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BANK OF HAWAII CORP - Annual Report: 2015 (Form 10-K)

Table of Contents


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
 
 
 
 x
 
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
 
 
 
For the fiscal year ended December 31, 2015
 
 
 
 OR
 
 o
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
 THE SECURITIES EXCHANGE ACT OF 1934
 
 
 
for the transition period from _________ to __________
 
Commission File Number 1-6887
BANK OF HAWAII CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 
(State of incorporation)
 
99-0148992 
(I.R.S. Employer Identification No.)
130 Merchant Street, Honolulu, Hawaii 
(Address of principal executive offices)
 
96813 
(Zip Code)
1-888-643-3888
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
 
Name of Each Exchange on Which Registered
Common Stock, $.01 Par Value
 
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes x    No o
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes o    No x
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 o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes x    No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (Section 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.    o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer x
 
Accelerated filer o
Non-accelerated filer o (Do not check if a smaller reporting company)
 
Smaller reporting company o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
Yes o    No x
The aggregate market value of the registrant's outstanding voting common stock held by non-affiliates on June 30, 2015 (the last business day of the registrant's most recently completed second fiscal quarter), determined using the per share closing price on that date on the New York Stock Exchange of $66.68, was approximately $2,840,055,498. There was no non-voting common equity of the registrant outstanding on that date.
As of February 17, 2016, there were 43,104,770 shares of common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement relating to the 2016 Annual Meeting of Shareholders to be held on April 29, 2016, are incorporated by reference into Part III of this Report.
   

Table of Contents


Bank of Hawaii Corporation
2015 Form 10-K Annual Report
Table of Contents
 
 
Item Number
 
 
 
Page
 
 
 
 
 
 
 
Part I
 
Item 1.
 
 
 
 
Item 1A.
 
 
 
 
Item 1B.
 
 
 
 
Item 2.
 
 
 
 
Item 3.
 
 
 
 
Item 4.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Part II
 
Item 5.
 
 
 
 
Item 6.
 
 
 
 
Item 7.
 
 
 
 
Item 7A.
 
 
 
 
Item 8.
 
 
 
 
Item 9.
 
 
 
 
Item 9A.
 
 
 
 
Item 9B.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Part III
 
Item 10.
 
 
 
 
Item 11.
 
 
 
 
Item 12.
 
 
 
 
Item 13.
 
 
 
 
Item 14.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Part IV
 
Item 15.
 
 
Signatures
 
 
 
 
 


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Part I
Item 1.  Business
 
General
 
Bank of Hawaii Corporation (the "Parent") is a Delaware corporation and a bank holding company ("BHC") headquartered in Honolulu, Hawaii. The Parent's principal operating subsidiary, Bank of Hawaii (the "Bank"), was organized on December 17, 1897 and is chartered by the State of Hawaii. The Bank's deposits are insured by the Federal Deposit Insurance Corporation (the "FDIC") and the Bank is a member of the Federal Reserve System.

The Bank, directly and through its subsidiaries, provides a broad range of financial products and services primarily to customers in Hawaii, Guam, and other Pacific Islands. References to "we," "our," "us," or "the Company" refer to the Parent and its subsidiaries and are consolidated for financial reporting purposes. The Bank's subsidiaries include Bank of Hawaii Leasing, Inc., Bankoh Investment Services, Inc., and Pacific Century Life Insurance Corporation. The Bank's subsidiaries are engaged in equipment leasing, securities brokerage, investment advisory services, and providing credit insurance.

We are organized into four business segments for management reporting purposes: Retail Banking, Commercial Banking, Investment Services, and Treasury and Other. See Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") and Note 13 to the Consolidated Financial Statements for more information.

Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports can be found free of charge on our website at www.boh.com as soon as reasonably practicable after such material is electronically filed with or furnished to the U.S. Securities and Exchange Commission (the "SEC"). The SEC maintains a website, www.sec.gov, which contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC. Our Corporate Governance Guidelines; charters of the Audit and Risk Committee, the Human Resources and Compensation Committee, and the Nominating and Corporate Governance Committee; and our Code of Business Conduct and Ethics are available on our website at www.boh.com. Printed copies of this information may be obtained, without charge, by written request to the Corporate Secretary at 130 Merchant Street, Honolulu, Hawaii, 96813.

Competition

The Company operates in a highly competitive environment subject to intense competition from traditional financial service providers including banks, savings associations, credit unions, mortgage companies, finance companies, mutual funds, brokerage firms, insurance companies, and other non-traditional providers of financial services including financial service subsidiaries of commercial and manufacturing companies. Some of our competitors are not subject to the same level of regulation and oversight that is required of banks and BHCs. As a result, some of our competitors may have lower cost structures. Also, some of our competitors, through alternative delivery channels such as the Internet, may be based outside of the markets that we serve. By emphasizing our extensive branch network, exceptional service levels, and knowledge of local trends and conditions, we believe the Company has developed an effective competitive advantage in its market.

Supervision and Regulation

Our operations are subject to extensive regulation by federal and state governmental authorities. The regulations are primarily intended to protect depositors, customers, and the integrity of the U.S. banking system and capital markets. The following information describes some of the more significant laws and regulations applicable to us. The descriptions are qualified in their entirety by reference to the applicable laws and regulations. Proposals to change the laws and regulations governing the banking industry are frequently raised in Congress, in state legislatures, and with the various bank regulatory agencies. Changes in applicable laws or regulations, or a change in the way such laws or regulations are interpreted by regulatory agencies or courts, may have a material impact on our business, operations, and earnings.

The Parent

The Parent is registered as a BHC under the Bank Holding Company Act of 1956, as amended (the "BHC Act"), and is subject to the supervision of and to examination by the Board of Governors of the Federal Reserve Bank (the "FRB"). The Parent is also registered as a financial institution holding company under the Hawaii Code of Financial Institutions (the "Code") and is subject to the registration, reporting, and examination requirements of the Code.


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The BHC Act prohibits, with certain exceptions, a BHC from acquiring beneficial ownership or control of more than 5% of the voting shares of any company, including a bank, without the FRB's prior approval. The Act also prohibits a BHC from engaging in any activity other than banking, managing or controlling banks or other subsidiaries authorized under the BHC Act, or furnishing services to or performing services for its subsidiaries.

Under FRB policy, a BHC is expected to serve as a source of financial and management strength to its subsidiary bank. A BHC is also expected to commit resources to support its subsidiary bank in circumstances where it might not do so absent such a policy. Under this policy, a BHC is expected to stand ready to provide adequate capital funds to its subsidiary bank during periods of financial adversity and to maintain the financial flexibility and capital-raising capacity to obtain additional resources for assisting its subsidiary bank.

Under the Riegle-Neal Interstate Banking and Branching Efficiency Act, banks and bank holding companies from any state are permitted to acquire banks located in any other state, subject to certain conditions, including certain nationwide and state-imposed deposit concentration limits. The Bank also has the ability, subject to certain restrictions, to acquire branches outside its home state by acquisition or merger. The establishment of new interstate branches is also possible in those states with laws that expressly permit de novo branching. Because the Code permits de novo branching by out-of-state banks, those banks may establish new branches in Hawaii. Interstate branches are subject to certain laws of the states in which they are located.

Bank of Hawaii

The Bank is subject to supervision and examination by the FRB of San Francisco and the State of Hawaii Department of Commerce and Consumer Affairs' ("DCCA") Division of Financial Institutions. The Bank is subject to extensive federal and state regulations that significantly affect its business and activities. These regulatory bodies have broad authority to implement standards and to initiate proceedings designed to prohibit depository institutions from engaging in activities that may represent unsafe or unsound banking practices or constitute violations of applicable laws, rules, regulations, administrative orders, or written agreements with regulators. The standards relate generally to operations and management, asset quality, interest rate exposure, capital, and executive compensation. These regulatory bodies are authorized to take action against institutions that fail to meet such standards, including the assessment of civil monetary penalties, the issuance of cease-and-desist orders, and other actions.

Bankoh Investment Services, Inc., the broker-dealer and investment advisor subsidiary of the Bank, is incorporated in Hawaii and is regulated by the SEC, the Financial Industry Regulatory Authority, and the DCCA's Business Registration Division. Pacific Century Life Insurance Corporation is incorporated in Arizona and is regulated by the State of Arizona Department of Insurance.

The Dodd Frank Act

The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the "Dodd-Frank Act") has broadly affected the financial services industry and significantly restructured the financial regulatory regime since its passage in July 2010. The Dodd-Frank Act and its regulations have implemented sweeping changes to the financial regulatory landscape aimed at strengthening the sound operation of the financial services sector by requiring ongoing stress testing of banks' capital, mandating higher capital and liquidity requirements, establishing new standards for mortgage lenders, increasing regulation of executive and incentive-based compensation and numerous other provisions. Additional provisions in the Dodd-Frank Act also limit or place significant burdens and costs on activities traditionally conducted by banking organizations, such as arranging and participating in swap and derivative transactions, proprietary trading and investing in private equity and other funds. All of these new rules and regulations are expected to result in increased compliance and other costs, increased legal risk and decreased product offerings.

As is discussed throughout the following sections, many aspects of the Dodd-Frank Act are subject to further rulemaking which will take effect over several years. These new rules and regulations will continue to significantly change the current bank regulatory structure and affect the lending, deposit, investment, trading and operating activities of financial institutions, including the Company and the Bank. Although we have already experienced some decrease in revenue as a result of the rules implemented under the Dodd-Frank Act, it remains difficult to anticipate or predict the overall financial impact the Dodd-Frank Act will continue to have on the Company, our customers, our financial condition and results of operations, or the financial industry in general.


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Capital Requirements

In December 2010, the oversight body of the Basel Committee on Banking Supervision finalized a set of international guidelines for determining regulatory capital known as “Basel III,” which includes reforms regarding capital, leverage, and liquidity. In July 2013, the FRB, the Office of the Comptroller of the Currency (the "OCC") and the FDIC finalized rules to implement the Basel III capital rules in the United States. These comprehensive rules are designed to help ensure that banks maintain strong capital positions by increasing both the quantity and quality of capital held by U.S. banking organizations. The final rules became effective for the Company on January 1, 2015. The final rules also include a new capital conservation buffer, which will be phased in beginning January 1, 2016 and will increase annually until fully phased-in by January 1, 2019. See the “Regulatory Initiatives Affecting the Banking Industry” section in MD&A for more information on Basel III.

Under the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), the federal banking agencies possess broad powers to take prompt corrective action to resolve problems of insured depository institutions. FDICIA identifies five capital categories for insured depository institutions: "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized," and "critically undercapitalized." Under regulations established by the federal banking agencies, upon implementing the Basel III capital guidelines, a "well capitalized" institution must have a Common Equity Tier 1 Capital Ratio of at least 6.5%, a Tier 1 Capital Ratio of at least 8%, a Total Capital Ratio of at least 10%, a Tier 1 Leverage Ratio of at least 5%, and not be subject to a capital directive order. As of December 31, 2015, the Bank was classified as "well capitalized." The classification of a depository institution under FDICIA is primarily for the purpose of applying the federal banking agencies' prompt corrective action provisions, and is not intended to be, nor should it be interpreted as, a representation of the overall financial condition or the prospects of that financial institution. See Note 11 to the Consolidated Financial Statements for more information.

As part of implementing the provisions of the Dodd-Frank Act, in October 2012, the FRB published final rules requiring banks with total consolidated assets of more than $10.0 billion to conduct and publish annual stress tests. In March 2014, the FRB, OCC, and FDIC issued final supervisory guidance for these stress tests. Compliance with these requirements began in October 2013. See the “Regulatory Initiatives Affecting the Banking Industry” section in MD&A for more information on stress testing.
 
Dividend Restrictions

The Parent is a legal entity separate and distinct from the Bank. The Parent's principal source of funds to pay dividends on its common stock and to service its debt is dividends from the Bank. Various federal and state laws and regulations limit the amount of dividends the Bank may pay to the Parent without regulatory approval. The FRB is authorized to determine the circumstances when the payment of dividends would be an unsafe or unsound practice and to prohibit such payments. The right of the Parent, its shareholders, and creditors, to participate in any distribution of the assets or earnings of its subsidiaries is also subject to the prior claims of creditors of those subsidiaries. For information regarding the limitations on the Bank's ability to pay dividends to the Parent, see Note 11 to the Consolidated Financial Statements.

Transactions with Affiliates and Insiders

Under federal law, the Bank is subject to restrictions that limit the transfer of funds or other items of value to the Parent, and any other non-bank affiliates in so-called "covered transactions." In general, covered transactions include loans, leases, other extensions of credit, investments and asset purchases, as well as other transactions involving the transfer of value from the Bank to an affiliate or for the benefit of an affiliate. The Dodd-Frank Act broadened the definition of affiliate, and the definition of covered transaction to include securities borrowing/lending, repurchase/reverse repurchase agreements, and derivative transactions that the Bank may have with an affiliate. The Dodd-Frank Act also strengthened the collateral requirements and limited FRB exemptive authority.

Unless an exemption applies, covered transactions by the Bank with a single affiliate are limited to 10% of the Bank's capital and surplus, and with respect to all covered transactions with affiliates in the aggregate, they are limited to 20% of the Bank's capital and surplus.

The Federal Reserve Act also requires that certain transactions between the Bank and its affiliates be on terms substantially the same, or at least as favorable to the Bank, as those prevailing at the time for comparable transactions with or involving other non-affiliated persons. The FRB has issued Regulation W which codifies the above restrictions on transactions with affiliates.


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The restrictions on loans to directors, executive officers, principal shareholders and their related interests (collectively referred to as "insiders") contained in the Federal Reserve Act and Regulation O apply to all insured institutions and their subsidiaries and holding companies. These restrictions include limits on loans to one borrower and conditions that must be met before such loans can be made. There is also an aggregate limitation on all loans to insiders and their related interests. These loans cannot exceed the institution's total unimpaired capital and surplus. The definition of "extension of credit" for transactions with executive officers, directors, and principal shareholders was also expanded under the Dodd-Frank Act to include credit exposure arising from derivative transactions, repurchase or reverse repurchase agreements, and securities lending or borrowing transactions.

Volcker Rule

On December 10, 2013, the final “Volcker Rule” under the Dodd-Frank Act was approved by the FRB, the OCC, the FDIC, the SEC, and the Commodities Futures Trading Commission. The Volcker Rule prohibits U.S. banks from engaging in proprietary trading and restricts those banking entities from sponsoring, investing in, or having certain relationships with hedge funds and private equity funds. The final rule may limit or restrict the Company’s activities related to proprietary trading and private equity investing. In connection with the issuance of the regulations, the FRB exercised its authority to extend the conformance period for compliance with the Volcker Rule by one year from July 21, 2014 to July 21, 2015. During the remaining conformance period, each banking entity is expected to engage in good faith efforts that will result in conformance of all its activities and investments with the requirements of the Volcker Rule by July 21, 2015. On December 18, 2014, the FRB issued an order extending, for an additional year to July 21, 2016, the Volcker Rule conformance period for banking entities to conform their investments in and relationships with covered funds subject to the Volcker Rule that were in place prior to December 31, 2013. No extension was granted for the conformance period for proprietary trading which expired on July 21, 2015. The Company does not anticipate that the Volcker Rule will have a material impact on the Company’s Consolidated Financial Statements, but continues to evaluate its application to our current and future operations.

FDIC Insurance

The FDIC provides insurance coverage for certain deposits through the Deposit Insurance Fund (the "DIF"), which the FDIC maintains by assessing depository institutions an insurance premium. Pursuant to the Dodd-Frank Act, the amount of deposit insurance coverage for deposits increased permanently from $100,000 to $250,000, per depositor, for each account ownership category. The Company pays deposit insurance premiums to the FDIC based on an assessment rate established by the FDIC.
Our FDIC insurance assessment was $8.7 million in 2015, $7.9 million in 2014, and $7.8 million in 2013.

Effective January 1, 2015, the FDIC modified certain elements of its deposit insurance assessment system for insured depository institutions. The FDIC revised its methodology for determining insurance assessment rates, and the ratios and ratio thresholds for “well-capitalized,” “adequately capitalized,” and “undercapitalized" evaluation categories used in its risk-based deposit insurance assessment system to conform to the prompt corrective action capital ratio thresholds adopted as part of the U.S, Basel III capital rules.

Other Safety and Soundness Regulations

As required by FDICIA, the federal banking agencies' prompt corrective action powers impose progressively more restrictive constraints on operations, management and capital distributions, depending on the category in which an institution is classified. These actions can include: requiring an insured depository institution to adopt a capital restoration plan guaranteed by the institution's parent company; placing limits on asset growth and restrictions on activities, including restrictions on transactions with affiliates; restricting the interest rates the institution may pay on deposits; prohibiting the payment of principal or interest on subordinated debt; prohibiting the holding company from making capital distributions without prior regulatory approval; and, ultimately, appointing a receiver for the institution.

The federal banking agencies also have adopted guidelines prescribing safety and soundness standards relating to internal controls and information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, and compensation and benefits. The federal regulatory agencies may take action against a financial institution that does not meet such standards.

Depositor Preference

The FDIC provides that, in the event of the “liquidation or other resolution” of an insured depository institution, the claims of depositors of the institution, including the claims of the FDIC as subrogee of insured depositors, and certain claims for

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administrative expenses of the FDIC as a receiver, will have priority over other general unsecured claims against the institution. If an insured depository institution fails, insured and uninsured depositors, along with the FDIC, will have priority in payment ahead of unsecured, non-deposit creditors, including depositors whose deposits are payable only outside of the United States and the parent bank holding company, with respect to any extensions of credit they have made to such insured depository institution.

Community Reinvestment and Consumer Protection Laws

In connection with its lending activities, the Bank is subject to a number of federal laws designed to protect borrowers and promote lending to various sectors of the economy and population. These include the Equal Credit Opportunity Act, the Truth-in-Lending Act, the Home Mortgage Disclosure Act, the Real Estate Settlement Procedures Act, and the Community Reinvestment Act (the "CRA"). In addition, federal banking regulators, pursuant to the Gramm-Leach-Bliley Act, have enacted regulations limiting the ability of banks and other financial institutions to disclose nonpublic consumer information to non-affiliated third parties. The regulations require disclosure of privacy policies and allow consumers to prevent certain personal information from being shared with non-affiliated third parties.

The CRA requires the appropriate federal banking agency, in connection with its examination of a bank, to assess the bank's record in meeting the credit needs of the communities served by the bank, including low and moderate income neighborhoods.
Under the CRA, institutions are assigned a rating of "outstanding," "satisfactory," "needs to improve," or "substantial non-compliance." The Bank received an "outstanding" rating in its most recent CRA evaluation.

The Company is subject to a number of federal and state consumer protection laws that extensively govern its relationship with its customers. These laws include the Equal Credit Opportunity Act, the Fair Credit Reporting Act, the Truth in Lending Act, the Truth in Savings Act, the Electronic Fund Transfer Act, the Expedited Funds Availability Act, the Home Mortgage Disclosure Act, the Fair Housing Act, the Real Estate Settlement Procedures Act, the Fair Debt Collection Practices Act, the Service Members Civil Relief Act and these laws’ respective state-law counterparts, as well as state usury laws and laws regarding unfair and deceptive acts and practices. These and other federal laws, among other things, require disclosures of the cost of credit and terms of deposit accounts, provide substantive consumer rights, prohibit discrimination in credit transactions, regulate the use of credit report information, provide financial privacy protections, prohibit unfair, deceptive and abusive practices, restrict the Company's ability to raise interest rates and subject the Company to substantial regulatory oversight. Violations of applicable consumer protection laws can result in significant potential liability from litigation brought by customers, including actual damages, restitution and attorneys’ fees. Federal bank regulators, state attorneys general and state and local consumer protection agencies may also seek to enforce consumer protection requirements and obtain these and other remedies, including regulatory sanctions, customer rescission rights, action by the state attorney general and civil money penalties. Failure to comply with consumer protection requirements may also result in our failure to obtain any required bank regulatory approval for transactions the Company may wish to pursue or our prohibition from engaging in such transactions even if approval is not required.

The Dodd-Frank Act created the Consumer Financial Protection Bureau (the “CFPB”) as an agency responsible for promulgating regulations designed to protect consumers including implementing, examining and enforcing compliance with federal consumer financial laws. The Dodd-Frank Act adds prohibitions on unfair, deceptive and abusive acts and practices to the scope of consumer protection regulations overseen and enforced by the CFPB. The CFPB, along with other prudential regulators and the Department of Justice, have also expanded the focus of their regulatory examinations and investigations to include “fair and responsible banking.” Fair and responsible banking strives to provide equal credit opportunities to all applicants of a community, to prohibit discrimination by lenders on the basis of certain borrower characteristics, and to ensure that a bank’s practices are not deceptive, unfair, or take unreasonable advantage of consumers or businesses when offering retail financial services. The focus also has been expanded to encompass the entire loan life cycle, including post-closing activities such as collections and servicing, and pre-application activities such as marketing and loan solicitation and origination.  Fair and responsible banking is intended to ensure that banks provide fair and equitable access to the entire spectrum of financial products and services, including credit cards, student and auto lending, to all consumers and businesses in the marketplaces they serve, and strive to be clear and transparent in all communications with customers, treating them fairly in all circumstances.

Some of the rules and regulations under the Dodd-Frank Act have not yet been implemented. Accordingly, it remains difficult to predict the ultimate impact the Dodd-Frank Act will have on our financial condition or results of operations.


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Bank Secrecy Act / Anti-Money Laundering Laws

The Bank is subject to the Bank Secrecy Act and other anti-money laundering laws and regulations, including the USA PATRIOT Act of 2001. The USA PATRIOT Act substantially broadened the scope of U.S. anti-money laundering laws and regulations by creating new laws, regulations, and penalties, imposing significant new compliance and due diligence obligations, and expanding the application of those laws outside the U.S. These laws and regulations require the Bank to implement policies, procedures, and controls to detect, prevent, and report potential money laundering and terrorist financing and to verify the identity of its customers. Violations of these requirements can result in substantial civil and criminal sanctions. In addition, provisions of the USA PATRIOT Act require the federal financial institution regulatory agencies to consider the effectiveness of a financial institution's anti-money laundering activities when reviewing bank mergers and BHC acquisitions.

Employees

As of December 31, 2015, we had approximately 2,200 employees.


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Executive Officers of the Registrant

Listed below are executive officers of the Parent as of December 31, 2015.

Peter S. Ho, 50
Chairman and Chief Executive Officer since July 2010 and President since April 2008; Vice Chairman and Chief Banking Officer from January 2006 to April 2008.

Kent T. Lucien, 62
Vice Chairman and Chief Financial Officer since April 2008; Trustee, C. Brewer & Co., Ltd. from April 2006 to December 2007.

Peter M. Biggs, 64
Vice Chairman since February 2011 and Chief Retail Officer since April 2012; Senior Executive Vice President, Consumer Products Division from March 2006 to February 2011.

Sharon M. Crofts, 50
Vice Chairman of Operations and Technology since October 2012; Senior Executive Vice President of Operations from May 2008 to October 2012; Executive Vice President and Chief Compliance Officer from December 2005 to May 2008.

Wayne Y. Hamano, 61
Vice Chairman since December 2008 and Chief Commercial Officer since September 2007 and oversees the Commercial Banking and Investment Services Groups; Senior Executive Vice President, Hawaii Commercial Banking Division from July 2006 to September 2007.

Mark A. Rossi, 66
Vice Chairman, Chief Administrative Officer, General Counsel, and Corporate Secretary since February 2007; President of Lane Powell PC from July 2004 to January 2007.

Mary E. Sellers, 59
Vice Chairman and Chief Risk Officer since July 2005.

Donna A. Tanoue, 61
Vice Chairman, Client Relations and Community Activities since February 2007; President of the Bank of Hawaii Foundation since April 2006.

Derek J. Norris, 66
Vice Chairman, Residential and Consumer Lending, since August 2014; Senior Executive Vice President and Controller since December 2009; Executive Vice President and Controller since December 2008; Executive Vice President and General Auditor from January 2002 to December 2008.

Dean Y. Shigemura, 52
Senior Executive Vice President and Controller since August 2014; Senior Executive Vice President and Treasurer since May 2008.

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Item 1A.  Risk Factors

There are a number of risks and uncertainties that could negatively affect our business, financial condition or results of operations. We are subject to various risks resulting from changing economic, environmental, political, industry, business, financial and regulatory conditions. The risks and uncertainties described below are some of the important inherent risk factors that could affect our business and operations, although they are not the only risks that may have a material adverse effect on the Company.

Changes in business and economic conditions, in particular those of Hawaii, Guam and other Pacific Islands, could lead to lower revenue, lower asset quality, and lower earnings.

Unlike larger national or other regional banks that are more geographically diversified, our business and earnings are closely tied to the economies of Hawaii and the Pacific Islands. These local economies rely heavily on tourism, the U.S. military, real estate, construction, government, and other service-based industries. Lower visitor arrivals or spending, real or threatened acts of war or terrorism, increases in energy costs, the availability of affordable air transportation, climate change, natural disasters and adverse weather, public health issues including Asian air pollution, and Federal, State of Hawaii and County budget issues may impact consumer and corporate spending. As a result, such events may contribute to a significant deterioration in general economic conditions in our markets which could adversely impact us and our customers' operations.

General economic conditions in Hawaii remained healthy in 2015, led by a strong tourism industry, relatively low unemployment, rising real estate prices, and an active construction industry. However, deterioration of economic conditions, either locally or nationally, could adversely affect the quality of our assets, credit losses, and the demand for our products and services, which could lead to lower revenues and lower earnings. The level of visitor arrivals and spending, housing prices, and unemployment rates are some of the metrics that we continually monitor. We also monitor the value of collateral, such as real estate, that secures the loans we have made. The borrowing power of our customers could also be negatively impacted by a decline in the value of collateral.

Changes in defense spending by the federal government as a result of congressional budget cuts could adversely impact the economy in Hawaii and the Pacific Islands.

The U.S. military has a major presence in Hawaii and the Pacific Islands. As a result, the U.S. military is an important aspect of the economies in which we operate. The funding of the U.S. military is subject to the overall U.S. Government budget and appropriation decisions and processes which are driven by numerous factors, including geo-political events, macroeconomic conditions, and the ability and willingness of the U.S. Government to enact legislation. U.S. Government appropriations have been and likely will continue to be affected by larger U.S. Government budgetary issues and related legislation. Cuts in defense and other security spending could have an adverse impact on the economies in which we operate, which could adversely affect our business, financial condition, and results of operations.

Changes in interest rates could adversely impact our results of operations and capital.
 
Our earnings are highly dependent on the spread between the interest earned on loans, leases, and investment securities and the interest paid on deposits and borrowings. Changes in market interest rates impact the rates earned on loans, leases, and investment securities and the rates paid on deposits and borrowings. In addition, changes to market interest rates could impact the level of loans, leases, investment securities, deposits, and borrowings, and the credit profile of our current borrowers. Interest rates are affected by many factors beyond our control, and fluctuate in response to general economic conditions, currency fluctuations, and the monetary and fiscal policies of various governmental and regulatory authorities. Changes in monetary policy, including changes in interest rates, will influence the origination of loans and leases, the purchase of investments, the generation of deposits, and the rates received on loans and investment securities and paid on deposits. Any substantial prolonged change in market interest rates may negatively impact our ability to attract deposits, originate loans and leases, and achieve satisfactory interest rate spreads, any of which could adversely affect our financial condition or results of operations.

Credit losses could increase if economic conditions stagnate or deteriorate.

Although economic conditions are currently healthy nationally and in Hawaii, increased credit losses for us could result if economic conditions stagnate or deteriorate. The risk of nonpayment on loans and leases is inherent in all lending activities. We maintain a reserve for credit losses to absorb estimated probable credit losses inherent in the loan, lease, and commitment portfolios as of the balance sheet date. Management makes various assumptions and judgments about the loan and lease portfolio in determining the level of the reserve for credit losses. Many of these assumptions are based on current economic conditions.

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Should economic conditions stagnate or deteriorate nationally or in Hawaii, we may experience higher credit losses in future periods.

Inability of our borrowers to make timely repayments on their loans, or decreases in real estate collateral values may result in increased delinquencies, foreclosures, and customer bankruptcies, any of which could have a material adverse effect on our financial condition or results of operations.

Legislation and regulatory initiatives affecting the financial services industry, including new restrictions and requirements, could detrimentally affect the Company's business.

In light of the financial crisis which began in 2008, regulators have increased their focus on the regulation of financial institutions. Laws and regulations, and in particular banking and securities laws, are under intense scrutiny. The Dodd-Frank Act, enacted in July 2010, triggered sweeping reforms to the financial services industry. Although many of the rules and regulations implementing the Dodd-Frank Act have already gone into effect, some of the rules required to be implemented under the Dodd-Frank Act have yet to be implemented and will require further interpretation and rulemaking by federal regulators. We are closely monitoring all relevant sections of the Dodd-Frank Act in our efforts to comply with these new laws and regulations. While the ultimate effect of the Dodd-Frank Act on us cannot currently be determined, the law and its implementing rules and regulations have resulted and are likely to continue to result in increased compliance costs and fees, along with possible restrictions on our operations, any of which may have a material adverse effect on our operating results and financial condition.

The CFPB has begun to exercise its broad rule-making, supervisory, and examination authority of consumer financial products, as well as expanded data collection and enforcement powers, over depository institutions with more than $10.0 billion in assets. The CFPB has recently focused its rulemaking in several areas, particularly in the area of mortgage reform involving the Real Estate Settlement Procedures Act (Reg X), the Truth-in-Lending Act (Reg Z), the Equal Credit Opportunity Act (Reg B), and the Fair Debt Collection Practices Act. On January 10, 2014, the CFPB issued a number of new rules impacting residential mortgage lending practices. As a result of greater regulatory scrutiny of consumer financial products, the Company has become subject to more and expanded regulatory examinations and/or investigations, which also could result in increased costs and harm to our reputation in the event of a failure to comply with the increased regulatory requirements. All of these rules have created challenges for product and service offerings, operations and compliance programs for the Company.

Regulation of overall safety and soundness, the CRA, federal housing and flood insurance, as they pertain to consumer financial products and services, remain with the FRB. Many of the rules and regulations of the CFPB have not been implemented, and therefore, the scope and impact of the CFPB's actions cannot be determined at this time. This creates significant uncertainty for us and for the financial services industry in general.

These new laws, regulations, and changes may continue to increase our costs of regulatory compliance. They may significantly affect the markets in which we do business, the markets for and value of our investments, and our ongoing operations, costs, and profitability. The future impact of the many provisions of the Dodd-Frank Act and other legislative and regulatory initiatives on the Company's business and results of operations will depend upon regulatory interpretation and rulemaking that still must be undertaken. As a result, we are unable to predict the ultimate impact of the Dodd-Frank Act or of other future legislation or regulation, including the extent to which it could increase costs or limit our ability to pursue business opportunities in an efficient manner, or otherwise adversely affect our business, financial condition, and results of operations.

Changes in the capital, leverage, liquidity requirements and the introduction of stress testing requirements for financial institutions could materially affect future requirements of the Company.

Under Basel III, financial institutions are required to have more capital and a higher quality of capital. Under the final rules issued by the banking regulators, minimum requirements increased for both the quantity and quality of capital held by the Company. The phase-in period for the final rules began for the Company on January 1, 2015, with full compliance with all of the final rule's requirements phased in over a multi-year schedule.

On October 9, 2012, the FRB published final rules implementing the stress testing requirements for banks, such as the Company, with total consolidated assets of more than $10.0 billion but less than $50.0 billion. The final stress testing rules set forth the timing and type of stress test activities, as well as rules governing controls, oversight and disclosure.

Compliance with Basel III and the results of our stress testing may result in increased capital, liquidity, and disclosure requirements. See the "Regulatory Initiatives Affecting the Banking Industry" section in MD&A for more information.

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Consumer protection initiatives related to the foreclosure process could affect our remedies as a creditor.

Proposed consumer protection initiatives related to the foreclosure process, including voluntary and/or mandatory programs intended to permit or require lenders to consider loan modifications or other alternatives to foreclosure, could increase our credit losses or increase our expense in pursuing our remedies as a creditor.

In recent years, Hawaii overhauled its rules for nonjudicial, or out-of-court, foreclosures.  Previously, nonjudicial foreclosures were how most lenders handled foreclosures in Hawaii, as the process was quicker and less expensive than going through court.  The revised rules had the unintended effect of many lenders forgoing nonjudicial foreclosures entirely and filing all foreclosures in court, creating a backlog that has slowed the judicial foreclosure process.  Although some of the backlog has been cleared, many lenders continue to use the judicial foreclosure process exclusively, making the foreclosure process very lengthy. There is discussion about further changes to the foreclosure laws in Hawaii, with the potential to create further delays for new and existing cases.  In addition, the joint federal-state settlement with several mortgage servicers over foreclosure practice abuses creates additional uncertainty for the Company and the mortgage servicing industry in general as it relates to the implementation of mortgage loan modifications and loss mitigation practices in the future.  The manner in which these issues are ultimately resolved could impact our foreclosure procedures, which in turn could affect our financial condition or results of operations. 

Competition may adversely affect our business.

Our future depends on our ability to compete effectively. We compete for deposits, loans, leases, and other financial services with a variety of competitors, including banks, thrifts, savings associations, credit unions, mortgage companies, finance companies, mutual funds, brokerage firms, insurance companies, and other non-traditional providers of financial services, including financial service subsidiaries of commercial and manufacturing companies, all of which may be based in or outside of Hawaii and the Pacific Islands. We expect competitive conditions to intensify as consolidation in the financial services industry continues. The financial services industry is also likely to become more competitive as further technological advances enable more companies, including non-depository institutions, to provide financial services. Some of our competitors are not subject to the same level of regulation and oversight that is required of banks and BHCs. As a result, some of our competitors may have lower cost structures. Also, some of our competitors, through alternative delivery channels such as the Internet, may be based outside of the markets that we serve. Under the Riegle-Neal Interstate Banking and Branching Efficiency Act, banks and bank holding companies from any state are permitted to acquire banks located in any other state, subject to certain conditions, including certain nationwide and state-imposed deposit concentration limits. Because the Code permits de novo branching by out-of-state banks, those banks may establish new branches in Hawaii. Interstate branches are subject to certain laws of the states in which they are located. Failure to effectively compete, innovate, and to make effective use of available channels to deliver our products and services could adversely affect our financial condition or results of operations.

The Parent's liquidity is dependent on dividends from the Bank.

The Parent is a separate and distinct legal entity from the Bank. The Parent receives substantially all of its cash in the form of dividends from the Bank. These dividends are the principal source of funds to pay, for example, dividends on the Parent's common stock or to repurchase common stock under the Parent's share repurchase program. Various federal and state laws and regulations limit the amount of dividends that the Bank may pay to the Parent. If the amount of dividends paid by the Bank is further limited, the Parent's ability to meet its obligations, pay dividends to shareholders, or repurchase stock, may be further limited as well.

A failure in or breach of our operational systems, information systems, or infrastructure, or those of our third party vendors and other service providers, may result in financial losses, loss of customers, or damage to our reputation.

We rely heavily on communications and information systems to conduct our business. In addition, we rely on third parties to provide key components of our infrastructure, including loan, deposit and general ledger processing, internet connections, and network access. These types of information and related systems are critical to the operation of our business and essential to our ability to perform day-to-day operations, and, in some cases, are critical to the operations of certain of our customers. These third parties with which we do business or that facilitate our business activities, including exchanges, clearing firms, financial intermediaries or vendors that provide services or security solutions for our operations, could also be sources of operational and information security risk to us, including breakdowns or failures of their own systems or capacity constraints. Although we have safeguards and business continuity plans in place, our business operations may be adversely affected by significant and

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widespread disruption to our physical infrastructure or operating systems that support our business and our customers, resulting in financial losses, loss of customers, or damage to our reputation.

An interruption or breach in security of our information systems or those related to merchants and third party vendors, including as a result of cyber attacks, could disrupt our business, result in the disclosure or misuse of confidential or proprietary information, damage our reputation, or result in financial losses.

Our technologies, systems, networks and software, and those of other financial institutions have been, and are likely to continue to be, the target of cybersecurity threats and attacks, which may range from uncoordinated individual attempts to sophisticated and targeted measures directed at us. These cybersecurity threats and attacks may include, but are not limited to, attempts to access information, including customer and company information, malicious code, computer viruses and denial of service attacks that could result in unauthorized access, misuse, loss or destruction of data (including confidential customer information), account takeovers, unavailability of service or other events. These types of threats may result from human error, fraud or malice on the part of external or internal parties, or from accidental technological failure. Further, to access our products and services our customers may use computers and mobile devices that are beyond our security control systems. The risk of a security breach or disruption, particularly through cyber attack or cyber intrusion, including by computer hackers, has increased as the number, intensity and sophistication of attempted attacks and intrusions from around the world have increased.

Our business requires the collection and retention of large volumes of customer data, including credit card numbers and other personally identifiable information in various information systems that we maintain and in those maintained by third parties with whom we contract to provide data services. We also maintain important internal company data such as personally identifiable information about our employees and information relating to our operations. The integrity and protection of that customer and company data is important to us. As customer, public, legislative and regulatory expectations regarding operational and information security have increased, our operations systems and infrastructure must continue to be safeguarded and monitored for potential failures, disruptions and breakdowns.

Our customers and employees have been, and will continue to be, targeted by parties using fraudulent e-mails and other communications in attempts to misappropriate passwords, credit card numbers, bank account information or other personal information or to introduce viruses or other malware through "trojan horse" programs to our customers' computers. These communications may appear to be legitimate messages sent by the Bank or other businesses, but direct recipients to fake websites operated by the sender of the e-mail or request that the recipient send a password or other confidential information via e-mail or download a program. Despite our efforts to mitigate these threats through product improvements, use of encryption and authentication technology to secure online transmission of confidential consumer information, and customer and employee education, such attempted frauds against us or our merchants and our third party service providers remain a serious issue. The pervasiveness of cyber security incidents in general and the risks of cyber crime are complex and continue to evolve. In light of several recent high-profile retail data breaches involving customer personal and financial information, we believe the potential impact on the Company and any exposure to consumer losses and the cost of technology investments to improve security could cause customer and/or Bank losses, damage to our brand, and increase our costs.

Although we make significant efforts to maintain the security and integrity of our information systems and have implemented various measures to manage the risk of a security breach or disruption, there can be no assurance that our security efforts and measures will be effective or that attempted security breaches or disruptions would not be successful or damaging. Even the most well-protected information, networks, systems and facilities remain potentially vulnerable because attempted security breaches, particularly cyber attacks and intrusions, or disruptions will occur in the future, and because the techniques used in such attempts are constantly evolving and generally are not recognized until launched against a target, and in some cases are designed not to be detected and, in fact, may not be detected. Accordingly, we may be unable to anticipate these techniques or to implement adequate security barriers or other preventative measures, and thus it is virtually impossible for us to entirely mitigate this risk. A security breach or other significant disruption could: 1) disrupt the proper functioning of our networks and systems and therefore our operations and/or those of certain of our customers; 2) result in the unauthorized access to, and destruction, loss, theft, misappropriation or release of confidential, sensitive or otherwise valuable information of ours or our customers, including account numbers and other financial information; 3) result in a violation of applicable privacy, data breach and other laws, subjecting the Bank to additional regulatory scrutiny and exposing the Bank to civil litigation, governmental fines and possible financial liability; 4) require significant management attention and resources to remedy the damages that result; or 5) harm our reputation or cause a decrease in the number of customers that choose to do business with us or reduce the level of business that our customers do with us. The occurrence of any such failures, disruptions or security breaches could have a negative impact on our results of operations, financial condition, and cash flows as well as damage our brand and reputation.


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Negative public opinion could damage our reputation and adversely impact our earnings and liquidity.

Reputational risk, or the risk to our business, earnings, liquidity, and capital from negative public opinion could result from our actual or alleged conduct in a variety of areas, including legal and regulatory compliance, lending practices, corporate governance, litigation, ethical issues, or inadequate protection of customer information. We expend significant resources to comply with regulatory requirements. Failure to comply could result in reputational harm or significant legal or remedial costs. Damage to our reputation could adversely affect our ability to retain and attract new customers, and adversely impact our earnings and liquidity.

We are subject to certain litigation, and our expenses related to this litigation may adversely affect our results.

We are, from time to time, involved in various legal proceedings arising from our normal business activities. These claims and legal actions, including supervisory actions by our regulators, could involve large monetary claims and significant defense costs. The outcome of these cases is uncertain. Substantial legal liability or significant regulatory action against us could have material financial effects or cause significant reputational harm to us, which in turn could seriously harm our business prospects. We may be exposed to substantial uninsured liabilities, which could materially affect our results of operations and financial condition. Based on information currently available, we believe that the eventual outcome of known actions against us will not be materially in excess of such amounts accrued by us. However, in the event of unexpected future developments, it is possible that the ultimate resolution of those matters may be material to our financial results for any particular period.

Changes in income tax laws or interpretations or in accounting standards could materially affect our financial condition or results of operations.

Changes in income tax laws could be enacted, or interpretations of existing income tax laws could change, causing an adverse effect on our financial condition or results of operations. Similarly, our accounting policies and methods are fundamental to how we report our financial condition and results of operations. Some of these policies require use of estimates and assumptions that may affect the value of our assets, liabilities, and financial results. Periodically, new accounting standards are issued or existing standards are revised, changing the methods for preparing our financial statements. These changes are not within our control and may significantly impact our financial condition and results of operations.

Our performance depends on attracting and retaining key employees and skilled personnel to operate our business effectively.

Our success is dependent on our ability to recruit qualified and skilled personnel to operate our business effectively. Competition for these qualified and skilled people is intense. There are a limited number of qualified personnel in the markets we serve, so our success depends in part on the continued services of many of our current management and other key employees. Failure to retain our key employees and maintain adequate staffing of qualified personnel could adversely impact our operations and our ability to compete.

The soundness of other financial institutions, as counterparties, may adversely impact our financial condition or results of operations.

Our ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institutions. Financial services institutions are interrelated as a result of trading, clearing, lending, counterparty, or other relationships. As a result, defaults by, or even rumors or questions about, one or more financial services institutions or the financial services industry in general have led to market-wide liquidity problems and could lead to losses or defaults by us or by other institutions. We have exposure to many different industries and counterparties, and we routinely execute transactions with brokers and dealers, commercial banks, investment banks, mutual funds, and other institutional clients. Many of these transactions expose us to credit risk in the event of default of our counterparty or client. In addition, our credit risk may be exacerbated when the collateral held by us cannot be realized upon or is liquidated at prices not sufficient to recover the full amount of the loan or derivative exposure due us. Such losses could materially affect our financial condition or results of operations.

Changes in the capital markets could materially affect the level of assets under management and the demand for our other fee-based services.

Changes in the capital markets could affect the volume of income from and demand for our fee-based services. Our investment management revenues depend in large part on the level of assets under management. Market volatility that leads customers to

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liquidate investments, move investments to other institutions or asset classes, as well as lower asset values can reduce our level of assets under management and thereby decrease our investment management revenues.

Our mortgage banking income may experience significant volatility.

Our mortgage banking income is highly influenced by the level and direction of mortgage interest rates, real estate activity, and refinancing activity. Interest rates can affect the amount of mortgage banking activity and impact fee income and the fair value of our derivative financial instruments and mortgage servicing rights. Mortgage banking income may also be impacted by changes in our strategy to manage our residential mortgage portfolio. For example, we may occasionally decide to add more conforming saleable loans to our portfolio (as opposed to selling the loans in the secondary market) which would reduce our gains on sales of residential mortgage loans. These variables could adversely affect mortgage banking income.

The requirement to record certain assets and liabilities at fair value may adversely affect our financial results.

We report certain assets, including available-for-sale investment securities, at fair value. Generally, for assets that are reported at fair value we use quoted market prices or valuation models that utilize market data inputs to estimate fair value. Because we record these assets at their estimated fair value, we may incur losses even if the asset in question presents minimal credit risk. The level of interest rates can impact the estimated fair value of investment securities. Disruptions in the capital markets may require us to recognize other-than-temporary impairments in future periods with respect to investment securities in our portfolio. The amount and timing of any impairment recognized will depend on the severity and duration of the decline in fair value of our investment securities and our estimation of the anticipated recovery period.

There can be no assurance that the Parent will continue to declare cash dividends or repurchase stock.

During 2015, the Parent repurchased 802,255 shares of common stock at a total cost of $50.2 million under its share repurchase program. The Parent also paid cash dividends of $78.4 million during 2015. In January 2016, the Parent's Board of Directors declared a quarterly cash dividend of $0.45 per share on the Parent's outstanding shares. In addition, from January 1, 2016 through February 17, 2016, the Parent repurchased an additional 149,500 shares of common stock at an average cost of $59.50 per share and a total cost of $8.9 million.

Whether we continue, and the amount and timing of, such dividends and/or stock repurchases is subject to capital availability and periodic determinations by our Board of Directors that cash dividends and/or stock repurchases are in the best interest of our shareholders. We continue to evaluate the potential impact that regulatory proposals may have on our liquidity and capital management strategies, including Basel III and those required under the Dodd-Frank Act. The actual amount and timing of future dividends and share repurchases, if any, will depend on market and economic conditions, applicable SEC rules, federal and state regulatory restrictions, and various other factors. In addition, the amount we spend and the number of shares we are able to repurchase under our stock repurchase program may further be affected by a number of other factors, including the stock price and blackout periods in which we are restricted from repurchasing shares. Our dividend payments and/or stock repurchases may change from time to time, and we cannot provide assurance that we will continue to declare dividends and/or repurchase stock in any particular amounts or at all. A reduction in or elimination of our dividend payments and/or stock repurchases could have a negative effect on our stock price.

Natural disasters and adverse weather could negatively affect real estate property and bank operations.
Real estate and real estate property values play an important role for the Bank in several ways. The Bank owns many real estate properties, primarily located in Hawaii. Real estate is also utilized as collateral for many of our loans. A natural disaster could cause property values to fall, which could require the Bank to record an impairment on its financial statements. A natural disaster could also impact collateral values, which would increase our exposure to loan defaults. Our business operations could also suffer to the extent the Bank cannot utilize its branch network due to weather-related damage.


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Item 1B.  Unresolved Staff Comments

None.

Item 2.  Properties

Our principal offices are located in the Financial Plaza of the Pacific in Honolulu, Hawaii. We own and lease other branch offices and operating facilities located throughout Hawaii and the Pacific Islands. Additional information with respect to premises and equipment is presented in Notes 6 and 20 to the Consolidated Financial Statements.

Item 3.  Legal Proceedings

We are from time to time subject to lawsuits, investigations and claims arising out of the conduct of our business. Management believes that the ultimate resolution of these matters is not likely to materially affect our financial position and results of operations. For additional information, see Note 20 to the Consolidated Financial Statements, under the discussion related to Contingencies.

Item 4. Mine Safety Disclosures

Not Applicable.


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Part II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Market Information, Shareholders, and Dividends

Information regarding the historical market prices of the Parent's common stock, book value, and dividends declared on that stock are shown below.

Market Prices, Book Values, and Common Stock Dividends Per Share
 
 
Market Price Range
Book Value
 
Dividends
Declared
 
Year/Period
High
 
Low
 
Close
 
2015
 
$
70.07

 
$
53.90

 
$
62.90

 
$
25.79

 
$
1.80

First Quarter
 
62.58

 
53.90

 
61.21

 
 
 
0.45

Second Quarter
 
68.10

 
58.70

 
66.68

 
 
 
0.45

Third Quarter
 
69.00

 
58.53

 
63.49

 
 
 
0.45

Fourth Quarter
 
70.07

 
60.55

 
62.90

 
 
 
0.45

 
 
 
 
 
 
 
 
 
 
 
2014
 
$
61.73

 
$
52.70

 
$
59.31

 
$
24.13

 
$
1.80

First Quarter
 
61.36

 
54.16

 
60.61

 
 
 
0.45

Second Quarter
 
61.73

 
53.45

 
58.69

 
 
 
0.45

Third Quarter
 
60.75

 
55.55

 
56.81

 
 
 
0.45

Fourth Quarter
 
61.00

 
52.70

 
59.31

 
 
 
0.45


The common stock of the Parent is traded on the New York Stock Exchange (NYSE Symbol: BOH) and quoted daily in leading financial publications. As of February 17, 2016, there were 6,271 common shareholders of record.

The Parent's Board of Directors considers on a quarterly basis the feasibility of paying a cash dividend to its shareholders and the level and feasibility of repurchasing shares of the Parent's common stock. Under the Parent's historical practice, dividends declared are paid within the quarter. See "Dividend Restrictions" under "Supervision and Regulation" in Item 1 of this report and Note 11 to the Consolidated Financial Statements for more information.

Issuer Purchases of Equity Securities
Period
 
Total Number of
Shares Purchased 1
Average Price
Paid Per Share
 
 
Total Number of
Shares Purchased
as Part of Publicly
Announced Plans or
Programs
Approximate Dollar Value
of Shares that May Yet Be
Purchased Under the
Plans or Programs 2
 
October 1 - 31, 2015
 
79,473
 
$
64.77

 
79,000
 
$
31,830,801

November 1 - 30, 2015
 
46,377
 
67.64

 
45,000
 
28,785,315

December 1 - 31, 2015
 
90,000
 
64.05

 
90,000
 
23,020,820

Total
 
215,850
 
$
65.09

 
214,000
 
 

1 During the fourth quarter of 2015, 1,850 shares were purchased from employees and/or directors in connection with income tax withholdings related to the vesting of restricted stock and shares purchased for a deferred compensation plan. These shares were not purchased as part of the publicly announced program. The shares were purchased at the closing price of the Parent's common stock on the dates of purchase.
2 The share repurchase program was first announced in July 2001. The program has no set expiration or termination date.


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Performance Graph
 
The following graph shows the cumulative total return for the Parent's common stock compared to the cumulative total returns for the Standard & Poor's ("S&P") 500 Index and the S&P Banks Index. The graph assumes that $100 was invested on December 31, 2010 in the Parent's common stock, the S&P 500 Index, and the S&P Banks Index. The cumulative total return on each investment is as of December 31 of each of the subsequent five years and assumes reinvestment of dividends.



 
2010
2011
2012
2013
2014
2015
Bank of Hawaii Corporation
$100
$98
$101
$140
$145
$159
S&P 500 Index
$100
$102
$118
$157
$178
$181
S&P Banks Index
$100
$74
$102
$138
$157
$158



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Item 6. Selected Financial Data
Summary of Selected Consolidated Financial Data
(dollars in millions, except per share amounts)
 
2015

 
2014

 
2013

 
2012

 
2011

 
Year Ended December 31,
 
 
 
 
 
 
 
 
 
 
 
Operating Results
 
 
 
 
 
 
 
 
 
 
 
Net Interest Income
 
$
394.1

 
$
379.7

 
$
358.9

 
$
377.3

 
$
390.2

 
Provision for Credit Losses
 
1.0

 
(4.9
)
 
—

 
1.0

 
12.7

 
Total Noninterest Income
 
186.2

 
180.0

 
186.2

 
200.3

 
197.7

 
Total Noninterest Expense
 
348.1

 
326.9

 
331.0

 
334.3

 
348.2

 
Net Income
 
160.7

 
163.0

 
150.5

 
166.1

 
160.0

 
Basic Earnings Per Share
 
3.72

 
3.71

 
3.39

 
3.68

 
3.40

 
Diluted Earnings Per Share
 
3.70

 
3.69

 
3.38

 
3.67

 
3.39

 
Dividends Declared Per Share
 
1.80

 
1.80

 
1.80

 
1.80

 
1.80

 
 
 
 
 
 
 
 
 
 
 
 
 
Performance Ratios
 
 
 
 
 
 
 
 
 
 
 
Net Income to Average Total Assets (ROA)
 
1.06

%
1.14

%
1.10

%
1.22

%
1.22

%
Net Income to Average Shareholders' Equity (ROE)
 
14.82

 
15.50

 
14.78

 
16.23

 
15.69

 
Efficiency Ratio 1
 
59.99

 
58.41

 
60.71

 
57.88

 
59.23

 
Net Interest Margin 2
 
2.81

 
2.85

 
2.81

 
2.97

 
3.13

 
Dividend Payout Ratio 3
 
48.39

 
48.52

 
53.10

 
48.91

 
52.94

 
Average Shareholders' Equity to Average Assets
 
7.16

 
7.35

 
7.44

 
7.52

 
7.78

 
 
 
 
 
 
 
 
 
 
 
 
 
Average Balances
 
 
 
 
 
 
 
 
 
 
 
Average Loans and Leases
 
$
7,423.6

 
$
6,405.4

 
$
5,883.7

 
$
5,680.3

 
$
5,349.9

 
Average Assets
 
15,136.5

 
14,317.5

 
13,692.1

 
13,609.2

 
13,105.0

 
Average Deposits
 
12,925.2

 
12,122.1

 
11,396.8

 
10,935.0

 
9,924.7

 
Average Shareholders' Equity
 
1,084.1

 
1,052.2

 
1,018.3

 
1,023.3

 
1,020.1

 
 
 
 
 
 
 
 
 
 
 
 
 
Weighted Average Shares Outstanding
 
 
 
 
 
 
 
 
 
 
 
Basic Weighted Average Shares
 
43,217,818

 
43,899,208

 
44,380,948

 
45,115,441

 
47,064,925

 
Diluted Weighted Average Shares
 
43,454,877

 
44,125,456

 
44,572,725

 
45,249,300

 
47,224,981

 
 
 
 
 
 
 
 
 
 
 
 
 
As of December 31,
 
 
 
 
 
 
 
 
 
 
 
Balance Sheet Totals
 
 
 
 
 
 
 
 
 
 
 
Loans and Leases
 
$
7,879.0

 
$
6,897.6

 
$
6,095.4

 
$
5,854.5

 
$
5,538.3

 
Total Assets
 
15,455.0

 
14,787.2

 
14,084.3

 
13,728.4

 
13,846.4

 
Total Deposits
 
13,251.1

 
12,633.1

 
11,914.7

 
11,529.5

 
10,592.6

 
Other Debt
 
245.8

 
173.9

 
174.7

 
128.1

 
30.7

 
Total Shareholders' Equity
 
1,116.3

 
1,055.1

 
1,012.0

 
1,021.7

 
1,002.7

 
 
 
 
 
 
 
 
 
 
 
 
 
Asset Quality
 
 
 
 
 
 
 
 
 
 
 
Allowance for Loan and Lease Losses
 
$
102.9

 
$
108.7

 
$
115.5

 
$
128.9

 
$
138.6

 
Non-Performing Assets
 
28.8

 
30.1

 
39.7

 
37.1

 
40.8

 
 
 
 
 
 
 
 
 
 
 
 
 
Financial Ratios
 
 
 
 
 
 
 
 
 
 
 
Allowance to Loans and Leases Outstanding
 
1.31

%
1.58

%
1.89

%
2.20

%
2.50

%
Tier 1 Capital Ratio 4
 
13.97

 
14.69

 
16.05

 
17.18

 
17.90

 
Total Capital Ratio 4
 
15.22

 
15.94

 
17.31

 
18.45

 
19.17

 
Tier 1 Leverage Ratio 4
 
7.26

 
7.13

 
7.24

 
7.25

 
7.20

 
Total Shareholders' Equity to Total Assets
 
7.22

 
7.14

 
7.19

 
7.44

 
7.24

 
Tangible Common Equity to Tangible Assets 5
 
7.03

 
6.94

 
6.98

 
7.23

 
7.03

 
Tangible Common Equity to Risk-Weighted Assets 4, 5
 
13.62

 
14.46

 
15.67

 
17.46

 
18.17

 
 
 
 
 
 
 
 
 
 
 
 
 
Non-Financial Data
 
 
 
 
 
 
 
 
 
 
 
Full-Time Equivalent Employees
 
2,164

 
2,161

 
2,196

 
2,276

 
2,370

 
Branches and Offices
 
70

 
74

 
74

 
76

 
81

 
ATMs
 
456

 
459

 
466

 
494

 
506

 
Common Shareholders of Record
 
6,279

 
6,421

 
6,564

 
6,775

 
6,977

 
1 
Efficiency ratio is defined as noninterest expense divided by total revenue (net interest income and noninterest income).
2 
Net interest margin is defined as net interest income, on a taxable-equivalent basis, as a percentage of average earning assets.
3 
Dividend payout ratio is defined as dividends declared per share divided by basic earnings per share.
4 
December 31, 2015 calculated under Basel III rules, which became effective January 1, 2015.
5 
Tangible common equity to tangible assets and tangible common equity to risk-weighted assets are Non-GAAP financial measures. See the "Use of Non-GAAP Financial Measures" section below.

18
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Use of Non-GAAP Financial Measures

The ratios “tangible common equity to tangible assets” and “tangible common equity to risk-weighted assets” are Non-GAAP financial measures. The Company believes these measurements are useful for investors, regulators, management and others to evaluate capital adequacy relative to other financial institutions. Although these Non-GAAP financial measures are frequently used by stakeholders in the evaluation of a company, they have limitations as analytical tools, and should not be considered in isolation, or as a substitute for analyses of results as reported under GAAP. The following table provides a reconciliation of these Non-GAAP financial measures with their most closely related GAAP measures.

GAAP to Non-GAAP Reconciliation
 
 
December 31,
(dollars in thousands)
 
2015

 
2014

 
2013

 
2012

 
2011

Total Shareholders' Equity
 
$
1,116,260

 
$
1,055,086

 
$
1,011,976

 
$
1,021,665

 
$
1,002,667

Less: Goodwill
 
31,517

 
31,517

 
31,517

 
31,517

 
31,517

Intangible Assets
 
—

 
—

 
—

 
33

 
83

Tangible Common Equity
 
$
1,084,743

 
$
1,023,569

 
$
980,459

 
$
990,115

 
$
971,067

 
 
 
 
 
 
 
 
 
 
 
Total Assets
 
$
15,455,016

 
$
14,787,208

 
$
14,084,280

 
$
13,728,372

 
$
13,846,391

Less: Goodwill
 
31,517

 
31,517

 
31,517

 
31,517

 
31,517

Intangible Assets
 
—

 
—

 
—

 
33

 
83

Tangible Assets
 
$
15,423,499

 
$
14,755,691

 
$
14,052,763

 
$
13,696,822

 
$
13,814,791

Risk-Weighted Assets, determined in accordance with prescribed regulatory requirements 1
 
$
7,962,484

 
$
7,077,035

 
$
6,258,143

 
$
5,671,774

 
$
5,345,740

 
 
 
 
 
 
 
 
 
 
 
Total Shareholders' Equity to Total Assets
 
7.22
%
 
7.14
%
 
7.19
%
 
7.44
%
 
7.24
%
Tangible Common Equity to
Tangible Assets (Non-GAAP)
 
7.03
%
 
6.94
%
 
6.98
%
 
7.23
%
 
7.03
%
 
 
 
 
 
 
 
 
 
 
 
Tier 1 Capital Ratio 1
 
13.97
%
 
14.69
%
 
16.05
%
 
17.18
%
 
17.90
%
Tangible Common Equity to
Risk-Weighted Assets (Non-GAAP) 1
 
13.62
%
 
14.46
%
 
15.67
%
 
17.46
%
 
18.17
%
1 December 31, 2015 calculated under Basel III rules, which became effective January 1, 2015.


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Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

This report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements can be identified by the fact that they do not relate strictly to historical or current facts and may include statements concerning, among other things, the anticipated economic and business environment in our service area and elsewhere, credit quality and other financial and business matters in future periods, our future results of operations and financial position, our business strategy and plans and our objectives and future operations. We also may make forward-looking statements in our other documents filed or furnished with the Securities and Exchange Commission. In addition, our senior management may make forward-looking statements orally to analysts, investors, representatives of the media and others. Our forward-looking statements are based on numerous assumptions, any of which could prove to be inaccurate and actual results may differ materially from those projected because of a variety of risks and uncertainties, including, but not limited to: 1) general economic conditions either nationally, internationally, or locally may be different than expected, and particularly, any event that negatively impacts the tourism industry in Hawaii; 2) unanticipated changes in the securities markets, public debt markets, and other capital markets in the U.S. and internationally; 3) competitive pressures in the markets for financial services and products; 4) the impact of legislative and regulatory initiatives, particularly the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the "Dodd-Frank Act"); 5) changes in fiscal and monetary policies of the markets in which we operate; 6) the increased cost of maintaining or the Company's ability to maintain adequate liquidity and capital, based on the requirements adopted by the Basel Committee on Banking Supervision and U.S. regulators; 7) actual or alleged conduct which could harm our reputation; 8) changes in accounting standards; 9) changes in tax laws or regulations or the interpretation of such laws and regulations; 10) changes in our credit quality or risk profile that may increase or decrease the required level of our reserve for credit losses; 11) changes in market interest rates that may affect credit markets and our ability to maintain our net interest margin; 12) the impact of litigation and regulatory investigations of the Company, including costs, expenses, settlements, and judgments; 13) any failure in or breach of our operational systems, information systems or infrastructure, or those of our merchants, third party vendors and other service providers; 14) any interruption or breach of security of our information systems resulting in failures or disruptions in customer account management, general ledger processing, and loan or deposit systems; 15) changes to the amount and timing of proposed common stock repurchases; and 16) natural disasters, public unrest or adverse weather, public health, and other conditions impacting us and our customers' operations. Given these risks and uncertainties, investors should not place undue reliance on forward-looking statements as a prediction of actual results. 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 is included under the section entitled "Risk Factors" in Part I of this report. Words such as "believes," "anticipates," "expects," "intends," "targeted," and similar expressions are intended to identify forward-looking statements but are not exclusive means of identifying such statements. We undertake no obligation to update forward-looking statements to reflect later events or circumstances, except as may be required by law.

Critical Accounting Policies

Our Consolidated Financial Statements were prepared in accordance with U.S. generally accepted accounting principles ("GAAP") and follow general practices within the industries in which we operate. The most significant accounting policies we follow are presented in Note 1 to the Consolidated Financial Statements. Application of these principles requires us to make estimates, assumptions, and judgments that affect the amounts reported in the Consolidated Financial Statements and accompanying notes. Most accounting policies are not considered by management to be critical accounting policies. Several factors are considered in determining whether or not a policy is critical in the preparation of the Consolidated Financial Statements. These factors include among other things, whether the policy requires management to make difficult, subjective, and complex judgments about matters that are inherently uncertain and because it is likely that materially different amounts would be reported under different conditions or using different assumptions. The accounting policies which we believe to be most critical in preparing our Consolidated Financial Statements are those that are related to the determination of the reserve for credit losses, fair value estimates, leased asset residual values, and income taxes.

Reserve for Credit Losses

A consequence of lending activities is that we may incur credit losses. The amount of such losses will vary depending upon the risk characteristics of the loan and lease portfolio as affected by economic conditions such as rising interest rates and the financial performance of borrowers. The reserve for credit losses consists of the allowance for loan and lease losses (the "Allowance") and a reserve for unfunded commitments (the "Unfunded Reserve"). The Allowance provides for probable and estimable losses

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inherent in our loan and lease portfolio. The Allowance is increased or decreased through the provisioning process. There is no exact method of predicting specific losses or amounts that ultimately may be charged-off on particular segments of the loan and lease portfolio. The Unfunded Reserve is a component of other liabilities and represents the estimate for probable credit losses inherent in unfunded commitments to extend credit. The level of the Unfunded Reserve is adjusted by recording an expense or recovery in other noninterest expense.

Management's evaluation of the adequacy of the reserve for credit losses is often the most critical of accounting estimates for a financial institution. Our determination of the amount of the reserve for credit losses is a critical accounting estimate as it requires significant reliance on the accuracy of credit risk ratings on individual borrowers, the use of estimates and significant judgment as to the amount and timing of expected future cash flows on impaired loans, significant reliance on estimated loss rates on homogenous portfolios, and consideration of our quantitative and qualitative evaluation of economic factors and trends. While our methodology in establishing the reserve for credit losses attributes portions of the Allowance and Unfunded Reserve to the commercial and consumer portfolio segments, the entire Allowance and Unfunded Reserve is available to absorb credit losses inherent in the total loan and lease portfolio and total amount of unfunded credit commitments, respectively.

The reserve for credit losses related to our commercial portfolio segment is generally most sensitive to the accuracy of credit risk ratings assigned to each borrower. Commercial loan risk ratings are evaluated based on each situation by experienced senior credit officers and are subject to periodic review by an independent internal team of credit specialists. The reserve for credit losses related to our consumer portfolio segment is generally most sensitive to economic assumptions and delinquency trends. The reserve for credit losses attributable to each portfolio segment also includes an amount for inherent risks not reflected in the historical analyses. Relevant factors include, but are not limited to, concentrations of credit risk (geographic, large borrower, and industry), economic trends and conditions, changes in underwriting standards, experience and depth of lending staff, trends in delinquencies, and the level of criticized and classified loans.

See Note 4 to the Consolidated Financial Statements and the "Corporate Risk Profile – Credit Risk" section in Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") for more information on the Allowance and the Unfunded Reserve.

Fair Value Measurements

Fair value is the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for an asset or liability in an orderly transaction between market participants at the measurement date. The degree of management judgment involved in determining the fair value of a financial instrument is dependent upon the availability of quoted market prices or observable market inputs. For financial instruments that are traded actively and have quoted market prices or observable market inputs, there is minimal subjectivity involved in measuring fair value. However, when quoted market prices or observable market inputs are not fully available, significant management judgment may be necessary to estimate fair value. In developing our fair value measurements, we maximize the use of observable inputs and minimize the use of unobservable inputs.

The fair value hierarchy defines Level 1 valuations as those based on quoted prices, unadjusted, for identical instruments traded in active markets. Level 2 valuations are those based on quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, or model-based valuation techniques for which all significant assumptions are observable in the market. Level 3 valuations are based on model-based techniques that use at least one significant assumption not observable in the market, or significant management judgment or estimation, some of which may be internally developed.

Financial assets that are recorded at fair value on a recurring basis include available-for-sale investment securities, loans held for sale, mortgage servicing rights, investments related to deferred compensation arrangements, and derivative financial instruments. As of December 31, 2015 and 2014, $2.3 billion or 15% and $2.3 billion or 16%, respectively, of our total assets consisted of financial assets recorded at fair value on a recurring basis and most of these financial assets consisted of available-for-sale investment securities measured using information from a third-party pricing service. These investments in debt securities and mortgage-backed securities were all classified in either Levels 1 or 2 of the fair value hierarchy. Financial liabilities that are recorded at fair value on a recurring basis are comprised of derivative financial instruments. As of December 31, 2015 and 2014, $13.6 million and $16.8 million, respectively, or less than 1% of our total liabilities consisted of financial liabilities recorded at fair value on a recurring basis. As of December 31, 2015 and 2014, Level 3 financial assets recorded at fair value on a recurring basis were $15.8 million and $19.0 million, respectively, or less than 1% of our total assets, and were comprised of mortgage servicing rights and derivative financial instruments. As of December 31, 2015 and 2014, Level 3 financial liabilities recorded at

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fair value on a recurring basis were $13.6 million and $16.3 million, respectively, or less than 1% of our total liabilities, and were comprised of derivative financial instruments.

Our third-party pricing service makes no representations or warranties that the pricing data provided to us is complete or free from errors, omissions, or defects. As a result, we have processes in place to monitor and periodically review the information provided to us by our third-party pricing service such as: 1) Our third-party pricing service provides us with documentation by asset class of inputs and methodologies used to value securities. We review this documentation to evaluate the inputs and valuation methodologies used to place securities into the appropriate level of the fair value hierarchy. This documentation is periodically updated by our third-party pricing service. Accordingly, transfers of securities within the fair value hierarchy are made if deemed necessary. 2) On a quarterly basis, management reviews the pricing information received from our third-party pricing service. This review process includes a comparison to non-binding third-party broker quotes, as well as a review of market-related conditions impacting the information provided by our third-party pricing service. We also identify investment securities which may have traded in illiquid or inactive markets by identifying instances of a significant decrease in the volume or frequency of trades relative to historic levels, as well as instances of a significant widening of the bid-ask spread in the brokered markets. As of December 31, 2015 and 2014, management did not make adjustments to prices provided by our third-party pricing service as a result of illiquid or inactive markets. 3) On a quarterly basis, management also selects a sample of securities priced by the Company's third-party pricing service and reviews the significant assumptions and valuation methodologies used by the pricing service with respect to those securities. Based on this review, management determines whether the current placement of the security in the fair value hierarchy is appropriate or whether transfers may be warranted. 4) On an annual basis, to the extent available, we obtain and review independent auditor's reports from our third-party pricing service related to controls placed in operation and tests of operating effectiveness. We did not note any significant control deficiencies in our review of the independent auditor's reports related to services rendered by our third-party pricing service. 5) Our third-party pricing service has also established processes for us to submit inquiries regarding quoted prices. Periodically, we will challenge the quoted prices provided by our third-party pricing service. Our third-party pricing service will review the inputs to the evaluation in light of the new market data presented by us. Our third-party pricing service may then affirm the original quoted price or may update the evaluation on a going forward basis.

Based on the composition of our investment securities portfolio, we believe that we have developed appropriate internal controls and performed appropriate due diligence procedures to prevent or detect material misstatements. See Note 21 to the Consolidated Financial Statements for more information on our fair value measurements.

Leased Asset Residual Values

Lease financing receivables include a residual value component, which represents the estimated value of leased assets upon lease expiration. Our determination of residual value is derived from a variety of sources, including equipment valuation services, appraisals, and publicly available market data on recent sales transactions for similar equipment. The length of time until lease termination, the cyclical nature of equipment values, and the limited marketplace for re-sale of certain leased assets, are important variables considered in making this determination. We update our valuation analysis on an annual basis, or more frequently as warranted by events or circumstances. When we determine that the fair value is lower than the expected residual value at lease expiration, the difference is recognized as an asset impairment in the period in which the analysis is completed.

Income Taxes

We determine our liabilities for income taxes based on current tax regulation and interpretations in tax jurisdictions where our income is subject to taxation. Currently, we file tax returns in seven federal, state and local domestic jurisdictions, and four foreign jurisdictions. In estimating income taxes payable or receivable, we assess the relative merits and risks of the appropriate tax treatment considering statutory, judicial, and regulatory guidance in the context of each tax position. Accordingly, previously estimated liabilities are regularly reevaluated and adjusted through the provision for income taxes. Changes in the estimate of income taxes payable or receivable occur periodically due to changes in tax rates, interpretations of tax law, the status of examinations being conducted by various taxing authorities, and newly enacted statutory, judicial and regulatory guidance that impact the relative merits and risks of each tax position. These changes, when they occur, may affect the provision for income taxes as well as current and deferred income taxes, and may be significant to our statements of income and condition.

Management's determination of the realization of net deferred tax assets is based upon management's judgment of various future events and uncertainties, including the timing and amount of future income, as well as the implementation of various tax planning strategies to maximize realization of the deferred tax assets. A valuation allowance is provided when it is more likely than not that some portion of the deferred tax asset will not be realized. As of December 31, 2015 and 2014, we carried a valuation

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allowance of $3.9 million and $4.7 million, respectively, related to our deferred tax assets established in connection with our low-income housing investments.

We are also required to record a liability, referred to as an unrecognized tax benefit ("UTB"), for the entire amount of benefit taken in a prior or future income tax return when we determine that a tax position has a less than 50% likelihood of being accepted by the taxing authority. As of December 31, 2015 and 2014, our liabilities for UTBs were $11.6 million and $12.2 million, respectively. See Note 16 to the Consolidated Financial Statements for more information on income taxes.

In 2015, the Company recognized federal and State of Hawaii investment tax credits from energy investments. The Company uses the deferral method of accounting for its investment tax credit with the benefit recognized in the provision for income taxes. These credits reduced the Company's provision for income taxes by $3.5 million in 2015.


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Overview
 
We are a regional financial services company serving businesses, consumers, and governments in Hawaii, Guam, and other Pacific Islands. Our principal operating subsidiary, the Bank, was founded in 1897 and is the largest independent financial institution in Hawaii.

Our business strategy is to use our unique market knowledge, prudent management discipline and brand strength to deliver exceptional value to our stakeholders. Our business plan is balanced between growth and risk management while maintaining flexibility to adjust to economic changes. We will continue to focus on providing customers with best in class service and an innovative mix of products and services.  We will also remain focused on continuing to deliver strong financial results while maintaining prudent risk and capital management strategies as well as our commitment to support our local communities.

Hawaii Economy

General economic conditions in Hawaii remained healthy during 2015, led by a strong tourism industry, relatively low unemployment, rising real estate prices, and an active construction industry.  Total visitor arrivals increased 4.1% and visitor spending increased 2.3% during 2015 compared to 2014. The statewide seasonally-adjusted unemployment rate was 3.2% in December 2015 compared to 5.0% nationally.  The volume of single-family home sales on Oahu increased 5.2% in 2015 compared to 2014, while the volume of condominium sales on Oahu increased 4.5% in 2015 compared to 2014.  The median price of single-family home sales and condominium sales on Oahu increased 3.7% and 2.9%, respectively, in 2015 compared to 2014. As of December 31, 2015, months of inventory of single-family homes and condominiums on Oahu remained low at approximately 2.6 months and 2.9 months, respectively.

Oahu’s industrial property vacancy rate reached a new historic low of 1.7% at year-end 2015 compared to 2.1% a year earlier.  Industrial space listings concurrently fell to their lowest level in nine years at 163 versus 199 a year ago.  Oahu’s retail vacancy rate increased to 5.1% in 2015 from 4.1% in 2014 primarily due to a major expansion of a Honolulu shopping center which contributed approximately 650,000 square feet in additional space to the market in late 2015, of which approximately 400,000 square feet was leased in 2015.  Oahu’s office market vacancy rate declined to 12.7% at year-end 2015 compared to 13.2% a year earlier reflecting net absorption of 37,935 square feet of office space.

Earnings Summary

Net income for 2015 was $160.7 million, a decrease of $2.3 million or 1% compared to 2014. Diluted earnings per share were $3.70 in 2015, an increase of $0.01 or less than 1% compared to 2014. Our return on average assets was 1.06% in 2015, a decrease of 8 basis points from 2014, and our return on average shareholders' equity was 14.82% in 2015, a decrease of 68 basis points from 2014.

Our lower net income in 2015 was primarily due to the following:

•
Other noninterest expense was $71.0 million in 2015, an increase of $15.6 million or 28% compared to 2014. This increase was primarily due to a $9.5 million impairment charge recorded in the third quarter of 2015 on six aircraft which were previously on lease agreements. Insurance expense increased by $2.2 million primarily due to a reserve reduction in the fourth quarter of 2014. In addition, we increased our investment in solar energy tax credit partnerships, which caused the related amortization expense to increase from $1.2 million in 2014 to $2.4 million in 2015. However, the federal and state tax benefits related to these partnership investments totaled $3.3 million in 2015, resulting in a $0.9 million net benefit to overall net income. The tax benefits are recorded as a reduction to income tax expense.

•
Salaries and benefits expense was $192.0 million in 2015, an increase of $8.9 million or 5% compared to 2014 due in part to a $2.9 million increase in separation expense. Commission expense increased by $1.7 million primarily due to an increase in both loan origination and refinance activity. In addition, share-based compensation and incentive compensation increased by $1.6 million and $1.2 million, respectively.

•
We recorded a $1.0 million provision for credit losses in 2015 compared to a $4.9 million negative provision recorded in 2014. The negative provision in 2014 reflected the strength of our credit risk profile, several large commercial loan recoveries in 2014, combined with a reduction in the specific reserve related to one commercial client during the third quarter of 2014.


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These items were partially offset by the following:

•
Net interest income was $394.1 million in 2015, an increase of $14.4 million or 4% compared to 2014. This increase was primarily due to a higher level of earning assets. Average earning assets increased by $771.0 million in 2015 compared to 2014. Earning assets increased primarily due to increased deposits. Deposits grew by $618.0 million in 2015 compared to 2014. Our net interest margin was 2.81% in 2015, a decrease of 4 basis points compared to 2014. The lower margin in 2015 was primarily due to lower yields in our investment securities and loans, reflective of the continued low interest rate environment.

•
Net occupancy expense was $30.2 million in 2015, a decrease of $7.1 million or 19% compared to 2014. This decrease was primarily due to a $4.1 million gain on the sale of a Honolulu branch property in the fourth quarter of 2015 and a $1.7 million gain on the sale of two real estate properties in Guam in the third quarter of 2015.

•
Mortgage banking income was $11.6 million in 2015, an increase of $4.0 million or 53% compared to 2014. This increase was primarily due to our decision to sell more conforming saleable loans from current production and our mortgage loan portfolio, which generated gains on sales of residential mortgage loans.

•
Net gains on sales of investment securities totaled $10.2 million in 2015 primarily due to a $10.1 million gain on the sale of 95,000 Visa Class B restricted shares during the first quarter of 2015. Net gains on sales of investment securities totaled $8.1 million in 2014 primarily due to a $7.9 million gain on the sale of 90,500 Visa Class B restricted shares. We also contributed to the Bank of Hawaii Foundation 13,800 and 21,600 Visa Class B shares during 2015 and 2014, respectively. These contributions had no impact on noninterest expense; however, these contributions favorably impacted our effective tax rate.

We maintained a strong balance sheet throughout 2015, with adequate reserves for credit losses, and high levels of liquidity and capital.

•
Total loans and leases were $7.9 billion as of December 31, 2015, an increase of $981.4 million or 14% from December 31, 2014 primarily due to growth in both our commercial and consumer lending portfolios.

•
The allowance for loan and lease losses (the "Allowance") was $102.9 million as of December 31, 2015, a decrease of $5.8 million or 5% from December 31, 2014. The ratio of our Allowance to total loans and leases outstanding decreased to 1.31% as of December 31, 2015, compared to 1.58% as of December 31, 2014. This decrease was commensurate with the Company's credit risk profile, loan portfolio growth and composition, and a healthy Hawaii economy.

•
The total carrying value of our investment securities portfolio was $6.2 billion as of December 31, 2015, a decrease of $516.3 million or 8% from December 31, 2014. In 2015, we continued to reduce our positions in mortgage-backed securities issued by Ginnie Mae. We re-invested these proceeds primarily into higher-yielding loan products. In addition, we increased our holdings in Fannie Mae and Freddie Mac mortgage-backed securities as well as Small Business Administration debt securities.
  
•
Total deposits were $13.3 billion as of December 31, 2015, an increase of $618.0 million or 5% from December 31, 2014 primarily due to higher commercial and consumer core deposits.

•
Total shareholders' equity was $1.1 billion as of December 31, 2015, an increase of $61.2 million or 6% from December 31, 2014. We continued to return capital to our shareholders in the form of share repurchases and dividends. During 2015, we repurchased 843,959 shares of common stock at a total cost of $53.0 million under our share repurchase program and from employees and/or directors in connection with income tax withholdings related to the vesting of restricted stock, shares purchased for a deferred compensation plan, and stock swaps, less shares distributed from the deferred compensation plan. We also paid cash dividends of $78.4 million during 2015.

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Analysis of Statements of Income

Average balances, related income and expenses, and resulting yields and rates are presented in Table 1. An analysis of the change in net interest income, on a taxable-equivalent basis, is presented in Table 2.
Average Balances and Interest Rates – Taxable-Equivalent Basis
 
 
 
 
 
Table 1
 
 
2015
 
2014
 
2013
 
(dollars in millions)
 
Average 
Balance

 
Income/ 
Expense

 
Yield/
Rate
 
Average
Balance

 
Income/
Expense

 
Yield/
Rate
 
Average 
Balance

 
Income/ 
Expense

 
Yield/
Rate
 
Earning Assets
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest-Bearing Deposits in Other Banks
 
$
3.4

 
$
—

 
0.22
%
$
4.3

 
$
—

 
0.21
%
$
4.0

 
$
—

 
0.26
%
Funds Sold
 
483.1

 
1.1

 
0.23
 
316.2

 
0.7

 
0.21
 
221.2

 
0.4

 
0.19
 
Investment Securities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Available-for-Sale
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   Taxable
 
1,554.2

 
26.6

 
1.71
 
1,536.5

 
27.7

 
1.80
 
2,138.3

 
38.7

 
1.81
 
   Non-Taxable
 
721.7

 
22.9

 
3.18
 
699.6

 
22.7

 
3.24
 
684.2

 
22.9

 
3.35
 
Held-to-Maturity
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
   Taxable
 
3,981.2

 
83.3

 
2.09
 
4,412.5

 
99.4

 
2.25
 
3,955.8

 
86.7

 
2.19
 
   Non-Taxable
 
247.8

 
9.8

 
3.93
 
251.3

 
10.0

 
3.95
 
130.8

 
5.1

 
3.94
 
Total Investment Securities
 
6,504.9

 
142.6

 
2.19
 
6,899.9

 
159.8

 
2.32
 
6,909.1

 
153.4

 
2.22
 
Loans Held for Sale
 
8.7

 
0.3

 
3.83
 
3.2

 
0.1

 
4.31
 
16.4

 
0.7

 
4.18
 
Loans and Leases 1
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial and Industrial
 
1,152.3

 
36.6

 
3.18
 
970.3

 
33.3

 
3.43
 
865.8

 
30.9

 
3.57
 
Commercial Mortgage
 
1,543.5

 
58.5

 
3.79
 
1,331.5

 
52.5

 
3.94
 
1,152.9

 
46.9

 
4.06
 
Construction
 
123.9

 
5.9

 
4.79
 
109.4

 
4.8

 
4.40
 
114.6

 
5.4

 
4.75
 
Commercial Lease Financing
 
217.8

 
7.5

 
3.46
 
237.6

 
7.0

 
2.96
 
261.6

 
6.0

 
2.31
 
Residential Mortgage
 
2,774.7

 
113.9

 
4.10
 
2,377.9

 
101.6

 
4.27
 
2,275.8

 
101.7

 
4.47
 
Home Equity
 
944.0

 
34.2

 
3.63
 
815.6

 
31.9

 
3.91
 
761.5

 
31.4

 
4.12
 
Automobile
 
352.3

 
18.4

 
5.21
 
288.8

 
15.4

 
5.32
 
232.3

 
12.7

 
5.48
 
Other 2
 
315.1

 
23.7

 
7.51
 
274.3

 
20.8

 
7.58
 
219.2

 
18.0

 
8.21
 
Total Loans and Leases
 
7,423.6

 
298.7

 
4.02
 
6,405.4

 
267.3

 
4.17
 
5,883.7

 
253.0

 
4.30
 
Other
 
49.0

 
1.3

 
2.67
 
72.7

 
1.2

 
1.66
 
78.3

 
1.2

 
1.50
 
Total Earning Assets 3
 
14,472.7

 
444.0

 
3.07
 
13,701.7


429.1

 
3.13
 
13,112.7


408.7

 
3.12
 
Cash and Due from Banks
 
130.0

 
 
 
 
 
143.4

 
 
 
 
 
138.9

 
 
 
 
 
Other Assets
 
533.8

 
 
 
 
 
472.4

 
 
 
 
 
440.5

 
 
 
 
 
Total Assets
 
$
15,136.5

 
 
 
 
 
$
14,317.5

 
 
 
 
 
$
13,692.1

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest-Bearing Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest-Bearing Deposits
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Demand
 
$
2,616.4

 
$
0.8

 
0.03
%
$
2,390.8

 
$
0.7

 
0.03
%
$
2,140.5

 
$
0.6

 
0.03
%
Savings
 
5,015.6

 
4.4

 
0.09
 
4,592.6

 
3.9

 
0.09
 
4,461.4

 
3.9

 
0.09
 
Time
 
1,252.9

 
4.4

 
0.35
 
1,450.3

 
4.9

 
0.34
 
1,406.2

 
5.6

 
0.40
 
Total Interest-Bearing Deposits
 
8,884.9

 
9.6

 
0.11
 
8,433.7

 
9.5

 
0.11
 
8,008.1

 
10.1

 
0.13
 
Short-Term Borrowings
 
8.4

 
—

 
0.15
 
9.3

 
—

 
0.14
 
31.7

 
—

 
0.15
 
Securities Sold Under
       Agreements to Repurchase
 
655.9

 
25.4

 
3.87
 
747.9

 
25.9

 
3.46
 
809.4

 
26.9

 
3.32
 
Other Debt
 
219.7

 
3.0

 
1.37
 
174.4

 
2.6

 
1.45
 
171.0

 
2.6

 
1.50
 
Total Interest-Bearing Liabilities
 
9,768.9

 
38.0

 
0.39
 
9,365.3

 
38.0

 
0.41
 
9,020.2

 
39.6

 
0.44
 
Net Interest Income
 
 
 
$
406.0

 
 
 
 
 
$
391.1

 
 
 
 
 
$
369.1

 
 
 
Interest Rate Spread
 
 
 
 
 
2.68
%
 
 
 
 
2.72
%
 
 
 
 
2.68
%
Net Interest Margin
 
 
 
 
 
2.81
%
 
 
 
 
2.85
%
 
 
 
 
2.81
%
Noninterest-Bearing Demand Deposits
 
4,040.3

 
 
 
 
 
3,688.4

 
 
 
 
 
3,388.7

 
 
 
 
 
Other Liabilities
 
243.2

 
 
 
 
 
211.6

 
 
 
 
 
264.9

 
 
 
 
 
Shareholders' Equity
 
1,084.1

 
 
 
 
 
1,052.2

 
 
 
 
 
1,018.3

 
 
 
 
 
Total Liabilities and Shareholders'
Equity
 
$
15,136.5

 
 
 
 
 
$
14,317.5

 
 
 
 
 
$
13,692.1

 
 
 
 
 

1 
Non-performing loans and leases are included in the respective average loan and lease balances. Income, if any, on such loans and leases is recognized on a cash basis.
2 
Comprised of other consumer revolving credit, installment, and consumer lease financing.
3 
Interest income includes taxable-equivalent basis adjustments, based upon a federal statutory tax rate of 35%, of $ 11.9 million for 2015, $11.5 million for 2014, and $10.2 million for 2013.


26
Table of Contents


Analysis of Change in Net Interest Income – Taxable-Equivalent Basis
 
 
 
Table 2
 
 
 
Year Ended December 31,
2015 Compared to 2014
 
Year Ended December 31,
2014 Compared to 2013
(dollars in millions)
 
Volume 1

 
Rate 1

 
Total

 
Volume 1

 
Rate 1

 
Total

Change in Interest Income:
 
 
 
 
 
 
 
 
 
 
 
 
Funds Sold
 
$
0.3

 
$
0.1

 
$
0.4

 
$
0.2

 
$
0.1

 
$
0.3

Investment Securities
 
 
 
 
 
 
 
 
 
 
 
 
Available-for-Sale
 
 
 
 
 
 
 
 
 
 
 
 
   Taxable
 
0.3

 
(1.4
)
 
(1.1
)
 
(10.9
)
 
(0.1
)
 
(11.0
)
   Non-Taxable
 
0.7

 
(0.5
)
 
0.2

 
0.6

 
(0.8
)
 
(0.2
)
Held-to-Maturity
 
 
 
 
 
 
 
 
 
 
 
 
   Taxable
 
(9.3
)
 
(6.8
)
 
(16.1
)
 
10.2

 
2.5

 
12.7

        Non-Taxable
 
(0.1
)
 
(0.1
)
 
(0.2
)
 
4.9

 
—

 
4.9

Total Investment Securities
 
(8.4
)
 
(8.8
)
 
(17.2
)
 
4.8

 
1.6

 
6.4

Loans Held for Sale
 
0.2

 
—

 
0.2

 
(0.6
)
 
—

 
(0.6
)
Loans and Leases
 
 
 
 
 
 
 
 
 
 
 
 
Commercial and Industrial
 
5.9

 
(2.6
)
 
3.3

 
3.6

 
(1.2
)
 
2.4

Commercial Mortgage
 
8.1

 
(2.1
)
 
6.0

 
7.0

 
(1.4
)
 
5.6

Construction
 
0.7

 
0.4

 
1.1

 
(0.2
)
 
(0.4
)
 
(0.6
)
Commercial Lease Financing
 
(0.6
)
 
1.1

 
0.5

 
(0.6
)
 
1.6

 
1.0

Residential Mortgage
 
16.5

 
(4.2
)
 
12.3

 
4.4

 
(4.5
)
 
(0.1
)
Home Equity
 
4.7

 
(2.4
)
 
2.3

 
2.2

 
(1.7
)
 
0.5

Automobile
 
3.3

 
(0.3
)
 
3.0

 
3.0

 
(0.3
)
 
2.7

Other 2
 
3.1

 
(0.2
)
 
2.9

 
4.3

 
(1.5
)
 
2.8

Total Loans and Leases
 
41.7

 
(10.3
)
 
31.4

 
23.7

 
(9.4
)
 
14.3

Other
 
(0.5
)
 
0.6

 
0.1

 
(0.1
)
 
0.1

 
—

Total Change in Interest Income
 
33.3

 
(18.4
)
 
14.9

 
28.0

 
(7.6
)
 
20.4

 
 
 
 
 
 
 
 
 
 
 
 
 
Change in Interest Expense:
 
 
 
 
 
 
 
 
 
 
 
 
Interest-Bearing Deposits
 
 
 
 
 
 
 
 
 
 
 
 
Demand
 
0.1

 
—

 
0.1

 
0.1

 
—

 
0.1

Savings
 
0.4

 
0.1

 
0.5

 
0.1

 
(0.1
)
 
—

Time
 
(0.7
)
 
0.2

 
(0.5
)
 
0.2

 
(0.9
)
 
(0.7
)
Total Interest-Bearing Deposits
 
(0.2
)
 
0.3

 
0.1

 
0.4

 
(1.0
)
 
(0.6
)
Securities Sold Under Agreements to Repurchase
 
(3.3
)
 
2.8

 
(0.5
)
 
(2.1
)
 
1.1

 
(1.0
)
Other Debt
 
0.5

 
(0.1
)
 
0.4

 
0.1

 
(0.1
)
 
—

Total Change in Interest Expense
 
(3.0
)
 
3.0

 
—

 
(1.6
)
 
—

 
(1.6
)
Change in Net Interest Income
 
$
36.3

 
$
(21.4
)
 
$
14.9

 
$
29.6

 
$
(7.6
)
 
$
22.0

1     The change in interest income and expense not solely due to changes in volume or rate has been allocated on a pro-rata basis to the volume and rate columns.
2     Comprised of other consumer revolving credit, installment, and consumer lease financing.


27
Table of Contents


Net Interest Income

Net interest income is affected by the size and mix of our balance sheet components as well as the spread between interest earned on assets and interest paid on liabilities. Net interest margin is defined as net interest income, on a taxable-equivalent basis, as a percentage of average earning assets.
Net interest income was $394.1 million in 2015, an increase of $14.4 million or 4% compared to 2014. On a taxable-equivalent basis, net interest income was $406.0 million in 2015, an increase of $14.9 million or 4% compared to 2014. The increase in our net interest income was primarily due to a higher level of earning assets. Average earning assets increased by $771.0 million in 2015 compared to 2014. Earning assets increased primarily due to increased deposits. Deposits grew by $618.0 million in 2015 compared to 2014. Net interest margin was 2.81% in 2015, a four basis points decrease from 2014, primarily due to lower yields in our investment securities and loans, reflective of the continued low interest rate environment.
Yields on our earning assets decreased by six basis points in 2015 compared to 2014. Yields on our investment securities portfolio decreased by 13 basis points in 2015 compared to 2014 primarily due to reinvestment in lower yielding securities due to the low interest rate environment, partially offset by lower premium amortization. Yields on our loans and leases decreased by 15 basis points, with lower yields in nearly every loan category in 2015 compared to 2014 as a result of the low interest rate environment. Yields on our commercial and industrial portfolio declined by 25 basis points due in part to a large interest income recovery in the third quarter of 2014. Yields on our commercial mortgage portfolio declined by 15 basis points. Yields on our residential mortgage portfolio decreased by 17 basis points due to continued payoff activity of higher-rate mortgage loans and the addition to our portfolio of lower-rate mortgage loans. Partially offsetting the lower yields on our earning assets in 2015 compared to 2014 were slightly lower funding costs. The lower funding costs were offset by the higher rates paid on our securities sold under agreements to repurchase. Rates paid on our securities sold under agreements to repurchase increased by 41 basis points due to a decrease in repurchase agreements with local government entities which have relatively shorter terms at lower interest rates. The remaining balance in our repurchase agreements consists mainly of those with private entities which have relatively longer terms at higher interest rates.
Average balances of our earning assets increased by $771.0 million or 6% in 2015 compared to 2014 primarily due to an increase in deposits. Average balances of our loan and lease portfolio increased by $1.0 billion primarily due to higher average balances in our commercial and industrial, commercial mortgage, and residential mortgage portfolios. The average balance of our commercial and industrial loan portfolio increased by $182.0 million due to an increase in corporate demand for funding. The average balance of our commercial mortgage portfolio increased by $212.0 million due to increased demand from new and existing customers as the real estate market in Hawaii continued to improve. The average balance of our residential mortgage portfolio increased by $396.8 million primarily due to an increase in loan origination and refinance activity. Partially offsetting the increase in the average balances of our loan and lease portfolio was a $395.0 million decrease in the average balance of our total investment securities portfolio in 2015 compared to 2014 primarily due to the shift in the mix of our earning assets from investment securities to loans. In 2015, we continued to reduce our positions in mortgage-backed securities issued by Ginnie Mae and we increased our holdings in Fannie Mae and Freddie Mac mortgage-backed securities as well as Small Business Administration debt securities. However, Ginnie Mae mortgage-backed securities remained our largest investment type.
Average balances of our interest-bearing liabilities increased by $403.6 million or 4% in 2015 compared to 2014 primarily due to continued growth in our relationship checking and savings deposit products as well as growth in our business savings product, partially offset by decreases in our time deposits and repurchase agreements.
Net interest income was $379.7 million in 2014, an increase of $20.7 million or 6% compared to 2013. On a taxable-equivalent basis, net interest income was $391.1 million in 2014, an increase of $22.0 million or 6% compared to 2013. The increase in our net interest income was primarily due to growth in both our commercial and consumer lending portfolios. Net interest margin was 2.85% in 2014, a four basis points increase from 2013. The higher margin in 2014 was primarily due to our loans and leases, which generally have higher yields than investment securities, comprising a larger percentage of our earning assets compared to 2013. In addition, the yields on investment securities improved due in part to lower premium amortization.
Yields on our earning assets increased by one basis point in 2014 compared to 2013. Yields on our investment securities portfolio increased by 10 basis points in 2014 compared to 2013, due in part to lower premium amortization. The increase in the yields on our investment securities portfolio was partially offset by the lower yields in nearly every category of our loan and lease portfolio. Yields on our residential mortgage portfolio decreased by 20 basis points in 2014 compared to 2013 primarily due to continued payoff activity of higher rate mortgage loans and the addition to our portfolio of lower rate mortgage loans. Also contributing to the increase in our net interest margin in 2014 compared to 2013 were slightly lower funding costs due to marginally lower rates paid on our time deposits, partially offset by higher rates paid on our securities sold under agreements to repurchase. Rates of our securities sold under agreements to repurchase increased by 14 basis points primarily due to local

28
Table of Contents


government entities transferring much of their funds previously invested in short-term (and therefore low-yielding) repurchase agreements into public time deposits, leaving the balance in our repurchase agreements consisting mainly of those with private entities. These agreements with private entities have longer terms at relatively higher interest rates.
Average balances of our earning assets increased by $589.1 million or 4% in 2014 compared to 2013 primarily due to an increase in the average balances of our loan and lease portfolio. Average balances of our loans and leases increased by $521.7 million in 2014 compared to 2013 primarily due to growth in our commercial mortgage, commercial and industrial, and residential mortgage loan portfolios. The average balance of our commercial mortgage portfolio increased by $178.6 million primarily due to increased demand from new and existing customers as both investors and owner occupants looked to refinance and/or acquire new real estate assets, reflective of the strong Hawaii real estate market. The average balance of our commercial and industrial loan portfolio increased by $104.6 million due to an increase in corporate demand for funding from new and existing customers. The average balance of our residential mortgage loan portfolio increased by $102.0 million primarily due to our decision to add more conforming saleable loans to our portfolio and a decrease in payoffs resulting from lower refinancing activity. The average balance of our total investment securities portfolio remained relatively unchanged in 2014 compared to 2013. However, the composition of our portfolio changed slightly in 2014 as we reduced our positions in mortgage-backed securities issued by Ginnie Mae and re-invested these proceeds, in part, into mortgage-backed securities issued by Fannie Mae. However, Ginnie Mae mortgage-backed securities remained our largest investment type.
Average balances of our interest-bearing liabilities increased by $345.0 million or 4% in 2014 compared to 2013 primarily due to our efforts to grow our relationship checking and savings deposit products. Average time deposit balances also increased during the year, however this increase was primarily the result of local government entities transferring funds previously held in securities sold under agreements to repurchase.
Provision for Credit Losses

The provision for credit losses (the "Provision") reflects our judgment of the expense or benefit necessary to achieve the appropriate amount of the Allowance. We maintain the Allowance at levels adequate to cover our estimate of probable credit losses as of the end of the reporting period. The Allowance is determined through detailed quarterly analyses of our loan and lease portfolio. The Allowance is based on our loss experience and changes in the economic environment, as well as an ongoing assessment of our credit quality. We recorded a Provision of $1.0 million in 2015, a negative Provision of $4.9 million in 2014, and no Provision in 2013. For further discussion on the Allowance, see the "Corporate Risk Profile – Credit Risk" section in MD&A.


29
Table of Contents


Noninterest Income

Table 3 presents the major components of noninterest income for 2015, 2014, and 2013.
Noninterest Income
 
 
 
 
 
 
 
 
 
 
Table 3
 
 
Year Ended December 31,
 
Dollar Change
 
Percent Change
(dollars in thousands)
2015

 
2014

 
2013

 
2015
to 2014

 
2014
to 2013

 
2015
to 2014

 
2014
to 2013

Trust and Asset Management
$
47,685

 
$
47,798

 
$
47,932

 
$
(113
)
 
$
(134
)
 
—
 %
 
—
 %
Mortgage Banking
11,583

 
7,571

 
19,186

 
4,012

 
(11,615
)
 
53

 
(61
)
Service Charges on Deposit Accounts
34,072

 
35,669

 
37,124

 
(1,597
)
 
(1,455
)
 
(4
)
 
(4
)
Fees, Exchange, and Other Service Charges
53,353

 
53,401

 
50,469

 
(48
)
 
2,932

 
—

 
6

Investment Securities Gains, Net
10,160

 
8,063

 
—

 
2,097

 
8,063

 
26

 
n.m.

Annuity and Insurance
7,664

 
8,065

 
9,190

 
(401
)
 
(1,125
)
 
(5
)
 
(12
)
Bank-Owned Life Insurance
7,039

 
6,639

 
5,892

 
400

 
747

 
6

 
13

Other
14,663

 
12,811

 
16,430

 
1,852

 
(3,619
)
 
14

 
(22
)
Total Noninterest Income
$
186,219

 
$
180,017


$
186,223


$
6,202


$
(6,206
)
 
3
 %
 
(3
)%
n.m. - not meaningful.

Trust and asset management income is comprised of fees earned from the management and administration of trusts and other customer assets. These fees are largely based upon the market value of the assets that we manage and the fee rate charged to customers. Total trust assets under administration were $8.6 billion, $10.2 billion, and $10.4 billion as of December 31, 2015, 2014, and 2013, respectively. Trust and asset management income remained relatively unchanged in 2015 compared to 2014 as decreases in employee benefit trust fees ($1.0 million), agency fees ($0.5 million), and IRA fees ($0.4 million) were largely offset by a $0.9 million increase in special service fees, primarily termination fees. In addition, revocable and irrevocable trust fees increased by $0.9 million due to additional accounts. Trust and asset management income remained relatively unchanged in 2014 compared to 2013. Special service fees decreased by $0.7 million mainly due to two large trust termination fees recorded in 2013. This was partially offset by a $0.5 million increase in agency fees in 2014 primarily due to higher market values of assets under management.

Mortgage banking income is highly influenced by mortgage interest rates, the housing market, and the amount of saleable loans we sell from current production and from our portfolio.  Mortgage banking income increased by $4.0 million or 53% in 2015 compared to 2014. This increase was primarily due to our decision to sell more conforming saleable loans from current production and our mortgage loan portfolio which generated gains on sales of residential mortgage loans. Also contributing to the increase was higher mortgage application and production volume as refinancing activity increased. Mortgage banking income decreased by $11.6 million or 61% in 2014 compared to 2013. This decrease was primarily due to lower mortgage application and production volume as refinancing activity declined. Also contributing to the decrease was our decision to add more conforming saleable loans to our portfolio in 2014, which reduced our gains on sales of residential mortgage loans.

Service charges on deposit accounts decreased by $1.6 million or 4% in 2015 compared to 2014. This decrease was primarily due to a $1.4 million decrease in overdraft fees due in part to higher customer deposit balances and a decrease in customers opting in for debit card overdraft coverage. Service charges on deposit accounts decreased by $1.5 million or 4% in 2014 compared to 2013. This decrease was primarily due to a $0.8 million decrease in overdraft fees resulting mainly from Company policy changes as well as higher customer deposit balances. In addition, account analysis fees decreased by $0.5 million due to higher investable balances resulting in larger earnings credit rates granted to our customers.

Fees, exchange, and other service charges are primarily comprised of debit and credit card income, fees from ATMs, merchant service activity, and other loan fees and service charges. Fees, exchange, and other service charges remained relatively unchanged in 2015 compared to 2014 as decreases in other loan fees ($1.0 million), merchant income ($0.5 million), and ATM fees ($0.4 million) were largely offset by a $1.8 million increase in commissions and fees related to growth in our credit card business. Fees, exchange, and other service charges increased by $2.9 million or 6% in 2014 compared to 2013. This increase was primarily due to a $3.5 million increase in commissions and fees related to growth in our credit card business. This increase was partially offset by a $0.5 million decrease in merchant income, particularly in Guam and American Samoa.

Net gains on sales of investment securities totaled $10.2 million in 2015 primarily due to a $10.1 million gain on the sale of 95,000 Visa Class B restricted shares during the first quarter of 2015. Net gains on sales of investment securities totaled $8.1 million in 2014 primarily due to a $7.9 million gain on the sale of 90,500 Visa Class B restricted shares. We received these Class

30
Table of Contents


B shares in 2008 as part of Visa's initial public offering. These shares are transferable only under limited circumstances until they can be converted into the publicly traded Class A shares. This conversion will not occur until the settlement of certain litigation which is indemnified by Visa members such as the Company. Visa funded an escrow account from its initial public offering to settle these litigation claims. Should this escrow account not be sufficient to cover these litigation claims, Visa is entitled to fund additional amounts to the escrow account by reducing each member bank's Class B conversion ratio to unrestricted Class A shares. Concurrent with the sale of these Visa Class B shares, we entered into an agreement with the buyer that requires payment to the buyer in the event Visa further reduces the conversion ratio. Based on the existing transfer restriction and the uncertainty of the covered litigation, the remaining 288,714 Visa Class B shares (475,887 Class A equivalent shares) that we own are carried at a zero cost basis. We also contributed to the Bank of Hawaii Foundation 13,800 and 21,600 Visa Class B shares during 2015 and 2014, respectively.

Annuity and insurance income decreased by $0.4 million or 5% in 2015 compared to 2014 primarily due to a $0.2 million decrease in sales of our annuity products. Annuity and insurance income decreased by $1.1 million or 12% in 2014 compared to 2013 primarily due to lower sales of our annuity products.

Bank-owned life insurance increased by $0.4 million or 6% in 2015 compared to 2014 primarily due to a death benefit received in the second quarter of 2015. Bank-owned life insurance increased by $0.7 million or 13% in 2014 compared to 2013.  This increase was primarily due to new policies in 2014.

Other noninterest income increased by $1.9 million or 14% in 2015 compared to 2014. This increase was primarily due to an additional $1.1 million in fees related to our customer interest rate swap derivative program, coupled with a $1.0 million distribution received from a low-income housing partnership. In addition, we recorded $0.7 million in fee revenue from our new investment advisory services product launched in September 2014. We also received a $0.5 million referral fee in 2015 related to the transition of various services provided to some institutional 401k plans. These increases were partially offset by a $1.0 million loss on the sale of an aircraft lease. Other noninterest income decreased by $3.6 million or 22% in 2014 compared to 2013. This decrease was primarily due to a $2.6 million decrease in gains on sales of leased assets resulting mainly from sales of equipment leases in 2013. In addition, mutual fund commissions decreased by $0.4 million due to reduced sales volume. We also recognized an additional $0.2 million in fees during 2013 related to our customer interest rate swap derivative program.


31
Table of Contents


Noninterest Expense

Table 4 presents the major components of noninterest expense for 2015, 2014, and 2013.
Noninterest Expense
 
 
 
 
 
 
 
 
 
 
Table 4
 
 
Year Ended December 31,
 
Dollar Change
 
Percent Change
(dollars in thousands)
2015

 
2014

 
2013

 
2015
to 2014

 
2014
to 2013

 
2015
to 2014

 
2014
to 2013

Salaries and Benefits:
 
 
 
 
 
 
 
 
 
 
 
 
 
Salaries
$
114,389

 
$
114,199

 
$
115,389

 
$
190

 
$
(1,190
)
 
—
 %
 
(1
)%
Incentive Compensation
18,667

 
17,471

 
16,568

 
1,196

 
903

 
7

 
5

Share-Based Compensation
10,390

 
8,808

 
4,932

 
1,582

 
3,876

 
18

 
79

Commission Expense
6,533

 
4,831

 
6,874

 
1,702

 
(2,043
)
 
35

 
(30
)
Retirement and Other Benefits
16,968

 
16,800

 
15,289

 
168

 
1,511

 
1

 
10

Payroll Taxes
10,095

 
9,916

 
11,242

 
179

 
(1,326
)
 
2

 
(12
)
Medical, Dental, and Life Insurance
11,580

 
10,555

 
9,431

 
1,025

 
1,124

 
10

 
12

Separation Expense
3,341

 
448

 
4,486

 
2,893

 
(4,038
)
 
646

 
(90
)
Total Salaries and Benefits
191,963

 
183,028


184,211

 
8,935

 
(1,183
)
 
5

 
(1
)
Net Occupancy
30,217

 
37,296

 
38,745

 
(7,079
)
 
(1,449
)
 
(19
)
 
(4
)
Net Equipment
20,162

 
18,479

 
18,366

 
1,683

 
113

 
9

 
1

Data Processing
16,472

 
14,979

 
13,840

 
1,493

 
1,139

 
10

 
8

Professional Fees
9,660

 
9,794

 
9,405

 
(134
)
 
389

 
(1
)
 
4

FDIC Insurance
8,669

 
7,936

 
7,765

 
733

 
171

 
9

 
2

Other Expense:
 
 
 
 
 
 


 


 


 


Delivery and Postage Services
9,025

 
8,764

 
8,423

 
261

 
341

 
3

 
4

Mileage Program Travel
4,753

 
5,615

 
6,190

 
(862
)
 
(575
)
 
(15
)
 
(9
)
Merchant Transaction and Card Processing Fees
4,608

 
4,372

 
4,569

 
236

 
(197
)
 
5

 
(4
)
Advertising
5,344

 
5,273

 
5,021

 
71

 
252

 
1

 
5

Amortization - Solar Energy Partnership Investments
2,370

 
1,209

 
4

 
1,161

 
1,205

 
96

 
n.m.

Other
44,861

 
30,154

 
34,430


14,707


(4,276
)
 
49

 
(12
)
Total Other Expense
70,961

 
55,387

 
58,637

 
15,574

 
(3,250
)
 
28

 
(6
)
Total Noninterest Expense
$
348,104

 
$
326,899


$
330,969


$
21,205


$
(4,070
)
 
6
 %
 
(1
)%
n.m. - not meaningful.

Total salaries and benefits increased by $8.9 million or 5% in 2015 compared to 2014 due in part to a $2.9 million increase in separation expense. Commission expense increased by $1.7 million primarily due to an increase in both loan origination and refinance activity. Share-based compensation increased by $1.6 million due to additional restricted stock units being amortized and the value of restricted stock units increasing as a result of the Company's higher share price. In addition, incentive compensation increased by $1.2 million and medical, dental, and life insurance increased by $1.0 million primarily due to higher medical claims in our self-insured plan. Total salaries and benefits decreased $1.2 million or 1% in 2014 compared to 2013. This decrease was primarily due to a $4.0 million decrease in separation expense. Commission expense decreased by $2.0 million primarily due to a reduction in mortgage banking production volume as refinancing activity declined. These decreases were partially offset by a $3.9 million increase in share-based compensation primarily due to an increase in the amortization expense related to restricted stock and an increase in restricted stock and restricted stock unit grants.

Net occupancy decreased by $7.1 million or 19% in 2015 compared to 2014. This decrease was primarily due to a $4.1 million gain on the sale of a Honolulu branch property in the fourth quarter of 2015 and a $1.7 million gain on the sale of two real estate properties in Guam in the third quarter of 2015. In addition, electricity rates declined due in part to lower oil prices. Net occupancy decreased by $1.4 million or 4% in 2014 compared to 2013. This decrease was primarily due to higher sublease revenue combined with lower rental expense.

Net equipment expense increased by $1.7 million or 9% in 2015 compared to 2014 primarily due to a $0.7 million increase in software license fees and maintenance. In addition, we incurred a $0.3 million loss on disposal of fixed assets primarily related to the closure of the aforementioned Honolulu branch. Depreciation expense also increased slightly during 2015. Net equipment expense remained relatively unchanged in 2014 compared to 2013.

Data processing expense increased by $1.5 million or 10% in 2015 compared to 2014 primarily due to the roll-out of EMV chip-enabled debit cards. Data processing expense increased by $1.1 million or 8% in 2014 compared to 2013 primarily due to fees related to additional services, including services for security enhancements related to our online banking service.

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Professional fees remained relatively unchanged in 2015 compared to 2014. Professional fees increased by $0.4 million or 4% in 2014 compared to 2013 primarily due to an increase in outside consulting services related mainly to compliance matters.

FDIC insurance increased by $0.7 million or 9% in 2015 compared to 2014 due in part to a credit adjustment received in the third quarter of 2014 and an increase in the assessment base. FDIC insurance remained relatively unchanged in 2014 compared to 2013.

Other noninterest expense increased by $15.6 million or 28% in 2015 compared to 2014. This increase was primarily due to a $9.5 million impairment charge recorded in the third quarter of 2015 on six aircraft. In 1997 and 1999, the Company became the lessor of these aircraft, the leases of which have now expired. The Company is in the process of disposing of these aircraft. Based on recent appraisals, market conditions, and management judgment, we determined that the net realizable value of these aircraft had been impaired. As we intend to sell these aircraft, the impairment charge reduced the carrying value of these aircraft to estimated fair value less cost to sell. Insurance expense increased by $2.2 million primarily due to a reserve reduction in the fourth quarter of 2014. In addition, we increased our investment in solar energy tax credit partnerships, which caused the related amortization expense to increase from $1.2 million in 2014 to $2.4 million in 2015. However, the federal and state tax benefits related to these partnership investments totaled $3.3 million in 2015, resulting in a $0.9 million net benefit to overall net income. The tax benefits are recorded as a reduction to income tax expense. Other noninterest expense decreased by $3.3 million or 6% in 2014 compared to 2013. Insurance expense decreased by $1.8 million primarily due to the aforementioned reserve reduction in the fourth quarter of 2014. Directors' fees decreased by $1.4 million as a result of fair value changes in their deferred compensation plan. Operating losses, which include losses as a result of bank error, fraud, items processing, or theft, decreased by $1.3 million. These decreases were partially offset by a $1.2 million increase in amortization expense related to our solar energy tax credit partnership investments.

Income Taxes

Table 5 presents our provision for income taxes and effective tax rates for 2015, 2014, and 2013:
Provision for Income Taxes and Effective Tax Rates
 
 
 
Table 5

(dollars in thousands)
Provision for Income Taxes
 
 
Effective Tax Rates

2015
 
$
70,498

 
30.49
%
2014
 
74,596

 
31.39
%
2013
 
63,659

 
29.73
%

The provision for income taxes was $70.5 million in 2015, a decrease of $4.1 million or 5% compared to 2014. The lower effective tax rate in 2015 compared to 2014 was primarily due to a $1.2 million release of a valuation allowance for the expected utilization of capital losses due to the sale of two low-income housing investments, $0.9 million in additional tax credits, and a $0.4 million release of reserve from uncertain tax positions.

The provision for income taxes was $74.6 million in 2014, an increase of $10.9 million or 17% compared to 2013. The higher effective tax rate in 2014 compared to 2013 was primarily due to higher pretax income compared to a fixed amount of tax credits and a higher level of reserve releases in 2013.

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Analysis of Business Segments

Our business segments are Retail Banking, Commercial Banking, Investment Services, and Treasury and Other. Table 6 summarizes net income from our business segments for 2015, 2014, and 2013. Additional information about segment performance is presented in Note 13 to the Consolidated Financial Statements.

Business Segment Net Income
 
 
 
 
Table 6

 
Year Ended December 31,
(dollars in thousands)
2015

 
2014

 
2013

Retail Banking
$
49,715

 
$
35,926

 
$
25,079

Commercial Banking
58,565

 
51,947

 
38,237

Investment Services
12,298

 
11,704

 
11,721

Total
120,578

 
99,577

 
75,037

Treasury and Other
40,126

 
63,465

 
75,465

Consolidated Total
$
160,704

 
$
163,042

 
$
150,502


Retail Banking

Net income increased by $13.8 million or 38% in 2015 compared to 2014 primarily due to increases in net interest income and noninterest income. This was partially offset by increases in the Provision and noninterest expense. The increase in net interest income was primarily due to higher volume in both the lending and deposit portfolios and partially due to the higher earnings credits on the segment’s deposit portfolio. The increase in noninterest income was primarily due to higher mortgage banking income due to our decision to sell more conforming saleable loans from current mortgage production and our mortgage portfolio which generated gains on sales of residential mortgage loans. Also contributing to the increase in mortgage banking income was higher mortgage application and production volume as refinancing activity increased. The increase in noninterest income was also due to higher commissions and fees income related to growth in our credit card business, partly offset by a decrease in overdraft fees due in part to higher customer deposit balances and a decrease in customers opting in for debit card overdraft coverage. The increase in the Provision was primarily due to higher net recoveries in 2014 of loans and leases previously charged-off and higher net charge-offs in our indirect auto and credit card portfolios. The increase in noninterest expense was primarily due to higher allocated expenses, higher commissions expense due to an increase in mortgage loan origination and refinance activity, higher data processing expense related to the roll-out of EMV chip-enabled debit cards, and an increase in operational losses.

Net income increased by $10.8 million or 43% in 2014 compared to 2013 primarily due to an increase in net interest income, as well as decreases in the Provision and noninterest expense. This was partially offset by a decrease in noninterest income. The increase in net interest income was primarily due to higher volume and higher margins in both the lending and deposit portfolios. The decrease in the Provision was primarily due to lower net charge-offs of loans and leases in the segment combined with improving credit trends and the underlying risk profile of the loan portfolio. The decrease in noninterest expense was primarily due to lower commission expense primarily due to a reduction in mortgage banking production volume as refinancing activity declined. This decrease was partially offset by higher expense related to our credit card business. The decrease in noninterest income was primarily due to lower mortgage banking income which was also due to lower mortgage application and production volume, as well as our decision to add more conforming saleable loans to our portfolio in 2014 which reduced our gains on sales of residential mortgage loans. This decrease was partially offset by higher commissions and fees income related to our credit card business.

Commercial Banking
Net income increased by $6.6 million or 13% in 2015 compared to 2014 primarily due to an increase in net interest income, partially offset by increases to the Provision and noninterest expense and a decrease in noninterest income. The increase in net interest income was primarily due to higher volume in both the lending and deposit portfolios, and partially due to higher earnings credits on the segment’s deposit portfolio. The increase in the Provision was due to lower net recoveries of loans and leases in the current period. The increase in noninterest expense was primarily due to a $9.5 million impairment charge recorded in the third quarter of 2015 on six aircraft which were previously on lease agreements. The increase in noninterest expense was also due to higher allocated expenses. The decrease in noninterest income was primarily attributable to a $1.0 million loss on the sale of an aircraft lease and to lower merchant income.


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Net income increased by $13.7 million or 36% in 2014 compared to 2013 primarily due to an increase in net interest income and a decrease in the Provision, partially offset by a decrease in noninterest income and an increase in noninterest expense. The increase in net interest income was primarily due to higher volume in both the lending and deposit portfolios, and partially due to higher earnings credits on the segment’s deposit portfolio. The decrease in the Provision was due to higher net recovery of loans and leases in 2014. The decrease in noninterest income was primarily due to lower nonrecurring loan fees and net gains on the sale of leased assets. The increase in noninterest expense was primarily due to higher allocated expenses.
 
Investment Services
Net income increased by $0.6 million or 5% in 2015 compared to 2014 primarily due to increases in net interest income and noninterest income, partially offset by increases in the Provision and noninterest expense. The increase in net interest income was due to higher loan and deposit volume combined with higher earnings credits on the segment’s deposit portfolio. The increase in noninterest income was primarily due to higher investment advisory fees and to a $0.5 million referral fee related to the transition of various services provided to some institutional 401k plans. The increase in the Provision was due to lower net recovery of loans in the current period. The increase in noninterest expense was primarily due to higher salaries and allocated expenses.

Net income remained relatively unchanged in 2014 compared to 2013. The increase in net interest income combined with the decreases in the Provision and noninterest expense were offset by a decrease in noninterest income. The increase in net interest income was due to growth in deposit volume and to higher earnings credits on the segment’s deposit portfolio. The decrease in the Provision was due to higher net recovery of loans in 2014. The decrease in noninterest expense was due to lower salaries and other operating expense, partially offset by an increase in allocated expense. The decrease in noninterest income was primarily due to lower annuity, mutual fund, and securities income in the segment’s full service brokerage.
 
Treasury and Other

Net income decreased by $23.3 million or 37% in 2015 compared to 2014 primarily due to a decrease in net interest income and an increase in noninterest expense partially offset by an increase in noninterest income and a decrease in the provision for income taxes. The decrease in net interest income was primarily due to higher deposit funding costs and lower interest income from the investment securities portfolio, resulting from lower volume and yields, partially offset by an increase in interest income related to lending activities. The increase in noninterest expenses was due to an increase in separation expense. The increase in noninterest income was primarily due to a $10.1 million gain on the sale of 95,000 Visa Class B restricted shares during 2015, compared to a $7.9 million gain on the sale of 90,500 Visa Class B restricted shares in 2014. The decrease in the provision for income taxes was primarily due to a lower corporate effective tax rate.

Net income decreased $12.0 million or 16% in 2014 compared to 2013 primarily due to a decrease in net interest income and a decrease in the negative Provision, partially offset by an increase in noninterest income and a decrease in noninterest expense. The decrease in net interest income was primarily due to higher deposit funding costs. The Provision in this business segment represents the residual provision for credit losses to arrive at the total Provision for the Company. The negative provision recorded in both 2014 and 2013 is commensurate with the Company's stable credit risk profile. The increase in noninterest income was due to the aforementioned $7.9 million gain on the sale of 90,500 Visa Class B restricted shares. The decrease in noninterest expense was due to higher separation expense in 2013.

Other organizational units (Technology, Operations, Marketing, Human Resources, Finance, Credit and Risk Management, and Corporate and Regulatory Administration) included in Treasury and Other provide a wide range of support to the Company's other income earning segments. Expenses incurred by these support units are charged to the business segments through an internal cost allocation process.





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Analysis of Statements of Condition

Investment Securities

Table 7 presents the maturity distribution at amortized cost, weighted-average yield to maturity, and fair value of our investment securities.
Maturities and Average Yield on Securities
 
Table 7
 
(dollars in millions)
1 Year
or Less

 
Weighted
Average
Yield

 
After 1
Year-5
Years

 
Weighted
Average
Yield

 
After 5
Years-10
Years

 
Weighted
Average
Yield

 
Over 10
Years

 
Weighted
Average
Yield

 
Total

 
Weighted
Average
Yield

 
Fair
Value

As of December 31, 2015
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Available-for-Sale
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury and Government Agencies 2
$
0.6

 
0.6
%
 
$
114.8

 
1.9
%
 
$
240.9

 
1.4
%
 
$
—

 
—
%
 
$
356.3

 
1.5
%
 
$
358.9

Debt Securities Issued by States and Political Subdivisions 1
29.3

 
1.9

 
276.4

 
2.7

 
333.3

 
3.7

 
70.7

 
5.9

 
709.7

 
3.5

 
731.9

Debt Securities Issued by Corporations
40.0

 
1.9

 
198.1

 
1.1

 
75.0

 
2.2

 
—

 
—

 
313.1

 
1.5

 
308.9

Mortgage-Backed Securities 2
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
    Residential - Government Agencies
52.2

 
3.0

 
242.8

 
1.8

 
16.0

 
5.2

 
—

 
—

 
311.0

 
2.2

 
316.2

    Residential - U.S. Government-Sponsored Enterprises
—

 
—

 
407.0

 
2.2

 
35.8

 
2.5

 
—

 
—

 
442.8

 
2.2

 
441.9

    Commercial - Government Agencies
—

 
—

 
—

 
—

 
103.2

 
1.7

 
—

 
—

 
103.2

 
2.0

 
99.0

Total Mortgage-Backed Securities
52.2

 
3.0

 
649.8

 
2.1

 
155.0

 
2.3

 
—

 
—

 
857.0

 
2.1

 
857.1

Total
$
122.1

 
2.4
%
 
$
1,239.1

 
2.0
%
 
$
804.2

 
2.5
%
 
$
70.7

 
5.9
%
 
$
2,236.1

 
2.3
%
 
$
2,256.8

Held-to-Maturity
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury and Government Agencies 2
$
—

 
—
%
 
$
489.7

 
1.2
%
 
$
—

 
—
%
 
$
—

 
—
%
 
$
489.7

 
1.2
%
 
$
490.0

Debt Securities Issued by States and Political Subdivisions 1
—

 
—

 
32.7

 
3.3

 
141.7

 
4.7

 
71.6

 
6.0

 
246.0

 
4.9

 
263.1

Debt Securities Issued by Corporations
—

 
—

 
—

 
—

 
151.3

 
2.1

 
—

 
—

 
151.3

 
2.1

 
149.6

Mortgage-Backed Securities 2
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
    Residential - Government Agencies
44.2

 
1.7

 
1,691.1

 
2.2

 
455.8

 
3.2

 
—

 
—

 
2,191.1

 
2.4

 
2,200.0

    Residential - U.S. Government-Sponsored Enterprises
—

 
—

 
504.1

 
2.1

 
143.7

 
2.4

 
—

 
—

 
647.8

 
2.2

 
646.8

    Commercial - Government Agencies
—

 
—

 
94.4

 
2.8

 
141.9

 
2.6

 
20.5

 
3.4

 
256.8

 
2.7

 
256.9

Total Mortgage-Backed Securities
44.2

 
1.7

 
2,289.6

 
2.2

 
741.4

 
2.9

 
20.5

 
3.4

 
3,095.7

 
2.4

 
3,103.7

Total
$
44.2

 
1.7
%
 
$
2,812.0

 
2.0
%
 
$
1,034.4

 
3.0
%
 
$
92.1

 
5.3
%
 
$
3,982.7

 
2.4
%
 
$
4,006.4

Total Investment Securities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
As of December 31, 2015
$
166.3

 
 
 
$
4,051.1

 
 
 
$
1,838.6

 
 
 
$
162.8

 
 
 
$
6,218.8

 
 
 
$
6,263.2

As of December 31, 2014
$
303.6

 
 
 
$
4,544.6

 
 
 
$
1,595.4

 
 
 
$
285.8

 
 
 
$
6,729.4

 
 
 
$
6,793.7


1 
Weighted-average yields on obligations of states and political subdivisions are generally tax-exempt and are computed on a taxable-equivalent basis using a federal statutory tax rate of 35%.
2 
Maturities for Small Business Administration debt securities and mortgage-backed securities anticipate future prepayments.

The carrying value of our investment securities portfolio was $6.2 billion as of December 31, 2015, a decrease of $516.3 million or 8% compared to December 31, 2014. As of December 31, 2015, our investment securities portfolio was comprised of securities with an average base duration of approximately 3.4 years.

We continually evaluate our investment securities portfolio in response to established asset/liability management objectives, changing market conditions that could affect profitability, and the level of interest rate risk to which we are exposed. These evaluations may cause us to change the level of funds we deploy into investment securities, change the composition of our investment securities portfolio, and change the proportion of investments made into the available-for-sale and held-to-maturity investment categories.

In 2015, we continued to reduce our positions in mortgage-backed securities issued by Ginnie Mae. We re-invested these proceeds primarily into higher-yielding loan products. In addition, we increased our holdings in Fannie Mae and Freddie Mac mortgage-backed securities as well as Small Business Administration debt securities. Ginnie Mae mortgage-backed securities continue to be our largest concentration in our portfolio. As of December 31, 2015, our portfolio of Ginnie Mae mortgage-backed securities was primarily comprised of securities issued in 2008 or later. As of December 31, 2015, the credit ratings of these mortgage-backed securities were all AAA-rated, with a low probability of a change in ratings in the near future. As of

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Table of Contents


December 31, 2015, our available-for-sale investment securities portfolio was comprised of securities with an average base duration of approximately 2.7 years.

Gross unrealized gains in our investment securities portfolio were $84.9 million as of December 31, 2015 and $108.5 million as of December 31, 2014. Gross unrealized losses on our temporarily impaired investment securities were $40.5 million as of December 31, 2015 and $44.3 million as of December 31, 2014. The gross unrealized loss positions were primarily related to mortgage-backed securities issued by Ginnie Mae. See Note 3 to the Consolidated Financial Statements for more information.

As of December 31, 2015, included in our investment securities portfolio were debt securities issued by political subdivisions within the State of Hawaii of $575.7 million, representing 58% of the total fair value of the Company's municipal debt securities. Of the entire Hawaii municipal bond portfolio, 91% were credit-rated Aa2 or better by Moody's while most of the remaining Hawaii municipal bonds were credit-rated A2 or better by at least one nationally recognized statistical rating organization. Also, approximately 77% of the Company's Hawaii municipal bond holdings were general obligation issuances. As of December 31, 2015, there were no other holdings of municipal debt securities that were issued by a single state or political subdivision which comprised more than 10% of the total fair value of the Company's municipal debt securities.
The Company's corporate bond holdings as of December 31, 2015 had a fair value of $458.5 million. Of this total, $149.6 million or 33% was fully guaranteed by the Export-Import Bank of the United States, an agency of the U.S. government. Of the remaining $308.9 million of corporate bonds, 71% were credit-rated A or better by Standard & Poor's while most of the remaining corporate bonds were credit-rated A- or better by at least one nationally recognized statistical rating organization.
Loans and Leases

Table 8 presents the composition of our loan and lease portfolio by major categories.
Loans and Leases
 
 
 
 
 
 
 
 
Table 8

 
December 31,
(dollars in thousands)
2015

 
2014

 
2013

 
2012

 
2011

Commercial
 
 
 
 
 
 
 
 
 
Commercial and Industrial
$
1,115,168

 
$
1,055,243

 
$
911,367

 
$
829,512

 
$
817,170

Commercial Mortgage
1,677,147

 
1,437,513

 
1,247,510

 
1,097,425

 
938,250

Construction
156,660

 
109,183

 
107,349

 
113,987

 
98,669

Lease Financing
204,877

 
226,189

 
262,207

 
274,969

 
311,928

Total Commercial
3,153,852

 
2,828,128

 
2,528,433

 
2,315,893

 
2,166,017

Consumer
 
 
 
 
 
 
 
 
 
Residential Mortgage
2,925,605

 
2,571,090

 
2,282,894

 
2,349,916

 
2,215,892

Home Equity
1,069,400

 
866,688

 
773,385

 
770,376

 
780,691

Automobile
381,735

 
323,848

 
255,986

 
209,832

 
192,506

Other 1
348,393

 
307,835

 
254,689

 
208,504

 
183,198

Total Consumer
4,725,133

 
4,069,461

 
3,566,954

 
3,538,628

 
3,372,287

Total Loans and Leases
$
7,878,985

 
$
6,897,589

 
$
6,095,387

 
$
5,854,521

 
$
5,538,304

1 Comprised of other revolving credit, installment, and lease financing.

Total loans and leases were $7.9 billion as of December 31, 2015. This represents a $981.4 million or 14% increase from December 31, 2014.

The commercial loan and lease portfolio is comprised of commercial and industrial loans, commercial mortgages, construction loans, and lease financing. Commercial and industrial loans are made primarily to corporations, middle market, and small businesses for the purpose of financing equipment acquisition, expansion, working capital, and other general business purposes. Commercial mortgages and construction loans are offered to real estate investors, developers, and builders primarily domiciled in Hawaii. Commercial mortgages are secured by first mortgages on commercial real estate at loan-to-value ratios generally not exceeding 75%. The commercial properties are predominantly developments such as retail centers, apartments, industrial properties, and to a lesser extent, specialized properties such as hotels. The primary source of repayment for investor property is cash flow from the property and for owner-occupied property is the operating cash flow from the business. Construction loans are for the purchase or construction of a property for which repayment will be generated by the property. We classify loans as construction until the completion of the construction phase. Following construction, if a loan is retained, the loan is reclassified to the commercial mortgage category. Lease financing consists of direct financing leases and leveraged leases and are used by

37
Table of Contents


commercial customers to finance capital purchases. Although our primary market is Hawaii, the commercial portfolio contains loans to some borrowers based on the U.S. Mainland, including some Shared National Credits.

Commercial loans and leases were $3.2 billion as of December 31, 2015, an increase of $325.7 million or 12% from December 31, 2014. Commercial and industrial loans increased by $59.9 million or 6% from December 31, 2014 due to an increase in corporate demand for funding. Commercial mortgage loans increased by $239.6 million or 17% from December 31, 2014 primarily due to increased demand from new and existing customers as both investors and owner occupants looked to refinance and/or acquire new real estate assets, reflective of the strong Hawaii real estate market. Construction loans increased by $47.5 million or 43% from December 31, 2014 primarily due to increased activity in construction projects such as condominiums and low-income housing. Lease financing decreased by $21.3 million or 9% from December 31, 2014 primarily due to aircraft leveraged leases which matured in the third quarter of 2015 and the sale of one aircraft lease in the fourth quarter of 2015.

The consumer loan and lease portfolio is comprised of residential mortgage loans, home equity lines and loans, indirect auto loans and leases, and other consumer loans including personal credit lines, direct installment loans, and rewards-based consumer credit cards. These products are generally offered in the geographic markets we serve. Although we offer a variety of products, our residential mortgage loan portfolio is primarily comprised of fixed-rate loans concentrated in Hawaii. We also offer a variety of home equity lines and loans, usually secured by second mortgages on residential property of the borrower. Automobile lending activities include loans and leases secured by new or used automobiles. We originate automobile loans and leases on an indirect basis through selected dealerships. Direct installment loans are generally unsecured and are often used for personal expenses or for debt consolidation.
  
Consumer loans and leases were $4.7 billion as of December 31, 2015, an increase of $655.7 million or 16% from December 31, 2014. Residential mortgage loans increased by $354.5 million or 14% from December 31, 2014 primarily due to an increase in loan origination and refinance activity. Home equity loans increased by $202.7 million or 23% from December 31, 2014 as a result of successful campaigns to drive new production and upfront line draws. Automobile loans increased by $57.9 million or 18% from December 31, 2014 primarily due to increased customer demand combined with market share gains. Other consumer loans increased by $40.6 million or 13% from December 31, 2014 primarily due to our successful installment loan campaign in 2015 as well as growth in our consumer credit card business.

See Note 4 to the Consolidated Financial Statements and the "Corporate Risk Profile – Credit Risk" section of MD&A for more information on our loan and lease portfolio.


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Table of Contents


Table 9 presents the geographic distribution of our loan and lease portfolio.
Geographic Distribution of Loan and Lease Portfolio
 
 
 
 
 
Table 9
 
 
December 31, 2015
(dollars in thousands)
Hawaii

 
U.S.
Mainland 1

 
Guam

 
Other
Pacific
Islands

 
Foreign 2

 
Total

Commercial
 
 
 
 
 
 
 
 
 
 
 
Commercial and Industrial
$
1,007,987

 
$
43,794

 
$
62,555

 
$
612

 
$
220

 
$
1,115,168

Commercial Mortgage
1,539,462

 
36,038

 
101,647

 
—

 
—

 
1,677,147

Construction
156,660

 
—

 
—

 
—

 
—

 
156,660

Lease Financing
44,758

 
154,236

 
1,816

 
—

 
4,067

 
204,877

Total Commercial
2,748,867

 
234,068

 
166,018

 
612

 
4,287

 
3,153,852

Consumer
 
 
 
 
 
 
 
 
 
 
 
Residential Mortgage
2,821,299

 
—

 
101,672

 
2,634

 
—

 
2,925,605

Home Equity
1,033,920

 
2,562

 
31,383

 
1,535

 
—

 
1,069,400

Automobile
299,627

 
63

 
77,187

 
4,858

 
—

 
381,735

Other 3
265,694

 
—

 
40,936

 
41,761

 
2

 
348,393

Total Consumer
4,420,540

 
2,625

 
251,178

 
50,788

 
2

 
4,725,133

Total Loans and Leases
$
7,169,407

 
$
236,693

 
$
417,196

 
$
51,400

 
$
4,289

 
$
7,878,985

Percentage of Total Loans and Leases
91
%
 
3
%
 
5
%
 
1
%
 
0
%
 
100
%

1  
For secured loans and leases, classification as U.S. Mainland is made based on where the collateral is located. For unsecured loans and leases, classification as U.S. Mainland is made based on the location where the majority of the borrower's business operations are conducted.
2  
Loans classified as Foreign represent those which are recorded in the Company's international business units.
3  
Comprised of other revolving credit, installment, and lease financing.

Our commercial and consumer lending activities are concentrated primarily in Hawaii and the Pacific Islands.  Our commercial loan and lease portfolio to borrowers based on the U.S. Mainland includes leveraged lease financing and participation in Shared National Credits.  Our consumer loan and lease portfolio includes limited lending activities on the U.S. Mainland.

Our Hawaii loan and lease portfolio increased by $988.2 million or 14% from December 31, 2014, reflective of a healthy Hawaii economy.

Table 10 presents a maturity distribution for selected loan categories.
Maturities for Selected Loan Categories 1
 
 
 
 
Table 10
 
 
December 31, 2015
(dollars in thousands)
Due in
One Year or Less

 
Due After One
to Five Years 2

 
Due After 
Five Years 2

 
Total

Commercial and Industrial
$
247,385

 
$
390,876

 
$
476,907

 
$
1,115,168

Construction
17,751

 
75,150

 
63,759

 
156,660

Total
$
265,136

 
$
466,026

 
$
540,666

 
$
1,271,828


1 Based on contractual maturities.
2 As of December 31, 2015, loans maturing after one year consisted of $671.7 million in variable rate loans and $335.0 million in fixed rate loans.

Goodwill

Goodwill was $31.5 million as of December 31, 2015 and 2014. As of December 31, 2015, based on our qualitative assessment, there were no reporting units where we believed that it was more likely than not that the fair value of a reporting unit was less than its carrying amount, including goodwill. As a result, we had no reporting units where there was a reasonable possibility of failing Step 1 of the goodwill impairment test. See Note 1 to the Consolidated Financial Statements for more information on our goodwill impairment policy.

Other Assets

Other assets were $199.4 million as of December 31, 2015, a decrease of $26.5 million or 12% from December 31, 2014. This decrease was primarily due to a $28.5 million redemption of excess FHLB stock upon the merger of FHLB Des Moines and FHLB Seattle (see Note 3 to the Consolidated Financial Statements for more information), partially offset by a $3.0 million net purchase of additional FHLB stock during the year. This additional stock purchase was required in order to borrow an additional

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net $75.0 million from the FHLB (see the "Other Debt" section in MD&A). See Note 7 to the Consolidated Financial Statements for more information on the composition of our other assets.

Deposits

Table 11 presents the components of our deposits by major customer categories as of December 31, 2015 and 2014.
Deposits
Table 11
 
 
December 31,
(dollars in thousands)
2015

 
2014

Consumer
$
6,445,510

 
$
6,092,929

Commercial
5,502,739

 
5,163,352

Public and Other
1,302,854

 
1,376,808

Total Deposits
$
13,251,103

 
$
12,633,089


Total deposits were $13.3 billion as of December 31, 2015, a $618.0 million or 5% increase from December 31, 2014. This increase was primarily due to a $352.6 million increase in consumer deposits, mainly due to continued growth in our relationship checking and savings deposits products. In addition, commercial deposits increased by $339.4 million, mainly reflecting core deposit growth.

Table 12 presents the components of our savings deposits as of December 31, 2015 and 2014.
Savings Deposits
Table 12
 
 
December 31,
(dollars in thousands)
2015

 
2014

Money Market
$
1,794,742

 
$
1,766,173

Regular Savings
3,230,449

 
3,040,402

Total Savings Deposits
$
5,025,191

 
$
4,806,575


Securities Sold Under Agreements to Repurchase

Table 13 presents the composition of our securities sold under agreements to repurchase.
Securities Sold Under Agreements to Repurchase
 
Table 13

 
December 31,
(dollars in thousands)
2015

 
2014

Government Entities
$
53,857

 
$
88,601

Private Institutions
575,000

 
600,000

Total Securities Sold Under Agreements to Repurchase
$
628,857

 
$
688,601


Securities sold under agreements to repurchase were $628.9 million as of December 31, 2015, a decrease of $59.7 million or 9% from December 31, 2014. This decrease was primarily due to the maturing of one private institution repurchase agreement and two government entity repurchase agreements. As of December 31, 2015, the weighted-average maturity was 56 days for our repurchase agreements with government entities and 3.6 years for our repurchase agreements with private institutions. Some of our repurchase agreements with private institutions may be terminated at earlier specified dates by the private institution or in some cases by either the private institution or the Company. If all such agreements were to terminate at the earliest possible date, the weighted-average maturity for our repurchase agreements with private institutions would decrease to 1.5 years.  As of December 31, 2015 and 2014, the weighted-average interest rate for repurchase agreements with government entities was 0.37% and 0.31%, respectively, while the weighted-average interest rate for repurchase agreements with private institutions as of December 31, 2015 and 2014 was 4.22% and 4.21%, respectively, with all rates being fixed. Each of our repurchase agreements is accounted for as collateralized financing arrangements (i.e., secured borrowings) and not as a sale and subsequent repurchase of securities.  See Note 9 and 19 to the Consolidated Financial Statements for more information.


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Other Debt

Other debt was $245.8 million as of December 31, 2015, an increase of $71.9 million or 41% from December 31, 2014. This increase was primarily due to an additional seven FHLB advances totaling $175.0 million borrowed, offset by a $100.0 million advance that matured during 2015. As of December 31, 2015, our eight FHLB advances totaled $225.0 million with a weighted-average interest rate of 1.15% and maturity dates ranging from 2016 to 2018. These advances were primarily for asset/liability management purposes. As of December 31, 2015, our remaining line of credit with the FHLB was $1.1 billion.

Pension and Postretirement Plan Obligations

Retirement benefits payable were $47.4 million as of December 31, 2015, an $8.1 million or 15% decrease from December 31, 2014. Our pension and postretirement benefit obligations and net periodic benefit cost are actuarially determined based on a number of key assumptions, including the discount rate, the expected return on plan assets, and the health-care cost trend rate. The accounting for pension and postretirement benefit plans reflect the long-term nature of the obligations and the investment horizon of the plan assets. The decrease in retirement benefits payable was primarily due to utilizing a higher discount rate.

The discount rate is used to determine the present value of future benefit obligations and the net periodic benefit cost. The discount rate used to value the present value of future benefit obligations as of each year-end is the rate used to estimate the net periodic benefit cost for the following year. Table 14 presents a sensitivity analysis of a 25 basis point change in discount rates to the pension and postretirement benefit plan's net periodic benefit cost and benefit obligations:
Discount Rate Sensitivity Analysis
 
 
 
 
 
 
 
Table 14
 
 
 
 
 
 
 
Impact of
 
 
Base Discount Rate
 
Discount Rate
25 Basis Point Increase
 
 
Discount Rate
25 Basis Point Decrease
 
(dollars in thousands)
 
Pension Benefit

 
Postretirement Benefits

 
Pension Benefits

Postretirement Benefits
 
 
Pension Benefits

Postretirement Benefits
 
2015 Net Periodic Benefit Cost
 
4.25
%
 
4.28
%
 
$
25

 
$
(70
)
 
$
(34
)
 
$
70

Benefit Plan Obligations as of December 31, 2015
 
4.70
%
 
4.74
%
 
(2,974
)
 
(917
)
 
3,060

 
952

Estimated 2016 Net Periodic Benefit Cost
 
4.70
%
 
4.74
%
 
8

 
(95
)
 
(16
)
 
97


See Note 14 to the Consolidated Financial Statements for more information on our pension and postretirement benefit plans.

Foreign Activities

Cross-border outstandings are defined as loans (including accrued interest), acceptances, interest-bearing deposits with other banks, other interest-bearing investments, and any other monetary assets which are denominated in dollars or other non-local currency. As of December 31, 2015, 2014 and 2013, we did not have cross-border outstandings to any foreign country which exceeded 0.75% of our total assets.


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Corporate Risk Profile

Managing risk is an essential part of successfully operating our business. Management believes that the most prominent risk exposures for the Company are credit risk, market risk, liquidity risk management, capital management, and operational risk.

Credit Risk

Credit risk is the risk that borrowers or counterparties will be unable or unwilling to repay their obligations in accordance with the underlying contractual terms. We manage and control credit risk in the loan and lease portfolio by adhering to well-defined underwriting criteria and account administration standards established by management. Written credit policies document underwriting standards, approval levels, exposure limits, and other limits or standards deemed necessary and prudent. Portfolio diversification at the obligor, industry, product, and/or geographic location levels is actively managed to mitigate concentration risk. In addition, credit risk management also includes an independent credit review process that assesses compliance with commercial and consumer credit policies, risk ratings, and other critical credit information. In addition to implementing risk management practices that are based upon established and sound lending practices, we adhere to sound credit principles. We understand and evaluate our customers' borrowing needs and capacity to repay, in conjunction with their character and history.

Commercial and industrial loans are made primarily for the purpose of financing equipment acquisition, expansion, working capital, and other general business purposes. Lease financing consists of direct financing leases and leveraged leases and are used by commercial customers to finance capital purchases ranging from computer equipment to transportation equipment. The credit decisions for these transactions are based upon an assessment of the overall financial capacity of the applicant. A determination is made as to the applicant's ability to repay in accordance with the proposed terms as well as an overall assessment of the risks involved. In addition to an evaluation of the applicant's financial condition, a determination is made of the probable adequacy of the primary and secondary sources of repayment, such as additional collateral or personal guarantees, to be relied upon in the transaction. Credit agency reports of the applicant's credit history supplement the analysis of the applicant's creditworthiness.

Commercial mortgages and construction loans are offered to real estate investors, developers, builders, and owner-occupants primarily domiciled in Hawaii. These loans are secured by first mortgages on real estate at loan-to-value ("LTV") ratios deemed appropriate based on the property type, location, overall quality, and sponsorship. Generally, these LTV ratios do not exceed 75%. The commercial properties are predominantly developments such as retail centers, apartments, industrial properties and, to a lesser extent, more specialized properties such as hotels. Substantially our entire commercial mortgage loans are secured by properties located in our primary market area.

In the underwriting of our commercial mortgage loans, we obtain appraisals for the underlying properties. Decisions to lend are based on the economic fundamentals of the property and the creditworthiness of the borrower. In evaluating a proposed commercial mortgage loan, we primarily emphasize the ratio of the property's projected net cash flows to the loan's debt service requirement. The debt service coverage ratio normally is not less than 120% and it is computed after deducting for a vacancy factor and property expenses as appropriate. In addition, a personal guarantee of the loan or a portion thereof is sometimes required from the principal(s) of the borrower. We typically require title insurance insuring the priority of our lien, fire, and extended coverage casualty insurance, and flood insurance, if appropriate, in order to protect our security interest in the underlying property. In addition, business interruption insurance or other insurance may be required. Owner-occupant commercial mortgage loans are underwritten based upon the cash flow of the business provided that the real estate asset is utilized in the operation of the business. Real estate is evaluated independently as a secondary source of repayment. As noted above, LTV ratios generally do not exceed 75%.

Construction loans are underwritten against projected cash flows derived from rental income, business income from an owner-occupant, or the sale of the property to an end-user. We may mitigate the risks associated with these types of loans by requiring fixed-price construction contracts, performance and payment bonding, controlled disbursements, and pre-sale contracts or pre-lease agreements.

We offer a variety of first mortgage and junior lien loans to consumers within our markets with residential home mortgages comprising our largest loan category. These loans are generally secured by a primary residence and are underwritten using traditional underwriting systems to assess the credit risks and financial capacity and repayment ability of the consumer. Decisions are primarily based on LTV ratios, debt-to-income ("DTI") ratios, liquidity, and credit scores. LTV ratios generally do not exceed 80%, although higher levels are permitted with mortgage insurance. We offer variable rate mortgage loans with interest rates that are subject to change every year after the first, third, fifth, or seventh year, depending on the product and are based on the London Interbank Offered Rate ("LIBOR"). Variable rate mortgage loans are underwritten at fully-indexed interest rates. We do not offer

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payment-option facilities, sub-prime or Alt-A loans, or any product with negative amortization. We will selectively offer interest-only mortgage loans through our Private Banking channel.

Home equity loans are secured by both first and second liens on residential property of the borrower. The underwriting terms for the home equity product generally permits borrowing availability, in the aggregate, up to 80% of the value of the collateral property at the time of origination. We offer fixed and variable rate home equity loans, with variable rate loans underwritten at fully-indexed interest rates. Our procedures for underwriting home equity loans include an assessment of an applicant's overall financial capacity and repayment ability. Decisions are primarily based on LTV ratios, DTI ratios, and credit scores. We do not offer home equity loan products with reduced documentation.

Automobile lending activities include loans and leases secured by new or used automobiles. We originate automobile loans and leases on an indirect basis through selected dealerships in Hawaii, Guam and Saipan. Our procedures for underwriting automobile loans include an assessment of an applicant's overall financial capacity and repayment ability, credit history, and the ability to meet existing obligations and payments on the proposed loan. Although an applicant's creditworthiness is the primary consideration, the underwriting process also includes a comparison of the value of the collateral security to the proposed loan amount. We require borrowers to maintain full coverage automobile insurance on automobile loans and leases, with the Bank listed as either the loss payee or additional insured.

General economic conditions in Hawaii remained healthy during 2015, led by a strong tourism industry, relatively low unemployment, rising real estate prices, and an active construction industry. Our overall credit risk position reflects these positive economic trends and our loan portfolio growth and composition.



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Non-Performing Assets and Accruing Loans and Leases Past Due 90 Days or More

Table 15 presents a five-year history of non-performing assets and accruing loans and leases past due 90 days or more.
Non-Performing Assets and Accruing Loans and Leases Past Due 90 Days or More
 
Table 15
 
 
December 31,
(dollars in thousands)
2015

 
2014

 
2013

 
2012

 
2011

Non-Performing Assets
 
 
 
 
 
 
 
 
 
Non-Accrual Loans and Leases
 
 
 
 
 
 
 
 
 
Commercial
 
 
 
 
 
 
 
 
 
Commercial and Industrial
$
5,829

 
$
9,088

 
$
11,929

 
$
5,534

 
$
6,243

Commercial Mortgage
3,469

 
745

 
2,512

 
3,030

 
2,140

Construction
—

 
—

 
—

 
833

 
2,080

Lease Financing
—

 
—

 
—

 
—

 
5

Total Commercial
9,298

 
9,833

 
14,441

 
9,397

 
10,468

Consumer
 
 
 
 
 
 
 
 
 
Residential Mortgage
14,598

 
14,841

 
20,264

 
21,725

 
25,256

Home Equity
4,081

 
3,097

 
1,740

 
2,074

 
2,024

Total Consumer
18,679

 
17,938

 
22,004

 
23,799

 
27,280

Total Non-Accrual Loans and Leases
27,977

 
27,771

 
36,445

 
33,196

 
37,748

Foreclosed Real Estate
824

 
2,311

 
3,205

 
3,887

 
3,042

Total Non-Performing Assets
$
28,801

 
$
30,082

 
$
39,650

 
$
37,083

 
$
40,790

 
 
 
 
 
 
 
 
 
 
Accruing Loans and Leases Past Due 90 Days or More
 
 
 
 
 
 
 
 
 
Commercial
 
 
 
 
 
 
 
 
 
Commercial and Industrial
$
—

 
$
2

 
$
1,173

 
$
27

 
$
1

Total Commercial
—

 
2

 
1,173

 
27

 
1

Consumer
 
 
 
 
 
 
 
 
 
Residential Mortgage
4,453

 
4,506

 
4,564

 
6,908

 
6,422

Home Equity
1,710

 
2,596

 
3,009

 
2,701

 
2,194

Automobile
315

 
616

 
322

 
186

 
170

Other 1
1,096

 
941

 
790

 
587

 
435

Total Consumer
7,574

 
8,659

 
8,685

 
10,382

 
9,221

Total Accruing Loans and Leases
   Past Due 90 Days or More
$
7,574

 
$
8,661

 
$
9,858

 
$
10,409

 
$
9,222

Restructured Loans on Accrual Status
   and Not Past Due 90 Days or More
$
49,430

 
$
45,474

 
$
51,123

 
$
31,844

 
$
33,703

Total Loans and Leases
$
7,878,985

 
$
6,897,589

 
$
6,095,387

 
$
5,854,521

 
$
5,538,304

Ratio of Non-Accrual Loans and Leases to
   Total Loans and Leases
0.36
%
 
0.40
%
 
0.60
%
 
0.57
%
 
0.68
%
Ratio of Non-Performing Assets to Total Loans and Leases
   and Foreclosed Real Estate
0.37
%
 
0.44
%
 
0.65
%
 
0.63
%
 
0.74
%
Ratio of Commercial Non-Performing Assets to
   Total Commercial Loans and Leases
   and Commercial Foreclosed Real Estate
0.29
%
 
0.38
%
 
0.61
%
 
0.45
%
 
0.56
%
Ratio of Consumer Non-Performing Assets to
   Total Consumer Loans and Leases
   and Consumer Foreclosed Real Estate
0.41
%
 
0.47
%
 
0.68
%
 
0.75
%
 
0.85
%
Ratio of Non-Performing Assets and Accruing
   Loans and Leases Past Due 90 Days or More to
   Total Loans and Leases and Foreclosed Real Estate
0.46
%
 
0.56
%
 
0.81
%
 
0.81
%
 
0.90
%

1 Comprised of other revolving credit, installment, and lease financing.

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Table 16 presents the activity in Non-Performing Assets ("NPAs") for 2015:
Non-Performing Assets    (dollars in thousands)
Table 16

Balance at Beginning of Year
$
30,082

Additions
9,310

Reductions
 
Payments
(6,111
)
Return to Accrual Status
(1,959
)
Sales of Foreclosed Real Estate
(1,878
)
Charge-offs/Write-downs
(643
)
Total Reductions
(10,591
)
Balance at End of Year
$
28,801


NPAs consist of non-accrual loans and leases, and foreclosed real estate.  Changes in the level of non-accrual loans and leases typically represent increases for loans and leases that reach a specified past due status, offset by reductions for loans and leases that are charged-off, paid down, sold, transferred to foreclosed real estate, or are no longer classified as non-accrual because they have returned to accrual status.

Total NPAs were $28.8 million as of December 31, 2015, a decrease of $1.3 million or 4% from December 31, 2014.  The decrease was primarily due to a $1.5 million decrease in foreclosed real estate. The ratio of our NPAs to total loans and leases, and foreclosed real estate was 0.37% as of December 31, 2015 and 0.44% as of December 31, 2014.

Commercial and industrial non-accrual loans decreased by $3.3 million or 36% from December 31, 2014 due to paydowns and the reclassification of one loan to the commercial mortgage loan category. As of December 31, 2015, one commercial borrower comprised 74% of the non-accrual balance in this category.  We have individually evaluated all of our commercial and industrial non-accrual loans for impairment and have recorded partial charge-offs totaling $8.4 million.

Commercial mortgage non-accrual loans increased by $2.7 million or 366% from December 31, 2014 primarily due to the reclassification of one loan from the commercial and industrial loan category. We have individually evaluated the four remaining commercial mortgage non-accrual loans for impairment and have recorded charge-offs totaling $3.5 million.

The largest component of our NPAs continues to be residential mortgage loans. Residential mortgage non-accrual loans decreased by $0.2 million or 2% from December 31, 2014. Residential mortgage non-accrual loans remain at elevated levels due to the level of residential mortgage modifications extended to assist homeowners, as well as the lengthy judiciary foreclosure process.  As of December 31, 2015, our residential mortgage non-accrual loans were comprised of 37 loans with a weighted average current LTV ratio of 64%.

Foreclosed real estate represents property acquired as the result of borrower defaults on loans.  Foreclosed real estate is recorded at fair value, less estimated selling costs, at the time of foreclosure.  On an ongoing basis, properties are appraised as required by market conditions and applicable regulations.  Foreclosed real estate decreased by $1.5 million or 64% from December 31, 2014 primarily due to the sale of one commercial property.

Loans and Leases Past Due 90 Days or More and Still Accruing Interest

Loans and leases in this category are 90 days or more past due, as to principal or interest, and are still accruing interest because they are well secured and in the process of collection.  Loans and leases past due 90 days or more and still accruing interest were $7.6 million as of December 31, 2015, a $1.1 million or 13% decrease from December 31, 2014.  This decrease was primarily in our home equity portfolio.



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Impaired Loans

Impaired loans are defined as loans for which we believe it is probable we will not collect all amounts due according to the contractual terms of the loan agreement.  Included in impaired loans are all classes of commercial non-accruing loans (except lease financing and small business loans), all loans modified in a TDR (including accruing TDRs), and other loans where we believe that we will be unable to collect all amounts due according to the contractual terms of the loan agreement.  Impaired loans exclude lease financing and smaller balance homogeneous loans (consumer and small business non-accruing loans) that are collectively evaluated for impairment.  Impaired loans were $66.7 million as of December 31, 2015 and $64.7 million as of December 31, 2014, and had a related Allowance of $3.6 million as of December 31, 2015 and $5.9 million as of December 31, 2014.  The increase in impaired loans was primarily due to four commercial loan modifications, partially offset by paydowns. The reduction of the Allowance related to impaired loans was primarily due to a $2.1 reduction to the Allowance related to one commercial borrower.  As of December 31, 2015, we recorded cumulative charge-offs of $22.8 million related to our total impaired loans.  Our impaired loans are considered in management's assessment of the overall adequacy of the Allowance.

If interest due on the balances of all non-accrual loans as of December 31, 2015 had been accrued under the original terms, approximately $2.6 million in total interest income would have been recorded in 2015, compared to $0.1 million actually recorded as interest income on those loans.

Loans Modified in a Troubled Debt Restructuring

Table 17 presents information on loans whose terms have been modified in a TDR:
Loans Modified in a Troubled Debt Restructuring
 
Table 17

 
December 31,
(dollars in thousands)
2015

 
2014

Commercial
 
 
 
Commercial and Industrial
$
14,860

 
$
13,176

Commercial Mortgage
9,827

 
5,734

Construction
1,604

 
1,689

Total Commercial
26,291

 
20,599

Consumer

 

Residential Mortgage
28,981

 
32,331

Home Equity
1,089

 
1,012

Automobile
7,012

 
5,375

Other 1
1,665

 
913

Total Consumer
38,747

 
39,631

Total
$
65,038

 
$
60,230

1 Comprised of other revolving credit and installment financing.

Loans modified in a TDR increased by $4.8 million or 8% from December 31, 2014. This increase was due in part to the modification of one commercial and industrial loan during the third quarter and one commercial mortgage loan during the fourth quarter.  Residential mortgage loans modified in a TDR are loans in which we lowered monthly payments to accommodate the borrowers' financial needs for a period of time. As of December 31, 2015, $49.4 million or 76% of loans modified in a TDR were performing in accordance with their modified contractual terms and were on accrual status.

Generally, loans modified in a TDR are returned to accrual status after the borrower has demonstrated performance under the modified terms by making at least six consecutive payments. See Note 4 to the Consolidated Financial Statements for a description of the modification programs that we currently offer to our customers.

  

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Reserve for Credit Losses

The Company's reserve for credit losses is comprised of two components, the Allowance and the reserve for unfunded commitments (the "Unfunded Reserve"). Table 18 presents the activity in the Company's reserve for credit losses for the years ended December 31:
Reserve for Credit Losses
 
 
 
 
 
 
 
 
Table 18

 
(dollars in thousands)
2015

 
2014

 
2013

 
2012

 
2011

 
Balance at Beginning of Period
$
114,575

 
$
121,521

 
$
134,276

 
$
144,025

 
$
152,777

 
Loans and Leases Charged-Off
 
 
 
 
 
 
 
 
 
 
Commercial
 
 
 
 
 
 
 
 
 
 
Commercial and Industrial
(954
)
 
(2,002
)
 
(8,083
)
 
(3,617
)
 
(8,112
)
 
Construction
—

 
—

 
—

 
(330
)
 
—

 
Lease Financing
—

 
(66
)
 
(16
)
 
—

 
—

 
Consumer
 
 
 
 
 
 
 
 
 
 
Residential Mortgage
(613
)
 
(771
)
 
(2,013
)
 
(4,408
)
 
(8,174
)
 
Home Equity
(1,330
)
 
(1,672
)
 
(5,220
)
 
(6,717
)
 
(10,853
)
 
Automobile
(5,860
)
 
(3,961
)
 
(2,131
)
 
(2,082
)
 
(3,229
)
 
Other 1
(7,682
)
 
(6,967
)
 
(7,657
)
 
(7,005
)
 
(6,392
)
 
Total Loans and Leases Charged-Off
(16,439
)
 
(15,439
)
 
(25,120
)
 
(24,159
)
 
(36,760
)
 
Recoveries on Loans and Leases Previously Charged-Off
 
 
 
 
 
 
 
 
 
 
Commercial
 
 
 
 
 
 
 
 
 
 
Commercial and Industrial
1,948

 
4,625

 
1,681

 
3,939

 
2,434

 
Commercial Mortgage
61

 
57

 
557

 
67

 
538

 
Construction
32

 
29

 
365

 
8

 
—

 
Lease Financing
132

 
10

 
41

 
177

 
3,528

 
Consumer
 
 
 
 
 
 
 
 
 
 
Residential Mortgage
1,297

 
3,448

 
3,540

 
2,820

 
2,152

 
Home Equity
2,489

 
1,637

 
1,943

 
1,335

 
1,695

 
Automobile
1,917

 
1,577

 
1,628

 
1,931

 
2,479

 
Other 1
1,755

 
2,154

 
1,962

 
3,154

 
2,492

 
Total Recoveries on Loans and Leases
Previously Charged-Off
9,631

 
13,537

 
11,717

 
13,431

 
15,318

 
Net Loans and Leases Charged-Off
(6,808
)
 
(1,902
)
 
(13,403
)
 
(10,728
)
 
(21,442
)
 
Provision for Credit Losses
1,000

 
(4,864
)
 
—

 
979

 
12,690

 
Provision for Unfunded Commitments
185

 
(180
)
 
648

 
—

 
—

 
Balance at End of Period 2
$
108,952

 
$
114,575

 
$
121,521

 
$
134,276

 
$
144,025

 
Components
 
 
 
 
 
 
 
 
 
 
Allowance for Loan and Lease Losses
$
102,880

 
$
108,688

 
$
115,454

 
$
128,857

 
$
138,606

 
Reserve for Unfunded Commitments
6,072

 
5,887

 
6,067

 
5,419

 
5,419

 
Total Reserve for Credit Losses
$
108,952

 
$
114,575

 
$
121,521

 
$
134,276

 
$
144,025

 
Average Loans and Leases Outstanding
$
7,423,572

 
$
6,405,431

 
$
5,883,686

 
$
5,680,279

 
$
5,349,938

 
Ratio of Net Loans and Leases Charged-Off to
   Average Loans and Leases Outstanding
0.09
%
 
0.03
%
 
0.23
%
 
0.19
%
 
0.40
%
 
Ratio of Allowance for Loan and Lease Losses to
Loans and Leases Outstanding
1.31
%
 
1.58
%
 
1.89
%
 
2.20
%
 
2.50
%
 
1 
Comprised of other revolving credit, installment, and lease financing.
2 
Included in this analysis is activity related to the Company's reserve for unfunded commitments, which is separately recorded in other liabilities in the statements of condition.




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Table of Contents


Allowance for Loan and Lease Losses
 
Table 19 presents the allocation of the Allowance by loan and lease category.
Allocation of Allowance for Loan and Lease Losses
 
 
 
 
 
 
 
 
Table 19

 
December 31,
(dollars in thousands)
2015

 
2014

 
2013

 
2012

 
2011

Commercial
 
 
 
 
 
 
 
 
 
Commercial and Industrial
$
22,052

 
$
26,822

 
$
31,942

 
$
20,724

 
$
23,865

Commercial Mortgage
31,889

 
31,118

 
29,495

 
33,182

 
25,900

Construction
5,541

 
4,927

 
5,588

 
3,592

 
5,326

Lease Financing
1,232

 
1,684

 
4,421

 
15,206

 
25,471

Total Commercial
60,714

 
64,551

 
71,446

 
72,704

 
80,562

Consumer
 
 
 
 
 
 
 
 
 
Residential Mortgage
11,151

 
14,069

 
14,631

 
18,063

 
18,758

Home Equity
13,118

 
14,798

 
13,072

 
24,261

 
27,232

Automobile
8,516

 
4,251

 
4,016

 
2,370

 
2,646

Other 1
9,381

 
11,019

 
12,289

 
11,459

 
9,408

Total Consumer
42,166

 
44,137

 
44,008

 
56,153

 
58,044

Total Allocation of Allowance for Loan and Lease Losses
$
102,880

 
$
108,688

 
$
115,454

 
$
128,857

 
$
138,606

 
 
December 31,
 
2015
 
2014
 
2013
 
2012
 
2011
 
Alloc.
Allow. as
% of
loan or
lease
category

 
Loan
category
as % of
total
loans
and
leases

 
Alloc.
Allow. as
% of
loan or
lease
category

 
Loan
category
as % of
total
loans
and
leases

 
Alloc.
Allow. as
% of
loan or
lease
category

 
Loan
category
as % of
total
loans
and
leases

 
Alloc.
Allow. as
% of
loan or
lease
category

 
Loan
category
as % of
total
loans
and
leases

 
Alloc.
Allow. as
% of
loan or
lease
category

 
Loan
category
as % of
total
loans
and
leases

Commercial
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial and Industrial
1.98
%
 
14.15
%
 
2.54
%
 
15.30
%
 
3.50
%
 
14.95
%
 
2.50
%
 
14.17
%
 
2.92
%
 
14.75
%
Commercial Mortgage
1.90

 
21.29

 
2.16

 
20.84

 
2.36

 
20.47

 
3.02

 
18.74

 
2.76

 
16.94

Construction
3.54

 
1.99

 
4.51

 
1.58

 
5.20

 
1.76

 
3.15

 
1.95

 
5.40

 
1.78

Lease Financing
0.60

 
2.60

 
0.74

 
3.28

 
1.69

 
4.30

 
5.53

 
4.70

 
8.17

 
5.63

Total Commercial
1.93

 
40.03

 
2.28

 
41.00

 
2.83

 
41.48

 
3.14

 
39.56

 
3.72

 
39.10

Consumer
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential Mortgage
0.38

 
37.13

 
0.55

 
37.28

 
0.64

 
37.45

 
0.77

 
40.14

 
0.85

 
40.01

Home Equity
1.23

 
13.57

 
1.71

 
12.56

 
1.69

 
12.69

 
3.15

 
13.16

 
3.49

 
14.10

Automobile
2.23

 
4.85

 
1.31

 
4.70

 
1.57

 
4.20

 
1.13

 
3.58

 
1.37

 
3.48

Other 1
2.69

 
4.42

 
3.58

 
4.46

 
4.83

 
4.18

 
5.50

 
3.56

 
5.14

 
3.31

Total Consumer
0.89

 
59.97

 
1.08

 
59.00

 
1.23

 
58.52

 
1.59

 
60.44

 
1.72

 
60.90

Total
1.31
%
 
100.00
%
 
1.58
%
 
100.00
%
 
1.89
%
 
100.00
%
 
2.20
%
 
100.00
%
 
2.50
%
 
100.00
%
1 Comprised of other revolving credit, installment, and lease financing.

As of December 31, 2015, the Allowance was $102.9 million or 1.31% of total loans and leases outstanding, compared with an Allowance of $108.7 million or 1.58% of total loans and leases outstanding as of December 31, 2014.  The level of the Allowance was commensurate with the Company's stable credit risk profile, loan portfolio growth and composition, and a healthy Hawaii economy.

Net charge-offs of loans and leases were $6.8 million or 0.09% of total average loans and leases in 2015 compared to $1.9 million or 0.03% of total average loans and leases in 2014. Net recoveries in our commercial portfolios were $1.2 million in 2015 compared to net recoveries of $2.7 million in 2014. This decrease was primarily due to a $2.1 million non-recurring recovery experienced in 2014. Net charge-offs in our consumer portfolios were $8.0 million in 2015 compared to $4.6 million in 2014. This increase was primarily reflected in our automobile and other consumer portfolios, reflective of the growth and seasoning in these portfolios.


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Although we determine the amount of each component of the Allowance separately, the Allowance as a whole was considered appropriate by management as of December 31, 2015 based on our ongoing analysis of estimated probable credit losses, credit risk profiles, economic conditions, coverage ratios, and other relevant factors.

The allocation of the Allowance to our commercial portfolio segment decreased by $3.8 million or 6% from December 31, 2014. This decrease was primarily due to a $2.1 million decrease in the Allowance allocated to a commercial and industrial loan in Guam.
The allocation of the Allowance to our consumer portfolio segment decreased by $2.0 million or 4% from December 31, 2014 due to lower losses and loss rates.

See Note 4 to the Consolidated Financial Statements for more information on the Allowance and credit quality indicators.
Reserve for Unfunded Commitments

The Unfunded Reserve was $6.1 million as of December 31, 2015, an increase of $0.2 million or 3% from December 31, 2014. The process used to determine the Unfunded Reserve is consistent with the process for determining the Allowance, as adjusted for estimated funding probabilities.

Other Credit Risks

In the normal course of business, we serve the needs of state and political subdivisions in multiple capacities, including traditional banking products such as deposit services, and by investing in municipal debt securities. The carrying value of our municipal debt securities was $977.9 million as of December 31, 2015 and $993.5 million as of December 31, 2014. We also maintained investments in corporate bonds with a carrying value of $460.2 million as of December 31, 2015 and $461.5 million as of December 31, 2014. We are exposed to credit risk in these investments should the issuer of a security be unable to meet its financial obligations. This may result in the issuer failing to make scheduled interest payments and/or being unable to repay the principal upon maturity. See the "Analysis of Statements of Condition - Investment Securities" section in MD&A for more information.

Our use of derivative financial instruments has been very limited in recent years. However, these financial instruments do expose the Company to counterparty credit risk. See Note 17 to the Consolidated Financial Statements for more information.

Market Risk

Market risk is the potential of loss arising from adverse changes in interest rates and prices.  We are exposed to market risk as a consequence of the normal course of conducting our business activities.  Our market risk management process involves measuring, monitoring, controlling, and mitigating risks that can significantly impact our statements of income and condition.  In this management process, market risks are balanced with expected returns in an effort to enhance earnings performance, while limiting volatility.

Our primary market risk exposure is interest rate risk.

Interest Rate Risk

The objective of our interest rate risk management process is to maximize net interest income while operating within acceptable limits established for interest rate risk and maintaining adequate levels of funding and liquidity. The potential cash flows, sales, or replacement value of many of our assets and liabilities, especially those that earn or pay interest, are sensitive to changes in the general level of interest rates.  This interest rate risk arises primarily from our core business activities of extending loans and accepting deposits. Our investment securities portfolio is also subject to significant interest rate risk.

Many factors affect our exposure to changes in interest rates, such as general economic and financial conditions, customer preferences, historical pricing relationships, and repricing characteristics of financial instruments. Our earnings are affected not only by general economic conditions but also by the monetary and fiscal policies of the U.S. and its agencies, particularly the Federal Reserve Bank (the “FRB”).  The monetary policies of the FRB can influence the overall growth of loans, investment securities, and deposits and the level of interest rates earned on assets and paid for liabilities. 


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In managing interest rate risk, we, through the Asset/Liability Management Committee (“ALCO”), measure short and long-term sensitivities to changes in interest rates.  The ALCO, which is comprised of members of executive management, utilizes several techniques to manage interest rate risk, which include:

•
adjusting the balance sheet mix or altering the interest rate characteristics of assets and liabilities;
•
changing product pricing strategies;
•
modifying characteristics of the investment securities portfolio; and
•
using derivative financial instruments.

Our use of derivative financial instruments, as detailed in Note 17 to the Consolidated Financial Statements, has generally been limited.  This is due to natural on-balance sheet hedges arising out of offsetting interest rate exposures from loans and investment securities with deposits and other interest-bearing liabilities.  In particular, the investment securities portfolio is utilized to manage the interest rate exposure and sensitivity to within the guidelines and limits established by the ALCO.  We utilize natural and offsetting economic hedges in an effort to reduce the need to employ off-balance sheet derivative financial instruments to hedge interest rate risk exposures.  Expected movements in interest rates are also considered in managing interest rate risk.  Thus, as interest rates change, we may use different techniques to manage interest rate risk.

A key element in our ongoing process to measure and monitor interest rate risk is the utilization of an asset/liability simulation model that attempts to capture the dynamic nature of the balance sheet.  The model is used to estimate and measure the balance sheet sensitivity to changes in interest rates.  These estimates are based on assumptions about the behavior of loan and deposit pricing, repayment rates on mortgage-based assets, and principal amortization and maturities on other financial instruments.  The model’s analytics include the effects of standard prepayment options on mortgages and customer withdrawal options for deposits.  While such assumptions are inherently uncertain, we believe that these assumptions are reasonable. 
 
We utilize net interest income simulations to analyze short-term income sensitivities to changes in interest rates.  Table 20 presents, for the twelve months subsequent to December 31, 2015 and 2014, an estimate of the change in net interest income that would result from a gradual and immediate change in interest rates, moving in a parallel fashion over the entire yield curve, relative to the measured base case scenario.  The base case scenario assumes the balance sheet and interest rates are generally unchanged.  Based on our net interest income simulation as of December 31, 2015, net interest income is expected to increase as interest rates rise. This is due in part to our strategy to maintain a relatively short investment portfolio duration. In addition, rising interest rates would drive higher rates on loans and investment securities, as well as induce a slower pace of premium amortization on certain securities within our investment portfolio. However, lower interest rates would likely cause a decline in net interest income as lower rates would lead to lower yields on loans and investment securities, as well as drive higher premium amortization on existing investment securities. Since deposit costs are already at low levels, lower interest rates are unlikely to significantly impact our funding costs. Based on our net interest income simulation as of December 31, 2015, net interest income sensitivity to changes in interest rates for the twelve months subsequent to December 31, 2015 was more sensitive compared to the sensitivity profile for the twelve months subsequent to December 31, 2014. The increase in sensitivity was partially due to changes in our balance sheet mix, including increases in funds sold, loans, and core deposits. Also contributing to the sensitivity increase was lengthening the tenor of our liabilities, including public funds and term debt.
Net Interest Income Sensitivity Profile
 
 
 
 
Table 20
 
 
Impact on Future Annual Net Interest Income
(dollars in thousands)
December 31, 2015
 
December 31, 2014
Gradual Change in Interest Rates (basis points)
 
 
 
 
 
 
 
+200
$
11,217

 
2.7
%
 
$
7,934

 
2.0
%
+100
5,095

 
1.2

 
3,740

 
1.0

-100
(7,132
)
 
(1.7
)
 
(6,528
)
 
(1.7
)
Immediate Change in Interest Rates (basis points)
 
 
 
 
 
 
 
+200
$
28,194

 
6.9
%
 
$
18,962

 
4.8
%
+100
12,840

 
3.1

 
8,804

 
2.2

-100
(20,437
)
 
(5.0
)
 
(20,755
)
 
(5.3
)

To analyze the impact of changes in interest rates in a more realistic manner, non-parallel interest rate scenarios are also simulated. These non-parallel interest rate scenarios indicate that net interest income may decrease from the base case scenario should the yield curve flatten or become inverted for a period of time. Conversely, if the yield curve should steepen, net interest income may increase.

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Table of Contents



Other Market Risks

In addition to interest rate risk, we are exposed to other forms of market risk in our normal business transactions. Foreign currency and foreign exchange contracts expose us to a small degree of foreign currency risk. These transactions are primarily executed on behalf of customers. Our trust and asset management income are at risk to fluctuations in the market values of underlying assets, particularly debt and equity securities. Also, our share-based compensation expense is dependent on the fair value of the stock options, restricted stock units, and restricted stock at the date of grant. The fair value of stock options, restricted stock units, and restricted stock is impacted by the market price of the Parent's common stock on the date of grant and is at risk to changes in equity markets, general economic conditions, and other factors.

Liquidity Risk Management

The objective of our liquidity risk management process is to manage cash flow and liquidity in an effort to provide continuous access to sufficient, reasonably priced funds.  Funding requirements are impacted by loan originations and refinancings, deposit balance changes, liability issuances and settlements, and off-balance sheet funding commitments.  We consider and comply with various regulatory guidelines regarding required liquidity levels and periodically monitor our liquidity position in light of the changing economic environment and customer activity.  Based on periodic liquidity assessments, we may alter our asset, liability, and off-balance sheet positions.  The ALCO monitors sources and uses of funds and modifies asset and liability positions as liquidity requirements change.  This process, combined with our ability to raise funds in money and capital markets and through private placements, provides flexibility in managing the exposure to liquidity risk.

In an effort to satisfy our liquidity needs, we actively manage our assets and liabilities.  We have immediate liquid resources in cash which is primarily on deposit with the FRB. Potential sources of liquidity also include investment securities in our available-for-sale securities portfolio, and our ability to sell loans in the secondary market and to secure borrowings from the FRB and FHLB.  Our held-to-maturity securities, while not intended for sale, may also be utilized in repurchase agreements to obtain funding. Our core deposits have historically provided us with a long-term source of stable and relatively lower cost source of funding.  Additional funding is available through the issuance of long-term debt. 

Maturities and payments on outstanding loans also provide a steady flow of funds. Additionally, as of December 31, 2015, investment securities with a carrying value of $167.0 million were due to mature or expected to prepay in 2016. Liquidity is further enhanced by our ability to pledge loans to access secured borrowings from the FHLB and FRB. As of December 31, 2015, we could have borrowed an additional $1.1 billion from the FHLB and an additional $560.8 million from the FRB based on the amount of collateral pledged.

We continued our focus on maintaining a strong liquidity position throughout 2015. As of December 31, 2015, cash and cash equivalents were $755.7 million, the carrying value of our available-for-sale and held-to-maturity investment securities were $2.3 billion and $4.0 billion, respectively, and total deposits were $13.3 billion. As of December 31, 2015, our available-for-sale portfolio consisted primarily of municipal bond holdings, mortgage-backed securities issued by Ginnie Mae and Fannie Mae, Small Business Administration debt securities, and corporate bonds. As of December 31, 2015, our available-for-sale investment securities portfolio and our held-to-maturity investment securities portfolio were comprised of securities with an average base duration of approximately 2.7 years and 3.8 years, respectively.

Capital Management

We actively manage capital, commensurate with our risk profile, to enhance shareholder value. We also seek to maintain capital levels for the Company and the Bank at amounts in excess of the regulatory "well-capitalized" thresholds. Periodically, we may respond to market conditions by implementing changes to our overall balance sheet positioning to manage our capital position.

The Company and the Bank are each subject to regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements could cause certain mandatory and discretionary actions by regulators that, if undertaken, would likely have a material effect on our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative and qualitative measures. These measures were established by regulation to ensure capital adequacy. As of December 31, 2015, the Company and the Bank were considered "well capitalized" under this regulatory framework. The Company's regulatory capital ratios are presented in Table 21 below. There have been no conditions or events since December 31, 2015 that management believes have changed either the Company's or the Bank's capital classifications.


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As of December 31, 2015, shareholders' equity was $1.1 billion, an increase of $61.2 million or 6% from December 31, 2014. Earnings for 2015 of $160.7 million, common stock issuances of $21.0 million, shared-based compensation of $7.7 million, and other comprehensive income of $3.1 million were offset by cash dividends paid of $78.4 million. In 2015, we also repurchased 802,255 shares of our common stock under our share repurchase program at an average cost per share of $62.61 and a total cost of $50.2 million. From the beginning of our share repurchase program in July 2001 through December 31, 2015, we repurchased a total of 52.8 million shares of common stock and returned a total of $1.97 billion to our shareholders at an average cost of $37.35 per share.

From January 1, 2016 through February 17, 2016, the Parent repurchased an additional 149,500 shares of common stock at an average cost of $59.50 per share and a total cost of $8.9 million. The actual amount and timing of future share repurchases, if any, will depend on market and economic conditions, regulatory rules, applicable SEC rules, and various other factors.

In January 2016, the Parent's Board of Directors declared a quarterly cash dividend of $0.45 per share on the Parent's outstanding shares. The dividend will be payable on March 14, 2016 to shareholders of record at the close of business on February 29, 2016.

We continue to evaluate the potential impact that regulatory rules may have on our liquidity and capital management strategies, including Basel III and those required under the Dodd-Frank Act. See the "Regulatory Initiatives Affecting the Banking Industry" section below for further discussion on the potential impact that these regulatory rules may have on our liquidity and capital requirements.

Table 21 presents a five-year history of activities and balances in our capital accounts, along with key capital ratios.
Shareholders' Equity and Regulatory Capital
 
 
 
 
 
 
Table 21
 
 
December 31,
(dollars in thousands)
2015

 
2014

 
2013

 
2012

 
2011

Change in Shareholders' Equity
 
 
 
 
 
 
 
 
 
Net Income
$
160,704

 
$
163,042

 
$
150,502

 
$
166,076

 
$
160,043

Cash Dividends Paid
(78,367
)
 
(79,660
)
 
(80,534
)
 
(81,645
)
 
(84,891
)
Dividend Reinvestment Program
4,316

 
4,479

 
4,656

 
4,721

 
5,008

Common Stock Repurchased
(52,981
)
 
(64,046
)
 
(39,655
)
 
(81,444
)
 
(111,544
)
Other1
27,502

 
19,295

 
(44,658
)
 
11,290

 
22,918

Increase (Decrease) in Shareholders' Equity
$
61,174

 
$
43,110

 
$
(9,689
)
 
$
18,998

 
$
(8,466
)
 
 
 
 
 
 
 
 
 
 
Regulatory Capital 2
 
 
 
 
 
 
 
 
 
Shareholders' Equity
$
1,116,260

 
$
1,055,086

 
$
1,011,976

 
$
1,021,665

 
$
1,002,667

Less: Goodwill 3
27,416

 
31,517

 
31,517

 
31,550

 
31,600

Postretirement Benefit Liability Adjustments
(28,860
)
 
(34,115
)
 
(22,394
)
 
(30,569
)
 
(27,669
)
Net Unrealized Gains (Losses) on Investment Securities 4
5,304

 
15,984

 
(1,300
)
 
45,977

 
39,396

Other
(198
)
 
2,069

 
(137
)
 
24

 
2,343

Common Equity Tier 1 Capital
1,112,598

 
N/A

 
N/A

 
N/A

 
N/A

Tier 1 Capital
1,112,598

 
1,039,631

 
1,004,290

 
974,683

 
956,997

Allowable Reserve for Credit Losses
99,647

 
88,785

 
78,761

 
71,680

 
67,775

Total Regulatory Capital
$
1,212,245

 
$
1,128,416

 
$
1,083,051

 
$
1,046,363

 
$
1,024,772

 
 
 
 
 
 
 
 
 
 
Risk-Weighted Assets 2
$
7,962,484

 
$
7,077,035

 
$
6,258,143

 
$
5,671,774

 
$
5,345,740

 
 
 
 
 
 
 
 
 
 
Key Regulatory Capital Ratios 2
 
 
 
 
 
 
 
 
 
Common Equity Tier 1 Capital Ratio
13.97
%
 
N/A%

 
N/A%

 
N/A%

 
N/A%

Tier 1 Capital Ratio
13.97

 
14.69

 
16.05

 
17.18

 
17.90

Total Capital Ratio
15.22

 
15.94

 
17.31

 
18.45

 
19.17

Tier 1 Leverage Ratio
7.26

 
7.13

 
7.24

 
7.25

 
7.20

1 Includes unrealized gains and losses on available-for-sale investment securities, minimum pension liability adjustments, and common stock issuances under share-based compensation and related tax benefits.
2 December 31, 2015 calculated under Basel III rules, which became effective January 1, 2015.
3 December 31, 2015 calculated net of deferred tax liabilities.
4 December 31, 2015 includes unrealized gains and losses related to the Company's reclassification of available-for-sale investment securities to the held-to-maturity category.



52
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Regulatory Initiatives Affecting the Banking Industry

Basel III

The FRB and the FDIC approved the final rules implementing the Basel Committee on Banking Supervision's (“BCBS”) capital guidelines for U.S. banks. Under the final rules, minimum requirements increased for both the quantity and quality of capital held by the Company. The rules include a new common equity Tier 1 capital to risk-weighted assets minimum ratio of 4.5%, raise the minimum ratio of Tier 1 capital to risk-weighted assets from 4.0% to 6.0%, require a minimum ratio of Total Capital to risk-weighted assets of 8.0%, and require a minimum Tier 1 leverage ratio of 4.0%. A new capital conservation buffer, comprised of common equity Tier 1 capital, was also established above the regulatory minimum capital requirements. This capital conservation buffer will be phased in beginning January 1, 2016 at 0.625% of risk-weighted assets and increase each subsequent year by an additional 0.625% until reaching its final level of 2.5% on January 1, 2019. Strict eligibility criteria for regulatory capital instruments were also implemented under the final rules. The final rules also revised the definition and calculation of Tier 1 capital, Total Capital, and risk-weighted assets.

The phase-in period for the final rules became effective for the Company on January 1, 2015, with full compliance with all of the final rules’ requirements phased in over a multi-year schedule, to be fully phased-in by January 1, 2019. As of December 31, 2015, the Company remained characterized as "well-capitalized" under the new rules.

On September 3, 2014, the FRB, the FDIC, and the Office of the Comptroller of the Currency finalized the Liquidity Coverage Ratio (“LCR”), which requires banks to hold highly liquid assets relative to cash outflows over a 30-day period during a stressed scenario. The LCR generally applies to banking organizations with over $50.0 billion in assets, and therefore, should not directly impact the Company.

Management continues to monitor regulatory developments and their potential impact to the Company's liquidity requirements.

Stress Testing

The Dodd-Frank Act requires federal banking agencies to issue regulations that require banks with total consolidated assets of more than $10.0 billion to conduct and publish company-run annual stress tests to assess the potential impact of different scenarios on the consolidated earnings and capital of each bank and certain related items over a nine-quarter forward-looking planning horizon, taking into account all relevant exposures and activities. On October 9, 2012, the FRB published final rules implementing the stress testing requirements for banks, such as the Company, with total consolidated assets of more than $10.0 billion but less than $50.0 billion.  These rules set forth the timing and type of stress test activities, as well as rules governing controls, oversight and disclosure.

In March 2014, the FRB, OCC, and FDIC issued final supervisory guidance for these stress tests. This joint final supervisory guidance discusses supervisory expectations for stress test practices, provides examples of practices that would be consistent with those expectations, and offers additional details about stress test methodologies. It also emphasizes the importance of stress testing as an ongoing risk management practice.

We submitted our latest stress testing results, utilizing data as of September 30, 2014, to the FRB on March 31, 2015.  On June 26, 2015, we made our first stress test-related public disclosure (posted on our website), utilizing data as of September 30, 2014.

Debit Card Interchange Fees

On July 31, 2013, a U.S. District Court judge declared invalid provisions of the rule issued by the FRB under the Durbin Amendment of the Dodd-Frank Act, regarding the amount of the debit card interchange fee cap and the network non-exclusivity provisions, which was effective October 1, 2011. In September 2013, the U.S. District Court judge agreed to the FRB’s request to leave the existing rules in place until an appeals court rules on the case.

On March 21, 2014, a panel of the U.S. Court of Appeals for the District of Columbia (the "Court") overturned the U.S. District Court’s opinion. The Court concluded that the FRB “reasonably interpreted the Durbin Amendment” to allow issuers to recover certain costs that are incremental to the authorization, clearing, and settlement (“ACS”) costs. Finding that the FRB’s interpretation was reasonable, the Court then analyzed whether the FRB reasonably concluded that issuers could recover the four specific costs challenged by the merchants:  fixed ACS costs, network processing fees, fraud losses and transaction monitoring costs. The Court acknowledged that such a task was not “an exact science” and involved policy determinations in which the FRB had “expertise” and to which the FRB was entitled to “special deference.” The Court also rejected the merchants’ argument that

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the Durbin Amendment “unambiguously” required that there be multiple unaffiliated network routing options for each debit card transaction. The Court ruled that the FRB’s final rule does exactly what Congress contemplated, which is that under the rule, issuers and networks are prohibited from restricting the number of payment card networks on which an electronic debit transaction may be processed to only affiliated networks. The Court remanded one issue relating to recovery of transactions-monitoring costs back to the FRB, asking it to articulate a reasonable justification for determining that transactions-monitoring costs fell within the interchange fee standard rather than in the fraud-prevention adjustment. On August 18, 2014, some of the trade associations and retailers filed an appeal with the U.S. Supreme Court seeking review of the decision of the Court. On January 20, 2015, the U.S. Supreme Court announced it would not hear retailers’ challenge to the FRB's debit card interchange fee rules. The U.S. Supreme Court's decision not to hear the case keeps intact the March 21, 2014 ruling by the Court. On August 11, 2015, the FRB clarified the remanded issue regarding transactions-monitoring costs mentioned above. The clarification explains that the FRB included these costs in the base interchange fee rather than the fraud-prevention adjustment because “transactions-monitoring is integral to an issuer’s decision to authorize a specific transaction.” Management will continue to monitor the developments related to this matter and any potential impact on the Company's statements of income.

Operational Risk

Operational risk represents the risk of loss resulting from our operations, including, but not limited to, the risk of fraud by employees or persons outside the Company, errors relating to transaction processing and technology, failure to adhere to compliance requirements, and the risk of cyber security attacks. The risk of loss also includes the potential legal actions that could arise as a result of an operational deficiency or as a result of noncompliance with applicable regulatory standards, adverse business decisions or their implementation, and customer attrition due to potential negative publicity. Operational risk is inherent in all business activities, and management of this risk is important to the achievement of Company goals and objectives.

The Operating Risk Committee (the "ORC") provides oversight and assesses the most significant operational risks facing the Company. We have developed a framework that provides for a centralized operating risk management function through the ORC, supplemented by business unit responsibility for managing operational risks specific to their business units. Our internal audit department also validates the system of internal controls through ongoing risk-based audit procedures and reports on the effectiveness of internal controls to executive management and the Audit and Risk Committee of the Board of Directors.

While our internal controls are designed to minimize operational risks, there is no assurance that business disruption or operational losses will not occur. On an ongoing basis, management reassesses operational risks, implements appropriate process changes, and invests in enhancements to its systems of internal controls.

Off-Balance Sheet Arrangements and Guarantees

Off-Balance Sheet Arrangements

We hold interests in several unconsolidated variable interest entities ("VIEs"). These unconsolidated VIEs are primarily low-income housing partnerships and solar energy tax credit partnership investments. Variable interests are defined as contractual ownership or other interests in an entity that change with fluctuations in an entity's net asset value. The primary beneficiary consolidates the VIE. We have determined that the Company is not the primary beneficiary of these entities. As a result, we do not consolidate these VIEs. See discussion of our accounting policy related to VIEs in Note 1 to the Consolidated Financial Statements.

Guarantees

We pool Federal Housing Administration ("FHA") insured and U.S. Department of Veterans Affairs ("VA") guaranteed residential mortgage loans for sale to Ginnie Mae. We also sell residential mortgage loans in the secondary market to Fannie Mae. The agreements under which we sell residential mortgage loans to Ginnie Mae or Fannie Mae and the insurance or guaranty agreements with the FHA and VA contain provisions that include various representations and warranties regarding the origination and characteristics of the residential mortgage loans. Although these loans are primarily sold on a non-recourse basis, we may be obligated to repurchase residential mortgage loans or reimburse the respective investor if it is found that required documents were not delivered or were defective.

We also service substantially all of the loans we sell to investors in the secondary market. Each agreement under which we act as servicer generally specifies a standard of responsibility for our actions and provides protection against expenses and liabilities incurred by us when acting in compliance with the respective servicing agreements. However, if we commit a material breach of

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obligations as servicer, we may be subject to various penalties which may include the repurchase of an affected loan or a reimbursement to the respective investor.

See discussion of our risks related to representation and warranty provisions as well as our risks related to residential mortgage loan servicing activities in Note 20 to the Consolidated Financial Statements.

Contractual Obligations

Our contractual obligations as of December 31, 2015 were as follows:
Contractual Obligations 1
 
 
 
 
 
 
 
Table 22

(dollars in thousands)
Less Than One Year

 
1-3 Years

 
4-5 Years

 
After 5 Years

 
Total

Deposits with No Stated Maturity
$
12,073,452

 
$
—

 
$
—

 
$
—

 
$
12,073,452

Time Deposits
933,273

 
196,380

 
32,960

 
15,038

 
1,177,651

Funds Purchased
7,333

 
—

 
—

 
—

 
7,333

Securities Sold Under Agreements to Repurchase
128,757

 
200,100

 
150,000

 
150,000

 
628,857

Other Debt 2
53,408

 
175,897

 
4,362

 
3,920

 
237,587

Banker's Acceptances Outstanding
261

 
—

 
—

 
—

 
261

Capital Lease Obligations
825

 
1,650

 
1,650

 
26,405

 
30,530

Non-Cancelable Operating Leases
13,752

 
21,263

 
16,246

 
99,276

 
150,537

Purchase Obligations
10,689

 
9,316

 
3,435

 
2,085

 
25,525

Pension and Postretirement Benefit Contributions 3
1,459

 
2,843

 
2,854

 
8,494

 
15,650

Total Contractual Obligations
$
13,223,209

 
$
607,449


$
211,507


$
305,218


$
14,347,383


1 
Our liability for unrecognized tax benefits ("UTBs") as of December 31, 2015 was $11.6 million. We were unable to reasonably estimate the period of cash settlement with the respective taxing authority. As a result, our liability for UTBs is not included in this disclosure.
2 
Includes interest on non-recourse debt.
3 
Amounts only include obligations related to the unfunded non-qualified pension plan and postretirement benefit plan.

Commitments to extend credit, standby letters of credit, and commercial letters of credit do not necessarily represent future cash requirements in that these commitments often expire without being drawn upon; therefore, these items are not included in the above table (see Note 20 to the Consolidated Financial Statements for more information). Our non-cancelable operating leases and capital lease obligations are primarily related to branch premises, equipment, and a portion of the Company's headquarters' building with lease terms extending through 2052. Purchase obligations arise from agreements to purchase goods or services that are enforceable and legally binding. Other contracts included in purchase obligations primarily consist of service agreements for various systems and applications supporting bank operations. Pension and postretirement benefit contributions represent the minimum expected contribution to the unfunded non-qualified pension plan and postretirement benefit plan. Actual contributions may differ from these estimates.

See discussion of credit, lease, and other contractual commitments in Note 20 to the Consolidated Financial Statements which is incorporated herein by reference.

Future Application of Accounting Pronouncements

See discussion of the expected impact of accounting pronouncements recently issued but that we have not adopted as of December 31, 2015 in Note 1 to the Consolidated Financial Statements.



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Selected Quarterly Consolidated Financial Data

Table 23 presents our selected quarterly financial data for 2015 and 2014.
Condensed Statements of Income
 
 
 
 
 
 
 
 
 
Table 23
 
Three Months Ended
 
Three Months Ended
 
 
2015
 
2014
 
(dollars in thousands, except per share amounts)
Dec 31

 
Sep 30

 
Jun 30

 
Mar 31

 
Dec 31

 
Sep 30

 
Jun 30

 
Mar 31

 
Interest Income
$
111,370

 
$
107,360

 
$
107,250

 
$
106,130

 
$
106,169

 
$
104,923

 
$
103,924

 
$
102,617

 
Interest Expense
9,726

 
9,469

 
9,468

 
9,360

 
9,537

 
9,544

 
9,512

 
9,384

 
Net Interest Income
101,644

 
97,891

 
97,782

 
96,770

 
96,632

 
95,379

 
94,412

 
93,233

 
Provision for Credit Losses
1,000

 
—

 
—

 
—

 
—

 
(2,665
)
 
(2,199
)
 
—

 
Investment Securities Gains
   (Losses), Net
(181
)
 
24

 
86

 
10,231

 
1,966

 
1,858

 
2,079

 
2,160

 
Noninterest Income
44,947

 
43,197

 
45,839

 
42,076

 
43,852

 
43,092

 
42,402

 
42,608

 
Noninterest Expense
85,727

 
91,888

 
83,574

 
86,915

 
81,240

 
81,030

 
81,082

 
83,547

 
Income Before Provision for
   Income Taxes
59,683

 
49,224

 
60,133

 
62,162

 
61,210

 
61,964

 
60,010

 
54,454

 
Provision for Income Taxes
16,851

 
14,948

 
18,979

 
19,720

 
20,019

 
20,195

 
18,520

 
15,862

 
Net Income
$
42,832

 
$
34,276

 
$
41,154

 
$
42,442

 
$
41,191

 
$
41,769

 
$
41,490

 
$
38,592

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Per Common Share
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Basic Earnings Per Share
$
1.00

 
$
0.79

 
$
0.95

 
$
0.98

 
$
0.95

 
$
0.95

 
$
0.94

 
$
0.87

 
Diluted Earnings Per Share
$
0.99

 
$
0.79

 
$
0.95

 
$
0.97

 
$
0.94

 
$
0.95

 
$
0.94

 
$
0.87

 
Dividends Declared Per Share
$
0.45

 
$
0.45

 
$
0.45

 
$
0.45

 
$
0.45

 
$
0.45

 
$
0.45

 
$
0.45

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Performance Ratios
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net Income to Average
   Total Assets (ROA)
1.11

%
0.89

%
1.10

%
1.15

%
1.12

%
1.15

%
1.17

%
1.12

%
Net Income to Average
Shareholders' Equity (ROE)
15.41

 
12.45

 
15.33

 
16.18

 
15.39

 
15.57

 
15.87

 
15.15

 
Efficiency Ratio 1
58.55

 
65.12

 
58.16

 
58.30

 
57.03

 
57.74

 
58.38

 
60.54

 
Net Interest Margin 2
2.85

 
2.77

 
2.81

 
2.81

 
2.84

 
2.85

 
2.86

 
2.87

 
1 
The efficiency ratio is defined as noninterest expense divided by total revenue (net interest income and noninterest income).
2 
The net interest margin is defined as net interest income, on a taxable equivalent basis, as a percentage of average earning assets.



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Fourth Quarter Results and Other Matters
 
Net Income

Net income for the fourth quarter of 2015 was $42.8 million, an increase of $1.6 million or 4% compared to the fourth quarter of 2014. Diluted earnings per share were $0.99 for the fourth quarter of 2015, an increase of $0.05 or 5% compared to the fourth quarter of 2014.

Net Interest Income

Net interest income, on a taxable-equivalent basis, for the fourth quarter of 2015 was $104.7 million, an increase of $5.1 million or 5% compared to the fourth quarter of 2014. This increase was primarily due to a higher level of earning assets. Average earning assets increased by $704.7 million in the fourth quarter of 2015 compared to the same period in 2014. Earning assets increased primarily due to increased deposits. Total deposits were $13.3 billion as of December 31, 2015, a $618.0 million increase from December 31, 2014. Net interest margin was 2.85% for the fourth quarter of 2015, an increase of 1 basis point compared to the fourth quarter of 2014. Loan and investment yields decreased slightly in the fourth quarter of 2015 compared to the fourth quarter of 2014, primarily due to lower yields in our investment securities and loans, reflective of the continued low interest rate environment. However, this was offset by our loans and leases, which generally have higher yields than investment securities, comprising a larger percentage of our earning assets in the current quarter.

Provision for Credit Losses

We recorded a Provision of $1.0 million in the fourth quarter of 2015 compared to no Provision recorded in the fourth quarter of 2014, while recording net charge-offs of loans and leases of $2.2 million and $1.7 million in the fourth quarters of 2015 and 2014, respectively.

Noninterest Income

Net gains on sales of investment securities decreased by $2.1 million in the fourth quarter of 2015 compared to the fourth quarter of 2014. This decrease was primarily due to a $2.0 million gain of the sale of 22,000 Visa Class B restricted shares in the fourth quarter of 2014. See the "Noninterest Income" section of MD&A for more information.

Noninterest income, other than net gains on sales of investment securities, was $44.9 million in the fourth quarter of 2015, an increase of $1.1 million or 2% compared to the fourth quarter of 2014. This increase was primarily due to a $1.0 million distribution received from a low-income housing partnership. In addition, mortgage banking income increased by $1.0 million primarily due to our decision to sell more conforming saleable loans from current production, which generated gains on sales of residential mortgage loans. These increases were partially offset by a $1.0 million decrease in trust and asset management income primarily due to a decrease in the number of accounts under management.

Noninterest Expense

Noninterest expense was $85.7 million in the fourth quarter of 2015, an increase of $4.5 million or 6% compared to the fourth quarter of 2014. Salaries and benefits increased by $2.5 million primarily due to higher separation expense and base salaries. Insurance expense increased by $2.1 million primarily due to a reserve reduction in the fourth quarter of 2014. Operational losses, which include losses as a result of bank error, fraud, items processing, or theft, increased by $1.4 million. Data processing expense increased by $1.3 million primarily due to the roll-out of EMV chip-enabled debit cards. These increases were partially offset by a $3.9 million gain on the sale of a Honolulu branch property in the fourth quarter of 2015.

Provision for Income Taxes

The provision for income taxes was $16.9 million in the fourth quarter of 2015, a decrease of $3.2 million or 16% compared to the fourth quarter of 2014. The effective tax rate for the fourth quarter of 2015 was 28.23% compared with an effective tax rate of 32.71% for the fourth quarter of 2014. The lower effective tax rate in the fourth quarter of 2015 was primarily due to a $0.9 million release of a valuation allowance for the expected utilization of capital losses due to the sale of a low-income housing investment in 2015, a $0.6 million addition to reserves for uncertain tax positions in 2014 and a $0.4 million release of reverse from uncertain tax positions in 2015.


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Common Stock Repurchase Program

In the fourth quarter of 2015, we repurchased 214,000 shares of our common stock under our share repurchase program at an average cost per share of $65.08 and a total cost of $13.9 million. See Note 11 to the Consolidated Financial Statements for more information related to our common stock repurchase program.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

See the Market Risk section in Management's Discussion and Analysis of Financial Condition and Results of Operation included in Item 7 of this report.

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Item 8. Financial Statements and Supplementary Data


Report of Independent Registered Public Accounting Firm


The Board of Directors and Shareholders
Bank of Hawaii Corporation

We have audited the accompanying consolidated statements of condition of Bank of Hawaii Corporation and subsidiaries as of December 31, 2015 and 2014, and the related consolidated statements of income, comprehensive income, shareholders' equity and cash flows for each of the three years in the period ended December 31, 2015. These financial statements are the responsibility of Bank of Hawaii Corporation’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Bank of Hawaii Corporation and subsidiaries at December 31, 2015 and 2014, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2015, in conformity with U.S. generally accepted accounting principles.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Bank of Hawaii Corporation's internal control over financial reporting as of December 31, 2015, based on criteria established in the Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated February 29, 2016 expressed an unqualified opinion thereon.


/s/ Ernst & Young LLP

Honolulu, Hawaii
February 29, 2016

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Bank of Hawaii Corporation and Subsidiaries
Consolidated Statements of Income
 
Year Ended December 31,
(dollars in thousands, except per share amounts)
2015

 
2014

 
2013

Interest Income
 
 
 
 
 
Interest and Fees on Loans and Leases
$
298,522

 
$
267,407

 
$
253,276

Income on Investment Securities
 
 
 
 
 
Available-for-Sale
41,492

 
42,475

 
53,570

Held-to-Maturity
89,650

 
105,860

 
90,062

Deposits
8

 
9

 
10

Funds Sold
1,133

 
673

 
415

Other
1,305

 
1,209

 
1,172

Total Interest Income
432,110

 
417,633

 
398,505

Interest Expense
 
 
 
 
 
Deposits
9,626

 
9,534

 
10,143

Securities Sold Under Agreements to Repurchase
25,364

 
25,905

 
26,837

Funds Purchased
12

 
13

 
44

Short-Term Borrowings
—

 
—

 
2

Other Debt
3,021

 
2,525

 
2,572

Total Interest Expense
38,023

 
37,977

 
39,598

Net Interest Income
394,087

 
379,656

 
358,907

Provision for Credit Losses
1,000

 
(4,864
)
 
—

Net Interest Income After Provision for Credit Losses
393,087

 
384,520

 
358,907

Noninterest Income
 
 
 
 
 
Trust and Asset Management
47,685

 
47,798

 
47,932

Mortgage Banking
11,583

 
7,571

 
19,186

Service Charges on Deposit Accounts
34,072

 
35,669

 
37,124

Fees, Exchange, and Other Service Charges
53,353

 
53,401

 
50,469

Investment Securities Gains, Net
10,160

 
8,063

 
—

Annuity and Insurance
7,664

 
8,065

 
9,190

Bank-Owned Life Insurance
7,039

 
6,639

 
5,892

Other
14,663

 
12,811

 
16,430

Total Noninterest Income
186,219

 
180,017

 
186,223

Noninterest Expense
 
 
 
 
 
Salaries and Benefits
191,963

 
183,028

 
184,211

Net Occupancy
30,217

 
37,296

 
38,745

Net Equipment
20,162

 
18,479

 
18,366

Data Processing
16,472

 
14,979

 
13,840

Professional Fees
9,660

 
9,794

 
9,405

FDIC Insurance
8,669

 
7,936

 
7,765

Other
70,961

 
55,387

 
58,637

Total Noninterest Expense
348,104

 
326,899

 
330,969

Income Before Provision for Income Taxes
231,202

 
237,638

 
214,161

Provision for Income Taxes
70,498

 
74,596

 
63,659

Net Income
$
160,704

 
$
163,042

 
$
150,502

Basic Earnings Per Share
$
3.72

 
$
3.71

 
$
3.39

Diluted Earnings Per Share
$
3.70

 
$
3.69

 
$
3.38

Dividends Declared Per Share
$
1.80

 
$
1.80

 
$
1.80

Basic Weighted Average Shares
43,217,818

 
43,899,208

 
44,380,948

Diluted Weighted Average Shares
43,454,877

 
44,125,456

 
44,572,725


The accompanying notes are an integral part of the Consolidated Financial Statements.

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Bank of Hawaii Corporation and Subsidiaries
Consolidated Statements of Comprehensive Income
 
Year Ended December 31,
(dollars in thousands)
2015

 
2014

 
2013

Net Income
$
160,704

 
$
163,042

 
$
150,502

Other Comprehensive Income (Loss), Net of Tax:
 
 
 
 
 
Net Unrealized Gains (Losses) on Investment Securities
(2,125
)
 
16,858

 
(69,206
)
Defined Benefit Plans
5,254

 
(11,721
)
 
8,175

Other Comprehensive Income (Loss)
3,129

 
5,137

 
(61,031
)
Comprehensive Income
$
163,833

 
$
168,179

 
$
89,471


The accompanying notes are an integral part of the Consolidated Financial Statements.


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Bank of Hawaii Corporation and Subsidiaries
Consolidated Statements of Condition
(dollars in thousands)
December 31,
2015

 
December 31,
2014

Assets
 
 
 
Interest-Bearing Deposits in Other Banks
$
4,130

 
$
2,873

Funds Sold
592,892

 
360,577

Investment Securities
 
 
 
Available-for-Sale
2,256,818

 
2,289,190

Held-to-Maturity (Fair Value of $4,006,412 and $4,504,495)
3,982,736

 
4,466,679

Loans Held for Sale
4,808

 
5,136

Loans and Leases
7,878,985

 
6,897,589

Allowance for Loan and Lease Losses
(102,880
)
 
(108,688
)
Net Loans and Leases
7,776,105

 
6,788,901

Total Earning Assets
14,617,489

 
13,913,356

Cash and Due From Banks
158,699

 
172,126

Premises and Equipment, Net
111,199

 
109,854

Accrued Interest Receivable
44,719

 
44,654

Foreclosed Real Estate
824

 
2,311

Mortgage Servicing Rights
23,002

 
24,695

Goodwill
31,517

 
31,517

Bank-Owned Life Insurance
268,175

 
262,807

Other Assets
199,392

 
225,888

Total Assets
$
15,455,016

 
$
14,787,208

 
 
 
 
Liabilities
 
 
 
Deposits
 
 
 
Noninterest-Bearing Demand
$
4,286,331

 
$
3,832,943

Interest-Bearing Demand
2,761,930

 
2,559,570

Savings
5,025,191

 
4,806,575

Time
1,177,651

 
1,434,001

Total Deposits
13,251,103

 
12,633,089

Funds Purchased
7,333

 
8,459

Securities Sold Under Agreements to Repurchase
628,857

 
688,601

Other Debt
245,786

 
173,912

Retirement Benefits Payable
47,374

 
55,477

Accrued Interest Payable
5,032

 
5,148

Taxes Payable and Deferred Taxes
17,737

 
27,777

Other Liabilities
135,534

 
139,659

Total Liabilities
14,338,756

 
13,732,122

Commitments, Contingencies, and Guarantees (Note 20)

 

Shareholders' Equity
 
 
 
Common Stock ($.01 par value; authorized 500,000,000 shares;
issued / outstanding: December 31, 2015 - 57,749,071 / 43,282,153
and December 31, 2014 - 57,634,755 / 43,724,208)
575

 
574

Capital Surplus
542,041

 
531,932

Accumulated Other Comprehensive Loss
(23,557
)
 
(26,686
)
Retained Earnings
1,316,260

 
1,234,801

Treasury Stock, at Cost (Shares: December 31, 2015 - 14,466,918
and December 31, 2014 - 13,910,547)
(719,059
)
 
(685,535
)
Total Shareholders' Equity
1,116,260

 
1,055,086

Total Liabilities and Shareholders' Equity
$
15,455,016

 
$
14,787,208


The accompanying notes are an integral part of the Consolidated Financial Statements.

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Bank of Hawaii Corporation and Subsidiaries
Consolidated Statements of Shareholders' Equity
(dollars in thousands)
Common Shares Outstanding

 
Common Stock

 
Capital Surplus

 
Accum. Other Compre-hensive Income (Loss)

 
Retained Earnings

 
Treasury Stock

 
Total

Balance as of December 31, 2012
44,754,835

 
$
571

 
$
515,619

 
$
29,208

 
$
1,084,477

 
$
(608,210
)
 
$
1,021,665

Net Income
—

 
—

 
—

 
—

 
150,502

 
—

 
150,502

Other Comprehensive Loss
—

 
—

 
—

 
(61,031
)
 
—

 
—

 
(61,031
)
Share-Based Compensation
—

 
—

 
5,546

 
—

 
—

 
—

 
5,546

Common Stock Issued under Purchase and Equity

 

 

 

 

 

 
 
      Compensation Plans and Related Tax Benefits
505,691

 
1

 
1,340

 
—

 
(2,691
)
 
16,833

 
15,483

Common Stock Repurchased
(770,141
)
 
—

 
—

 
—

 
—

 
(39,655
)
 
(39,655
)
Cash Dividends Declared ($1.80 per share)
—

 
—

 
—

 
—

 
(80,534
)
 
—

 
(80,534
)
Balance as of December 31, 2013
44,490,385

 
$
572

 
$
522,505

 
$
(31,823
)
 
$
1,151,754

 
$
(631,032
)
 
$
1,011,976



 

 

 

 
 
 

 
 
Net Income
—

 
—

 
—

 
—

 
163,042

 
—

 
163,042

Other Comprehensive Income
—

 
—

 
—

 
5,137

 
—

 
—

 
5,137

Share-Based Compensation
—

 
—

 
7,870

 
—

 
—

 
—

 
7,870

Common Stock Issued under Purchase and Equity

 

 

 

 

 

 
 
      Compensation Plans and Related Tax Benefits
345,278

 
2

 
1,557

 
—

 
(335
)
 
9,543

 
10,767

Common Stock Repurchased
(1,111,455
)
 
—

 
—

 
—

 
—

 
(64,046
)
 
(64,046
)
Cash Dividends Declared ($1.80 per share)
—

 
—

 
—

 
—

 
(79,660
)
 
—

 
(79,660
)
Balance as of December 31, 2014
43,724,208

 
$
574

 
$
531,932

 
$
(26,686
)
 
$
1,234,801

 
$
(685,535
)
 
$
1,055,086



 

 

 

 

 

 
 
Net Income
—

 
—

 
—

 
—

 
160,704

 
—

 
160,704

Other Comprehensive Income
—

 
—

 
—

 
3,129

 
—

 
—

 
3,129

Share-Based Compensation
—

 
—

 
7,689

 
—

 
—

 
—

 
7,689

Common Stock Issued under Purchase and Equity

 

 

 

 

 

 
 
      Compensation Plans and Related Tax Benefits
401,904

 
1

 
2,420

 
—

 
(878
)
 
19,457

 
21,000

Common Stock Repurchased
(843,959
)
 
—

 
—

 
—

 
—

 
(52,981
)
 
(52,981
)
Cash Dividends Declared ($1.80 per share)
—

 
—

 
—

 
—

 
(78,367
)
 
—

 
(78,367
)
Balance as of December 31, 2015
43,282,153

 
$
575

 
$
542,041

 
$
(23,557
)
 
$
1,316,260

 
$
(719,059
)
 
$
1,116,260


The accompanying notes are an integral part of the Consolidated Financial Statements.



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Bank of Hawaii Corporation and Subsidiaries
Consolidated Statements of Cash Flows
 
 
Year Ended December 31,
(dollars in thousands)
2015
 
2014
 
2013
 
Operating Activities
 
 
 
 
 
 
Net Income
 
$
160,704

 
$
163,042

 
$
150,502

Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities:
 
 
 
 
 
 
Provision for Credit Losses
 
1,000

 
(4,864
)
 
—

Impairment of Equipment Held for Sale
 
9,453

 
—

 
—

Depreciation and Amortization
 
12,785

 
12,442

 
12,128

Amortization of Deferred Loan and Lease Fees
 
(1,896
)
 
(2,064
)
 
(3,275
)
Amortization and Accretion of Premiums/Discounts on Investment Securities, Net
 
49,698

 
50,280

 
58,575

Share-Based Compensation
 
7,689

 
7,870

 
5,546

Benefit Plan Contributions
 
(1,974
)
 
(1,561
)
 
(1,229
)
Deferred Income Taxes
 
(6,517
)
 
(5,211
)
 
503

Net Gains on Sales of Loans and Leases
 
(4,139
)
 
(2,896
)
 
(19,952
)
Net Losses (Gains) on Investment Securities
 
(10,160
)
 
(8,063
)
 
—

Proceeds from Sales of Loans Held for Sale
 
188,141

 
72,096

 
683,772

Originations of Loans Held for Sale
 
(183,027
)
 
(68,006
)
 
(652,821
)
Tax Benefits from Share-Based Compensation
 
(1,076
)
 
(670
)
 
(948
)
Net Change in Other Assets and Other Liabilities
 
13,331

 
(2,915
)
 
9,162

Net Cash Provided by Operating Activities
 
234,012

 
209,480

 
241,963

 
 
 
 
 
 
 
Investing Activities
 
 
 
 
 
 
Investment Securities Available-for-Sale:
 
 
 
 
 
 
Proceeds from Prepayments and Maturities
 
413,587

 
325,211

 
919,579

Proceeds from Sales
 
67,985

 
16,574

 
—

Purchases
 
(468,573
)
 
(375,620
)
 
(510,548
)
Investment Securities Held-to-Maturity:
 
 
 
 
 
 
Proceeds from Prepayments and Maturities
 
979,007

 
776,876

 
1,054,466

Purchases
 
(518,664
)
 
(525,070
)
 
(1,661,874
)
Purchase of Bank-Owned Life Insurance
 
—

 
(35,000
)
 
—

Net Change in Loans and Leases
 
(990,315
)
 
(809,382
)
 
(257,158
)
Premises and Equipment, Net
 
(14,130
)
 
(13,660
)
 
(15,759
)
Net Cash Used in Investing Activities
 
(531,103
)
 
(640,071
)
 
(471,294
)
 
 
 
 
 
 
 
Financing Activities
 
 
 
 
 
 
Net Change in Deposits
 
618,014

 
718,433

 
385,174

Net Change in Short-Term Borrowings
 
(60,870
)
 
(82,971
)
 
9,788

Proceeds from Other Debt
 
175,000

 
—

 
50,000

Repayments of Other Debt
 
(100,000
)
 
—

 
—

Tax Benefits from Share-Based Compensation
 
1,076

 
670

 
948

Proceeds from Issuance of Common Stock
 
15,364

 
9,995

 
14,495

Repurchase of Common Stock
 
(52,981
)
 
(64,046
)
 
(39,655
)
Cash Dividends Paid
 
(78,367
)
 
(79,660
)
 
(80,534
)
Net Cash Provided by Financing Activities
 
517,236

 
502,421

 
340,216

 
 
 
 
 
 
 
Net Change in Cash and Cash Equivalents
 
220,145

 
71,830

 
110,885

Cash and Cash Equivalents at Beginning of Period
 
535,576

 
463,746

 
352,861

Cash and Cash Equivalents at End of Period
 
$
755,721

 
$
535,576

 
$
463,746

Supplemental Information
 
 
 
 
 
 
Cash Paid for Interest
 
$
37,419

 
$
36,795

 
$
38,424

Cash Paid for Income Taxes
 
72,740

 
72,127

 
75,166

Non-Cash Investing and Financing Activities:
 
 
 
 
 
 
Transfer from Investment Securities Available-For-Sale to
Investment Securities Held-To-Maturity
 
—

 
—

 
579,888

Transfer from Loans to Foreclosed Real Estate
 
676

 
3,950

 
5,429

Transfers from Loans to Loans Held for Sale
 
101,803

 
—

 
—


The accompanying notes are an integral part of the Consolidated Financial Statements.

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Note 1.  Summary of Significant Accounting Policies

Basis of Presentation

Bank of Hawaii Corporation (the "Parent") is a Delaware corporation and a bank holding company headquartered in Honolulu, Hawaii. Bank of Hawaii Corporation and its subsidiaries (collectively, the "Company") provide a broad range of financial products and services to customers in Hawaii, Guam, and other Pacific Islands. The majority of the Company's operations consist of customary commercial and consumer banking services including, but not limited to, lending, leasing, deposit services, trust and investment activities, brokerage services, and trade financing.

The accounting and reporting principles of the Company conform to U.S. generally accepted accounting principles ("GAAP") and prevailing practices within the financial services industry. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts in the financial statements and accompanying notes. Actual results may differ from those estimates and such differences could be material to the financial statements.

Certain prior period information has been reclassified to conform to the current year presentation.

The following is a summary of the Company's significant accounting policies:

Consolidation

The Consolidated Financial Statements include the accounts of the Parent and its subsidiaries. The Parent's principal operating subsidiary is Bank of Hawaii (the "Bank"). All significant intercompany accounts and transactions have been eliminated in consolidation.

Variable Interest Entities

Variable interests are defined as contractual ownership or other interests in an entity that change with fluctuations in an entity's net asset value. The primary beneficiary consolidates the variable interest entity ("VIE"). The primary beneficiary is defined as the enterprise that has both the power to direct the activities of the VIE that most significantly impact the entity's economic performance and the obligation to absorb losses or the right to receive benefits that could be significant to the VIE.

The Company has a limited partnership interest in several low-income housing partnerships. These partnerships provide funds for the construction and operation of apartment complexes that provide affordable housing to that segment of the population with lower family income. If these developments successfully attract a specified percentage of residents falling in that lower income range, state and/or federal income tax credits are made available to the partners. The tax credits are generally recognized over 10 years. In order to continue receiving the tax credits each year over the life of the partnership, the low-income residency targets must be maintained.

Prior to January 1, 2015, the Company utilized the effective yield method whereby the Company recognized tax credits generally over 10 years and amortized the initial cost of the investment to provide a constant effective yield over the period that tax credits are allocated to the Company. On January 1, 2015, the Company adopted ASU No. 2014-01, "Accounting for Investments in Qualified Affordable Housing Projects" prospectively for new investments. ASU No. 2014-01 permits reporting entities to make an accounting policy election to account for their investments in qualified affordable housing projects using the proportional amortization method if certain conditions are met. As permitted by ASU No. 2014-01, the Company elected to continue to utilize the effective yield method for investments made prior to January 1, 2015. See Accounting Standards Adopted in 2015 below for more information.

Unfunded commitments to fund these low-income housing partnerships were $25.3 million and $31.4 million as of December 31, 2015 and 2014, respectively. These unfunded commitments are unconditional and legally binding and are recorded in other liabilities in the consolidated statements of condition.

The Company also has limited partnership interests in three solar energy tax credit partnership investments. These partnerships develop, build, own and operate solar renewable energy projects. Over the course of the investment, the Company will receive federal and state tax credits, tax-related benefits, and excess cash available for distribution, if any. The Company may be called to

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sell its interest in the limited partnerships through a call option once all investment tax credits have been recognized. The tax benefits are generally recognized over 6 years.
These entities meet the definition of a VIE; however, the Company is not the primary beneficiary of the entities, as the general partner has both the power to direct the activities that most significantly impact the economic performance of the entities and the obligation to absorb losses or the right to receive benefits that could be significant to the entities. While the partnership agreements allow the limited partners, through a majority vote, to remove the general partner, this right is not deemed to be substantive as the general partner can only be removed for cause.

The investment in these entities is initially recorded at cost, which approximates the maximum exposure to loss as a result of the Company's involvement with these unconsolidated entities. The balance of the Company's investments in these entities was $79.0 million and $77.5 million as of December 31, 2015 and 2014, respectively, and is included in other assets in the consolidated statements of condition.

Investment Securities

Investment securities are accounted for according to their purpose and holding period. Trading securities are those that are bought and held principally for the purpose of selling them in the near term. The Company held no trading securities as of December 31, 2015 and 2014. Available-for-sale investment securities, comprised of debt and mortgage-backed securities, are those that may be sold before maturity due to changes in the Company's interest rate risk profile or funding needs, and are reported at fair value with unrealized gains and losses, net of taxes, reported as a component of other comprehensive income. Held-to-maturity investment securities, comprised of debt and mortgage-backed securities, are those that management has the positive intent and ability to hold to maturity and are reported at amortized cost.

Realized gains and losses are recorded in noninterest income and are determined on a trade date basis using the specific identification method. Interest and dividends on investment securities are recognized in interest income on an accrual basis. Premiums and discounts are amortized or accreted into interest income using the interest method over the expected lives of the individual securities.

Transfers of debt securities from the available-for-sale category to the held-to-maturity category are made at fair value at the date of transfer. The unrealized holding gain or loss at the date of transfer remains in accumulated other comprehensive income and in the carrying value of the held-to-maturity investment security. Premiums or discounts on investment securities are amortized or accreted as an adjustment of yield using the interest method over the estimated life of the security. Unrealized holding gains or losses that remain in accumulated other comprehensive income are also amortized or accreted over the estimated life of the security as an adjustment of yield, offsetting the related amortization of the premium or accretion of the discount.

Other-Than-Temporary-Impairments of Investment Securities

The Company conducts an other-than-temporary-impairment ("OTTI") analysis of investment securities on a quarterly basis or more often if a potential loss-triggering event occurs. A write-down of a debt security is recorded when fair value is below amortized cost in circumstances where: (1) the Company has the intent to sell a security; (2) it is more likely than not that the Company will be required to sell the security before recovery of its amortized cost basis; or (3) the Company does not expect to recover the entire amortized cost basis of the security. If the Company intends to sell a security or if it is more likely than not that the Company will be required to sell the security before recovery, an OTTI write-down is recognized in earnings equal to the entire difference between the security's amortized cost basis and its fair value. If the Company does not intend to sell the security or it is not more likely than not that it will be required to sell the security before recovery, the OTTI write-down is separated into an amount representing credit loss, which is recognized in earnings, and an amount related to all other factors, which is recognized in other comprehensive income. To determine the amount related to credit loss on a debt security, the Company applies a methodology similar to that used for evaluating the impairment of loans. As of December 31, 2015, management determined that the Company did not own any investment securities that were other-than-temporarily-impaired.

Loans Held for Sale

Residential mortgage loans with the intent to be sold in the secondary market are accounted for on an aggregate basis under the fair value option. Fair value is primarily determined based on quoted prices for similar loans in active markets. Non-refundable fees and direct loan origination costs related to residential mortgage loans held for sale are recognized as part of the cost basis of the loan at the time of sale. Gains and losses on sales of residential mortgage loans (sales proceeds minus carrying value) are recorded in the mortgage banking component of noninterest income.

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Commercial loans that management has an active plan to sell are valued on an individual basis at the lower-of-cost-or fair value. Fair value is primarily determined based on quoted prices for similar loans in active markets or agreed upon sales prices. Any reduction in the loan's value, prior to being transferred to the held for sale category, is reflected as a charge-off of the recorded investment in the loan resulting in a new cost basis, with a corresponding reduction in the allowance for loan and lease losses. Further decreases in the fair value of the loan are recognized in noninterest expense.

Loans and Leases

Loans are reported at the principal amount outstanding, net of unearned income including unamortized deferred loan fees and costs, and cumulative net charge-offs. Interest income is recognized on an accrual basis. Loan origination fees, certain direct costs, and unearned discounts and premiums, if any, are deferred and are generally amortized into interest income as yield adjustments using the interest method over the contractual life of the loan. Loan commitment fees are generally recognized into noninterest income. Other credit-related fees are recognized as fee income, a component of noninterest income, when earned.

Direct financing leases are carried at the aggregate of lease payments receivable plus the estimated residual value of leased property, less unearned income. Leveraged leases, which are a form of direct financing leases, are carried net of non-recourse debt. Unearned income on direct financing and leveraged leases is amortized over the lease term by methods that approximate the interest method. Residual values on leased assets are periodically reviewed for impairment.

Portfolio segments are defined as the level at which an entity develops and documents a systematic methodology to determine its allowance for loan and lease losses (the "Allowance"). Management has determined that the Company has two portfolio segments of loans and leases (commercial and consumer) in determining the Allowance. Both quantitative and qualitative factors are used by management at the portfolio segment level in determining the adequacy of the Allowance for the Company. Classes of loans and leases are a disaggregation of a Company's portfolio segments. Classes are defined as a group of loans and leases which share similar initial measurement attributes, risk characteristics, and methods for monitoring and assessing credit risk. Management has determined that the Company has eight classes of loans and leases (commercial and industrial, commercial mortgage, construction, lease financing, residential mortgage, home equity, automobile, and other). The "other" class of loans and leases is comprised of revolving credit, credit cards, installment, and lease financing arrangements.

Non-Performing Loans and Leases

Generally, all classes of commercial loans and leases are placed on non-accrual status upon becoming contractually past due 90 days as to principal or interest (unless loans and leases are adequately secured by collateral, are in the process of collection, and are reasonably expected to result in repayment), when terms are renegotiated below market levels, or where substantial doubt about full repayment of principal or interest is evident. For residential mortgage and home equity loan classes, loans past due 120 days as to principal or interest may be placed on non-accrual status, and a partial charge-off may be recorded, depending on the collateral value and/or the collectability of the loan. For automobile and other consumer loan classes, the entire outstanding balance of the loan is charged off when the loan becomes 120 days past due (180 days past due for credit cards) as to principal or interest.

When a loan or lease is placed on non-accrual status, the accrued and unpaid interest receivable is reversed and the loan or lease is accounted for on the cash or cost recovery method until qualifying for return to accrual status. All payments received on non-accrual loans and leases are applied against the principal balance of the loan or lease. A loan or lease may be returned to accrual status when all delinquent interest and principal become current in accordance with the terms of the loan or lease agreement and when doubt about repayment is resolved.

Generally, for all classes of loans and leases, a charge-off is recorded when it is probable that a loss has been incurred and when it is possible to determine a reasonable estimate of the loss. For all classes of commercial loans and leases, a charge-off is determined on a judgmental basis after due consideration of the debtor's prospects for repayment and the fair value of collateral. For the pooled segment of the Company's commercial and industrial loan class, which consists of small business loans, the entire outstanding balance of the loan remains on accrual status until it is charged off during the month that the loan becomes 120 days past due as to principal or interest. As previously mentioned, for residential mortgage and home equity loan classes, a partial charge-off may be recorded at 120 days past due as to principal or interest depending on the collateral value and/or the collectability of the loan. In the event that a loan or line in the home equity loan class is behind another financial institution's first mortgage, the entire outstanding balance of the loan is charged off when the loan becomes 120 days past due as to principal or interest, unless the combined loan-to-value ratio is 60% or less. As noted above, loans in the automobile and other consumer loan

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classes are charged off in its entirety upon the loan becoming 120 days past due (180 days past due for credit cards) as to principal or interest.

Impaired Loans

A loan is considered impaired when, based on current information and events, it is probable that the Company will not be able to collect all amounts due from the borrower in accordance with the contractual terms of the loan, including scheduled interest payments. Impaired loans include all classes of commercial non-accruing loans (except lease financing and small business loans), and all loans modified in a troubled debt restructuring. Impaired loans exclude lease financing and smaller balance homogeneous loans (consumer and small business non-accruing loans) that are collectively evaluated for impairment.

For all classes of commercial loans, a quarterly evaluation of individual commercial borrowers is performed to identify impaired loans. The identification of specific borrowers for review is based on a review of non-accrual loans as well as those loans specifically identified by management as exhibiting above average levels of risk.

When a loan has been identified as being impaired, the amount of impairment is measured based on the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's observable market price, or the estimated fair value of the collateral, less any selling costs, if the loan is collateral-dependent. If the measurement of the impaired loan is less than the recorded investment in the loan (including accrued interest, net of deferred loan fees or costs, and unamortized premiums or discounts), impairment is recognized by establishing or adjusting an existing allocation of the Allowance, or by recording a partial charge-off of the loan to its fair value. Interest payments made on impaired loans are typically applied to principal unless collectability of the principal amount is reasonably assured, in which case interest income may be accrued or recognized on a cash basis.

Loans Modified in a Troubled Debt Restructuring

Loans are considered to have been modified in a troubled debt restructuring when, due to a borrower's financial difficulties, the Company makes certain concessions to the borrower that it would not otherwise consider. Modifications may include interest rate reductions, principal or interest forgiveness, forbearance, and other actions intended to minimize economic loss and to avoid foreclosure or repossession of collateral. Generally, a non-accrual loan that has been modified in a troubled debt restructuring remains on non-accrual status for a period of at least 6 months to demonstrate that the borrower is able to meet the terms of the modified loan. However, performance prior to the modification, or significant events that coincide with the modification, are included in assessing whether the borrower can meet the new terms and may result in the loan being returned to accrual status at the time of loan modification or after a shorter performance period. If the borrower's ability to meet the revised payment schedule is uncertain, the loan remains on non-accrual status.

Reserve for Credit Losses

The Company's reserve for credit losses is comprised of two components, the Allowance and the reserve for unfunded commitments (the "Unfunded Reserve").

Allowance for Loan and Lease Losses

The Company maintains an Allowance adequate to cover management's estimate of probable credit losses as of the balance sheet date. Loans and leases that are charged off reduce the Allowance while recoveries of loans and leases previously charged off increase the Allowance. Other changes to the level of the Allowance are recognized through charges or credits to the provision for credit losses (the "Provision"). The Allowance considers both unimpaired and impaired loans and is developed and documented at the portfolio segment level (commercial and consumer).

The level of the Allowance related to the Company's commercial portfolio segment is generally based on the credit risk ratings and historical loss experience of individual borrowers. This is supplemented as necessary by credit judgment to address observed changes in trends and conditions, and other relevant environmental and economic factors that may affect the collectability of loans and leases. Excluding those loans and leases evaluated individually for impairment, the Company's remaining commercial loans and leases are pooled and collectively evaluated for impairment based on business unit and internal risk rating segmentation.


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The level of the Allowance related to the Company's consumer portfolio segment is generally based on analyses of homogeneous pools of loans and leases. Loans and leases are pooled based on similar loan and lease risk characteristics for collective evaluation of impairment. Loss estimates are calculated based on historical rolling average loss rates and average delinquency flows to loss. Consumer loans that have been individually evaluated for impairment or modified in a troubled debt restructuring are excluded from the homogeneous pools. Impairment related to such loans is generally determined based on the present value of expected future cash flows discounted at the loan's original effective interest rate.

The Allowance also includes an estimate for inherent losses not reflected in the historical analyses. Relevant factors include, but are not limited to, concentrations of credit risk (geographic, large borrower, and industry), economic trends and conditions, changes in underwriting standards, experience and depth of lending staff, trends in delinquencies, and the level of net charge-offs. In addition, the Company uses a variety of other tools to estimate probable credit losses including, but not limited to, a rolling quarterly forecast of asset quality metrics; stress testing; and performance indicators based on the Company's own experience, peers, or other industry sources.

Reserve for Unfunded Commitments

The Unfunded Reserve is a component of other liabilities and represents the estimate for probable credit losses inherent in unfunded commitments to extend credit. Unfunded commitments to extend credit include banker's acceptances, and standby and commercial letters of credit. The process used to determine the Unfunded Reserve is consistent with the process for determining the Allowance, as adjusted for estimated funding probabilities or loan and lease equivalency factors. The level of the Unfunded Reserve is adjusted by recording an expense or recovery in other noninterest expense.

Cash and Cash Equivalents

Cash and cash equivalents include cash and due from banks, interest-bearing deposits in other banks, and funds sold. All amounts are readily convertible to cash and have maturities of less than 90 days.

Premises and Equipment

Premises and equipment, including leasehold improvements, are stated at cost, less accumulated depreciation and amortization. Capital leases are included in premises and equipment at the capitalized amount less accumulated amortization.

Premises and equipment are depreciated using the straight-line method over the estimated useful lives of the respective assets. Estimated useful lives generally range up to 30 years for buildings and up to 10 years for equipment. Capitalized leased assets and leasehold improvements are amortized over the shorter of the estimated useful life of the asset or the lease term. Repairs and maintenance are charged to expense as incurred, while improvements which extend the estimated useful life of the asset are capitalized and depreciated over the estimated remaining life of the asset.

Premises and equipment are periodically evaluated for impairment when events or changes in circumstances indicate the carrying amount may not be recoverable. Impairment exists when the expected undiscounted future cash flows of premises and equipment are less than its carrying amount. In that event, the Company records a loss for the difference between the carrying amount and the fair value of the asset based on quoted market prices, if applicable, or a discounted cash flow analysis.

Foreclosed Real Estate

Foreclosed real estate consists of properties acquired through foreclosure proceedings or acceptance of a deed-in-lieu of foreclosure. These properties are recorded at fair value less estimated costs to sell the property. If the recorded investment in the loan exceeds the property's fair value at the time of acquisition, a charge-off is recorded against the Allowance. If the fair value of the property at the time of acquisition exceeds the carrying amount of the loan, the excess is recorded either as a recovery to the Allowance if a charge-off had previously been recorded, or as a gain on initial transfer in other noninterest income. Subsequent decreases in the property's fair value and operating expenses of the property are recognized through charges to other noninterest expense. The fair value of the property acquired is based on third party appraisals, broker price opinions, recent sales activity, or a combination thereof, subject to management judgment.


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Mortgage Servicing Rights

Mortgage servicing rights are recognized as assets when mortgage loans are sold and the rights to service those loans are retained. Mortgage servicing rights are initially recorded at fair value by using a discounted cash flow model to calculate the present value of estimated future net servicing income.

The Company's mortgage servicing rights accounted for under the fair value method are carried on the statements of condition at fair value with changes in fair value recorded in mortgage banking income in the period in which the change occurs. Changes in the fair value of mortgage servicing rights are primarily due to changes in valuation inputs, assumptions, and the collection and realization of expected cash flows.

The Company's mortgage servicing rights accounted for under the amortization method are initially recorded at fair value. However, these mortgage servicing rights are amortized in proportion to and over the period of estimated net servicing income. An impairment analysis is prepared on a quarterly basis by estimating the fair value of the mortgage servicing rights and comparing that value to the carrying amount. A valuation allowance is established when the carrying amount of these mortgage servicing rights exceeds fair value.

Goodwill

Goodwill is initially recorded as the excess of the purchase price over the fair value of the net assets acquired in a business combination and is subsequently evaluated at least annually for impairment. Goodwill impairment testing is performed at the reporting unit level, equivalent to a business segment or one level below. The Company has two reporting units that were assigned goodwill: Investment Services and Retail Banking.

The Company performs its annual evaluation of goodwill impairment in the fourth quarter of each year and on an interim basis if events or changes in circumstances indicate that there may be impairment. The Company performs a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The qualitative factors considered include, but are not limited to, macroeconomic and State of Hawaii economic conditions, industry and market conditions and trends, the Company's financial performance, market capitalization, stock price, and any Company-specific events relevant to the assessment. If the assessment of qualitative factors indicates that it is not more likely than not that an impairment exists, no further testing is performed; otherwise an impairment test is performed. The goodwill impairment test is a two-step test. The first step of the goodwill impairment test compares the estimated fair value of identified reporting units with their carrying amount, including goodwill. If the estimated fair value of a reporting unit is less than the carrying value, the second step must be performed to determine the implied fair value of the reporting unit's goodwill and the amount of goodwill impairment, if any. The implied fair value of goodwill is determined as if the reporting unit were being acquired in a business combination. If the implied fair value of goodwill exceeds the goodwill assigned to the reporting unit, there is no impairment. If the implied fair value of goodwill is less than the carrying amount, a loss would be recognized in other noninterest expense to reduce the carrying amount to the implied fair value of goodwill. Subsequent reversals of goodwill impairment are prohibited. For the year ended December 31, 2015, the Company's goodwill impairment evaluation indicated that there was no impairment.

Non-Marketable Equity Securities

The Company is required to own Federal Home Loan Bank ("FHLB") of Des Moines and Federal Reserve Bank ("FRB") stock as a condition of membership. These non-marketable equity securities are accounted for at cost which equals par or redemption value. These securities do not have a readily determinable fair value as their ownership is restricted and there is no market for these securities. These securities can only be redeemed or sold at their par value and only to the respective issuing government supported institution or to another member institution. The Company records these non-marketable equity securities as a component of other assets and are periodically evaluated for impairment. Management considers these non-marketable equity securities to be long-term investments. Accordingly, when evaluating these securities for impairment, management considers the ultimate recoverability of the par value rather than by recognizing temporary declines in value.

Securities Sold Under Agreements to Repurchase

The Company enters into agreements under which it sells securities subject to an obligation to repurchase the same or similar securities. Under these arrangements, the Company may transfer legal control over the assets but still retain effective control through an agreement that both entitles and obligates the Company to repurchase the assets. As a result, securities sold under agreements to repurchase are accounted for as collateralized financing arrangements (i.e., secured borrowings) and not as a sale

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and subsequent repurchase of securities. The obligation to repurchase the securities is reflected as a liability in the Company's consolidated statements of condition, while the securities underlying the securities sold under agreements to repurchase remain in the respective asset accounts. See Note 19 (Balance Sheet Offsetting) for more information.

Pension and Postretirement Benefit Plans

The Company incurs certain employment-related expenses associated with its two frozen pension plans and a postretirement benefit plan (the "Plans"). In order to measure the expense associated with the Plans, various assumptions are made including the discount rate, expected return on plan assets, anticipated mortality rates, and expected future healthcare costs. The assumptions are based on historical experience as well as current facts and circumstances. The Company uses a December 31 measurement date for its Plans. As of the measurement date, plan assets are determined based on fair value, generally representing observable market prices. The projected benefit obligation is primarily determined based on the present value of projected benefit distributions at an assumed discount rate.

Net periodic pension benefit costs include interest costs based on an assumed discount rate, the expected return on plan assets based on actuarially derived market-related values, and the amortization of net actuarial gains or losses. Net periodic postretirement benefit costs include service costs, interest costs based on an assumed discount rate, and the amortization of prior service credits and net actuarial gains or losses. Differences between expected and actual results in each year are included in the net actuarial gain or loss amount, which is recognized in other comprehensive income. The net actuarial gain or loss in excess of a 10% corridor is amortized in net periodic benefit cost over the average remaining expected lives of the pension plan participants and over the average remaining future service years of the postretirement benefit plan participants. The prior service credit is amortized over the average remaining service period to full eligibility for participating employees expected to receive benefits.

The Company recognizes in its consolidated statements of condition an asset for a plan's overfunded status or a liability for a plan's underfunded status. The Company also measures the Plans' assets and obligations that determine its funded status as of the end of the year and recognizes those changes in other comprehensive income, net of tax.

Income Taxes

The Parent files a consolidated federal income tax return with the Bank and its subsidiaries. Calculation of the Company's provision for income taxes requires the interpretation of income tax laws and regulations and the use of estimates and judgments in its determination. The Company is subject to examination by governmental authorities that may give rise to income tax issues due to differing interpretations. Changes to the liability for income taxes also occur due to changes in income tax rates, implementation of new business strategies, resolution of issues with taxing authorities, and newly enacted statutory, judicial, and regulatory guidance.

Deferred income taxes are provided to reflect the tax effect of temporary differences between financial statement carrying amounts and the corresponding tax basis of assets and liabilities. Deferred income taxes are calculated by applying enacted statutory tax rates and tax laws to future years in which temporary differences are expected to reverse. The impact on deferred tax assets and liabilities from a change in tax rates is recognized in income in the period that the tax rate change is enacted. A deferred tax valuation allowance is established if it is more likely than not that a deferred tax asset will not be realized.

The Company's tax sharing policy provides for the settlement of income taxes between each relevant subsidiary as if the subsidiary had filed a separate return. Payments are made to the Parent by subsidiaries with tax liabilities and subsidiaries that generate tax benefits receive payments for those benefits as used.

The Company maintains reserves for certain tax positions that arise in the normal course of business. As of December 31, 2015, these positions were evaluated based on an assessment of probabilities as to the likelihood of whether a liability had been incurred. Such assessments are reviewed as events occur and adjustments to the reserves are made as appropriate. In evaluating a tax position for recognition, the Company evaluates whether it is more likely than not that a tax position will be sustained upon examination, including resolution of related appeals or litigation processes, based on the technical merits of the position. If the tax position meets the more likely than not recognition threshold, the tax position is measured and recognized in the Company's Consolidated Financial Statements as the largest amount of tax benefit that, in management's judgment, is greater than 50% likely of being realized upon ultimate settlement.


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Treasury Stock

Shares of the Parent's common stock that are repurchased are recorded in treasury stock at cost. On the date of subsequent re-issuance, the treasury stock account is reduced by the cost of such stock on a first-in, first-out basis.

Earnings Per Share

Basic earnings per share is computed by dividing net income by the weighted average number of common shares outstanding for the period. Diluted earnings per share is computed by dividing net income by the weighted average number of common shares outstanding for the period, assuming conversion of all potentially dilutive common stock equivalents.

Derivative Financial Instruments

In the ordinary course of business, the Company enters into derivative financial instruments as an end-user in connection with its risk management activities and to accommodate the needs of its customers. The Company has elected not to qualify for hedge accounting methods addressed under current provisions of GAAP. Derivative financial instruments are stated at fair value on the consolidated statements of condition with changes in fair value reported in current period earnings.

Share-Based Compensation

The Company may grant share-based compensation to employees and non-employee directors in the form of restricted stock, restricted stock units and stock options. The fair value of restricted stock is determined based on the closing price of the Parent's common stock on the date of grant. The Company recognizes compensation expense related to restricted stock on a straight-line basis over the vesting period for service-based awards, plus additional recognition of costs associated with accelerated vesting based on the projected attainment of Company performance measures. Beginning in 2014, the Company issued restricted stock units ("RSUs") payable solely in cash which are accounted for as other liabilities in the statement of condition. The fair value of RSUs is initially valued based on the closing price of the Parent's common stock on the date of grant and is amortized in the statement of income over the vesting period. The RSUs are subsequently remeasured in the same manner described above at the end of each reporting period until settlement. The fair value of stock options is estimated at the date of grant using the Black-Scholes option pricing model and related assumptions. The Company uses historical data to predict option exercise and employee termination behavior. Expected volatilities are based on the historical volatility of the Parent's common stock. The expected term of options granted is derived from actual historical exercise activity and represents the period of time that options granted are expected to be outstanding. The risk-free rate is derived from the U.S. Treasury yield curve in effect at the time of grant based on the expected life of the option. The dividend yield is equal to the dividend yield of the Parent's common stock at the time of grant. The amortization of the expense related to stock options reflects estimated forfeitures, adjusted for actual forfeiture experience. Amortization expense related to stock options is recorded in the statements of income as a component of salaries and benefits for employees and as a component of other noninterest expense for non-employee directors, with a corresponding increase to capital surplus in shareholders' equity. As the expense related to stock options is recognized, a deferred tax asset is established that represents an estimate of future income tax deductions from the release of restrictions or the exercise of stock options.

Advertising Costs

Advertising costs are expensed as incurred. Advertising costs were $5.3 million for the years ended December 31, 2015 and 2014, and $5.0 million for the year ended December 31, 2013.

International Operations

The Bank has operations that are conducted in certain Pacific Islands that are denominated in U.S. dollars. These operations are classified as domestic.

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Fair Value Measurements

Fair value measurements apply whenever GAAP requires or permits assets or liabilities to be measured at fair value either on a recurring or nonrecurring basis. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for an asset or liability in an orderly transaction between market participants at the measurement date. Fair value is based on the assumptions that management believes market participants would use when pricing an asset or liability. Fair value measurement and disclosure guidance established a three-level fair value hierarchy that prioritizes the use of inputs used in valuation methodologies. Management maximizes the use of observable inputs and minimizes the use of unobservable inputs when determining fair value measurements. Management reviews and updates the fair value hierarchy classifications of the Company's assets and liabilities on a quarterly basis. The three-level fair value hierarchy is as follows:
Level 1:
Inputs to the valuation methodology are quoted prices, unadjusted, for identical assets or liabilities in active markets. A quoted price in an active market provides the most reliable evidence of fair value and shall be used to measure fair value whenever available. A contractually binding sales price also provides reliable evidence of fair value.
Level 2:
Inputs to the valuation methodology include quoted prices for similar assets or liabilities in active markets; inputs to the valuation methodology include quoted prices for identical or similar assets or liabilities in markets that are not active; or inputs to the valuation methodology that utilize model-based techniques for which all significant assumptions are observable in the market.
Level 3:
Inputs to the valuation methodology are unobservable and significant to the fair value measurement; inputs to the valuation methodology that utilize model-based techniques for which significant assumptions are not observable in the market; or inputs to the valuation methodology that requires significant management judgment or estimation, some of which may be internally developed.
In determining fair value measurements, management assesses whether the volume and level of activity for an asset or liability have significantly decreased. In such instances, management determines whether recent quoted prices are associated with illiquid or inactive markets. If management concludes that quoted prices are associated with illiquid or inactive markets, adjustments to quoted prices may be necessary or management may conclude that a change in valuation technique or the use of multiple valuation techniques may be appropriate to estimate an asset or liability's fair value. See Note 14 (Employee Benefits) and Note 21 (Fair Value of Assets and Liabilities) for the required fair value measurement disclosures.

Accounting Standards Adopted in 2015

In January 2014, the FASB issued ASU No. 2014-01, "Accounting for Investments in Qualified Affordable Housing Projects." ASU No. 2014-01 permits reporting entities to make an accounting policy election to account for their investments in qualified affordable housing projects using the proportional amortization method if certain conditions are met. Under the proportional amortization method, an entity amortizes the initial cost of the investment in proportion to the tax credits and other tax benefits received and recognizes the net investment performance in the income statement as a component of income tax expense. This new guidance also requires new disclosures for all investors in these projects (see Note 18 (Affordable Housing Projects Tax Credit Partnerships)). The Company adopted ASU No. 2014-01 effective January 1, 2015. Upon adoption, the guidance must be applied retrospectively to all periods presented. However, entities that used the effective yield method to account for investments in these projects before adoption may continue to do so for these pre-existing investments. Prior to adoption of ASU No. 2014-01, the Company accounted for such investments using the effective yield method and continued to do so for these pre-existing investments after adopting ASU No. 2014-01. The Company expects future investments to meet the criteria required for the proportional amortization method and plans to make such an accounting policy election. There were no new investments being amortized since the adoption of ASU No. 2014-01 on January 1, 2015, and therefore, the adoption of ASU No. 2014-01 did not have a material impact on the Company's Consolidated Financial Statements.

In January 2014, the FASB issued ASU No. 2014-04, "Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure." The objective of this guidance is to clarify when an in substance repossession or foreclosure occurs, that is, when a creditor should be considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan such that the loan receivable should be derecognized and the real estate property recognized. ASU No. 2014-04 states that an in substance repossession or foreclosure occurs, and a creditor is considered to have received physical possession of residential real estate property collateralizing a consumer mortgage loan, upon either: (1) the creditor obtaining legal title to the residential real estate property upon completion of a foreclosure; or (2) the borrower conveying

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all interest in the residential real estate property to the creditor to satisfy that loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. Additionally, ASU No. 2014-04 requires interim and annual disclosure of both: (1) the amount of foreclosed residential real estate property held by the creditor; and (2) the recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure according to local requirements of the applicable jurisdiction. The Company adopted ASU No. 2014-04 effective January 1, 2015. The adoption of ASU No. 2014-04 did not have a material impact on the Company's Consolidated Financial Statements.

In June 2014, the FASB issued ASU No. 2014-11, "Repurchase-to-Maturity Transactions, Repurchase Financings, and Disclosures." The new guidance aligns the accounting for repurchase-to-maturity transactions and repurchase agreements executed as repurchase financings with the accounting for other typical repurchase agreements. Going forward, these transactions would all be accounted for as secured borrowings. The guidance eliminates sale accounting for repurchase-to-maturity transactions and supersedes the guidance under which a transfer of a financial asset and a contemporaneous repurchase financing could be accounted for on a combined basis as a forward agreement, which has resulted in outcomes referred to as off-balance-sheet accounting. The amendments in the ASU require a new disclosure for transactions economically similar to repurchase agreements in which the transferor retains substantially all of the exposure to the economic return on the transferred financial assets throughout the term of the transaction. The amendments in the ASU also require expanded disclosures, effective June 30, 2015, about the nature of collateral pledged in repurchase agreements and similar transactions accounted for as secured borrowings (see Note 19 (Balance Sheet Offsetting)). The Company adopted the amendments in this ASU effective January 1, 2015. As of December 31, 2015, all of the Company's repurchase agreements were typical in nature (i.e., not repurchase-to-maturity transactions or repurchase agreements executed as a repurchase financing) and are accounted for as secured borrowings. As such, the adoption of ASU No. 2014-11 did not have a material impact on the Company's Consolidated Financial Statements.

In June 2014, the FASB issued ASU No. 2014-12, "Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period." The amendments in the ASU require that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. A reporting entity should apply existing guidance in Topic 718, Compensation - Stock Compensation, as it relates to awards with performance conditions that affect vesting to account for such awards. The performance target should not be reflected in estimating the grant-date fair value of the award. However, compensation cost should be recognized in the period in which it becomes probable that the performance target will be achieved and should represent the compensation cost attributable to the period(s) for which the requisite service has already been rendered. If the performance target becomes probable of being achieved before the end of the requisite service period, the remaining unrecognized compensation cost should be recognized prospectively over the remaining requisite service period. The total amount of compensation cost recognized during and after the requisite service period should reflect the number of awards that are expected to vest and should be adjusted to reflect those awards that ultimately vest. The requisite service period ends when the employee can cease rendering service and still be eligible to vest in the award if the performance target is achieved. Entities may apply the amendments in this ASU either: (1) prospectively to all awards granted or modified after the effective date; or (2) retrospectively to all awards with performance targets that are outstanding as of the beginning of the earliest annual period presented in the financial statements and to all new or modified awards thereafter. The Company adopted ASU No. 2014-12 effective January 1, 2015. As of December 31, 2015, the Company did not have any share-based payment awards that included performance targets that could be achieved after the requisite service period. As such, the adoption of ASU No. 2014-12 did not have a material impact on the Company's Consolidated Financial Statements.

In August 2014, the FASB issued ASU No. 2014-14, “Classification of Certain Government-Guaranteed Mortgage Loans upon Foreclosure.” The objective of this guidance is to reduce diversity in practice related to how creditors classify government-guaranteed mortgage loans, including FHA and VA guaranteed loans, upon foreclosure. Some creditors reclassify those loans to real estate consistent with other foreclosed loans that do not have guarantees; others reclassify the loans to other receivables. The amendments in this guidance require that a mortgage loan be derecognized and that a separate other receivable be recognized upon foreclosure if the following conditions are met: (1) the loan has a government guarantee that is not separable from the loan before foreclosure; (2) at the time of foreclosure, the creditor has the intent to convey the real estate property to the guarantor and make a claim on the guarantee, and the creditor has the ability to recover under that claim; and (3) at the time of foreclosure, any amount of the claim that is determined on the basis of the fair value of the real estate is fixed. Upon foreclosure, the separate other receivable should be measured based on the amount of the loan balance (principal and interest) expected to be recovered from the guarantor. The Company adopted ASU No. 2014-14 effective January 1, 2015. The adoption of ASU No. 2014-14 did not have a material impact on the Company's Consolidated Financial Statements.


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Accounting Standards Pending Adoption

In May 2014, the FASB and the International Accounting Standards Board (the "IASB") jointly issued a comprehensive new revenue recognition standard that will supersede nearly all existing revenue recognition guidance under GAAP and International Financial Reporting Standards ("IFRS"). Previous revenue recognition guidance in GAAP comprised broad revenue recognition concepts together with numerous revenue requirements for particular industries or transactions, which sometimes resulted in different accounting for economically similar transactions. In contrast, IFRS provided limited revenue recognition guidance and, consequently, could be difficult to apply to complex transactions. Accordingly, the FASB and the IASB initiated a joint project to clarify the principles for recognizing revenue and to develop a common revenue standard for U.S. GAAP and IFRS that would: (1) remove inconsistencies and weaknesses in revenue requirements; (2) provide a more robust framework for addressing revenue issues; (3) improve comparability of revenue recognition practices across entities, industries, jurisdictions, and capital markets; (4) provide more useful information to users of financial statements through improved disclosure requirements; and (5) simplify the preparation of financial statements by reducing the number of requirements to which an entity must refer. To meet those objectives, the FASB issued ASU No. 2014-09, "Revenue from Contracts with Customers." The standard’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so, companies generally will be required to use more judgment and make more estimates than under current guidance. These may include identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. The standard was initially effective for public entities for interim and annual reporting periods beginning after December 15, 2016; early adoption was not permitted. However, in August 2015, the FASB issued ASU No. 2015-14, "Revenue from Contracts with Customers - Deferral of the Effective Date" which defers the effective date by one year (i.e., interim and annual reporting periods beginning after December 15, 2017). Early adoption is permitted, but not before the original effective date (i.e., interim and annual reporting periods beginning after December 15, 2016). For financial reporting purposes, the standard allows for either full retrospective adoption, meaning the standard is applied to all of the periods presented, or modified retrospective adoption, meaning the standard is applied only to the most current period presented in the financial statements with the cumulative effect of initially applying the standard recognized at the date of initial application. The Company is currently evaluating the provisions of ASU No. 2014-09 and will be closely monitoring developments and additional guidance to determine the potential impact the new standard will have on the Company's Consolidated Financial Statements.

In February 2015, the FASB issued ASU No. 2015-02, “Amendments to the Consolidation Analysis.” This ASU affects reporting entities that are required to evaluate whether they should consolidate certain legal entities. Specifically, the amendments: (1) modify the evaluation of whether limited partnerships and similar legal entities are variable interest entities (“VIEs”) or voting interest entities; (2) eliminate the presumption that a general partner should consolidate a limited partnership; (3) affect the consolidation analysis of reporting entities that are involved with VIEs, particularly those that have fee arrangements and related party relationships; and (4) provide a scope exception from consolidation guidance for reporting entities with interests in legal entities that are required to comply with or operate in accordance with requirements that are similar to those in Rule 2a-7 of the Investment Company Act of 1940 for registered money market funds. ASU No. 2015-02 is effective for interim and annual reporting periods beginning after December 15, 2015. The adoption of ASU No. 2015-02 did not have a material impact on the Company's Consolidated Financial Statements.

In April 2015, the FASB issued ASU No. 2015-05, “Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement.” This ASU provides guidance to customers about whether a cloud computing arrangement includes a software license. If a cloud computing arrangement includes a software license, the customer should account for the software license element of the arrangement consistent with the acquisition of other software licenses. If a cloud computing arrangement does not include a software license, the customer should account for the arrangement as a service contract. The new guidance does not change the accounting for a customer’s accounting for service contracts. ASU No. 2015-05 is effective for interim and annual reporting periods beginning after December 15, 2015. The Company’s current method of accounting for fees paid in a cloud computing arrangement is consistent with the accounting guidance provided by ASU No. 2015-05. Therefore, the adoption of ASU No. 2015-05 did not have a material impact on the Company's Consolidated Financial Statements.

In January 2016, the FASB issued ASU No. 2016-01, "Recognition and Measurement of Financial Assets and Financial Liabilities." This ASU addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments by making targeted improvements to GAAP as follows: (1) require equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes

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in orderly transactions for the identical or a similar investment of the same issuer; (2) simplify the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment. When a qualitative assessment indicates that impairment exists, an entity is required to measure the investment at fair value; (3) eliminate the requirement to disclose the fair value of financial instruments measured at amortized cost for entities that are not public business entities; (4) eliminate the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet; (5) require public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes; (6) require an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments; (7) require separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements; and (8) clarify that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity’s other deferred tax assets. ASU No. 2016-01 is effective for interim and annual reporting periods beginning after December 15, 2017. Early application is permitted as of the beginning of the fiscal year of adoption only for provisions (3) and (6) above. Early adoption of the other provisions mentioned above is not permitted. The Company is currently evaluating the provisions of ASU No. 2016-01 and will be closely monitoring developments and additional guidance to determine the potential impact the new standard will have on the Company's Consolidated Financial Statements.

Note 2.  Restrictions on Cash

The Company is required to maintain cash on hand or on deposit with the Federal Reserve Bank based on the amount of certain customer deposits, mainly checking accounts. The Bank's average required reserve balances were $99.3 million and $92.3 million as of December 31, 2015 and 2014, respectively.


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Note 3.  Investment Securities

The amortized cost, gross unrealized gains and losses, and fair value of the Company's investment securities as of December 31, 2015, 2014, and 2013 were as follows:
(dollars in thousands)
Amortized
Cost

 
Gross
Unrealized
Gains

 
Gross
Unrealized
Losses

 
Fair
Value

December 31, 2015
 
 
 
 
 
 
 
Available-for-Sale:
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury and Government Agencies
$
356,260

 
$
3,472

 
$
(838
)
 
$
358,894

Debt Securities Issued by States and Political Subdivisions
709,724

 
22,498

 
(304
)
 
731,918

Debt Securities Issued by Corporations
313,136

 
236

 
(4,502
)
 
308,870

Mortgage-Backed Securities:
 
 
 
 
 
 
 
    Residential - Government Agencies
310,966

 
6,546

 
(1,267
)
 
316,245

    Residential - U.S. Government-Sponsored Enterprises
442,760

 
1,368

 
(2,264
)
 
441,864

    Commercial - Government Agencies
103,227

 
—

 
(4,200
)
 
99,027

Total Mortgage-Backed Securities
856,953

 
7,914

 
(7,731
)
 
857,136

Total
$
2,236,073

 
$
34,120

 
$
(13,375
)
 
$
2,256,818

Held-to-Maturity:
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury and Government Agencies
$
489,747

 
$
1,359

 
$
(1,139
)
 
$
489,967

Debt Securities Issued by States and Political Subdivisions
245,980

 
17,114

 
—

 
263,094

Debt Securities Issued by Corporations
151,301

 
368

 
(2,041
)
 
149,628

Mortgage-Backed Securities:
 
 
 
 
 
 
 
    Residential - Government Agencies
2,191,138

 
27,893

 
(19,067
)
 
2,199,964

    Residential - U.S. Government-Sponsored Enterprises
647,762

 
1,656

 
(2,616
)
 
646,802

    Commercial - Government Agencies
256,808

 
2,381

 
(2,232
)
 
256,957

Total Mortgage-Backed Securities
3,095,708

 
31,930

 
(23,915
)
 
3,103,723

Total
$
3,982,736

 
$
50,771

 
$
(27,095
)
 
$
4,006,412

 
 
 
 
 
 
 
 
December 31, 2014
 
 
 
 
 
 
 
Available-for-Sale:
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury and Government Agencies
$
325,365

 
$
5,933

 
$
(40
)
 
$
331,258

Debt Securities Issued by States and Political Subdivisions
723,474

 
21,941

 
(1,445
)
 
743,970

Debt Securities Issued by Corporations
298,272

 
546

 
(3,985
)
 
294,833

Mortgage-Backed Securities:
 
 
 
 
 
 
 
    Residential - Government Agencies
452,493

 
10,986

 
(1,043
)
 
462,436

    Residential - U.S. Government-Sponsored Enterprises
276,390

 
2,262

 
(191
)
 
278,461

    Commercial - Government Agencies
186,813

 
—

 
(8,581
)
 
178,232

Total Mortgage-Backed Securities
915,696

 
13,248

 
(9,815
)
 
919,129

Total
$
2,262,807

 
$
41,668

 
$
(15,285
)
 
$
2,289,190

Held-to-Maturity:
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury and Government Agencies
$
498,767

 
$
2,008

 
$
(1,159
)
 
$
499,616

Debt Securities Issued by States and Political Subdivisions
249,559

 
15,459

 
—

 
265,018

Debt Securities Issued by Corporations
166,686

 
109

 
(3,442
)
 
163,353

Mortgage-Backed Securities:
 
 
 
 
 
 
 
    Residential - Government Agencies
2,862,369

 
45,407

 
(20,636
)
 
2,887,140

    Residential - U.S. Government-Sponsored Enterprises
379,365

 
3,635

 
(15
)
 
382,985

    Commercial - Government Agencies
309,933

 
241

 
(3,791
)
 
306,383

Total Mortgage-Backed Securities
3,551,667

 
49,283

 
(24,442
)
 
3,576,508

Total
$
4,466,679

 
$
66,859

 
$
(29,043
)
 
$
4,504,495

 
 
 
 
 
 
 
 
December 31, 2013
 
 
 
 
 
 
 
Available-for-Sale:
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury and Government Agencies
$
390,873

 
$
6,640

 
$
(234
)
 
$
397,279

Debt Securities Issued by States and Political Subdivisions
691,861

 
8,396

 
(13,455
)
 
686,802

Debt Securities Issued by Corporations
280,172

 
1,165

 
(7,836
)
 
273,501

Mortgage-Backed Securities:
 
 
 
 
 
 
 
    Residential - Government Agencies
641,227

 
13,816

 
(1,849
)
 
653,194

    Residential - U.S. Government-Sponsored Enterprises
21,865

 
1,403

 
—

 
23,268

    Commercial - Government Agencies
219,859

 
—

 
(10,206
)
 
209,653

Total Mortgage-Backed Securities
882,951

 
15,219

 
(12,055
)
 
886,115

Total
$
2,245,857

 
$
31,420

 
$
(33,580
)
 
$
2,243,697

Held-to-Maturity:
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury and Government Agencies
$
433,987

 
$
3,045

 
$
(3,667
)
 
$
433,365

Debt Securities Issued by States and Political Subdivisions
253,039

 
817

 
(133
)
 
253,723

Debt Securities Issued by Corporations
190,181

 
—

 
(5,708
)
 
184,473

Mortgage-Backed Securities:
 
 
 
 
 
 
 
    Residential - Government Agencies
3,523,343

 
31,786

 
(66,572
)
 
3,488,557

    Residential - U.S. Government-Sponsored Enterprises
21,602

 
1,423

 
—

 
23,025

    Commercial - Government Agencies
322,367

 
—

 
(7,923
)
 
314,444

Total Mortgage-Backed Securities
3,867,312

 
33,209

 
(74,495
)
 
3,826,026

Total
$
4,744,519

 
$
37,071

 
$
(84,003
)
 
$
4,697,587


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The table below presents an analysis of the contractual maturities of the Company's investment securities as of December 31, 2015. Debt securities issued by government agencies (Small Business Administration securities) and mortgage-backed securities are disclosed separately in the table below as these investment securities may prepay prior to their scheduled contractual maturity dates.
(dollars in thousands)
Amortized
Cost

 
Fair Value

Available-for-Sale:
 
 
 
Due in One Year or Less
$
69,889

 
$
70,173

Due After One Year Through Five Years
474,444

 
477,064

Due After Five Years Through Ten Years
408,341

 
419,001

Due After Ten Years
70,732

 
75,096

 
1,023,406

 
1,041,334

 
 
 
 
Debt Securities Issued by Government Agencies
355,714

 
358,348

Mortgage-Backed Securities:
 
 
 
    Residential - Government Agencies
310,966

 
316,245

    Residential - U.S. Government-Sponsored Enterprises
442,760

 
441,864

    Commercial - Government Agencies
103,227

 
99,027

Total Mortgage-Backed Securities
856,953

 
857,136

Total
$
2,236,073

 
$
2,256,818

 
 
 
 
Held-to-Maturity:
 
 
 
Due After One Year Through Five Years
$
522,433

 
$
523,945

Due After Five Years Through Ten Years
292,951

 
301,459

Due After Ten Years
71,644

 
77,285

 
887,028

 
902,689

Mortgage-Backed Securities:
 
 
 
    Residential - Government Agencies
2,191,138

 
2,199,964

    Residential - U.S. Government-Sponsored Enterprises
647,762

 
646,802

    Commercial - Government Agencies
256,808

 
256,957

Total Mortgage-Backed Securities
3,095,708

 
3,103,723

Total
$
3,982,736

 
$
4,006,412


Investment securities with carrying values of $2.5 billion, $2.8 billion, and $2.6 billion as of December 31, 2015, 2014, and 2013, respectively, were pledged to secure deposits of governmental entities and securities sold under agreements to repurchase.

The table below presents the gains and losses from the sales of investment securities for the years ended December 31, 2015, 2014, and 2013.
(dollars in thousands)
2015

 
2014

 
2013

Gross Gains on Sales of Investment Securities
$
11,640

 
$
8,063

 
$
—

Gross Losses on Sales of Investment Securities
(1,480
)
 
—

 
—

Net Gains on Sales of Investment Securities
$
10,160

 
$
8,063

 
$
—


The securities sold for losses in 2015 were government agency commercial mortgage-backed securities categorized as available-for-sale. These loans were sold to reduce our allocation to the sector and did not represent an overall change in strategy.

The income tax expense related to the Company's net realized gains on the sales of investment securities was $4.0 million in 2015 and $3.2 million in 2014. There were no sales of investment securities in 2013.




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The Company's investment securities in an unrealized loss position, segregated by continuous length of impairment, were as follows:
 
Less Than 12 Months
 
12 Months or Longer
 
Total
(dollars in thousands)
Fair Value

 
Gross
Unrealized
Losses

 
Fair Value

 
Gross
Unrealized
Losses

 
Fair Value

 
Gross
Unrealized
Losses

December 31, 2015
 
 
 
 
 
 
 
 
 
 
 
Available-for-Sales:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury
 and Government Agencies
$
144,260

 
$
(822
)
 
$
5,452

 
$
(16
)
 
$
149,712

 
$
(838
)
Debt Securities Issued by States
 and Political Subdivisions
72,248

 
(252
)
 
6,798

 
(52
)
 
79,046

 
(304
)
Debt Securities Issued by Corporations
101,269

 
(1,747
)
 
162,304

 
(2,755
)
 
263,573

 
(4,502
)
Mortgage-Backed Securities:
 
 
 
 
 
 
 
 
 
 
 
    Residential - Government Agencies
30,679

 
(130
)
 
9,117

 
(1,137
)
 
39,796

 
(1,267
)
    Residential - U.S. Government-Sponsored Enterprises
346,603

 
(2,264
)
 
—

 
—

 
346,603

 
(2,264
)
    Commercial - Government Agencies
—

 
—

 
99,026

 
(4,200
)
 
99,026

 
(4,200
)
Total Mortgage-Backed Securities
377,282

 
(2,394
)
 
108,143

 
(5,337
)
 
485,425

 
(7,731
)
Total
$
695,059

 
$
(5,215
)
 
$
282,697

 
$
(8,160
)
 
$
977,756

 
$
(13,375
)
 
 
 
 
 
 
 
 
 
 
 
 
Held-to-Maturity:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury
 and Government Agencies
$
264,747

 
$
(1,139
)
 
$
—

 
$
—

 
$
264,747

 
$
(1,139
)
Debt Securities Issued by Corporations
28,218

 
(66
)
 
71,208

 
(1,975
)
 
99,426

 
(2,041
)
Mortgage-Backed Securities:
 
 
 
 
 
 
 
 
 
 
 
    Residential - Government Agencies
562,502

 
(5,828
)
 
414,207

 
(13,239
)
 
976,709

 
(19,067
)
    Residential - U.S. Government-Sponsored Enterprises
450,147

 
(2,616
)
 
—

 
—

 
450,147

 
(2,616
)
    Commercial - Government Agencies
74,040

 
(958
)
 
52,207

 
(1,274
)
 
126,247

 
(2,232
)
Total Mortgage-Backed Securities
1,086,689

 
(9,402
)
 
466,414

 
(14,513
)
 
1,553,103

 
(23,915
)
Total
$
1,379,654

 
$
(10,607
)
 
$
537,622

 
$
(16,488
)
 
$
1,917,276

 
$
(27,095
)
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2014
 
 
 
 
 
 
 
 
 
 
 
Available-for-Sales:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury
 and Government Agencies
$
1,729

 
$
(2
)
 
$
5,546

 
$
(38
)
 
$
7,275

 
$
(40
)
Debt Securities Issued by States
 and Political Subdivisions
78,068

 
(305
)
 
94,543

 
(1,140
)
 
172,611

 
(1,445
)
Debt Securities Issued by Corporations
73,829

 
(1,171
)
 
180,335

 
(2,814
)
 
254,164

 
(3,985
)
Mortgage-Backed Securities:
 
 
 
 
 
 
 
 
 
 
 
    Residential - Government Agencies
3,025

 
(8
)
 
12,215

 
(1,035
)
 
15,240

 
(1,043
)
    Residential - U.S. Government-Sponsored Enterprises
103,824

 
(191
)
 
—

 
—

 
103,824

 
(191
)
    Commercial - Government Agencies
—

 
—

 
178,232

 
(8,581
)
 
178,232

 
(8,581
)
Total Mortgage-Backed Securities
106,849

 
(199
)
 
190,447

 
(9,616
)
 
297,296

 
(9,815
)
Total
$
260,475

 
$
(1,677
)
 
$
470,871

 
$
(13,608
)
 
$
731,346

 
$
(15,285
)
 
 
 
 
 
 
 
 
 
 
 
 
Held-to-Maturity:
 
 
 
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury
and Government Agencies
$
70,016

 
$
(134
)
 
$
144,222

 
$
(1,025
)
 
$
214,238

 
$
(1,159
)
Debt Securities Issued by Corporations
46,196

 
(349
)
 
82,109

 
(3,093
)
 
128,305

 
(3,442
)
Mortgage-Backed Securities:
 
 
 
 
 
 
 
 
 
 
 
    Residential - Government Agencies
280,967

 
(1,207
)
 
845,911

 
(19,429
)
 
1,126,878

 
(20,636
)
    Residential - U.S. Government-Sponsored Enterprises
45,754

 
(15
)
 
—

 
—

 
45,754

 
(15
)
    Commercial - Government Agencies
124,594

 
(179
)
 
171,091

 
(3,612
)
 
295,685

 
(3,791
)
Total Mortgage-Backed Securities
451,315

 
(1,401
)
 
1,017,002

 
(23,041
)
 
1,468,317

 
(24,442
)
Total
$
567,527

 
$
(1,884
)
 
$
1,243,333

 
$
(27,159
)
 
$
1,810,860

 
$
(29,043
)

The Company does not believe that the investment securities that were in an unrealized loss position as of December 31, 2015, which were comprised of 224 securities, represent an other-than-temporary impairment. Total gross unrealized losses were

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primarily attributable to changes in interest rates, relative to when the investment securities were purchased, and not due to the credit quality of the investment securities. As of December 31, 2015, the gross unrealized losses reported for mortgage-backed securities were mostly related to investment securities issued by the Government National Mortgage Association. The Company does not intend to sell the investment securities that were in an unrealized loss position and it is not more likely than not that the Company will be required to sell the investment securities before recovery of their amortized cost bases, which may be at maturity.

Interest income from taxable and non-taxable investment securities for the years ended December 31, 2015, 2014, and 2013 were as follows:
 
Year Ended December 31,
(dollars in thousands)
2015

 
2014

 
2013

Taxable
$
109,912

 
$
127,128

 
$
125,379

Non-Taxable
21,230

 
21,207

 
18,253

Total Interest Income from Investment Securities
$
131,142

 
$
148,335

 
$
143,632


As of December 31, 2015, included in the Company's investment securities portfolio were debt securities issued by political subdivisions within the State of Hawaii of $575.7 million, representing 58% of the total fair value of the Company's municipal debt securities. Of the entire Hawaii municipal bond portfolio, 91% were credit-rated Aa2 or better by Moody's while most of the remaining Hawaii municipal bonds were credit-rated A2 or better by at least one nationally recognized statistical rating organization. Of the Company's total Hawaii municipal bond holdings, 77% were general obligation issuances. As of December 31, 2015, there were no other holdings of municipal debt securities that were issued by a single state or political subdivision which comprised more than 10% of the total fair value of the Company's municipal debt securities.
As of December 31, 2015 and 2014 the carrying value of the Company’s Federal Home Loan Bank of Des Moines (“FHLB Des Moines”) stock and Federal Reserve Bank stock was as follows:
 
December 31,
(dollars in thousands)
2015

 
2014

Federal Home Loan Bank Stock
$
19,000

 
$
47,075

Federal Reserve Bank Stock
19,836

 
19,299

Total
$
38,836

 
$
66,374


These securities can only be redeemed or sold at their par value and only to the respective issuing government-supported institution or to another member institution.  The Company records these non-marketable equity securities as a component of other assets and periodically evaluates these securities for impairment.  Management considers these non-marketable equity securities to be long-term investments.  Accordingly, when evaluating these securities for impairment, management considers the ultimate recoverability of the par value rather than by recognizing temporary declines in value.

Effective May 31, 2015, FHLB Des Moines completed its merger with the Federal Home Loan Bank of Seattle (“FHLB Seattle”). The continuing bank, FHLB Des Moines, remains headquartered in Des Moines with a western regional office in Seattle. Prior to the merger, the Company held stock in FHLB Seattle. Pursuant to the terms of the Merger Agreement, each share of FHLB Seattle stock was converted into one share of FHLB Des Moines stock. In addition, upon the merger, the Company's excess FHLB stock was redeemed and the Company’s membership effectively transferred to FHLB Des Moines.  The merger did not have a material impact on the Company's Consolidated Financial Statements or the Company's dealings with the continuing bank.

Visa Class B Restricted Shares

In 2008, the Company received Visa Class B restricted shares as part of Visa’s initial public offering. These shares are transferable only under limited circumstances until they can be converted into the publicly traded Class A common shares. This conversion will not occur until the settlement of certain litigation which is indemnified by Visa members, including the Company. Visa funded an escrow account from its initial public offering to settle these litigation claims. Should this escrow account not be sufficient to cover these litigation claims, Visa is entitled to fund additional amounts to the escrow account by reducing each member bank's Class B conversion ratio to unrestricted Class A shares. As of December 31, 2015, the conversion ratio was 1.6483.


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For the year ended December 31, 2015, the Company recorded a $10.1 million net gain on the sale of 95,000 Visa Class B shares. Concurrent with these sales, the Company entered into an agreement with the buyer that requires payment to the buyer in the event Visa further reduces the conversion ratio. Based on the existing transfer restriction and the uncertainty of the outcome of the Visa litigation mentioned above, the remaining 288,714 Class B shares (475,887 Class A equivalents) that the Company owns are carried at a zero cost basis. The Company also contributed 13,800 Visa Class B restricted shares to the Bank of Hawaii Foundation during 2015. The contribution had no impact on noninterest expense; however, the contribution favorably impacted our effective tax rate in 2015.

Note 4.  Loans and Leases and the Allowance for Loan and Lease Losses

Loans and Leases

The Company's loan and lease portfolio was comprised of the following as of December 31, 2015 and 2014:
 
December 31,
(dollars in thousands)
2015

 
2014

Commercial
 
 
 
Commercial and Industrial
$
1,115,168

 
$
1,055,243

Commercial Mortgage
1,677,147

 
1,437,513

Construction
156,660

 
109,183

Lease Financing
204,877

 
226,189

Total Commercial
3,153,852

 
2,828,128

Consumer
 
 
 
Residential Mortgage
2,925,605

 
2,571,090

Home Equity
1,069,400

 
866,688

Automobile
381,735

 
323,848

Other 1
348,393

 
307,835

Total Consumer
4,725,133

 
4,069,461

Total Loans and Leases
$
7,878,985

 
$
6,897,589

1 Comprised of other revolving credit, installment, and lease financing.

Total loans and leases were reported net of unearned income of $47.3 million and $57.0 million as of December 31, 2015 and 2014, respectively.

Commercial loans and residential mortgage loans of $1.0 billion were pledged to secure an undrawn FRB line of credit as of December 31, 2015 and 2014.

As of December 31, 2015 and 2014, residential mortgage loans of approximately $1.7 billion and $1.1 billion, respectively, were pledged under a blanket pledge arrangement to secure FHLB advances. See Note 10 (Other Debt) for FHLB advances outstanding as of December 31, 2015 and 2014 .

Net gains related to sales of residential mortgage loans, recorded as a component of mortgage banking income, were $5.9 million, $2.4 million, and $8.7 million for the years ended December 31, 2015, 2014, and 2013, respectively. Net gains on sales of commercial loans were not material for the years ended December 31, 2015, 2014, and 2013.

Substantially all of the Company's lending activity is with customers located in Hawaii. A substantial portion of the Company's real estate loans are secured by real estate in Hawaii.

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Allowance for Loan and Lease Losses

The following presents by portfolio segment, the activity in the Allowance for the years ended December 31, 2015, 2014, and 2013. The following also presents by portfolio segment, the balance in the Allowance disaggregated on the basis of the Company's impairment measurement method and the related recorded investment in loans and leases as of December 31, 2015, 2014, and 2013.
(dollars in thousands)
Commercial

 
Consumer

 
Total

For the Year Ended December 31, 2015
 
 
 
 
 
Allowance for Loan and Lease Losses:
 
 
 
 
 
Balance at Beginning of Period
$
64,551

 
$
44,137

 
$
108,688

Loans and Leases Charged-Off
(954
)
 
(15,485
)
 
(16,439
)
Recoveries on Loans and Leases Previously Charged-Off
2,173

 
7,458

 
9,631

Net Loans and Leases Recovered (Charged-Off)
1,219

 
(8,027
)
 
(6,808
)
Provision for Credit Losses
(5,056
)
 
6,056

 
1,000

Balance at End of Period
$
60,714

 
$
42,166

 
$
102,880

As of December 31, 2015
 
 
 
 
 
Allowance for Loan and Lease Losses:
 
 
 
 
 
Individually Evaluated for Impairment
$
205

 
$
3,373

 
$
3,578

Collectively Evaluated for Impairment
60,509

 
38,793

 
99,302

Total
$
60,714

 
$
42,166

 
$
102,880

Recorded Investment in Loans and Leases:
 
 
 
 
 
Individually Evaluated for Impairment
$
27,950

 
$
38,747

 
$
66,697

Collectively Evaluated for Impairment
3,125,902

 
4,686,386

 
7,812,288

Total
$
3,153,852

 
$
4,725,133

 
$
7,878,985

 
 
 
 
 
 
For the Year Ended December 31, 2014
 
 
 
 
 
Allowance for Loan and Lease Losses:
 
 
 
 
 
Balance at Beginning of Period
$
71,446

 
$
44,008

 
$
115,454

Loans and Leases Charged-Off
(2,068
)
 
(13,371
)
 
(15,439
)
Recoveries on Loans and Leases Previously Charged-Off
4,721

 
8,816

 
13,537

Net Loans and Leases Recovered (Charged-Off)
2,653

 
(4,555
)
 
(1,902
)
Provision for Credit Losses
(9,548
)
 
4,684

 
(4,864
)
Balance at End of Period
$
64,551

 
$
44,137

 
$
108,688

As of December 31, 2014
 
 
 
 
 
Allowance for Loan and Lease Losses:
 
 
 
 
 
Individually Evaluated for Impairment
$
2,387

 
$
3,561

 
$
5,948

Collectively Evaluated for Impairment
62,164

 
40,576

 
102,740

Total
$
64,551

 
$
44,137

 
$
108,688

Recorded Investment in Loans and Leases:
 
 
 
 
 
Individually Evaluated for Impairment
$
25,116

 
$
39,631

 
$
64,747

Collectively Evaluated for Impairment
2,803,012

 
4,029,830

 
6,832,842

Total
$
2,828,128

 
$
4,069,461

 
$
6,897,589

 
 
 
 
 
 
For the Year Ended December 31, 2013
 
 
 
 
 
Allowance for Loan and Lease Losses:
 
 
 
 
 
Balance at Beginning of Period
$
72,704

 
$
56,153

 
$
128,857

Loans and Leases Charged-Off
(8,099
)
 
(17,021
)
 
(25,120
)
Recoveries on Loans and Leases Previously Charged-Off
2,644

 
9,073

 
11,717

Net Loans and Leases Charged-Off
(5,455
)
 
(7,948
)
 
(13,403
)
Provision for Credit Losses
4,197

 
(4,197
)
 
—

Balance at End of Period
$
71,446

 
$
44,008

 
$
115,454

As of December 31, 2013
 
 
 
 
 
Allowance for Loan and Lease Losses:
 
 
 
 
 
Individually Evaluated for Impairment
$
9,054

 
$
3,722

 
$
12,776

Collectively Evaluated for Impairment
62,392

 
40,286

 
102,678

Total
$
71,446

 
$
44,008

 
$
115,454

Recorded Investment in Loans and Leases:
 
 
 
 
 
Individually Evaluated for Impairment
$
38,469

 
$
38,646

 
$
77,115

Collectively Evaluated for Impairment
2,489,964

 
3,528,308

 
6,018,272

Total
$
2,528,433

 
$
3,566,954

 
$
6,095,387


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Credit Quality Indicators

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

The following are the definitions of the Company's credit quality indicators:

Pass:
Loans and leases in all classes within the commercial and consumer portfolio segments that are not adversely rated, are contractually current as to principal and interest, and are otherwise in compliance with the contractual terms of the loan or lease agreement. Management believes that there is a low likelihood of loss related to those loans and leases that are considered pass.

Special Mention:
Loans and leases in the classes within the commercial portfolio segment that have potential weaknesses that deserve management's close attention. If not addressed, these potential weaknesses may result in deterioration of the repayment prospects for the loan or lease. The special mention credit quality indicator is not used for classes of loans and leases that are included in the consumer portfolio segment. Management believes that there is a moderate likelihood of some loss related to those loans and leases that are considered special mention.

Classified:
Loans and leases in the classes within the commercial portfolio segment that are inadequately protected by the sound worth and paying capacity of the borrower or of the collateral pledged, if any. Classified loans and leases are also those in the classes within the consumer portfolio segment that are past due 90 days or more as to principal or interest. Residential mortgage loans that are past due 90 days or more as to principal or interest may be considered pass if the Company is in the process of collection and the current loan-to-value ratio is 60% or less. Home equity loans that are past due 90 days or more as to principal or interest may be considered pass if the Company is in the process of collection, the first mortgage is with the Company, and the current combined loan-to-value ratio is 60% or less. Residential mortgage and home equity loans may be current as to principal and interest, but may be considered classified for a period of up to six months following a loan modification. Following a period of demonstrated performance in accordance with the modified contractual terms, the loan may be removed from classified status. Management believes that there is a distinct possibility that the Company will sustain some loss if the deficiencies related to classified loans and leases are not corrected in a timely manner.

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The Company's credit quality indicators are periodically updated on a case-by-case basis. The following presents by class and by credit quality indicator, the recorded investment in the Company's loans and leases as of December 31, 2015 and 2014.
 
December 31, 2015
(dollars in thousands)
Commercial
and Industrial

 
Commercial
Mortgage

 
Construction

 
Lease
Financing

 
Total
Commercial

Pass
$
1,059,475

 
$
1,591,696

 
$
154,976

 
$
204,348

 
$
3,010,495

Special Mention
28,076

 
43,674

 
80

 
76

 
71,906

Classified
27,617

 
41,777

 
1,604

 
453

 
71,451

Total
$
1,115,168

 
$
1,677,147

 
$
156,660

 
$
204,877

 
$
3,153,852

 
(dollars in thousands)
Residential
Mortgage

 
Home
Equity

 
Automobile

 
Other 1

 
Total
Consumer

Pass
$
2,910,667

 
$
1,064,253

 
$
381,420

 
$
347,710

 
$
4,704,050

Classified
14,938

 
5,147

 
315

 
683

 
21,083

Total
$
2,925,605

 
$
1,069,400

 
$
381,735

 
$
348,393

 
$
4,725,133

Total Recorded Investment in Loans and Leases
 
 
 
 
 
 
 
$
7,878,985

 
 
December 31, 2014
(dollars in thousands)
Commercial
and Industrial

 
Commercial
Mortgage

 
Construction

 
Lease
Financing

 
Total
Commercial

Pass
$
1,001,474

 
$
1,358,812

 
$
107,381

 
$
225,783

 
$
2,693,450

Special Mention
17,364

 
45,082

 
—

 
17

 
62,463

Classified
36,405

 
33,619

 
1,802

 
389

 
72,215

Total
$
1,055,243

 
$
1,437,513

 
$
109,183

 
$
226,189

 
$
2,828,128

 
(dollars in thousands)
Residential
Mortgage

 
Home
Equity

 
Automobile

 
Other 1

 
Total
Consumer

Pass
$
2,556,140

 
$
862,258

 
$
323,232

 
$
307,123

 
$
4,048,753

Classified
14,950

 
4,430

 
616

 
712

 
20,708

Total
$
2,571,090

 
$
866,688

 
$
323,848

 
$
307,835

 
$
4,069,461

Total Recorded Investment in Loans and Leases
 
 
 
 
 
 
 
$
6,897,589

1     Comprised of other revolving credit, installment, and lease financing.


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Aging Analysis

The following presents by class, an aging analysis of the Company's loan and lease portfolio as of December 31, 2015 and 2014.
(dollars in thousands)
30 - 59
Days
Past Due

 
60 - 89
Days
Past Due

 
Past Due
90 Days
or More

 
Non-
Accrual

 
Total
Past Due and
Non-Accrual

 
Current

 
Total Loans
and Leases

 
Non-Accrual
Loans and
Leases that
are Current 2

As of December 31, 2015
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial and Industrial
$
1,118

 
$
359

 
$
—

 
$
5,829

 
$
7,306

 
$
1,107,862

 
$
1,115,168

 
$
452

Commercial Mortgage
1,245

 
27

 
—

 
3,469

 
4,741

 
1,672,406

 
1,677,147

 
2,890

Construction
2,120

 
—

 
—

 
—

 
2,120

 
154,540

 
156,660

 
—

Lease Financing
—

 
—

 
—

 
—

 
—

 
204,877

 
204,877

 
—

Total Commercial
4,483

 
386

 
0

 
9,298

 
14,167

 
3,139,685

 
3,153,852

 
3,342

Consumer
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential Mortgage
7,148

 
3,993

 
4,453

 
14,598

 
30,192

 
2,895,413

 
2,925,605

 
2,056

Home Equity
3,856

 
1,906

 
1,710

 
4,081

 
11,553

 
1,057,847

 
1,069,400

 
1,710

Automobile
8,103

 
1,803

 
315

 
—

 
10,221

 
371,514

 
381,735

 
—

Other 1
2,281

 
1,448

 
1,096

 
—

 
4,825

 
343,568

 
348,393

 
—

Total Consumer
21,388

 
9,150

 
7,574

 
18,679

 
56,791

 
4,668,342

 
4,725,133

 
3,766

Total
$
25,871

 
$
9,536

 
$
7,574

 
$
27,977

 
$
70,958

 
$
7,808,027

 
$
7,878,985

 
$
7,108

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
As of December 31, 2014
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Commercial and Industrial
$
992

 
$
356

 
$
2

 
$
9,088

 
$
10,438

 
$
1,044,805

 
$
1,055,243

 
$
7,819

Commercial Mortgage
458

 
—

 
—

 
745

 
1,203

 
1,436,310

 
1,437,513

 
—

Construction
—

 
—

 
—

 
—

 
—

 
109,183

 
109,183

 
—

Lease Financing
—

 
—

 
—

 
—

 
—

 
226,189

 
226,189

 
—

Total Commercial
1,450

 
356

 
2

 
9,833

 
11,641

 
2,816,487

 
2,828,128

 
7,819

Consumer
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential Mortgage
4,907

 
2,107

 
4,506

 
14,841

 
26,361

 
2,544,729

 
2,571,090

 
632

Home Equity
3,461

 
2,661

 
2,596

 
3,097

 
11,815

 
854,873

 
866,688

 
375

Automobile
7,862

 
1,483

 
616

 
—

 
9,961

 
313,887

 
323,848

 
—

Other 1
2,416

 
1,049

 
941

 
—

 
4,406

 
303,429

 
307,835

 
—

Total Consumer
18,646

 
7,300

 
8,659

 
17,938

 
52,543

 
4,016,918

 
4,069,461

 
1,007

Total
$
20,096

 
$
7,656

 
$
8,661

 
$
27,771

 
$
64,184

 
$
6,833,405

 
$
6,897,589

 
$
8,826

1 Comprised of other revolving credit, installment, and lease financing.
2 Represents non-accrual loans that are not past due 30 days or more; however, full payment of principal and interest is still not expected.




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Impaired Loans

The following presents by class, information related to impaired loans as of December 31, 2015 and 2014.
(dollars in thousands)
Recorded
Investment

 
Unpaid
Principal
Balance

 
Related
Allowance for
Loan Losses

December 31, 2015
 
 
 
 
 
     Impaired Loans with No Related Allowance Recorded:
 
 
 
 
 
Commercial
 
 
 
 
 
Commercial and Industrial
$
14,650

 
$
28,212

 
$
—

Commercial Mortgage
10,407

 
13,907

 
—

Construction
1,604

 
1,604

 
—

Total Commercial
26,661

 
43,723

 
—

Total Impaired Loans with No Related Allowance Recorded
$
26,661

 
$
43,723

 
$
—

 
 
 
 
 
 
     Impaired Loans with an Allowance Recorded:
 
 
 
 
 
Commercial
 
 
 
 
 
Commercial and Industrial
$
1,289

 
$
1,289

 
$
205

Total Commercial
1,289

 
1,289

 
205

Consumer
 
 
 
 
 
Residential Mortgage
28,981

 
34,694

 
3,171

Home Equity
1,089

 
1,089

 
12

Automobile
7,012

 
7,012

 
143

Other 1
1,665

 
1,665

 
47

Total Consumer
38,747

 
44,460

 
3,373

Total Impaired Loans with an Allowance Recorded
$
40,036

 
$
45,749

 
$
3,578

 
 
 
 
 
 
     Impaired Loans:
 
 
 
 
 
Commercial
$
27,950

 
$
45,012

 
$
205

Consumer
38,747

 
44,460

 
3,373

Total Impaired Loans
$
66,697

 
$
89,472

 
$
3,578

 
 
 
 
 
 
December 31, 2014
 
 
 
 
 
Impaired Loans with No Related Allowance Recorded:
 
 
 
 
 
Commercial
 
 
 
 
 
Commercial and Industrial
$
9,763

 
$
15,013

 
$
—

Commercial Mortgage
6,480

 
6,480

 
—

Construction
1,689

 
1,689

 
—

Total Commercial
17,932

 
23,182

 
—

Total Impaired Loans with No Related Allowance Recorded
$
17,932

 
$
23,182

 
$
—

 
 
 
 
 
 
Impaired Loans with an Allowance Recorded:
 
 
 
 
 
Commercial
 
 
 
 
 
Commercial and Industrial
$
7,184

 
$
13,784

 
$
2,387

Total Commercial
7,184

 
13,784

 
2,387

Consumer
 
 
 
 
 
Residential Mortgage
32,331

 
37,989

 
3,445

Home Equity
1,012

 
1,012

 
16

Automobile
5,375

 
5,375

 
66

Other 1
913

 
913

 
34

Total Consumer
39,631

 
45,289

 
3,561

Total Impaired Loans with an Allowance Recorded
$
46,815

 
$
59,073

 
$
5,948

 
 
 
 
 
 
Impaired Loans:
 
 
 
 
 
Commercial
$
25,116

 
$
36,966

 
$
2,387

Consumer
39,631

 
45,289

 
3,561

Total Impaired Loans
$
64,747

 
$
82,255

 
$
5,948

1 Comprised of other revolving credit and installment financing.

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The following presents by class, information related to the average recorded investment and interest income recognized on impaired loans for the years ended December 31, 2015 and 2014.
 
Year Ended
December 31, 2015
 
Year Ended
December 31, 2014
(dollars in thousands)
Average
Recorded
Investment

 
Interest
Income
Recognized

 
Average
Recorded
Investment

 
Interest
Income
Recognized

Impaired Loans with No Related Allowance Recorded:
 
 
 
 
 
 
 
Commercial
 
 
 
 
 
 
 
Commercial and Industrial
$
12,589

 
$
406

 
$
11,167

 
$
318

Commercial Mortgage
7,521

 
268

 
8,529

 
225

Construction
1,647

 
106

 
1,570

 
93

Total Commercial
21,757

 
780

 
21,266

 
636

Consumer
 
 
 
 
 
 
 
     Other 1
—

 
—

 
6

 
—

Total Consumer
—

 
—

 
6

 
—

Total Impaired Loans with No Related Allowance Recorded
$
21,757

 
$
780

 
$
21,272

 
$
636

 
 
 
 
 
 
 
 
Impaired Loans with an Allowance Recorded:
 
 
 
 
 
 
 
Commercial
 
 
 
 
 
 
 
Commercial and Industrial
$
5,379

 
$
98

 
$
8,045

 
$
118

Total Commercial
5,379

 
98

 
8,045

 
118

Consumer
 
 
 
 
 
 
 
Residential Mortgage
30,895

 
1,133

 
31,998

 
1,028

Home Equity
1,137

 
42

 
964

 
34

Automobile
5,992

 
432

 
5,263

 
433

Other 1
1,198

 
111

 
560

 
49

Total Consumer
39,222

 
1,718

 
38,785

 
1,544

Total Impaired Loans with an Allowance Recorded
$
44,601

 
$
1,816

 
$
46,830

 
$
1,662

 
 
 
 
 
 
 
 
Impaired Loans:
 
 
 
 
 
 
 
Commercial
$
27,136

 
$
878

 
$
29,311

 
$
754

Consumer
39,222

 
1,718

 
38,791

 
1,544

Total Impaired Loans
$
66,358

 
$
2,596

 
$
68,102

 
$
2,298

1 Comprised of other revolving credit and installment financing.

For the year ended December 31, 2013, the average recorded investment in impaired loans was $61.2 million and the interest income recognized on impaired loans was $1.8 million. For the years ended December 31, 2015, 2014, and 2013, the amount of interest income recognized by the Company within the period that the loans were impaired were primarily related to loans modified in a troubled debt restructuring that were on accrual status. For the years ended December 31, 2015, 2014, and 2013, the amount of interest income recognized using a cash-basis method of accounting during the time within that period that the loans were impaired was not material.

Modifications

A modification of a loan constitutes a troubled debt restructuring ("TDR") when the Company for economic or legal reasons related to a borrower's financial difficulties grants a concession to the borrower that it would not otherwise consider. Loans modified in a TDR were $65.0 million and $60.2 million as of December 31, 2015 and 2014, respectively. There were no commitments to lend additional funds on loans modified in a TDR as of December 31, 2015 and 2014.

The Company offers various types of concessions when modifying a loan or lease. Commercial and industrial loans modified in a TDR often involve temporary interest-only payments, term extensions, and converting revolving credit lines to term loans. Additional collateral, a co-borrower, or a guarantor is often requested. Commercial mortgage and construction loans modified in a TDR often involve reducing the interest rate for the remaining term of the loan, extending the maturity date at an interest rate lower than the current market rate for new debt with similar risk, or substituting or adding a co-borrower or guarantor. Construction loans modified in a TDR may also involve extending the interest-only payment period. Residential mortgage loans modified in a TDR generally include a lower interest rate and the loan being fully amortized for up to 40 years from the

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modification effective date. In some cases, the Company may forbear a portion of the unpaid principal balance with a balloon payment due upon maturity or pay-off of the loan. Land loans are also included in the class of residential mortgage loans. Land loans are typically structured as interest-only monthly payments with a balloon payment due at maturity. Land loan modifications usually involve extending the interest-only payments up to an additional five years with a balloon payment due at maturity, or re-amortizing the remaining balance over a period up to 360 months. Interest rates are not changed for land loan modifications. Home equity modifications are made infrequently and uniquely designed to meet the specific needs of each borrower. Automobile loans modified in a TDR are primarily comprised of loans where the Company has lowered monthly payments by extending the term.

Loans modified in a TDR are typically already on non-accrual status and partial charge-offs have in some cases already been taken against the outstanding loan balance. As a result, loans modified in a TDR may have the financial effect of increasing the specific Allowance associated with the loan. An Allowance for impaired commercial and consumer loans that have been modified in a TDR is measured based on the present value of expected future cash flows discounted at the loan's effective interest rate, the loan's observable market price, or the estimated fair value of the collateral, less any selling costs, if the loan is collateral dependent. Management exercises significant judgment in developing these estimates.

The following presents by class, information related to loans modified in a TDR during the years ended December 31, 2015 and 2014.
 
Loans Modified as a TDR for the
Year Ended December 31, 2015
 
Loans Modified as a TDR for the
Year Ended December 31, 2014
Troubled Debt Restructurings  
(dollars in thousands)
Number of
Contracts

 
Recorded
Investment
(as of period end) 1

 
Increase in
Allowance
(as of period end)

 
Number of
Contracts

 
Recorded
Investment
(as of period end) 1

 
Increase in
Allowance
(as of period end)

Commercial
 
 
 
 
 
 
 
 
 
 
 
Commercial and Industrial
30

 
$
5,414

 
$
1

 
19

 
$
10,263

 
$
2,360

Commercial Mortgage
4

 
4,307

 
—

 
1

 
315

 
—

Total Commercial
34

 
9,721

 
1

 
20

 
10,578

 
2,360

Consumer
 
 
 
 
 
 
 
 
 
 
 
Residential Mortgage
13

 
4,255

 
99

 
17

 
6,329

 
278

Home Equity
3

 
367

 
4

 
2

 
156

 
2

Automobile
170

 
3,996

 
81

 
131

 
2,576

 
32

Other 2
168

 
1,099

 
31

 
84

 
666

 
25

Total Consumer
354

 
9,717

 
215

 
234

 
9,727

 
337

Total
388

 
$
19,438

 
$
216

 
254

 
$
20,305

 
$
2,697

1
The period end balances reflect all partial paydowns and charge-offs since the modification date. TDRs fully paid off, charged off, or foreclosed upon by period end are not included.
2
Comprised of other revolving credit and installment financing.



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The following presents by class, loans modified in a TDR that defaulted during the year ended December 31, 2015 and 2014, and within twelve months of their modification date. A TDR is considered to be in default once it becomes 60 days or more past due following a modification.
 
Year Ended December 31, 2015
 
Year Ended December 31, 2014
TDRs that Defaulted During the Period,
    Within Twelve Months of their Modification Date 
(dollars in thousands)
Number of
Contracts

 
Recorded
Investment
(as of period end) 1

 
Number of
Contracts

 
Recorded
Investment
(as of period end) 1

Commercial
 
 
 
 
 
 
 
Commercial and Industrial
2

 
$
4,924

 
4

 
$
728

Total Commercial
2

 
4,924

 
4

 
728

Consumer
 
 
 
 
 
 
 
Residential Mortgage
4

 
1,449

 
2

 
506

Automobile
10

 
220

 
6

 
77

Other 2
21

 
118

 
6

 
48

Total Consumer
35

 
1,787

 
14

 
631

Total
37

 
$
6,711

 
18

 
$
1,359

1 The period end balances reflect all partial paydowns and charge-offs since the modification date. TDRs fully paid off, charged off, or foreclosed upon by period end are not included.
2
Comprised of other revolving credit and installment financing.

Loans modified in a TDR are closely monitored for delinquency as an early indicator of possible future default. If loans modified in a TDR subsequently default, the Company evaluates the loan for possible further impairment. The specific Allowance associated with the loan may be increased, adjustments may be made in the allocation of the Allowance, or partial charge-offs may be taken to further write-down the carrying value of the loan.

Foreclosure Proceedings

Consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure totaled $8.5 million as of December 31, 2015.

Related Party Loans

Certain directors and executive officers of the Company, companies in which they are principal owners, and trusts in which they are involved, have loans with the Bank. These loans were made in the ordinary course of business at normal credit terms, including interest rate and collateral requirements. As of December 31, 2015 and 2014, related party loan balances were $16.7 million and $17.0 million, respectively.

Note 5.  Mortgage Servicing Rights
 
The Company's portfolio of residential mortgage loans serviced for third parties was $2.7 billion as of December 31, 2015, $2.9 billion as of December 31, 2014, and $3.1 billion as of December 31, 2013. Substantially all of these loans were originated by the Company and sold to third parties on a non-recourse basis with servicing rights retained.  These retained servicing rights are recorded as a servicing asset and are initially recorded at fair value (see Note 21 (Fair Value of Assets and Liabilities) for more information). Changes to the balance of mortgage servicing rights are recorded in mortgage banking income in the Company’s consolidated statements of income.

The Company’s mortgage servicing activities include collecting principal, interest, and escrow payments from borrowers; making tax and insurance payments on behalf of borrowers; monitoring delinquencies and executing foreclosure proceedings; and accounting for and remitting principal and interest payments to investors.  Servicing income, including late and ancillary fees, was $7.2 million, $7.9 million, and $8.0 million for the years ended December 31, 2015, 2014, and 2013, respectively. Servicing income is recorded in mortgage banking income in the Company’s consolidated statements of income.  The Company’s residential mortgage investor loan servicing portfolio is primarily comprised of fixed rate loans concentrated in Hawaii.
 

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For the years ended December 31, 2015, 2014, and 2013, the change in the fair value of the Company's mortgage servicing rights accounted for under the fair value measurement method was as follows:
(dollars in thousands)
2015

 
2014

 
2013

Balance at Beginning of Year
$
2,604

 
$
3,826

 
$
4,761

Changes in Fair Value:
 
 
 
 
 
Due to Change in Valuation Assumptions 1
(251
)
 
(869
)
 
127

Due to Payoffs
(383
)
 
(353
)
 
(1,062
)
Total Changes in Fair Value of Mortgage Servicing Rights
(634
)
 
(1,222
)
 
(935
)
Balance at End of Year
$
1,970

 
$
2,604

 
$
3,826

1 
Principally represents changes in discount rates and loan repayment rate assumptions, mostly due to changes in interest rates.

For the years ended December 31, 2015, 2014, and 2013, the change in the carrying value of the Company's mortgage servicing rights accounted for under the amortization method was as follows:
(dollars in thousands)
2015

 
2014

 
2013

Balance at Beginning of Year
$
22,091

 
$
24,297

 
$
20,479

Servicing Rights that Resulted From Asset Transfers
1,737

 
747

 
6,351

Amortization
(2,832
)
 
(2,896
)
 
(2,533
)
Valuation Allowance Provision
36

 
(57
)
 
—

Balance at End of Year
$
21,032

 
$
22,091

 
$
24,297

 
 
 
 
 
 
Valuation Allowance:
 
 
 
 
 
Balance at Beginning of Year
$
(57
)
 
$
—

 
$
—

Valuation Allowance Provision
36

 
(57
)
 
—

Balance at End of Year
$
(21
)
 
$
(57
)
 
$
—

 
 
 
 
 
 
Fair Value:
 
 
 
 
 
Balance at Beginning of Year
$
22,837

 
$
30,100

 
$
23,143

Balance at End of Year
$
24,804

 
$
22,837

 
$
30,100


The key data and assumptions used in estimating the fair value of the Company's mortgage servicing rights as of December 31, 2015 and 2014 were as follows:
 
December 31,
 
2015
 
2014
 
Weighted-Average Constant Prepayment Rate 1
9.10
%
11.62
%
Weighted-Average Life (in years)
7.40
 
6.28
 
Weighted-Average Note Rate
4.23
%
4.28
%
Weighted-Average Discount Rate 2
9.38
%
10.61
%
1 
Represents annualized loan repayment rate assumption.
2 
Derived from multiple interest rate scenarios that incorporate a spread to the London Interbank Offered Rate swap curve and market volatilities.

A sensitivity analysis of the Company's fair value of mortgage servicing rights to changes in certain key assumptions as of December 31, 2015 and 2014 is presented in the following table.
 
December 31,
(dollars in thousands)
2015

 
2014

Constant Prepayment Rate
 
 
 
Decrease in fair value from 25 basis points ("bps") adverse change
$
(285
)
 
$
(265
)
Decrease in fair value from 50 bps adverse change
(566
)
 
(524
)
Discount Rate
 
 
 
Decrease in fair value from 25 bps adverse change
(292
)
 
(250
)
Decrease in fair value from 50 bps adverse change
(577
)
 
(495
)

This analysis generally cannot be extrapolated because the relationship of a change in one key assumption to the change in the fair value of the Company's mortgage servicing rights usually is not linear. Also, the effect of changing one key assumption without changing other assumptions is not realistic.

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Note 6.  Premises and Equipment

The components of the Company's premises and equipment as of December 31, 2015 and 2014 were as follows:
(dollars in thousands)
Cost

Accumulated
Depreciation and
Amortization
 
Net Book Value
 
December 31, 2015
 
 
 
 
 
Premises
$
322,552

 
$
(238,912
)
 
$
83,640

Equipment
111,071

 
(86,176
)
 
24,895

Capital Leases
6,593

 
(3,929
)
 
2,664

Total
$
440,216

 
$
(329,017
)
 
$
111,199

 
 
 
 
 
 
December 31, 2014
 
 
 
 
 
Premises
$
322,536

 
$
(235,464
)
 
$
87,072

Equipment
106,623

 
(86,577
)
 
20,046

Capital Leases
6,593

 
(3,857
)
 
2,736

Total
$
435,752

 
$
(325,898
)
 
$
109,854


Depreciation and amortization (including capital lease amortization) included in noninterest expense was $12.8 million, $12.4 million, and $12.1 million for the years ended December 31, 2015, 2014, and 2013, respectively.

There was no impairment of the Company's premises and equipment for the years ended December 31, 2015, 2014 and 2013.

Note 7.  Other Assets

The components of the Company's other assets as of December 31, 2015 and 2014 were as follows:
 
December 31,
(dollars in thousands)
2015

 
2014

Federal Home Loan Bank and Federal Reserve Bank Stock
$
38,836

 
$
66,374

Derivative Financial Instruments
13,967

 
16,515

Low-Income Housing and Other Equity Investments
79,033

 
77,495

Deferred Compensation Plan Assets
20,262

 
18,794

Prepaid Expenses
8,262

 
7,787

Accounts Receivable
12,539

 
13,405

Other
26,493

 
25,518

Total
$
199,392

 
$
225,888





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Note 8.  Deposits

Time Deposits

As of December 31, 2015 and 2014, the Company's total time deposits were $1.2 billion and $1.4 billion, respectively. As of December 31, 2015, the contractual maturities of these time deposits were as follows:
(dollars in thousands)
Amount

2016
$
933,273

2017
161,913

2018
34,467

2019
15,293

2020
17,667

Thereafter
15,038

Total
$
1,177,651


The amount of time deposits with balances of $100,000 or more was $0.9 billion and $1.2 billion as of December 31, 2015 and 2014, respectively. As of December 31, 2015, the contractual maturities of these time deposits were as follows:
(dollars in thousands)
Amount

Three Months or Less
$
422,466

Over Three Months through Six Months
202,100

Over Six Months through Twelve Months
164,806

Over Twelve Months
139,767

Total
$
929,139


Public Deposits

As of December 31, 2015 and 2014, deposits of governmental entities of $1.2 billion and $1.3 billion, respectively, required collateralization by acceptable investment securities of the Company.

Note 9.  Borrowings

Details of the Company's short-term borrowings (original maturity of one year or less) as of December 31, 2015 and 2014 were as follows:
 
December 31,
(dollars in thousands)
2015

 
2014

Funds Purchased 1
 
 
 
Amounts Outstanding
$
7,333

 
$
8,459

Weighted-Average Interest Rate
0.14
%
 
0.14
%
Securities Sold Under Agreements to Repurchase (short-term) 2
 
 
 
Amounts Outstanding
$
3,992

 
$
7,700

Weighted-Average Interest Rate
0.06
%
 
0.10
%
1 
Federal funds purchased generally mature on the next business day following the date of purchase.
2 
Consists entirely of repurchase agreements with government entities. Excludes long-term repurchase agreements with government entities of $49.9 million and $80.9 million as of December 31, 2015, and 2014, respectively, and long-term repurchase agreements with private institutions of $575.0 million and $600.0 million as of December 31, 2015 and 2014, respectively.

The Company's total securities sold under agreements to repurchase were $628.9 million and $688.6 million as of December 31, 2015 and 2014, respectively. As of December 31, 2015, all of our repurchase agreements were at fixed interest rates.

As of December 31, 2015, long-term repurchase agreements (original maturity over one year) placed with government entities were $49.9 million with a weighted-average interest rate of 0.37%. Remaining terms ranged from 2016 to 2017 with a weighted-average maturity of 56 days.

As of December 31, 2015, long-term repurchase agreements placed with private institutions were $575.0 million with a weighted-average interest rate of 4.22%. Remaining terms ranged from 2016 to 2022 with a weighted-average maturity of 3.6 years. Some

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of our repurchase agreements with private institutions may be terminated at earlier specified dates by the private institution or in some cases by either the private institution or the Company. If all such agreements were to terminate at the earliest possible date, the weighted-average maturity for our repurchase agreements with private institutions would decrease to 1.5 years.

Note 10.  Other Debt

The Company's other debt as of December 31, 2015 and 2014 were as follows:
 
December 31,
(dollars in thousands)
2015

 
2014

Federal Home Loan Bank Advances
$
225,000

 
$
150,000

Non-Recourse Debt
9,938

 
13,005

Capital Lease Obligations
10,848

 
10,907

Total
$
245,786

 
$
173,912


As a member of the FHLB, the Bank may borrow funds from the FHLB in amounts up to 35% of the Bank's total assets, provided the Bank is able to pledge an adequate amount of qualified assets to secure the borrowings. As of December 31, 2015, our eight FHLB advances totaled $225.0 million with a weighted-average interest rate of 1.15% and maturity dates ranging from 2016 to 2018. As of December 31, 2015, the Company had a remaining line of credit with the FHLB of $1.1 billion. See Note 4 (Loans and Leases and the Allowance for Loan and Lease Losses) for loans pledged to the FHLB as of December 31, 2015 and 2014.

As of December 31, 2015, the Company's non-recourse debt was bearing interest at a fixed rate of 6.3% with maturity in June 2021.

Capital lease obligations relate to office space at the Company's headquarters. The lease began in 1993 and has a 60 year term. Lease payments are fixed at $0.8 million per year through December 2022 (one-time inflation adjustment on January 1, 2018) and are negotiable thereafter.

As of December 31, 2015, the Company had an undrawn line of credit with the FRB of $560.8 million. See Note 4 (Loans and Leases and the Allowance for Loan and Lease Losses) for loans pledged to the FRB as of December 31, 2015 and 2014.

As of December 31, 2015, the annual maturities of the Company's other debt, exclusive of capital lease obligations, were expected to be as follows:
(dollars in thousands)
Amount
2016
$
52,785

2017
—

2018
175,000

2019
—

2020
3,464

Thereafter
3,689

Total
$
234,938




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Note 11.  Shareholders' Equity

Regulatory Capital

The table below sets forth the minimum required capital amounts and ratios for well capitalized institutions and the actual capital amounts and ratios for the Company and the Bank as of December 31, 2015 and 2014:
(dollars in thousands)
Well Capitalized
Minimum Ratio

 
Company

 
Bank

As of December 31, 2015:
 
 
 
 
 
Shareholders' Equity
 
 
$
1,116,260

 
$
1,036,355

Common Equity Tier 1 Capital 1
 
 
1,112,598

 
1,043,070

Tier 1 Capital 1
 
 
1,112,598

 
1,043,070

Total Capital 1
 
 
1,212,245

 
1,142,573

Common Equity Tier 1 Capital Ratio 1
6.5
%
 
13.97
%
 
13.12
%
Tier 1 Capital Ratio 1
8
%
 
13.97
%
 
13.12
%
Total Capital Ratio 1
10
%
 
15.22
%
 
14.37
%
Tier 1 Leverage Ratio 1
5
%
 
7.26
%
 
6.81
%
 
 
 
 
 
 
As of December 31, 2014:
 
 
 
 
 
Shareholders' Equity
 
 
$
1,055,086

 
$
975,723

Tier 1 Capital
 
 
1,039,631

 
974,397

Total Capital
 
 
1,128,416

 
1,063,085

Tier 1 Capital Ratio
6
%
 
14.69
%
 
13.78
%
Total Capital Ratio
10
%
 
15.94
%
 
15.04
%
Tier 1 Leverage Ratio
5
%
 
7.13
%
 
6.69
%
1 
Calculated under Basel III rules, which became effective January 1, 2015.

The Company and the Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can result in certain mandatory, and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The capital amounts and classifications are also subject to qualitative judgments by regulators about the components of regulatory capital, risk weightings, and other factors.

Quantitative measures established by regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios of Tier 1 and Total Capital. Both Common Equity Tier 1 Capital and Tier 1 Capital are common shareholders' equity, reduced by certain intangible assets, postretirement benefit liability adjustments, and unrealized gains and losses on investment securities. Total Capital is Tier 1 Capital plus an allowable amount of the reserve for credit losses. Risk-weighted assets are calculated by taking assets and credit equivalent amounts of off-balance-sheet items and assigning them to one of several broad risk categories. Four capital ratios are used to measure capital adequacy: Common Equity Tier 1 Capital divided by risk-weighted assets, as defined; Tier 1 Capital divided by risk-weighted assets; Total Capital divided by risk-weighted assets; and the Tier 1 Leverage ratio, which is Tier 1 Capital divided by quarterly adjusted average total assets.

As of December 31, 2015, the Company and the Bank were well capitalized as defined in the regulatory framework for prompt corrective action. There were no conditions or events since December 31, 2015 that management believes have changed the Company or the Bank's capital classifications.

Dividends

Dividends paid by the Parent are substantially funded from dividends received from the Bank. The Bank is subject to federal and state regulatory restrictions that limit cash dividends and loans to the Parent. These restrictions generally require advanced approval from the Bank's regulator for payment of dividends in excess of the sum of net income for the current calendar year and the retained net income of the prior two calendar years.


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Common Stock Repurchase Program

The Parent has a common stock repurchase program in which shares repurchased are held in treasury stock for reissuance in connection with share-based compensation plans and for general corporate purposes. For the year ended December 31, 2015, the Parent repurchased 802,255 shares of common stock under its share repurchase program at an average cost per share of $62.61 and a total cost of $50.2 million. From the beginning of the stock repurchase program in July 2001 through December 31, 2015, the Parent repurchased a total of 52.8 million shares of common stock at an average cost of $37.35 per share and a total cost of $2.0 billion. From January 1, 2016 through February 17, 2016, the Parent repurchased an additional 149,500 shares of common stock at an average cost of $59.50 per share for a total of $8.9 million. The actual amount and timing of future share repurchases, if any, will depend on market conditions, applicable SEC rules and various other factors.

Accumulated Other Comprehensive Income

The following table presents the components of other comprehensive income (loss), net of tax:
(dollars in thousands)
Before Tax

 
Tax Effect

 
Net of Tax

Year Ended December 31, 2015
 
 
 
 
 
Net Unrealized Gains (Losses) on Investment Securities:
 
 
 
 
 
Net Unrealized Gains (Losses) Arising During the Period
$
(5,448
)
 
$
(2,138
)
 
$
(3,310
)
Amounts Reclassified from Accumulated Other Comprehensive Income (Loss) that (Increase) Decrease Net Income:
 
 
 
 
 
  (Gain) Loss on Sale
(190
)
 
(75
)
 
(115
)
  Amortization of Unrealized Holding (Gains) Losses on Held-to-Maturity Securities 1
2,136

 
836

 
1,300

Net Unrealized Gains (Losses) on Investment Securities
(3,502
)
 
(1,377
)
 
(2,125
)
Defined Benefit Plans:

 

 
 
Net Actuarial Gains (Losses) Arising During the Period
7,335

 
2,869

 
4,466

Amortization of Net Actuarial Losses (Gains)
1,624

 
641

 
983

Amortization of Prior Service Credit
(322
)
 
(127
)
 
(195
)
Defined Benefit Plans, Net
8,637

 
3,383

 
5,254

Other Comprehensive Income (Loss)
$
5,135

 
$
2,006

 
$
3,129

 
 
 
 
 
 
Year Ended December 31, 2014
 
 
 
 
 
Net Unrealized Gains (Losses) on Investment Securities:
 
 
 
 
 
Net Unrealized Gains (Losses) Arising During the Period
$
28,609

 
$
11,286

 
$
17,323

Amounts Reclassified from Accumulated Other Comprehensive Income (Loss) that (Increase) Decrease Net Income:
 
 
 
 
 
  (Gain) Loss on Sale
(64
)
 
(25
)
 
(39
)
  Amortization of Unrealized Holding (Gains) Losses on Held-to-Maturity Securities 1
(703
)
 
(277
)
 
(426
)
Net Unrealized Gains (Losses) on Investment Securities
27,842

 
10,984

 
16,858

Defined Benefit Plans:
 
 
 
 
 
Net Actuarial Gains (Losses) Arising During the Period
(20,286
)
 
(8,000
)
 
(12,286
)
Amortization of Net Actuarial Losses (Gains)
1,256

 
496

 
760

Amortization of Prior Service Credit
(322
)
 
(127
)
 
(195
)
Defined Benefit Plans, Net
(19,352
)
 
(7,631
)
 
(11,721
)
Other Comprehensive Income (Loss)
$
8,490

 
$
3,353

 
$
5,137

 
 
 
 
 
 
Year Ended December 31, 2013
 
 
 
 
 
Net Unrealized Gains (Losses) on Investment Securities:
 
 
 
 
 
Net Unrealized Gains (Losses) Arising During the Period
$
(105,842
)
 
$
(41,715
)
 
$
(64,127
)
Amounts Reclassified from Accumulated Other Comprehensive Income (Loss) that (Increase) Decrease Net Income:
 
 
 
 
 
  Amortization of Unrealized Holding (Gains) Losses on Held-to-Maturity Securities 1
(8,386
)
 
(3,307
)
 
(5,079
)
Net Unrealized Gains (Losses) on Investment Securities
(114,228
)
 
(45,022
)
 
(69,206
)
Defined Benefit Plans:
 
 
 
 
 
Net Actuarial Gains (Losses) Arising During the Period
12,132

 
4,785

 
7,347

Amortization of Net Actuarial Losses (Gains)
1,688

 
665

 
1,023

Amortization of Prior Service Credit
(322
)
 
(127
)
 
(195
)
Defined Benefit Plans, Net
13,498

 
5,323

 
8,175

Other Comprehensive Income (Loss)
$
(100,730
)
 
$
(39,699
)
 
$
(61,031
)
1
The amount relates to the amortization/accretion of unrealized gains and losses related to the Company's reclassification of available-for-sale investment securities to the held-to-maturity category. The unrealized net gains/losses will be amortized/accreted over the remaining life of the investment securities as an adjustment of yield.

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The following table presents the changes in each component of accumulated other comprehensive income (loss), net of tax:
(dollars in thousands)
Investment Securities-Available-For-Sale

 
Investment Securities-Held-To-Maturities

 
Defined Benefit Plans

Accumulated Other Comprehensive Income (Loss)

Year Ended December 31, 2015
 
 
 
 
 
 
Balance at Beginning of Period
$
15,984

 
$
(8,555
)
 
$
(34,115
)
$
(26,686
)
Other Comprehensive Income (Loss) Before Reclassifications
(3,310
)
 
—

 
4,466

1,156

Amounts Reclassified from Accumulated Other Comprehensive Income (Loss)
(115
)
 
1,300

 
788

1,973

Total Other Comprehensive Income (Loss)
(3,425
)
 
1,300

 
5,254

3,129

Balance at End of Period
$
12,559

 
$
(7,255
)
 
$
(28,861
)
$
(23,557
)
 
 
 
 
 
 
 
Year Ended December 31, 2014
 
 
 
 
 
 
Balance at Beginning Period
$
(1,300
)
 
$
(8,129
)
 
$
(22,394
)
$
(31,823
)
Other Comprehensive Income (Loss) Before Reclassifications
17,323

 
—

 
(12,286
)
5,037

Amounts Reclassified from Accumulated Other Comprehensive Income (Loss)
(39
)
 
(426
)
 
565

100

Total Other Comprehensive Income (Loss)
17,284

 
(426
)
 
(11,721
)
5,137

Balance at End of Period
$
15,984

 
$
(8,555
)
 
$
(34,115
)
$
(26,686
)
 
 
 
 
 
 
 
Year Ended December 31, 2013
 
 
 
 
 
 
Balance at Beginning Period
$
45,996

 
$
13,781

 
$
(30,569
)
$
29,208

Other Comprehensive Income (Loss) Before Reclassifications
(47,296
)
 
(16,831
)
 
7,347

(56,780
)
Amounts Reclassified from Accumulated Other Comprehensive Income (Loss)
—

 
(5,079
)
 
828

(4,251
)
Total Other Comprehensive Income (Loss)
(47,296
)
 
(21,910
)
 
8,175

(61,031
)
Balance at End of Period
$
(1,300
)
 
$
(8,129
)
 
$
(22,394
)
$
(31,823
)

The following table presents the amounts reclassified out of each component of accumulated other comprehensive income (loss):
Details about Accumulated Other Comprehensive Income (Loss) Components
Amount Reclassified from Accumulated Other Comprehensive Income (Loss)1
 
Affected Line Item in the Statement Where Net Income Is Presented
(dollars in thousands)
Year Ended December 31,
 
 
2015

 
2014

 
2013

 
Amortization of Unrealized Holding Gains (Losses) on
     Investment Securities Held-to-Maturity
$
(2,136
)
 
$
703

 
$
8,386

Interest Income
 
836

 
(277
)
 
(3,307
)
Provision for Income Tax
 
(1,300
)
 
426

 
5,079

Net of Tax
Sales of Investment Securities Available-for-Sale
190

 
64

 
—

Investment Securities Gains (Losses), Net
 
(75
)
 
(25
)
 
—

Provision for Income Tax
 
115

 
39

 
—

Net of Tax
 
 
 
 
 
 
 
Amortization of Defined Benefit Plans Items
 
 
 
 
 
 
  Prior Service Credit 2
322

 
322

 
322

 
  Net Actuarial Losses 2
(1,624
)
 
(1,256
)
 
(1,688
)
 
 
(1,302
)
 
(934
)
 
(1,366
)
Total Before Tax
 
514

 
369

 
538

Provision for Income Tax
 
(788
)
 
(565
)
 
(828
)
Net of Tax
 
 
 
 
 
 
 
Total Reclassifications for the Period
$
(1,973
)
 
$
(100
)
 
$
4,251

Net of Tax
1 
Amounts in parentheses indicate reductions to net income.
2 
These accumulated other comprehensive income (loss) components are included in the computation of net periodic benefit cost and are included in Salaries and Benefits on the consolidated statements of income. See Note 14 (Employee Benefits) for additional details.

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Note 12.  Earnings Per Share

There were no adjustments to net income, the numerator, for purposes of computing basic earnings per share. The following is a reconciliation of the weighted average number of common shares outstanding for computing diluted earnings per share and antidilutive stock options and restricted stock outstanding for the years ended December 31, 2015, 2014, and 2013:
 
Weighted Average Shares
 
2015

 
2014

 
2013

Denominator for Basic Earnings Per Share
43,217,818

 
43,899,208

 
44,380,948

Dilutive Effect of Equity Based Awards
237,059

 
226,248

 
191,777

Denominator for Diluted Earnings Per Share
43,454,877

 
44,125,456

 
44,572,725

 
 
 
 
 
 
Antidilutive Stock Options and Restricted Stock Outstanding
—

 
—

 
25,101


Note 13.  Business Segments

The Company’s business segments are defined as Retail Banking, Commercial Banking, Investment Services, and Treasury and Other.  The Company’s internal management accounting process measures the performance of these business segments. This process, which is not necessarily comparable with similar information for any other financial institution, uses various techniques to assign balance sheet and income statement amounts to the business segments, including allocations of income, expense, the provision for credit losses, and capital.  This process is dynamic and requires certain allocations based on judgment and other subjective factors.  Unlike financial accounting, there is no comprehensive authoritative guidance for management accounting that is equivalent to GAAP.  Previously reported results have been reclassified to conform to the current reporting structure.

The net interest income of the business segments reflects the results of a funds transfer pricing process that matches assets and liabilities with similar interest rate sensitivity and maturity characteristics and reflects the allocation of net interest income related to the Company’s overall asset and liability management activities on a proportionate basis.  The basis for the allocation of net interest income is a function of the Company’s assumptions that are subject to change based on changes in current interest rates and market conditions.  Funds transfer pricing also serves to transfer interest rate risk to Treasury.  However, the other business segments have some latitude to retain certain interest rate exposures related to customer pricing decisions within guidelines.

The provision for credit losses reflects the actual net charge-offs of the business segments.  The amount of the consolidated provision for loan and lease losses is based on the methodology that we use to estimate our consolidated Allowance.  The residual provision for credit losses to arrive at the consolidated provision for credit losses is included in Treasury and Other.

Noninterest income and expense includes allocations from support units to business units.  These allocations are based on actual usage where practicably calculated or by management’s estimate of such usage.

The provision for income taxes is allocated to business segments using a 37% effective tax rate. However, the provision for income taxes for our Leasing business unit (included in the Commercial Banking segment) and Auto Leasing portfolio and Pacific Century Life Insurance business unit (both included in the Retail Banking segment) are assigned their actual effective tax rates due to the unique relationship that income taxes have with their products. The residual income tax expense or benefit to arrive at the consolidated effective tax rate is included in Treasury and Other.

Retail Banking

Retail Banking offers a broad range of financial products and services to consumers and small businesses.  Loan and lease products include residential mortgage loans, home equity lines of credit, automobile loans and leases, personal lines of credit, installment loans, small business loans and leases, and credit cards.  Deposit products include checking, savings, and time deposit accounts.  Retail Banking also offers retail insurance products.  Products and services from Retail Banking are delivered to customers through 70 branch locations and 456 ATMs throughout Hawaii and the Pacific Islands, e-Bankoh (on-line banking service), a 24-hour customer service center, and a mobile banking service.



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Commercial Banking

Commercial Banking offers products including corporate banking, commercial real estate loans, commercial lease financing, auto dealer financing, and deposit products.  Commercial lending and deposit products are offered to middle-market and large companies in Hawaii and the Pacific Islands.  Commercial real estate mortgages focus on customers that include investors, developers, and builders predominantly domiciled in Hawaii.  Commercial Banking also includes international banking and provides merchant services to its small business customers.

Investment Services

Investment Services includes private banking and international client banking, trust services, investment management, and institutional investment advisory services.  A significant portion of this segment’s income is derived from fees, which are generally based on the market values of assets under management.  The private banking and personal trust group assists individuals and families in building and preserving their wealth by providing investment, credit, and trust services to high-net-worth individuals.  The investment management group manages portfolios utilizing a variety of investment products. Institutional client services offer investment advice to corporations, government entities, and foundations.  This segment also provides a full service brokerage offering equities, mutual funds, life insurance, and annuity products.

Treasury and Other

Treasury consists of corporate asset and liability management activities, including interest rate risk management and a foreign currency exchange business.  This segment’s assets and liabilities (and related interest income and expense) consist of interest-bearing deposits, investment securities, federal funds sold and purchased, government deposits, and short and long-term borrowings.  The primary sources of noninterest income are from bank-owned life insurance, net gains from the sale of investment securities, and foreign exchange income related to customer-driven currency requests from merchants and island visitors.  The net residual effect of the transfer pricing of assets and liabilities is included in Treasury, along with the elimination of intercompany transactions.

Other organizational units (Technology, Operations, Marketing, Human Resources, Finance, Credit and Risk Management, and Corporate and Regulatory Administration) provide a wide-range of support to the Company’s other income earning segments.  Expenses incurred by these support units are charged to the business segments through an internal cost allocation process.


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Selected business segment financial information as of and for the years ended December 31, 2015, 2014, and 2013 were as follows:
(dollars in thousands)
Retail
Banking

 
Commercial
Banking

 
Investment
Services

 
Treasury
and Other

 
Consolidated
Total

Year Ended December 31, 2015
 
 
 
 
 
 
 
 
 
Net Interest Income
$
202,259

 
$
143,944

 
$
18,494

 
$
29,390

 
$
394,087

Provision for Credit Losses
8,033

 
(1,165
)
 
(43
)
 
(5,825
)
 
1,000

Net Interest Income After Provision for Credit Losses
194,226

 
145,109

 
18,537

 
35,215

 
393,087

Noninterest Income
82,391

 
21,804

 
58,835

 
23,189

 
186,219

Noninterest Expense
(199,572
)
 
(76,891
)
 
(57,852
)
 
(13,789
)
 
(348,104
)
Income Before Provision for Income Taxes
77,045

 
90,022

 
19,520

 
44,615

 
231,202

Provision for Income Taxes
(27,330
)
 
(31,457
)
 
(7,222
)
 
(4,489
)
 
(70,498
)
Net Income
$
49,715

 
$
58,565

 
$
12,298

 
$
40,126

 
$
160,704

Total Assets as of December 31, 2015
$
4,680,888

 
$
3,099,132

 
$
274,469

 
$
7,400,527

 
$
15,455,016

 
 
 
 
 
 
 
 
 
 
Year Ended December 31, 2014
 
 
 
 
 
 
 
 
 
Net Interest Income
$
178,480

 
$
119,655

 
$
15,238

 
$
66,283

 
$
379,656

Provision for Credit Losses
4,783

 
(2,369
)
 
(313
)
 
(6,965
)
 
(4,864
)
Net Interest Income After Provision for Credit Losses
173,697

 
122,024

 
15,551

 
73,248

 
384,520

Noninterest Income
79,562

 
23,635

 
57,618

 
19,202

 
180,017

Noninterest Expense
(196,254
)
 
(66,760
)
 
(54,571
)
 
(9,314
)
 
(326,899
)
Income Before Provision for Income Taxes
57,005

 
78,899

 
18,598

 
83,136

 
237,638

Provision for Income Taxes
(21,079
)
 
(26,952
)
 
(6,894
)
 
(19,671
)
 
(74,596
)
Net Income
$
35,926

 
$
51,947

 
$
11,704

 
$
63,465

 
$
163,042

Total Assets as of December 31, 2014
$
4,088,878

 
$
2,787,537

 
$
202,645

 
$
7,708,148

 
$
14,787,208

 
 
 
 
 
 
 
 
 
 
Year Ended December 31, 2013
 
 
 
 
 
 
 
 
 
Net Interest Income
$
160,869

 
$
99,733

 
$
14,199

 
$
84,106

 
$
358,907

Provision for Credit Losses
8,565

 
4,918

 
(71
)
 
(13,412
)
 
—

Net Interest Income After Provision for Credit Losses
152,304

 
94,815

 
14,270

 
97,518

 
358,907

Noninterest Income
87,493

 
27,488

 
59,336

 
11,906

 
186,223

Noninterest Expense
(199,222
)
 
(65,189
)
 
(55,002
)
 
(11,556
)
 
(330,969
)
Income Before Provision for Income Taxes
40,575

 
57,114

 
18,604

 
97,868

 
214,161

Provision for Income Taxes
(15,496
)
 
(18,877
)
 
(6,883
)
 
(22,403
)
 
(63,659
)
Net Income
$
25,079

 
$
38,237

 
$
11,721

 
$
75,465

 
$
150,502

Total Assets as of December 31, 2013
$
3,627,700

 
$
2,458,001

 
$
189,421

 
$
7,809,158

 
$
14,084,280



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Note 14.  Employee Benefits

The Company has defined contribution plans, defined benefit plans, and a postretirement benefit plan.

Defined Contribution Plans

The Bank of Hawaii Retirement Savings Plan (the "Savings Plan") has three Company contribution components in addition to employee contributions: 1) 401(k) matching, as described below; 2) a 3% fixed amount based on eligible compensation; and 3) a discretionary value-sharing contribution.

Under the 401(k) matching component, participating employees may contribute up to 50% of their eligible compensation (within federal limits) to the Savings Plan. The Company makes matching contributions on behalf of participants equal to $1.25 for each $1.00 contributed by participants, up to 2% of the participants' eligible compensation, and $0.50 for every $1.00 contributed by participants over 2%, up to 5% of the participants' eligible compensation. A 3% fixed contribution and a discretionary value-sharing contribution, that is linked to the Company's financial goals, are made regardless of whether the participating employee contributes to the Savings Plan and are invested in accordance with the participant's selection of investment options available under the Savings Plan. The Company also has a non-qualified savings plan which covers certain employees with compensation exceeding Internal Revenue Service ("IRS") limits on pay amounts in the allocation of the Savings Plan's benefits. Total expense for all components of the Company's defined contribution plans was $12.0 million, $12.1 million, and $11.2 million for the years ended December 31, 2015, 2014, and 2013, respectively.

Defined Benefit Plans

The Company has two defined benefit plans (the "Pension Plans"). In 1995, the Company froze its non-contributory, qualified defined benefit retirement plan (the "Retirement Plan") and the excess retirement plan (the "Excess Plan"), which covered employees of the Company and participating subsidiaries who met certain eligibility requirements. Beginning January 1, 2001, the Pension Plans no longer provided for compensation increases in the determination of benefits. The projected benefit obligation is equal to the accumulated benefit obligation due to the frozen status of the Pension Plans.

The assets of the Retirement Plan primarily consist of equity and fixed income mutual funds.

The Excess Plan is a non-qualified excess retirement benefit plan which covers certain employees of the Company and participating subsidiaries with compensation exceeding IRS limits on pay amounts applicable to the Pension Plan's benefit formula. The Excess Plan has no plan assets. The Excess Plan's projected benefit obligation and accumulated benefit obligation were $4.1 million and $4.8 million as of December 31, 2015 and 2014, respectively.

Postretirement Benefit Plan

The Company's postretirement benefit plan provides retirees hired before January 1, 2012 with medical and dental insurance coverage. For eligible participants that retired before 2008 and met certain age requirements, the Company and retiree share in the cost of providing postretirement benefits where both the employer and retirees pay a portion of the insurance premiums. Eligible participants who retired before 2008 who did not meet certain age requirements continued on the Company's benefit plans, but pay for their full insurance premiums. Participants who retired on or after January 1, 2008, who have medical or dental coverage under the Company's plans immediately before retirement and meet certain age and years of service requirements as of December 31, 2008 are also eligible to participate in the Company's benefit plans, but must pay for their full insurance premiums. Retirees age 65 and older are provided with a Medicare supplemental plan subsidy. Most employees of the Company who have met certain eligibility requirements are covered by this plan. Participants who retired on or after January 1, 2008 who met certain age and/or years of service requirements are eligible for the Health Reimbursement Account ("HRA") program. The HRA program provides retirees with an initial credit based on years of service. Thereafter, an annual credit up to a maximum of $1,200 is provided into the HRA. The retiree may use the HRA for medical, vision, prescription drug and dental premiums, co-payments, and medically necessary health care expenses that are not covered by any medical or dental insurance program or flexible health spending account. As of December 31, 2015 and 2014, the Company had no segregated assets to provide for postretirement benefits.




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The following table provides a reconciliation of changes in benefit obligation and fair value of plan assets, as well as the funded status recognized in the Company's consolidated statements of condition for the Pension Plans and postretirement benefit plan for the years ended December 31, 2015 and 2014.
 
Pension Benefits
 
Postretirement Benefits
(dollars in thousands)
2015

 
2014

 
2015

 
2014

Benefit Obligation at Beginning of Year
$
114,707

 
$
98,085

 
$
30,804

 
$
27,296

Service Cost
—


—

 
621


586

Interest Cost
4,655


4,975

 
1,155


1,325

Actuarial Losses (Gains)
(7,647
)
 
16,954

 
(5,783
)
 
2,674

Employer Benefits Paid 1
(5,722
)
 
(5,307
)
 
(1,490
)
 
(1,077
)
Benefit Obligation at End of Year
$
105,993

 
$
114,707

 
$
25,307

 
$
30,804

Fair Value of Plan Assets at Beginning of Year
$
90,154

 
$
90,535

 
$
—

 
$
—

Actual Return on Plan Assets
(1,058
)
 
4,442

 
—

 
—

Employer Contributions
484

 
484

 
1,490

 
1,077

Employer Benefits Paid 1
(5,722
)
 
(5,307
)
 
(1,490
)
 
(1,077
)
Fair Value of Plan Assets at End of Year
$
83,858

 
$
90,154

 
$
—

 
$
—

Funded Status at End of Year 2
$
(22,135
)
 
$
(24,553
)
 
$
(25,307
)
 
$
(30,804
)
1 
Participants' contributions relative to the postretirement benefit plan were offset against employer benefits paid in the table above. Participants' contributions for postretirement benefits were $0.6 million and $0.7 million for the years ended December 31, 2015 and 2014, respectively.
2 
Amounts are recognized in Retirement Benefits Payable in the consolidated statements of condition.

The following presents the amounts recognized in the Company's accumulated other comprehensive income for the Pension Plans and postretirement benefit plan as of December 31, 2015 and 2014.
 
Pension Benefits
 
Postretirement Benefits
(dollars in thousands)
2015

 
2014

 
2015

 
2014

Amounts Recognized in Accumulated Other
Comprehensive Income (Loss), Net of Tax
 
 
 
 
 
 
 
Net Actuarial Gains (Losses)
$
(33,239
)
 
$
(35,254
)
 
$
3,768

 
$
333

Net Prior Service Credit
—

 
—

 
610

 
806

Total Amounts Recognized in Accumulated Other
Comprehensive Income (Loss), Net of Tax
$
(33,239
)
 
$
(35,254
)
 
$
4,378

 
$
1,139


Components of net periodic benefit cost for the Company's Pension Plans and the postretirement benefit plan are presented in the following table for the years ended December 31, 2015, 2014, and 2013.
 
Pension Benefits
 
Postretirement Benefits
(dollars in thousands)
2015

 
2014

 
2013

 
2015

 
2014

 
2013

Service Cost
$
—

 
$
—

 
$
—

 
$
621

 
$
586

 
$
670

Interest Cost
4,655

 
4,975

 
4,514

 
1,155

 
1,325

 
1,188

Expected Return on Plan Assets
(5,222
)
 
(5,100
)
 
(5,250
)
 
—

 
—

 
—

Amortization of:

 

 

 

 

 

     Prior Service Credit 1
—

 
—

 
—

 
(322
)
 
(322
)
 
(322
)
Net Actuarial Losses (Gains) 1
1,713

 
1,408

 
1,688

 
(89
)
 
(152
)
 
—

Net Periodic Benefit Cost
$
1,146

 
$
1,283

 
$
952

 
$
1,365

 
$
1,437

 
$
1,536

1 
Represents reclassification adjustments from accumulated other comprehensive income during the period.

The estimated net actuarial loss related to the Company's Pension Plans that is expected to be amortized from accumulated other comprehensive income into net periodic benefit cost for the year ending December 31, 2016 is approximately $1.6 million. The estimated net actuarial gain and prior service credit related to the Company's postretirement benefit plan that is expected to be amortized from accumulated other comprehensive income into net periodic benefit cost for the year ending December 31, 2016 is approximately $0.6 million.


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Assumptions used to determine the benefit obligations as of December 31, 2015 and 2014 for the Company's Pension Plans and postretirement benefit plan were as follows:
 
Pension Benefits
 
Postretirement Benefits
 
2015

 
2014

 
2015

 
2014

Weighted Average Assumptions as of December 31:
 
 
 
 
 
 
 
Discount Rate
4.70
%
 
4.25
%
 
4.74
%
 
4.28
%
Health Care Cost Trend Rate Assumed For Next Year
—

 
—

 
6.70
%
 
7.00
%

The health care cost trend rate is assumed to decrease annually, until reaching the ultimate trend rate of 4.5% in 2027.

Assumptions used to determine the net periodic benefit cost for the Company's Pension Plans and postretirement benefit plan for the years ended December 31, 2015, 2014, and 2013 were as follows:
 
Pension Benefits
 
Postretirement Benefits
 
2015

 
2014

 
2013

 
2015

 
2014

 
2013

Weighted Average Assumptions as of December 31:
 
 
 
 
 
 
 
 
 
 
 
Discount Rate
4.25
%
 
5.22
%
 
4.29
%
 
4.28
%
 
5.22
%
 
4.29
%
Expected Long-Term Rate of Return on Plan Assets
6.00
%
 
6.00
%
 
6.00
%
 
—

 
—

 
—

Health Care Cost Trend Rate
—

 
—

 
—

 
7.00
%
 
7.20
%
 
7.70
%

A combination of factors is used by management in determining the expected long-term rate of return on plan assets. Historical return experience for major asset categories are evaluated and current market factors, such as inflation and interest rates, are considered in determining the expected long-term rate of return assumption.

A one percent change in the health care cost trend rate assumption (with all other assumptions remaining constant) would have impacted the service and interest cost components of the net periodic postretirement benefit cost and the postretirement benefit obligation as of and for the year ended December 31, 2015 as follows:
(dollars in thousands)
One Percent
Increase
 
 
One Percent
Decrease
 
Effect on the Total of Service and Interest Cost Component of
Net Periodic Postretirement Benefit Cost
 
$
147

 
 
$
(152
)
Effect on the Postretirement Benefit Obligation
 
2,004

 
 
(1,756
)

The Company expects to contribute $0.5 million to the Pension Plans and $1.0 million to the postretirement benefit plan for the year ending December 31, 2016.

As of December 31, 2015, expected benefits to be paid in each of the next five years and in the aggregate for the five years thereafter were as follows:
(dollars in thousands)
Pension Benefits
 
 
Postretirement Benefits
 
2016
 
$
6,139

 
 
$
1,001

2017
 
6,345

 
 
1,004

2018
 
6,494

 
 
988

2019
 
6,752

 
 
1,016

2020
 
6,918

 
 
1,081

Years 2021-2025
 
35,744

 
 
6,992



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Retirement Plan Assets

The Company's overall investment strategy is to maintain the purchasing power of the current assets and all future contributions by producing positive rates of return on plan assets; achieve capital growth towards the attainment of full funding of the Retirement Plan's termination liability; maximize returns within reasonable and prudent levels of risk; and control costs of administering the plan and managing the investments. The long-term investment objective is to achieve an overall annualized total return, gross of fees, above the blended benchmark index comprised of 35% S&P 500 Index, 25% MSCI ACWI ex-US Index, and 40% Barclays Capital Aggregate Bond Index.

Subject to liquidity requirements, the asset allocation targets are 60% for equity securities, 40% for fixed income securities with a 10% to 20% range permitted from the strategic targets, and zero to 20% for cash. Within the equity securities portfolio, the range for domestic securities is from 50% to 100% and the range for international securities is from 0% to 50%. All assets selected for the Retirement Plan must have a readily ascertainable market value and must be readily marketable.

Due to market fluctuations or cash flows, the allocation for each asset class may be breached by as much as 5% on a temporary basis. However, asset allocations are expected to conform to target ranges within 90 days of such an occurrence.

The fair values of the Retirement Plan assets as of December 31, 2015 and 2014 by asset category were as follows:
 
Fair Value Measurements
Asset Category 
(dollars in thousands)
Quoted Prices in
Active Markets for
Identical Assets
(Level 1)
 
Significant Other
Observable
Inputs
(Level 2)
 
Significant Other
Unobservable Inputs
(Level 3)
 
 
Total as of Dec. 31, 2015

 
Total as of Dec. 31, 2014

Cash
 
$
1,313

 
$
—

 
$
—

 
$
1,313

 
$
1,385

Equity Securities – Mutual Funds:
 
 
 
 
 
 
 
 
 
 
Mixed-Cap
 
30,949

 
—

 
—

 
30,949

 
33,648

International
 
17,917

 
—

 
—

 
17,917

 
18,882

Emerging Market
 
1,982

 
—

 
—

 
1,982

 
2,053

Fixed Income Securities – Mutual Funds
 
31,697

 
—

 
—

 
31,697

 
34,186

Total
 
$
83,858

 
$
—

 
$
—

 
$
83,858

 
$
90,154


Quoted prices for these investments were available in active markets, and therefore were classified as Level 1 measurements in the fair value hierarchy.

Note 15.  Share-Based Compensation

The Company has share-based compensation plans which allow grants of stock options, restricted stock, stock appreciation rights, and restricted stock units to its employees and non-employee directors. The Company's employee stock option plans are shareholder approved and administered by the Human Resources and Compensation Committee of the Board of Directors. Stock options provide grantees the option to purchase shares of the Parent's common stock at a specified exercise price and, generally, expire 10 years from the date of grant. Stock option grants include incentive and non-qualified stock options whose vesting may be subject to one or more criteria, including employment or achievement of Company performance measures. Stock option exercise prices were equal to the quoted market price of the Parent's common stock on the date of grant. Restricted stock provides grantees with rights to shares of common stock upon completion of one or more criteria, including service period, performance or other conditions as established by the Compensation Committee, such as vesting tied to the Company's financial performances relative to the peer group or achievement of an absolute financial performance target. During the restriction period, all shares are considered outstanding and dividends are paid on the restricted stock. Generally, restricted stock vests over periods ranging from one to five years from the date of grant. Restricted stock and dividends may be forfeited if an employee terminates prior to vesting.

As of December 31, 2015, total shares authorized under the plans were 1.3 million shares, of which 1.1 million shares were available for future grants.


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The Company recognizes compensation expense, measured as the fair value of the share-based award on the date of grant, on a straight-line basis over the requisite service period. Share-based compensation is recorded in the statements of income as a component of salaries and benefits for employees and as a component of other noninterest expense for non-employee directors, with a corresponding increase to capital surplus in shareholders' equity. For the years ended December 31, 2015, 2014, and 2013, compensation expense and the related income tax benefit recognized for stock options and restricted stock were as follows:
(dollars in thousands)
 
2015

 
 
2014

 
 
2013

Compensation Expense
 
$
7,689

 
 
$
7,870

 
 
$
5,546

Income Tax Benefit
 
3,036

 
 
3,104

 
 
2,188


Restricted Stock

As of December 31, 2015, unrecognized compensation expense related to unvested restricted stock was $8.3 million. The unrecognized compensation expense is expected to be recognized over a weighted average period of 1.83 years.

The following table presents the activity for restricted stock:
 
Number of Shares

Weighted Average
Grant Date Fair Value
 
Grant Date Fair Value
of Restricted Stock that
Vested During the Year
(in thousands)
 
Unvested as of December 31, 2012
211,526

 
$
47.91

 
 
Granted
170,991

 
47.69

 
 
Vested
(133,245
)
 
48.39

 
$
6,448

Forfeited
(9,497
)
 
47.54

 
 
Unvested as of December 31, 2013
239,775

 
$
47.50

 
 
Granted
155,447

 
58.45

 
 
Vested
(130,238
)
 
47.32

 
$
6,163

Forfeited
(1,538
)
 
51.19

 
 
Unvested as of December 31, 2014
263,446

 
$
53.04

 
 
Granted
116,331

 
57.31

 
 
Vested
(108,949
)
 
52.47

 
$
5,759

Forfeited
(2,015
)
 
54.17

 
 
Unvested as of December 31, 2015 1
268,813

 
$
55.92

 
 

1 As of December 31, 2015, 26,281 shares were unvested from service-based grants.


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Restricted Stock Units

During 2015 and 2014, the Company granted RSUs payable solely in cash. The RSUs vest over periods ranging from three to four years from the date of grant and are subject to forfeiture until performance and employment targets are achieved.  Upon vesting, the RSUs are converted to cash based on the closing stock price on the vesting date. Total recognized compensation expense related to the RSUs was $3.3 million and $1.6 million for the years ended December 31, 2015 and 2014, respectively.

The following table presents the activity for RSU:
 
Number of Units

 
Weighted Average
Grant Date Fair Value
 
Fair Value of Restricted
Stock Unit that Vested During the Year
(in thousands)
 
Balance as of December 31, 2013
—

 
 
$
—

 
 
Granted
105,405

 
 
55.17

 
 
Balance as of December 31, 2014
105,405

 
 
$
55.17

 
 
Granted
61,751

 
 
56.68

 


Vested
(31,651
)
 
 
55.17

 
$
1,940

Balance as of December 31, 2015
135,505

 
 
$
55.86

 
 

Stock Options

There were no stock options granted for the years ended December 31, 2015 and 2014. All stock options granted were fully vested as of December 31, 2014. The Company reissues treasury stock to satisfy stock option exercises.

The following table presents the activity related to stock options under all plans for the year ended December 31, 2015:
 
Stock
Options

Weighted
Average
Exercise
Price
 
 
Weighted
Average
Remaining
Contractual
Term (in years)
Aggregate
Intrinsic
Value
(in thousands)
 
Stock Options Outstanding as of January 1, 2015
755,343

 
$
46.29

 
 
 
 
   Exercised
(197,927
)
 
49.03

 
 
 
 
   Forfeited
(2,057
)
 
47.35

 
 
 
 
Stock Options Outstanding as of December 31, 2015
555,359

 
45.31

 
5.8
 
$
9,770

Stock Options Vested and Exercisable as of December 31, 2015
555,359

 
45.31

 
5.8
 
9,770


The following summarizes certain stock option activity of the Company for the years ended December 31, 2015, 2014, and 2013:
(dollars in thousands)
2015

 
 
2014

 
 
2013

Intrinsic Value of Stock Options Exercised
$
2,754

 
 
$
1,209

 
 
$
3,262

Cash Received from Stock Options Exercised
9,704

 
 
4,083

 
 
8,369

Tax Benefits Realized from Stock Options Exercised
330

 
 
34

 
 
690

Total Fair Value of Stock Options that Vested
—

 
 
—

 
 
3,731



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Note 16.  Income Taxes

Provision for Income Taxes

The components of the Company's provision for income taxes for the years ended December 31, 2015, 2014, and 2013 were as follows:
(dollars in thousands)
2015

 
2014

 
2013

Current:
 
 
 
 
 
Federal
$
73,278

 
$
76,789

 
$
63,731

State
3,737

 
3,018

 
(575
)
Total Current
77,015

 
79,807

 
63,156

Deferred:
 
 
 
 
 
Federal
(6,801
)
 
(5,603
)
 
(231
)
State
284

 
392

 
734

Total Deferred
(6,517
)
 
(5,211
)
 
503

Provision for Income Taxes
$
70,498

 
$
74,596

 
$
63,659


The tax effects of fair value adjustments on available-for-sale investment securities, the amortization of gains related to held-to-maturity investment securities, the minimum pension liability adjustment, and tax benefits related to stock options are recorded directly to consolidated shareholders' equity. The net tax charge recorded directly to consolidated shareholders' equity was $1.0 million and $2.7 million for the years ended December 31, 2015 and 2014, respectively. The net tax benefit recorded directly to consolidated shareholders' equity was $40.6 million for the year ended December 31, 2013.

Deferred Tax Liabilities and Assets

As of December 31, 2015 and 2014, significant components of the Company's deferred tax liabilities and assets were as follows:
 
December 31,
(dollars in thousands)
2015

 
2014

Deferred Tax Liabilities:
 
 
 
Accrued Pension Cost
$
(13,707
)
 
$
(14,014
)
Federal Home Loan Bank Stock
(5,088
)
 
(6,658
)
Lease Transactions
(85,874
)
 
(97,864
)
Energy Tax Credits
(8,054
)
 
(5,716
)
Net Unrealized Gains on Investments Securities
(3,453
)
 
(4,830
)
Deferred Loan Fees
(7,744
)
 
(5,982
)
Originated Mortgage Servicing Rights
(9,104
)
 
(9,777
)
Other
(657
)
 
(599
)
Gross Deferred Tax Liabilities
(133,681
)
 
(145,440
)
Deferred Tax Assets:
 
 
 
Accelerated Depreciation
7,775

 
9,419

Allowance for Loan Losses
42,890

 
44,877

Minimum Pension Liability
18,831

 
22,214

Accrued Expenses
16,738

 
15,622

Postretirement Benefit Obligations
12,849

 
12,884

Capital Lease Expenses
3,231

 
3,222

Restricted Stock
6,262

 
5,288

Investment in Unincorporated Entities
1,951

 
3,084

Deductible State and Local Taxes
4,166

 
5,598

Other
7,225

 
6,898

Gross Deferred Tax Assets Before Valuation Allowance
121,918

 
129,106

Valuation Allowance
(3,932
)
 
(4,656
)
Gross Deferred Tax Assets After Valuation Allowance
117,986

 
124,450

Net Deferred Tax Liabilities
$
(15,695
)
 
$
(20,990
)

Both positive and negative evidence was considered by management in determining the need for a valuation allowance. Negative evidence included the uncertainty regarding the generation of capital gains in future years and restrictions on the ability to sell

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low-income housing investments during periods when carrybacks of capital losses are allowed. Positive evidence included capital gains in the current year and carryback years. After considering all available evidence, management determined that a valuation allowance to offset deferred tax assets related to low-income housing investments that can only be used to offset capital gains was appropriate. Management determined that a valuation allowance was not required for the remaining deferred tax assets because it is more likely than not these assets will be realized through future reversals of existing taxable temporary differences, future taxable income exclusive of reversing temporary differences, and taxable income in prior carryback years.

Certain events covered by Internal Revenue Code Section 593(e) will trigger a recapture of base year reserves of acquired thrift institutions. The base year reserves of acquired thrift institutions would be recaptured if an entity ceases to qualify as a bank for federal income tax purposes. The base year reserves of thrift institutions also remain subject to income tax penalty provisions that, in general, require recapture upon certain stock redemptions of, and excess distributions to, shareholders. As of December 31, 2015, retained earnings included $18.2 million of base year reserves for which the deferred federal income tax liability of $7.2 million has not been recognized.

Effective Tax Rate

The following is a reconciliation of the statutory federal income tax rate to the Company's effective tax rate for the years ended December 31, 2015, 2014, and 2013:
 
2015

 
2014

 
2013

Statutory Federal Income Tax Rate
35.00
 %
 
35.00
 %
 
35.00
 %
Increase (Decrease) in Income Tax Rate Resulting From:
 
 
 
 
 
State Taxes, Net of Federal Income Tax
1.23

 
0.59

 
0.11

Tax Reserve Adjustments
0.38

 
0.88

 
(0.44
)
Leveraged Leases
0.06

 
0.01

 
0.02

Low-Income Housing Investments
(0.78
)
 
(0.10
)
 
(0.51
)
Investment Tax Credits
(0.89
)
 
(0.68
)
 
(0.80
)
Bank-Owned Life Insurance
(1.06
)
 
(0.97
)
 
(0.96
)
Tax-Exempt Income
(3.03
)
 
(2.83
)
 
(2.78
)
Other
(0.42
)
 
(0.51
)
 
0.09

Effective Tax Rate
30.49
 %
 
31.39
 %
 
29.73
 %

Unrecognized Tax Benefits

The Company is required to record a liability, referred to as an unrecognized tax benefit ("UTB"), for the entire amount of benefit taken in a prior or future income tax return when the Company determines that a tax position has a less than 50% likelihood of being accepted by the taxing authority. The following presents a reconciliation of the Company's liability for UTBs for the years ended December 31, 2015, 2014, and 2013:
(dollars in thousands)
2015

 
2014

 
2013

Unrecognized Tax Benefits at Beginning of Year
$
12,229

 
$
11,846

 
$
15,433

Gross Increases, Related to Tax Positions Taken in a Prior Period
398

 
1,074

 
1,587

Gross Decreases, Related to Tax Positions Taken in a Prior Period
(98
)
 
(314
)
 
(194
)
Gross Increases, Related to Current Period Tax Positions
573

 
498

 
1,557

Lapse of Statute of Limitations
(1,500
)
 
(875
)
 
(6,537
)
Unrecognized Tax Benefits at End of Year
$
11,602

 
$
12,229

 
$
11,846


As of December 31, 2015 and 2014, $10.8 million and $11.3 million, respectively, in liabilities for UTBs was related to UTBs that if reversed would have an impact on the Company's effective tax rate.

Management believes that it is reasonably possible that the Company's liability for UTBs could significantly decrease as a result of the expiration of statutes of limitations and potential settlements with taxing authorities within the next 12 months. However, management is currently not able to estimate a range of possible change in the amount of the liability for UTBs recorded as of December 31, 2015.

The Company classifies interest and penalties, if any, related to the liability for UTBs as a component of the provision for income taxes. For the years ended December 31, 2015, 2014, and 2013, the Company recorded a net tax provision of less than $0.1

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million, net tax provision of $0.2 million, and a net tax benefit of $1.2 million, respectively, for interest and penalties. As of December 31, 2015 and 2014, the Company had accrued $2.2 million for the payment of possible interest and penalties.

During the year ended December 31, 2015, the Company filed a protest with the IRS related to its 2011 tax return. It is currently awaiting an appeals hearing. The federal tax returns for 2012 through 2014 remain subject to examination. The Company's State of Hawaii income tax returns for 2012 through 2014 remain subject to examination by the taxing authorities.

Note 17.  Derivative Financial Instruments

The notional amount and fair value of the Company's derivative financial instruments as of December 31, 2015 and 2014 were as follows:
 
 
December 31, 2015
 
 
December 31, 2014
(dollars in thousands)
Notional Amount
 
 
Fair Value

 
Notional Amount
 
 
Fair Value

Interest Rate Lock Commitments
 
$
4,375

 
$
270

 
 
$
2,354

 
$
152

Forward Commitments
 
5,862

 
4

 
 
5,404

 
(13
)
Interest Rate Swap Agreements
 
 
 
 
 
 
 
 
 
Receive Fixed/Pay Variable Swaps
 
203,667

 
13,021

 
 
183,283

 
16,206

Pay Fixed/Receive Variable Swaps
 
203,667

 
(13,051
)
 
 
183,283

 
(16,240
)
Foreign Exchange Contracts
 
42,777

 
104

 
 
44,240

 
(345
)

The following table presents the Company's derivative financial instruments, their fair values, and the location in the consolidated statements of condition as of December 31, 2015 and 2014:
 
 
December 31, 2015
 
December 31, 2014
Derivative Financial Instruments Not Designated
    as Hedging Instruments 1 (dollars in thousands)
 
Asset
Derivatives

 
Liability
Derivatives

 
Asset
Derivatives

 
Liability
Derivatives

Interest Rate Lock Commitments
 
$
270

 
$
—

 
$
152

 
$
—

Forward Commitments
 
5

 
1

 
—

 
13

Interest Rate Swap Agreements
 
13,543

 
13,573

 
16,262

 
16,296

Foreign Exchange Contracts
 
149

 
45

 
101

 
446

Total
 
$
13,967

 
$
13,619

 
$
16,515

 
$
16,755

1 Asset derivatives are included in other assets and liability derivatives are included in other liabilities in the consolidated statements of condition.

The following table presents the Company's derivative financial instruments and the amount and location of the net gains or losses recognized in the consolidated statements of income for the years ended December 31, 2015, 2014, and 2013:
 
Location of Net Gains (Losses)Recognized in the
Statements of Income
 
Year Ended December 31,
Derivative Financial Instruments Not Designated
    as Hedging Instruments (dollars in thousands)
 
2015

 
2014

 
2013

Interest Rate Lock Commitments
Mortgage Banking
 
$
2,779

 
$
3,072

 
$
6,092

Forward Commitments
Mortgage Banking
 
27

 
(527
)
 
8,085

Interest Rate Swap Agreements
Other Noninterest Income
 
1,085

 
130

 
292

Foreign Exchange Contracts
Other Noninterest Income
 
2,783

 
3,107

 
3,182

Total
 
 
$
6,674

 
$
5,782

 
$
17,651


Management has received authorization from the Bank’s Board of Directors to use derivative financial instruments as an end-user in connection with the Bank's risk management activities and to accommodate the needs of the Bank's customers.  As with any financial instrument, derivative financial instruments have inherent risks.  Market risk is defined as the risk of adverse financial impact due to fluctuations in interest rates, foreign exchange rates, and equity prices.  Market risks associated with derivative financial instruments are balanced with the expected returns to enhance earnings performance and shareholder value, while limiting the volatility of each.  The Company uses various processes to monitor its overall market risk exposure, including sensitivity analysis, value-at-risk calculations, and other methodologies.

Derivative financial instruments are also subject to credit and counterparty risk, which is defined as the risk of financial loss if a borrower or counterparty is either unable or unwilling to repay borrowings or settle transactions in accordance with the underlying contractual terms.  Credit and counterparty risks associated with derivative financial instruments are similar to those relating to traditional financial instruments.  The Company manages derivative credit and counterparty risk by evaluating the

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creditworthiness of each borrower or counterparty, adhering to the same credit approval process used for commercial lending activities.

As of December 31, 2015 and 2014, the Company did not designate any derivative financial instruments as formal hedging relationships. The Company's free-standing derivative financial instruments are required to be carried at their fair value on the Company's consolidated statements of condition. These financial instruments have been limited to interest rate lock commitments ("IRLCs"), forward commitments, interest rate swap agreements, foreign exchange contracts, and conversion rate swap agreements.

The Company enters into IRLCs for residential mortgage loans which commit us to lend funds to a potential borrower at a specific interest rate and within a specified period of time.  IRLCs that relate to the origination of mortgage loans that will be held for sale are considered derivative financial instruments under applicable accounting guidance.  Outstanding IRLCs expose the Company to the risk that the price of the mortgage loans underlying the commitments may decline due to increases in mortgage interest rates from inception of the rate lock to the funding of the loan.  To mitigate this risk, the Company utilizes forward commitments as economic hedges against the potential decreases in the values of the loans held for sale.  IRLCs and forward commitments are free-standing derivatives which are carried at fair value with changes recorded in the mortgage banking component of noninterest income in the Company’s consolidated statements of income.

The Company enters into interest rate swap agreements to facilitate the risk management strategies of a small number of commercial banking customers.  The Company mitigates the risk of entering into these agreements by entering into equal and offsetting interest rate swap agreements with highly rated third party financial institutions.  The interest rate swap agreements are free-standing derivatives and are recorded at fair value in the Company's consolidated statements of condition. Fair value changes are recorded in other noninterest income in the Company’s consolidated statements of income.  The Company is party to master netting arrangements with its financial institution counterparties; however, the Company does not offset assets and liabilities under these arrangements for financial statement presentation purposes.  Collateral, usually in the form of marketable securities, is posted by the counterparty with net liability positions in accordance with contract thresholds.  See Note 19 (Balance Sheet Offsetting) for more information.
 
The Company’s interest rate swap agreements with institutional counterparties contain credit-risk-related contingent features tied to the Company’s debt ratings or capitalization levels.  Under these provisions, if the Company’s debt rating falls below investment grade or if the Company’s capitalization levels fall below stipulated thresholds, certain counterparties may require immediate and ongoing collateralization on interest rate swaps in net liability positions, or may require immediate settlement of the contracts.  As of December 31, 2015, the Company's debt ratings and capital levels were in excess of these minimum requirements.

The Company utilizes foreign exchange contracts to offset risks related to transactions executed on behalf of customers. The foreign exchange contracts are free-standing derivatives which are carried at fair value with changes included in other noninterest income in the Company's consolidated statements of income.

As each sale of Visa Class B restricted shares was completed, the Company entered into a conversion rate swap agreement with the buyer that requires payment to the buyer in the event Visa further reduces the conversion ratio of Class B into Class A unrestricted common shares.  In the event of Visa increasing the conversion ratio, the buyer would be required to make payment to the Company.  These conversion rate swap agreements are usually valued at zero (i.e., no contingent liability recorded) as a drop in the conversion ratio is deemed by the Company to be neither probable nor reasonably estimable.  However, in September 2014, Visa announced a reduction of the conversion ratio. As a result, the Company recorded a $0.1 million liability in September 2014 which represented the amount paid to the buyer in October 2014.  As of December 31, 2015, these conversion rate swap agreements were valued at zero as further reductions to the conversion ratio were deemed neither probable nor reasonably estimable by management. See Note 3 (Investment Securities) for more information.

Note 18. Affordable Housing Projects Tax Credit Partnerships

The Company makes certain equity investments in various limited partnerships that sponsor affordable housing projects utilizing the Low Income Housing Tax Credit (LIHTC) pursuant to Section 42 of the Internal Revenue Code. The purpose of these investments is to achieve a satisfactory return on capital, to facilitate the sale of affordable housing product offerings, and to assist in achieving goals associated with the Community Reinvestment Act. The primary activities of the limited partnerships include the identification, development, and operation of multi-family housing that is leased to qualifying residential tenants. Generally, these types of investments are funded through a combination of debt and equity.

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The Company is a limited partner in each LIHTC Partnership. Each limited partnership is managed by an unrelated third party general partner who exercises full control over the affairs of the limited partnership. The general partner has all the rights, powers and authority granted or permitted to be granted to a general partner of a limited partnership. Duties entrusted to the general partner of each limited partnership include, but are not limited to: investment in operating companies, company expenditures, investment of excess funds, borrowing funds, employment of agents, disposition of fund property, prepayment and refinancing of liabilities, votes and consents, contract authority, disbursement of funds, accounting methods, tax elections, bank accounts, insurance, litigation, cash reserve, and use of working capital reserve funds. Except for limited rights granted to consent to certain transactions, the limited partner(s) may not participate in the operation, management, or control of the limited partnership’s business, transact any business in the limited partnership’s name or have any power to sign documents for or otherwise bind the limited partnership. In addition, the general partner may only be removed by the limited partner(s) in the event the general partner fails to comply with the terms of the agreement or is negligent in performing its duties.

The general partner of each limited partnership has both the power to direct the activities which most significantly affect the performance of each partnership and the obligation to absorb losses or the right to receive benefits that could be significant to the entities. Therefore, the Company has determined that it is not the primary beneficiary of any LIHTC partnership. The Company uses the effective yield method to account for its pre-2015 investments in these entities. Beginning January 1, 2015, any new investments that meet the requirements of the proportional amortization method will be recognized using the proportional amortization method. As of December 31, 2015, there are no investments accounted for under the proportional amortization method. The Company's net affordable housing tax credit investments and related unfunded commitments were $68.8 million and $68.5 million as of December 31, 2015 and 2014, respectively, and are included in other assets in the consolidated statements of condition.

Unfunded Commitments

As of December 31, 2015, the expected payments for unfunded affordable housing commitments were as follows:
(dollars in thousands)
Amount

2016
$
16,305

2017
8,778

2018
28

2019
75

2020
3

Thereafter
65

Total Unfunded Commitments
$
25,254


The following table presents tax credits and other tax benefits recognized and amortization expense related to affordable housing for the years ended December 31, 2015, 2014, and 2013.
(dollars in thousands)
 
2015

 
2014

 
2013

Effective Yield Method
 
 
 
 
 
 
Tax credits and other tax benefits recognized
 
$
13,448

 
$
10,946

 
$
9,416

Amortization Expense in Provision for Income Taxes
 
7,735

 
5,881

 
4,673


There were no impairment losses resulting from the forfeiture or ineligibility of tax credits or other circumstances related to LIHTC investments for the years ended December 31, 2015, 2014, and 2013.

Note 19. Balance Sheet Offsetting

Interest Rate Swap Agreements (“Swap Agreements”)
The Company enters into swap agreements to facilitate the risk management strategies of a small number of commercial banking customers. The Company mitigates the risk of entering into these agreements by entering into equal and offsetting swap agreements with highly-rated third party financial institutions. The swap agreements are free-standing derivatives and are recorded at fair value in the Company's consolidated statements of condition (asset positions are included in other assets and liability positions are included in other liabilities). The Company is party to master netting arrangements with its financial institution counterparties; however, the Company does not offset assets and liabilities under these arrangements for financial statement presentation purposes. The master netting arrangements provide for a single net settlement of all swap agreements, as

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well as collateral, in the event of default on, or termination of, any one contract. Collateral, usually in the form of marketable securities, is posted by the counterparty with net liability positions in accordance with contract thresholds. The Company had net liability positions with its financial institution counterparties totaling $13.1 million and $16.2 million as of December 31, 2015 and December 31, 2014, respectively. See Note 17 (Derivative Financial Instruments) for more information.
Securities Sold Under Agreements to Repurchase (“Repurchase Agreements”)
The Company enters into agreements under which it sells securities subject to an obligation to repurchase the same or similar securities.  Under these arrangements, the Company may transfer legal control over the assets but still retain effective control through an agreement that both entitles and obligates the Company to repurchase the assets.  As a result, these repurchase agreements are accounted for as collateralized financing arrangements (i.e., secured borrowings) and not as sales and subsequent repurchases of securities.  The obligation to repurchase the securities is reflected as a liability in the Company's consolidated statements of condition, while the securities underlying the repurchase agreements remain in the respective investment securities asset accounts. As a result, there is no offsetting or netting of the investment securities assets with the repurchase agreement liabilities. In addition, as the Company does not enter into reverse repurchase agreements, there is no such offsetting to be done with the repurchase agreements.

The right of setoff for a repurchase agreement resembles a secured borrowing, whereby the collateral pledged by the Company would be used to settle the fair value of the repurchase agreement should the Company be in default (e.g., fails to make an interest payment to the counterparty). For private institution repurchase agreements, if the private institution counterparty were to default (e.g., declare bankruptcy), the Company could cancel the repurchase agreement (i.e., cease payment of principal and interest), and attempt collection on the amount of collateral value in excess of the repurchase agreement fair value. The collateral is held by a third party financial institution in the counterparty's custodial account. The counterparty has the right to sell or repledge the investment securities. For government entity repurchase agreements, the collateral is held by the Company in a segregated custodial account under a tri-party agreement. The Company is required by the counterparty to maintain adequate collateral levels. In the event the collateral fair value falls below stipulated levels, the Company will pledge additional securities. The Company closely monitors collateral levels to ensure adequate levels are maintained, while mitigating the potential risk of over-collateralization in the event of counterparty default.

The following table presents the remaining contractual maturities of the Company’s repurchase agreements as of December 31, 2015, disaggregated by the class of collateral pledged.
 
 
 Remaining Contractual Maturity of Repurchase Agreements
 (dollars in thousands)
 
 Up to
90 days

 
 91-365 days

 
 1-3 Years

 
 After
3 Years

 
 Total

December 31, 2015
 
 
 
 
 
 
 
 
 
 
 Class of Collateral Pledged:
 
 
 
 
 
 
 
 
 
 
 Debt Securities Issued by the U.S. Treasury and Government Agencies
 
$
—

 
$
—

 
$
200,000

 
$
110,313

 
$
310,313

 Debt Securities Issued by States and Political Subdivisions
 
47,915

 
4,692

 
100

 
—

 
52,707

 Mortgage-Backed Securities:
 
 
 
 
 
 
 
 
 
 
     Residential - Government Agencies
 
1,150

 
51,169

 
—

 
102,919

 
155,238

     Residential - U.S. Government-Sponsored Enterprises
 
—

 
23,831

 
—

 
86,768

 
110,599

 Total
 
$
49,065

 
$
79,692

 
$
200,100

 
$
300,000

 
$
628,857





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The following table presents the assets and liabilities subject to an enforceable master netting arrangement, or repurchase agreements, as of December 31, 2015 and 2014. The swap agreements we have with our commercial banking customers are not subject to an enforceable master netting arrangement, and therefore, are excluded from this table.
 
 
(i)
 
(ii)
 
(iii) = (i)-(ii)
 
(iv)
 
(v) = (iii)-(iv)
 
 
Gross Amounts
Recognized in the
Statements
 of Condition
 
 Gross Amounts
Offset in the
Statements
 of Condition
 
 Net Amounts
Presented in the
Statements
 of Condition
 
 Gross Amounts Not Offset in the Statements of Condition
 
 
(dollars in thousands)
 
 
 
 
Netting
Adjustments
per Master
Netting
Arrangements
 
Fair Value of Collateral
Pledged 1
 
 Net Amount
December 31, 2015
 
 
 
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
Interest Rate Swap Agreements:
 
 
 
 
 
 
 
 
 
 
 
 
    Institutional Counterparties
 
$
261

 
$
—

 
$
261

 
$
261

 
$
—

 
$
—

 
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
Interest Rate Swap Agreements:
 
 
 
 
 
 
 
 
 
 
 
 
    Institutional Counterparties
 
13,312

 
—

 
13,312

 
261

 
—

 
13,051

 
 
 
 
 
 
 
 
 
 
 
 
 
Repurchase Agreements:
 
 
 
 
 
 
 
 
 
 
 
 
    Private Institutions
 
575,000

 
—

 
575,000

 
—

 
575,000

 
—

    Government Entities
 
53,857

 
—

 
53,857

 
—

 
53,857

 
—

 
 
$
628,857

 
$
—

 
$
628,857

 
$
—

 
$
628,857

 
$
—

 
 
 
 
 
 
 
 
 
 
 
 
 
December 31, 2014
 
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
Interest Rate Swap Agreements:
 
 
 
 
 
 
 
 
 
 
 
 
    Institutional Counterparties
 
$
28

 
$
—

 
$
28

 
$
28

 
$
—

 
$
—

 
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
Interest Rate Swap Agreements:
 
 
 
 
 
 
 
 
 
 
 
 
    Institutional Counterparties
 
16,268

 
—

 
16,268

 
28

 
—

 
16,240

 
 
 
 
 
 
 
 
 
 
 
 
 
Repurchase Agreements:
 
 
 
 
 
 
 
 
 
 
 
 
    Private Institutions
 
600,000

 
—

 
600,000

 
—

 
600,000

 
—

    Government Entities
 
88,601

 
—

 
88,601

 
—

 
88,601

 
—

 
 
$
688,601

 
$
—

 
$
688,601

 
$
—

 
$
688,601

 
$
—

1 
The application of collateral cannot reduce the net amount below zero. Therefore, excess collateral is not reflected in this table. For repurchase agreements with private institutions, the fair value of securities pledged was $663.2 million and $694.7 million as of December 31, 2015 and 2014, respectively. For repurchase agreements with government entities, the fair value of securities pledged was $66.9 million as of December 31, 2015.



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Note 20.  Commitments, Contingencies, and Guarantees

The Company's credit commitments as of December 31, 2015 were as follows:
(dollars in thousands)
December 31, 2015

Unfunded Commitments to Extend Credit
$
2,604,429

Standby Letters of Credit
48,153

Commercial Letters of Credit
15,867

Total
$
2,668,449


Unfunded Commitments to Extend Credit

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of the terms or conditions established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since commitments may expire without being drawn, the total commitment amount does not necessarily represent future cash requirements.

Standby and Commercial Letters of Credit

Standby 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 become payable upon the failure of the customer to perform according to the terms of the underlying contract with the third party, while commercial letters of credit are issued specifically to facilitate commerce and typically result in the commitment being drawn on when the underlying transaction is consummated between the customer and a third party. The contractual amount of these letters of credit represents the maximum potential future payments guaranteed by the Company. The Company has recourse against the customer for any amount it is required to pay to a third party under a standby letter of credit, and generally holds cash or deposits as collateral on those standby letters of credit for which collateral is deemed necessary. Assets valued at $33.5 million secured certain specifically identified standby letters of credit as of December 31, 2015. As of December 31, 2015, the standby and commercial letters of credit had remaining terms ranging from 1 to 27 months.

Lease Commitments

A portion of the Company's headquarters' building is leased with a lease term through 2052. The Company leases certain other branch premises and equipment with lease terms extending through 2048. Most of the leases for premises provide for a base rent over a specified period with renewal options thereafter. Portions of certain properties are subleased for periods expiring in various years through 2024. Lease terms generally specify that the Company is to pay for taxes, maintenance, and other operating costs. Rental expense for all operating leases for the years ended December 31, 2015, 2014, and 2013 were as follows:
(dollars in thousands)
2015

 
2014

 
2013

Minimum Rentals
$
18,826

 
$
18,411

 
$
19,258

Sublease Rental Income
(6,212
)
 
(6,647
)
 
(6,806
)
Total
$
12,614

 
$
11,764

 
$
12,452


Future minimum payments for capital leases and non-cancelable operating leases with initial or remaining terms of one year or more consisted of the following as of December 31, 2015:
(dollars in thousands)
Capital Leases

 
 
Operating Leases

2016
$
825

 
 
$
13,752

2017
825

 
 
11,289

2018
825

 
 
9,974

2019
825

 
 
8,253

2020
825

 
 
7,993

Thereafter
26,405

 
 
99,276

Total Future Minimum Lease Payments
30,530

 
 
$
150,537

Amounts Representing Interest
(19,682
)
 
 
 
Present Value of Net Future Minimum Lease Payments
$
10,848

 
 
 

Minimum future rental income receivable under non-cancelable subleases was $13.5 million as of December 31, 2015.

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Contingencies

The Company, along with other members of Visa, are parties to Loss and Judgment Sharing Agreements (the "Agreements"), which provide that the Company along with other member banks of Visa, will share, based on its proportionate interest in Visa, in any losses from certain litigation specified in the Agreements. In March 2008, Visa funded an escrow account from its initial public offering to settle claims covered under the Agreements. In connection with the initial public offering, the Company received restricted Class B common stock in Visa. Should the escrow account established by Visa not be sufficient to cover litigation claims specified in the Agreements, Visa is entitled to fund additional amounts to the escrow account by reducing each member bank's Class B conversion ratio to unrestricted Class A shares. As of December 31, 2015, management believes that the Company's indemnification of Visa, related to the costs of these lawsuits, will be sufficiently funded from the escrow account or through future reductions in the conversion ratio. See Note 3 (Investment Securities) and Note 17 (Derivative Financial Instruments) for more information.

In addition to the litigation noted above, the Company is subject to various other pending and threatened legal proceedings arising out of the normal course of business or operations. On at least a quarterly basis, the Company assesses its liabilities and contingencies in connection with outstanding legal proceedings utilizing the most recent information available. On a case-by-case basis, reserves are established for those legal claims for which it is probable that a loss will be incurred and the amount of such loss can be reasonably estimated. Based on information currently available, management believes that the eventual outcome of these other actions against the Company will not be materially in excess of such amounts reserved by the Company. However, in the event of unexpected future developments, it is possible that the ultimate resolution of those matters may result in a loss that materially exceeds the reserves established by the Company.

Risks Related to Representation and Warranty Provisions

The Company sells residential mortgage loans in the secondary market primarily to the Federal National Mortgage Association ("Fannie Mae"). The Company also pools Federal Housing Administration (“FHA”) insured and U.S. Department of Veterans Affairs (“VA”) guaranteed residential mortgage loans for sale to the Government National Mortgage Corporation ("Ginnie Mae"). These pools of FHA-insured and VA-guaranteed residential mortgage loans are securitized by Ginnie Mae. The agreements under which the Company sells residential mortgage loans to Fannie Mae or Ginnie Mae and the insurance or guaranty agreements with FHA and VA contain provisions that include various representations and warranties regarding the origination and characteristics of the residential mortgage loans. Although the specific representations and warranties vary among investors, insurance or guarantee agreements, they typically cover ownership of the loan, validity of the lien securing the loan, the absence of delinquent taxes or liens against the property securing the loan, compliance with loan criteria set forth in the applicable agreement, compliance with applicable federal, state, and local laws, and other matters. As of December 31, 2015, the unpaid principal balance of residential mortgage loans sold by the Company was $2.5 billion. The agreements under which the Company sells residential mortgage loans require delivery of various documents to the investor or its document custodian. Although these loans are primarily sold on a non-recourse basis, the Company may be obligated to repurchase residential mortgage loans or reimburse investors for losses incurred if a loan review reveals that underwriting and documentation standards were potentially not met. Some agreements may require the Company to repurchase delinquent loans. Upon receipt of a repurchase request, the Company works with investors or insurers to arrive at a mutually agreeable resolution. Repurchase demands are typically reviewed on an individual loan by loan basis to validate the claims made by the investor or insurer and to determine if a contractually required repurchase event has occurred. The Company manages the risk associated with potential repurchases or other forms of settlement through its underwriting and quality assurance practices and by servicing mortgage loans to meet investor and secondary market standards. For the year ended December 31, 2015, the Company repurchased four residential mortgage loans with an aggregate unpaid principal balance totaling $1.2 million as a result of the representation and warranty provisions contained in these contracts. Three of these loans were delinquent as to principal and interest at the time of repurchase, however, no losses were incurred related to these repurchases. As of December 31, 2015, there were no pending repurchase requests related to representation and warranty provisions.

Risks Relating to Residential Mortgage Loan Servicing Activities

In addition to servicing loans in the Company's portfolio, substantially all of the loans the Company sells to investors are sold with servicing rights retained. The Company also services loans originated by other mortgage loan originators. As servicer, the Company's primary duties are to: (1) collect payments due from borrowers; (2) advance certain delinquent payments of principal and interest; (3) maintain and administer any hazard, title, or primary mortgage insurance policies relating to the mortgage loans; (4) maintain any required escrow accounts for payment of taxes and insurance and administer escrow payments; and (5) foreclose

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on defaulted mortgage loans or, to the extent consistent with the documents governing a securitization, consider alternatives to foreclosure, such as loan modifications or short sales. Each agreement under which the Company acts as servicer generally specifies a standard of responsibility for actions taken by the Company in such capacity and provides protection against expenses and liabilities incurred by the Company when acting in compliance with the respective servicing agreements. However, if the Company commits a material breach of obligations as servicer, the Company may be subject to termination if the breach is not cured within a specified period following notice. The standards governing servicing and the possible remedies for violations of such standards vary by investor. These standards and remedies are determined by servicing guides issued by the investors as well as the contract provisions established between the investors and the Company. Remedies could include repurchase of an affected loan. For the year ended December 31, 2015, the Company had no repurchase requests related to loan servicing activities, nor were there any pending repurchase requests as of December 31, 2015.

Although to date repurchase requests related to representation and warranty provisions, and servicing activities have been limited, it is possible that requests to repurchase mortgage loans may increase in frequency as investors more aggressively pursue all means of recovering losses on their purchased loans. However, as of December 31, 2015, management believes that this exposure is not material due to the historical level of repurchase requests and loss trends and thus has not established a liability for losses related to mortgage loan repurchases. As of December 31, 2015, 99% of the Company's residential mortgage loans serviced for investors were current. The Company maintains ongoing communications with investors and continues to evaluate this exposure by monitoring the level and number of repurchase requests as well as the delinquency rates in the loans sold to investors.

Note 21.  Fair Value of Assets and Liabilities

The following is a description of the valuation methodologies and key inputs used to measure assets and liabilities recorded at fair value on a recurring basis.

Assets and Liabilities Measured at Fair Value on a Recurring Basis

Investment Securities Available-for-Sale

Fair values of investment securities available-for-sale were primarily measured using information from a third-party pricing service.  This service provides pricing information by utilizing evaluated pricing models supported with market data information.  Standard inputs include benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, and reference data from market research publications.  Level 1 investment securities are comprised of debt securities issued by the U.S. Treasury, as quoted prices were available, unadjusted, for identical securities in active markets.  Level 2 investment securities were primarily comprised of debt securities issued by the Small Business Administration, states and municipalities, corporations, as well as mortgage-backed securities issued by government agencies and government-sponsored enterprises.  Fair values were estimated primarily by obtaining quoted prices for similar assets in active markets or through the use of pricing models.  In cases where there may be limited or less transparent information provided by the Company’s third-party pricing service, fair value may be estimated by the use of secondary pricing services or through the use of non-binding third-party broker quotes.

On a quarterly basis, management reviews the pricing information received from the Company’s third-party pricing service.  This review process includes a comparison to non-binding third-party broker quotes, as well as a review of market-related conditions impacting the information provided by the Company’s third-party pricing service.  Management primarily identifies investment securities which may have traded in illiquid or inactive markets by identifying instances of a significant decrease in the volume or frequency of trades, relative to historical levels, as well as instances of a significant widening of the bid-ask spread in the brokered markets.  Investment securities that are deemed to have been trading in illiquid or inactive markets may require the use of significant unobservable inputs to determine fair value. As of December 31, 2015 and 2014, management did not make adjustments to prices provided by the third-party pricing service as a result of illiquid or inactive markets.  On a quarterly basis, management also reviews a sample of securities priced by the Company’s third-party pricing service to review significant assumptions and valuation methodologies used.  Based on this review, management determines whether the current placement of the security in the fair value hierarchy is appropriate or whether transfers may be warranted.  The Company’s third-party pricing service has also established processes for us to submit inquiries regarding quoted prices.  Periodically, we will challenge the quoted prices provided by our third-party pricing service.  The Company’s third-party pricing service will review the inputs to the evaluation in light of the new market data presented by us.  The Company’s third-party pricing service may then affirm the original quoted price or may update the evaluation on a going forward basis.


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Loans Held for Sale

The fair value of the Company’s residential mortgage loans held for sale was determined based on quoted prices for similar loans in active markets, and therefore, is classified as a Level 2 measurement.

Mortgage Servicing Rights

Mortgage servicing rights do not trade in an active market with readily observable market data.  As a result, the Company estimates the fair value of mortgage servicing rights by using a discounted cash flow model to calculate the present value of estimated future net servicing income.  The Company stratifies its mortgage servicing portfolio on the basis of loan type.  The assumptions used in the discounted cash flow model are those that we believe market participants would use in estimating future net servicing income.  Significant assumptions in the valuation of mortgage servicing rights include estimated loan repayment rates, the discount rate, servicing costs, and the timing of cash flows, among other factors.  Mortgage servicing rights are classified as Level 3 measurements due to the use of significant unobservable inputs, as well as significant management judgment and estimation.

Other Assets

Other assets recorded at fair value on a recurring basis are primarily comprised of investments related to deferred compensation arrangements.  Quoted prices for these investments, primarily in mutual funds, are available in active markets.  Thus, the Company’s investments related to deferred compensation arrangements are classified as Level 1 measurements in the fair value hierarchy.

Derivative Financial Instruments

Derivative financial instruments recorded at fair value on a recurring basis are comprised of interest rate lock commitments (“IRLCs”), forward commitments, interest rate swap agreements, foreign exchange contracts, and Visa Class B to Class A shares conversion rate swap agreements.  The fair values of IRLCs are calculated based on the value of the underlying loan, which in turn is based on quoted prices for similar loans in the secondary market.  However, this value is adjusted by a factor which considers the likelihood that the loan in a locked position will ultimately close.  This factor, the closing ratio, is derived from the Bank’s internal data and is adjusted using significant management judgment.  As such, IRLCs are classified as Level 3 measurements.  Forward commitments are classified as Level 2 measurements as they are primarily based on quoted prices from the secondary market based on the settlement date of the contracts, interpolated or extrapolated, if necessary, to estimate a fair value as of the end of the reporting period.  The fair values of interest rate swap agreements are calculated using a discounted cash flow approach and utilize Level 2 observable inputs such as the LIBOR swap curve, effective date, maturity date, notional amount, and stated interest rate.  In addition, the Company includes in its fair value calculation a credit factor adjustment which is based primarily on management judgment.  Thus, interest rate swap agreements are classified as a Level 3 measurement.  The fair values of foreign exchange contracts are calculated using the Bank’s multi-currency accounting system which utilizes contract specific information such as currency, maturity date, contractual amount, and strike price, along with market data information such as the spot rates of specific currency and yield curves.  Foreign exchange contracts are classified as Level 2 measurements because while they are valued using the Bank’s multi-currency accounting system, significant management judgment or estimation is not required. The fair value of the Visa Class B restricted shares to Class A unrestricted common shares conversion rate swap agreements represent the amount owed by the Company to the buyer of the Visa Class B shares as a result of a reduction of the conversion ratio subsequent to the sales date. As of December 31, 2015 and 2014, the conversion rate swap agreements were valued at zero as reductions to the conversion ratio were neither probable nor reasonably estimable by management. These conversion rate swap agreements are classified as a Level 2 measurement. See Note 17 (Derivative Financial Instruments) for more information.

The Company is exposed to credit risk if borrowers or counterparties fail to perform.  The Company seeks to minimize credit risk through credit approvals, limits, monitoring procedures, and collateral requirements.  The Company generally enters into transactions with borrowers and counterparties that carry high quality credit ratings.  Credit risk associated with borrowers or counterparties as well as the Company’s non-performance risk is factored into the determination of the fair value of derivative financial instruments.


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The table below presents the balances of assets and liabilities measured at fair value on a recurring basis as of December 31, 2015 and 2014:
(dollars in thousands)
Quoted Prices
In Active
Markets for
Identical Assets
or Liabilities
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
 
Total

December 31, 2015
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
Investment Securities Available-for-Sale
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury
 and Government Agencies
 
$
545

 
$
358,349

 
$
—

 
$
358,894

Debt Securities Issued by States and Political Subdivisions
 
—

 
731,918

 
—

 
731,918

Debt Securities Issued by Corporations
 
—

 
308,870

 
—

 
308,870

Mortgage-Backed Securities:
 
 
 
 
 
 
 
 
Residential - Government Agencies
 
—

 
316,245

 
—

 
316,245

Residential - U.S. Government-Sponsored Enterprises
 
—

 
441,864

 
—

 
441,864

Commercial - Government Agencies
 
—

 
99,027

 
—

 
99,027

Total Mortgage-Backed Securities
 
—

 
857,136

 
—

 
857,136

Total Investment Securities Available-for-Sale
 
545

 
2,256,273

 
—

 
2,256,818

Loans Held for Sale
 
—

 
4,808

 
—

 
4,808

Mortgage Servicing Rights
 
—

 
—

 
1,970

 
1,970

Other Assets
 
20,262

 
—

 
—

 
20,262

Derivatives 1
 
—

 
154

 
13,813

 
13,967

Total Assets Measured at Fair Value on a
Recurring Basis as of December 31, 2015
 
$
20,807

 
$
2,261,235

 
$
15,783

 
$
2,297,825

 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
Derivatives 1
 
$
—

 
$
46

 
$
13,573

 
$
13,619

Total Liabilities Measured at Fair Value on a
Recurring Basis as of December 31, 2015
 
$
—

 
$
46

 
$
13,573

 
$
13,619

 
 
 
 
 
 
 
 
 
December 31, 2014
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
Investment Securities Available-for-Sale
 
 
 
 
 
 
 
 
Debt Securities Issued by the U.S. Treasury
and Government Agencies
 
$
61,271

 
$
269,987

 
$
—

 
$
331,258

Debt Securities Issued by States and Political Subdivisions
 
—

 
743,970

 
—

 
743,970

Debt Securities Issued by Corporations
 
—

 
294,833

 
—

 
294,833

Mortgage-Backed Securities:
 
 
 
 
 
 
 
 
Residential - Government Agencies
 
—

 
462,436

 
—

 
462,436

Residential - U.S. Government-Sponsored Enterprises
 
—

 
278,461

 
—

 
278,461

Commercial - Government Agencies
 
—

 
178,232

 
—

 
178,232

Total Mortgage-Backed Securities
 
—

 
919,129


—


919,129

Total Investment Securities Available-for-Sale
 
61,271


2,227,919


—

 
2,289,190

Loans Held for Sale
 
—

 
5,136

 
—

 
5,136

Mortgage Servicing Rights
 
—

 
—

 
2,604

 
2,604

Other Assets
 
18,794

 
—

 
—

 
18,794

Derivatives 1
 
—

 
101

 
16,414

 
16,515

Total Assets Measured at Fair Value on a
Recurring Basis as of December 31, 2014
 
$
80,065

 
$
2,233,156

 
$
19,018

 
$
2,332,239

 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
Derivatives 1
 
$
—

 
$
459

 
$
16,296

 
$
16,755

Total Liabilities Measured at Fair Value on a
Recurring Basis as of December 31, 2014
 
$
—

 
$
459

 
$
16,296

 
$
16,755

1     The fair value of each class of derivatives is shown in Note 17 to the Consolidated Financial Statements.

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For the years ended December 31, 2015 and 2014, the changes in Level 3 assets and liabilities measured at fair value on a recurring basis were as follows:
(dollars in thousands)
Mortgage
Servicing Rights 1
 
Net Derivative
 Assets and
 Liabilities 2
 
Year Ended December 31, 2015
 
 
 
 
Balance as of January 1, 2015
 
$
2,604

 
$
118

Realized and Unrealized Net Gains (Losses):
 
 
 
 
Included in Net Income
 
(634
)
 
2,783

Transfers to Loans Held for Sale
 
—

 
(2,661
)
Balance as of December 31, 2015
 
$
1,970

 
$
240

Total Unrealized Net Gains (Losses) Included in Net Income
Related to Assets Still Held as of December 31, 2015
 
$
(251
)
 
$
240

 
 
 
 
 
Year Ended December 31, 2014
 
 
 
 
Balance as of January 1, 2014
 
$
3,826

 
$
379

Realized and Unrealized Net Gains (Losses):
 
 
 
 
Included in Net Income
 
(1,222
)
 
3,195

Transfers to Loans Held for Sale
 
—

 
(3,456
)
Balance as of December 31, 2014
 
$
2,604

 
$
118

Total Unrealized Net Gains (Losses) Included in Net Income
Related to Assets Still Held as of December 31, 2014
 
$
(868
)
 
$
118

1 
Realized and unrealized gains and losses related to mortgage servicing rights are reported as a component of mortgage banking income in the Company's consolidated statements of income.
2 
Realized and unrealized gains and losses related to interest rate lock commitments are reported as a component of mortgage banking income in the Company's consolidated statements of income. Realized and unrealized gains and losses related to interest rate swap agreements are reported as a component of other noninterest income in the Company's consolidated statements of income.

For Level 3 assets and liabilities measured at fair value on a recurring or nonrecurring basis as of December 31, 2015 and 2014, the significant unobservable inputs used in the fair value measurements were as follows:
 
 
 
Significant Unobservable Inputs
(weighted-average)
 
Fair Value
 
 
 
 
December 31,
 
December 31,
(dollars in thousands)
 
Valuation Technique
Description
2015

 
2014

 
2015

 
2014

Mortgage Servicing Rights
 
Discounted Cash Flow
Constant Prepayment Rate 1
9.10
%
 
11.62
%
 
$
26,774

 
$
25,441

 
 
 
Discount Rate 2
9.38
%
 
10.61
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net Derivative Assets and Liabilities:
 
 
 
 
 
 
 
 
 
 
     Interest Rate Lock Commitments
 
Pricing Model
Closing Ratio
94.70
%
 
93.85
%
 
$
270

 
$
152

     Interest Rate Swap Agreements
 
Discounted Cash Flow
Credit Factor
0.22
%
 
0.21
%
 
$
(30
)
 
$
(34
)
1     Represents annualized loan repayment rate assumption.
2     Derived from multiple interest rate scenarios that incorporate a spread to the London Interbank Offered Rate swap curve and market volatilities.

The significant unobservable inputs used in the fair value measurement of the Company’s mortgage servicing rights are the weighted-average constant prepayment rate and weighted-average discount rate. Significant increases (decreases) in any of those inputs in isolation could result in a significantly lower (higher) fair value measurement.  Although the constant prepayment rate and the discount rate are not directly interrelated, they generally move in opposite directions of each other.

The Company estimates the fair value of mortgage servicing rights by using a discounted cash flow model to calculate the present value of estimated future net servicing income.  The Company’s Treasury Division enters observable and unobservable inputs into the model to arrive at an estimated fair value.  To assess the reasonableness of the fair value measurement, the Treasury Division performs a back-test by applying the model to historical prepayment data.  The fair value and constant prepayment rate are also compared to forward-looking estimates to assess reasonableness.  The Treasury Division also compares the fair value of the Company’s mortgage servicing rights to a value calculated by an independent third party.  Discussions are held with members from the Treasury, Mortgage Banking, and Controllers Divisions, along with the independent third party to discuss and reconcile the fair value estimates and key assumptions used by the respective parties in arriving at those estimates.  A subcommittee of the

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Company’s Asset/Liability Management Committee is responsible for providing oversight over the valuation methodology and key assumptions.

The significant unobservable input used in the fair value measurement of the Company’s IRLCs is the closing ratio, which represents the percentage of loans currently in a lock position which management estimates will ultimately close.  Generally, the fair value of an IRLC is positive (negative) if the prevailing interest rate is lower (higher) than the IRLC rate.  Therefore, an increase in the closing ratio (i.e., higher percentage of loans are estimated to close) will increase the gain or loss.  The closing ratio is largely dependent on the loan processing stage that a loan is currently in and the change in prevailing interest rates from the time of the rate lock.  The closing ratio is computed by our secondary marketing system using historical data and the ratio is periodically reviewed by the Company’s Secondary Marketing Department of the Mortgage Banking Division for reasonableness.

The unobservable input used in the fair value measurement of the Company’s interest rate swap agreements is the credit factor.  This factor represents the risk that a counterparty is either unable or unwilling to settle a transaction in accordance with the underlying contractual terms.  A significant increase (decrease) in the credit factor could result in a significantly lower (higher) fair value measurement.  The credit factor is determined by the Treasury Division based on the risk rating assigned to each counterparty in which the Company holds a net asset position.  The Company’s Credit Policy Committee periodically reviews and approves the Expected Default Frequency of the Economic Capital Model for Credit Risk.  The Expected Default Frequency is used as the credit factor for interest rate swap agreements.

Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis

The Company may be required periodically to measure certain assets and liabilities at fair value on a nonrecurring basis in accordance with GAAP. These adjustments to fair value usually result from the application of lower-of-cost-or-fair value accounting or impairment write-downs of individual assets. The following table represents the assets measured at fair value on a nonrecurring basis as of December 31, 2015 and 2014.

(dollars in thousands)
Fair Value
Hierarchy
 
Net Carrying
Amount

 
Valuation
Allowance

December 31, 2015
 
 
 
 
 
Mortgage Servicing Rights - amortization method
Level 3
 
$
21,032

 
$
21

Foreclosed Real Estate
Level 3
 
824

 
—

Other Assets - Equipment Held for Sale
Level 3
 
4,657

 
9,453

 
 
 
 
 
 
December 31, 2014
 
 
 
 
 
Mortgage Servicing Rights - amortization method
Level 3
 
$
22,091

 
$
57

Foreclosed Real Estate
Level 3
 
2,311

 
89


The write-down of mortgage servicing rights accounted for under the amortization method was primarily due to changes in certain key assumptions used to estimate fair value. As previously mentioned, all of the Company's mortgage servicing rights are classified as Level 3 measurements due to the use of significant unobservable inputs, as well as significant management judgment and estimation. The December 31, 2014 valuation allowance for the Company's foreclosed real estate related to one commercial property. This property was sold in the third quarter of 2015. The Company's equipment held for sale represents six aircraft that were previously on lease agreements. An impairment charge of $9.5 million (included in other noninterest expense in the Company's consolidated statements of income) was recorded in the third quarter of 2015 to reduce the carrying value to estimated fair value less cost to sell based on recent appraisals, market conditions, and management judgment. The aircraft are currently being marketed for sale through a third party broker. Due to the use of significant unobservable inputs combined with significant management judgment regarding the fair value of the six aircraft, the carrying value is deemed a Level 3 measurement. For segment reporting (see Note 13 (Business Segments)), the carrying value is included in the Commercial Banking segment. As appraisals on foreclosed real estate and equipment held for sale are not necessarily completed on the period end dates presented in the table above, the fair value information presented may not reflect the actual fair value as of December 31, 2015 and 2014.

Fair Value Option

The Company elected the fair value option for all residential mortgage loans held for sale originated on or after October 1, 2011. This election allows for a more effective offset of the changes in fair values of the loans held for sale and the derivative financial instruments used to financially hedge them without having to apply complex hedge accounting requirements. As noted above, the

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fair value of the Company's residential mortgage loans held for sale was determined based on quoted prices for similar loans in active markets.

The following table reflects the difference between the aggregate fair value and the aggregate unpaid principal balance of the Company's residential mortgage loans held for sale as of December 31, 2015 and 2014.
(dollars in thousands)
Aggregate
Fair Value

Aggregate
Unpaid Principal
 
Aggregate Fair Value
Less Aggregate
Unpaid Principal
 
December 31, 2015
 
 
 
 
 
Loans Held for Sale
$
4,808

 
$
4,575

 
$
233

 
 
 
 
 
 
December 31, 2014
 
 
 
 
 
Loans Held for Sale
$
5,136

 
$
4,740

 
$
396


Changes in the estimated fair value of residential mortgage loans held for sale are reported as a component of mortgage banking income in the Company's consolidated statements of income. For the years ended December 31, 2015 and 2014, the net gains or losses from the change in fair value of the Company's residential mortgage loans held for sale were not material.

Financial Instruments Not Recorded at Fair Value on a Recurring Basis

The assumptions used below are expected to approximate those that market participants would use in valuing these financial instruments.

Investment Securities Held-to-Maturity

The fair value of the Company’s investment securities held-to-maturity was primarily measured using information from a third-party pricing service.  Level 1 investment securities are comprised of debt securities issued by the U.S. Treasury as quoted prices were available, unadjusted, for identical securities in active markets.  If quoted prices were not available, fair values were estimated primarily by obtaining quoted prices for similar assets in active markets or through the use of pricing models.  In cases where there may be limited or less transparent information provided by the Company’s third-party pricing service, fair value may be estimated by the use of secondary pricing services or through the use of non-binding third-party broker quotes.

Loans

The fair value of the Company’s loans was estimated by discounting the expected future cash flows using the current interest rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities.  Loans were first segregated by type such as commercial, real estate, and consumer, and were then further segmented into fixed and variable rate and loan quality categories.  Expected future cash flows were projected based on contractual cash flows, adjusted for estimated prepayments.

Time Deposits

The fair value of the Company’s time deposits was calculated using discounted cash flow analyses, applying discount rates based on market yield curve rates for similar maturities.  The fair values of the Company’s time deposit liabilities do not take into consideration the value of the Company’s long-term relationships with depositors, which may have significant value.

Securities Sold Under Agreements to Repurchase

The fair value of the Company’s securities sold under agreements to repurchase was calculated using discounted cash flow analyses, applying discount rates based on market yield curve rates for similar maturities.

Other Debt

The fair value of the Company’s other debt was calculated using a discounted cash flow approach, applying discount rates based on market yield curve rates for similar maturities.

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The following presents the carrying amount, fair value, and placement in the fair value hierarchy of the Company's financial instruments not recorded at fair value on a recurring basis as of December 31, 2015 and 2014. This table excludes financial instruments for which the carrying amount approximates fair value.  For short-term financial assets such as cash and cash equivalents, the carrying amount is a reasonable estimate of fair value due to the relatively short time between the origination of the instrument and its expected realization.  For non-marketable equity securities such as Federal Home Loan Bank and Federal Reserve Bank stock, the carrying amount is a reasonable estimate of fair value as these securities can only be redeemed or sold at their par value and only to the respective issuing government supported institution or to another member institution.  For financial liabilities such as noninterest-bearing demand, interest-bearing demand, and savings deposits, the carrying amount is a reasonable estimate of fair value due to these products having no stated maturity.

 
 
 
Fair Value Measurements
(dollars in thousands)
Carrying Amount

 
Fair Value

 
Quoted Prices in Active Markets for
Identical Assets or
Liabilities(Level 1)

 
Significant
Other
Observable
Inputs
(Level 2)

 
Significant
Unobservable
Inputs
(Level 3)

December 31, 2015
 
 
 
 
 
 
 
 
 
Financial Instruments – Assets
 
 
 
 
 
 
 
 
 
Investment Securities Held-to-Maturity
$
3,982,736

 
$
4,006,412

 
$
489,967

 
$
3,516,445

 
$
—

Loans 1
7,538,454

 
7,967,385

 
—

 
—

 
7,967,385

 
 
 
 
 
 
 
 
 
 
Financial Instruments – Liabilities
 
 
 
 
 
 
 
 
 
Time Deposits
1,177,651

 
1,178,837

 
—

 
1,178,837

 
—

Securities Sold Under Agreements to Repurchase
628,857

 
686,853

 
—

 
686,853

 
—

Other Debt 2
234,938

 
235,668

 
—

 
235,668

 
—

 
 
 
 
 
 
 
 
 
 
December 31, 2014
 
 
 
 
 
 
 
 
 
Financial Instruments – Assets
 
 
 
 
 
 
 
 
 
Investment Securities Held-to-Maturity
$
4,466,679

 
$
4,504,495

 
$
499,616

 
$
4,004,879

 
$
—

Loans 1
6,542,719

 
7,048,757

 
—

 
—

 
7,048,757

 
 
 
 
 
 
 
 
 
 
Financial Instruments – Liabilities
 
 
 
 
 
 
 
 
 
Time Deposits
1,434,001

 
1,437,064

 
—

 
1,437,064

 
—

Securities Sold Under Agreements to Repurchase
688,601

 
758,781

 
—

 
758,781

 
—

Other Debt 2
163,005

 
163,911

 
—

 
163,911

 
—

1 
Net of unearned income and the Allowance.
2 
Excludes capitalized lease obligations.



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Note 22.  Bank of Hawaii Corporation Financial Statements

Condensed financial statements of the Parent were as follows:

Condensed Statements of Comprehensive Income
 
Year Ended December 31,
(dollars in thousands)
2015

 
2014

 
2013

Income
 
 
 
 
 
Dividends and Interest from Bank of Hawaii
$
115,000

 
$
136,000

 
$
133,000

Investment Securities Gains, Net
9,870

 
7,810

 
—

Other Income
973

 
690

 
727

Total Income
125,843

 
144,500

 
133,727

Noninterest Expense
 
 
 
 
 
Intercompany Salaries and Services
651

 
839

 
852

Other Expenses
2,325

 
2,067

 
2,942

Total Noninterest Expense
2,976

 
2,906

 
3,794

Income Before Income Tax Benefit and Equity in Undistributed Income of Subsidiaries
122,867

 
141,594

 
129,933

Income Tax Benefit (Expense)
(1,670
)
 
225

 
2,211

Equity in Undistributed Income of Subsidiaries
39,507

 
21,223

 
18,358

Net Income
$
160,704

 
$
163,042

 
$
150,502

Comprehensive Income
$
163,833

 
$
168,179

 
$
89,471


Condensed Statements of Condition
(dollars in thousands)
 
December 31, 2015

 
December 31, 2014

Assets
 
 
 
 
Cash with Bank of Hawaii
 
$
63,755

 
$
68,563

Investment Securities Held-to-Maturity
 
4,960

 
4,947

Goodwill
 
14,129

 
14,129

Income Taxes Receivable and Deferred Tax Assets
 
2,445

 
2,868

Other Assets
 
7,842

 
7,825

Equity in Net Assets of Subsidiaries
 
1,036,977

 
976,354

Total Assets
 
$
1,130,108


$
1,074,686

 
 
 
 
 
Liabilities
 
 
 
 
Income Taxes Payable
 
$
5,072

 
$
6,269

Other Liabilities
 
8,776

 
13,331

Total Liabilities
 
13,848

 
19,600

Shareholders' Equity
 
1,116,260

 
1,055,086

Total Liabilities and Shareholders' Equity
 
$
1,130,108

 
$
1,074,686



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Condensed Statements of Cash Flows
 
Year Ended December 31,
(dollars in thousands)
2015

 
2014

 
2013

Operating Activities
 
 
 
 
 
Net Income
$
160,704

 
$
163,042

 
$
150,502

Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities:
 
 

 

Share-Based Compensation
639

 
656

 
616

Net Gains on Sales of Investment Securities
(9,870
)
 
(7,810
)
 
—

Equity in Undistributed Income of Subsidiaries
(39,507
)
 
(21,223
)
 
(18,358
)
Net Change in Other Assets and Other Liabilities
(481
)
 
78

 
1,980

Net Cash Provided by Operating Activities
111,485

 
134,743

 
134,740

 
 
 
 
 
 
Investing Activities
 
 
 
 
 
Capital Contributions to the Bank
(10,179
)
 
—

 
—

Proceeds from Sales of Investment Securities
9,870

 
7,810

 
—

Purchase of Investment Securities Held-to-Maturity
—

 
(4,936
)
 
—

Net Cash Provided by (Used in) Investing Activities
(309
)
 
2,874

 
—

 
 
 
 
 
 
Financing Activities
 
 
 
 
 
Proceeds from Issuance of Common Stock
15,364

 
9,995

 
14,495

Repurchase of Common Stock
(52,981
)
 
(64,046
)
 
(39,655
)
Cash Dividends Paid
(78,367
)
 
(79,660
)
 
(80,534
)
Net Cash Used in Financing Activities
(115,984
)
 
(133,711
)
 
(105,694
)
 
 
 
 
 
 
Net Change in Cash and Cash Equivalents
(4,808
)
 
3,906

 
29,046

Cash and Cash Equivalents at Beginning of Period
68,563

 
64,657

 
35,611

Cash and Cash Equivalents at End of Period
$
63,755

 
$
68,563

 
$
64,657



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Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

None.

Item 9A. Controls and Procedures

Disclosure Controls and Procedures

The Company's management, including the Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of the Company's disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) as of December 31, 2015. The Company's disclosure controls and procedures are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the U.S. Securities and Exchange Commission's rules and forms, and that such information is accumulated and communicated to the Company's management, including the Company's Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure. Based on this evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures were effective as of December 31, 2015.

Management's Annual Report on Internal Control over Financial Reporting

Management of the Company is responsible for establishing and maintaining effective internal control over financial reporting. Internal control is designed to provide reasonable assurance to the Company's management and board of directors regarding the preparation of reliable published financial statements. Internal control over financial reporting includes self-monitoring mechanisms, and actions are taken to correct deficiencies as they are identified.

Because of inherent limitations in any system of internal control, no matter how well designed, misstatements due to error or fraud may occur and not be detected, including the possibility of the circumvention or overriding of controls. Accordingly, even effective internal control over financial reporting can provide only reasonable assurance with respect to financial statement preparation. Further, because of changes in conditions, internal control effectiveness may vary over time.

Management assessed the Company's internal control over financial reporting as of December 31, 2015. This assessment was based on criteria for effective internal control over financial reporting described in "Internal Control – Integrated Framework" issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework). Based on this assessment, the Chief Executive Officer and Chief Financial Officer assert that the Company maintained effective internal control over financial reporting as of December 31, 2015 based on the specified criteria.

The effectiveness of the Company's internal control over financial reporting as of December 31, 2015 has been audited by Ernst & Young LLP, the independent registered public accounting firm who also has audited the Company's consolidated financial statements included in this Annual Report on Form 10-K. Ernst & Young LLP's attestation report on the Company's internal control over financial reporting appears on the following page and is incorporated by reference herein.

Changes in Internal Control over Financial Reporting

There were no changes in the Company's internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the quarter ended December 31, 2015 that have materially affected or are reasonably likely to materially affect the Company's internal control over financial reporting.

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Table of Contents


Report of Independent Registered Public Accounting Firm


The Board of Directors and Shareholders
Bank of Hawaii Corporation

We have audited Bank of Hawaii Corporation’s internal control over financial reporting as of December 31, 2015, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework, the “COSO criteria”). Bank of Hawaii Corporation’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management's Annual Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, Bank of Hawaii Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2015, based on the COSO criteria.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated statements of condition of Bank of Hawaii Corporation and subsidiaries as of December 31, 2015 and 2014, and the related consolidated statements of income, comprehensive income, shareholders' equity and cash flows for each of the three years in the period ended December 31, 2015 and our report dated February 29, 2016 expressed an unqualified opinion thereon.


/s/ Ernst & Young LLP

Honolulu, Hawaii
February 29, 2016

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Item 9B. Other Information

None.

Part III

Item 10. Directors, Executive Officers and Corporate Governance

Certain information regarding the executive officers of the Parent is included under the caption "Executive Officers of the Registrant" in Part I, Item 1 of this report. Other information required by this Item is incorporated herein by reference to the Bank of Hawaii Corporation Proxy Statement for the 2016 annual meeting of shareholders to be filed with the SEC within 120 days after the end of the Company's fiscal year to which this report relates.

The Parent's Board of Directors has determined that Mark A. Burak, Robert Huret, Victor K. Nichols, and Raymond P. Vara, Jr., members of the Parent's Audit and Risk Committee, are audit committee financial experts within the meaning of Item 407(d)(5) of Regulation S-K. All members on the Audit and Risk Committee are independent and are financially literate within the meaning of Section 10A(m)(3) of the Exchange Act and the rules of the New York Stock Exchange, as applicable.

The Company has adopted a written code of ethics within the meaning of Item 406 of Regulation S-K that applies to the Parent's Chief Executive Officer, Chief Financial Officer, and Chief Accounting Officer. A copy of the Code of Ethics for Senior Financial Officers is available on the Company's website, www.boh.com. The Company intends to provide disclosure of any change to, or waiver from, the Company's Code of Ethics for Senior Financial Officers via its website.

Item 11. Executive Compensation

The information required by this Item is incorporated herein by reference to the Bank of Hawaii Corporation Proxy Statement for the 2016 annual meeting of shareholders to be filed with the SEC within 120 days after the end of the Company's fiscal year.

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

The information required by this Item is incorporated herein by reference to the Bank of Hawaii Corporation Proxy Statement for the 2016 annual meeting of shareholders to be filed with the SEC within 120 days after the end of the Company's fiscal year.

Item 13. Certain Relationships and Related Transactions, and Director Independence

The information required by this Item is incorporated herein by reference to the Bank of Hawaii Corporation Proxy Statement for the 2016 annual meeting of shareholders to be filed with the SEC within 120 days after the end of the Company's fiscal year.

Item 14. Principal Accounting Fees and Services
 
The information required by this Item is incorporated herein by reference to the Bank of Hawaii Corporation Proxy Statement for the 2016 annual meeting of shareholders to be filed with the SEC within 120 days after the end of the Company's fiscal year.


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Part IV
Item 15. Exhibits, Financial Statement Schedules
 
(a)
Financial Statements and Schedules

The following Consolidated Financial Statements of Bank of Hawaii Corporation and Subsidiaries are included in Item 8 of this report:

Consolidated Statements of Income – Years ended December 31, 2015, 2014, and 2013

Consolidated Statements of Comprehensive Income – Years ended December 31, 2015, 2014, and 2013

Consolidated Statements of Condition – December 31, 2015 and 2014

Consolidated Statements of Shareholders' Equity – Years ended December 31, 2015, 2014, and 2013

Consolidated Statements of Cash Flows – Years ended December 31, 2015, 2014, and 2013

Notes to Consolidated Financial Statements

All other schedules to the Consolidated Financial Statements stipulated by Article 9 of Regulation S-X and all other schedules to the financial statements of the registrant required by Article 5 of Regulation S-X are not required under the related instructions or are inapplicable and, therefore, have been omitted.

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Exhibit Table
Exhibit
Number
 
 
3.1
 
Certificate of Incorporation of Bank of Hawaii Corporation (f/k/a Pacific Century Financial Corporation and Bancorp Hawaii, Inc.), as amended (incorporated by reference from Exhibit 3.1 to Bank of Hawaii Corporation's Annual Report on Form 10-K for its fiscal year ended December 31, 2005, as filed on February 28, 2006 (the "2005 10-K")).
3.2    
 
Certificate of Amendment of Certificate of Incorporation of Bank of Hawaii Corporation (incorporated by reference from Exhibit 3.1 to Bank of Hawaii Corporation's Current Report on Form 8-K filed on April 30, 2008 (the "April 30, 2008 8-K")).
3.3
 
Amended and Restated By-Laws of Bank of Hawaii Corporation (incorporated by reference from Exhibit 3.2 to the April 30, 2008 8-K).
3.4
 
Amended and Restated By-Laws of Bank of Hawaii Corporation (incorporated by reference from Exhibit 3.2 to Bank of Hawaii Corporation’s Current Report on Form 8-K filed on November 19, 2013).
4.1    
 
Instruments defining the rights of holders of long-term debt of Bank of Hawaii Corporation and its consolidated subsidiaries are not filed as exhibits because the amount of debt authorized under any such instruments does not exceed 10% of the total assets of Bank of Hawaii Corporation and its consolidated subsidiaries. Bank of Hawaii Corporation agrees to furnish a copy of any such instrument to the Commission upon request.
10.1  
 
Bank of Hawaii Corporation's Executive Incentive Plan, as amended (incorporated by reference from Exhibit 10.2 to the 2005 10-K).*
10.2  
 
Bank of Hawaii Corporation's Executive Base Salary Deferral Plan (incorporated by reference from Exhibit 10.1 to the Bank of Hawaii Corporation's Current Report on Form 8-K filed on December 22, 2005).*
10.3  
 
Bank of Hawaii Corporation's Directors' Deferred Compensation Plan, as amended (incorporated by reference from Exhibit 10.7 to the 2005 10-K).*
10.4  
 
Bank of Hawaii Corporation's Director Stock Compensation Program, as amended (incorporated by reference from Exhibit 10.8 to the 2005 10-K).*
10.5  
 
Bank of Hawaii Corporation's Amended and Restated Director Stock Compensation Plan (incorporated by reference from Appendix B to Bank of Hawaii Corporation's Definitive Proxy Statement on Schedule 14A for the 2005 Annual Meeting of Shareholders filed on March 17, 2005).*
10.6  
 
Bank of Hawaii Corporation's Stock Option Plan of 1994, as amended (incorporated by reference from Exhibit 10.12 to the 2005 10-K).*
10.7  
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan (incorporated by reference from Appendix C to Bank of Hawaii Corporation's Definitive Proxy Statement on Schedule 14A for the 2004 Annual Meeting of Shareholders, as filed on March 18, 2004).*
10.8  
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan — Form of Stock Option Agreement (incorporated by reference from Exhibit 10.14 to the 2005 10-K).*
10.9
 
Amendment 2007-1 to the Bank of Hawaii Corporation 2004 Stock and Incentive Compensation Plan (incorporated by reference from Exhibit 10.13 to the Bank of Hawaii Corporation's Annual Report on Form 10-K, as filed on February 25, 2008 (the "2007 10-K")).*
10.10
 
Amendment 2007-1 to the Bank of Hawaii Corporation Executive Incentive Plan (incorporated by reference from Exhibit 10.16 to the 2007 10-K).*
10.11
 
Board Resolution for Amendment to the Restricted Stock and Option Awards under the Bank of Hawaii Corporation's Amended and Restated Director Stock Compensation Plan (incorporated by reference from Exhibit 10.1 to Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on July 28, 2008).*
10.12
 
Bank of Hawaii Corporation's Amended and Restated Change-In-Control Retention Plan, (incorporated by reference from Exhibit 10.1 to Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on December 18, 2009).*
10.13
 
Amendment 2010-1 to the Bank of Hawaii Corporation Executive Incentive Plan (incorporated by reference from Exhibit 10.1 to the Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on July 26, 2010).*
10.14
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan – Form of 2011 Restricted Stock Grant Agreement – Ho, Rossi & Sellers (incorporated by reference from Exhibit 10.1 to Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on December 20, 2010).*
10.15
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan – Share Appreciation Program (incorporated by reference from Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on March 29, 2011).*
10.16
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan –Share Appreciation Replacement Program (incorporated by reference from Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on November 22, 2011).*

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10.17
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan - Form of 2012 Restricted Stock In Lieu Of Base Salary Grant Agreement (incorporated by reference from Exhibit 10.3 to Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on January 23, 2012).*
10.18
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan – Form of 2012 Nonqualified Stock Option Grant Agreement (incorporated by reference from Exhibit 10.4 to Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on January 23, 2012).*
10.19
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan - Form of 2013 Restricted Stock Grant Agreement (incorporated by reference from Exhibit 10.1 to Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on January 30, 2013).*
10.20
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan - Form of 2014 Restricted Stock Grant Agreement - Ho, Biggs & Sellers (incorporated by reference from Exhibit 10.1 to Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on January 29, 2014).*
10.21
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan - Form of 2014 Restricted Stock Grant Agreement - Lucien & Rossi (incorporated by reference from Exhibit 10.2 to Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on January 29, 2014).*
10.22
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan - Form of 2014 Restricted Stock Unit Grant Agreement - Ho, Biggs & Sellers (incorporated by reference from Exhibit 10.3 to Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on January 29, 2014).*
10.23
 
Bank of Hawaii Corporation's 2004 Stock and Incentive Compensation Plan - Form of 2014 Restricted Stock Unit Grant Agreement - Lucien & Rossi (incorporated by reference from Exhibit 10.4 to Bank of Hawaii Corporation's Current Report on Form 8-K, as filed on January 29, 2014).*
10.24
 
Bank of Hawaii Corporation’s 2004 Stock and Incentive Compensation Plan - Form of Special Incentive Agreement - Rossi & Sellers (incorporated by reference from Exhibit 10.5 to Bank of Hawaii Corporation’s Current Report on Form 8-K, as filed on January 29, 2014).*
10.25
 
Bank of Hawaii Corporation’s 2004 Stock and Incentive Compensation Plan - Form of 2014 Restricted Stock Grant Agreement - Biggs - (incorporated by reference from Exhibit 10.2 to Bank of Hawaii Corporation’s Current Report on Form 8-K as filed on January 29, 2014).*
10.26
 
Bank of Hawaii Corporation’s 2004 Stock and Incentive Compensation Plan - Form of Restricted Stock Units Grant Agreement - Biggs - (incorporated by reference from Exhibit 10.4 to Bank of Hawaii Corporation’s Current Report on Form 8-K as filed on January 29, 2014).*
10.27
 
Bank of Hawaii Corporation’s 2014 Stock and Incentive Plan (incorporated by reference from Appendix A to Bank of Hawaii Corporation's Definitive Proxy Statement on Schedule 14A for the 2014 Annual Meeting of Shareholders, as filed on March 14, 2014).*
10.28
 
Bank of Hawaii Corporation’s 2014 Stock and Incentive Compensation Plan - Form of 2015 Restricted Stock Grant Agreement - Ho, Lucien, Biggs, Rossi & Sellers (incorporated by reference from Exhibit 10.1 to Bank of Hawaii Corporation’s Current Report on Form 8-K, as filed on January 28, 2015).*

10.29
 
Bank of Hawaii Corporation’s 2014 Stock and Incentive Compensation Plan - Form of 2015 Restricted Stock Unit Grant Agreement - Ho, Lucien, Biggs, Rossi & Sellers (incorporated by reference from Exhibit 10.2 to Bank of Hawaii Corporation’s Current Report on Form 8-K, as filed on January 28, 2015).*
10.30
 
Bank of Hawaii Corporation’s 2014 Stock and Incentive Compensation Plan - Form of 2016 Restricted Stock Grant Agreement.*
10.31
 
Bank of Hawaii Corporation’s 2014 Stock and Incentive Compensation Plan - Form of 2016 Restricted Stock Unit Grant Agreement.*
21.1
 
Subsidiaries of the Registrant.
23.1
 
Consent of Independent Registered Public Accounting Firm.
31.1
 
Certification on Chief Executive Officer Pursuant to Rule 13a-14(a) Under the Securities Exchange Act of 1934.
31.2
 
Certification of Chief Financial Officer Pursuant to Rule 13a-14(a) Under the Securities Exchange Act of 1934.
32
 
Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101
 
Interactive Data File.
___________________________________

*     Management contract or compensatory plan or arrangement.



129

Signatures
Pursuant to the requirements of Section 13 or 15(d) 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.
Date:
February 29, 2016
Bank of Hawaii Corporation
 
 
 
By:
/s/ Peter S. Ho
 
 
 
Peter S. Ho
Chairman of the Board,
Chief Executive Officer, and
President
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Date: February 29, 2016
/s/ Peter S. Ho
 
/s/ S. Haunani Apoliona
Peter S. Ho
Chairman of the Board,
Chief Executive Officer, and
President
 
S. Haunani Apoliona, Director
/s/ Mary G. F. Bitterman
 
/s/ Mark A. Burak
Mary G. F. Bitterman, Director
 
Mark A. Burak, Director
 
/s/ Michael J. Chun
 
/s/ Clinton R. Churchill
Michael J. Chun, Director
 
Clinton R. Churchill, Director
/s/ Robert Huret
 
/s/ Kent T. Lucien
Robert Huret, Director
 
Kent T. Lucien, Director and
Chief Financial Officer
/s/ Victor K. Nichols
 
/s/ Martin A. Stein
Victor K. Nichols, Director
 
Martin A. Stein, Director
/s/ Donald M. Takaki
 
/s/ Barbara J. Tanabe
Donald M. Takaki, Director
 
Barbara J. Tanabe, Director
/s/ Raymond P. Vara, Jr.
 
/s/ Robert W. Wo
Raymond P. Vara, Jr., Director
 
Robert W. Wo, Director
/s/ Dean Y. Shigemura
 
 
Dean Y. Shigemura
Principal Accounting Officer
 
 

130