaware corporation, were prepared pursuant to the rules and regulations of the SEC for quarterly reports on Form 10-Q. The accounting and reporting policies of the Company and its subsidiaries conform to U.S. generally accepted accounting principles (“GAAP”) and general practice within the banking industry. The accompanying statements do not include certain information and footnote disclosures required by GAAP for complete annual financial statements. Accordingly, these financial statements should be read in conjunction with the Company’s 2011 Annual Report on Form 10-K (“2011 10-K”).

The accompanying unaudited condensed consolidated interim financial statements were prepared in accordance with GAAP and reflect all adjustments that management deems necessary for the fair presentation of the financial position and results of operations for the periods presented. All such adjustments are of a normal recurring nature. The results of operations for the quarter ended and nine-month periods ended September 30, 2012 are not necessarily indicative of the results that may be expected for the year ending December 31, 2012.

The Company uses the accrual basis of accounting for financial reporting purposes. Certain reclassifications were made to prior year amounts to conform to the current year presentation.

Results for the nine months ended September 30, 2011 were restated in the Condensed Consolidated Statements of Income to correct a 2011 actuarial pension expense calculation related to the valuation of future early retirement benefits. For third quarter 2011, the adjustment increased pension expense by $295,000 and decreased income tax expense by $121,000, reducing net income by $174,000. For the nine months ended September 30, 2011, pension expense increased by $886,000, and income tax expense declined by $363,000, resulting in a net reduction to income of $523,000. This adjustment had no impact on earnings per common share for third quarter 2011, but reduced earnings per common share from $0.30 to $0.29 for the nine months ended September 30, 2011. In addition, there was a corresponding reduction to retained earnings of $523,000 for the nine months ended September 30, 2011 in the Consolidated Statements of Changes in Stockholders’ Equity.

Use of Estimates – The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Although these estimates and assumptions are based on the best available information, actual results could differ from those estimates.

Principles of Consolidation – The accompanying consolidated financial statements include the accounts and results of operations of the Company and its subsidiaries after elimination of all significant intercompany accounts and transactions. Assets held in a fiduciary or agency capacity are not assets of the Company or its subsidiaries and are not included in the consolidated financial statements.

The Company owns an interest in certain variable interest entities (“VIEs”) as described in Note 22, “Variable Interest Entities,” in the Company’s 2011 10-K. A VIE is a partnership, limited liability company, trust, or other legal entity that (i) does not have sufficient equity to finance its activities without additional subordinated financial support from other parties or (ii) has investors that lack certain characteristics associated with owning a controlling financial interest. The VIEs are not consolidated in the Company’s financial statements since the Company is not the primary beneficiary of any of the VIEs.

The accounting policies related to loans and the allowance for credit losses are presented below. For a summary of all other significant accounting policies, please refer to Note 1, “Summary of Significant Accounting Policies,” in the Company’s 2011 10-K.

Loans – Loans held-for-investment are carried at the principal amount outstanding, including certain net deferred loan origination fees. Interest income on loans is accrued based on principal amounts outstanding. Loan and lease origination fees, commitment fees, and certain direct loan origination costs are deferred, and the net amount is amortized over the estimated life of the related loans or commitments as a yield adjustment. Fees related to standby letters of credit, whose ultimate exercise is remote, are amortized into fee income over the estimated life of the commitment. Other credit-related fees are recognized as fee income when earned. Loans held-for-sale are carried at the lower of aggregate cost or fair value.

Purchased Impaired Loans – Purchased impaired loans are recorded at their estimated fair values on the respective purchase dates and are accounted for prospectively based on expected cash flows. No allowance for credit losses is recorded on these loans at the acquisition date. In determining fair value of purchased impaired loans at acquisition date and in subsequent periods, the Company generally aggregates purchased consumer loans and certain smaller balance commercial loans into pools of loans with common risk characteristics, such as delinquency status, credit score, and internal risk rating. Larger balance commercial loans are usually accounted for on an individual basis. Expected future cash flows in excess of the fair value of loans at the purchase date (“accretable yield”) are recorded as interest income over the life of the loans if the timing and amount of the future cash flows can be reasonably estimated. The non-accretable yield represents estimated losses in the portfolio and is equal to the difference between contractually required payments and the cash flows expected to be collected at acquisition.

Subsequent to the purchase date, increases in cash flows over those expected at the purchase date are recognized as interest income prospectively. The present value of any decreases in expected cash flows, net of reimbursement from the FDIC, after the purchase date is recognized by recording a charge-off through the allowance for covered loan losses or establishing an allowance for covered loan losses.

Non-accrual loans – Generally, commercial loans and loans secured by real estate are placed on non-accrual status (i) when either principal or interest payments become 90 days or more past due based on contractual terms unless the loan is sufficiently collateralized such that full repayment of both principal and interest is expected and is in the process of collection within a reasonable period or (ii) when an individual analysis of a borrower’s creditworthiness indicates a credit should be placed on non-accrual status whether or not the loan is 90 days or more past due. When a loan is placed on non-accrual status, unpaid interest credited to income in the current year is reversed, and unpaid interest accrued in prior years is charged against the allowance for loan losses. After the loan is placed on non-accrual, all debt service payments are applied to the principal on the loan. Future interest income may only be recorded on a cash basis after recovery of principal is reasonably assured. Non-accrual loans are returned to accrual status when the financial position of the borrower and other relevant factors indicate there is no longer doubt that the Company will collect all principal and interest due.

Commercial loans and loans secured by real estate are generally charged-off when deemed uncollectible. A loss is recorded at that time if the net realizable value can be quantified and it is less than the associated principal and interest outstanding. Consumer loans that are not secured by real estate are subject to mandatory charge-off at a specified delinquency date and are usually not classified as non-accrual prior to being charged-off. Closed-end consumer loans, which include installment, automobile, and single payment loans, are generally charged-off in full no later than the end of the month in which the loan becomes 120 days past due.

Generally, purchased impaired loans are considered accruing loans unless reasonable estimates of the timing and amount of future cash flows cannot be determined. Loans without reasonable cash flow estimates are classified as non-accrual loans, and interest income will not be recognized until the timing and amount of the future cash flows can be reasonably determined.

Troubled Debt Restructurings (“TDRs”) – A restructuring of debt is considered a TDR when (i) the borrower is experiencing financial difficulties and (ii) the creditor grants a concession, such as forgiveness of principal, reduction of the interest rate, changes in payments, or extension of the maturity, that it would not otherwise consider. Loans are not classified as TDRs when the modification is short-term or results in only an insignificant delay or shortfall in the payments to be received. The Company’s TDRs are determined on a case-by-case basis in connection with ongoing loan collection processes.

The Company does not accrue interest on any TDRs unless it believes collection of all principal and interest under the modified terms is reasonably assured. For a TDR to begin accruing interest, the borrower must demonstrate both some level of past performance and the capacity to perform under the modified terms. Generally, six months of consecutive payment performance by the borrower under the restructured terms is required before a TDR is returned to accrual status. However, the period could vary depending on the individual facts and circumstances of the loan. An evaluation of the borrower’s current creditworthiness is used to assess whether the borrower has the capacity to repay the loan under the modified terms. This evaluation includes an estimate of expected cash flows, evidence of strong financial position, and estimates of the value of collateral, if applicable. However, in accordance with industry regulation, these restructured loans continue to be separately reported as restructured until after the calendar year in which the restructuring occurred if the loan was restructured at reasonable market rates and terms.

Impaired Loans – Impaired loans consist of corporate non-accrual loans and TDRs.

With the exception of loans that were restructured and are still accruing interest, a loan is considered impaired when it is probable that the Company will be unable to collect all contractual principal and interest due according to the terms of the loan agreement based on current information and events. Loans deemed to be impaired are classified as non-accrual and are exclusive of smaller homogeneous loans, such as home equity, 1-4 family mortgages, and installment loans. When a loan is designated as impaired, any subsequent principal and interest payments received are applied to the principal on the loan. Future interest income may only be recorded on a cash basis after recovery of principal is reasonably assured.

Certain impaired loans with balances under a specified threshold are not individually evaluated for impairment. For all other impaired loans, impairment is measured by comparing the estimated value of the loan to the recorded book value. The value of the loan is measured based on the present value of expected future cash flows discounted at the loan’s initial effective interest rate or the fair value of the underlying collateral, less costs to sell, if repayment of the loan is collateral-dependent. All impaired loans are included in non-performing assets. Purchased impaired loans are not reported as impaired loans provided that estimates of the timing and amount of future cash flows can be reasonably determined.

90-Days Past Due Loans – 90-days or more past due loans are loans with principal or interest payments three months or more past due, but that still accrue interest. The Company continues to accrue interest if it determines these loans are sufficiently collateralized and in the process of collection within a reasonable time period.

Allowance for Credit Losses – The allowance for credit losses is comprised of the allowance for loan losses, the allowance for covered loan losses and the reserve for unfunded commitments and is maintained by management at a level believed adequate to absorb estimated losses inherent in the existing loan portfolio. Determination of the allowance for credit losses is inherently subjective since it requires significant estimates and management judgment, including the amounts and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on a migration analysis that uses historical loss experience, consideration of current economic trends, and other factors.

Loans deemed to be uncollectible are charged-off against the allowance for loan and covered loan losses, while recoveries of amounts previously charged-off are credited to the allowance for loan and covered loan losses. Additions to the allowance for loan and covered loan losses are established through the provision for loan and covered loan losses charged to expense. The amount charged to operating expense depends on a number of factors, including historic loan growth, changes in the composition of the loan portfolio, net charge-off levels, and the Company’s assessment of the allowance for loan and covered loan losses based on the methodology discussed below.

Allowance for loan losses - The allowance for loan losses consists of (i) specific reserves established for probable losses on individual loans for which the recorded investment in the loan exceeds the value of the loan, (ii) an allowance based on a loss migration analysis that uses historical credit loss experience for each loan category, and (iii) the impact of other internal and external qualitative factors.

The specific reserves component of the allowance for loan losses is based on a periodic analysis of impaired loans exceeding a fixed dollar amount. The value of the loan is measured based on the present value of expected future cash flows discounted at the loan’s initial effective interest rate or the fair value of the underlying collateral, less costs to sell, if repayment of the loan is collateral-dependent. If the resulting amount is less than the recorded book value, the Company either establishes a valuation allowance (i.e., a specific reserve) as a component of the allowance for loan losses or charges off the amount if it is a confirmed loss.

For corporate loans, the component of the allowance for loan losses based on a loss migration analysis examines actual loss experience for a rolling 8-quarter period and the related internal risk rating and category of loans charged-off, including any charge-off on TDRs. The loss migration analysis is performed quarterly, and the loss factors are updated based on actual experience. The loss component derived from this migration analysis is then adjusted for management’s estimate of losses inherent in the loan portfolio that have yet to be manifested in historical charge-off experience. Management takes into consideration many internal and external qualitative factors when estimating this adjustment, including:

·	Changes in the composition of the loan portfolio, trends in the volume and terms of loans, and trends in delinquent and non-accrual loans that could indicate historical trends do not reflect current conditions.

·	Changes in credit policies and procedures, such as underwriting standards and collection, charge-off, and recovery practices.

·	Changes in the experience, ability, and depth of credit management and other relevant staff.

·	Changes in the quality of the Company’s loan review system and Board of Directors oversight.

·	The existence and effect of any concentration of credit and changes in the level of concentrations, such as market, loan type, or risk rating.

·	Changes in the value of the underlying collateral for collateral-dependent loans.

·	Changes in the national and local economy that affect the collectability of various segments of the portfolio.

·	The effect of other external factors, such as competition and legal and regulatory requirements, on the level of estimated credit losses in the Company’s loan portfolio.

Allowance for covered loan losses - During third quarter 2012, the Company established an allowance for covered loan losses, which reflects the difference between the carrying value and the discounted present value of the estimated cash flows of the covered loans. On a quarterly basis, the adequacy of this allowance is determined through a re-estimation of cash flows on all of the outstanding covered loans using a Probability of Default/Loss Given Default (“PD/LGD”) methodology. The PD/LGD model is an expected loss model that estimates future cash flows using a probability of default curve and loss given default estimates.

Reserve for unfunded commitments - The Company also maintains a reserve for unfunded commitments, including letters of credit, to provide for the risk of loss inherent in these arrangements. The reserve for unfunded commitments is computed based on a loss migration analysis similar to that used to determine the allowance for loan losses, taking into consideration probabilities of future funding requirements. The reserve for unfunded commitments is included in other liabilities in the Consolidated Statements of Financial Condition.

The establishment of the allowance for credit losses involves a high degree of judgment and includes a level of imprecision given the difficulty of identifying and assessing the factors impacting loan repayment and estimating the timing and amount of losses. While management utilizes its best judgment and information available, the ultimate adequacy of the allowance for credit losses is dependent upon a variety of factors beyond the Company’s control, including the performance of its loan portfolio, the economy, changes in interest rates and property values, and the interpretation of loan risk classifications by regulatory authorities. While each component of the allowance for credit losses is determined separately, the entire balance is available for the entire loan portfolio.

2. RECENT EVENTS

Acquisition

On August 3, 2012, the Company acquired substantially all the assets of the former Waukegan Savings Bank (“Waukegan Savings”) in an FDIC-assisted transaction generating a pre-tax gain of $3.3 million. The $46.3 million of acquired loans are not subject to a loss sharing agreement with the FDIC. The transaction also included $72.7 million in deposits, which were comprised of $41.5 million in transactional deposits and $31.2 million in time deposits. As a result of the transaction, the Company also recorded $781,000 in core deposit intangibles.

Recent Accounting Pronouncements

Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards (“IFRS”): In April 2011, the Financial Accounting Standards Board (“FASB”) issued guidance that clarifies the wording used to describe many of the requirements in GAAP for measuring fair value to be consistent with IFRS. In addition, the guidance expands certain disclosure requirements relating to fair value measurements. Specifically, the new guidance requires (i) quantitative information on significant unobservable inputs, (ii) a description of a Company’s valuation processes, (iii) a narrative description of the sensitivity of recurring Level 3 measurements to unobservable inputs, and (iv) the fair value hierarchy level of assets and liabilities that are not carried at fair value but are required to be disclosed at fair value in the footnotes. This guidance is applied prospectively for interim and annual periods beginning after December 15, 2011. The new disclosures have been included in Note 12, “Fair Value.” The adoption of this guidance on January 1, 2012 did not impact the Company’s financial condition, results of operations, or liquidity.

Reconsideration of Effective Control for Repurchase Agreements: In April 2011, the FASB issued guidance that amends the accounting for repurchase agreements and other similar agreements that both entitle and obligate a transferor to redeem financial assets before maturity. The guidance modifies the criteria for determining when these transactions would be recorded as financing agreements instead of purchase or sale agreements with a commitment to resell. This guidance is applied prospectively for interim and annual periods beginning after December 15, 2011. The adoption of this guidance on January 1, 2012 did not materially impact the Company’s financial condition, results of operations, or liquidity.

Testing Goodwill for Impairment: In September 2011, the FASB issued guidance that gives an entity the option to first assess qualitative factors to determine whether the two-step impairment test is necessary. If, after assessing those factors, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is not necessary. However, if an entity concludes otherwise, then it is required to perform the first step of the two-step impairment test. The amendments are effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. The adoption of this guidance on January 1, 2012 did not have a material impact on the Company’s process for goodwill impairment testing or financial condition, results of operation, or liquidity.

Balance Sheet – Disclosures about Offsetting Assets and Liabilities: In December 2011, The FASB issued guidance on the presentation of offsetting assets and liabilities on the balance sheet. This guidance requires an entity to disclose both the gross information and net information regarding instruments and transactions eligible for offset such as derivatives, sale and repurchase agreements, and securities borrowing and lending arrangements. The statement is effective for annual and interim periods beginning on January 1, 2013, and management does not expect the adoption to materially impact the Company’s financial condition, results of operations, or liquidity.

Technical Corrections and Improvements: In October 2012, the FASB issued guidance to update the Accounting Standards Codification (the “Codification”) on a variety of topics, which include source literature amendments, guidance clarification and reference corrections, and relocated guidance. In addition, the standard includes amendments to conform terminology and clarifies certain fair value guidance in the Codification. Although the updates do not introduce any new fair value measurement requirements and are not intended to result in a change in the current application of fair value or fundamentally change other principles of GAAP, they could result in changes to existing practices. Amendments that do not have transition guidance are effective immediately, and amendments subject to transition guidance will be effective for fiscal periods beginning after December 15, 2012. Management is evaluating the new guidance, but does not anticipate the adoption to materially impact the Company’s financial condition, results of operations, or liquidity.

Business Combinations – Indemnification Assets: In October 2012, the FASB issued guidance to resolve the current diversity in practice for the subsequent measurement of an indemnification asset recognized in a government-assisted transaction, such as an FDIC-assisted acquisition, that includes a loss-sharing agreement. The amendment clarifies that an indemnification asset be measured on the same basis as the indemnified asset or liability, subject to any contractual limitations on its amount, or management’s assessment of collectability for an indemnification asset that is not measured at fair value. This guidance does not affect the recognition or initial measurement of an indemnification asset. The amendments are to be applied prospectively to any new indemnification assets acquired beginning on or after December 15, 2012. Early adoption is permitted. Management does not expect the adoption of this guidance to have a material impact on the Company’s financial condition, results of operation, or liquidity.

3. SECURITIES

Securities available-for-sale are carried at fair value with unrealized gains and losses, net of related deferred income taxes, recorded in stockholders’ equity as a separate component of accumulated other comprehensive loss. Securities classified as held-to-maturity are securities that management has the positive intent and ability to hold to maturity and are stated at cost.

Trading securities are reported at fair value. Net trading gains (losses) represent changes in the fair value of the trading securities portfolio and are included as a separate component of other noninterest income in the Condensed Consolidated Statements of Income.

Securities Portfolio

(Dollar amounts in thousands)

		September 30, 2012							December 31, 2011
		Amortized	Gross Unrealized				Fair		Amortized		Gross Unrealized				Fair
		Cost	Gains		Losses		Value		Cost		Gains		Losses		Value
Securities Available-for-Sale
U.S. agency securities	$	2,003	$	-	$	(1)	$	2,002	$	5,060	$	-	$	(25)	$	5,035
Collateralized residential mortgage obligations (“CMOs”)		511,242		4,054		(1,864)		513,432		383,828		2,622		(2,346)		384,104
Other residential mortgage-backed securities (“MBSs”)		128,750		6,399		(14)		135,135		81,982		5,732		(23)		87,691
Municipal securities		474,461		28,901		(47)		503,315		464,282		26,155		(366)		490,071
Collateralized debt obligations (“CDOs”)		46,633		-		(35,087)		11,546		48,759		-		(35,365)		13,394
Corporate debt securities		13,008		2,304		-		15,312		27,511		2,514		(11)		30,014
Equity securities:
Hedge fund investment		1,230		984		-		2,214		1,231		385		-		1,616
Other equity securities		8,296		330		-		8,626		958		123		-		1,081
Total equity securities		9,526		1,314		-		10,840		2,189		508		-		2,697
Total	$	1,185,623	$	42,972	$	(37,013)	$	1,191,582	$	1,013,611	$	37,531	$	(38,136)	$	1,013,006
Securities Held-to-Maturity
Municipal securities	$	41,944	$	3,689	$	-	$	45,633	$	60,458	$	1,019	$	-	$	61,477
Trading Securities (1)							$	15,512							$	14,469

(1)	Trading securities held by the Company represent diversified investment securities held in a grantor trust under deferred compensation arrangements in which plan participants may direct amounts earned to be invested in securities other than Company stock.

Remaining Contractual Maturity of Securities

(Dollar amounts in thousands)

	September 30, 2012
	Available-for-Sale				Held-to-Maturity
	Amortized Cost		Fair Value		Amortized Cost		Fair Value
One year or less	$	10,118	$	10,044	$	7,003	$	7,619
One year to five years		364,520		361,848		10,368		11,280
Five years to ten years		91,830		91,157		8,409		9,148
After ten years		69,637		69,126		16,164		17,586
CMOs		511,242		513,432		-		-
Other residential MBSs		128,750		135,135		-		-
Equity securities		9,526		10,840		-		-
Total	$	1,185,623	$	1,191,582	$	41,944	$	45,633

The carrying value of securities available-for-sale that were pledged to secure deposits and for other purposes as permitted or required by law totaled $650.1 million at September 30, 2012 and $592.7 million at December 31, 2011. No securities held-to-maturity were pledged as of September 30, 2012 or December 31, 2011.

Purchases and sales of securities are recognized on a trade date basis. Realized securities gains or losses are reported in net securities (losses) gains in the Condensed Consolidated Statements of Income. The cost of securities sold is recorded using the specific identification method.

Securities (Losses) Gains

(Dollar amounts in thousands)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Proceeds from sales	$	38,574	$	80,126	$	50,633	$	177,456
(Losses) gains on sales of securities:
Gross realized gains	$	131	$	671	$	1,734	$	3,453
Gross realized losses		(348)		(45)		(601)		(756)
Net realized (losses) gains on securities sales		(217)		626		1,133		2,697
Non-cash impairment charges:
Other-than-temporary impairment (“OTTI”)		-		(641)		(2,328)		(641)
Portion of OTTI recognized in other comprehensive income		-		464		186		464
Net non-cash impairment charges		-		(177)		(2,142)		(177)
Net realized (losses) gains	$	(217)	$	449	$	(1,009)	$	2,520
Income tax (benefit) expense on net realized (losses) gains	$	(89)	$	184	$	(413)	$	1,031
Net trading gains (losses) (1)	$	685	$	(2,352)	$	1,511	$	(1,610)

(1)	All net trading gains (losses) relate to trading securities still held as of September 30, 2012 and September 30, 2011.

The non-cash impairment charges in the table above primarily relate to OTTI charges on CDOs. Accounting guidance requires that only the credit portion of an OTTI charge be recognized through income. If a decline in fair value below carrying value is not attributable to credit loss and the Company does not intend to sell the security or believe it would not be more likely than not required to sell the security prior to recovery, the Company records the non-credit related portion of the decline in fair value in other comprehensive income. In deriving the credit component of the impairment on the CDOs, projected cash flows were discounted at the contractual rate. Fair values are computed by discounting future projected cash flows at the London Interbank Offered Rate (“LIBOR”) plus an adjustment to reflect the higher risk inherent in these securities given their complex structures and the impact of market factors.

Credit-Related CDO Impairment Losses

(Dollar amounts in thousands)

	Quarters Ended September 30,				Nine Months Ended September 30,
CDO Number	2012		2011		2012		2011		Life-to-Date
1	$	-	$	-	$	-	$	-	$	10,360
2		-		-		1,535		-		9,403
3		-		177		591		177		2,161
4		-		-		-		-		1,078
5		-		-		-		-		8,570
6		-		-		-		-		243
7		-		-		-		-		6,750
	$	-	$	177	$	2,126	$	177	$	38,565

Changes in the amount of credit losses recognized in earnings on CDOs and other securities are summarized in the following table.

Changes in Credit Losses Recognized in Earnings

(Dollar amounts in thousands)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Cumulative amount recognized at beginning of period	$	38,667	$	35,589	$	36,525	$	35,589
Credit losses included in earnings (1):
Losses recognized on securities that previously had credit losses		-		177		2,142		177
Losses recognized on securities that did not previously have credit losses		-		-		-		-
Cumulative amount recognized at end of period	$	38,667	$	35,766	$	38,667	$	35,766

(1)	Included in net securities (losses) gains in the Condensed Consolidated Statements of Income.

The following table presents the aggregate amount of unrealized losses and the aggregate related fair values of securities with unrealized losses as of September 30, 2012 and December 31, 2011.

Securities in an Unrealized Loss Position

(Dollar amounts in thousands)

		Less Than 12 Months				12 Months or Longer				Total
	Number of Securities	Fair Value		Unrealized Losses		Fair Value		Unrealized Losses		Fair Value		Unrealized Losses
As of September 30, 2012
U.S. agency securities	1	$	2,002	$	1	$	-	$	-	$	2,002	$	1
CMOs	34		216,137		1,722		7,167		142		223,304		1,864
Other residential MBOs	4		517		1		103		13		620		14
Municipal securities	9		2,473		14		3,128		33		5,601		47
CDOs	6		-		-		11,546		35,087		11,546		35,087
Total	54	$	221,129	$	1,738	$	21,944	$	35,275	$	243,073	$	37,013

As of December 31, 2011
U.S. agency securities	2	$	-	$	-	$	5,035	$	25	$	5,035	$	25
CMOs	30		163,819		1,818		12,628		528		176,447		2,346
Other residential MBOs	4		182		17		1,072		6		1,254		23
Municipal securities	19		934		2		7,857		364		8,791		366
CDOs	6		-		-		13,394		35,365		13,394		35,365
Corporate debt securities	1		2,157		11		-		-		2,157		11
Total	62	$	167,092	$	1,848	$	39,986	$	36,288	$	207,078	$	38,136

Approximately 99% of the Company’s CMOs and other MBSs are either backed by U.S. government-owned agencies or issued by U.S. government-sponsored enterprises. Municipal securities are issued by municipal authorities, and the majority is supported by third-party insurance or some other form of credit enhancement. Management does not believe any individual unrealized loss on these securities as of September 30, 2012 represents an OTTI. The unrealized losses associated with these securities are not believed to be attributed to credit quality, but rather to changes in interest rates and temporary market movements. In addition, the Company does not intend to sell the securities with unrealized losses, and it is not more likely than not that the Company will be required to sell them before recovery of their amortized cost basis, which may be at maturity.

The unrealized losses on CDOs as of September 30, 2012 reflect the market’s unfavorable view of structured investment vehicles given the current interest rate and liquidity environment. Management does not believe the unrealized losses on the CDOs represent OTTI related to credit deterioration. In addition, the Company does not intend to sell the CDOs with

unrealized losses, and the Company does not believe it is more likely than not that it will be required to sell them before recovery of their amortized cost basis, which may be at maturity. As of September 30, 2012, the portion of OTTI on these securities recognized in accumulated other comprehensive loss (i.e., not related to credit deterioration) totaled $35.1 million.

Significant judgment is required to calculate the fair value of the CDOs, all of which are pooled. Generally, fair value determinations are based on several factors regarding current market and economic conditions related to these securities and the underlying collateral. For these reasons and due to the illiquidity in the secondary market for the CDOs, the Company estimates the fair value of these securities using discounted cash flow analyses with the assistance of a structured credit valuation firm. For additional discussion of the CDO valuation methodology, refer to Note 12, “Fair Value.”

4. LOANS

Loans Held-for-Investment

Loans that the Company intends to hold until they are paid in full or mature are classified as loans held-for-investment. The following table presents the Company’s loans held-for-investment by class.

Loan Portfolio

(Dollar amounts in thousands)

	September 30, 2012		December 31, 2011
Commercial and industrial	$	1,610,169	$	1,458,446
Agricultural		259,787		243,776
Commercial real estate:
Office, retail, and industrial		1,330,331		1,299,082
Multi-family		309,509		288,336
Residential construction		61,920		105,836
Commercial construction		136,509		144,909
Other commercial real estate		780,712		888,146
Total commercial real estate		2,618,981		2,726,309
Total corporate loans		4,488,937		4,428,531
Home equity		397,506		416,194
1-4 family mortgages		292,908		201,099
Installment loans		38,994		42,289
Total consumer loans		729,408		659,582
Total loans, excluding covered loans		5,218,345		5,088,113
Covered loans (1)		216,610		260,502
Total loans	$	5,434,955	$	5,348,615
Deferred loan fees included in total loans	$	6,460	$	7,828
Overdrawn demand deposits included in total loans	$	2,816	$	2,850

(1)	For information on covered loans, refer to Note 5, “Covered Assets.”

The Company primarily lends to small and mid-sized commercial and industrial businesses, commercial real estate customers, and consumers in the markets in which the Company operates. Within these areas, the Company seeks to diversify its loan portfolio by loan type, industry, and borrower.

It is the Company’s policy to review each prospective credit to determine the appropriateness and the adequacy of security or collateral prior to making a loan. In the event of borrower default, the Company seeks recovery in compliance with state lending laws, the Company’s lending standards, and credit monitoring and remediation procedures.

Loans Held-for-Sale

During third quarter 2012, the Company identified $171.1 million of certain performing potential problem loans and non-performing loans for accelerated disposition wholesale loan transactions. The Company determined that the loans met the held-for-sale criteria in connection with the preparation of the quarterly financial statements, and transferred them into the held-for-sale category at the lower of the recorded investment in the loan or the estimated fair value of the loan, which resulted in charge-offs of $80.3 million. The fair value was determined by the estimated bid price of a potential sale. The transactions are expected to close in fourth quarter 2012. Refer to Note 13, “Subsequent Events,” for additional detail.

In addition, the Company sold two other non-performing commercial real estate loans totaling $4.2 million during the first six months of 2012.

Loans Transferred to Held-for-Sale as of September 30, 2012

(Dollar amounts in thousands)

	Carrying Amount of Loans Prior to Transfer to Held-for-Sale
	Pass		Substandard/ Special Mention		Non-accrual		Total		Charge-offs at Date of Transfer		Carrying Amount (1)
Commercial and industrial	$	2,868	$	23,728	$	21,796	$	48,392	$	22,508	$	25,101
Agricultural		-		7,411		1,308		8,719		4,356		4,353
Commercial real estate:
Office, retail, and industrial		4,272		24,975		20,653		49,900		23,696		26,144
Multi-family		-		2,380		1,829		4,209		1,859		2,349
Residential construction		-		7,953		6,900		14,853		5,690		9,252
Commercial construction		-		2,032		2,026		4,058		1,850		2,208
Other commercial real estate		855		29,602		8,971		39,428		19,438		19,976
Total commercial real estate		5,127		66,942		40,379		112,448		52,533		59,929
Home equity		1,303		-		30		1,333		773		558
1-4 family mortgages		160		-		-		160		90		70
Total consumer		1,463		-		30		1,493		863		628
Total loans transferred to held-for-sale	$	9,458	$	98,081	$	63,513	$	171,052	$	80,260	$	90,011

(1)	The carrying amount as of September 30, 2012 includes $781,000 in payments received subsequent to the transfer to held-for-sale.

5. COVERED ASSETS

In 2009 and 2010, the Company acquired the majority of the assets of three financial institutions in FDIC-assisted transactions, which are subject to loss sharing agreements. Most loans and OREO acquired in these acquisitions are covered by loss sharing agreements with the FDIC (the “FDIC Agreements”), whereby the FDIC will reimburse the Company for the majority of any losses incurred on these assets. A more detailed discussion of these transactions is presented in Note 5, “Covered Assets,” in the Company’s 2011 10-K.

Covered Assets

(Dollar amounts in thousands)

	September 30, 2012		December 31, 2011
Home equity lines (1)	$	44,529	$	45,451
Purchased impaired loans (2)		142,324		178,025
Other covered loans (3)		29,757		37,026
Total covered loans		216,610		260,502
FDIC indemnification asset		47,191		65,609
Covered OREO		8,729		23,455
Total covered assets	$	272,530	$	349,566
Covered non-accrual loans	$	16,372	$	19,879
Covered loans past due 90 days or more and still accruing interest	$	34,554	$	43,347

(1)	These loans are open-end consumer loans that are not categorized as purchased impaired loans.
(2)	Purchased impaired loans are recorded at their estimated fair values on the respective purchase dates and are accounted for prospectively based on expected cash flows.
(3)	These are loans that did not have evidence of credit deterioration on the date of acquisition.

The loans purchased in the three FDIC-assisted transactions were recorded at their estimated fair values on the respective purchase dates and are accounted for prospectively based on expected cash flows. Except for leases and revolving loans, including lines of credit and credit card loans, management determined that a significant portion of the acquired loans (“purchased impaired loans”) had evidence of credit deterioration since origination, and it was probable at the date of acquisition that the Company would not collect all contractually required principal and interest payments. Past due covered loans in the table above are past due based on contractual terms, but continue to perform in accordance with the Company’s expectations of cash flows.

In connection with the FDIC Agreements, the Company recorded an indemnification asset. To maintain eligibility for the loss share reimbursement, the Company is required to follow certain servicing procedures as specified in the FDIC Agreements.

The accounting policies related to purchased impaired loans are presented in Note 1, “Summary of Significant Accounting Policies.” Accounting for the related FDIC indemnification asset is presented in Note 1, “Summary of Significant Accounting Policies,” in the Company’s 2011 10-K.

Changes in the FDIC Indemnification Asset

(Dollar amounts in thousands)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Balance at beginning of period	$	58,302	$	95,752	$	65,609	$	95,899
Amortization		(6,146)		(4,374)		(10,642)		(8,871)
Expected reimbursements from the FDIC for changes in expected credit losses (1)		250		6,507		10,022		28,341
Payments received from the FDIC		(5,215)		(34,377)		(17,798)		(51,861)
Balance at end of period	$	47,191	$	63,508	$	47,191	$	63,508

(1)	The increases in the indemnification asset were a result of decreases in expected cash flows on certain loans. The indemnification asset increased by the applicable loss share percentage for additional expected losses.

Changes in the accretable yield for purchased impaired loans were as follows.

Changes in Accretable Yield

(Dollar amounts in thousands)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Balance at beginning of period	$	48,980	$	55,606	$	52,147	$	63,616
Accretion		(4,689)		(7,892)		(15,870)		(28,420)
Net reclassifications (to) from non-accretable difference (1)		(6,348)		(2,657)		1,666		9,861
Balance at end of period	$	37,943	$	45,057	$	37,943	$	45,057

(1)	Amount represents a (decrease) increase in the estimated cash flows to be collected over the remaining estimated life of the underlying covered loan portfolios.

6. PAST DUE LOANS, ALLOWANCE FOR CREDIT LOSSES, AND IMPAIRED LOANS

Past Due and Non-accrual Loans

The following table presents an aging analysis of the Company’s past due loans as of September 30, 2012 and December 31, 2011. The aging is determined without regard to accrual status. The table also presents non-performing loans, consisting of non-accrual loans (the majority of which are past due) and loans 90 days or more past due and still accruing interest, as of each balance sheet date. During third quarter 2012, the Company elected to adjust existing remediation strategies for $223.4 million of non-performing and performing potential problem loans, resulting in charge-offs of $99.1 million. The majority of these loans were transferred to held-for-sale in anticipation of wholesale loan transactions to be completed during fourth quarter 2012 as discussed in Note 4, “Loans”. The remaining $52.4 million were non-performing loans that were resolved through foreclosure or performing loans transferred to non-accrual. These actions drove improvements in past due and non-accrual loan balances as of September 30, 2012.

Aging Analysis of Past Due Loans and Non-Performing Loans by Class

(Dollar amounts in thousands)

	Aging Analysis (Accruing and Non-accrual)										Non-performing Loans
	Current		30-89 Days Past Due		90 Days or More Past Due		Total Past Due		Total Loans		Non- accrual Loans		90 Days Past Due Loans, Still Accruing Interest
September 30, 2012
Commercial and industrial	$	1,578,417	$	4,054	$	27,698	$	31,752	$	1,610,169	$	31,102	$	2,885
Agricultural		258,330		373		1,084		1,457		259,787		1,204		-
Commercial real estate:
Office, retail, and industrial		1,303,021		5,089		22,221		27,310		1,330,331		22,624		439
Multi-family		307,358		414		1,737		2,151		309,509		2,028		219
Residential construction		56,015		1,155		4,750		5,905		61,920		4,750		-
Commercial construction		128,389		86		8,034		8,120		136,509		4,423		3,611
Other commercial real estate		756,931		8,067		15,714		23,781		780,712		21,284		1,313
Total commercial real estate		2,551,714		14,811		52,456		67,267		2,618,981		55,109		5,582
Total corporate loans		4,388,461		19,238		81,238		100,476		4,488,937		87,415		8,467
Home equity		384,831		5,841		6,834		12,675		397,506		6,262		1,989
1-4 family mortgages		283,492		2,042		7,374		9,416		292,908		5,901		2,050
Installment loans		38,638		279		77		356		38,994		1		76
Total consumer loans		706,961		8,162		14,285		22,447		729,408		12,164		4,115
Total loans, excluding covered loans		5,095,422		27,400		95,523		122,923		5,218,345		99,579		12,582
Covered loans		158,800		9,365		48,445		57,810		216,610		16,372		34,554
Total loans	$	5,254,222	$	36,765	$	143,968	$	180,733	$	5,434,955	$	115,951	$	47,136
December 31, 2011
Commercial and industrial	$	1,415,165	$	13,731	$	29,550	$	43,281	$	1,458,446	$	44,152	$	4,991
Agricultural		242,727		30		1,019		1,049		243,776		1,019		-
Commercial real estate:
Office, retail, and industrial		1,276,920		2,931		19,231		22,162		1,299,082		30,043		1,040
Multi-family		281,943		1,121		5,272		6,393		288,336		6,487		-
Residential construction		87,606		2,164		16,066		18,230		105,836		18,076		-
Commercial construction		129,310		320		15,279		15,599		144,909		23,347		-
Other commercial real estate		849,066		6,372		32,708		39,080		888,146		51,447		1,707
Total commercial real estate		2,624,845		12,908		88,556		101,464		2,726,309		129,400		2,747
Total corporate loans		4,282,737		26,669		119,125		145,794		4,428,531		174,571		7,738
Home equity		402,842		6,112		7,240		13,352		416,194		7,407		1,138
1-4 family mortgages		192,646		3,712		4,741		8,453		201,099		5,322		-
Installment loans		41,288		625		376		1,001		42,289		25		351
Total consumer loans		636,776		10,449		12,357		22,806		659,582		12,754		1,489
Total loans, excluding covered loans		4,919,513		37,118		131,482		168,600		5,088,113		187,325		9,227
Covered loans		195,289		7,853		57,360		65,213		260,502		19,879		43,347
Total loans	$	5,114,802	$	44,971	$	188,842	$	233,813	$	5,348,615	$	207,204	$	52,574

Allowance for Credit Losses

The Company maintains an allowance for credit losses at a level deemed adequate by management to absorb probable losses inherent in the loan portfolio. Refer to Note 1, “Summary of Significant Accounting Policies,” for the accounting policy for the allowance for credit losses.

Allowance for Credit Losses

(Dollar amounts in thousands)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Balance at beginning of period	$	118,682	$	139,831	$	121,962	$	145,072
Loan and covered loan charge-offs		(127,120)		(29,998)		(173,487)		(79,315)
Recoveries on previous loan and covered loan charge-offs		1,592		1,033		4,011		6,854
Net loan and covered loan charge-offs		(125,528)		(28,965)		(169,476)		(72,461)
Provision for loan and covered loan losses		111,791		20,425		152,459		58,680
Balance at end of period	$	104,945	$	131,291	$	104,945	$	131,291
Allowance for loan and covered loan losses	$	102,445	$	128,791	$	102,445	$	128,791
Reserve for unfunded commitments		2,500		2,500		2,500		2,500
Total allowance for credit losses	$	104,945	$	131,291	$	104,945	$	131,291

Allowance for Credit Losses by Portfolio Segment

(Dollar amounts in thousands)

	Commercial, Industrial, and Agricultural		Office, Retail, and Industrial		Multi- Family		Residential Construction		Other Commercial Real Estate		Consumer		Covered Loans (1)		Total Allowance
Nine months ended September 30, 2012
Balance at beginning of period	$	46,017	$	16,012	$	5,067	$	14,563	$	24,471	$	14,843	$	989	$	121,962
Charge-offs		(59,715)		(37,561)		(3,242)		(13,649)		(48,006)		(8,164)		(3,150)		(173,487)
Recoveries on previous charge-offs		2,569		311		165		346		46		574		-		4,011
Net charge-offs		(57,146)		(37,250)		(3,077)		(13,303)		(47,960)		(7,590)		(3,150)		(169,476)
Provision for loan and covered loan losses		48,773		33,212		1,983		6,801		44,616		5,516		11,558		152,459
Balance at end of period	$	37,644	$	11,974	$	3,973	$	8,061	$	21,127	$	12,769	$	9,397	$	104,945
Nine months ended September 30, 2011
Balance at beginning of period	$	49,545	$	20,758	$	3,996	$	27,933	$	29,869	$	12,971	$	-	$	145,072
Charge-offs		(22,815)		(4,395)		(9,445)		(11,397)		(17,018)		(8,021)		(6,224)		(79,315)
Recoveries on previous charge-offs		2,952		60		74		2,830		623		315		-		6,854
Net charge-offs		(19,863)		(4,335)		(9,371)		(8,567)		(16,395)		(7,706)		(6,224)		(72,461)
Provision for loan and covered loan losses		19,217		224		9,985		(1,295)		13,637		9,665		7,247		58,680
Balance at end of period	$	48,899	$	16,647	$	4,610	$	18,071	$	27,111	$	14,930	$	1,023	$	131,291

(1)

For the nine months ended September 30, 2012, the allowance for credit losses on covered loans consists of an $8.4 million allowance on covered purchased impaired loans and a $966,000 allowance on covered open-end consumer loans that are not categorized as purchased impaired loans. For the same period in 2011, the allowance for credit losses on covered loans consists a $1.0 million allowance on covered open-end consumer loans that are not categorized as purchased impaired loans.

Impaired Loans

A portion of the Company’s allowance for credit losses is allocated to impaired loans. Impaired loans consist of corporate non-accrual loans and TDRs. Smaller homogeneous loans, such as home equity, installment, and 1-4 family mortgages, as well as purchased impaired loans are not individually assessed for impairment.

Impaired Loans

(Dollar amounts in thousands)

	September 30, 2012		December 31, 2011
Impaired loans individually evaluated for impairment:
Impaired loans with a related allowance for credit losses (1)	$	46,143	$	76,397
Impaired loans with no specific related allowance for credit losses (2)		35,607		83,090
Total impaired loans individually evaluated for impairment		81,750		159,487
Corporate non-accrual loans not individually evaluated for impairment (3)		5,665		15,084
Total corporate non-accrual loans		87,415		174,571
TDRs, still accruing interest		6,391		17,864
Total impaired loans	$	93,806	$	192,435
Valuation allowance related to impaired loans	$	13,988	$	26,095

(1)	These impaired loans require a valuation allowance because the present value of expected future cash flows or the estimated value of the related collateral, less estimated selling costs, is less than the recorded investment in the loans.
(2)	No specific allowance for credit losses is allocated to these loans since they are deemed to be sufficiently collateralized or had charge-offs.
(3)	These are loans with balances under a specified threshold.

The table below provides a breakdown of loans and the related allowance for credit losses by portfolio segment. Loans individually evaluated for impairment include corporate non-accrual loans with the exception of certain loans with balances under a specified threshold.

For purchased impaired loans, the present value of any decreases in expected cash flows after the purchase date is recognized by recording a charge-off through the allowance for covered loan losses or establishing an allowance for covered loan losses.

Loans and Related Allowance for Credit Losses by Portfolio Segment

(Dollar amounts in thousands)

	Loans						Allowance For Credit Losses
	Individually Evaluated For Impairment		Collectively Evaluated For Impairment		Total		Individually Evaluated For Impairment		Collectively Evaluated For Impairment		Total
September 30, 2012
Commercial, industrial, and agricultural	$	29,454	$	1,840,502	$	1,869,956	$	10,627	$	27,017	$	37,644
Commercial real estate:
Office, retail, and industrial		22,036		1,308,295		1,330,331		1,413		10,561		11,974
Multi-family		1,447		308,062		309,509		80		3,893		3,973
Residential construction		4,512		57,408		61,920		173		7,888		8,061
Other commercial real estate		24,301		892,920		917,221		1,695		19,432		21,127
Total commercial real estate		52,296		2,566,685		2,618,981		3,361		41,774		45,135
Total corporate loans		81,750		4,407,187		4,488,937		13,988		68,791		82,779
Consumer		-		729,408		729,408		-		12,769		12,769
Total loans, excluding covered loans		81,750		5,136,595		5,218,345		13,988		81,560		95,548
Covered loans (1)		-		216,610		216,610		-		9,397		9,397
Total loans included in the calculation of the allowance for credit losses	$	81,750	$	5,353,205	$	5,434,955	$	13,988	$	90,957	$	104,945
December 31, 2011
Commercial, industrial, and agricultural	$	37,385	$	1,664,837	$	1,702,222	$	14,827	$	31,190	$	46,017
Commercial real estate:
Office, retail, and industrial		28,216		1,270,866		1,299,082		1,507		14,505		16,012
Multi-family		5,589		282,747		288,336		20		5,047		5,067
Residential construction		17,378		88,458		105,836		2,502		12,061		14,563
Other commercial real estate		70,919		962,136		1,033,055		7,239		17,232		24,471
Total commercial real estate		122,102		2,604,207		2,726,309		11,268		48,845		60,113
Total corporate loans		159,487		4,269,044		4,428,531		26,095		80,035		106,130
Consumer		-		659,582		659,582		-		14,843		14,843
Total loans, excluding covered loans		159,487		4,928,626		5,088,113		26,095		94,878		120,973
Covered loans (2)		-		45,451		45,451		-		989		989
Total loans included in the calculation of the allowance for credit losses	$	159,487	$	4,974,077	$	5,133,564	$	26,095	$	95,867	$	121,962

(1)	The allowance for credit losses consists of an $8.4 million allowance on covered purchased impaired loans, which was established during third quarter 2012, and a $966,000 allowance on covered open-end consumer loans that are not categorized as purchased impaired loans.
(2)	Amounts consist of covered open-end consumer loans that are not categorized as purchased impaired loans and the related allowance for credit losses of $989,000.

The following table presents loans, excluding covered loans, individually evaluated for impairment by class of loan as of September 30, 2012 and December 31, 2011.

Impaired Loans Individually Evaluated by Class

(Dollar amounts in thousands)

	September 30, 2012								December 31, 2011
	Recorded Investment In								Recorded Investment In
	Loans with No Related Allowance for Credit Losses		Loans with a Related Allowance for Credit Losses		Unpaid Principal Balance		Specific Allowance for Credit Losses Allocated		Loans with No Related Allowance for Credit Losses		Loans with a Related Allowance for Credit Losses		Unpaid Principal Balance		Specific Allowance for Credit Losses Allocated
Commercial and industrial	$	9,707	$	19,023	$	60,808	$	10,627	$	10,801	$	26,028	$	58,591	$	14,827
Agricultural		724		-		892		-		556		-		556		-
Commercial real estate:
Office, retail, and industrial		9,540		12,496		38,896		1,413		11,897		16,319		33,785		1,507
Multi-family		646		801		3,433		80		5,072		517		11,265		20
Residential construction		4,009		503		12,134		173		9,718		7,660		33,124		2,502
Commercial construction		3,550		876		9,139		37		19,019		3,790		28,534		758
Other commercial real estate		7,431		12,444		29,701		1,658		26,027		22,083		70,868		6,481
Total commercial real estate		25,176		27,120		93,303		3,361		71,733		50,369		177,576		11,268
Total impaired loans individually evaluated for impairment	$	35,607	$	46,143	$	155,003	$	13,988	$	83,090	$	76,397	$	236,723	$	26,095

Average Recorded Investment and Interest Income Recognized on Impaired Loans by Class

(Dollar amounts in thousands)

	Nine Months Ended September 30, 2012				Nine Months Ended September 30, 2011
	Average Recorded Investment Balance		Interest Income Recognized (1)		Average Recorded Investment Balance		Interest Income Recognized (1)
Commercial and industrial	$	50,777	$	94	$	48,982	$	51
Agricultural		1,117		-		1,463		-
Commercial real estate:
Office, retail, and industrial		35,874		2		30,423		30
Multi-family		7,680		-		12,226		6
Residential construction		17,658		1		34,828		27
Commercial construction		21,397		-		23,818		-
Other commercial real estate		41,085		38		26,143		23
Total commercial real estate		123,694		41		127,438		86
Total impaired loans individually evaluated for impairment	$	175,588	$	135	$	177,883	$	137

(1)	Interest income on impaired loans is recorded using the cash basis of accounting.

TDRs

Loan modifications are generally performed at the request of the individual borrower and may include forgiveness of principal, reduction in interest rates, changes in payments, and maturity date extensions. A discussion of our accounting policies for TDRs can be found in Note 1, “Summary of Significant Accounting Policies.”

TDRs by Class

(Dollar amounts in thousands)

	As of September 30, 2012						As of December 31, 2011
	Accruing		Non-accrual (1)		Total		Accruing		Non-accrual (1)		Total
Commercial and industrial	$	172	$	2,827	$	2,999	$	1,451	$	897	$	2,348
Agricultural		-		-		-		-		-		-
Commercial real estate:
Office, retail, and industrial		-		2,407		2,407		1,742		-		1,742
Multi-family		-		150		150		11,107		1,758		12,865
Residential construction		-		-		-		-		-		-
Commercial construction		-		-		-		-		14,006		14,006
Other commercial real estate		5,090		5,707		10,797		227		11,417		11,644
Total commercial real estate		5,090		8,264		13,354		13,076		27,181		40,257
Total corporate loans		5,262		11,091		16,353		14,527		28,078		42,605
Home equity		22		237		259		1,093		471		1,564
1-4 family mortgages		1,107		1,059		2,166		2,089		1,293		3,382
Installment loans		-		-		-		155		-		155
Total consumer loans		1,129		1,296		2,425		3,337		1,764		5,101
Total loans	$	6,391	$	12,387	$	18,778	$	17,864	$	29,842	$	47,706

(1)	These loans are included in non-accrual loans in the preceding tables.

The following table presents a summary of loans that were restructured during the nine months ended September 30, 2012 and September 30, 2011.

TDRs Restructured During the Period

(Dollar amounts in thousands)

	Number of Loans	Pre- Modification Recorded Investment		Funds Disbursed		Interest and Escrow Capitalized		Charge-offs		Post- Modification Recorded Investment
Nine months ended September 30, 2012
Commercial and industrial	2	$	2,793	$	-	$	-	$	170	$	2,623
Office, retail, and industrial	2		2,416		-		-		-		2,416
Other commercial real estate	7		11,906		-		-		652		11,254
1-4 family mortgages	4		563		-		4		-		567
Total TDRs restructured during the period	15	$	17,678	$	-	$	4	$	822	$	16,860
Nine months ended September 30, 2011
Commercial and industrial	10	$	886	$	-	$	7	$	-	$	893
Office, retail, and industrial	3		3,407		293		9		-		3,709
Other commercial real estate	1		174		-		74		-		248
Home equity	8		508		-		16		-		524
1-4 family mortgages	12		1,236		-		89		-		1,325
Installment loans	1		151		-		4		-		155
Total TDRs restructured during the period	35	$	6,362	$	293	$	199	$	-	$	6,854

The Company may record specific reserves in the allowance for loan losses for TDRs. The value of the loan is estimated by discounting the restructured cash flows at the original effective rate of the loan before modification or is based on the fair value of the underlying collateral, less costs to sell, if repayment of the loan is collateral-dependent. If the resulting amount is less than the recorded book value, the Company either establishes a specific reserve as a component of the allowance for loan losses or charges off the impaired balance if it determines that it is a confirmed loss. TDRs had related specific reserves totaling $3.0 million as of September 30, 2012 and $94,000 as of December 31, 2011.

Accruing TDRs that have payment defaults and do not perform in accordance with their modified terms are transferred to non-accrual. The following table presents TDRs that had payment defaults during the nine months ended September 30, 2012 and September 30, 2011 where the default occurred within twelve months of the restructure date.

TDRs That Defaulted Within Twelve Months of the Restructured Date

(Dollar amounts in thousands)

	Nine Months Ended
	September 30, 2012			September 30, 2011
	Number of Loans	Recorded Investment		Number of Loans	Recorded Investment
Office, retail, and industrial	2	$	837	1	$	397
Other commercial real estate	2		717	-		-
Home equity	-		-	1		83
1-4 family mortgages	1		62	1		141
Total restructured loans	5	$	1,616	3	$	621

There were no commitments to lend additional funds to borrowers with TDRs as of September 30, 2012 or December 31, 2011.

Credit Quality Indicators

Corporate loans and commitments are assessed for credit risk and assigned ratings based on various characteristics, such as the borrower’s cash flow, leverage, collateral, management characteristics, and other factors. Ratings for commercial credits are reviewed periodically. On a quarterly basis, consumer loans are assessed for credit quality based on the accrual status of the loan.

Credit Quality Indicators by Class, Excluding Covered Loans

(Dollar amounts in thousands)

	Pass		Special Mention (1)		Substandard (2)		Non-accrual (3)		Total
September 30, 2012
Commercial and industrial	$	1,534,695	$	39,966	$	4,406	$	31,102	$	1,610,169
Agricultural		256,772		1,811		-		1,204		259,787
Commercial real estate:
Office, retail, and industrial		1,232,427		58,325		16,955		22,624		1,330,331
Multi-family		305,827		1,654		-		2,028		309,509
Residential construction		34,954		13,867		8,349		4,750		61,920
Commercial construction		106,726		14,318		11,042		4,423		136,509
Other commercial real estate		714,296		14,725		30,407		21,284		780,712
Total commercial real estate		2,394,230		102,889		66,753		55,109		2,618,981
Total corporate loans	$	4,185,697	$	144,666	$	71,159	$	87,415	$	4,488,937
December 31, 2011
Commercial and industrial	$	1,308,812	$	57,866	$	47,616	$	44,152	$	1,458,446
Agricultural		232,270		10,487		-		1,019		243,776
Commercial real estate:
Office, retail, and industrial		1,147,026		78,578		43,435		30,043		1,299,082
Multi-family		275,031		5,803		1,015		6,487		288,336
Residential construction		48,806		27,198		11,756		18,076		105,836
Commercial construction		92,568		23,587		5,407		23,347		144,909
Other commercial real estate		746,213		73,058		17,428		51,447		888,146
Total commercial real estate		2,309,644		208,224		79,041		129,400		2,726,309
Total corporate loans	$	3,850,726	$	276,577	$	126,657	$	174,571	$	4,428,531

	Performing		Non-accrual		Total
September 30, 2012
Home equity	$	391,244	$	6,262	$	397,506
1-4 family mortgages		287,007		5,901		292,908
Installment loans		38,993		1		38,994
Total consumer loans	$	717,244	$	12,164	$	729,408
December 31, 2011
Home equity	$	408,787	$	7,407	$	416,194
1-4 family mortgages		195,777		5,322		201,099
Installment loans		42,264		25		42,289
Total consumer loans	$	646,828	$	12,754	$	659,582

(1)	Loans categorized as special mention exhibit potential weaknesses that require the close attention of management since these potential weaknesses may result in the deterioration of repayment prospects at some future date.
(2)	Loans categorized as substandard continue to accrue interest, but exhibit a well-defined weakness or weaknesses that may jeopardize the liquidation of the debt. The loans continue to accrue interest because they are well secured and collection of principal and interest is expected within a reasonable time.
(3)	Loans categorized as non-accrual exhibit a well-defined weakness or weaknesses that may jeopardize the liquidation of the debt and are characterized by the distinct possibility that the Company could sustain some loss if the deficiencies are not corrected. These loans were placed on non-accrual status.

7. SENIOR AND SUBORDINATED DEBT

The following table presents the Company’s senior and subordinated debt by issuance.

Senior and Subordinated Debt

(Dollar amounts in thousands)

	September 30, 2012		December 31, 2011
5.875% senior notes due in 2016
Principal amount	$	115,000	$	115,000
Discount		(508)		(600)
Total senior notes due in 2016		114,492		114,400
5.85% subordinated notes due in 2016
Principal amount		50,500		50,500
Discount		(20)		(24)
Total subordinated notes due in 2016		50,480		50,476
6.95% junior subordinated debentures due in 2033
Principal amount		66,253		87,351
Discount		(54)		(74)
Total junior subordinated debentures due in 2033		66,199		87,277
Total senior and subordinated debt	$	231,171	$	252,153

The Company’s senior and subordinated debt issuances are described in Note 11, “Senior and Subordinated Debt,” in the Company’s 2011 10-K.

In first quarter 2012, the Company repurchased and retired $21.1 million out of a total of $87.4 million of 6.95% junior subordinated debentures at a discount of 2.25%. This transaction resulted in the recognition of a pre-tax gain of $256,000, which is included in other noninterest income in the Condensed Consolidated Statement of Income.

8. EARNINGS PER COMMON SHARE

Basic and Diluted (Loss) Earnings per Common Share

(Amounts in thousands, except per share data)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012			2011
Net (loss) income	$	(48,527)	$	8,942	$	(34,270)	$		29,639
Preferred dividends		-		(2,413)		-			(7,238)
Accretion on preferred stock		-		(173)		-			(511)
Net loss (income) applicable to non-vested restricted shares		715		(93)		500			(330)
Net (loss) income applicable to common shares	$	(47,812)	$	6,263	$	(33,770)	$		21,560
Weighted-average common shares outstanding:
Weighted-average common shares outstanding (basic)		73,742		73,361		73,636			73,258
Dilutive effect of common stock equivalents		-		-		-			-
Weighted-average diluted common shares outstanding		73,742		73,361		73,636			73,258
Basic (loss) earnings per share	$	(0.65)	$	0.09	$	(0.46)	$		0.29
Diluted (loss) earnings per share	$	(0.65)	$	0.09	$	(0.46)	$		0.29
Anti-dilutive shares not included in the computation of diluted earnings per share (1)		1,740		3,561		1,786			3,637

(1)	Represents outstanding stock options (and a common stock warrant for the 2011 periods) for which the exercise price is greater than the average market price of the Company’s common stock.

9. INCOME TAXES

Income Tax (Benefit) Expense

(Dollar amounts in thousands)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
(Loss) income before income tax (benefit) expense	$	(85,520)	$	10,525	$	(69,346)	$	33,851
Income tax (benefit) expense:
Federal income tax (benefit) expense	$	(29,391)	$	804	$	(28,420)	$	3,281
State income tax (benefit) expense		(7,602)		779		(6,656)		931
Total income tax (benefit) expense	$	(36,993)	$	1,583	$	(35,076)	$	4,212
Effective income tax rate		43.3%		15.0%		50.6%		12.4%

Federal income tax (benefit) expense and the related effective income tax rate are primarily influenced by the amount of tax-exempt income derived from investment securities and bank-owned life insurance in relation to pre-tax (loss) income and state income taxes. State income tax (benefit) expense and the related effective tax rate are influenced by the amount of state tax-exempt income in relation to pre-tax (loss) income and state tax rules related to consolidated/combined reporting and sourcing of income and expense.

The Company had an income tax benefit for both 2012 periods presented compared to income tax expense for the same periods in 2011 due to the pre-tax losses in the 2012 periods compared to the pre-tax income in the 2011 periods.

Our accounting policies underlying the recognition of income taxes in the Consolidated Statements of Financial Condition and Income are included in Notes 1 and 14 to the Consolidated Financial Statements of our 2011 10-K.

10. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

In the ordinary course of business, the Company enters into derivative transactions as part of its overall interest rate risk management strategy to minimize significant unplanned fluctuations in earnings and cash flows caused by interest rate volatility. The significant accounting policies related to derivative instruments and hedging activities are presented in Note 1, “Summary of Significant Accounting Policies,” in the Company’s 2011 10-K.

During the nine months ended September 30, 2012 and 2011, the Company hedged the fair value of fixed rate commercial real estate loans using interest rate swaps through which the Company pays fixed amounts and receives variable amounts. These derivative contracts were designated as fair value hedges and are valued using observable market prices, if available, or third party cash flow projection models. The fair values of the fair value hedges and the related amount of hedge ineffectiveness were not material for any period presented.

The Company’s derivative portfolio also includes derivative instruments not designated in a hedge relationship consisting of commitments to originate 1-4 family mortgage loans. The fair value of these instruments was not material for any period presented. The Company had no other derivative instruments as of September 30, 2012 or December 31, 2011. The Company does not enter into derivative transactions for purely speculative purposes.

11. COMMITMENTS, GUARANTEES, AND CONTINGENT LIABILITIES

Credit Commitments and Guarantees

In the normal course of business, the Company enters into a variety of financial instruments with off-balance sheet risk to meet the financing needs of its customers and to conduct lending activities. These instruments include commitments to extend credit and standby and commercial letters of credit. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the Consolidated Statements of Financial Condition.

Contractual or Notional Amounts of Financial Instruments

(Dollar amounts in thousands)

	September 30, 2012		December 31, 2011
Commitments to extend credit:
Commercial and industrial	$	692,683	$	609,601
Commercial real estate		172,593		139,574
Home equity lines		251,447		257,315
1-4 family real estate construction		19,771		13,300
Credit card lines		24,621		21,257
Overdraft protection program (1)		177,620		178,699
All other commitments		91,717		129,015
Total commitments	$	1,430,452	$	1,348,761
Letters of credit:
1-4 family real estate construction	$	6,011	$	8,661
Commercial real estate		52,718		49,373
All other		54,875		58,532
Total letters of credit	$	113,604	$	116,566
Unamortized fees associated with letters of credit (2)	$	697	$	668
Remaining weighted-average term (in months)		13.84		9.62
Remaining lives (in years)		0.1 to 11.8		0.1 to 12.6
Forward committed advance with FHLB:
Amount of advance	$	200,000	$	-
Interest rate	2.05%
Expected settlement date	May 19, 2014			-
Maturity date	May 20, 2019			-

(1)	Federal regulations regarding electronic fund transfers require consumers to affirmatively consent to a financial institution’s overdraft service for automated teller machine and one-time debit card transactions before overdraft fees may be assessed on the account. Consumers are provided a specific line for the amount they may overdraw.
(2)	Included in other liabilities in the Consolidated Statements of Financial Condition. The Company will amortize these amounts into income over the commitment period.

Letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Standby letters of credit generally are contingent upon the failure of the customer to perform according to the terms of the underlying contract with the third party and are most often issued in favor of a municipality where construction is taking place to ensure the borrower adequately completes the construction.

The maximum potential future payments guaranteed by the Company under standby letters of credit arrangements are equal to the contractual amount of the commitment. If a commitment is funded, the Company may seek recourse through the liquidation of the underlying collateral, including real estate, production plants and property, marketable securities, or receipt of cash.

The Company entered into a forward commitment with the FHLB to take advantage of the current low market rates for future funding. The advance has a prepayment feature allowing the Company to prepay the advance below par if the prepayment calculation indicates a discount.

Legal Proceedings

In August 2011, the Bank was named in a purported class action lawsuit filed in the Circuit Court of Cook County, Illinois on behalf of certain of the Bank’s customers who incurred overdraft fees. The complaint has been amended several times. The most recent amendment to this complaint was filed on October 1, 2012 by the plaintiffs. The Bank filed a motion to dismiss this new complaint. The lawsuit is based on the Bank’s practices pursuant to debit card transactions, and alleges that these practices resulted in customers being unfairly assessed overdraft fees. The lawsuit seeks an unspecified amount of damages and other relief, including restitution. The Company believes that the new complaint contains significant inaccuracies and factual misstatements and that the Bank has meritorious defenses. As a result, the Bank intends to vigorously defend itself against the allegations in the lawsuit.

As of September 30, 2012, there were certain other legal proceedings pending against the Company and its subsidiaries in the ordinary course of business. The Company does not believe that liabilities, individually or in the aggregate, arising from legal proceedings, if any, would have a material adverse effect on the consolidated financial condition of the Company as of September 30, 2012.

12. FAIR VALUE

Fair value represents the amount that would be received to sell an asset or paid to transfer a liability in its principal or most advantageous market in an orderly transaction between market participants at the measurement date. In accordance with fair value accounting guidance, the Company measures, records, and reports various types of assets and liabilities at fair value on either a recurring or non-recurring basis in the Consolidated Statements of Financial Condition. Other assets and liabilities are not required to be measured at fair value in the Consolidated Statements of Financial Condition, but must be disclosed for reporting purposes. Refer to the “Financial Instruments Not Required to be Measured at Fair Value” section of this footnote. Any aggregation of the estimated fair values presented in this footnote does not represent the underlying value of the Company.

Depending on the nature of the asset or liability, the Company uses various valuation methodologies and assumptions to estimate fair value. GAAP establishes a three-tiered fair value hierarchy based on the inputs used to measure fair value. The hierarchy is defined as follows:

·	Level 1 – Quoted prices in active markets for identical assets or liabilities.

·	Level 2 – Observable inputs other than level 1 prices, such as quoted prices for similar instruments, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data.

·	Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. These inputs require significant management judgment or estimation, some of which use model-based techniques and may be internally developed.

Assets and liabilities are assigned to a level within the fair value hierarchy based on the lowest level of significant input used to measure fair value. Assets and liabilities may change levels within the fair value hierarchy due to market conditions or other circumstances. These transfers are recognized on the date of the event that prompted the transfer. There were no transfers of assets or liabilities between levels of the fair value hierarchy during the periods presented.

Assets and Liabilities Required to be Measured at Fair Value on a Recurring Basis

The following table provides the level in the fair value hierarchy and corresponding fair value for assets and liabilities required to be measured at fair value on a recurring basis in the Consolidated Statements of Financial Condition.

Recurring Fair Value Measurements

(Dollar amounts in thousands)

	September 30, 2012						December 31, 2011
	Level 1		Level 2		Level 3		Level 1		Level 2		Level 3
Assets:
Trading securities:
Money market funds	$	1,445	$	-	$	-	$	1,565	$	-	$	-
Mutual funds		14,067		-		-		12,904		-		-
Total trading securities		15,512		-		-		14,469		-		-
Securities available-for-sale:
U.S. agency securities		-		2,002		-		-		5,035		-
CMOs		-		513,432		-		-		384,104		-
Other residential MBSs		-		135,135		-		-		87,691		-
Municipal securities		-		503,315		-		-		490,071		-
CDOs		-		-		11,546		-		-		13,394
Corporate debt securities		-		15,312		-		-		30,014		-
Hedge fund investment		-		2,214		-		-		1,616		-
Other equity securities		42		8,584		-		41		1,040		-
Total securities available- for-sale		42		1,179,994		11,546		41		999,571		13,394
Mortgage servicing rights (1)		-		-		818		-		-		929
Liabilities:
Derivative liabilities (2)	$	-	$	2,433	$	-	$	-	$	2,459	$	-

(1)	Included in other assets in the Consolidated Statements of Financial Condition.
(2)	Included in other liabilities in the Consolidated Statements of Financial Condition.

The following sections describe the specific valuation techniques and inputs used to measure financial assets and liabilities at fair value.

Trading Securities

Trading securities represent diversified investment securities held in a grantor trust and are invested in money market and mutual funds. The fair value of these money market and mutual funds is based on quoted market prices in active exchange markets and is classified in level 1 of the fair value hierarchy. Changes in the fair value of trading securities are included as a separate component of noninterest income in the Condensed Consolidated Statements of Income.

Securities Available-for-Sale

U.S. Agency Securities, CMOs, Other Residential MBSs, Municipal Securities, Corporate Debt Securities, and Other Equity Securities – These securities are primarily fixed income instruments that are not quoted on an exchange, but may be traded in active markets. The fair values are based on quoted prices in active markets or market prices for similar securities obtained from external pricing services or dealer market participants and are classified in level 2 of the fair value hierarchy. Quarterly, the Company evaluates the methodologies used by its external pricing services to develop the fair values to determine whether the results of the valuations are representative of an exit price in the Company’s principal markets and an appropriate representation of fair value.

CDOs – CDOs are classified in level 3 of the fair value hierarchy.

Rollforward of the Carrying Value of CDOs

(Dollar amounts in thousands)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Balance at beginning of period	$	11,082	$	16,487	$	13,394	$	14,858
Total income (loss):
Included in earnings (1)		-		(177)		(2,126)		(177)
Included in other comprehensive income (2)		464		(2,093)		278		(464)
Balance at end of period (3)	$	11,546	$	14,217	$	11,546	$	14,217
Change in unrealized losses recognized in earnings related to securities still held at end of period	$	-	$	(177)	$	(2,126)	$	(177)

(1)	Included in net securities (losses) gains in the Condensed Consolidated Statements of Income and related to securities still held at the end of the period.
(2)	Included in unrealized holding gains in the Consolidated Statements of Comprehensive Income.
(3)	There were no purchases, sales, issuances, or settlements of CDOs during the periods presented.

The Company estimates the fair values for each CDO using discounted cash flow analyses with the assistance of a structured credit valuation firm. This methodology relies on credit analysis and review of historical financial data for each of the issuers of the securities underlying the individual CDO (the “Issuers”) to estimate the cash flows. These estimates are highly subjective and sensitive to several significant, unobservable inputs, including prepayment assumptions, default probabilities, loss given default assumptions, and deferral cure probabilities. The cash flows for each Issuer are then discounted to the present values using LIBOR plus an adjustment to reflect the higher risk inherent in these securities given their complex structures and the impact of market factors. Finally, the discounted cash flows for each Issuer are aggregated to derive the estimated fair value for the specific CDO. Specific information for each CDO, as well as the significant unobservable assumptions, is presented in the following table.

Characteristics of CDOs and Unobservable Inputs Significant

to the Valuation of CDOs as of September 30, 2012

(Dollar amounts in thousands)

	CDO Number (1)
	1		2		3		4		5		6
Characteristics:
Class (2)		C-1		C-1		C-1		B1		C		C
Original par	$	17,500	$	15,000	$	15,000	$	15,000	$	10,000	$	6,500
Amortized cost		7,140		5,597		12,478		13,922		1,317		6,179
Fair value		2,560		260		2,980		3,947		359		1,440
Lowest credit rating (Moody’s)		Ca		Ca		Ca		Ca		C		Ca
Number of underlying Issuers		46		56		62		63		56		78
Percent of Issuers currently performing		76.1%		76.8%		77.4%		54.0%		58.9%		65.4%
Current deferral and default percent (3)		17.6%		17.6%		11.8%		38.0%		45.1%		29.4%
Expected future deferral and default percent (4)		20.4%		17.7%		15.9%		30.3%		32.0%		16.1%
Excess subordination percent (5)		0.0%		0.0%		1.9%		0.0%		0.0%		2.4%
Discount rate risk adjustment (6)		14.5%		15.5%		14.5%		13.5%		14.5%		13.0%
Significant unobservable assumptions, weighted average of Issuers:
Probability of prepayment		8.9%		4.9%		3.9%		7.1%		7.3%		2.6%
Probability of default		23.3%		28.2%		22.4%		28.8%		40.7%		31.0%
Loss given default		88.1%		88.6%		89.7%		92.6%		92.6%		94.7%
Probability of deferral cure		43.1%		25.3%		23.3%		52.4%		38.9%		39.8%

(1)	The Company has a seventh CDO, but no information is reported for that CDO since the security had an amortized cost and fair value of zero as of September 30, 2012.
(2)	Class refers to the Company’s tranche within the security. In a structured investment, a tranche is one of a number of related securities offered as part of the same transaction and relates to the order in which investors receive principal and interest payments (i.e., tranche B pays before tranche C).
(3)	Represents actual deferrals and defaults, net of recoveries, as a percent of the original collateral.
(4)	Represents expected future net deferrals and defaults, net of recoveries, as a percent of the remaining performing collateral.
(5)	Represents additional defaults that the CDO can absorb before the security experiences any credit impairment. The excess subordination percentage is calculated by dividing the amount of potential additional loss that can be absorbed (before the receipt of all expected future principal and interest payments is affected) by the total balance of performing collateral.
(6)	Cash flows are discounted at LIBOR plus this adjustment to reflect the higher risk inherent in these securities given the current market environment.

Most Issuers have the right to prepay the securities on the fifth anniversary of issuance and under other limited circumstances. To estimate prepayments, a credit analysis of each Issuer is performed to ascertain its ability and likelihood to fund a prepayment. If a prepayment occurs, the Company receives cash equal to the par value for the portion of the CDO associated with that Issuer. Since there are a number of Issuers underlying each CDO, prepayments by a small number of Issuers would not likely have a material impact on the fair value of the CDO.

The probability of future defaults is derived for each Issuer based on a credit analysis. The associated assumed loss given default is based on historical default and recovery information provided by a nationally recognized credit rating agency and is assumed to be 90% for banks, 85% for insurance companies, and 100% for Issuers that have already defaulted.

The likelihood that an Issuer who is currently deferring payment on the securities will pay all deferred amounts and remain current thereafter is based on an analysis of the Issuer’s asset quality, leverage ratios, and other measures of financial viability.

The impact of changes in these key inputs could result in a significantly higher or lower fair value measurement for each CDO. The timing of the default, the magnitude of the default, and the timing and magnitude of the cure probability are directly interrelated. Defaults that occur sooner and/or are greater than anticipated have a negative impact on the valuation. In addition, a high cure probability assumption has a positive effect on the fair value, and, if a cure event takes place sooner than anticipated, the impact on the valuation is also favorable.

The Company’s Treasury Department monitors the valuation results of each CDO on a quarterly basis, which includes an analysis of historical pricing trends for these types of securities, overall economic conditions (such as tracking LIBOR curves), and the performance of the Issuers’ industries. The Company’s Treasury Department also reviews market activity for the same or similar tranches of the CDOs, when available. Annually, it validates significant assumptions by reviewing detailed back-testing performed by the valuation firm.

Hedge Fund Investment – The Company’s hedge fund investment is classified in level 2 of the fair value hierarchy. The fair value is derived from monthly and annual financial statements provided by hedge fund management. The majority of the hedge fund’s investment portfolio is held in securities that are freely tradable and are listed on national securities exchanges.

Mortgage Servicing Rights

The Company services loans for others totaling $69.1 million as of September 30, 2012 and $78.6 million as of December 31, 2011. These loans are owned by third parties and are not included in the Consolidated Statements of Condition. The Company estimates the fair value of mortgage servicing rights by using a discounted cash flow analysis and classifies them in level 3 of the fair value hierarchy. Additional information regarding the Company’s mortgage servicing rights can be found in Note 22, “Fair Value,” in the Company’s 2011 10-K.

Derivative Assets and Derivative Liabilities

The interest rate swaps entered into by the Company are executed in the dealer market, and pricing is based on market quotes obtained from the counterparty. The market quotes were developed using market observable inputs, which primarily include LIBOR. Therefore, derivatives are classified in level 2 of the fair value hierarchy. For its derivative assets and liabilities, the Company also considers non-performance risk, including the likelihood of default by itself and its counterparties, when evaluating whether the market quotes from the counterparty are representative of an exit price.

Assets and Liabilities Required to be Measured at Fair Value on a Non-recurring Basis

The following table provides the hierarchy level and corresponding fair value for each class of assets and liabilities required to be measured at fair value on a non-recurring basis in the Consolidated Statements of Financial Condition.

Non-Recurring Fair Value Measurements

(Dollar amounts in thousands)

	September 30, 2012						December 31, 2011
	Level 1		Level 2		Level 3		Level 1		Level 2		Level 3
Collateral-dependent impaired loans	$	-	$	-	$	74,300	$	-	$	-	$	96,220
OREO (1)		-		-		45,216		-		-		57,430
Loans held-for-sale		-		-		90,011		-		-		4,200
Assets held-for-sale (2)		-		-		7,318		-		-		7,933

(1)	Includes covered OREO.
(2)	Included in premises, furniture, and equipment in the Consolidated Statements of Financial Condition.

Collateral-Dependent Impaired Loans

Certain collateral-dependent impaired loans are subject to fair value adjustments to reflect the difference between the carrying value of the loans and the value of the underlying collateral. The fair values of collateral-dependent impaired loans are primarily determined by current appraised values of the underlying collateral, net of estimated selling costs, which range from 0% - 6%. Circumstances may warrant an adjustment to the appraised value based on the age and/or type of appraisal, and these adjustments typically range from 0% - 20%. Generally, appraisals greater than twelve months old are adjusted to account for estimated declines in the real estate market until an updated appraisal can be obtained. In addition, the Company may adjust appraised values to account for differences in remediation strategies, such as adjusting a “stabilized” value to an “orderly liquidation” value. In certain cases, an internal valuation may be used when the underlying collateral is located in areas where comparable sales data is limited or unavailable. Accordingly, collateral-dependent impaired loans are classified in level 3 of the fair value hierarchy.

Collateral-dependent impaired loans for which the fair value is greater than the recorded investment are not measured at fair value in the Consolidated Statements of Financial Condition and are not included in this disclosure.

Other Real Estate Owned

OREO consists of properties acquired through foreclosure in partial or total satisfaction of certain loans. Upon initial transfer into OREO, properties are recorded at the lower of the recorded investment in the related loan(s) or the fair value, which represents the current appraised value of the properties, less estimated selling costs ranging from 0% - 6%. In certain circumstances, a current appraisal may not be available or the current appraised value may not represent an accurate measurement of the property’s fair value due to outdated market information or other factors. In these cases, the fair value is determined based on the lower of the (i) most recent appraised value, (ii) broker price opinion, (iii) current listing price, or (iv) signed sales contract. Given these valuation methods, OREO is classified in level 3 of the fair value hierarchy. Any write-downs of the carrying value of a property at the time of initial transfer into OREO are charged against the allowance for loan losses.

Subsequent to the initial transfer, periodic impairment analyses of OREO are performed, and new appraisals are obtained as necessary taking into consideration current real estate market trends and adjustments to listing prices. Any valuation adjustments of the properties subsequent to initial transfer, as well as gains or losses on disposition and income or expense from the operations of OREO, are recognized in the Company’s operating results in the period in which they occur.

Loans Held-for-Sale

During third quarter 2012, the Company identified certain performing and non-performing loans for accelerated disposition through wholesale loan transactions. The Company determined that the loans met the held-for-sale criteria and transferred them into the held-for-sale category at the lower of the recorded investment in the loan or the estimated fair value as determined by the estimated bid price of the potential sale.

As of December 31, 2011, loans held-for-sale consisted of one office loan and one other commercial real estate loan. The loans were transferred into the held-for-sale category at the sales contract price. Accordingly, the loans held-for-sale were classified in level 3 of the fair value hierarchy.

Assets Held-for-Sale

As of September 30, 2012, two properties were classified as held-for-sale. For one office property, the Company entered into a final sales agreement in third quarter 2012, resulting in a $1.3 million valuation adjustment charged to noninterest expense. In addition, a former branch was transferred to held-for-sale in September 2012. Prior to the transfer, the Company entered into a definitive sales agreement, which is expected to close during fourth quarter 2012. Since the fair value of both properties is based on the lower of carrying value or sales contract price, they are classified in level 3 of the fair value hierarchy.

Fair Value Adjustments Recorded for

Assets Measured at Fair Value on a Non-Recurring Basis

(Dollar amounts in thousands)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Charged to allowance for loan and covered loan losses:
Collateral-dependent impaired loans	$	43,414	$	26,137	$	79,828	$	62,406
Loans held-for-sale		80,260		1,596		82,647		1,796
Charged to earnings:
OREO		1,410		674		3,924		3,309
Assets held-for-sale		1,255		75		1,255		1,111

Goodwill and Other Intangible Assets

Goodwill and other intangible assets are subject to impairment testing, which requires a significant degree of management judgment and the use of significant unobservable inputs. Goodwill is tested at least annually for impairment or more often if events or circumstances between annual tests indicate that there may be impairment.

If the impairment testing results in impairment, the Company will classify goodwill and other intangible assets as a level 3 nonrecurring fair value measurement. Additional information regarding goodwill, other intangible assets, and impairment policies can be found in Note 1, “Summary of Significant Accounting Policies,” and Note 8, “Goodwill and Other Intangible Assets,” in the Company’s 2011 10-K.

Financial Instruments Not Required to be Measured at Fair Value

For certain financial instruments that are not required to be measured at fair value in the Consolidated Statements of Financial Condition, the Company must disclose the estimated fair values and the level within the fair value hierarchy as shown in the following table.

Financial Instruments Not Required to be Measured at Fair Value

(Dollar amounts in thousands)

	September 30, 2012								December 31, 2011
	Carrying Amount		Fair Value						Carrying Amount		Fair Value
	Carrying Amount		Level 1		Level 2		Level 3		Carrying Amount		Level 1		Level 2		Level 3
Assets:
Cash and due from banks	$	124,447	$	124,447	$	-	$	-	$	123,354	$	123,354	$	-	$	-
Interest-bearing deposits in other banks		393,927		-		393,927		-		518,176		-		518,176		-
Securities held-to-maturity:
Municipal securities		41,944		-		45,633		-		60,458		-		61,477		-
Loans, net of allowance for loan losses:
Commercial and industrial		1,610,169		-		-		1,614,183		1,458,446		-		-		1,460,972
Agricultural		259,787		-		-		258,274		243,776		-		-		243,035
Office, retail, and industrial		1,330,331		-		-		1,338,700		1,299,082		-		-		1,303,288
Multi-family		309,509		-		-		310,937		288,336		-		-		290,645
Residential construction		61,920		-		-		62,085		105,836		-		-		106,145
Commercial construction		136,509		-		-		136,791		144,909		-		-		145,305
Other commercial real estate		780,712		-		-		784,255		888,146		-		-		890,275
Home equity		397,506		-		-		385,692		416,194		-		-		394,404
1-4 family mortgages		292,908		-		-		305,045		201,099		-		-		206,115
Installment loans		38,994		-		-		39,423		42,289		-		-		43,030
Covered loans		216,610		-		-		247,593		260,502		-		-		288,021
Allowance for loan and covered loan losses		(102,445)		-		-		(102,445)		(119,462)		-		-		(119,462)
Loans, net of allowance for loan and covered loan losses		5,332,510		-		-		5,380,533		5,229,153		-		-		5,251,773
FDIC indemnification asset		47,191		-		-		28,113		65,609		-		-		37,173
Accrued interest receivable		30,688		-		-		30,688		29,826		-		-		29,826
Investment in BOLI		206,043		-		-		206,043		206,235		-		-		206,235
Liabilities:
Deposits
Demand deposits	$	1,773,928	$	-	$	1,773,928	$	-	$	1,593,773	$	-	$	1,593,773	$	-
Savings deposits		1,052,426		-		1,052,426		-		970,016		-		970,016		-
NOW accounts		1,148,612		-		1,148,612		-		1,057,887		-		1,057,887		-
Money market deposits		1,278,692		-		1,278,692		-		1,198,382		-		1,198,382		-
Time deposits		1,495,397		-		1,496,432		-		1,659,117		-		1,659,251		-
Total deposits		6,749,055		-		6,750,090		-		6,479,175		-		6,479,309		-
Borrowed funds		183,691		-		187,191		-		205,371		-		208,728		-
Senior and subordinated debt		231,171		235,738		-		-		252,153		237,393		-		-
Accrued interest payable		6,740		-		6,740		-		4,019		-		4,019		-
Standby letters of credit		697		-		697		-		668		-		668		-

Management uses various methodologies and assumptions as described below to determine the estimated fair values of the financial instruments in the table above. The fair value estimates are made at a discrete point in time based on relevant market information and consider management’s judgments regarding future expected economic conditions, loss experience, and specific risk characteristics of the financial instruments.

Short-Term Financial Assets and Liabilities - For financial instruments with a shorter-term or with no stated maturity, prevailing market rates, and limited credit risk, the carrying amounts approximate fair value. Those financial instruments include cash and due from banks, interest-bearing deposits in other banks, federal funds sold and other short-term investments, mortgages held-for-sale, accrued interest receivable, and accrued interest payable.

Securities Held-to-Maturity - The fair value of securities held-to-maturity is based on quoted market prices or dealer quotes. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities.

Loans, Net of Allowance for Loan Losses - The fair value of loans is estimated using the present value of the future cash flows of the remaining maturities of the loans. Prepayment assumptions that consider the Company’s historical experience and current economic and lending conditions were included. The discount rate was based on the LIBOR yield curve with adjustments for liquidity and credit risk.

Covered Loans - The fair value of the covered loan portfolio is determined by discounting the estimated cash flows at a market interest rate, which is derived from LIBOR swap rates over the life of these loans. The estimated cash flows are determined using the contractual terms of the covered loans, net of any projected credit losses. For valuation purposes, these loans are placed into groups with similar characteristics and risk factors, where appropriate. The timing and amount of credit losses for each group are estimated using historical default and loss experience, current collateral valuations, borrower credit scores, and internal risk ratings. For individually significant loans or credit relationships, the estimated fair value is determined by a specific loan level review utilizing appraised values for collateral and projections of the timing and amount of cash flows.

FDIC Indemnification Asset - The fair value of the FDIC indemnification asset is calculated by discounting the cash flows expected to be received from the FDIC. The future cash flows are estimated by multiplying expected losses on covered loans and covered OREO by the reimbursement rates set forth in the FDIC Agreements. Improvements in estimated cash flows on covered loans and covered OREO generally result in a corresponding decline in the indemnification asset, while reductions in expected reimbursements from the FDIC lead to an increase in the indemnification asset.

Investment in BOLI - The fair value of BOLI approximates the carrying amount as both are based on each policy’s respective cash surrender value (“CSV”), which is the amount the Company would receive upon liquidation of these investments. The CSV is derived from monthly reports provided by the managing brokers and is determined using the Company’s initial insurance premium and earnings of the underlying assets, offset by management fees.

Deposit Liabilities - The fair values disclosed for demand deposits, savings deposits, NOW accounts, and money market deposits are equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). The fair value for fixed-rate time deposits was estimated using the future cash flows discounted based on the LIBOR yield curve, plus or minus the spread associated with current pricing.

Borrowed Funds - The fair value of repurchase agreements and FHLB advances is estimated by discounting the agreements based on maturities using the rates currently offered for repurchase agreements of similar remaining maturities. The carrying amounts of federal funds purchased, federal term auction facilities, and other borrowed funds approximate their fair value due to their short-term nature.

Senior and Subordinated Debt - The fair value of senior and subordinated debt was determined using quoted market prices.

Standby Letters of Credit - The fair value of standby letters of credit represents deferred fees arising from the related off-balance sheet financial instruments. These deferred fees approximate the fair value of these instruments and are based on several factors, including the remaining terms of the agreement and the credit standing of the customer.

Commitments - The Company estimated the fair value of commitments outstanding to be immaterial based on the following factors: (i) the limited interest rate exposure posed by the commitments outstanding due to their variable nature, (ii) the general short-term nature of the commitment periods entered into, (iii) termination clauses provided in the agreements, and (iv) the market rate of fees charged.

13. SUBSEQUENT EVENT

On October 26, 2012, the Company entered into an agreement to sell $65.2 million of loans, which represents 71.8% of the total loans held-for-sale at September 30, 2012. The Company expects to complete the sale of the remainder of the loans held-for-sale during fourth quarter 2012.

On October 1, 2012, the Company repurchased and retired $4.3 million of 6.95% junior subordinated debentures at a premium of 3.0% and $12.0 million of 5.85% subordinated debentures at a premium of 5.0%. These transactions resulted in the recognition of a pre-tax loss of $814,000, which will be included in other noninterest income in the Condensed Consolidated Statement of Income.

On October 3, 2012, the Company entered into a $50 million forward committed advance with the FHLB to take advantage of the current low market rates for future funding. The advance has a prepayment feature which allows the Company to prepay at or below par plus accrued interest and a prepayment fee.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL

CONDITION AND RESULTS OF OPERATIONS

INTRODUCTION

The following discussion and analysis is intended to address the significant factors affecting our results of operations and financial condition for the quarters and nine-month periods ended September 30, 2012 and 2011. When we use the terms “First Midwest,” the “Company,” “we,” “us,” and “our,” we mean First Midwest Bancorp, Inc., a Delaware Corporation, and its consolidated subsidiaries. When we use the term “Bank,” we are referring to our wholly owned banking subsidiary, First Midwest Bank. For your reference, a glossary of certain terms is presented on page 3 of this Form 10-Q. Management’s discussion and analysis should be read in conjunction with the consolidated financial statements and accompanying notes presented elsewhere in this report, as well as in our 2011 Annual Report on Form 10-K (“2011 10-K”). Results of operations for the quarter and nine months ended September 30, 2012 are not necessarily indicative of future results.

Our banking network is located primarily in suburban metropolitan Chicago with additional locations in northwest Indiana, central and western Illinois, and eastern Iowa. We provide a full range of business and retail banking and wealth management services through approximately 100 banking offices. Our primary sources of revenue are net interest income and fees from financial services provided to our customers. Our largest expenses include interest expense, compensation expense, and various other noninterest expense items.

Our results of operations are affected by various factors, many of which are beyond our control, including interest rates, general economic conditions (nationally and in our service areas), business spending, consumer confidence, certain seasonal factors, legislative and regulatory changes, and changes in real estate and securities markets. Our management evaluates performance using a variety of qualitative and quantitative metrics. The primary quantitative metrics used by management include:

Pre-Tax, Pre-Provision Operating Earnings - Pre-tax, pre-provision operating earnings, a non-GAAP financial measure, reflects our operating performance before the effects of credit-related charges, securities gains, losses, and impairments, and certain unusual, infrequent, or non-recurring revenues and expenses. We believe this metric is useful because it helps investors to assess the Company’s operating performance. A reconciliation of pre-tax, pre-provision operating earnings to GAAP can be found in Table 1.

Net Interest Income - Net interest income, our primary source of revenue, equals the difference between interest income and fees earned on interest-earning assets and interest expense incurred on interest-bearing liabilities.

Net Interest Margin - Net interest margin equals net interest income divided by total average interest-earning assets.

Noninterest Income - Noninterest income is the income we earn from fee-based revenues, BOLI and other income, and non-operating revenues.

Asset Quality - Asset quality represents an estimation of the quality of our loan portfolio, including an assessment of the credit risk related to existing and potential loss exposure, and can be evaluated using a number of quantitative measures, such as non-performing loans to total loans.

Regulatory Capital - Our regulatory capital is classified in one of the following two tiers: (i) Tier 1 capital consists of common equity, retained earnings, qualifying non-cumulative perpetual preferred stock, and qualifying trust-preferred securities, less goodwill and most intangible assets and (ii) Tier 2 capital includes qualifying subordinated debt and the allowance for credit losses, subject to limitations.

Unless otherwise stated, all earnings per common share data included in this section and throughout the remainder of this discussion are presented on a diluted basis.

PERFORMANCE OVERVIEW

Table 1

Selected Financial Data

(Dollar and share amounts in thousands, except per share data)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
Operating Results
Interest income	$	75,584	$	80,175	$	226,370	$	242,754
Interest expense		(8,324)		(9,640)		(27,224)		(30,212)
Net interest income		67,260		70,535		199,146		212,542
Fee-based revenues		24,350		24,417		70,593		70,325
Other noninterest income		1,712		(275)		4,731		2,457
Noninterest expense, excluding certain non-operating noninterest expense items		(62,003)		(61,412)		(182,628)		(185,672)
Pre-tax, pre-provision operating earnings (1)		31,319		33,265		91,842		99,652
Provision for loan and covered loan losses		(111,791)		(20,425)		(152,459)		(58,680)
Net (losses) gains on securities sales		(217)		626		1,133		2,697
Securities impairment losses		-		(177)		(2,142)		(177)
Gain on FDIC-assisted transaction		3,289		-		3,289		-
Gain on early extinguishment of debt		-		-		256		-
Valuation adjustments of OREO		(1,410)		(674)		(3,924)		(3,309)
Net losses on sales of OREO		(615)		(1,937)		(931)		(4,952)
Valuation adjustments of assets held-for-sale		(1,255)		(75)		(1,255)		(1,111)
Accelerated accretion of FDIC indemnification asset		(4,000)		-		(4,000)		-
Severance-related costs		(840)		(78)		(1,155)		(269)
Income before income tax		(85,520)		10,525		(69,346)		33,851
Income tax benefit (expense)		36,993		(1,583)		35,076		(4,212)
Net (loss) income		(48,527)		8,942		(34,270)		29,639
Preferred dividends and accretion on preferred stock		-		(2,586)		-		(7,749)
Net loss (income) applicable to non-vested restricted shares		715		(93)		500		(330)
Net (loss) income applicable to common shares	$	(47,812)	$	6,263	$	(33,770)	$	21,560
Weighted average diluted shares outstanding		73,742		73,361		73,636		73,258
Diluted (loss) earnings per common share	$	(0.65)	$	0.09	$	(0.46)	$	0.29
Performance Ratios (2)
Return on average common equity		(19.36%)		2.60%		(4.62%)		3.06%
Return on average assets		(2.35%)		0.43%		(0.57%)		0.49%
Net interest margin – tax equivalent		3.83%		3.97%		3.86%		4.07%
Efficiency ratio		69.04%		60.57%		64.78%		61.25%

N/M – Not meaningful.

(1)

Our accounting and reporting policies conform to GAAP and general practice within the banking industry. As a supplement to GAAP, we provided this non-GAAP performance result, which we believe is useful because it assists investors in assessing our operating performance. Although it is intended to enhance investors’ understanding of our business and performance, this non-GAAP financial measure should not be considered an alternative to GAAP and may not be comparable to similar non-GAAP measures used by other companies.

(2)

All ratios are presented on an annualized basis.

	September 30, 2012		December 31, 2011		September 30, 2011		September 30, 2012 Change From
	September 30, 2012		December 31, 2011		September 30, 2011		December 31, 2011		September 30, 2011
Balance Sheet Highlights
Total assets	$	8,167,176	$	7,973,594	$	8,380,174	$	193,582	$	(212,998)
Total loans, excluding covered loans		5,218,345		5,088,113		5,104,494		130,232		113,851
Total loans, including covered loans		5,434,955		5,348,615		5,394,241		86,340		40,714
Total deposits		6,749,055		6,479,175		6,626,608		269,880		122,447
Transactional deposits		5,253,658		4,820,058		4,899,216		433,600		354,442
Loans, excluding covered loans, to deposits ratio		77.3%		78.5%		77.0%
Transactional deposits to total deposits		77.8%		74.4%		73.9%

	September 30, 2012		December 31, 2011		September 30, 2011		September 30, 2012 Change From
	September 30, 2012		December 31, 2011		September 30, 2011		December 31, 2011		September 30, 2011
Asset Quality Highlights (1)
Non-accrual loans	$	99,579	$	187,325	$	171,189	$	(87,746)	$	(71,610)
90 days or more past due loans (still accruing interest)		12,582		9,227		6,008		3,355		6,574
Total non-performing loans		112,161		196,552		177,197		(84,391)		(65,036)
TDRs (still accruing interest)		6,391		17,864		7,033		(11,473)		(642)
Other real estate owned		36,487		33,975		23,863		2,512		12,624
Total non-performing assets	$	155,039	$	248,391	$	208,093	$	(93,352)	$	(53,054)
30-89 days past due loans (still accruing interest)	$	20,088	$	27,495	$	34,061	$	(7,407)	$	(13,973)
Allowance for credit losses (2)	$	104,945	$	121,962	$	131,291	$	(17,017)	$	(26,346)
Allowance for credit losses as a percent of loans		1.83%		2.38%		2.55%
Allowance for credit losses to non-accrual loans		96%		65%		76%

(1)	Excludes covered loans and covered OREO. For a discussion of covered assets, which consist of covered loans, covered OREO, and the related FDIC indemnification asset, refer to Note 5 of “Notes to Condensed Consolidated Financial Statements” in Part I, Item 1 of this Form 10-Q. Asset quality, including covered loans and covered OREO, is included in the “Loan Portfolio and Credit Quality” section below.
(2)	The allowance for credit losses at September 30, 2012 includes an $8.4 million allowance for loan losses on purchased impaired covered loans and a $966,000 allowance on covered open-end consumer loans that are not categorized as purchased impaired loans.

The net loss applicable to common shareholders for third quarter 2012 was $47.8 million, or $0.65 per share, compared to net income applicable to common shareholders of $6.3 million, or $0.09 per share, for third quarter 2011. For the first nine months of 2012, the net loss was $34.3 million, with $33.8 million, or $0.46 per share, applicable to common shareholders compared to net income of $29.6 million and net income applicable to common shareholders of $21.6 million, or $0.29 per share, for the same period in 2011.

Pre-tax, pre-provision operating earnings of $31.3 million for third quarter 2012 decreased $1.9 million, or 5.8%, compared to third quarter 2011. Pre-tax, pre-provision operating earnings for the first nine months of 2012 decreased $7.8 million, or 7.8%, from the same period in 2011. The decline in pre-tax, pre-provision operating earnings from both periods presented is primarily attributed to a reduction in net interest income, reflecting lower yields earned on loans and investments, and lower periodic benefits received from bank owned life insurance contracts.

In fourth quarter 2011, we redeemed and retired $193.0 million of Series B preferred stock held by the United States Department of the Treasury (the “Treasury”) using a combination of existing liquid assets and proceeds from the completion

of a $115.0 million senior debt offering. This transaction replaced a $2.4 million quarterly preferred dividend with $1.8 million in quarterly interest expense on the new senior debt.

Non-performing assets, excluding covered loans and covered OREO, were $155.0 million at September 30, 2012, decreasing $93.4 million, or 37.6%, from December 31, 2011. The significant improvement in non-performing assets was driven by credit actions taken by management during third quarter 2012 to accelerate the disposition or remediation of certain non-performing assets and special mention and substandard performing loans in addition to ongoing remediation activities. During third quarter 2012, the Company transferred non-performing and performing loans totaling $171.1 million, net of $80.3 million of charge-offs, in anticipation of wholesale transactions expected to close in fourth quarter 2012. Refer to the “Loan Portfolio and Credit Quality” section below for further discussion of TDRs, 90 days past due loans, and OREO.

Acquisition

On August 3, 2012, the Company acquired substantially all the assets of Waukegan Savings in an FDIC-assisted transaction generating a pre-tax gain of $3.3 million. The $46.3 million of acquired loans are not subject to a loss sharing agreement with the FDIC. The transaction also included $72.7 million in deposits. Refer to Note 2 of “Notes to the Condensed Consolidated Financial Statements,” in Part I, Item 1 of this form 10-Q for additional discussion regarding the acquisition.

EARNINGS PERFORMANCE

Net Interest Income

Net interest income is our primary source of revenue and is impacted by interest rates and the volume and mix of interest-earning assets and interest-bearing liabilities. The accounting policies underlying the recognition of interest income on loans, securities, and other interest-earning assets are presented in Note 1 to the Consolidated Financial Statements of our 2011 10-K.

Our accounting and reporting policies conform to GAAP and general practice within the banking industry. For purposes of this discussion, both net interest income and net interest margin were adjusted to a fully tax-equivalent basis to more appropriately compare the returns on certain tax-exempt loans and securities to those on taxable interest-earning assets. Although we believe that these non-GAAP financial measures enhance investors’ understanding of our business and performance, they should not be considered an alternative to GAAP. The effect of this adjustment is at the bottom of Tables 2 and 3.

Table 2 summarizes our average interest-earning assets and interest-bearing liabilities for the quarters ended September 30, 2012 and 2011, the related interest income and interest expense for each earning asset category and funding source, and the average interest rates earned and paid. Table 2 also details differences in interest income and expense from the prior year and the extent to which any changes are attributable to volume and rate fluctuations. Table 3 presents this same information for the nine months ended September 30, 2012 and 2011.

Table 2

Net Interest Income and Margin Analysis

(Dollar amounts in thousands)

	Quarters Ended September 30,										Attribution of Change in Net Interest Income (1)
	2012					2011					Attribution of Change in Net Interest Income (1)
	Average Balance		Interest		Yield/ Rate (%)	Average Balance		Interest		Yield/ Rate (%)	Volume		Yield/ Rate			Total
Assets:
Federal funds sold and other short-term investments	$	435,528	$	265	0.24	$	741,782	$	463	0.25	$	(186)	$	(12)	$	(198)
Trading securities		15,389		25	0.65		16,248		23	0.57		(1)		3		2
Investment securities (2)		1,220,654		10,841	3.55		1,057,075		11,604	4.39		3,263		(4,026)		(763)
FHLB and Federal Reserve Bank stock		47,111		341	2.90		58,187		331	2.28		(23)		33		10
Loans, excluding covered loans (2)		5,353,911		64,289	4.78		5,136,130		64,509	4.98		8,084		(8,304)		(220)
Covered interest-earning assets (3)		276,180		3,223	4.64		387,635		6,640	6.80		(1,621)		(1,796)		(3,417)
Total loans		5,630,091		67,512	4.77		5,523,765		71,149	5.11		6,463		(10,100)		(3,637)
Total interest-earning assets (2)		7,348,773		78,984	4.28		7,397,057		83,570	4.49		9,516		(14,102)		(4,586)
Cash and due from banks		128,714					120,624
Allowance for loan losses		(118,925)					(143,443)
Other assets		868,551					855,542
Total assets	$	8,227,113				$	8,229,780
Liabilities and Stockholders’ Equity:
Savings deposits	$	1,048,430		260	0.10	$	940,151		386	0.16		51		(177)		(126)
NOW accounts		1,111,412		170	0.06		1,129,893		279	0.10		(5)		(104)		(109)
Money market deposits		1,234,833		468	0.15		1,236,546		696	0.22		(1)		(227)		(228)
Time deposits		1,498,993		3,228	0.86		1,731,413		5,293	1.21		(645)		(1,420)		(2,065)
Borrowed funds		189,835		507	1.06		262,001		706	1.07		(193)		(6)		(199)
Senior and subordinated debt		231,156		3,691	6.35		137,749		2,280	6.57		1,488		(77)		1,411
Total interest-bearing liabilities		5,314,659		8,324	0.62		5,437,753		9,640	0.70		695		(2,011)		(1,316)
Demand deposits		1,852,810					1,569,671
Other liabilities		77,062					73,808
Stockholders’ equity - common		982,582					955,548
Stockholders’ equity - preferred		-					193,000
Total liabilities and stockholders’ equity	$	8,227,113				$	8,229,780
Net interest income/margin (2)			$	70,660	3.83			$	73,930	3.97	$	8,821	$	(12,091)	$	(3,270)
Net interest income (GAAP)			$	67,260				$	70,535
Tax equivalent adjustment				3,400					3,395
Tax-equivalent net interest income			$	70,660				$	73,930

(1)	For purposes of this table, changes which are not due solely to volume changes or rate changes are allocated to these categories on the basis of the percentage relationship of each to the sum of the two.
(2)	Interest income and yields are presented on a tax-equivalent basis, assuming a federal income tax rate of 35%.
(3)	Covered interest-earning assets consist of loans acquired through FDIC-assisted transactions and the related FDIC indemnification asset. For additional discussion, please refer to Note 5 of “Notes to the Condensed Consolidated Financial Statements” in Part I, Item 1 of this Form 10-Q.

Table 3

Net Interest Income and Margin Analysis

(Dollar amounts in thousands)

	Nine Months Ended September 30,										Attribution of Change in Net Interest Income (1)
	2012					2011					Attribution of Change in Net Interest Income (1)
	Average Balance		Interest		Yield/ Rate (%)	Average Balance		Interest		Yield/ Rate (%)	Volume		Yield/ Rate			Total
Assets:
Federal funds sold and other short-term investments	$	439,104	$	798	0.24	$	592,995	$	1,096	0.25	$	(280)	$	(18)	$	(298)
Trading securities		15,355		87	0.76		15,961		76	0.63		(3)		14		11
Investment securities (2)		1,207,634		33,747	3.73		1,124,360		37,585	4.46		3,160		(6,998)		(3,838)
FHLB and Federal Reserve Bank stock		48,792		1,025	2.80		59,745		1,028	2.29		(230)		227		(3)
Loans, excluding covered loans (2)		5,219,539		188,831	4.83		5,106,955		191,331	5.01		4,214		(6,714)		(2,500)
Covered interest-earning assets (3)		297,219		11,898	5.35		417,120		22,117	7.09		(5,517)		(4,702)		(10,219)
Total loans		5,516,758		200,729	4.86		5,524,075		213,448	5.17		(1,303)		(11,416)		(12,719)
Total interest-earning assets (2)		7,227,643		236,386	4.37		7,317,136		253,233	4.63		1,344		(18,191)		(16,847)
Cash and due from banks		120,230					120,902
Allowance for loan losses		(121,762)					(146,512)
Other assets		873,704					874,242
Total assets	$	8,099,815				$	8,165,768
Liabilities and Stockholders’ Equity:
Savings deposits	$	1,028,900		812	0.11	$	928,862		1,347	0.19		165		(700)		(535)
NOW accounts		1,075,908		567	0.07		1,100,676		915	0.11		(21)		(327)		(348)
Money market deposits		1,198,756		1,454	0.16		1,227,559		2,345	0.26		(54)		(837)		(891)
Time deposits		1,556,234		11,484	0.99		1,826,732		16,687	1.22		(2,264)		(2,939)		(5,203)
Borrowed funds		196,415		1,512	1.03		270,037		2,073	1.03		(567)		6		(561)
Senior and subordinated debt		236,816		11,395	6.43		137,747		6,845	6.64		4,760		(210)		4,550
Total interest-bearing liabilities		5,293,029		27,224	0.69		5,491,613		30,212	0.74		2,019		(5,007)		(2,988)
Demand deposits		1,747,672					1,459,875
Other liabilities		82,424					78,973
Stockholders’ equity - common		976,690					942,307
Stockholders’ equity - preferred		-					193,000
Total liabilities and stockholders’ equity	$	8,099,815				$	8,165,768
Net interest income/margin (2)			$	209,162	3.86			$	223,021	4.07	$	(675)	$	(13,184)	$	(13,859)
Net interest income (GAAP)			$	199,146				$	212,542
Tax equivalent adjustment				10,016					10,479
Tax-equivalent net interest income			$	209,162				$	223,021

(1)	For purposes of this table, changes which are not due solely to volume changes or rate changes are allocated to these categories on the basis of the percentage relationship of each to the sum of the two.
(2)	Interest income and yields are presented on a tax-equivalent basis, assuming a federal income tax rate of 35%.
(3)	Covered interest-earning assets consist of loans acquired through FDIC-assisted transactions and the related FDIC indemnification asset. For additional discussion, please refer to Note 5 of “Notes to the Condensed Consolidated Financial Statements” in Part I, Item 1 of this Form 10-Q.

Average interest-earning assets for third quarter 2012 decreased $48.3 million from third quarter 2011 and $89.5 million for the first nine months of 2012 compared to the same periods in 2011. This reduction was driven primarily by a decline in federal funds sold and other short-term investments and covered interest-earning assets, which was offset by growth in the loan and investment securities portfolios.

For the third quarter and the first nine months of 2012, tax-equivalent net interest income decreased $3.3 million and $13.9 million, respectively, compared to the same periods in 2011, driven primarily by the expected run off of covered interest-earning assets and lower yields earned on the Company’s investment securities and loan portfolios, reflecting the declining market rate environment since September 2011.

The growth in average senior and subordinated debt for third quarter 2012 compared to third quarter 2011 reflects the issuance of $115.0 million in senior debt in fourth quarter 2011, which was used in combination with existing liquid assets to redeem the Series B preferred stock issued to the Treasury. Interest expense paid on the senior debt reduced net interest margin by ten basis points in third quarter 2012.

Tax-equivalent net interest margin for third quarter 2012 was 3.83%, a decline of 14 basis points from third quarter 2011, and 3.86% for the first nine months of 2012, a reduction of 21 basis points from the same period in 2011. The decline from both prior periods presented resulted primarily from the reinvestment of cash flows from normal maturities and increased prepayments to lower-yielding securities and the repricing of existing loans and issuance of new credit in a lower interest rate environment. In addition, the impact of the additional senior debt, which reduced net interest margin by ten basis points in third quarter 2012, contributed to the reduction. These declines in yield were partially mitigated by a significant shift from higher costing time deposits to lower interest-bearing and demand deposits.

Interest earned on covered loans is generally recognized through the accretion of the discount taken on expected future cash flows. The yield on covered interest-earning assets for the quarter and nine-month periods ended September 30, 2012 declined compared to the same periods in 2011, driven by a revision in estimated cash flows. In addition, the yield for the prior periods in 2011 benefited from certain one-time settlements of actual cash realized in excess of estimates.

Noninterest Income

A summary of noninterest income for the quarters and nine-month periods ended September 30, 2012 and 2011 is presented in the following table.

Table 4

Noninterest Income Analysis

(Dollar amounts in thousands)

	Quarters Ended September 30,					Nine Months Ended September 30,
	2012		2011		% Change	2012		2011		% Change
Service charges on deposit accounts	$	9,502	$	10,215	(7.0)	$	27,010	$	27,922	(3.3)
Wealth management fees		5,415		4,982	8.7		16,201		15,272	6.1
Other service charges, commissions, and fees		4,187		4,289	(2.4)		11,804		12,509	(5.6)
Card-based fees (1)		5,246		4,931	6.4		15,578		14,622	6.5
Total fee-based revenues		24,350		24,417	(0.3)		70,593		70,325	0.4
BOLI income (2)		300		1,479	(79.7)		952		1,990	(52.2)
Other income (3)		727		598	21.6		2,268		2,077	9.2
Total operating revenues		25,377		26,494	(4.2)		73,813		74,392	(0.8)
Net trading gains (losses) (4)		685		(2,352)	N/M		1,511		(1,610)	N/M
Net (losses) gains on securities sales (5)		(217)		626	N/M		1,133		2,697	N/M
Securities impairment losses (5)		-		(177)	N/M		(2,142)		(177)	N/M
Gain on FDIC-assisted transaction (6)		3,289		-	N/M		3,289		-	N/M
Gain on early extinguishment of debt (7)		-		-	-		256		-	N/M
Total noninterest income	$	29,134	$	24,591	18.5	$	77,860	$	75,302	3.4

N/M – Not meaningful.

(1)	Card-based fees consist of debit and credit card interchange fees charged for processing transactions as well as various fees charged on both customer and non-customer automated teller machine (“ATM”) and point-of-sale transactions processed through the ATM and point-of-sale networks.
(2)	BOLI income represents benefit payments received and the change in cash surrender value (“CSV”) of the policies, net of premiums paid.
(3)	Other income consists of various items, including safe deposit box rentals, miscellaneous recoveries, and gains on the sales of various assets.
(4)	Net trading gains (losses) result from changes in the fair value of trading securities. Our trading securities represent diversified investment securities held in a grantor trust under deferred compensation arrangements in which plan participants may direct amounts earned to be invested in securities other than Company stock. Net trading gains (losses) are substantially offset by an adjustment to salaries and wages expense.
(5)	For a discussion of these items, see the “Investment Portfolio Management” section below.
(6)	For a discussion of the gain on FDIC-assisted transaction, refer to Note 2 of “Notes to the Condensed Consolidated Financial Statements” in Item 1 of this Form 10-Q.
(7)	The gain on early extinguishment of debt relates to the repurchase and retirement of approximately $21 million in trust preferred junior subordinated debentures.

Total noninterest income increased 18.5% for third quarter 2012 and 3.4% for the first nine months of 2012 compared to the same periods in 2011, primarily from a $3.3 million gain recorded on the FDIC-assisted acquisition of Waukegan Savings and trading gains in the 2012 periods compared to trading losses in the 2011 periods.

For third quarter 2012, fee-based revenues declined slightly compared to third quarter 2011 as a result of lower service charges on deposit accounts, which was offset by a rise in wealth management and card-based fees. Fee-based revenues for the nine months ended 2012 were slightly higher than the same period in 2011 and reflected strong growth in wealth management and card-based fees, which offset declines in service charges on deposit accounts and other service charges, commissions, and fees.

Service charges on deposit accounts declined compared to both prior periods presented driven by lower non-sufficient funds (“NSF”) fees, which was partially offset by an increase in service charges on business checking accounts.

The rise in wealth management fees for third quarter and the first nine months of 2012 compared to the same periods in 2011 was driven by an increase in fees for assets under management and higher account and sales activity. Year-over-year, the increase was also impacted by a one-time court approved estate fee of $220,000.

The decrease in other service charges, commissions, and fees for the nine months ended September 30, 2012 from the same prior period presented resulted from lower processing volumes by certain larger merchants. There is a corresponding decline in merchant card expense in the table following this section.

Card-based fees increased 6.4% for third quarter 2012 compared to third quarter 2011 and 6.5% for the first nine months of 2012 compared to the same period in 2011 from growth in the number of outstanding cards from certain promotions during third quarter 2012.

During third quarter 2011, the Company received benefit settlements of $1.2 million, which attributed to the decrease in BOLI income for the quarter and nine months ended September 30, 2012.

The Company acquired certain loans and deposits of Waukegan Savings during third quarter 2012, which resulted in a $3.3 million gain. For a detailed discussion of the acquisition refer to Note 2 of “Notes to the Condensed Consolidated Financial Statements,” in Part 1, Item 1 of this Form 10-Q.

Noninterest Expense

The following table presents the components of noninterest expense for the quarters and nine months ended September 30, 2012 and 2011.

Table 5

Noninterest Expense Analysis

(Dollar amounts in thousands)

	Quarters Ended September 30,					Nine Months Ended September 30,
	2012		2011		% Change	2012		2011		% Change
Compensation expense:
Salaries and wages	$	26,064	$	25,659	1.6	$	76,209	$	75,969	0.3
Nonqualified plan expense (1)		817		(2,702)	N/M		1,781		(1,854)	N/M
Retirement and other employee benefits		6,230		6,225	0.1		18,737		19,439	(3.6)
Total compensation expense		33,111		29,182	13.5		96,727		93,554	3.4
Net OREO expense:
Valuation adjustments of OREO		1,410		674	N/M		3,924		3,309	18.6
Net losses on sales of OREO (2)		615		1,937	(68.2)		931		4,952	(81.2)
Net OREO operating expense (3)		1,183		1,563	(24.3)		4,341		5,067	(14.3)
Total OREO expense		3,208		4,174	(23.1)		9,196		13,328	(31.0)
Professional services:
Loan remediation costs		3,206		4,638	(30.9)		9,588		10,364	(7.5)
Other professional services		3,459		2,933	17.9		9,611		7,966	20.7
Total professional services		6,665		7,571	(12.0)		19,199		18,330	4.7
Net occupancy expense		5,864		5,944	(1.3)		17,369		18,409	(5.6)
Equipment expense		2,244		2,213	1.4		6,583		6,863	(4.1)
Technology and related costs		2,906		2,709	7.3		8,615		8,029	7.3
FDIC premiums		1,785		1,799	(0.8)		5,163		6,232	(17.2)
Advertising and promotions		1,427		2,502	(43.0)		3,329		4,959	(32.9)
Merchant card expense		2,272		2,315	(1.9)		6,392		6,794	(5.9)
Accelerated accretion of FDIC- indemnification asset		4,000		-	N/M		4,000		-	N/M
Valuation adjustments of assets held-for-sale		1,255		75	N/M		1,255		1,111	13.0
Other expenses		5,386		5,692	(5.4)		16,065		17,704	(9.3)
Total noninterest expense	$	70,123	$	64,176	9.3	$	193,893	$	195,313	(0.7)
Full-time equivalent employees		1,768		1,833	(3.5)		1,761		1,841	(4.3)
Efficiency ratio (4)		69.04%		60.57%			64.78%		61.25%

N/M – Not meaningful.

(1)	Nonqualified plan expense results from changes in the Company’s obligation to participants under deferred compensation agreements.
(2)	For a discussion of sales of OREO properties, refer to the “Non-performing assets” section below.
(3)	Net OREO operating expense consists of real estate taxes, commissions paid on sales, insurance, and maintenance, net of any rental income.
(4)	The efficiency ratio expresses noninterest expense, excluding OREO expense, as a percentage of tax-equivalent net interest income plus total fees and other income.

Total noninterest expense for third quarter 2012 increased (5.4)% from third quarter 2011. For the first nine months of 2012, noninterest expense decreased slightly from the same period in 2011.

Salaries and wages increased compared to both prior periods presented primarily from the accrual of certain severance benefits, annual merit increases and additional retail banking staff related to the Waukegan Savings acquisition.

The decrease in retirement and other employee benefits from the nine months ended September 30, 2011 was due to the timing of certain benefit accruals.

OREO expenses declined 23.1% for third quarter 2012 and 31.0% for the first nine months of 2012 compared to the same periods in 2011 from lower net losses recognized on sales and a reduction in net operating expenses, which were partly offset by large valuation adjustments related to one commercial property during third quarter 2012 and one raw land property in second quarter 2012.

Loan remediation costs decreased for the third quarter and nine months ended September 30, 2012 primarily from a decline in real estate taxes paid on collateral associated with performing potential problem loans.

Other professional services increased for both periods presented driven by higher personnel recruitment expense, the reclassification of certain director fees from salaries and wages expense during second quarter 2012, and other non-recurring items.

The decline in net occupancy expense from the first nine months of 2011 resulted from lower real estate taxes and maintenance expenses.

Additional network costs from the Waukegan Savings acquisition and a reclassification of telephone expenses previously classified in other expenses during first quarter 2012 contributed to the increase in technology and related costs from the quarter and nine months ended September 30, 2011.

Merchant card expense decreased from the first nine months of 2011 to the first nine months of 2012 primarily from lower transaction volumes on commercial accounts.

During third quarter 2012, the Company recorded $4.0 million of accelerated accretion of the FDIC indemnification asset, which reflects management’s periodic assessment of the amount and timing of future cash flows from covered loans.

Compared to third quarter 2011, the increase in valuation adjustments of assets held-for-sale resulted from a $1.3 million valuation adjustment on a single property based on a signed sales contract.

Income Taxes

Our provision for income taxes includes both federal and state income tax (benefit) expense. An analysis of the provision for income taxes is detailed in the following table.

Table 6

Income Tax (Benefit) Expense Analysis

(Dollar amounts in thousands)

	Quarters Ended September 30,				Nine Months Ended September 30,
	2012		2011		2012		2011
(Loss) income before income tax (benefit) expense	$	(85,520)	$	10,525	$	(69,346)	$	33,851
Income tax (benefit) expense:
Federal income tax (benefit) expense	$	(29,391)	$	804	$	(28,420)	$	3,281
State income tax (benefit) expense		(7,602)		779		(6,656)		931
Total income tax (benefit) expense	$	(36,993)	$	1,583	$	(35,076)	$	4,212
Effective income tax rate		43.3%		15.0%		50.6%		12.4%

Federal income tax (benefit) expense and the related effective income tax rate are primarily influenced by the amount of tax-exempt income derived from investment securities and bank-owned life insurance in relation to pre-tax (loss) income and state income taxes. State income tax (benefit) expense and the related effective tax rate are influenced by the amount of state tax-exempt income in relation to pre-tax (loss) income and state tax rules relating to consolidated/combined reporting and sourcing of income and expense.

FINANCIAL CONDITION

Investment Portfolio Management

Securities that we have the positive intent and ability to hold until maturity are classified as securities held-to-maturity and are accounted for using historical cost, adjusted for amortization of premiums and accretion of discounts. Trading securities are carried at fair value with changes in fair value included in other noninterest income. Our trading securities consist of securities held in a grantor trust for our nonqualified deferred compensation plan and are not considered part of the traditional investment portfolio. All other securities are classified as securities available-for-sale and are carried at fair value.

We manage our investment portfolio to maximize the return on invested funds within acceptable risk guidelines, to meet pledging and liquidity requirements, and to adjust balance sheet interest rate sensitivity to mitigate the impact of changes in interest rates on net interest income.

From time to time, we adjust the size and composition of our securities portfolio based on a number of factors, including expected loan growth, anticipated changes in collateralized public funds on account, the interest rate environment, and the related value of various segments of the securities markets. The following table provides a valuation summary of our investment portfolio.

Table 7

Investment Portfolio Valuation Summary

(Dollar amounts in thousands)

	September 30, 2012							December 31, 2011
	Fair Value		Net Unrealized (Losses) Gains		Amortized Cost		% of Total Amortized Cost	Fair Value		Net Unrealized (Losses) Gains		Amortized Cost		% of Total Amortized Cost
Available-for-Sale
U.S. agency securities	$	2,002	$	(1)	$	2,003	0.2	$	5,035	$	(25)	$	5,060	0.5
CMOs		513,432		2,190		511,242	41.6		384,104		276		383,828	35.7
Other MBSs		135,135		6,385		128,750	10.5		87,691		5,709		81,982	7.7
Municipal securities		503,315		28,854		474,461	38.7		490,071		25,789		464,282	43.2
CDOs		11,546		(35,087)		46,633	3.8		13,394		(35,365)		48,759	4.5
Corporate debt securities		15,312		2,304		13,008	1.0		30,014		2,503		27,511	2.6
Equity securities		10,840		1,314		9,526	0.8		2,697		508		2,189	0.2
Total available-for- sale		1,191,582		5,959		1,185,623	96.6		1,013,006		(605)		1,013,611	94.4
Held-to-Maturity
Municipal securities		45,633		3,689		41,944	3.4		61,477		1,019		60,458	5.6
Total securities	$	1,237,215	$	9,648	$	1,227,567	100.0	$	1,074,483	$	414	$	1,074,069	100.0

	September 30, 2012			December 31, 2011
	Effective Duration (1)	Average Life (2)	Yield to Maturity (3)	Effective Duration (1)	Average Life (2)	Yield to Maturity (3)
Available-for-Sale
U.S. agency securities	0.71%	0.28	4.86%	0.85%	0.53	4.01%
CMOs	1.96%	2.94	0.93%	0.92%	2.19	1.57%
Other MBSs	1.70%	3.55	2.76%	1.96%	3.91	4.50%
Municipal securities	3.21%	3.44	5.92%	3.84%	3.77	6.13%
CDOs	0.25%	8.41	0.00%	0.25%	8.57	0.00%
Other securities (4)	5.67%	8.26	3.68%	6.07%	10.29	6.45%
Total available-for-sale	2.41%	3.48	3.15%	2.45%	3.57	3.98%
Held-to-Maturity
Municipal securities	5.72%	8.66	5.94%	5.31%	9.33	5.91%
Total securities	2.52%	3.66	3.24%	2.61%	3.90	4.08%

(1)	The effective duration of the securities portfolio represents the estimated percentage change in the fair value of the securities portfolio given a 100 basis point increase or decrease in the level of interest rates. This measure is used as a gauge of the portfolio’s price volatility at a single point in time and is not intended to be a precise predictor of future fair values since those values will be influenced by a number of factors.
(2)	Average life is presented in years and represents the weighted-average time to receive all future cash flows using the dollar amount of principal paydowns, including estimated principal prepayments, as the weighting factor.
(3)	Yields on municipal securities are reflected on a tax-equivalent basis, assuming a federal income tax rate of 35%.
(4)	This includes corporate debt and equity securities.

Portfolio Composition

As of September 30, 2012, our securities portfolio totaled $1.2 billion, an increase of 15.1% compared to December 31, 2011 due primarily to an increase in CMOs and other MBSs. In first quarter 2012, deposits acquired in a fourth quarter 2011 transaction that had previously been held in short-term investments were redeployed into these types of securities. Approximately 97% of our $1.2 billion available-for-sale portfolio is comprised of U.S. agency securities, municipal securities, CMOs, and other MBSs as of September 30, 2012. The remainder of the portfolio is comprised of seven CDOs with a fair value of $11.5 million and miscellaneous other securities with a fair value of $26.2 million.

Investments in municipal securities comprised 42.2%, or $503.3 million, of the total available-for-sale securities portfolio at September 30, 2012 and increased 2.7% from $490.1 million at December 31, 2011. The majority consists of general obligations of local municipalities. Our municipal securities portfolio has historically experienced very low default rates and provided a predictable cash flow.

The average life and effective duration of our available-for-sale securities portfolio as of September 30, 2012 are relatively consistent with the December 31, 2011 metrics. The decrease in average life in other securities from December 31, 2011 was driven by the purchase of preferred stock during second quarter 2012, which was amortized over a two-year period based on the stock conversion date.

Securities Sales

Net securities losses were $217,000 for third quarter 2012 and $1.0 million for the nine months ended September 30, 2012. Net securities losses for the nine months ended September 30, 2012 included an OTTI charge of $2.1 million on two CDOs, a loss of $269,000 on Visa stock, and net gains of $1.4 million from the sale of $50.6 million in CMOs, municipal securities, and corporate bonds.

Net securities gains were $449,000 for third quarter 2011 and $2.5 million for the nine months ended September 30, 2011. Gains on sales of securities of $2.7 million for the nine months ended September 30, 2011 resulted from the sale of $177.5 million in collateralized mortgage obligations, municipal securities, and corporate debt securities. In addition, we recorded an OTTI charge of $177,000 on a single CDO in third quarter 2011.

Unrealized Gains and Losses

Unrealized gains and losses on securities available-for-sale represent the difference between the aggregate cost and fair value of the portfolio and are reported, on an after-tax basis, as a separate component of stockholders’ equity in accumulated other comprehensive loss and presented in the Consolidated Statements of Comprehensive Income. This balance sheet component will fluctuate as current market interest rates and conditions change and affect the aggregate fair value of the portfolio. Net unrealized gains at September 30, 2012 were $6.0 million compared to net unrealized losses of $605,000 at December 31, 2011.

CMOs and other MBSs are either backed by U.S. government-owned agencies or issued by U.S. government-sponsored enterprises. We do not believe any individual unrealized loss on these types of securities as of September 30, 2012 represents OTTI since the unrealized losses associated with these securities are not believed to be attributed to credit quality, but rather to changes in interest rates and temporary market movements.

As of September 30, 2012, gross unrealized gains in the available-for-sale municipal securities portfolio totaled $28.9 million, and gross unrealized losses were $47,000, resulting in a net unrealized gain of $28.9 million compared to a net unrealized gain of $25.8 million as of December 31, 2011. Substantially all of these securities carry investment grade ratings with the majority supported by the general revenues of the issuing governmental entity and supported by third-party bond insurance or other types of credit enhancement. We do not believe the unrealized loss on any of these securities represents an OTTI.

Our investments in CDOs are supported by the credit of the underlying banks and insurance companies. The unrealized loss on these securities declined $278,000 since December 31, 2011. The unrealized loss reflects the difference between amortized cost and fair value that we determined did not relate to credit and reflects the market’s unfavorable bias toward these investments. We do not believe the unrealized losses on the CDOs as of September 30, 2012 represent OTTI related to credit deterioration. In addition, we do not intend to sell the CDOs with unrealized losses, and we do not believe it is more likely than not that we will be required to sell them before recovery of their amortized cost bases, which may be at maturity. Our estimation of fair values for the CDOs was based on discounted cash flow analyses as described in Note 12 of “Notes to the Condensed Consolidated Financial Statements,” in Part I, Item 1 of this Form 10-Q.

LOAN PORTFOLIO AND CREDIT QUALITY

Accelerated Credit Remediation Actions

During third quarter 2012, the Company elected to adjust its existing remediation strategies for $223.4 million of non-performing and performing potential problem loans to more aggressively pursue their liquidation or recovery through restructuring, resulting in charge-offs of $99.1 million. These actions were undertaken after careful analysis of the potential costs and benefits, including an assessment of the impact of continuing the remediation process for these assets and the estimated timeframe for resolution.

Table 8

Aggregate Credit Remediation Actions

(Dollar amounts in thousands)

	Book Value Prior to Transfer or Action		Charge-offs		Adjusted Book Value		% of Book Value
Loan resolution activities:
Transferred to held-for-sale	$	171,052	$	80,260	$	90,792	53.1%
Modified disposition strategies		52,350		18,846		33,504	64.0%
Total	$	223,402	$	99,106	$	124,296	55.6%

Table 9

Summary of Impact of Aggregate Credit Actions by Loan Category

(Dollar amounts in thousands)

	Book Value Prior to Transfer or Action		Charge-offs		Adjusted Book Value
Commercial and industrial	$	68,564	$	26,512	$	42,052
Agricultural		8,719		4,356		4,363
Commercial real estate:
Office, retail, and industrial		55,793		25,499		30,294
Multi-family		7,607		2,157		5,450
Residential construction		19,324		8,914		10,410
Commercial construction		21,213		10,910		10,303
Other commercial real estate		40,689		19,895		20,794
Total commercial real estate		144,626		67,375		77,251
Total corporate loans		221,909		98,243		123,666
Home equity		1,333		773		560
1-4 family mortgages		160		90		70
Total consumer loans		1,493		863		630
Total loans, excluding covered loans	$	223,402	$	99,106	$	124,296

In connection with the preparation of the Company’s quarterly financial statements, $171.1 million of these loans was transferred to held-for-sale status in anticipation of disposition through wholesale loan transactions. Based on the elevated future performance risk and subsequent loss due to longer term prospects for credit improvement or resolution of remediation strategies, management identified certain non-performing and performing potential problem loans for transfer to held-for-sale, resulting in charge-offs of $80.3 million.

The remaining $52.4 million, or 23.4%, of these loans represented either non-performing loans that were resolved through foreclosure and the underlying collateral was transferred to OREO, or performing loans, which were transferred to non-accrual status to facilitate future restructuring.

Loans Held-for-Investment

Our loan portfolio is comprised of both corporate and consumer loans with corporate loans representing 86.1% of total loans, excluding covered loans, at September 30, 2012. Consistent with our emphasis on relationship banking, the majority of our loans are made to our multi-relationship customers.

Table 10

Loan Portfolio

(Dollar amounts in thousands)

	September 30, 2012		% of Total	December 31, 2011		% of Total	Annualized % Change
Commercial and industrial	$	1,610,169	30.9	$	1,458,446	28.7	13.9
Agricultural		259,787	5.0		243,776	4.8	8.8
Commercial real estate:
Office		484,215	9.3		444,368	8.7	12.0
Retail		356,093	6.8		334,034	6.6	8.8
Industrial		490,023	9.4		520,680	10.2	(7.9)
Multi-family		309,509	5.9		288,336	5.7	9.8
Residential construction		61,920	1.2		105,836	2.1	(55.3)
Commercial construction		136,509	2.6		144,909	2.8	(7.7)
Other commercial real estate		780,712	15.0		888,146	17.4	(16.1)
Total commercial real estate		2,618,981	50.2		2,726,309	53.5	(5.2)
Total corporate loans		4,488,937	86.1		4,428,531	87.0	1.8
Home equity		397,506	7.6		416,194	8.2	(6.0)
1-4 family mortgages		292,908	5.6		201,099	4.0	60.9
Installment loans		38,994	0.7		42,289	0.8	(10.4)
Total consumer loans		729,408	13.9		659,582	13.0	14.1
Total loans, excluding covered loans		5,218,345	100.0		5,088,113	100.0	3.4
Covered loans (1)		216,610			260,502		(22.5)
Total loans	$	5,434,955		$	5,348,615		2.2

(1)	For a detailed discussion of our covered loans and the related accounting policy for covered loans, refer to Notes 1 and 5 of “Notes to the Condensed Consolidated Financial Statements” in Part I, Item 1 of this Form 10-Q.

Total loans, excluding covered loans, of $5.2 billion as of September 30, 2012 grew by $130.2 million, a 3.4% annualized increase, from December 31, 2011. This annualized growth was led by 1-4 family mortgages (60.9%) and commercial and industrial loans (13.9%).

Compared to December 31, 2011, annualized growth in the commercial and industrial category benefited from refocusing sales staff to expand this portfolio during the first nine months of 2012, which more than offset the transfer of certain loans to held-for-sale. Annualized growth in 1-4 family mortgages resulted from loans acquired in the Waukegan Savings acquisition and actions taken to originate loans for sale during third quarter 2012.

The decrease in the residential and commercial construction portfolios were driven by accelerated credit remediation actions during third quarter 2012 and continued efforts to reduce lending exposure to these less favorable real estate categories during the first nine months of 2012.

Commercial, Industrial, and Agricultural Loans

Commercial, industrial, and agricultural loans represent 35.9% of loans, excluding covered loans, and totaled $1.9 billion at September 30, 2012, an increase of $167.7 million, or 9.9%, from December 31, 2011. Our commercial and industrial loans are a diverse group of loans to middle market businesses generally located in the Chicago metropolitan area with purposes that range from supporting seasonal working capital needs to term financing of equipment. The underwriting for these loans is primarily based on the identified cash flows of the borrower and secondarily on the underlying collateral provided by the borrower. Most commercial and industrial loans are secured by the assets being financed or other business assets, such as accounts receivable or inventory, and may incorporate a personal guarantee. Agricultural loans generally provide seasonal support and are secured by crop production, facilities and equipment.

Commercial Real Estate Loans

Commercial real estate loans represent 50.2% of total loans, excluding covered loans, and totaled $2.6 billion at September 30, 2012, a decrease of $107.3 million from December 31, 2011. A variety of properties serves as collateral for our commercial real estate loans, which subjects this portfolio to varying degrees of credit risk. Approximately half of our commercial real estate loans consist of loans for industrial buildings, office buildings, and retail shopping centers. Other types of commercial real estate loans include construction loans for single-family and multi-family dwellings, residential projects, and commercial projects and loans for various types of other commercial properties, such as land for future commercial development, multi-unit residential mortgages, warehouses and storage facilities, and service stations.

Included as part of our commercial real estate portfolio are loans secured by owner-occupied real estate, which tend to exhibit lower credit risk than non-owner-occupied properties. These loans are viewed primarily as cash flow loans (similar to commercial and industrial loans) and secondarily as loans secured by real estate, which is reflected in our underwriting standards. At September 30, 2012, owner-occupied commercial real estate loans were $1.0 billion, or 46.5%, of the commercial real estate portfolio, excluding multi-family and construction loans.

The following table presents commercial real estate loans by owner-occupied or investor status and product type.

Table 11

Commercial Real Estate Loans

(Dollar amounts in thousands)

	September 30, 2012						December 31, 2011
	Owner- Occupied		Investor		Total		Owner- Occupied		Investor		Total

Office, retail, and industrial:
Office	$	169,536	$	314,679	$	484,215	$	146,818	$	297,550	$	444,368
Retail		115,077		241,016		356,093		89,831		244,203		334,034
Industrial		267,927		222,096		490,023		298,887		221,793		520,680
Total office, retail, and industrial		552,540		777,791		1,330,331		535,536		763,546		1,299,082
Multi-family		-		309,509		309,509		-		288,336		288,336
Residential construction		-		61,920		61,920		-		105,836		105,836
Commercial construction		-		136,509		136,509		-		144,909		144,909
Other commercial real estate:
Rental properties (1)		29,637		89,110		118,747		31,417		95,668		127,085
Service stations and truck stops		96,810		19,063		115,873		102,870		26,061		128,931
Warehouses and storage		74,370		33,133		107,503		89,293		40,198		129,491
Hotels		130		70,012		70,142		-		73,889		73,889
Restaurants		63,915		16,260		80,175		59,460		19,407		78,867
Medical		15,955		823		16,778		19,808		1,051		20,859
Automobile dealers		38,010		5,777		43,787		31,588		4,189		35,777
Mobile home parks		-		27,909		27,909		-		30,071		30,071
Recreational		35,438		8,132		43,570		26,826		7,882		34,708
Religious		31,553		169		31,722		23,919		178		24,097
Multi-use properties		12,274		47,877		60,151		59,068		96,517		155,585
Other		31,213		33,142		64,355		8,802		39,984		48,786
Total other commercial real estate		429,305		351,407		780,712		453,051		435,095		888,146
Total commercial real estate	$	981,845	$	1,637,136	$	2,618,981	$	988,587	$	1,737,722	$	2,726,309
Commercial real estate loans, excluding multi-family and construction loans	$	981,845	$	1,129,198	$	2,111,043	$	988,587	$	1,198,641	$	2,187,228
Percent of total (2)		46.5%		53.5%				45.2%		54.8%

(1)	Owner-occupied rental properties primarily represent home-based businesses.
(2)	The percent reported does not include multi-family or construction loans since the owner-occupied classification is not relevant to these categories.

Non-performing Assets

The following table presents our loan portfolio by performing and non-performing status.

Table 12

Loan Portfolio by Performing/Non-Performing Status

(Dollar amounts in thousands)

					Past Due
	Total Loans		Performing		30-89 Days Past Due		90 Days Past Due		Non-accrual		TDRs (still accruing interest)
As of September 30, 2012
Commercial and industrial	$	1,610,169	$	1,571,998	$	4,012	$	2,885	$	31,102	$	172
Agricultural		259,787		258,210		373		-		1,204		-
Commercial real estate:
Office		484,215		479,308		1,067		-		3,840		-
Retail		356,093		344,558		619		439		10,477		-
Industrial		490,023		479,155		2,561		-		8,307		-
Multi-family		309,509		306,848		414		219		2,028		-
Residential construction		61,920		56,015		1,155		-		4,750		-
Commercial construction		136,509		128,389		86		3,611		4,423		-
Other commercial real estate		780,712		750,996		2,029		1,313		21,284		5,090
Total commercial real estate		2,618,981		2,545,269		7,931		5,582		55,109		5,090
Total corporate loans		4,488,937		4,375,477		12,316		8,467		87,415		5,262
Home equity		397,506		383,782		5,451		1,989		6,262		22
1-4 family mortgages		292,908		281,808		2,042		2,050		5,901		1,107
Installment loans		38,994		38,638		279		76		1		-
Total consumer loans		729,408		704,228		7,772		4,115		12,164		1,129
Total loans, excluding covered loans		5,218,345		5,079,705		20,088		12,582		99,579		6,391
Covered loans		216,610		156,443		9,241		34,554		16,372		-
Total loans	$	5,434,955	$	5,236,148	$	29,329	$	47,136	$	115,951	$	6,391
As of December 31, 2011
Commercial and industrial	$	1,458,446	$	1,397,569	$	10,283	$	4,991	$	44,152	$	1,451
Agricultural		243,776		242,727		30		-		1,019		-
Commercial real estate:
Office		444,368		436,881		-		-		7,487		-
Retail		334,034		326,922		395		52		4,923		1,742
Industrial		520,680		501,674		385		988		17,633		-
Multi-family		288,336		270,138		604		-		6,487		11,107
Residential construction		105,836		87,482		278		-		18,076		-
Commercial construction		144,909		121,562		-		-		23,347		-
Other commercial real estate		888,146		829,492		5,273		1,707		51,447		227
Total commercial real estate		2,726,309		2,574,151		6,935		2,747		129,400		13,076
Total corporate loans		4,428,531		4,214,447		17,248		7,738		174,571		14,527
Home equity		416,194		400,570		5,986		1,138		7,407		1,093
1-4 family mortgages		201,099		190,052		3,636		-		5,322		2,089
Installment loans		42,289		41,133		625		351		25		155
Total consumer loans		659,582		631,755		10,247		1,489		12,754		3,337
Total loans, excluding covered loans		5,088,113		4,846,202		27,495		9,227		187,325		17,864
Covered loans		260,502		193,044		4,232		43,347		19,879		-
Total loans	$	5,348,615	$	5,039,246	$	31,727	$	52,574	$	207,204	$	17,864

The following table provides a comparison of our non-performing assets and past due loans to prior periods.

Table 13

Non-Performing Assets and Past Due Loans

(Dollar amounts in thousands)

	2012						2011
	September 30		June 30		March 31		December 31		September 30
Non-performing assets, excluding covered loans and covered OREO
Non-accrual loans	$	99,579	$	198,508	$	199,545	$	187,325	$	171,189
90 days or more past due loans		12,582		8,192		7,674		9,227		6,008
Total non-performing loans		112,161		206,700		207,219		196,552		177,197
TDRs (still accruing interest)		6,391		7,811		2,076		17,864		7,033
Other real estate owned		36,487		28,309		35,276		33,975		23,863
Total non-performing assets	$	155,039	$	242,820	$	244,571	$	248,391	$	208,093
30-89 days past due loans	$	20,088	$	23,597	$	21,241	$	27,495	$	34,061
Non-accrual loans to total loans		1.91%		3.75%		3.88%		3.68%		3.35%
Non-performing loans to total loans		2.15%		3.90%		4.03%		3.86%		3.47%
Non-performing assets to loans plus OREO		2.95%		4.56%		4.73%		4.85%		4.06%
Covered loans and covered OREO (1)
Non-accrual loans	$	16,372	$	14,540	$	19,264	$	19,879	$	15,573
90 days or more past due loans		34,554		33,288		33,825		43,347		56,834
Total non-performing loans		50,926		47,828		53,089		63,226		72,407
TDRs (still accruing interest)		-		-		-		-		-
Other real estate owned		8,729		9,136		16,990		23,455		21,594
Total non-performing assets	$	59,655	$	56,964	$	70,079	$	86,681	$	94,001
30-89 days past due loans	$	9,241	$	7,593	$	8,387	$	4,232	$	11,070
Non-performing assets, including covered loans and covered OREO
Non-accrual loans	$	115,951	$	213,048	$	218,809	$	207,204	$	186,762
90 days or more past due loans		47,136		41,480		41,499		52,574		62,842
Total non-performing loans		163,087		254,528		260,308		259,778		249,604
TDRs (still accruing interest)		6,391		7,811		2,076		17,864		7,033
Other real estate owned		45,216		37,445		52,266		57,430		45,457
Total non-performing assets	$	214,694	$	299,784	$	314,650	$	335,072	$	302,094
30-89 days past due loans	$	29,329	$	31,190	$	29,628	$	31,727	$	45,131
Non-accrual loans to total loans		2.13%		3.85%		4.06%		3.87%		3.46%
Non-performing loans to total loans		3.00%		4.60%		4.83%		4.86%		4.63%
Non-performing assets to loans plus OREO		3.92%		5.39%		5.78%		6.20%		5.55%

(1)	For a discussion of covered loans and covered OREO, refer to Note 5 of “Notes to the Condensed Consolidated Financial Statements” in Part I, Item 1 of this Form 10-Q. Past due covered loans are based on contractual terms, but continue to perform in accordance with our expectations of cash flows.

Non-performing assets, excluding covered loans and covered OREO, were $155.0 million at September 30, 2012, decreasing $93.4 million, or 37.6%, from December 31, 2011. The significant improvement in non-performing assets was driven primarily by a decline in non-accrual loans from accelerated credit remediation actions during third quarter 2012 in addition to a reduction in TDRs, offset by increases in OREO and 90 day past due loans from the Waukegan Savings acquisition.

Non-performing covered loans and covered OREO were recorded at their estimated fair values at the time of acquisition. These assets are covered by FDIC Agreements that substantially mitigate the risk of loss. Past due covered loans in the table

above are past due based on contractual terms, but continue to perform in accordance with our expectations of cash flows and, therefore, are generally considered accruing loans. However, the timing and amount of future cash flows for some loans may not be reasonably estimable. Those loans were classified as non-accrual loans, and interest income will not be recognized until the timing and amount of the future cash flows can be reasonably estimated.

Non-accrual Loans

At September 30, 2012, non-accrual loans, excluding covered loans, totaled $99.6 million, decreasing from $187.3 million, or 46.8%, from December 31, 2011. Improvement in non-accrual loans resulted primarily from the reclassification of $63.5 million in carrying value of certain non-accrual loans to held-for-sale during third quarter 2012 and ongoing credit remediation activities, transfers to OREO, and payments, which more than offset the amount of loans downgraded from performing to non-accrual status. A discussion of our accounting policies for non-accrual loans can be found in Note 1 of “Notes to the Condensed Consolidated Financial Statements” in Part 1, Item 1 of this Form 10-Q.

90-Days or More Past Due Loans

Loans that are 90 days or more past due increased $3.4 million from December 31, 2011 to $12.6 million at September 30, 2012 primarily from certain loans with evidence of credit deterioration from the Waukegan Savings acquisition. Excluding Waukegan Savings loans, loans 90 days or more past due were $10.3 million at September 30, 2012, a $1.1 million increase compared to December 31, 2011. Refer to Note 1 of “Notes to the Condensed Consolidated Financial Statements” in Part I, Item 1 of this Form 10-Q for a discussion of our accounting policies on 90 day past due loans.

TDRs

Loan modifications may be performed at the request of the individual borrower or as a proactive credit remediation alternative. TDRs may include forgiveness of principal, reduction in interest rates, changes in payments, and maturity date extensions. A discussion of our accounting policies for TDRs is located in Note 1 of “Notes to the Condensed Consolidated Financial Statements” in Part I, Item 1 of this Form 10-Q.

Table 14

TDRs by Type

(Dollar amounts in thousands)

	September 30, 2012			June 30, 2012			December 31, 2011			September 30, 2011
	Number of Loans	Amount		Number of Loans	Amount		Number of Loans	Amount		Number of Loans	Amount
Commercial and industrial	12	$	2,999	15	$	1,555	20	$	2,348	21	$	2,534
Commercial real estate:
Office	-		-	-		-	-		-	-		-
Retail	-		-	1		220	2		1,742	2		1,750
Industrial	2		2,407	1		620	-		-	-		-
Multi-family	1		150	8		1,758	9		12,865	1		446
Residential	-		-	-		-	-		-	2		1,973
Commercial construction	-		-	1		14,006	1		14,006	-		-
Other commercial real estate	7		10,797	11		11,908	9		11,644	9		11,412
Total commercial real estate loans	10		13,354	22		28,512	21		40,257	14		15,581
Total corporate loans	22		16,353	37		30,067	41		42,605	35		18,115
Home equity loans	6		259	7		416	25		1,564	24		1,788
1-4 family mortgages	18		2,166	18		2,189	26		3,382	27		3,253
Installment loans	-		-	-		-	1		155	-		-
Total consumer loans	24		2,425	25		2,605	52		5,101	51		5,041
Total TDRs	46	$	18,778	62	$	32,672	93	$	47,706	86	$	23,156
TDRs, still accruing interest	15	$	6,391	18	$	7,811	57	$	17,864	59	$	7,033
TDRs, included in non-accrual	31		12,387	44		24,861	36		29,842	27		16,123
Total TDRs	46	$	18,778	62	$	32,672	93	$	47,706	86	$	23,156
Year-to-date charge-offs on TDRs		$	9,674		$	822		$	8,890		$	1,552
Valuation allowance related to TDRs		$	3,035		$	1,156		$	94		$	-

At September 30, 2012, we had TDRs totaling $18.8 million, a decrease of $28.9 million from December 31, 2011. The September 30, 2012 total includes $6.4 million in loans that were restructured at market terms and are accruing interest compared to $17.9 million as of December 31, 2011. During the first nine months of 2012, we returned $16.6 million in accruing TDRs, which were restructured at market rates and terms, to performing status since they exhibited a sufficient period of performance under the restructured terms.

We have other TDRs totaling $12.4 million as of September 30, 2012, which are classified as non-accrual because there has not yet been sufficient performance under the modified terms or they are not performing in accordance with their modified terms. In addition, we occasionally restructure loans at other than market rates or terms to enable the borrower to work through financial difficulties for a set period of time, and these TDRs are also reported in non-accrual figures.

OREO

OREO consists of properties acquired as the result of borrower defaults on loans. OREO, excluding covered OREO, was $36.5 million at September 30, 2012 compared to $34.0 million at December 31, 2011 and $23.9 million at September 30, 2011. The increase in OREO from December 31, 2011 was driven primarily by the transfer of $33.4 million of loans to OREO and $1.6 million in OREO acquired as part of the Waukegan Savings acquisition, partially offset by OREO sales and valuation adjustments.

Table 15

OREO Properties by Type

(Dollar amounts in thousands)

	September 30, 2012			December 31, 2011			September 30, 2011
	Number of Properties	Amount		Number of Properties	Amount		Number of Properties	Amount
Single family homes	22	$	3,267	5	$	985	3	$	763
Land parcels:
Raw land	5		3,244	8		8,316	7		6,088
Farmland	1		207	-		-	-		-
Commercial lots	21		12,157	19		5,944	15		6,423
Single-family lots	33		5,619	25		7,677	21		5,409
Total land parcels	60		21,227	52		21,937	43		17,920
Multi-family units	7		811	4		3,083	2		572
Commercial properties	23		11,182	16		7,970	16		4,608
Total OREO, excluding covered OREO	112		36,487	77		33,975	64		23,863
Covered OREO	49		8,729	46		23,455	44		21,594
Total OREO properties	161	$	45,216	123	$	57,430	108	$	45,457

Table 16

Disposals of OREO Properties

(Dollar amounts in thousands)

	Quarter Ended September 30, 2012						Nine Months Ended September 30, 2012
	OREO		Covered OREO		Total		OREO		Covered OREO		Total
OREO sales
Proceeds from sales	$	2,185	$	2,211	$	4,396	$	23,656	$	18,723	$	42,379
Less: Basis of properties sold		(2,801)		(2,210)		(5,011)		(24,713)		(18,597)		(43,310)
Net (losses) gains on sales of OREO	$	(616)	$	1	$	(615)	$	(1,057)	$	126	$	(931)
OREO transfers and valuation adjustments
OREO valuation adjustments	$	1,330	$	80	$	1,410	$	3,713	$	211	$	3,924

For the quarter ended September 30, 2012, we sold $2.8 million of OREO, excluding covered OREO, with proceeds at approximately 78% of carrying value. These sales consisted of 34 properties with the majority classified as residential lots and commercial units. We also recorded valuation adjustments of $1.3 million related to updated appraisals and changes in remediation strategies to accelerate disposition.

For the nine months ended September 30, 2011, OREO sales, excluding covered OREO, consisted of 96 properties, primarily from the farmland, residential lots, and 1-4 family categories.

Construction Portfolio

Construction loans totaled $198.4 million at September 30, 2012, a reduction of $52.3 million, or 20.9%, from December 31, 2011. This portfolio represents loans to developers and home builders and is particularly susceptible to declining real estate values. Non-performing construction loans totaled $12.8 million at September 30, 2012, which is 69.1% lower than the level at December 31, 2011. The decline in construction loans was driven by credit remediation actions during third quarter 2012 and continued efforts to reduce lending exposure to this less favorable real estate category during the first nine months of 2012.

The following table provides details on the types of collateral supporting these construction portfolios.

Table 17

Construction Loans by Underlying Collateral, Excluding Covered Loans

(Dollar amounts in thousands)

	Residential Construction			Commercial Construction			Combined
	Amount		Percent of Total	Amount		Percent of Total	Amount		Percent of Total
As of September 30, 2012
Raw land	$	9,641	15.6	$	29,781	21.8	$	39,422	19.9
Developed land		32,824	53.0		41,700	30.5		74,524	37.6
Construction		9,164	14.8		12,653	9.3		21,817	11.0
Substantially completed structures		9,885	16.0		44,392	32.5		54,277	27.3
Mixed and other		406	0.6		7,983	5.9		8,389	4.2
Total	$	61,920	100.0	$	136,509	100.0	$	198,429	100.0
Weighted-average maturity (in years)		0.72			0.93			0.86
Non-performing loans	$	4,750		$	8,034		$	12,784
Non-performing loans as a percent of total loans		7.7%			5.9%			6.4%
As of December 31, 2011
Raw land	$	24,981	23.6	$	42,768	29.5	$	67,749	27.0
Developed land		55,501	52.4		57,949	40.0		113,450	45.3
Construction		12,133	11.5		14,415	9.9		26,548	10.6
Substantially completed structures		12,195	11.5		27,221	18.8		39,416	15.7
Mixed and other		1,026	1.0		2,556	1.8		3,582	1.4
Total	$	105,836	100.0	$	144,909	100.0	$	250,745	100.0
Weighted-average maturity (in years)		0.63			0.74			0.69
Non-performing loans	$	18,076		$	23,347		$	41,423
Non-performing loans as a percent of total loans		17.1%			16.1%			16.5%

Four credits primarily classified in the raw and developed land categories represent approximately 70% of the $12.8 million in non-performing construction loans as of September 30, 2012, with the largest single loan totaling $3.6 million. Life-to-date charge-offs on these four credits totaled $7.1 million.

Credit Quality Indicators

Corporate loans and commitments are assigned ratings based on a risk assessment and other various characteristics and are categorized as pass, special mention, substandard, and non-accrual loans. Special mention and substandard loans continue to accrue interest and are performing in accordance with contractual terms, but management has concerns about the ability of the obligor to continue to comply with contractual terms because of the obligor’s potential operating or financial difficulties. On a quarterly basis, consumer loans are assessed for credit quality based on the accrual status of the loan.

Table 18

Asset Quality Indicators by Category

(Dollar amounts in thousands)

	Performing Loans
	Pass		Special Mention		Substandard		Total		Non-accrual Loans		Total Loans
September 30, 2012
Commercial and industrial	$	1,534,695	$	39,966	$	4,406	$	1,579,067	$	31,102	$	1,610,169
Agricultural		256,772		1,811		-		258,583		1,204		259,787
Commercial real estate:
Office, retail, and industrial		1,232,427		58,325		16,955		1,307,707		22,624		1,330,331
Multi-family		305,827		1,654		-		307,481		2,028		309,509
Residential construction		34,954		13,867		8,349		57,170		4,750		61,920
Commercial construction		106,726		14,318		11,042		132,086		4,423		136,509
Other commercial real estate		714,296		14,725		30,407		759,428		21,284		780,712
Total commercial real estate		2,394,230		102,889		66,753		2,563,872		55,109		2,618,981
Total corporate loans		4,185,697		144,666		71,159		4,401,522		87,415		4,488,937
Consumer loans		717,244		-		-		717,244		12,164		729,408
Total loans	$	4,902,941	$	144,666	$	71,159	$	5,118,766	$	99,579	$	5,218,345
December 31, 2011
Commercial and industrial	$	1,308,812	$	57,866	$	47,616	$	1,414,294	$	44,152	$	1,458,446
Agricultural		232,270		10,487		-		242,757		1,019		243,776
Commercial real estate:
Office, retail, and industrial		1,147,026		78,578		43,435		1,269,039		30,043		1,299,082
Multi-family		275,031		5,803		1,015		281,849		6,487		288,336
Residential construction		48,806		27,198		11,756		87,760		18,076		105,836
Commercial construction		92,568		23,587		5,407		121,562		23,347		144,909
Other commercial real estate		746,213		73,058		17,428		836,699		51,447		888,146
Total commercial real estate		2,309,644		208,224		79,041		2,596,909		129,400		2,726,309
Total corporate loans		3,850,726		276,577		126,657		4,253,960		174,571		4,428,531
Consumer loans		646,828		-		-		646,828		12,754		659,582
Total loans	$	4,497,554	$	276,577	$	126,657	$	4,900,788	$	187,325	$	5,088,113
Changes from:
December 31, 2011		9.0%		(47.7%)		(43.8%)		4.4%		(46.8%)		2.6%
September 30, 2011		10.5%		(58.0%)		(52.7%)		3.8%		(41.8%)		2.2%

Special mention and substandard loans decreased $187.4 million, or 46.5%, from December 31, 2011 and $279.0 million, or 56.4%, from September 30, 2011, primarily from the transfer of $98.1 million in carrying value to held-for-sale during third quarter 2012, as well as ongoing remediation activities. Based on the longer term prospects for credit improvement or resolution of remediation strategies, management identified certain non-performing and performing potential problem loans for transfer to held-for-sale since they were subject to elevated future performance risk.

As of September 30, 2012, special mention and substandard loans totaled $215.8 million, with approximately 55% representing 11 commercial borrowers and the remainder comprising 139 smaller balance relationships. For loans classified as non-accrual, 38.7% represent five commercial relationships. Management continues to actively work with these individual borrowers to promote improvement in the underlying credit relationship or timely liquidation.

Allowance for Credit Losses

The allowance for credit losses is comprised of the allowance for loan losses, the allowance for covered loan losses, and the reserve for unfunded commitments and is maintained by management at a level believed adequate to absorb estimated losses inherent in the existing loan portfolio. Determination of the allowance for credit losses is inherently subjective since it requires significant estimates and management judgment, including the amounts and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans, consideration of current economic trends, and other factors.

While management utilizes its best judgment and information available, the ultimate adequacy of the allowance for credit losses depends on a variety of factors beyond the Company’s control, including the performance of its loan portfolio, the economy, changes in interest rates and property values, and the interpretation of loan risk classifications by regulatory authorities. Management believes that the allowance for credit losses is an appropriate estimate of credit losses inherent in the loan portfolio as of September 30, 2012.

The accounting policies underlying the establishment and maintenance of the allowance for credit losses are discussed in Note 1 of “Notes to the Condensed Consolidated Financial Statements” in Part I, Item 1 of this Form 10-Q.

Table 19

Allowance for Credit Losses

and Summary of Loan Loss Experience

(Dollar amounts in thousands)

	Quarters Ended
	2012						2011
	September 30		June 30		March 31		December 31		September 30
Change in allowance for credit losses:
Balance at beginning of quarter	$	118,682	$	118,764	$	121,962	$	131,291	$	139,831
Loan charge-offs:
Commercial and industrial		(40,571)		(6,405)		(8,170)		(9,451)		(10,761)
Agricultural		(4,531)		(18)		(20)		(484)		(177)
Office, retail, and industrial		(32,324)		(2,570)		(2,667)		(3,798)		(2,549)
Multi-family		(2,758)		(344)		(140)		(5,139)		(2,244)
Residential construction		(9,368)		(3,598)		(683)		(2,498)		(2,314)
Commercial construction		(11,037)		(2,616)		(170)		(1,673)		(4,197)
Other commercial real estate		(23,047)		(2,952)		(8,184)		(3,021)		(4,490)
Consumer		(2,470)		(2,489)		(2,152)		(2,311)		(1,909)
1-4 family mortgages		(572)		(255)		(226)		(199)		(333)
Total loan charge-offs		(126,678)		(21,247)		(22,412)		(28,574)		(28,974)
Recoveries on previous loan charge-offs:
Commercial and industrial		1,318		535		646		541		596
Agricultural		-		-		70		-		-
Office, retail, and industrial		2		307		2		19		6
Multi-family		3		31		131		336		74
Residential construction		126		-		220		-		64
Commercial construction		-		-		-		-		82
Other commercial real estate		21		18		7		19		69
Consumer		119		245		186		112		129
1-4 family mortgages		3		5		16		3		13
Total recoveries on previous loan charge-offs		1,592		1,141		1,278		1,030		1,033
Net loan charge-offs, excluding covered loans		(125,086)		(20,106)		(21,134)		(27,544)		(27,941)
Net covered loan charge-offs		(442)		(2,434)		(274)		(3,687)		(1,024)
Net loan charge-offs		(125,528)		(22,540)		(21,408)		(31,231)		(28,965)
Provision charged to operating expense:
Provision, excluding provision for covered loans		102,934		20,035		17,932		18,249		18,378
Provision for covered loans		9,212		10,215		1,387		16,139		5,271
Less: expected reimbursement from the FDIC		(355)		(7,792)		(1,109)		(12,486)		(3,224)
Net provision for covered loans		8,857		2,423		278		3,653		2,047
Total provision charged to operating expense		111,791		22,458		18,210		21,902		20,425
Balance at end of quarter	$	104,945	$	118,682	$	118,764	$	121,962	$	131,291
Allowance for loan losses, excluding covered loans	$	93,048	$	115,200	$	115,271	$	118,473	$	127,768
Allowance for covered loans		9,397		982		993		989		1,023
Total allowance for loan losses		102,445		116,182		116,264		119,462		128,791
Reserve for unfunded commitments		2,500		2,500		2,500		2,500		2,500
Total allowance for credit losses	$	104,945	$	118,682	$	118,764	$	121,962	$	131,291

	Quarters Ended
	2012						2011
	September 30		June 30		March 31		December 31		September 30
Average loans (1)	$	5,353,911	$	5,213,944	$	5,089,286	$	5,085,792	$	5,136,130
Net loan charge-offs to average loans, annualized (1)		9.29%		1.55%		1.67%		2.15%		2.16%
Allowance for credit losses at end of period as a percent of :
Total loans (1)		1.83%		2.22%		2.29%		2.38%		2.55%
Non-accrual loans (1)		96%		59%		59%		65%		76%
Non-performing loans (1)		85%		57%		57%		62%		74%
Average loans, including covered loans	$	5,575,406	$	5,454,295	$	5,345,074	$	5,365,286	$	5,440,354
Net loan charge-offs to average loans, annualized		8.96%		1.66%		1.61%		2.31%		2.11%
Allowance for credit losses at end of period as a percent of :
Total loans		1.93%		2.15%		2.20%		2.28%		2.43%
Non-accrual loans		91%		56%		54%		59%		70%
Non-performing loans		64%		47%		46%		47%		53%

(1)	Excludes covered loans.

The allowance for credit losses was $104.9 million as of September 30, 2012, declining $17.0 million, or 14.0%, from $122.0 million as of December 31, 2011. The allowance for credit losses represented 1.93% of total loans at September 30, 2012 compared to 2.28% at December 31, 2011. During third quarter 2012, the Company recorded an allowance on covered purchased impaired loans of $8.4 million, which was driven by declines in estimated future cash flows on the covered loan portfolio.

Net loan charge-offs, excluding covered charge-offs, and the provision for loan and covered loan losses increased during third quarter 2012 compared to the prior periods presented as a result of accelerated credit remediation actions taken by management for select credits during third quarter 2012, which resulted in charge-offs of $99.1 million. In addition to these actions, the Company recorded net charge-offs of $26.4 million, nearly 70% of which reflects the estimated losses attributed to a single commercial borrower currently in the process of bankruptcy.

Charge-offs related to covered loans primarily reflect the decline in estimated future cash flows of certain loans, net of the reimbursement from the FDIC under the FDIC Agreements. Management re-estimates cash flows periodically, and the present value of any decreases in expected cash flows, net of reimbursement from the FDIC, is recorded as either a charge-off in that period or an allowance for loan losses is established. Any increases in expected cash flows, net of loss share, are recorded through prospective yield adjustments over the remaining lives of the specific loans. To date, cumulative increases in expected cash flows exceeded cumulative declines.

FUNDING AND LIQUIDITY MANAGEMENT

The following table provides a comparison of average funding sources for the quarters ended September 30, 2012, December 31, 2011, and September 30, 2011. We believe that average balances, rather than period-end balances, are more meaningful in analyzing funding sources because of the inherent fluctuations that may occur on a monthly basis within most funding categories.

Table 20

Funding Sources – Average Balances

(Dollar amounts in thousands)

	Quarters Ended						Third Quarter 2012 % Change From
	September 30, 2012		December 31, 2011		September 30, 2011		Fourth Quarter 2011	Third Quarter 2011
Demand deposits	$	1,852,810	$	1,613,221	$	1,569,671	14.9	18.0
Savings deposits		1,048,430		952,962		940,151	10.0	11.5
NOW accounts		1,111,412		1,062,993		1,129,893	4.6	(1.6)
Money market accounts		1,234,833		1,237,600		1,236,546	(0.2)	(0.1)
Transactional deposits		5,247,485		4,866,776		4,876,261	7.8	7.6
Time deposits		1,470,041		1,669,348		1,713,081	(11.9)	(14.2)
Brokered deposits		28,952		19,647		18,332	47.4	57.9
Total time deposits		1,498,993		1,688,995		1,731,413	(11.2)	(13.4)
Total deposits		6,746,478		6,555,771		6,607,674	2.9	2.1
Repurchase agreements		74,570		87,893		110,153	(15.2)	(32.3)
FHLB advances		115,265		164,946		151,848	(30.1)	(24.1)
Total borrowed funds		189,835		252,839		262,001	(24.9)	(27.5)
Senior and subordinated debt		231,156		187,488		137,749	23.3	67.8
Total funding sources	$	7,167,469	$	6,996,098	$	7,007,424	2.4	2.3
Average interest rate paid on borrowed funds		1.06%		1.05%		1.07%
Weighted-average maturity of FHLB advances		23.2 months		19.3 months		8.8 months
Weighted-average interest rate of FHLB advances		1.68%		2.13%		0.92%

Average funding sources for third quarter 2012 increased $171.4 million from fourth quarter 2011 and $160.0 million from third quarter 2011. Growth in average demand deposits from both prior periods presented offset a decline in higher costing time deposits and borrowed funds, which resulted in a more favorable funding mix.

The growth in average senior and subordinated debt for third quarter 2012 compared to both prior periods presented reflects the issuance of $115.0 million in senior debt in fourth quarter 2011, which was used, in combination with existing liquid assets, to fund the redemption of the Series B preferred stock issued to the Treasury.

Table 21

Borrowed Funds

(Dollar amounts in thousands)

	September 30, 2012			September 30, 2011
	Amount		Weighted- Average Rate (%)	Amount		Weighted- Average Rate (%)
At period-end:
Securities sold under agreements to repurchase	$	69,103	0.01	$	83,929	0.02
FHLB advances		114,588	1.68		302,500	0.92
Total borrowed funds	$	183,691	1.05	$	386,429	0.72
Average for the year-to-date period:
Securities sold under agreements to repurchase	$	82,987	0.01	$	126,896	0.02
Federal funds purchased		-	-		806	0.17
FHLB advances		113,428	1.74		142,335	1.93
Total borrowed funds	$	196,415	1.03	$	270,037	1.03
Maximum amount outstanding at the end of any day during the period:
Securities sold under agreements to repurchase	$	103,591		$	174,810
Federal funds purchased		-			175,000
FHLB advances		114,593			302,500
Federal term auction facilities		-			1

Securities sold under repurchase agreements declined from September 30, 2011 to September 30, 2012 as certain municipal customers shifted balances into demand deposits, which are insured by the FDIC.

Average borrowed funds totaled $196.4 million for the first nine months of 2012, decreasing $73.6 million, or 27.3%, from the same period in 2011. The increase in core transactional deposits during this period reduced our reliance on these higher-costing funds.

Securities sold under agreements to repurchase, federal funds purchased, and term auction facilities generally mature within 1 to 90 days from the transaction date.

MANAGEMENT OF CAPITAL

Capital

A strong capital structure is crucial in maintaining investor confidence, accessing capital markets, and enabling us to take advantage of future profitable growth opportunities. Our capital policy requires that the Company and the Bank maintain capital ratios in excess of the minimum regulatory guidelines. It serves as an internal discipline in analyzing business risks and internal growth opportunities and sets targeted levels of return on equity. Under regulatory capital adequacy guidelines, the Company and the Bank are subject to various capital requirements set and administered by the federal banking agencies. These requirements specify minimum capital ratios, defined as Tier 1 and total capital as a percentage of assets and off-balance sheet items that were weighted according to broad risk categories and a leverage ratio calculated as Tier 1 capital as a percentage of adjusted average assets. We manage our capital ratios for both the Company and the Bank to consistently maintain such measurements in excess of the Federal Reserve’s minimum levels considered to be “well-capitalized,” which is the highest capital category established.

The following table presents our consolidated measures of capital as of the dates presented and the capital guidelines established by the Federal Reserve to be categorized as “well-capitalized.” All regulatory mandated ratios for characterization as “well-capitalized” were exceeded as of September 30, 2012 and December 31, 2011.

All other ratios presented in the table below are capital adequacy metrics used and relied on by investors and industry analysts; however, they are non-GAAP financial measures for SEC purposes. These non-GAAP measures are valuable indicators of a financial institution’s capital strength since they eliminate intangible assets from stockholders’ equity and retain the effect of accumulated other comprehensive loss in stockholders’ equity. Reconciliations of the components of those ratios to GAAP are also presented in the table below.

Table 22

Capital Measurements

(Dollar amounts in thousands)

	September 30, 2012		December 31, 2011		Regulatory Minimum For “Well- Capitalized”	Excess Over Required Minimums at September 30, 2012
Reconciliation of capital components to regulatory requirements:
Total regulatory capital, as defined in federal regulations	$	749,935	$	853,961
Tier 1 capital, as defined in federal regulations	$	638,833	$	724,863
Trust preferred securities included in Tier 1 capital		(64,265)		(84,730)
Tier 1 common capital	$	574,568	$	640,133
Risk-weighted assets, as defined in federal regulations	$	6,437,263	$	6,241,191
Average assets, as defined in federal regulations		7,854,202		7,813,637
Regulatory capital ratios:
Total capital to risk-weighted assets		11.65%		13.68%	10.00%	16%	$	106,209
Tier 1 capital to risk-weighted assets		9.92%		11.61%	6.00%	65%	$	252,597
Tier 1 common capital to risk-weighted assets (1)		8.93%		10.26%	N/A(2)	N/A(2)		N/A(2)
Tier 1 leverage to average assets		8.13%		9.28%	5.00%	63%	$	246,123
Reconciliation of capital components to GAAP:
Total stockholder’s equity	$	933,435	$	962,587
Goodwill and other intangible assets		(281,914)		(283,650)
Tangible common equity		651,521		678,937
Accumulated other comprehensive loss		9,248		13,276
Tangible common equity, excluding accumulated other comprehensive loss	$	660,769	$	692,213
Total assets	$	8,167,176	$	7,973,594
Goodwill and other intangible assets		(281,914)		(283,650)
Tangible assets	$	7,885,262	$	7,689,944
Tangible common equity ratios:
Tangible common equity to tangible assets		8.26%		8.83%	N/A(2)	N/A(2)		N/A(2)
Tangible common equity, excluding other accumulated comprehensive loss, to tangible assets		8.38%		9.00%	N/A(2)	N/A(2)		N/A(2)
Tangible common equity to risk-weighted assets		10.12%		10.88%	N/A(2)	N/A(2)		N/A(2)

(1)	Excludes the impact of trust-preferred securities.
(2)	Ratio is not subject to formal Federal Reserve regulatory guidance.

The decline in capital ratios from December 31, 2011 resulted from a $65.6 million decrease in Tier 1 capital, which was driven by the net loss of $34.3 million for the nine months ended September 30, 2012 and a reduction in trust preferred junior subordinated debentures (“TRUPs”) included in Tier 1 capital.

In first quarter 2012, we repurchased and retired approximately $21 million of 6.95% TRUPs out of a total $87.4 million at a discount of 2.25%. This transaction resulted in the recognition of a pre-tax gain of $256,000. Although the TRUPs were included as a component of Tier 1 capital, we elected to retire them given the low interest rate environment.

The Board of Directors reviews the Company’s capital plan each quarter, considering the current and expected operating environment as well as an evaluation of various capital alternatives.

Proposed Capital Rules

In June 2012, the Office of the Comptroller of the Currency, the Federal Reserve, and the FDIC published two notices of proposed rulemaking (the “2012 Capital Proposals”) that would substantially revise the risk-based capital requirements applicable to bank holding companies and depository institutions compared to the current U.S. risk-based capital rules. The proposed rules, which would impact both the Company and the Bank, are based on the international capital accords of the Basel Committee on Banking Supervision (the “Basel Committee”) generally referred to as “Basel I.” One of the 2012 Capital Proposals (the “Basel III Proposal”) outlines the components of capital and other issues affecting the numerator in regulatory capital ratios. The other proposal (the “Standardized Approach Proposal”) describes risk weights and other issues affecting the denominator in regulatory capital ratios, replacing the current risk weighting approach with a more risk-sensitive approach. The 2012 Capital Proposals would also implement the requirements of Section 939A of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) to remove references to credit ratings from the federal banking agencies’ rules. As proposed, the international implementation schedule for the Basel III Proposal is January 1, 2013, which is subject to a phase-in period, and the schedule for the Standardized Approach Proposal is January 1, 2015, with an option for early adoption.

The federal banking agencies have not proposed rules implementing the final liquidity framework of Basel III and have not determined to what extent they will apply to U.S. banks that are not large, internationally active banks.

Basel III Proposal

The Basel III Proposal is generally consistent with the final Basel III capital framework, as described in our Annual Report on Form 10-K under “Item 1. Business - Supervision and Regulation.”

For bank holding companies, the Basel III Proposal additionally requires the phase-out of certain hybrid securities, such as trust preferred securities, as Tier 1 capital beginning in 2013 through 2016, consistent with Section 171 of the Dodd-Frank Act.

With respect to the Bank, the Basel III Proposal would also revise the “prompt corrective action” regulations pursuant to Section 38 of the Federal Deposit Insurance Act by:

·	Introducing a Common Equity Tier 1 (“CET1”) ratio requirement at each level (other than critically undercapitalized) with a required CET1 ratio of 6.5% for well-capitalized status.

·	Increasing the minimum Tier 1 capital ratio requirement for each category with an 8% minimum Tier 1 capital ratio for well-capitalized status (compared to the current 6%).

·	Eliminating the current provision allowing a bank with a composite supervisory rating of 1 to have a 3% leverage ratio and still be well capitalized.

Standardized Approach Proposal

The mandatory Standardized Approach Proposal would substitute non-ratings-based alternatives for Basel II’s heavy reliance on credit ratings to facilitate compliance with the Dodd-Frank Act. This proposal would expand the risk-weighting categories from the current Basel I-derived categories (0%, 20%, 50% and 100%) to a larger, more risk-sensitive number of categories, generally ranging from 0% for U.S. government and agency securities to 600% for certain equity exposures. These provisions are expected to result in higher risk weights for a variety of asset categories. Proposed risk-weighting provisions include the following:

·	Applying a 150% risk weight compared to a 100% risk-weight for certain high volatility commercial real estate acquisition, development and construction loans.

For residential mortgage exposures, the current approach of a 50% risk-weight for high-quality seasoned mortgages and a 100% risk-weight for all other mortgages is replaced with a risk-weight ranging from 35% to 200% depending upon the loan-to-value ratio and whether the mortgage is a “category 1” or “category 2” residential mortgage exposure (based on eight criteria that include the term, use of negative amortization, balloon payments and certain rate increases).

·	Assigning a 150% risk-weight to exposures (other than residential mortgage exposures) that are 90 days or more past due.

·	Providing for a 20% credit conversion factor for the unused portion of a commitment with an original maturity of one year or less that is not unconditionally cancellable (currently set at 0%).

In addition, the Standardized Approach Proposal provides more advantageous risk weights for derivatives and repurchase-style transactions cleared with a qualifying central counterparty and increases the scope of eligible guarantors and eligible collateral for purposes of credit risk mitigation.

As of September 30, 2012, management believes that the Company and the Bank would meet all capital adequacy requirements under the Basel III and Standardized Approach Proposals on a fully phased-in basis if such requirements were currently effective. There can be no guarantee that the Basel III and the Standardized Approach Proposals will be adopted in their current form, what changes may be made before adoption, or when ultimate adoption will occur.

CRITICAL ACCOUNTING POLICIES

Our consolidated financial statements are prepared in accordance with GAAP and are consistent with predominant practices in the financial services industry. Critical accounting policies are those policies that management believes are the most important to our financial position and results of operations. Application of critical accounting policies requires management to make estimates, assumptions, and judgments based on information available as of the date of the financial statements that affect the amounts reported in the financial statements and accompanying notes. Future changes in information may affect these estimates, assumptions, and judgments, which, in turn, may affect amounts reported in the financial statements.

We have numerous accounting policies, of which the most significant are presented in Note 1, ��Summary of Significant Accounting Policies,” to the Consolidated Financial Statements of our 2011 10-K. These policies, along with the disclosures presented in “Notes to the Condensed Consolidated Financial Statements” in Part I, Item 1 of this Form 10-Q, provide information on how significant assets and liabilities are valued in the financial statements and how those values are determined. Based on the valuation techniques used and the sensitivity of financial statement amounts to the methods, assumptions, and estimates underlying those amounts, management determined that our accounting policies with respect to the allowance for credit losses, evaluation of impairment of securities, and income taxes are the accounting areas requiring subjective or complex judgments that are most important to our financial position and results of operations, and, therefore, are considered to be critical accounting policies, as discussed in our 2011 10-K.

ITEM 3. QUANTITATIVE AND QUALITATIVE

DISCLOSURES ABOUT MARKET RISK

Market risk is the risk of loss arising from adverse changes in the fair value of financial instruments due to changes in interest rates, exchange rates, and equity prices. Interest rate risk is our primary market risk and is the result of repricing, basis, and option risk. A description and analysis of our interest rate risk management policies is included in Part II, Item 7A, “Quantitative and Qualitative Disclosures about Market Risk,” in our 2011 10-K.

We seek to achieve consistent growth in net interest income and net income while managing volatility that arises from shifts in interest rates. The Bank’s Asset and Liability Committee (“ALCO”) oversees financial risk management by developing programs to measure and manage interest rate risks within authorized limits set by the Bank’s Board of Directors. ALCO also approves the Bank’s asset and liability management policies, oversees the formulation and implementation of strategies to improve balance sheet positioning and earnings, and reviews the Bank’s interest rate sensitivity position. Management uses net interest income and economic value of equity simulation modeling tools to analyze and capture short-term and long-term interest rate exposures.

Net Interest Income Sensitivity

The analysis of net interest income sensitivities assesses the magnitude of changes in net interest income resulting from changes in interest rates over a 12-month horizon using multiple rate scenarios. These scenarios include, but are not limited to, a most likely forecast, a flat or unchanged rate environment, a gradual increase and decrease of 200 basis points that occur in equal steps over a nine-month time horizon, and immediate increases and decreases of 200 and 300 basis points.

This simulation analysis is based on actual cash flows and repricing characteristics for balance sheet and off-balance sheet instruments and incorporates market-based assumptions regarding the effect of changing interest rates on the prepayment

rates of certain assets and liabilities. This simulation analysis includes management’s projections for activity levels in each of the product lines we offer. The analysis also incorporates assumptions based on the historical behavior of deposit rates and balances in relation to interest rates. Because these assumptions are inherently uncertain, the simulation analysis cannot definitively measure net interest income or predict the impact of the fluctuation in interest rates on net interest income. Actual results may differ from simulated results due to timing, magnitude, and frequency of interest rate changes as well as changes in market conditions and management strategies.

We monitor and manage interest rate risk within approved policy limits. Our current interest rate risk policy limits are determined by measuring the change in net interest income over a 12-month horizon.

Analysis of Net Interest Income Sensitivity

(Dollar amounts in thousands)

	Gradual Change in Rates (1)				Immediate Change in Rates
	-200		+200		-200		+200		-300 (2)		+300
September 30, 2012:
Dollar change	$	(9,372)	$	11,197	$	(11,618)	$	15,645	$	N/M	$	28,176
Percent change		-3.6%		+4.3%		-4.5%		+6.1%		N/M		+10.9%
December 31, 2011:
Dollar change	$	(8,457)	$	13,392	$	(13,983)	$	19,209	$	N/M	$	36,576
Percent change		-3.1%		+4.9%		-5.2%		+7.1%		N/M		+13.5%

(1)	Reflects an assumed uniform change in interest rates across all terms that occurs in equal steps over a nine-month horizon.
(2)	N/M – Due to the low level of interest rates as of September 30, 2012 and December 31, 2011, management deemed an assumed 300 basis point drop in interest rates not meaningful.

Overall, in rising and declining interest rate scenarios, interest rate risk volatility is stable at September 30, 2012 compared to December 31, 2011 given a gradual change in interest rates. In first quarter 2012, deposits acquired in a fourth quarter 2011 transaction that had previously been held in short-term investments were redeployed into securities, specifically CMOs and other MBSs. This reinvestment, combined with loan growth, drove the change in interest rate sensitivity from December 31, 2011 to September 30, 2012.

Economic Value of Equity

In addition to the simulation analysis, management uses an economic value of equity sensitivity technique to understand the risk in both shorter-term and longer-term positions and to study the impact of longer-term cash flows on earnings and capital. In determining the economic value of equity, we discount present values of expected cash flows on all assets, liabilities, and off-balance sheet contracts under different interest rate scenarios. The discounted present value of all cash flows represents our economic value of equity. Economic value of equity does not represent the true fair value of asset, liability, or derivative positions because certain factors are not considered, such as credit risk, liquidity risk, and the impact of future changes to the balance sheet.

Analysis of Economic Value of Equity

(Dollar amounts in thousands)

	Immediate Change in Rates
	-200		+200		-300 (1)		+300
September 30, 2012:
Dollar change	$	(82,871)	$	124,780	$	N/M	$	170,472
Percent change		-7.0%		+10.6%		N/M		+14.5%
December 31, 2011:
Dollar change	$	(168,853)	$	148,369 ++	$	N/M	$	221,525
Percent change		-13.3%		+11.7%		N/M		+17.4%

(1)	N/M- Due to the low level of interest rates as of September 30, 2012 and December 31, 2011, management deemed an assumed 300 basis point drop in interest rates not meaningful.

As of September 30, 2012, the estimated sensitivity of the economic value of equity to changes in rising interest rates is less positive compared to December 31, 2011, and the estimated sensitivity to falling rates is less negative compared to December 31, 2011. The change from December 31, 2011 is due to the investment of interest-bearing cash into securities and loan growth described in the previous section. In addition, during first quarter 2012, approximately $21 million of TRUPS were redeemed and retired. The decrease in these long-term liabilities reduced exposure to rising rates.

ITEM 4. CONTROLS AND PROCEDURES

At the end of the period covered by this report, (the “Evaluation Date”), the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s President and Chief Executive Officer and its Executive Vice President and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rules 13a-15(e) and 15d-15 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Based on that evaluation, the President and Chief Executive Officer and Executive Vice President and Chief Financial Officer concluded that as of the Evaluation Date, the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in Securities and Exchange Commission rules and forms. There were no changes in the Company’s internal control over financial reporting during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

The nature of the business of the Bank and the Company’s other subsidiaries ordinarily results in a certain amount of claims, litigation, investigations, and legal and administrative cases and proceedings, that are considered incidental to the normal conduct of business. In managing such matters, management considers the merits and feasibility of all options and strategies available to the Company, including litigation prosecution, arbitration, insurance coverage, and settlement. Generally, if the Company determines it has meritorious defenses to a matter, it vigorously defends itself.

In August 2011, the Bank was named in a purported class action lawsuit filed in the Circuit Court of Cook County, Illinois on behalf of certain of the Bank’s customers who incurred overdraft fees. The complaint has been amended several times. The most recent amendment to this complaint was filed on October 1, 2012 by the plaintiffs. The Bank filed a motion to dismiss this new complaint. The lawsuit is based on the Bank’s practices pursuant to debit card transactions, and alleges that various practices resulted in customers being unfairly assessed overdraft fees. The lawsuit seeks an unspecified amount of damages and other relief, including restitution. The Company believes that the complaint contains significant inaccuracies and factual misstatements and that the Bank has meritorious defenses. As a result, the Bank intends to vigorously defend itself against the allegations in the lawsuit.

ITEM 1A. RISK FACTORS

The Company provided a discussion of certain risks and uncertainties faced by the Company in its Annual Report on Form 10-K for the year ended December 31, 2011. However, these factors may not be the only risks or uncertainties the Company faces.

Based on currently available information, the Company has not identified any additional material changes in the Company’s risk factors as previously disclosed, except as discussed above.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

The following table summarizes the Company’s monthly common stock purchases during third quarter 2012. The Board approved a stock repurchase program on November 27, 2007. Up to 2.5 million shares of the Company’s common stock may be repurchased, and the total remaining authorization under the program was 2,494,747 shares as of December 31, 2011. The repurchase program has no set expiration or termination date.

Issuer Purchases of Equity Securities

(Number of shares in thousands)

	Total Number of Shares Purchased (1)	Average Price Paid per Share		Total Number of Shares Purchased as Part of a Publicly Announced Plan or Program	Maximum Number of Shares that May Yet Be Purchased Under the Plan or Program
July1 – July 31, 2012	-	$	-	-	2,494,747
August 1 – August 31, 2012	1,196		11.24	-	2,494,747
September 1 – September 30, 2012	698		12.67	-	2,494,747
Total	1,894	$	11.77	-

(1)

Consists of shares acquired pursuant to the Company’s share-based compensation plans and not the Company’s repurchase program approved by its Board on November 27, 2007. Under the terms of these plans, the Company accepts shares of common stock from option holders if they elect to surrender previously owned shares upon exercise to cover the exercise price of the stock options or, in the case of restricted shares of common stock, the withholding of shares to satisfy tax withholding obligations associated with the vesting of restricted shares.

ITEM 6. EXHIBITS

Exhibit Number	Description of Documents
3.1	Restated Certificate of Incorporation of First Midwest Bancorp, Inc. is herein incorporated by reference to Exhibit 3.1 to the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission on February 27, 2009.
3.2	Restated By-laws of First Midwest Bancorp, Inc. is herein incorporated by reference to Exhibit 3.2 to the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission on February 28, 2012.
11	Statement re: Computation of Per Share Earnings - The computation of basic and diluted earnings per common share is included in Note 8 of the Company’s Notes to the Condensed Consolidated Financial Statements included in “ITEM 1. FINANCIAL STATEMENTS” of this document.
15	Acknowledgment of Independent Registered Public Accounting Firm.
31.1	Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2	Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 (1)	Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 (1)	Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99	Report of Independent Registered Public Accounting Firm.
101	Interactive Data File.

(1)	Furnished, not filed.

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.

First Midwest Bancorp, Inc.

/s/ PAUL F. CLEMENS

Paul F. Clemens

Executive Vice Presendent, Chief Financial Officer,

and Principal Accounting Officer*

Date: November 9, 2012

* Duly authorized to sign on behalf of the registrant.

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First Midwest Bancorp (ONBPP) 10-Q2012 Q3 Quarterly report

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