GROWINGCOMMUNITY
2014 Annual Report
14 53 BRANCHES
LIMITLESS
OPPORTUNITIES
This combination of two
equal-sized companies
was a large undertaking,
and our success was a
direct reflection of the
talent and dedication
of our staff.
53 A truly transformational year.
The year 2014 was a phenomenal year for our Company. Our goal of creating
“Michigan’s Community Bank®” was greatly advanced during that time. Highlighted
by the June 1 closing of our merger with Firstbank, the year was noteworthy on
many fronts. Mercantile Bank of Michigan® now boasts an enhanced statewide
branching system of 53 locations to better serve our customers.
These branches are staffed with some of the best bankers in the state,
ready to offer premier service and an expanded array of products and
services. Our larger retail footprint, combined with our strong e-banking
platform, affords our customers maximum flexibility for their banking needs.
The integration of the merger went exceedingly well, with minimal customer
disruption. This combination of two equal-sized companies was a large
undertaking, and our success was a direct reflection of the talent and
dedication of our staff. The merger transition and operational teams
are to be commended for their excellent work.2014
The financial benefits of the merger began to accrue immediately upon
consummation. Despite an interest rate environment that has challenged
our industry with interest rate margin compression, we were able to increase
our net interest margin from 3.42% during the first quarter of 2014 to an
average of 3.87% during the third and fourth quarters of 2014. We remain
on track to realize the $5.5 million in annual cost savings articulated with
the merger announcement. These savings will become even more meaningful
in 2015 as one-time merger expenses dissipate and the full benefit of our
consolidation accrues.
The merger also enhanced our strategic efforts to improve liquidity and to
diversify both our loan and deposit portfolios. Local deposits represented
92% of total deposits as of year-end 2014, while wholesale funds accounted
for less than 10% of total funding sources. The charts included with this
report show the expanded diversity of both our loan and deposit portfolios.
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FINANCIAL
PERFORMANCE
PERFORMANCE
Income (loss)
Before Income Tax Expense (benefit)
Total Assets
$30M
$25M
$20M
$15M
$10M
$5M
$0M
-$5M
-$10M
-$15M
$3,000M
$2,500M
$2,000M
$1,500M
$1,000M
$500M
$0M
2010
2011
2012
2013
2014
2010
2011
2012
2013
2014
While our main focus was clearly on the successful
The healthy state of our loan portfolio, combined
completion of the merger, our dedication to strong
with our low loan loss experience and high loan
financial performance was also evident for the year.
loss recoveries for the year, allowed us to record
Net income increased to $17.3 million for 2014, despite
a negative provision for loan loss of $3.0 million,
$5.4 million in one-time merger related expenses.
following a negative provision of $7.2 million in
Asset quality continued to be outstanding, with our
2013. We are encouraged by the outlook for asset
ratio of non-performing loans to total assets at 1.09%
quality as measured by our very low delinquency
as of December 31, 2014.
rate of 0.08% for our 30- to 89-day past due loans
at year-end 2014.
RETURN
Return on Average Assets
STRENGTH
Non-Performing Assets
2.5%
2.0%
1.5%
1.0%
0.5%
0.0%
-0.5%
-1.0%
2010
2011
2012
2013
2014
$100M
$80M
$60M
$40M
$20M
$0M
Net Interest Margin
2010
2011
2012
2013
2014
4.0%
3.5%
3.0%
2.5%
2.0%
1.5%
1.0%
0.5%
0.0%
Non-Performing Assets (% of total assets)
6%
5%
4%
3%
2%
1%
0%
2010
2011
2012
2013
2014
2010
2011
2012
2013
2014
The year was rewarding for our shareholders as
As a result of our strong capital position, the Board
well. Cash dividends paid to our shareholders totaled
of Directors recently initiated a new program to
$2.48 per share, including the special $2.00 per
repurchase up to $20.0 million of the Company’s
share dividend declared and paid prior to the merger
common stock from time to time in open market
as part of the Firstbank merger agreement. Despite
transactions at prevailing market prices or by other
the increased dividends and the completion of the
means in accordance with federal securities laws.
merger, Mercantile Bank of Michigan remained
We believe the repurchase program will be an
“well-capitalized” with a total risk-based capital
additional benefit to our shareholders and will
ratio of 14.37% as of December 31, 2014, with
enhance shareholder value.
approximately $100 million in excess of the 10%
minimum regulatory threshold required to be
considered a “well-capitalized” institution.
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OUR PASSION
COMMUNITY
BANKING
In 2014, 29,688 volunteer
hours were reported.
That is 57 volunteer hours
per employee. In addition,
Mercantile employees hold
168 board positions in our
various communities. 29, 688
57 The strength of Mercantile resides in our talented, experienced and dedicated
team of employees. They performed at an outstanding level all year. The merger
integration was a challenging process, with numerous changes to procedures
and operating systems. Additionally, our workforce more than doubled, requiring
exceptional teamwork to ensure our customers continued to receive the fantastic
service they have come to expect, even during the system conversion process.
Our community involvement and philanthropic support of the
markets we serve were stronger than ever in 2014. Mercantile
employees contributed over 29,000 hours of volunteer service
to help make our communities better places to live and work.
Our employees were busy providing leadership, guidance and
manpower for many organizations throughout Western and Central
Michigan. Our Giving Together program, launched in 2013 via our
Facebook page to support local non-profit organizations, awarded
$5,000 each to:
• Alma Community Art Center (Alma)
• Arbor Circle (Grand Rapids)
• Conductive Learning Center (Grand Rapids)
• The Geek Group (Grand Rapids)
Each of our locations conducts monthly Jean Days, when employees
may wear jeans for a donation to selected organizations. During
the year, a total of $28,500 was generated through the program
and donated to numerous non-profits within our markets. In addition
to the amount raised by our employees, Mercantile Bank contributed
over $460,000 in community support during 2014.
29, 688 M
For the tenth consecutive year, we were named by the Michigan’s
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Business and Professional Association (MBPA) one of West Michigan’s
101 Best and Brightest Companies to Work For™.
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THE ROAD AHEAD
CONFIDENT
JOURNEY
Measured by total deposits,
Mercantile Bank of Michigan
is the fourth largest Michigan-
headquartered bank.
2015
4 Measured by total deposits, Mercantile is the fourth largest Michigan-headquartered
bank. Our size and scale allow us to provide cutting-edge products and services.
Our strong community banking culture values excellent relationships. We believe
we are well positioned to participate in the growing economic vitality of our
communities and plan to play a large role in strengthening all of our markets.
2015
We appreciate all of the incredible work put forth by
our associates this year. Additionally, the support and
confidence of our customers as well as the communities
we serve have been most gratifying. As a shareholder,
we want you to know that we deeply value your ongoing
trust in our Company and assure you that we are motivated
to extend our success into 2015 and beyond!
Michael H. Price
President & Chief Executive Officer
Thomas R. Sullivan
Chairman, Board of Directors
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BOARD OF DIRECTORS
STANDING, LEFT TO RIGHT
David M. Cassard
Retired Real Estate Executive
Edward B. Grant, CPA, PhD
General Manager of Public Broadcasting
Central Michigan University
Jeff A. Gardner, CPM
Owner, Gardner Group
Calvin D. Murdock
Retired Electronics Executive
SEATED, LEFT TO RIGHT
Michael H. Price
President & Chief Executive Officer
Thomas R. Sullivan
Chairman, Board of Directors
Mr. Calvin Murdock, who is a founding
organizer and Director of our Company,
will retire effective at our 2015 Annual
Meeting. We wish to thank Calvin for his
17 years of leadership and guidance. He is
a friend to many of us and made numerous
contributions to our success.
EXECUTIVE OFFICERS
LEFT TO RIGHT
Samuel G. Stone
Executive Vice President
Corporate Finance & Strategic Planning
Charles E. Christmas
Senior Vice President
Chief Financial Officer & Treasurer
Michael H. Price
President & Chief Executive Officer
Robert B. Kaminski, Jr.
Executive Vice President
Chief Operating Officer & Secretary
Thomas R. Sullivan
Chairman, Board of Directors
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_____________
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2014
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________________ to ____________________________
Commission file number 000-26719
MERCANTILE BANK CORPORATION
(Exact name of registrant as specified in its charter)
Michigan
(State or other jurisdiction of incorporation or organization)
38-3360865
(I.R.S. Employer Identification No.)
310 Leonard Street NW, Grand Rapids, Michigan
(Address of principal executive offices)
49504
(Zip Code)
(616) 406-3000
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Common Stock
Name of each exchange on which registered
The Nasdaq Stock Market LLC
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 No X
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 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 __
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
during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such
files). Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained
herein, and will not be contained, to the best of the 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. [ X ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated
filer, or a smaller reporting company (as defined in Rule 12b-2 of the Exchange Act).
Large accelerated filer ___
Non-accelerated filer ___
Accelerated filer X
Smaller reporting company
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes
No X
The aggregate value of the common equity held by non-affiliates (persons other than directors and executive
officers) of the registrant, computed by reference to the closing price of the common stock as of the last business day
of the registrant’s most recently completed second fiscal quarter, was approximately $377 million.
As of March 6, 2015, there were issued and outstanding 16,888,530 shares of the registrant’s common stock.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Company’s proxy statement for the Annual Meeting of Shareholders to be held May 28, 2015 are
incorporated by reference into Part III of this report.
PART I
Item 1. Business.
The Company
Mercantile Bank Corporation is a registered bank holding company under the Bank Holding Company
Act of 1956, as amended (the “Bank Holding Company Act”). Unless the text clearly suggests otherwise,
references to “us,” “we,” “our,” or “the company” include Mercantile Bank Corporation and its wholly-owned
subsidiaries. As a bank holding company, we are subject to regulation by the Board of Governors of the
Federal Reserve System (the “Federal Reserve Board”). We were organized on July 15, 1997, under the laws
of the State of Michigan, primarily for the purpose of holding all of the stock of Mercantile Bank of Michigan
(“our bank”), and of such other subsidiaries as we may acquire or establish. Our bank commenced business on
December 15, 1997. During the third quarter of 2013, we filed an election to become a financial holding
company, which election became effective April 14, 2014.
Mercantile Insurance Center, Inc. (“our insurance company”), a subsidiary of our bank, commenced
operations during 2002 to offer insurance products. Mercantile Bank Real Estate Co., L.L.C., (“our real estate
company”), a subsidiary of our bank, was organized on July 21, 2003, principally to develop, construct and
own our facility in downtown Grand Rapids which serves as our bank’s main office and Mercantile Bank
Corporation’s headquarters. Mercantile Bank Capital Trust I (“our trust”), a business trust subsidiary, was
formed in September 2004 to issue trust preferred securities.
Our expenses have generally been paid using cash dividends from our bank. Our principal source of
future operating funds is expected to be dividends from our bank.
Firstbank Corporation Merger
We completed our merger with Firstbank Corporation (“Firstbank”), a Michigan corporation with
approximately $1.5 billion in total assets and 46 branch locations, into Mercantile Bank Corporation as of June
1, 2014 (“Merger Date”). The merger was accounted for using the acquisition method of accounting, with
Mercantile treated as the acquirer for accounting purposes. The results of operations due to the Firstbank
transaction have been included in Mercantile’s financial results since the Merger Date. All of Firstbank’s
common stock was converted into the right to receive one share of Mercantile common stock for each share of
Firstbank common stock. The conversion of Firstbank’s common stock into Mercantile’s common stock
resulted in Mercantile issuing 8,087,272 shares of common stock. As of the Merger Date, former Firstbank
shareholders owned approximately 48% of the combined company. The merger substantially expanded our
geographic footprint and increased the size of our balance sheet.
In conjunction with the completion of the merger, Mercantile assumed the obligations of Firstbank
Capital Trust I, Firstbank Capital Trust II, Firstbank Capital Trust III and Firstbank Capital Trust IV, all of which
are business trust subsidiaries formed to issue trust preferred securities. At the Merger Date, Firstbank had two
Michigan-chartered bank subsidiaries that were consolidated into Mercantile Bank of Michigan effective June
30, 2014.
Our Board of Directors declared a special cash dividend on our common stock on May 9, 2014, in the
amount of $2.00 per share that was paid on May 29, 2014 to shareholders of record as of May 22, 2014. The
special cash dividend, in contemplation of the plan of merger with Firstbank, was paid to Mercantile
shareholders prior to the effective date of the merger with Firstbank and before the issuance of Mercantile
shares in exchange for Firstbank shares.
2.
Our Bank
Our bank is a state banking company that operates under the laws of the State of Michigan, pursuant to
a charter issued by the Michigan Office of Financial and Insurance Regulation. Our bank’s deposits are insured
to the maximum extent permitted by law by the Federal Deposit Insurance Corporation (“FDIC”). Our bank,
through its 53 office locations, provides commercial banking services primarily to small- to medium-sized
businesses and retail banking services in and around the West and Central portions of Michigan. Our bank’s
main office is located in Grand Rapids, with branch office locations in Alma, Ashley, Belding, Cadillac,
Canadian Lakes, Clare, Comstock Park, DeWitt, Fairview, Grand Rapids, Hale, Hastings, Higgins Lake,
Holland, Howard City, Ionia, Ithaca, Kalamazoo, Kentwood, Lakeview, Lansing, Lowell, Merrill, Mt. Pleasant,
Paw Paw, Portage, Remus, Rose City, Shepherd, St. Charles, St. Helen, St. Johns, St. Louis, Vestaburg, West
Branch, and Wyoming.
Our bank makes secured and unsecured commercial, construction, mortgage and consumer loans, and
accepts checking, savings and time deposits. Our bank owns 53 automated teller machines ("ATM") located at
certain of our office locations and at one off-site location that participate in the ACCEL/EXCHANGE and
PLUS regional network systems, as well as other ATM networks throughout the country. Our bank also
enables customers to conduct certain loan and deposit transactions by personal computer and through mobile
applications. Courier service is provided to certain commercial customers, and safe deposit facilities are
available at a vast majority of our office locations. Our bank does not have trust powers.
Our Insurance Company
Our insurance company acquired an existing shelf insurance agency effective April 15, 2002. An
Agency and Institution Agreement was entered into among our insurance company, our bank and Hub
International for the purpose of providing programs of mass marketed personal lines of insurance. Insurance
product offerings include private passenger automobile, homeowners, personal inland marine, boat owners,
recreational vehicle, dwelling fire, umbrella policies, small business and life insurance products, all of which
are provided by and written through companies that have appointed Hub International as their agent.
Our Real Estate Company
Our real estate company was organized on July 21, 2003, principally to develop, construct and own
our facility in downtown Grand Rapids that serves as our bank’s main office and Mercantile Bank
Corporation’s headquarters. This facility was placed into service during the second quarter of 2005. Our real
estate company is 99% owned by our bank and 1% owned by our insurance company.
Our Trusts
We have five business trusts that are wholly-owned subsidiaries of Mercantile, four of which were
assumed by Mercantile in conjunction with the merger with Firstbank. Each of the trusts was formed to issue
Preferred Securities that were sold in private sales, as well as selling Common Securities to Mercantile. The
proceeds from the Preferred and Common Securities sales were used by the trusts to purchase Floating Rate
Notes issued by Mercantile. The rates of interest, interest payment dates, call features and maturity dates of
each Floating Rate Note are identical to its respective Preferred Securities. The net proceeds from the issuance
of the Floating Rate Notes were used for a variety of purposes, including contributions to our bank as capital to
provide support for asset growth and the funding of stock repurchase programs and certain acquisitions.
The only significant assets of our trusts are the Floating Rate Notes, and the only significant liabilities
of our trusts are the Preferred Securities. The Floating Rate Notes are categorized on our Consolidated
Balance Sheets as subordinated debentures, and the interest expense is recorded on our Consolidated
Statements of Income under interest expense on other borrowings.
3.
Effect of Government Monetary Policies
Our earnings are affected by domestic economic conditions and the monetary and fiscal policies of the
United States Government, its agencies, and the Federal Reserve Board. The Federal Reserve Board’s
monetary policies have had, and will likely continue to have, an important impact on the operating results of
commercial banks through its power to implement national monetary policy in order to, among other things,
curb inflation, maintain or encourage employment, and mitigate economic recessions. The policies of the
Federal Reserve Board have a major effect upon the levels of bank loans, investments and deposits through its
open market operations in United States Government securities, and through its regulation of, among other
things, the discount rate on borrowings of member banks and the reserve requirements against member bank
deposits. Our bank maintains reserves directly with the Federal Reserve Bank of Chicago to the extent
required by law. It is not possible to predict the nature and impact of future changes in monetary and fiscal
policies.
Regulation and Supervision
As a registered bank holding company under the Bank Holding Company Act, we are required to file
an annual report with the Federal Reserve Board and such additional information as the Federal Reserve Board
may require. We are also subject to examination by the Federal Reserve Board.
The Bank Holding Company Act limits the activities of bank holding companies to banking and the
management of banking organizations, and to certain non-banking activities. The permitted non-banking
activities include those limited activities that the Federal Reserve Board found, by order or regulation as of the
day prior to enactment of the Gramm-Leach-Bliley Act, to be so closely related to banking as to be a proper
incident to banking. These permitted non-banking activities include, among other things: operating a mortgage
company, finance company, or factoring company; performing certain data processing operations; providing
certain investment and financial advice; acting as an insurance agent for certain types of credit-related
insurance; leasing property on a full-payout, nonoperating basis; and providing discount securities brokerage
services for customers. Neither we nor any of our subsidiaries engage in any of the non-banking activities
listed above.
On April 14, 2014, our election to become a financial holding company, as permitted by the Bank
Holding Company Act, as amended by Title I of the Gramm-Leach-Bliley Act, was accepted by the Federal
Reserve Board. In order to continue as a financial holding company, we and our bank must satisfy statutory
requirements regarding capitalization, management and compliance with the Community Reinvestment Act.
As a financial holding company, we are permitted to engage in a broader range of activities under the Bank
Holding Company Act than are permitted to bank holding companies. Those expanded activities include any
activity which the Federal Reserve Board (in certain instances in consultation with the Department of the
Treasury) determines, by order or by regulation, to be financial in nature or incidental to such financial
activity, or to be complementary to a financial activity, and not to pose a substantial risk to the safety and
soundness of depository institutions of the financial system generally. Such expanded activities include,
among others: insuring, guaranteeing, or indemnifying against loss, harm, damage, illness, disability or death,
or issuing annuities, and acting as principal, agent or broker for such purposes; providing financial, investment
or economic advisory services, including advising a mutual fund; and underwriting, dealing in, or making a
market in securities. While our insurance company is permitted to engage in the insurance agency activities
described above by virtue of our financial holding company status, neither we nor any of our subsidiaries
currently engage in the expanded activities.
Our bank is subject to restrictions imposed by federal law and regulation. Among other things, these
restrictions apply to any extension of credit to us or to our other subsidiaries, to securities borrowing or
lending, derivatives, and repurchase transactions with us or our other subsidiaries, to investments in stock or
other securities that we issue, to the taking of such stock or securities as collateral for loans to any borrower,
and to acquisitions of assets or services from, and sales of certain types of assets to, us or our other
subsidiaries. Federal law restricts our ability to borrow from our bank by limiting the aggregate amount we
may borrow and by requiring that all loans to us be secured in designated amounts by specified forms of
collateral.
4.
With respect to the acquisition of banking organizations, we are generally required to obtain the prior
approval of the Federal Reserve Board before we can acquire all or substantially all of the assets of any bank,
or acquire ownership or control of any voting shares of any bank or bank holding company, if, after the
acquisition, we would own or control more than 5% of the voting shares of the bank or bank holding company.
Acquisitions of banking organizations across state lines are subject to restrictions imposed by federal and state
laws and regulations.
The scope of existing regulation and supervision of various aspects of our business has expanded, and
continues to expand, as a result of the adoption in July, 2010 of the Dodd-Frank Wall Street Reform and
Consumer Protection Act (the “Dodd-Frank Act”), and of implementing regulations that are being adopted by
federal regulators. For additional information on this legislation and its potential impact, refer to the Risk
Factor entitled “The effect of financial services legislation and regulations remains uncertain” in Item 1A- Risk
Factors in this Annual Report.
Employees
As of December 31, 2014, we employed 550 full-time and 181 part-time persons. Management
believes that relations with employees are good.
Lending Policy
As a routine part of our business, we make loans to businesses and individuals located within our
market areas. Our lending policy states that the function of the lending operation is twofold: to provide a
means for the investment of funds at a profitable rate of return with an acceptable degree of risk, and to meet
the credit needs of the creditworthy businesses and individuals who are our customers. We recognize that in
the normal business of lending, some losses on loans will be inevitable and should be considered a part of the
normal cost of doing business.
Our lending policy anticipates that priorities in extending loans will be modified from time to time as
interest rates, market conditions and competitive factors change. The policy sets forth guidelines on a
nondiscriminatory basis for lending in accordance with applicable laws and regulations. The policy describes
various criteria for granting loans, including the ability to pay; the character of the customer; evidence of
financial responsibility; purpose of the loan; knowledge of collateral and its value; terms of repayment; source
of repayment; payment history; and economic conditions.
The lending policy further limits the amount of funds that may be loaned against specified types of
real estate collateral. For certain loans secured by real estate, the policy requires an appraisal of the property
offered as collateral by a state certified independent appraiser. The policy also provides general guidelines for
loan to value for other types of collateral, such as accounts receivable and machinery and equipment. In
addition, the policy provides general guidelines as to environmental analysis, loans to employees, executive
officers and directors, problem loan identification, maintenance of an allowance for loan losses, loan review
and grading, mortgage and consumer lending, and other matters relating to our lending practices.
The Board of Directors has delegated significant lending authority to officers of our bank. The Board
of Directors believes this empowerment, supported by our strong credit culture and the significant experience
of our commercial lending staff, enables us to be responsive to our customers. The loan policy specifies
lending authority for our lending officers with amounts based on the experience level and ability of each
lender. Our loan officers and loan managers are able to approve loans up to $1.0 million and $2.5 million,
respectively. We have established higher approval limits for our bank’s Senior Lender, President, and
Chairman of the Board and Chief Executive Officer, ranging from $4.0 million up to $10.0 million. These
lending authorities, however, are typically used only in rare circumstances where timing is of the essence.
Generally, loan requests exceeding $2.5 million require approval by the Officers Loan Committee, and loan
requests exceeding $7.5 million, up to the legal lending limit of approximately $80.2 million, require approval
by the Board of Directors. We apply an in-house lending limit that is significantly less than our bank’s legal
lending limit.
5.
Provisions of recent legislation, including the Dodd-Frank Act, when fully implemented by
regulations to be adopted by federal agencies, may have a significant impact on our lending policy, especially
in the areas of single-family residential real estate and other consumer lending. For additional information on
this legislation and its potential impact, refer to the Risk Factors entitled “The effect of financial services
legislation and regulations remains uncertain” and “Our single-family real estate lending business faces
significant change” in Item 1A- Risk Factors in this Annual Report.
Lending Activity
Commercial Loans. Our commercial lending group originates commercial loans primarily in our
market areas. Our commercial lenders have extensive commercial lending experience, with most having at
least ten years’ experience. Loans are originated for general business purposes, including working capital,
accounts receivable financing, machinery and equipment acquisition, and commercial real estate financing,
including new construction and land development.
Working capital loans are often structured as a line of credit and are reviewed periodically in
connection with the borrower’s year-end financial reporting. These loans are generally secured by
substantially all of the assets of the borrower and have a floating interest rate tied to the Mercantile Bank Prime
Rate, Wall Street Journal Prime Rate or 30-day Libor Rate. Loans for machinery and equipment purposes
typically have a maturity of three to five years and are fully amortizing, while commercial real estate loans are
usually written with a five-year maturity and amortize over a 10- to 20-year period. Commercial loans
typically have an interest rate that is fixed to maturity or is tied to the Wall Street Journal Prime Rate,
Mercantile Bank Prime Rate or 30-day Libor Rate.
We evaluate many aspects of a commercial loan transaction in order to minimize credit and interest
rate risk. Underwriting includes an assessment of the management, products, markets, cash flow, capital,
income and collateral of the borrowing entity. This analysis includes a review of the borrower’s historical and
projected financial results. Appraisals are generally required to be performed by certified independent
appraisers where real estate is the primary collateral, and in some cases, where equipment is the primary
collateral. In certain situations, for creditworthy customers, we may accept title reports instead of requiring
lenders’ policies of title insurance.
Commercial real estate lending involves more risk than residential lending because loan balances are
typically greater and repayment is dependent upon the borrower’s business operations. We attempt to
minimize the risks associated with these transactions by generally limiting our commercial real estate lending
to owner-operated properties and to owners of non-owner occupied properties who have an established
profitable history and satisfactory tenant structure. In many cases, risk is further reduced by requiring personal
guarantees, limiting the amount of credit to any one borrower to an amount considerably less than our legal
lending limit and avoiding certain types of commercial real estate financings.
We have no material foreign loans, and only limited exposure to companies engaged in energy
producing and agricultural-related activities.
Single-Family Residential Real Estate Loans. We originate single-family residential real estate loans
in our market areas, generally according to secondary market underwriting standards. Loans not conforming to
those standards are made in certain circumstances. Single-family residential real estate loans provide
borrowers with a fixed or adjustable interest rate with terms up to 30 years and are generally sold to certain
investors.
Our bank has a home equity line of credit program. Home equity lines of credit are generally secured
by either a first or second mortgage on the borrower’s primary residence. The program provides revolving
credit at a rate tied to the Wall Street Journal Prime Rate.
Consumer Loans. We originate consumer loans for a variety of personal financial needs, including
new and used automobiles, boats, credit cards and overdraft protection for our checking account customers.
Consumer loans generally have shorter terms and higher interest rates and usually involve more credit risk than
single-family residential real estate loans because of the type and nature of the collateral.
6.
We believe our consumer loans are underwritten carefully, with a strong emphasis on the amount of
the down payment, credit quality, employment stability and monthly income of the borrower. These loans are
generally repaid on a monthly repayment schedule with the source of repayment tied to the borrower’s periodic
income. In addition, consumer lending collections are dependent on the borrower’s continuing financial
stability, and are thus likely to be adversely affected by job loss, illness and personal bankruptcy. In many
cases, repossessed collateral for a defaulted consumer loan will not provide an adequate source of repayment of
the outstanding loan balance because of depreciation of the underlying collateral.
We believe that the generally higher yields earned on consumer loans compensate for the increased
credit risk associated with such loans, and that consumer loans are important to our efforts to serve the credit
needs of the communities and customers that we serve.
Loan Portfolio Quality
We utilize a comprehensive grading system for our commercial loans, whereby all commercial loans
are graded on a ten grade rating system. The rating system utilizes standardized grade paradigms that analyze
several critical factors such as cash flow, operating performance, financial condition, collateral, industry
condition and management. All commercial loans are graded at inception and reviewed at various intervals.
Our independent loan review program is primarily responsible for the administration of the grading
system and ensuring adherence to established lending policies and procedures. The loan review program is an
integral part of maintaining our strong asset quality culture. The loan review function works closely with
senior management, although it functionally reports to the Board of Directors. Using a risk-based approach to
selecting credits for review, our loan review program covers approximately 40% of total loans outstanding
each year. Our watch list credits are reviewed monthly by our Board of Directors and our Watch List
Committee, the latter of which is comprised of senior level officers from the administration, lending and loan
review functions.
Loans are placed in a nonaccrual status when, in our opinion, uncertainty exists as to the ultimate
collection of all principal and interest. As of December 31, 2014, loans placed in nonaccrual status totaled
$29.4 million, or 1.4% of total loans, compared to $6.7 million, or 0.6% of total loans, at December 31, 2013.
Loans past due 90 days or more and still accruing interest at year-end 2014 totaled less than $0.1 million, and
we had no such loans as of year-end 2013.
Additional detail and information relative to the loan portfolio is incorporated by reference to
Management’s Discussion and Analysis of Financial Condition and Results of Operations (“Management’s
Discussion and Analysis”) and Note 4 of the Notes to Consolidated Financial Statements in this Annual
Report.
Allowance for Loan Losses
In each accounting period, we adjust the allowance to the amount we believe is necessary to maintain
the allowance at an adequate level. Through the loan review and credit departments, we establish specific
portions of the allowance based on specifically identifiable problem loans. The evaluation of the allowance is
further based on, but not limited to, consideration of the internally prepared Allowance Analysis, loan loss
migration analysis, composition of the loan portfolio, third party analysis of the loan administration processes
and portfolio, and general economic conditions.
7.
The Allowance Analysis applies reserve allocation factors to non-impaired outstanding loan balances,
the result of which is combined with specific reserves to calculate an overall allowance dollar amount. For
non-impaired commercial loans, reserve allocation factors are based on the loan ratings as determined by our
standardized grade paradigms and by loan purpose. Our commercial loan portfolio is segregated into five
classes: 1) commercial and industrial loans; 2) vacant land, land development and residential construction
loans; 3) owner occupied real estate loans; 4) non-owner occupied real estate loans; and 5) multi-family and
residential rental property loans. The reserve allocation factors are primarily based on the historical trends of
net loan charge-offs through a migration analysis whereby net loan losses are tracked via assigned grades over
various time periods, with adjustments made for environmental factors reflecting the current status of, or recent
changes in, items such as: lending policies and procedures; economic conditions; nature and volume of the loan
portfolio; experience, ability and depth of management and lending staff; volume and severity of past due,
nonaccrual and adversely classified loans; effectiveness of the loan review program; value of underlying
collateral; lending concentrations; and other external factors, including competition and regulatory
environment. Adjustments for specific lending relationships, particularly impaired loans, are made on a case-
by-case basis. Non-impaired retail loan reserve allocations are determined in a similar fashion as those for
non-impaired commercial loans, except that retail loans are segmented by type of credit and not a grading
system. We regularly review the Allowance Analysis and make adjustments periodically based upon
identifiable trends and experience.
A migration analysis is completed quarterly to assist us in determining appropriate reserve allocation
factors for non-impaired commercial loans. Our migration takes into account various time periods, with most
weight placed on the twelve-quarter time frame. We believe the twelve-quarter period represents an
appropriate range of economic conditions, and that it provides for an appropriate basis in determining reserve
allocation factors given current economic conditions and the general market consensus of economic conditions
in the near future.
Although the migration analysis provides an accurate historical accounting of our net loan losses, it is
not able to fully account for environmental factors that will also very likely impact the collectability of our
commercial loans as of any quarter-end date. Therefore, we incorporate the environmental factors as
adjustments to the historical data. Environmental factors include both internal and external items. We believe
the most significant internal environmental factor is our credit culture and the relative aggressiveness in
assigning and revising commercial loan risk ratings, with the most significant external environmental factor
being the assessment of the current economic environment and the resulting implications on our commercial
loan portfolio.
The primary risk elements with respect to commercial loans are the financial condition of the
borrower, the sufficiency of collateral, and timeliness of scheduled payments. We have a policy of requesting
and reviewing periodic financial statements from commercial loan customers, and we have a disciplined and
formalized review of the existence of collateral and its value. The primary risk element with respect to each
residential real estate loan and consumer loan is the timeliness of scheduled payments. We have a reporting
system that monitors past due loans and have adopted policies to pursue creditor’s rights in order to preserve
our collateral position.
Additional detail regarding the allowance is incorporated by reference to Management’s Discussion
and Analysis and Note 4 of the Notes to Consolidated Financial Statements included in this Annual Report.
Investments
Bank Holding Company Investments. The principal investments of our bank holding company are the
investments in the common stock of our bank and the common securities of our trusts. Other funds of our bank
holding company may be invested from time to time in various debt instruments.
8.
Subject to the limitations of the Bank Holding Company Act and the “Volcker Rule”, we are also
permitted to make portfolio investments in equity securities and to make equity investments in subsidiaries
engaged in a variety of non-banking activities, which include real estate-related activities such as community
development, real estate appraisals, arranging equity financing for commercial real estate, and owning and
operating real estate used substantially by our bank or acquired for its future use. Our bank holding company
has no plans at this time to make directly any of these equity investments at the bank holding company level.
Our Board of Directors may, however, alter the investment policy at any time without shareholder approval.
Our Bank’s Investments. Our bank may invest its funds in a wide variety of debt instruments and may
participate in the federal funds market with other depository institutions. Subject to certain exceptions, our
bank is prohibited from investing in equity securities. Among the equity investments permitted for our bank
under various conditions and subject in some instances to amount limitations, are shares of a subsidiary
insurance agency, mortgage company, real estate company, or Michigan business and industrial development
company, such as our insurance company and our real estate company. Under another such exception, in
certain circumstances and with prior notice to or approval of the FDIC, our bank could invest up to 10% of its
total assets in the equity securities of a subsidiary corporation engaged in the acquisition and development of
real property for sale, or the improvement of real property by construction or rehabilitation of residential or
commercial units for sale or lease. Our bank has no present plans to make such an investment. Real estate
acquired by our bank in satisfaction of or foreclosure upon loans may be held by our bank for specified
periods. Our bank is also permitted to invest in such real estate as is necessary for the convenient transaction
of its business. Our bank’s Board of Directors may alter the bank’s investment policy without shareholder
approval at any time.
Additional detail and information relative to the securities portfolio is incorporated by reference to
Management’s Discussion and Analysis and Note 3 of the Notes to Consolidated Financial Statements
included in this Annual Report.
Competition
We face substantial competition in all phases of our operations from a variety of different
competitors. We compete for deposits, loans and other financial services with numerous Michigan-based and
national and regional banks, savings banks, thrifts, credit unions and other financial institutions as well as from
other entities that provide financial services. Some of the financial institutions and financial service
organizations with which we compete are not subject to the same degree of regulation as we are. Many of our
primary competitors have been in business for many years, have established customer bases, are larger, have
substantially higher lending limits than we do, and offer larger branch networks and other services which we
do not. Most of these same entities have greater capital resources than we do, which, among other things, may
allow them to price their services at levels more favorable to the customer and to provide larger credit facilities
than we do. Under specified circumstances (that have been modified by the Dodd-Frank Act), securities firms
and insurance companies that elect to become financial holding companies under the Bank Holding Company
Act may acquire banks and other financial institutions. Federal banking law affects the competitive
environment in which we conduct our business. The financial services industry is also likely to become more
competitive as further technological advances enable more companies to provide financial services.
Selected Statistical Information
Management’s Discussion and Analysis beginning on Page F-4 in this Annual Report includes
selected statistical information.
Return on Equity and Assets
Return on Equity and Asset information is included in Management’s Discussion and Analysis
beginning on Page F-4 in this Annual Report.
9.
Available Information
We maintain an internet website at www.mercbank.com. We make available on or through our
website, free of charge, our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on
Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the
Securities Exchange Act of 1934 as soon as reasonably practical after we electronically file such material with,
or furnish it to, the Securities and Exchange Commission. We do not intend the address of our website to be an
active link or to otherwise incorporate the contents of our website into this Annual Report.
Item 1A. Risk Factors.
The following risk factors could affect our business, financial condition or results of operations.
These risk factors should be considered in connection with evaluating the forward-looking statements
contained in this Annual Report because they could cause the actual results and conditions to differ materially
from those projected in forward-looking statements. Before you buy our common stock, you should know that
investing in our common stock involves risks, including the risks described below. The risks that are
highlighted here are not the only ones we face. If the adverse matters referred to in any of the risks actually
occur, our business, financial condition or operations could be adversely affected. In that case, the trading
price of our common stock could decline, and you may lose all or part of your investment.
Adverse changes in economic conditions or interest rates may negatively affect our earnings, capital and
liquidity.
The results of operations for financial institutions, including our bank, may be materially and
adversely affected by changes in prevailing local and national economic conditions, including declines in real
estate market values and the related declines in value of our real estate collateral, rapid increases or decreases
in interest rates and changes in the monetary and fiscal policies of the federal government. Our profitability is
heavily influenced by the spread between the interest rates we earn on loans and investments and the interest
rates we pay on deposits and other interest-bearing liabilities. Substantially all of our loans are to businesses
and individuals in Western or Central Michigan, and any decline in the economy of these areas could adversely
affect us. Like most banking institutions, our net interest spread and margin will be affected by general
economic conditions and other factors that influence market interest rates and our ability to respond to changes
in these rates. At any given time, our assets and liabilities may be such that they will be affected differently by
a given change in interest rates.
Significant declines in the value of commercial real estate could adversely impact us.
Many of our loans relate to commercial real estate. Stressed economic conditions may reduce the
value of commercial real estate and strain the financial condition of our commercial real estate borrowers,
especially in the land development and non-owner occupied commercial real estate segments of our loan
portfolio. Those difficulties could adversely affect us and could produce losses and other adverse effects on
our business.
Market volatility may adversely affect us.
The capital and credit markets may experience volatility and disruption. In some cases, the markets
have produced downward pressure on stock prices and credit availability for certain issuers without apparent
regard to those issuers’ underlying financial strength. Future levels of market disruption and volatility may
have an adverse effect, which may be material, on our ability to access capital and on our business, financial
condition and results of operations.
10.
Our future success is dependent on our ability to compete effectively in the highly competitive banking
industry.
We face substantial competition in all phases of our operations from a variety of different
competitors. Our future growth and success will depend on our ability to compete effectively in this highly
competitive environment. We compete for deposits, loans and other financial services with numerous
Michigan-based and national and regional banks, thrifts, credit unions and other financial institutions as well as
other entities that provide financial services, including securities firms and mutual funds. Some of the
financial institutions and financial service organizations with which we compete are not subject to the same
degree of regulation as we are. Most of our competitors have been in business for many years, have
established customer bases, are larger, have substantially higher lending limits than we do and offer branch
networks and other services which we do not, including trust and international banking services. Most of these
entities have greater capital and other resources than we do, which, among other things, may allow them to
price their services at levels more favorable to the customer and to provide larger credit facilities than we do.
This competition may limit our growth or earnings. Under specified circumstances (that have been modified
by the Dodd-Frank Act), securities firms and insurance companies that elect to become financial holding
companies under the Bank Holding Company Act may acquire banks and other financial institutions. Federal
banking law affects the competitive environment in which we conduct our business. The financial services
industry is also likely to become more competitive as further technological advances enable more companies to
provide financial services. These technological advances may diminish the importance of depository
institutions and other financial intermediaries in the transfer of funds between parties.
Our risk management systems may fall short of their intended objectives.
We seek to monitor and control our risk exposure through a risk and control framework encompassing
a variety of separate but complementary financial, credit, operational, compliance and legal reporting systems,
internal controls, management review processes and other mechanisms. Our risk management process seeks to
balance our ability to profit from investing or lending positions with our exposure to potential losses. While
we employ a broad and diversified set of risk monitoring and risk mitigation techniques, those techniques and
the judgments that accompany their application cannot anticipate every economic and financial outcome or the
specifics and timing of such outcomes. Thus, we may, in the course of our activities, incur losses.
We may not be able to successfully adapt to evolving industry standards and market pressures.
Our success depends, in part, on the ability to adapt products and services to evolving industry
standards. There is increasing pressure to provide products and services at lower prices. This can reduce net
interest income and noninterest income from fee-based products and services. In addition, the widespread
adoption of new technologies could require us to make substantial capital expenditures to modify or adapt
existing products and services or develop new products and services. We may not be successful in introducing
new products and services in response to industry trends or developments in technology, or those new products
may not achieve market acceptance. As a result, we could lose business, be forced to price products and
services on less advantageous terms to retain or attract clients, or be subject to cost increases. As a result, our
business, financial condition, or results of operations may be adversely affected.
11.
Our inability to integrate potential future acquisitions successfully could impede us from realizing all of
the benefits of the acquisitions, which could weaken our operations.
If we are unable to successfully integrate potential future acquisitions, we could be impeded from
realizing all of the benefits of those acquisitions and could weaken our business operations. The integration
process may disrupt our business and, if implemented ineffectively, may preclude realization of the full
benefits expected by us and could harm our results of operations. In addition, the overall integration of the
combining companies may result in unanticipated problems, expenses, liabilities and competitive responses,
and may cause our stock price to decline. The difficulties of integrating an acquisition include, among others:
° unanticipated issues in integration of information, communications and other systems;
° unanticipated incompatibility of logistics, marketing and administration methods;
° maintaining employee morale and retaining key employees;
° integrating the business cultures of both companies;
° preserving important strategic client relationships;
° coordinating geographically diverse organizations; and
° consolidating corporate and administrative infrastructures and eliminating duplicative operations.
Finally, even if the operations of an acquisition are integrated successfully, we may not realize the full
benefits of the acquisition, including the synergies, cost savings or growth opportunities we expect. These
benefits may not be achieved within the anticipated time frame as well.
The soundness of other financial institutions could adversely affect us.
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, counterparty or other relationships. We have exposure to many different industries and
counterparties, and we routinely execute transactions with counterparties in the financial industry. As a result,
defaults by, or even rumors or questions about, one or more financial services institutions, or the financial
services industry generally, have led to market-wide liquidity problems and could lead to losses or defaults by
us or by other institutions. Even routine funding 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 financial
instrument exposure due us. There is no assurance that any such losses would not materially and adversely
affect our results of operations.
The timing and effect of Federal Reserve Board policy normalization remains uncertain.
In response to the turmoil in the financial services sector and the severe recession in the broader
economy that began in 2008, the Federal Reserve Board eased short-term interest rates and implemented a
series of emergency programs to furnish liquidity to the financial markets and credit to various participants in
those markets, as well as programs of quantitative easing through direct open market purchases of certain
Treasury and other securities. In December, 2013, the Federal Reserve Board began a phased reduction in the
amount of such securities purchases, and ceased such purchases by the end of October, 2014. In September,
2014, the Federal Reserve Board announced principles it would follow to implement monetary policy
normalization, that is, to raise the Federal funds rate and other short-term interest rates to more normal levels
and to reduce the Federal Reserve’s securities holdings, so as to promote its statutory mandate of maximum
employment and price stability. There can be no assurance as to the actual impact of those policies on the
financial markets, the broader economy, or on our business, financial condition, results of operations, access to
credit or the trading price of our common stock.
12.
The effect of financial services legislation and regulations remains uncertain.
In response to the financial crisis, on July 21, 2010, President Obama signed the Dodd-Frank Act, the
most comprehensive reform of the regulation of the financial services industry since the Great Depression of
the 1930’s. Among many other things, the Dodd-Frank Act provides for increased supervision of financial
institutions by regulatory agencies, more stringent capital requirements for financial institutions, major changes
to deposit insurance assessments by the FDIC, prohibitions on proprietary trading and sponsorship or
investment in hedge funds and private equity funds by insured depository institutions, holding companies, and
their affiliates, heightened regulation of hedging and derivatives activities, a greater focus on consumer
protection issues, in part through the formation of a new Consumer Financial Protection Bureau (“CFPB”)
having powers formerly split among different regulatory agencies, extensive changes to the regulation of
residential mortgage lending, imposition of limits on interchange transaction and network fees for electronic
debit transactions and repeal of the prohibition on payment of interest on demand deposits. Many of the Dodd-
Frank Act’s provisions have delayed effective dates, while other provisions require implementing regulations
of various federal agencies, some of which have not yet been adopted in final form. There can be no assurance
that the Dodd-Frank Act and its implementing regulations will not limit our ability to pursue business
opportunities, impose additional costs on us, impact our revenues or the value of our assets, or otherwise
adversely affect our business.
Our credit losses could increase and our allowance may not be adequate to cover actual loan losses.
The risk of nonpayment of loans is inherent in all lending activities, and nonpayment, when it occurs,
may have a materially adverse effect on our earnings and overall financial condition as well as the value of our
common stock. Our focus on commercial lending may result in a larger concentration of loans to small
businesses. As a result, we may assume different or greater lending risks than other banks. We make various
assumptions and judgments about the collectability of our loan portfolio and provide an allowance for losses
based on several factors. If our assumptions are wrong, our allowance may not be sufficient to cover our
losses, which would have an adverse effect on our operating results. The actual amounts of future provisions
for loan losses cannot be determined at this time and may exceed the amounts of past provisions. Additions to
our allowance decrease our net income.
We rely heavily on our management and other key personnel, and the loss of any of them may adversely
affect our operations.
We are and will continue to be dependent upon the services of our management team, including our
executive officers and our other senior managers. The unanticipated loss of our executive officers, or any of
our other senior managers, could have an adverse effect on our growth and performance.
In addition, we continue to depend on our key commercial loan officers. Several of our commercial
loan officers are responsible, or share responsibility, for generating and managing a significant portion of our
commercial loan portfolio. Our success can be attributed in large part to the relationships these officers as well
as members of our management team have developed and are able to maintain with our customers as we
continue to implement our community banking philosophy. The loss of any of these commercial loan officers
could adversely affect our loan portfolio and performance, and our ability to generate new loans. Many of our
key employees have signed agreements with us agreeing not to compete with us in one or more of our markets
for specified time periods if they leave employment with us. However, we may not be able to effectively
enforce such agreements.
Some of the other financial institutions in our markets also require their key employees to sign
agreements that preclude or limit their ability to leave their employment and compete with them or solicit their
customers. These agreements make it more difficult for us to hire loan officers with experience in our markets
who can immediately solicit their former or new customers on our behalf.
13.
Future sales of our common stock or other securities may dilute the value of our common stock.
In many situations, our Board of Directors has the authority, without any vote of our shareholders, to
issue shares of our authorized but unissued preferred or common stock, including shares authorized and
unissued under our Stock Incentive Plan of 2006. In the future, we may issue additional securities, through
public or private offerings, in order to raise additional capital. Any such issuance would dilute the percentage
of ownership interest of existing shareholders and may dilute the per share book value of the common stock.
In addition, option holders under our stock-based incentive plans may exercise their options at a time when we
would otherwise be able to obtain additional equity capital on more favorable terms.
We are subject to significant government regulation, and any regulatory changes may adversely affect
us.
The banking industry is heavily regulated under both federal and state law. These regulations are
primarily intended to protect customers, the federal deposit insurance fund, and the stability of the U.S.
financial system, not our creditors or shareholders. Existing state and federal banking laws subject us to
substantial limitations with respect to the making of loans, the purchase of securities, the payment of dividends
and many other aspects of our business. Some of these laws may benefit us, others may increase our costs of
doing business, or otherwise adversely affect us and create competitive advantages for others. Regulations
affecting banks and financial services companies undergo continuous change, and we cannot predict the
ultimate effect of these changes, which could have a material adverse effect on our profitability or financial
condition. Federal economic and monetary policy may also affect our ability to attract deposits, make loans
and achieve satisfactory interest spreads.
Our single-family real estate lending business faces significant change.
The Dodd-Frank Act significantly changed the regulation of single-family residential mortgage
lending in the United States. Among other things, the law transferred rule-making and enforcement powers
from a number of federal agencies to the CFPB, imposed new risk retention and recordkeeping requirements
on lenders (such as our bank) that sell single-family residential mortgage loans in the secondary market,
required revision of disclosure documents mandated by various federal laws, limited loan originator
compensation and expanded recordkeeping and reporting requirements under other federal statutes.
Regulations implementing the Dodd-Frank Act adopted in 2013 by the CFPB (i) require lenders to make a
reasonable good faith determination of a prospective residential mortgage borrower’s ability to repay based on
specific underwriting criteria and define the characteristics of “qualified mortgages” that presumptively satisfy
the ability to pay requirement, (ii) impose new requirements on mortgage servicing that address many issues,
including periodic billing statements, error resolution, force-placed insurance, payment crediting and payoff,
early intervention with delinquent borrowers, and enhanced loss mitigation procedures, (iii) specify new
limitations on loan originator compensation, (iv) further restrict certain high-cost mortgage loans, (v) expand
mandated loan escrow accounts for certain loans, (vi) revise existing appraisal requirements under the Equal
Credit Opportunity Act and require provision of a free copy of all appraisals to applicants for first lien loans,
and (vii) combine in a single, new form required loan disclosures under the Truth-in-Lending Act (“TILA”)
and the Real Estate Settlement Procedures Act (“RESPA”). Apart from use of the TILA/RESPA combined
disclosure form (which becomes effective August 1, 2015), the effective dates of these changes are in 2014.
These and other changes required by the Dodd-Frank Act will require substantial modifications to the entire
mortgage lending and servicing industry. Their impact may involve changes to our operations and increased
compliance costs in making single-family residential mortgage loans.
14.
Minimum capital requirements are scheduled to increase.
The provisions of the Dodd-Frank Act relating to capital to be maintained by financial institutions
approach convergence with the standards (generally known as Basel III) adopted in December, 2010 by the
Group of Governors and Heads of Supervision, the oversight body of the Basel Committee on Banking
Supervision. Among other things, those standards contain a narrower definition of elements qualifying for
inclusion as Tier 1 capital and higher minimum risk-based capital levels than those specified in previous U.S.
law and regulations. In July, 2013, the U.S. federal bank regulatory agencies adopted regulations to implement
the provisions of the Dodd-Frank Act and Basel III for U.S. financial institutions. The new regulations became
applicable to us and our bank effective January 1, 2015.
The new regulations implement (i) revised definitions of regulatory capital elements, (ii) a new
common equity Tier 1 (“CET 1”) minimum capital ratio requirement, (iii) an increase in the existing minimum
Tier 1 capital ratio requirement, (iv) new limits on capital distributions and certain discretionary bonus
payments if an institution does not hold a specified amount of CET 1 (called a capital conservation buffer) in
addition to the amount required to meet its minimum risk-based capital requirements, (v) new risk-weightings
for certain categories of assets, and (vi) other requirements applicable to banking organizations which have
total consolidated assets of $250 billion or more, total consolidated on-balance sheet foreign exposure of $10
billion or more, elect to use the advanced measurement approach for calculating risk-weighted assets, or are
subsidiaries of banking organizations that use the advanced measurement approach (“Advanced Approaches
Entities”).
Among other things, the new regulations generally require banking organizations to recognize in
regulatory capital most components of accumulated other comprehensive income (“AOCI”), including
accumulated unrealized gains and losses on available for sale securities. This requirement, which was not
imposed under previous risk-based capital regulations, may be avoided by banking organizations, such as us
and our bank, that are not Advanced Approaches Entities, by making a one-time, irrevocable election on the
first quarterly regulatory report following the date on which the regulations become effective as to them. We
intend to make the one-time, irrevocable election regarding the treatment of AOCI by March 31, 2015.
In addition, the new regulations (unlike the original proposal), permit companies such as us, which
had total assets of less than $15 billion on December 31, 2009, and had issued trust preferred securities on or
prior to May 19, 2010, to continue to include such securities in Tier 1 capital.
On January 1, 2015, for banking organizations such as us and our bank that are not Advanced
Approaches Entities, the new regulations mandate a minimum ratio of CET 1 to standardized total risk-
weighted assets (“RWA”) of 4.5%, an increased ratio of Tier 1 capital to RWA of 6.0% (compared to the
current requirement of 4.0%), a total capital ratio (that is, the sum of Tier 1 and Tier 2 capital to RWA) of
8.0%, and a minimum leverage ratio (that is, Tier 1 capital to adjusted average total consolidated assets) of
4.0%. The calculation of these amounts will be affected by the new definitions of certain capital elements.
The capital conservation buffer comprised solely of CET 1 will be phased-in commencing January 1, 2016,
beginning at 0.625% of RWA and rising to 2.5% of RWA on January 1, 2019. Failure by a banking
organization to maintain the aggregate required minimum capital ratios and capital conservation buffer will
impair its ability to make certain distributions (including dividends and stock repurchases) and discretionary
bonus payments to executive officers.
These increased minimum capital requirements may adversely affect our ability (and that of our
bank) to pay cash dividends, reduce our profitability, or otherwise adversely affect our business, financial
condition or results of operations. In the event of a need for additional capital to meet these requirements,
there can be no assurance of our ability to raise funding in the equity and capital markets. Factors that we
cannot control, such as the disruption of financial markets or negative views of the financial services industry
generally, could impair our ability to raise qualifying equity capital. In addition, our ability to raise qualifying
equity capital could be impaired if investors develop a negative perception of our financial prospects. If we
were unable to raise qualifying equity capital, it might be necessary for us to sell assets in order to maintain
required capital ratios. We may be unable to sell some of our assets, or we may have to sell assets at a discount
from market value, either of which could adversely affect our results of operations, cash flow and financial
condition.
15.
We may need to raise additional capital in the future, and such capital may not be available when
needed or at all.
We may need or want to raise additional capital in the future to provide us with sufficient capital
resources and liquidity to meet our commitments and business needs, particularly if our asset quality or
earnings were to deteriorate significantly. Our ability to raise additional capital will depend on, among other
things, conditions in the capital markets at that time, which are outside of our control, and our financial
performance. Economic conditions and any loss of confidence in financial institutions generally may increase
our cost of funding and limit access to certain customary sources of capital.
There can be no assurance that capital will be available on acceptable terms or at all. Any occurrence
that may limit our access to the capital markets, such as a decline in the confidence of equity or debt
purchasers, or counterparties participating in the capital markets, may adversely affect our capital costs and our
ability to raise capital and, potentially, our liquidity. Also, if we need to raise capital in the future, we may
have to do so when many other financial institutions are also seeking to raise capital and would have to
compete with those institutions for investors. An inability to raise additional capital on acceptable terms when
needed could have a materially adverse effect on our business, financial condition and results of operations.
We continually encounter technological change, and we may have fewer resources than our competitors
to continue to invest in technological improvements.
The banking industry is undergoing technological changes with frequent introductions of new
technology-driven products and services. In addition to better serving customers, the effective use of
technology increases efficiency and enables financial institutions to reduce costs. Our future success will
depend, in part, on our ability to address the needs of our customers by using technology to provide products
and services that will satisfy customer demands for convenience as well as create additional efficiencies in our
operations. Many of our competitors have substantially greater resources to invest in technological
improvements than we do. There can be no assurance that we will be able to effectively implement new
technology-driven products and services or be successful in marketing these products and services to our
customers.
Our Articles of Incorporation and By-laws and the laws of the State of Michigan contain provisions that
may discourage or prevent a takeover of our company and reduce any takeover premium.
Our Articles of Incorporation and By-laws, and the corporate laws of the State of Michigan, include
provisions which are designed to provide our Board of Directors with time to consider whether a hostile
takeover offer is in our and our shareholders’ best interest. These provisions, however, could discourage
potential acquisition proposals and could delay or prevent a change in control. The provisions also could
diminish the opportunities for a holder of our common stock to participate in tender offers, including tender
offers at a price above the then-current market price for our common stock. These provisions could also
prevent transactions in which our shareholders might otherwise receive a premium for their shares over then-
current market prices, and may limit the ability of our shareholders to approve transactions that they may deem
to be in their best interest.
The Michigan Business Corporation Act contains provisions intended to protect shareholders and
prohibit or discourage various types of hostile takeover activities. In addition to these provisions and the
provisions of our Articles of Incorporation and By-laws, federal law requires the Federal Reserve Board’s
approval prior to acquiring “control” of a bank holding company. All of these provisions may delay or prevent
a change in control without action by our shareholders and could adversely affect the price of our common
stock.
There is a limited trading market for our common stock.
The price of our common stock has been, and will likely continue to be, subject to fluctuations based
on, among other things, economic and market conditions for bank holding companies and the stock market in
general, as well as changes in investor perceptions of our company. The issuance of new shares of our common
stock also may affect the market for our common stock.
16.
Our common stock is traded on the Nasdaq Global Select Market under the symbol “MBWM.” The
development and maintenance of an active public trading market depends upon the existence of willing buyers
and sellers, the presence of which is beyond our control. While we are a publicly-traded company, the volume
of trading activity in our stock is still relatively limited. Even if a more active market develops, there can be no
assurance that such a market will continue, or that our shareholders will be able to sell their shares at or above
the offering price.
Our business is subject to operational risks.
We, like most financial institutions, are exposed to many types of operational risks, including the risk
of fraud by employees or outsiders, unauthorized transactions by employees or operational errors. Operational
errors may include clerical or record keeping errors or those resulting from faulty or disabled computer or
telecommunications systems. Given our volume of transactions, certain errors may be repeated or
compounded before they are discovered and successfully corrected. Our necessary dependence upon
automated systems to record and process our transaction volume may further increase the risk that technical
system flaws or employee tampering or manipulation of those systems will result in losses that are difficult to
detect.
We may also be subject to disruptions of our operating systems arising from events that are wholly or
partially beyond our control, including, for example, computer viruses or electrical or telecommunications
outages, which may give rise to losses in service to customers and to loss or liability to us. We are further
exposed to the risk that our external vendors may be unable to fulfill their contractual obligations to us, or will
be subject to the same risk of fraud or operational errors by their respective employees as are we, and to the
risk that our or our vendors’ business continuity and data security systems prove not to be adequate. We also
face the risk that the design of our controls and procedures proves inadequate or is circumvented, causing
delays in detection or errors in information. Although we maintain a system of controls designed to keep
operational risks at appropriate levels, there can be no assurance that we will not suffer losses from operational
risks in the future that may be material in amount.
We face the risk of cyber-attack to our computer systems.
Our computer systems, software and networks have been and will continue to be vulnerable to
unauthorized access, loss or destruction of data (including confidential client information), account takeovers,
unavailability of service, computer viruses or other malicious code, cyber-attacks and other events. These
threats may derive from human error, fraud or malice on the part of employees or third parties, or may result
from accidental technological failure. If one or more of these events occurs, it could result in the disclosure of
confidential client information, damage to our reputation with our clients and the market, additional costs to us
(such as repairing systems or adding new personnel or protection technologies), regulatory penalties and
financial losses, to both us and our clients and customers. Such events could also cause interruptions or
malfunctions in our operations (such as the lack of availability of our online banking system), as well as the
operations of our clients, customers or other third parties. Although we maintain safeguards to protect against
these risks, there can be no assurance that we will not suffer losses in the future that may be material in
amount.
Damage to our reputation could materially harm our business.
Our relationship with many of our clients is predicated upon our reputation as a fiduciary and a
service provider that adheres to the highest standards of ethics, service quality and regulatory compliance.
Adverse publicity, regulatory actions, litigation, operational failures, the failure to meet client expectations and
other issues with respect to one or more of our businesses could materially and adversely affect our reputation,
our ability to attract and retain clients or our sources of funding for the same or other businesses. Preserving
and enhancing our reputation also depends on maintaining systems and procedures that address known risks
and regulatory requirements, as well as our ability to identify and mitigate additional risks that arise due to
changes in our businesses and the marketplaces in which we operate, the regulatory environment and client
expectations. If any of these developments has a material effect on our reputation, our business will suffer.
17.
Item 1B. Unresolved Staff Comments
We have received no written comments regarding our periodic or current reports from the staff of the
Securities and Exchange Commission that were issued 180 days or more before the end of our 2014 fiscal year
and that remain unresolved.
Item 2.
Properties.
Our headquarters is located in our bank’s main office facility in Grand Rapids, Michigan. Our bank
operates 53 banking offices throughout Western and Central Michigan, most of which are full-service
facilities. We have larger banking facilities in Alma, Holland, Ionia, Kalamazoo, Lansing, Mt. Pleasant and
West Branch. The remaining banking offices generally range in size from 1,200 to 3,200 square feet, based on
the location and number of employees located at the facility. All but six of the banking offices are owned by
our bank, with the remaining facilities rented under various operating lease agreements. In several instances,
the banking offices contain more usable space than what is needed for current banking operations. This excess
space, totaling approximately 23,500 square feet, is generally leased to unrelated businesses. In addition,
certain functions operate out of our standalone facility located in Alma.
We consider our properties and equipment to be well maintained, in good operating condition and
capable of accommodating current growth forecasts. However, we may choose to add additional branch
locations to expand our presence in current markets and/or in new markets or, alternatively, to consolidate,
close or relocate branches if we believe it would be beneficial to our overall performance.
Item 3. Legal Proceedings.
From time to time, we may be involved in various legal proceedings that are incidental to our
business. In the opinion of management, we are not a party to any legal proceedings that are material to our
financial condition, either individually or in the aggregate.
Item 4. Mine Safety Disclosures.
Not applicable.
PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases
of Equity Securities.
Our common stock is traded on the Nasdaq Global Select Market under the symbol “MBWM.” At
March 6, 2015, there were 1,663 record holders of our common stock. In addition, we estimate that there were
approximately 7,000 beneficial owners of our common stock who own their shares through brokers or banks.
The following table shows the high and low sales prices for our common stock as reported by the Nasdaq
Global Select Market for the periods indicated and the quarterly and special cash dividends paid by us during
those periods.
18.
High
Low Dividend
2014
First Quarter .............................................
Second Quarter ........................................ 24.34 18.26
Third Quarter ........................................... 23.58 18.40
Fourth Quarter ......................................... 22.27 18.69
$ 22.15
$ 18.82
$ 0.12
2.12
0.12
0.12
2013
First Quarter .............................................
Second Quarter ........................................ 18.00 16.50
Third Quarter ........................................... 22.41 17.87
Fourth Quarter ......................................... 22.52 19.95
$ 17.29
$ 16.03
$ 0.10
0.11
0.12
0.12
Holders of our common stock are entitled to receive dividends that the Board of Directors may
declare from time to time. We may only pay dividends out of funds that are legally available for that purpose.
We are a financial holding company and substantially all of our assets are held by our bank and its subsidiaries.
Our ability to pay dividends to our shareholders depends primarily on our bank’s ability to pay dividends to us.
Dividend payments and extensions of credit to us from our bank are subject to legal and regulatory limitations,
generally based on capital levels and current and retained earnings, imposed by law and regulatory agencies
with authority over our bank. The ability of our bank to pay dividends is also subject to its profitability,
financial condition, capital expenditures and other cash flow requirements. In addition, under the terms of our
subordinated debentures, we would be precluded from paying dividends on our common stock if an event of
default has occurred and is continuing under the subordinated debentures, or if we exercised our right to defer
payments of interest on the subordinated debentures, until the deferral ended.
We and our bank are subject to regulatory capital requirements administered by state and federal
banking agencies. Failure to meet the various capital requirements can initiate regulatory action that could
have a direct material effect on our financial statements. Our bank’s ability to pay cash and stock dividends is
subject to limitations under various laws and regulations and to prudent and sound banking practices.
On January 16, 2014, our Board of Directors declared a cash dividend on our common stock in the
amount of $0.12 per share that was paid on March 10, 2014 to shareholders of record as of February 10, 2014.
On May 9, 2014, our Board of Directors declared a cash dividend on our common stock in the amount of $0.12
per share that was paid on June 25, 2014 to shareholders of record as of June 13, 2014. On July 17, 2014, our
Board of Directors declared a cash dividend on our common stock in the amount of $0.12 per share that was
paid on September 24, 2014 to shareholders of record as of September 12, 2014. On October 16, 2014, our
Board of Directors declared a cash dividend on our common stock in the amount of $0.12 per share that was
paid on December 24, 2014 to shareholders of record as of December 12, 2014. In addition, on May 9, 2014,
our Board of Directors declared a special cash dividend on our common stock in the amount of $2.00 per share
that was paid on May 29, 2014 to shareholders of record as of May 22, 2014. The special cash dividend, in
contemplation of the plan of merger with Firstbank, was paid to Mercantile shareholders prior to the effective
date of the merger with Firstbank and before the issuance of Mercantile shares in exchange for Firstbank
shares.
On January 10, 2013, our Board of Directors declared a cash dividend on our common stock in the
amount of $0.10 per share that was paid on March 8, 2013 to shareholders of record as of February 8, 2013.
On April 11, 2013, our Board of Directors declared a cash dividend on our common stock in the amount of
$0.11 per share that was paid on June 10, 2013 to shareholders of record as of May 10, 2013. On July 11,
2013, our Board of Directors declared a cash dividend on our common stock in the amount of $0.12 per share
that was paid on September 10, 2013 to shareholders of record as of August 9, 2013. On October 10, 2013, our
Board of Directors declared a cash dividend on our common stock in the amount of $0.12 per share that was
paid on December 10, 2013 to shareholders of record as of November 8, 2013.
19.
On January 15, 2015, our Board of Directors declared a cash dividend on our common stock in the
amount of $0.14 per share that will be paid on March 25, 2015 to shareholders of record as of March 13, 2015.
Issuer Purchases of Equity Securities
There were no issuer purchases of equity securities during the fourth quarter of 2014. However, on
January 30, 2015, we announced that our Board of Directors had authorized a new program to repurchase up to
$20.0 million of our common stock from time to time in open market transactions at prevailing market prices
or by other means in accordance with applicable regulations. We expect to fund a majority of such repurchases
from cash dividends paid to us from our bank.
Shareholder Return Performance Graph
Set forth below is a line graph comparing the yearly percentage change in the cumulative total
shareholder return on our common stock (based on the last reported sales price of the respective year) with the
cumulative total return of the Nasdaq Composite Index and the SNL Bank Nasdaq Index from December 31,
2009 through December 31, 2014. The following is based on an investment of $100 on December 31, 2009 in
our common stock, the Nasdaq Composite Index and the SNL Bank Nasdaq Index, with dividends reinvested
where applicable.
Total Return Performance
Mercantile Bank Corporation
NASDAQ Composite
SNL Bank NASDAQ
900
800
700
600
500
400
300
200
100
e
u
l
a
V
x
e
d
n
I
0
12/31/09
12/31/10
12/31/11
12/31/12
12/31/13
12/31/14
Index
Mercantile Bank Corporation
NASDAQ Composite
SNL Bank NASDAQ
Period Ending
12/31/09
100.00
100.00
100.00
12/31/10
267.01
118.15
117.98
12/31/11
317.48
117.22
104.68
12/31/12
540.57
138.02
124.77
12/31/13
724.28
193.47
179.33
12/31/14
791.34
222.16
185.73
Item 6.
Selected Financial Data.
The Selected Financial Data in this Annual Report is incorporated here by reference.
20.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Management’s Discussion and Analysis included in this Annual Report is incorporated here by
reference.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
The information under the heading “Market Risk Analysis” included in this Annual Report is
incorporated here by reference.
Item 8.
Financial Statements and Supplementary Data.
The Consolidated Financial Statements, the Notes to Consolidated Financial Statements and the
Reports of Independent Registered Public Accounting Firm included in this Annual Report are incorporated
here by reference.
Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure.
None
Item 9A. Controls and Procedures.
As of December 31, 2014, an evaluation was performed under the supervision of and with the
participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the
effectiveness of the design and operation of our disclosure controls and procedures. Based on that evaluation,
our management, including our Chief Executive Officer and Chief Financial Officer, concluded that our
disclosure controls and procedures were effective as of December 31, 2014.
There have been no significant changes in our internal control over financial reporting during the
quarter ended December 31, 2014, that have materially affected, or are reasonably likely to materially affect,
our internal control over financial reporting.
Our management is responsible for establishing and maintaining adequate internal control over
financial reporting, as such term is defined in Exchange Act Rules 13a-15(f). There are inherent limitations in
the effectiveness of any system of internal control. Accordingly, even an effective system of internal control
can provide only reasonable assurance with respect to financial statement preparation.
Under the supervision and with the participation of our management, including our Chief Executive
Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control
over financial reporting as of December 31, 2014. This evaluation was based on criteria for effective internal
control over financial reporting described in Internal Control – Integrated Framework (2013) issued by the
Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on our evaluation
under the COSO framework, our management concluded that our internal control over financial reporting was
effective as of December 31, 2014. Refer to page F-36 for management’s report.
Our independent registered public accounting firm has issued an audit report on our internal control
over financial reporting which is included in this Annual Report.
Item 9B. Other Information.
None
21.
Item 10. Directors, Executive Officers and Corporate Governance.
PART III
The information presented under the captions “Election of Directors,” “Executive Officers,” “Section
16(a) Beneficial Ownership Reporting Compliance” and “Corporate Governance – Code of Ethics” in the
definitive Proxy Statement of Mercantile for our May 28, 2015 Annual Meeting of Shareholders (the “Proxy
Statement”), a copy of which will be filed with the Securities and Exchange Commission before April 30,
2015, is incorporated here by reference.
We have a separately-designated standing audit committee established in accordance with Section
3(a)(58)(A) of the Securities Exchange Act of 1934. The members of the Audit Committee consist of David
M. Cassard, Jeff A. Gardner, Edward B. Grant, and Calvin D. Murdock. The Board of Directors has
determined that Messrs. Cassard, Grant, and Murdock, members of the Audit Committee, are qualified as audit
committee financial experts, as that term is defined in the rules of the Securities and Exchange Commission.
Messrs. Cassard, Gardner, Grant, and Murdock are independent, as independence for audit committee
members is defined in the Nasdaq listing standards and the rules of the Securities and Exchange Commission.
Item 11. Executive Compensation.
The information presented under the captions “Executive Compensation,” “Corporate Governance –
Compensation Committee Interlocks and Insider Participation” and “Compensation Committee Report” in the
Proxy Statement is incorporated here by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters.
The information presented under the caption “Stock Ownership of Certain Beneficial Owners and
Management” in the Proxy Statement is incorporated here by reference.
Equity Compensation Plan Information
The following table summarizes information, as of December 31, 2014, relating to compensation
plans under which equity securities are authorized for issuance.
Number of securities to
be issued upon exercise
of outstanding options,
warrants and rights
(a)
Weighted-average
exercise price of
outstanding options,
warrants and rights
(b)
Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))
(c)
253,317
$ 17.15
277,000 (2)
0
0
0
Plan Category
Equity compensation
plans approved by
security holders (1)
Equity compensation
plans not approved by
security holders
Total
253,317
$ 17.15
277,000
22.
(1) These plans are Mercantile’s 2004 Employee Stock Option Plan and the Stock Incentive Plan of 2006.
Also, in conjunction with the merger with Firstbank, we issued Mercantile stock options in replacement of all
outstanding stock option grants that had been issued to Firstbank employees under the Firstbank Corporation
Stock Option and Restricted Stock Plan of 1997 and the Firstbank Corporation Stock Compensation Plan.
(2) These securities are available under the Stock Incentive Plan of 2006. Incentive awards may include, but
are not limited to, stock options, restricted stock, stock appreciation rights and stock awards. No further
issuances will be made under the Firstbank Corporation Stock Option and Restricted Stock Plan of 1997 or the
Firstbank Corporation Stock Compensation Plan.
Item 13. Certain Relationships and Related Transactions, and Director Independence.
The information presented under the captions “Transactions with Related Persons” and “Corporate
Governance – Director Independence” in the Proxy Statement is incorporated here by reference.
Item 14. Principal Accountant Fees and Services.
The information presented under the caption “Principal Accountant Fees and Services” in the Proxy
Statement is incorporated here by reference.
Item 15. Exhibits and Financial Statement Schedules
PART IV
(a) (1) Financial Statements. The following financial statements and reports of the independent registered
public accounting firm of Mercantile Bank Corporation and its subsidiaries are filed as part of this report:
Reports of Independent Registered Public Accounting Firm dated March 10, 2015 – BDO USA, LLP
Consolidated Balance Sheets --- December 31, 2014 and 2013
Consolidated Statements of Income for each of the three years in the period ended December 31, 2014
Consolidated Statements of Comprehensive Income for each of the three years in the period ended
December 31, 2014
Consolidated Statements of Changes in Shareholders’ Equity for each of the three years in the period
ended December 31, 2014
Consolidated Statements of Cash Flows for each of the three years in the period ended December 31,
2014
Notes to Consolidated Financial Statements
The Consolidated Financial Statements, the Notes to the Consolidated Financial Statements, and the
Reports of Independent Registered Public Accounting Firm listed above are incorporated by reference
in Item 8 of this report.
(2) Financial Statement Schedules
Not applicable
23.
(b)
Exhibits:
EXHIBIT NO.
EXHIBIT DESCRIPTION
2.1
2.2
3.1
3.2
4.1
10.1
10.2
10.3
10.4
10.5
10.6
10.7
Agreement and Plan of Merger dated August 14, 2013, incorporated by reference
to exhibit 2.1 to our Current Report on Form 8-K filed August 15, 2013
First Amendment to Merger Agreement dated February 20, 2014, incorporated by
reference to exhibit 10.1 to our Current Report on Form 8-K filed February 21,
2014
Our Articles of Incorporation are incorporated by reference to exhibit 3.1 of our
Form 10-Q for the quarter ended June 30, 2009
Our Amended and Restated By-laws dated as of February 26, 2014 are
incorporated by reference to exhibit 3.1 to our Current Report on Form 8-K filed
February 26, 2015
Instruments defining the Rights of Security Holders – reference is made to
Exhibits 3.1 and 3.2. In accordance with Regulation S-K Item 601(b)(4),
Mercantile Bank Corporation is not filing copies of instruments defining the rights
of holders of long-term debt because none of those instruments authorizes debt in
excess of 10% of the total assets of Mercantile Bank Corporation and its
subsidiaries on a consolidated basis. Mercantile Bank Corporation hereby agrees
to furnish a copy of any such instrument to the Securities and Exchange
Commission upon request.
Our 2004 Employee Stock Option Plan is incorporated by reference to exhibit
10.1 of our Form 10-Q for the quarter ended September 30, 2004 *
Form of Mercantile Bank of Michigan Split Dollar Agreement that has been
entered into between our bank and each of Michael H. Price, Robert B. Kaminski,
Jr., Charles E. Christmas, and certain other officers of our bank is incorporated by
reference to exhibit 10.33 of our Form 10-K for the year ended December 31,
2005 *
Amendment and Restatement of Stock Incentive Plan of 2006 dated November
18, 2008 is incorporated by reference to exhibit 10.39 of our Form 10-K for the
year ended December 31, 2008 *
Form of Notice of Grant of Incentive Stock Option and Stock Option Agreement
for incentive stock options granted after 2006 under our Stock Incentive Plan of
2006 is incorporated by reference to exhibit 10.41 of our Form 10-K for the year
ended December 31, 2007 *
Form of Restricted Stock Award Agreement Notification of Award and Terms and
Conditions of Award for restricted stock granted after 2006 under our Stock
Incentive Plan of 2006 is incorporated by reference to exhibit 10.43 of our Form
10-K for the year ended December 31, 2007 *
Mercantile Bank Corporation Employee Stock Purchase Plan of 2014 is
incorporated by reference to exhibit 4(b) of our Registration Statement on Form S-
8 that became effective on June 27, 2014
Employment Agreement with Thomas Sullivan dated August 14, 2013,
incorporated by reference to exhibit 10.2 of our Form 8-K filed August 15, 2013 *
24.
EXHIBIT NO.
EXHIBIT DESCRIPTION
10.8
10.9
10.10
10.11
10.12
10.13
10.14
10.15
Employment Agreement with Samuel Stone dated August 14, 2013, incorporated
by reference to exhibit 10.3 of our Form 8-K filed August 15, 2013 *
2014 Mercantile Executive Officer Bonus Plan for the First Six Months of 2014,
as amended by First Amendment, incorporated by reference to exhibit 10.1 of our
Form 8-K filed May 22, 2014 *
Mercantile Executive Officer Bonus Plan for July – December 2014, incorporated
by reference to exhibit 10.1 of our Form 8-K filed August 21, 2014 *
Credit Agreement and Form of Term Note between Mercantile Bank Corporation
and U.S. Bank National Association dated as of May 21, 2014, incorporated by
reference to exhibit 10.1 of our Form 8-K filed May 28, 2014
Employment Agreement dated as of November 13, 2014, effective as of
December 31, 2014, among the company, our bank and Michael H. Price *
Employment Agreement dated as of November 13, 2014, effective as of
December 31, 2014, among the company, our bank and Robert B. Kaminski, Jr *
Employment Agreement dated as of November 13, 2014, effective as of
December 31, 2014, among the company, our bank and Charles E. Christmas *
Mercantile Bank of Michigan Amended and Restated Deferred Compensation
Plan dated as of November 13, 2014, effective on January 1, 2015 *
10.16
Director Fee Summary *
21
23
31
32.1
32.2
101
Subsidiaries of the company
Consent of BDO USA, LLP
Rule 13a-14(a) Certifications
Section 1350 Chief Executive Officer Certification
Section 1350 Chief Financial Officer Certification
The following information from Mercantile’s Annual Report on Form 10-K for
the year ended December 31, 2014, formatted in XBRL (eXtensible Business
Reporting Language): (i) the Consolidated Balance Sheets, (ii) the Consolidated
Statements of Income, (iii) the Consolidated Statements of Comprehensive
Income, (iv) the Consolidated Statements of Changes in Shareholders’ Equity, (v)
the Consolidated Statements of Cash Flows, and (vi) the Notes to Consolidated
Financial Statements
* Management contract or compensatory plan.
(c)
Financial Statements Not Included In Annual Report
Not applicable
25.
MERCANTILE BANK CORPORATION
FINANCIAL INFORMATION
December 31, 2014 and 2013
F‐1
MERCANTILE BANK CORPORATION
FINANCIAL INFORMATION
December 31, 2014 and 2013
CONTENTS
SELECTED FINANCIAL DATA ........................................................................................................................ F-3
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS ........................................................................................................................... F-4
REPORTS OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM ............................................ F-34
REPORT BY MERCANTILE BANK CORPORATION’S MANAGEMENT ON INTERNAL
CONTROL OVER FINANCIAL REPORTING ................................................................................................ F-36
CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS ..................................................................................................... F-37
CONSOLIDATED STATEMENTS OF INCOME ....................................................................................... F-38
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME .................................................... F-39
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY .............................. F-40
CONSOLIDATED STATEMENTS OF CASH FLOWS ............................................................................. F-43
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ................................................................... F-45
F-2
SELECTED FINANCIAL DATA
2014 (*)
2013
2012
(Dollars in thousands except per share data)
2011
2010
Consolidated Results of Operations:
Interest income
Interest expense
Net interest income
Provision for loan losses
Noninterest income
Noninterest expense
Income (loss) before income tax expense (benefit)
Income tax expense (benefit)
Net income (loss)
Preferred stock dividends and accretion
Net income (loss) attributable to common shares
Consolidated Balance Sheet Data:
Total assets
Cash and cash equivalents
Securities
Loans
Allowance for loan losses
Bank owned life insurance
$
$
89,118 $
11,340
77,778
(3,000)
10,028
65,610
25,196
7,865
17,331
0
17,331 $
58,242
10,786
47,456
(7,200)
6,872
36,403
25,125
8,092
17,033
0
17,033
$ 59,917 $ 71,069 $ 88,143
31,794
56,349
31,800
9,244
47,156
(13,363)
(47)
(13,316)
1,295
$ 11,505 $ 36,142 $ (14,611)
19,832
51,237
6,900
7,282
41,495
10,124
(27,361)
37,485
1,343
13,216
46,701
(3,100)
7,994
39,624
18,171
5,636
12,535
1,030
$2,893,379 $1,426,966 $1,422,926 $1,433,229 $1,632,421
64,198
76,372
136,003
150,275
235,175
184,953
1,041,189 1,072,422 1,262,630
45,368
46,743
172,738
446,611
2,089,277
20,041
57,861
146,965
143,139
1,053,243
22,821
51,377
36,532
48,520
28,677
50,048
Deposits
Securities sold under agreements to repurchase
Federal Home Loan Bank advances
Subordinated debentures
Shareholders’ equity
2,276,915
167,569
54,022
54,472
328,138
1,118,911
69,305
45,000
32,990
153,325
1,135,204 1,112,075 1,273,832
116,979
65,000
32,990
125,936
72,569
45,000
32,990
164,999
64,765
35,000
32,990
146,590
Consolidated Financial Ratios:
Return on average assets
Return on average shareholders’ equity
Average shareholders’ equity to average assets
0.76%
6.91%
11.05%
1.22%
11.36%
10.77%
0.82%
7.51%
10.90%
2.36%
27.28%
8.66%
(0.80%)
(10.62%)
7.56%
Nonperforming loans to total loans
Allowance for loan losses to total originated loans
1.41%
1.55%
0.64%
2.17%
1.82%
2.75%
4.20%
3.41%
5.50%
3.59%
Tier 1 leverage capital
Tier 1 leverage risk-based capital
Total risk-based capital
11.15%
13.57%
14.43%
12.53%
14.65%
15.91%
11.31%
13.37%
14.63%
12.09%
14.19%
15.46%
9.09%
11.17%
12.45%
Per Common Share Data:
Net income (loss):
Basic
Diluted
$
1.28 $
1.28
$
1.96
1.95
1.33 $
1.30
4.20 $
4.07
(1.72)
(1.72)
Tangible book value per share at end of period
Dividends declared
Dividend payout ratio
15.49
2.48
141.16%
17.54
0.45
22.83%
16.84
0.09
6.73%
16.73
0.00
NA
12.20
0.01
NA
(*) – Includes the merger with Firstbank effective June 1, 2014. See Note 2 to the Consolidated Financial
Statements for additional information.
F-3
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
FORWARD-LOOKING STATEMENTS
The following discussion and other portions of this Annual Report contain forward-looking statements that are based
on management’s beliefs, assumptions, current expectations, estimates and projections about the financial services
industry, the economy, and about our company. Words such as “anticipates,” “believes,” “estimates,” “expects,”
“forecasts,” “intends,” “is likely,” “plans,” “projects,” and variations of such words and similar expressions are
intended to identify such forward-looking statements. These statements are not guarantees of future performance
and involve certain risks, uncertainties and assumptions (“Future Factors”) that are difficult to predict with regard to
timing, extent, likelihood and degree of occurrence. Therefore, actual results and outcomes may materially differ
from what may be expressed or forecasted in such forward-looking statements. We undertake no obligation to
update, amend, or clarify forward-looking statements, whether as a result of new information, future events (whether
anticipated or unanticipated), or otherwise.
Future Factors include, among others, changes in interest rates and interest rate relationships; demand for products
and services; the degree of competition by traditional and non-traditional competitors; future impacts of the
Firstbank merger; changes in banking regulation or actions by bank regulators; changes in tax laws; changes in
prices, levies, and assessments; impact of technological advances; governmental and regulatory policy changes;
outcomes of contingencies; trends in customer behavior as well as their ability to repay loans; changes in local real
estate values; changes in the national and local economies; and other risk factors described in Item 1A of this
Annual Report. These are representative of the Future Factors that could cause a difference between an ultimate
actual outcome and a forward-looking statement.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Management’s Discussion and Analysis of Financial Condition and Results of Operations (“Management’s
Discussion and Analysis”) is based on Mercantile Bank Corporation’s consolidated financial statements, which have
been prepared in accordance with accounting principles generally accepted in the United States of America. The
preparation of these financial statements requires us to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenues and expenses. Material estimates that are particularly susceptible to
significant change in the near term relate to the determination of the allowance for loan losses, and actual results
could differ from those estimates. We have reviewed the analyses with the Audit Committee of our Board of
Directors.
Allowance For Loan Losses: The allowance for loan losses (“allowance”) is maintained at a level we believe is
adequate to absorb probable incurred losses identified and inherent in the loan portfolio. Our evaluation of the
adequacy of the allowance is an estimate based on past loan loss experience, the nature and volume of the loan
portfolio, information about specific borrower situations and estimated collateral values, guidance from bank
regulatory agencies, and assessments of the impact of current and anticipated economic conditions on the loan
portfolio. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any
loan that, in our judgment, should be charged-off. Loan losses are charged against the allowance when we believe
the uncollectability of a loan is likely. The balance of the allowance represents our best estimate, but significant
downturns in circumstances relating to loan quality or economic conditions could result in a requirement for an
increased allowance in the future. Likewise, an upturn in loan quality or improved economic conditions may result
in a decline in the required allowance in the future. In either instance, unanticipated changes could have a
significant impact on the allowance and operating results.
We complete a migration analysis each quarter to assist us in determining appropriate reserve allocation factors for
non-impaired commercial loans. Our migration takes into account various time periods, with most weight placed on
the twelve-quarter time frame. We believe the twelve-quarter period represents an appropriate range of economic
conditions, and that it provides for an appropriate basis in determining reserve allocation factors given current
economic conditions and the general market consensus of economic conditions in the near future.
F-4
Although the migration analysis provides an accurate historical accounting of our net loan losses, it is not able to
fully account for environmental factors that will also very likely impact the collectability of our commercial loans as
of any quarter-end date. Therefore, we incorporate the environmental factors as adjustments to the historical data.
Environmental factors include both internal and external items. We believe the most significant internal
environmental factor is our credit culture and the relative aggressiveness in assigning and revising commercial loan
risk ratings, with the most significant external environmental factor being the assessment of the current economic
environment and the resulting implications on our commercial loan portfolio.
The allowance is increased through a provision charged to operating expense. Uncollectable loans are charged-off
through the allowance. Recoveries of loans previously charged-off are added to the allowance. A loan is considered
impaired when it is probable that contractual principal and interest payments will not be collected either for the
amounts or by the dates as scheduled in the loan agreement. Impairment is evaluated in aggregate for smaller-
balance loans of similar nature such as residential mortgage, consumer and credit card loans, and on an individual
loan basis for other loans. If a loan is impaired, a portion of the allowance is allocated so that the loan is reported,
net, at the present value of estimated future cash flows using the loan’s existing interest rate or at the fair value of
collateral if repayment is expected solely from the collateral. The timing of obtaining outside appraisals varies,
generally depending on the nature and complexity of the property being evaluated, general breadth of activity within
the marketplace and the age of the most recent appraisal. For collateral dependent impaired loans, in most cases we
obtain and use the “as is” value as indicated in the appraisal report, adjusting for any expected selling costs. In
certain circumstances, we may internally update outside appraisals based on recent information impacting a
particular or similar property, or due to identifiable trends (e.g., recent sales of similar properties) within our
markets. The expected future cash flows exclude potential cash flows from certain guarantors. To the extent these
guarantors are able to provide repayments, a recovery would be recorded upon receipt. Loans are evaluated for
impairment when payments are delayed, typically 30 days or more, or when serious deficiencies are identified
within the credit relationship. Our policy for recognizing income on impaired loans is to accrue interest unless a
loan is placed on nonaccrual status. We put loans into nonaccrual status when the full collection of principal and
interest is not expected.
Income Tax Accounting: Current income tax assets and liabilities are established for the amount of taxes payable or
refundable for the current year. In the preparation of income tax returns, tax positions are taken based on
interpretation of federal and state income tax laws for which the outcome may be uncertain. We periodically review
and evaluate the status of our tax positions and make adjustments as necessary. Deferred income tax assets and
liabilities are also established for the future tax consequences of events that have been recognized in our financial
statements or tax returns. A deferred income tax asset or liability is recognized for the estimated future tax effects
attributable to temporary differences that can be carried forward (used) in future years. The valuation of our net
deferred income tax asset is considered critical as it requires us to make estimates based on provisions of the enacted
tax laws. The assessment of the realizability of the net deferred income tax asset involves the use of estimates,
assumptions, interpretations and judgments concerning accounting pronouncements, federal and state tax codes and
the extent of future taxable income. There can be no assurance that future events, such as court decisions, positions
of federal and state taxing authorities, and the extent of future taxable income will not differ from our current
assessment, the impact of which could be significant to the consolidated results of operations and reported earnings.
Accounting guidance requires us to assess whether a valuation allowance should be established against our deferred
tax assets based on the consideration of all available evidence using a “more likely than not” standard. In making
such judgments, we consider both positive and negative evidence and analyze changes in near-term market conditions
as well as other factors that may impact future operating results. Significant weight is given to evidence that can be
objectively verified.
F-5
Securities and Other Financial Instruments: Securities available for sale consist of bonds and notes which might be
sold prior to maturity due to changes in interest rates, prepayment risks, yield and availability of alternative
investments, liquidity needs and other factors. Securities classified as available for sale are reported at their fair
value. Declines in the fair value of securities below their cost that are other than temporary are reflected as realized
losses. In estimating other than temporary losses, we consider: (1) the length of time and extent that fair value has
been less than carrying value; (2) the financial condition and near term prospects of the issuer; and (3) our ability and
intent to hold the security for a period of time sufficient to allow for any anticipated recovery in fair value. Fair
values for securities available for sale are generally obtained from outside sources and applied to individual securities
within the portfolio. The difference between the amortized cost and the current fair value of securities is recorded as
a valuation adjustment and reported in other comprehensive income.
Mortgage Servicing Rights: Mortgage servicing rights are recognized as assets based on the allocated fair value of
retained servicing rights on mortgage loans sold. Servicing rights are carried at the lower of amortized cost or fair
value and are expensed in proportion to, and over the period of, estimated net servicing income. We utilize a
discounted cash flow model to determine the value of our servicing rights. The valuation model utilizes mortgage
loan prepayment speeds, the remaining life of the mortgage loan pool, delinquency rates, our cost to service the
mortgage loans and other factors to determine the cash flow that we will receive from servicing each grouping of
mortgage loans. These cash flows are then discounted based on current interest rate assumptions to arrive at the fair
value of the right to service those mortgage loans. Impairment is evaluated quarterly based on the fair value of the
mortgage servicing rights, using groupings of the underlying mortgage loans classified by interest rates. Any
impairment of a grouping is reported as a valuation allowance.
Goodwill: Generally accepted principles require us to determine the fair value of all of the assets and liabilities of
an acquired entity, and record their fair value on the date of acquisition. We employ a variety of means in
determination of the fair value, including the use of discounted cash flow analysis, market comparisons and
projected revenue streams. For certain items that we believe we have the appropriate expertise to determine the fair
value, we may choose to use our own calculation of the value. In other cases, where the value is not easily
determined, we consult with outside parties to determine the fair value of the asset or liability. Once valuations have
been adjusted, the net difference between the price paid for the acquired company and the fair value of its balance
sheet is recorded as goodwill.
Goodwill is assessed at least annually for impairment and any such impairment is recognized in the period
identified. A more frequent assessment is performed should events or changes in circumstances indicate the
carrying value of the goodwill may not be recoverable. We may elect to perform a qualitative assessment for the
annual impairment test. If the qualitative assessment indicates it is more likely than not that the fair value of a
reporting unit is less than its carrying amount, or if we elect not to perform a qualitative assessment, then we would
be required to perform a quantitative test for goodwill impairment. The quantitative test is a two-step process
consisting of comparing the carrying value of the reporting unit to an estimate of its fair value. If the estimated fair
value of the reporting unit is less than the carrying value, goodwill is impaired and is written down to its estimated
fair value. In 2014, we elected to perform a qualitative assessment for our annual impairment test and concluded our
fair value was greater than its carrying amount; therefore, no further testing was required.
INTRODUCTION
This Management’s Discussion and Analysis should be read in conjunction with the consolidated financial
statements contained in this Annual Report. This discussion provides information about the consolidated financial
condition and results of operations of Mercantile Bank Corporation and its consolidated subsidiary, Mercantile Bank
of Michigan (“our bank”), and of Mercantile Bank Real Estate Co., L.L.C. (“our real estate company”) and
Mercantile Insurance Center, Inc. (“our insurance company”), subsidiaries of our bank. Unless the text clearly
suggests otherwise, references to “us,” “we,” “our,” or “the company” include Mercantile Bank Corporation and its
wholly-owned subsidiaries referred to above.
F-6
On December 12, 2013, our shareholders and the shareholders of Firstbank Corporation (“Firstbank”)
overwhelmingly voted to approve an Agreement and Plan of Merger providing for the merger of Mercantile and
Firstbank. The merger was consummated effective June 1, 2014. For additional information, see “Item 1 - Business
– Firstbank Corporation Merger” and Note 2- Business Combination in this Annual Report.
FINANCIAL OVERVIEW
We reported net income of $17.3 million, or $1.28 per diluted share, for 2014, compared to $17.0 million, or $1.95
per diluted share, for 2013. Our 2014 earnings results were significantly impacted by the Firstbank merger. In
addition to our results reflecting seven months of operations as a combined organization, we recorded relatively
large merger-related costs during the year. Merger-related costs totaled $5.4 million during 2014, equating to $3.8
million, or $0.28 per diluted share, on an after-tax basis. Merger-related costs totaled $1.2 million during 2013,
equating to $1.1 million, or $0.13 per diluted share, on an after-tax basis. We do not expect to record any further
significant costs related to the Firstbank merger in future periods. Our projected annual cost savings as disclosed at
the time the merger was announced were $5.5 million, or approximately $1.4 million quarterly. Our fourth quarter
2014 results included realizing a vast majority of this target. We expect to realize the full amount of this target in
the first quarter of 2015 and subsequent quarters.
The overall quality of our loan portfolio remains strong, which when combined with recoveries of prior loan charge-
offs and the eliminations of and reductions in specific reserves, have produced a positive impact on our allowance
calculations and allowed us to make no or negative provisions in eight consecutive quarters and in eleven of the last
twelve quarters. In addition, we have recorded a net loan recovery during seven out of the last twelve quarters. We
continue our collection efforts on charged-off loans, and expect to record recoveries in future periods; however,
given the nature of these efforts, it is not practical to forecast the dollar amount and timing of the recoveries. The
level of problem asset administration costs has declined substantially over the past several years, reflecting our
improved asset quality.
New term loan originations totaled approximately $258 million during 2014. We also experienced net increases in
commercial lines of credit, in large part reflecting lines that are part of new commercial lending relationships
established during recent quarterly periods. The new loan pipeline remains strong, and at year-end 2014 we had
over $150 million in unfunded loan commitments on commercial construction and development loans that are in the
construction phase. We believe our loan portfolio is well diversified post-merger, with commercial real estate non-
owner occupied loans comprising 27%, commercial and industrial loans equaling 26%, commercial real estate
owner occupied loans comprising 21% and residential mortgage and consumer loans aggregating 18% of total loans
as of December 31, 2014. As a percent of total commercial loans, commercial and industrial loans and commercial
real estate owner occupied loans combined equaled 57% at year-end 2014.
The merger with Firstbank also had a significant impact on our funding structure, resulting in a well diversified
funding mix and an approximate 20 basis point reduction in our cost of funds as a percent of average earning assets.
As of December 31, 2014, noninterest-bearing checking accounts comprised 22% of total funds, interest-bearing
checking and sweep accounts combined for 23%, savings deposits and money market deposit accounts aggregated to
23% and local time deposits accounted for 23%. Wholesale funds, comprised of brokered deposits and Federal
Home Loan Bank (“FHLB”) advances, represented 9% of total funds.
FINANCIAL CONDITION
Primarily reflecting the merger with Firstbank, our total assets increased $1.47 billion during 2014, and totaled
$2.89 billion as of December 31, 2014. Total loans increased $1.04 billion, securities available for sale were up
$302 million and cash and cash equivalents increased $25.8 million. Total deposits increased $1.16 billion and
securities sold under agreements to repurchase (“sweep accounts”) were up $98.3 million during 2014.
F-7
Earning Assets
Average earning assets equaled 92.0% of average total assets during 2014, compared to 92.3% during 2013. The
loan portfolio continued to comprise a majority of earning assets, followed by securities, federal funds sold and
interest-bearing deposits. Average total loans equaled 79.1% of average earning assets in 2014, while average
securities, federal funds sold and interest-bearing deposits equaled a combined 20.9%. We expect the percentage of
average assets comprised of average earning assets to remain relatively unchanged in future periods in comparison
to 2014 levels; however, we also expect the loan component of earning assets to increase over the next couple of
years as a sizable portion of our anticipated net loan growth is funded from monies from our excess interest-bearing
deposit balances and from maturities and calls of U.S. Agency and municipal bonds and paydowns on mortgage-
backed securities.
Our loan portfolio has historically been primarily comprised of commercial loans, although less so now following
the merger with Firstbank. Commercial loans increased $729 million during 2014, and at December 31, 2014
totaled $1.72 billion, or 82.1% of the loan portfolio. As of December 31, 2013, the commercial loan portfolio
comprised 93.7% of total loans. Commercial and industrial loans were up $264 million, non-owner occupied
commercial real estate (“CRE”) loans increased $196 million, owner occupied CRE loans increased $169 million,
multi-family and residential rental loans increased $85.1 million and vacant land, land development and residential
construction loans were up $15.2 million. As a percent of total commercial loans, commercial and industrial loans
and commercial real estate owner occupied loans combined equaled 57.2% as of December 31, 2014.
We have significantly enhanced our commercial loan calling efforts over the past few years. We are very pleased
with the approximately $664 million in new commercial term loan fundings over the past three years, and our
current commercial loan pipeline reports indicate continued strong commercial loan funding opportunities in future
periods. Also, as of December 31, 2014, availability on existing construction and development loans totaled over
$150 million, with most of those commitments expected to be drawn during 2015. Further, we have made additional
lending commitments totaling about $110 million, a majority of which we expect to be accepted and funded over the
next 12 to 18 months. Our commercial loan officers also report substantial additional opportunities they are
currently discussing with existing borrowers and potential new customers.
We continue to experience commercial loan principal paydowns and payoffs. While a portion of the principal
paydowns and payoffs received thus far have been welcomed, such as on stressed lending relationships, we have
also experienced significant instances where well-performing relationships have been refinanced at other financial
institutions and other situations where the borrower has sold the underlying asset, paying off the loan. In many of
those cases where the loans have been refinanced elsewhere, we believed the terms and conditions of the new
lending arrangements were too aggressive, generally reflecting the very competitive banking environment in our
markets. We remain committed to prudent underwriting standards that provide for an appropriate yield and risk
relationship. In addition, we continue to receive accelerated principal paydowns from certain borrowers who have
elevated deposit balances generally resulting from profitable operations and an apparent unwillingness to expand
their business and /or replace equipment due to economic- and tax-related uncertainties. Usage of existing
commercial lines of credit has remained relatively steady.
Reflecting the merger with Firstbank, one-to-four family mortgage loans increased $183 million and other
consumer-related loans were up $124 million during 2014, and at December 31, 2014 totaled a combined $374
million, or 17.9% of the loan portfolio. One-to-four family mortgage loans and other consumer-related loans
equated to 6.3% of total loans as of December 31, 2013.
F-8
The following table summarizes our loan portfolio:
Commercial:
Commercial & Industrial
$
550,629,000
$
286,373,000
$
285,322,000
$
266,548,000
$
288,515,000
12/31/14
12/31/13
12/31/12
12/31/11
12/31/10
Land Development &
Construction
Owner Occupied
Commercial RE
Non-Owner Occupied
Commercial RE
Multi-Family &
Residential Rental
Total Commercial
Retail:
1-4 Family Mortgages
Home Equity & Other
Consumer Loans
Total Retail
51,977,000
36,741,000
48,099,000
63,467,000
83,786,000
430,406,000
261,877,000
259,277,000
264,426,000
277,377,000
559,594,000
364,066,000
324,886,000
334,165,000
449,104,000
122,772,000
1,715,378,000
37,639,000
986,696,000
50,922,000
968,506,000
68,299,000
77,188,000
996,905,000
1,175,970,000
214,695,000
31,467,000
33,766,000
33,181,000
35,474,000
159,204,000
373,899,000
35,080,000
66,547,000
38,917,000
72,683,000
42,336,000
75,517,000
51,186,000
86,660,000
Total
$
2,089,277,000
$
1,053,243,000
$
1,041,189,000
$
1,072,422,000
$
1,262,630,000
The following table presents total loans outstanding as of December 31, 2014, according to scheduled repayments of
principal on fixed rate loans and repricing frequency on variable rate loans. Floating rate loans that are currently at
interest rate floors, comprising a majority of our floating rate commercial loans, are treated as fixed rate loans and
are reflected using maturity date and not repricing frequency.
Less Than
One Year
One Through
Five Years
More Than
Five Years
Total
Construction and land development
$
49,317,000
$
75,778,000
$
22,818,000
$
147,913,000
Real estate - residential properties
Real estate - multi-family properties
Real estate - commercial properties
Commercial and industrial
Consumer
Total loans
Fixed rate loans
Floating rate loans
Total loans
$
$
$
57,591,000
2,740,000
192,177,000
293,264,000
4,372,000
140,054,000
30,494,000
668,671,000
191,675,000
43,663,000
155,795,000
30,491,000
89,950,000
28,246,000
12,181,000
353,440,000
63,725,000
950,798,000
513,185,000
60,216,000
599,461,000
$
1,150,335,000
$
339,481,000
$
2,089,277,000
329,023,000
$
1,133,206,000
$
332,789,000
$
1,795,018,000
270,438,000
17,129,000
6,692,000
294,259,000
599,461,000
$
1,150,335,000
$
339,481,000
$
2,089,277,000
F-9
Our credit policies establish guidelines to manage credit risk and asset quality. These guidelines include loan review
and early identification of problem loans to provide effective loan portfolio administration. The credit policies and
procedures are meant to minimize the risk and uncertainties inherent in lending. In following these policies and
procedures, we must rely on estimates, appraisals and evaluations of loans and the possibility that changes in these
could occur quickly because of changing economic conditions. Identified problem loans, which exhibit
characteristics (financial or otherwise) that could cause the loans to become nonperforming or require restructuring
in the future, are included on the internal loan watch list. Senior management and the Board of Directors review this
list regularly. Market value estimates of collateral on impaired loans, as well as on foreclosed and repossessed
assets, are reviewed periodically; however, we have a process in place to monitor whether value estimates at each
quarter-end are reflective of current market conditions. Our credit policies establish criteria for obtaining appraisals
and determining internal value estimates. We may also adjust outside and internal valuations based on identifiable
trends within our markets, such as recent sales of similar properties or assets, listing prices and offers received. In
addition, we may discount certain appraised and internal value estimates to address distressed market conditions.
Nonperforming assets, comprised of nonaccrual loans, loans past due 90 days or more and accruing interest and
foreclosed properties, totaled $31.4 million (1.1% of total assets) as of December 31, 2014, compared to $9.6
million (0.7% of total assets) at December 31, 2013. The volume of nonperforming assets has generally been on a
declining trend since the peak of $118 million on March 31, 2010. Reductions in nonperforming assets over the past
couple of years primarily reflect principal payments on nonaccrual loans and sales proceeds on foreclosed
properties. After placing less than $2.0 million of loans into nonaccrual status during 2013, that level increased to
$25.9 million during 2014; however, over 85% of that figure is related to one commercial loan relationship that was
placed into nonaccrual status in late 2014. We are working closely with the owners to address the identified
financial and operating weaknesses. Notwithstanding this one relatively large loan relationship, we are pleased with
the overall quality of the loan portfolio.
The following tables provide a breakdown of nonperforming assets by property type:
Residential Real Estate:
Land Development
Construction
Owner Occupied / Rental
Commercial Real Estate:
Land Development
Construction
Owner Occupied
Non-Owner Occupied
Non-Real Estate:
Commercial Assets
Consumer Assets
NONPERFORMING LOANS
12/31/14
12/31/13
12/31/12
12/31/11
12/31/10
$
84,000
$
40,000
$
1,188,000
$
1,179,000
$
11,775,000
0
4,229,000
4,313,000
0
4,219,000
4,259,000
209,000
389,000
0
18,089,000
378,000
0
885,000
169,000
319,000
4,321,000
5,828,000
737,000
0
2,577,000
9,093,000
18,676,000
1,443,000
12,407,000
686,000
6,018,000
7,883,000
1,037,000
9,149,000
21,961,000
1,661,000
409,000
8,133,000
23,914,000
34,117,000
2,044,000
0
11,629,000
25,428,000
39,101,000
6,401,000
1,016,000
42,000
0
6,443,000
1,016,000
734,000
1,000
735,000
3,060,000
14,000
3,074,000
8,221,000
161,000
8,382,000
Total
$
29,432,000
$
6,718,000
$
18,970,000
$
45,074,000
$
69,444,000
F-10
Residential Real Estate:
Land Development
Construction
Owner Occupied / Rental
Commercial Real Estate:
Land Development
Construction
Owner Occupied
Non-Owner Occupied
Non-Real Estate:
Commercial Assets
Consumer Assets
OTHER REAL ESTATE OWNED & REPOSSESSED ASSETS
12/31/14
12/31/13
12/31/12
12/31/11
12/31/10
$
329,000
$
427,000
$
1,174,000
$
4,300,000
$
0
722,000
1,051,000
0
0
247,000
697,000
944,000
0
0
0
22,000
207,000
656,000
92,000
0
164,000
1,939,000
2,195,000
0
0
0
157,000
491,000
1,822,000
52,000
0
957,000
4,139,000
5,148,000
0
0
0
711,000
1,120,000
6,131,000
450,000
0
2,509,000
6,192,000
9,151,000
0
0
0
2,772,000
1,296,000
305,000
4,373,000
410,000
0
3,111,000
8,781,000
12,302,000
0
0
0
Total
$
1,995,000
$
2,851,000
$
6,970,000
$
15,282,000
$
16,675,000
The following tables provide a reconciliation of nonperforming assets:
NONPERFORMING LOANS RECONCILIATION
2014
2013
2012
2011
2010
Beginning balance
$
6,718,000
$
18,970,000
$
45,074,000
$
69,444,000
$
85,050,000
Additions, net of transfers
to ORE
Returns to performing status
Principal payments
Loan charge-offs
25,870,000
(779,000)
(2,064,000)
(313,000)
1,726,000
0
4,998,000
(774,000)
(10,934,000)
(25,095,000)
(3,044,000)
(5,233,000)
12,750,000
(766,000)
(24,795,000)
(11,559,000)
51,503,000
(11,124,000)
(24,213,000)
(31,772,000)
Total
$
29,432,000
$
6,718,000
$
18,970,000
$
45,074,000
$
69,444,000
OTHER REAL ESTATE OWNED & REPOSSESSED ASSETS RECONCILIATION
2014
2013
2012
2011
2010
Beginning balance
$
2,851,000
$
6,970,000
$
15,282,000
$
16,675,000
$
26,608,000
Additions
Sale proceeds
Valuation write-downs
2,593,000
(3,183,000)
(266,000)
2,181,000
(5,585,000)
(715,000)
11,808,000
(16,916,000)
(3,204,000)
11,504,000
(10,340,000)
(2,557,000)
9,159,000
(13,969,000)
(5,123,000)
Total
$
1,995,000
$
2,851,000
$
6,970,000
$
15,282,000
$
16,675,000
F-11
The level of net loan charge-offs continued to improve during 2014, primarily reflecting a decline in nonperforming
loans, an improvement in the overall quality of the loan portfolio and significant recoveries of prior period charge-
offs. During 2014, we recorded loan charge-offs totaling $1.5 million and recoveries of prior period loan charge-
offs aggregating $1.7 million, thereby providing for a net loan recovery of $0.2 million.
The following table summarizes changes in the allowance for originated loan losses for the past five years:
2014
2013
2012
2011
2010
Originated loans outstanding at year-end
$
1,246,116,000
$
1,053,243,000
$
1,041,189,000
$
1,072,422,000
$
1,262,630,000
Daily average balance of originated loans
outstanding during the year
$
1,141,682,000
$
1,050,961,000
$
1,049,315,000
$
1,148,671,000
$
1,412,555,000
Balance of allowance for originated
loans at beginning of year
$
22,821,000
$
28,677,000
$
36,532,000
$
45,368,000
$
47,878,000
Originated loans charged-off:
Commercial, financial and agricultural
Construction and land development
Residential real estate
Instalment loans to individuals
Total charge-offs
Recoveries of previously charged-off
originated loans:
Commercial, financial and agricultural
Construction and land development
Residential real estate
Instalment loans to individuals
Total recoveries
(840,000)
(36,000)
(484,000)
(70,000)
(3,596,000)
(11,311,000)
(12,373,000)
(25,539,000)
(822,000)
(862,000)
(10,000)
(348,000)
(938,000)
(46,000)
(2,919,000)
(4,422,000)
(183,000)
(9,273,000)
(2,242,000)
(74,000)
(1,430,000)
(5,290,000)
(12,643,000)
(19,897,000)
(37,128,000)
1,117,000
180,000
404,000
0
4,795,000
7,076,000
3,186,000
1,637,000
897,000
933,000
9,000
285,000
469,000
58,000
441,000
513,000
21,000
995,000
178,000
8,000
1,701,000
6,634,000
7,888,000
4,161,000
2,818,000
Net loan (charge-offs) recoveries
271,000
1,344,000
(4,755,000)
(15,736,000)
(34,310,000)
Provision for loan losses for
originated loans
Balance of allowance for originated
(3,793,000)
(7,200,000)
(3,100,000)
6,900,000
31,800,000
loans at end of year
$
19,299,000 $
22,821,000
$
28,677,000
$
36,532,000
$
45,368,000
Ratio of net loan (charge-offs) recoveries
to average loans outstanding during the year
0.02%
0.13%
(0.45%)
(1.37%)
(2.43%)
Ratio of allowance to originated loans
outstanding at year-end
1.55%
2.17%
2.75%
3.41%
3.59%
F-12
The following table illustrates the breakdown of the allowance balance by loan type (dollars in thousands) and of the
total originated loan portfolio (in percentages):
12/31/2014
12/31/2013
12/31/2012
12/31/2011
12/31/2010
Amount
Loan
Portfolio
Amount
Loan
Portfolio
Amount
Loan
Portfolio
Amount
Loan
Portfolio
Amount
Loan
Portfolio
Commercial,
financial and
agricultural
Construction and
land development
Residential real
estate
Instalment loans to
individuals
$ 16,112
82.8%
$ 17,786
84.0%
$ 22,646
85.3%
$ 28,913
83.3%
$ 32,645
81.5%
1,012
8.8
1,858
8.9
2,246
6.2
3,484
7.5
7,019
9.3
1,974
7.2
3,027
6.8
3,646
8.1
3,895
8.8
5,495
8.8
125
1.2
68
0.3
139
0.4
158
0.4
172
0.4
Unallocated
76
0.0
0
0.0
0
0.0
82
0.0
37
0.0
Total
$ 19,299
100.0%
$ 22,821
100.0%
$ 28,677
100.0%
$ 36,532
100.0%
$ 45,368
100.0%
The following table depicts the ratio of our allowance to nonperforming loans:
12/31/14
12/31/13
12/31/12
12/31/11
12/31/10
Ratio of allowance to
nonperforming loans
68.09%
339.70%
151.17%
81.05%
65.33%
The ratio of our allowance to nonperforming loans had been on an increasing trend during the period of 2010
through 2013, generally reflecting total nonperforming loans declining at a faster rate than the balance of the
allowance, as well as certain higher-balance commercial loan relationships being categorized as troubled debt
restructurings resulting in higher specific reserve allocations. The decline during 2014 primarily reflects the
aforementioned one commercial loan relationship that was placed into nonaccrual status during the fourth quarter of
2014.
In each accounting period, we adjust the allowance to the amount we believe is necessary to maintain the allowance
at an adequate level. Through the loan review and credit departments, we establish specific portions of the
allowance based on specifically identifiable problem loans. The evaluation of the allowance is further based on, but
not limited to, consideration of the internally prepared Allowance Analysis, loan loss migration analysis,
composition of the loan portfolio, third party analysis of the loan administration processes and portfolio, and general
economic conditions.
F-13
The Allowance Analysis applies reserve allocation factors to non-impaired outstanding loan balances, the result of
which is combined with specific reserves to calculate an overall allowance dollar amount. For non-impaired
commercial loans, reserve allocation factors are based on the loan ratings as determined by our standardized grade
paradigms and by loan purpose. Our commercial loan portfolio is segregated into five classes: 1) commercial and
industrial loans; 2) vacant land, land development and residential construction loans; 3) owner occupied real estate
loans; 4) non-owner occupied real estate loans; and 5) multi-family and residential rental property loans. The
reserve allocation factors are primarily based on the historical trends of net loan charge-offs through a migration
analysis whereby net loan losses are tracked via assigned grades over various time periods, with adjustments made
for environmental factors reflecting the current status of, or recent changes in, items such as: lending policies and
procedures; economic conditions; nature and volume of the loan portfolio; experience, ability and depth of
management and lending staff; volume and severity of past due, nonaccrual and adversely classified loans;
effectiveness of the loan review program; value of underlying collateral; lending concentrations; and other external
factors, including competition and regulatory environment. Adjustments for specific lending relationships,
particularly impaired loans, are made on a case-by-case basis. Non-impaired retail loan reserve allocations are
determined in a similar fashion as those for non-impaired commercial loans, except that retail loans are segmented
by type of credit and not a grading system. We regularly review the Allowance Analysis and make adjustments
periodically based upon identifiable trends and experience.
A migration analysis is completed quarterly to assist us in determining appropriate reserve allocation factors for
non-impaired commercial loans. Our migration takes into account various time periods, with most weight placed on
the twelve-quarter time frame. We believe the twelve-quarter period represents an appropriate range of economic
conditions, and that it provides for an appropriate basis in determining reserve allocation factors given current
economic conditions and the general market consensus of economic conditions in the near future.
Although the migration analysis provides an accurate historical accounting of our net loan losses, it is not able to
fully account for environmental factors that will also very likely impact the collectability of our commercial loans as
of any quarter-end date. Therefore, we incorporate the environmental factors as adjustments to the historical data.
Environmental factors include both internal and external items. We believe the most significant internal
environmental factor is our credit culture and the relative aggressiveness in assigning and revising commercial loan
risk ratings, with the most significant external environmental factor being the assessment of the current economic
environment and the resulting implications on our commercial loan portfolio.
The primary risk elements with respect to commercial loans are the financial condition of the borrower, the
sufficiency of collateral, and timeliness of scheduled payments. We have a policy of requesting and reviewing
periodic financial statements from commercial loan customers, and we have a disciplined and formalized review of
the existence of collateral and its value. The primary risk element with respect to each residential real estate loan
and consumer loan is the timeliness of scheduled payments. We have a reporting system that monitors past due
loans and have adopted policies to pursue creditor’s rights in order to preserve our collateral position.
The allowance for originated loans equaled $19.3 million as of December 31, 2014, or 1.5% of total originated loans
outstanding, compared to 2.2% as of December 31, 2013. We also had an allowance for acquired loans as of
December 31, 2014, totaling $0.7 million. A large portion of the recent decline in the level of the allowance for
originated loans reflects the elimination and reduction of specific reserves due to successful collection efforts, while
the remainder of the decline is primarily associated with commercial loan upgrades and reductions in most reserve
allocation factors on non-impaired commercial loans resulting from the impact of lower net loan charge-offs in
recent periods on our migration calculations. The total allowance equaled 68.1% of nonperforming loans as of
December 31, 2014, compared to 339.7% as of December 31, 2013. Although this particular measurement had been
increasing during the past several years primarily due to total nonperforming loans declining at a faster rate than the
balance of the allowance and certain accruing higher-balance commercial loan relationships having been categorized
as troubled debt restructurings resulting in higher specific reserve allocations, the aforementioned relatively larger
credit relationship that was put into nonaccrual status in late 2014 had a substantial impact on this measurement.
This particular credit relationship is collateralized by real estate and equipment.
F-14
As of December 31, 2014, the allowance for originated loans was comprised of $9.1 million in general reserves
relating to non-impaired loans, $4.4 million in specific reserve allocations relating to nonaccrual loans, and $5.8
million in specific allocations on other loans, primarily accruing loans designated as troubled debt restructurings.
Troubled debt restructurings totaled $50.4 million at December 31, 2014, consisting of $26.4 million that are on
nonaccrual status and $24.0 million that are on accrual status. The latter, while considered and accounted for as
impaired loans in accordance with accounting guidelines, is not included in our nonperforming loan totals. Impaired
loans with an aggregate carrying value of $1.3 million as of December 31, 2014 had been subject to previous partial
charge-offs aggregating $2.3 million. Those partial charge-offs were recorded as follows: $0.2 million in 2014, $0.3
million in 2013, $1.0 million in 2012, $0.6 million in 2011 and $0.2 million in 2010. As of December 31, 2014,
specific reserves allocated to impaired loans that had been subject to a previous partial charge-off totaled less than
$0.1 million.
The following table provides a breakdown of our loans categorized as troubled debt restructurings:
12/31/14
12/31/13
12/31/12
12/31/11
12/31/10
Performing
Nonperforming
$
24,001,000
$
30,247,000
$
38,148,000
$
26,155,000
$
12,263,000
26,433,000
4,645,000
12,612,000
14,508,000
19,050,000
Total
$
50,434,000
$
34,892,000
$
50,760,000
$
40,663,000
$
31,313,000
Although we believe the allowance is adequate to absorb losses as they arise, there can be no assurance that we will
not sustain losses in any given period that could be substantial in relation to, or greater than, the size of the
allowance.
In large part reflecting the merger with Firstbank, securities increased $302 million during 2014, totaling $433
million as of December 31, 2014. The securities portfolio equaled 15.5% of average earning assets during 2014.
Purchases during 2014, generally consisting of U.S. Government agency and municipal bonds, totaled $19.9 million.
Proceeds from matured and called U.S. Government agency and municipal bonds during 2014 totaled $40.0 million
and $18.0 million, respectively, with another $17.7 million from principal paydowns on mortgage-backed securities.
At December 31, 2014, the securities portfolio was primarily comprised of U.S. Government agency bonds (45%),
municipal bonds (33%) and U.S. Government agency issued or guaranteed mortgage-backed securities (22%). All
of our securities are currently designated as available for sale, and therefore are stated at fair value. The fair value of
securities designated as available for sale at December 31, 2014 totaled $433 million, including a net unrealized gain
of $0.3 million. We maintain the securities portfolio at levels to provide adequate pledging and secondary liquidity
for our daily operations. In addition, the securities portfolio serves a primary interest rate risk management function.
F-15
The following table reflects the composition of the securities portfolio:
12/31/14
12/31/13
12/31/12
Carrying
Value
Percent
Carrying
Value
Percent
Carrying
Value
Percent
U.S. Government agency
debt obligations
$
193,468,000
44.7%
$
98,477,000
75.1%
$
79,098,000
57.2%
Mortgage-backed
securities
Municipal general
obligations
93,561,000
21.6
13,558,000
10.3
21,996,000
15.9
133,082,000
30.8
16,872,000
12.9
22,743,000
16.5
Municipal revenue bonds
10,873,000
Other investments
1,928,000
2.5
0.4
916,000
1,355,000
0.7
1.0
1,817,000
12,660,000
1.3
9.1
Totals
$
432,912,000
100.0%
$
131,178,000
100.0%
$
138,314,000
100.0%
FHLB of Indianapolis (“FHLBI”) stock totaled $13.7 million as of December 31, 2014, an increase of $1.7 million
during 2014. During 2014, our FHLBI stock investment increased $7.2 million as a result of the merger with
Firstbank, but then declined in late 2014 by $5.5 million reflecting the impact of an involuntary excess stock
repurchase program by the FHLBI. We continue to receive regular quarterly cash dividends, and we expect a cash
dividend will continue in future quarterly periods.
Market values on our U.S. Government agency bonds, mortgage-backed securities issued or guaranteed by U.S.
Government agencies and municipal bonds are determined on a monthly basis with the assistance of a third party
vendor. Evaluated pricing models that vary by type of security and incorporate available market data are utilized.
Standard inputs include issuer and type of security, benchmark yields, reported trades, broker/dealer quotes and
issuer spreads. The market value of certain non-rated securities issued by relatively small municipalities generally
located within our markets is estimated at carrying value. We believe our valuation methodology provides for a
reasonable estimation of market value, and that it is consistent with the requirements of accounting guidelines.
Reference is made to Note 18 of the Notes to Consolidated Financial Statements for additional information.
F-16
The following table shows by class of maturities as of December 31, 2014, the amounts and weighted average yields
(on a fully taxable-equivalent basis) of investment securities:
Obligations of U.S. Government agencies:
One year or less
Over one through five years
Over five through ten years
Over ten years
Obligations of states and political subdivisions:
One year or less
Over one through five years
Over five through ten years
Over ten years
Mortgage-backed securities
Other investments
Carrying
Value
Average
Yield
$
10,960,000
73,105,000
26,365,000
83,038,000
193,468,000
16,702,000
74,869,000
43,826,000
8,558,000
143,955,000
93,561,000
1,928,000
0.31%
1.08
2.31
3.45
2.25
1.00
1.62
3.43
5.49
2.31
1.79
2.57
Totals
$ 432,912,000
2.17%
Federal funds sold, consisting of excess funds sold overnight to correspondent banks, along with investments in
interest-bearing deposits at correspondent and other banks, are used to manage daily liquidity needs and interest rate
sensitivity. The average balance of these funds equaled 4.5% of average earning assets during 2014, compared to
7.1% during 2013. We anticipate the level of these earning assets to average approximately 2% of average earning
assets in future periods, with the year-end 2014 excess over that amount expected to fund net loan growth during the
first part of 2015.
Non-Earning Assets
In large part reflecting the merger with Firstbank, cash and due from bank balances increased $26.6 million during
2014, while premises and fixed assets increased $23.9 million. As of December 31, 2014, cash and due from bank
balances totaled $43.8 million, and premises and fixed assets totaled $48.8 million. Foreclosed and repossessed
assets totaled $2.0 million at December 31, 2014, compared to $2.9 million at December 31, 2013. While we expect
further transfers from loans to foreclosed and repossessed assets in future periods reflecting our collection efforts on
some impaired lending relationships, we believe the strong quality of our loan portfolio combined with the increased
sales activity we have experienced during the past couple of years will continue and limit the overall increase in, and
average balance of, this nonperforming asset category.
Source of Funds
Primarily reflecting the merger with Firstbank, total deposits increased $1.16 billion during 2014, totaling $2.28
billion as of December 31, 2014. Out-of-area deposits decreased $37.5 million during 2014, and equaled 7.7% of
total deposits at year-end 2014, compared to 19.0% as of December 31, 2013.
Noninterest-bearing checking accounts increased $334 million during 2014. While the growth was primarily due to
the merger with Firstbank, noninterest-bearing checking accounts also increased due to deposit account openings as
part of new commercial lending relationships. Also primarily reflecting the impact of the Firstbank merger, interest-
bearing checking accounts increased $216 million, savings deposits grew $278 million, money market deposit
accounts increased $102 million and local time deposits grew $265 million during 2014.
F-17
Sweep accounts increased $98.3 million during 2014, totaling $168 million at December 31, 2014. The increase is
primarily due to the merger with Firstbank. Our sweep account program entails transferring collected funds from
certain business noninterest-bearing checking accounts to overnight interest-bearing repurchase agreements. Such
repurchase agreements are not deposit accounts and are not afforded federal deposit insurance. All of our repurchase
agreements are accounted for as secured borrowings.
Primarily reflecting the merger with Firstbank, FHLB advances increased $9.0 million during 2014, totaling $54.0
million as of December 31, 2014. The FHLB advances are generally collateralized by a blanket lien on our
residential mortgage loan portfolio. Our borrowing line of credit at year-end 2014 totaled $410 million, with
availability of $356 million.
Shareholders’ equity increased $175 million during 2014, primarily reflecting the merger with Firstbank. We issued
almost 8.1 million shares of common stock, with a value of $173 million, in connection with the Firstbank merger.
Net income totaled $17.3 million during 2014. Negatively impacting shareholders’ equity during 2014 were cash
dividends on our common stock totaling $24.5 million. In accordance with the plan of merger with Firstbank, we
declared and paid a special $2.00 per share cash dividend to Mercantile shareholders prior to the effective date of the
merger and before the issuance of Mercantile shares in exchange for Firstbank shares. In addition, we declared and
paid a $0.12 per share cash dividend during each of the four quarters during 2014. Positively impacting
shareholders’ equity during 2014 was an increase in the net unrealized gain on securities available for sale of $5.6
million.
RESULTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 2014 and 2013
Summary
We recorded net income of $17.3 million, or $1.28 per basic and diluted share, for 2014, compared to net income of
$17.0 million, or $1.96 per basic share and $1.95 per diluted share, for 2013. The results for 2014 and 2013 were
impacted by the merger with Firstbank, which was consummated on June 1, 2014; operating results for 2014 include
seven months of operations as a combined organization. After-tax merger-related costs totaled $3.8 million, or
$0.28 per basic and diluted share, during 2014 and $1.1 million, or $0.13 per basic and diluted share, during 2013.
We do not expect to record any further significant costs related to the Firstbank merger in future periods. Our
projected annual cost savings as disclosed at the time the merger was announced were $5.5 million, or
approximately $1.4 million quarterly. Our fourth quarter 2014 results included realizing a vast majority of this
target. We expect to realize the full amount of this target in the first quarter of 2015 and subsequent quarters.
The improved earnings performance in 2014 compared to 2013 primarily resulted from increased net interest
income, which more than offset increased overhead costs. The increased net interest income primarily resulted from
the higher level of average earning assets associated with the completion of the merger. Various nonmerger-related
costs necessary to operate the combined company, along with a higher level of merger-related costs, resulted in the
increase in overhead costs. The continued improvement in the quality of our loan portfolio and associated
recoveries of previously charged-off loans, reversals of specific reserves, reduced level of loan-rating downgrades
and ongoing loan-rating upgrades produced a positive impact on our loan loss reserve calculations and allowed us to
make negative provisions to the loan loss reserve during 2014 and 2013. Increased noninterest income also
contributed to the improved earnings performance in 2014; substantially all categories of noninterest income
benefitted from the consummation of the merger.
The following table shows some of the key performance and equity ratios for the years ended December 31, 2014
and 2013:
Return on average assets
Return on average shareholders’ equity
Average shareholders’ equity to average assets
2014
2013
0.76%
6.91%
11.05%
1.22%
11.36%
10.77%
F-18
Net Interest Income
Net interest income, the difference between revenue generated from earning assets and the interest cost of funding
those assets, is our primary source of earnings. Interest income (adjusted for tax-exempt income) and interest
expense totaled $89.6 million and $11.3 million during 2014, respectively, providing for net interest income of
$78.3 million. During 2013, interest income and interest expense equaled $58.7 million and $10.8 million,
respectively, providing for net interest income of $47.9 million.
In comparing 2014 with 2013, interest income increased 52.6%, interest expense was up 5.1%, and net interest
income increased 63.3%. The level of net interest income is primarily a function of asset size, as the weighted
average interest rate received on earning assets is greater than the weighted average interest cost of funding sources;
however, factors such as types and levels of assets and liabilities, the interest rate environment, interest rate risk,
asset quality, liquidity, and customer behavior also impact net interest income as well as the net interest margin.
The $30.4 million increase in net interest income in 2014 compared to 2013 primarily resulted from a higher level of
average earning assets. Average earning assets include Firstbank’s assets from the date of acquisition. During
2014, the net interest margin equaled 3.75%, up from 3.73% during 2013. Although our yield on earning assets
declined in 2014 compared to 2013 primarily due to decreased yields on average securities and loans, our cost of
funds declined at a greater rate, resulting in the improved net interest margin. The declines in the yields on
securities and loans reflect the ongoing low interest rate environment, while the cost of funds was positively
impacted by the absorption of Firstbank’s lower-costing interest-bearing liability base and the lowering of interest
rates on certain non-certificate of deposit accounts in the latter part of the fourth quarter of 2013.
The following table depicts the average balance, interest earned and paid, and weighted average rate of our assets,
liabilities and shareholders’ equity during 2014, 2013 and 2012. The subsequent table also depicts the dollar amount
of change in interest income and interest expense of interest-earning assets and interest-bearing liabilities,
segregated between change due to volume and change due to rate. For tax-exempt investment securities, interest
income and yield have been computed on a tax equivalent basis using a marginal tax rate of 35%. As a result,
securities interest income was increased by $0.5 million in both 2014 and 2013 and $0.6 million in 2012.
F-19
(Dollars in thousands)
Years ended December 31,
---------------------- 2 0 1 4 -----------------
Average
Rate
Average
Balance
Interest
----------------------- 2 0 13 -----------------
Average
Rate
Average
Balance
Interest
---------------------- 2 0 1 2 -----------------
Average
Rate
Average
Balance
Interest
Taxable securities $
Tax-exempt
securities
Total securities
262,696 $
6,417
2.44%
$
117,887 $
4,134
3.51%
$
112,122 $
4,383
3.91%
78,075
340,771
2,157
8,574
2.76
2.52
25,706
143,593
1,434
5,568
5.58
3.88
40,818
152,940
2,018
6,401
4.94
4.19
Loans
Interest-bearing
deposits
Federal funds sold
Total earning
assets
Allowance for loan
losses
Cash and due
from banks
Other non-earning
assets
1,653,605
80,824
4.89
1,050,961
52,924
5.04
1,049,315
53,898
5.14
46,161
48,690
110
124
0.24
0.25
7,703
83,468
21
212
0.28
0.25
10,522
75,678
29
192
0.28
0.25
2,089,227
89,632
4.29
1,285,725
58,725
4.57
1,288,455
60,520
4.70
(21,214)
35,248
166,652
(26,505)
17,420
115,758
(31,171)
16,217
132,105
Total assets
$ 2,269,913
$ 1,392,398
$ 1,405,606
Interest-bearing
demand deposits $
Savings deposits
Money market
accounts
Time deposits
Total interest-
bearing deposits
1,391,818
105,474
Short-term
borrowings
Federal Home Loan
Bank advances
Other borrowings
Total interest-
bearing liabilities 1,600,390
51,456
51,642
323,335 $
223,658
1,141
405
0.35%
0.18
$
204,945 $
55,214
1,276
142
0.62%
0.26
$
205,848 $
42,452
1,572
118
0.76%
0.28
196,723
648,102
364
6,468
0.19
1.00
134,875
504,672
366
7,128
0.27
1.41
148,596
549,535
571
8,876
0.38
1.62
8,378
0.60
899,706
8,912
0.99
946,431
11,137
1.18
122
0.12
636
2,204
1.24
4.27
65,939
39,082
34,505
80
0.12
533
1,261
1.36
3.65
61,930
39,809
34,406
157
0.25
993
929
2.49
2.70
11,340
0.71
1,039,232
10,786
1.04
1,082,576
13,216
1.22
Demand deposits
Other liabilities
Total liabilities
Average equity
Total liabilities
and equity
407,870
10,774
2,019,034
250,879
$ 2,269,913
197,621
5,555
1,242,408
149,990
$ 1,392,398
164,081
5,675
1,252,332
153,274
$ 1,405,606
Net interest
income
Rate spread
Net interest
margin
$
78,292
$
47,939
$
47,304
3.58%
3.75%
3.53%
3.73%
3.48%
3.67%
F-20
----------------- 2014 over 2013 -----------------
Volume
Total
Rate
----------------- 2013 over 2012 -----------------
Volume
Total
Rate
Years ended December 31,
Increase (decrease) in interest income
Taxable securities
Tax exempt securities
Loans
Interest-bearing deposit balances
Federal funds sold
Net change in tax-equivalent
$ 2,283,000
723,000
27,900,000
89,000
(88,000)
$ 3,842,000
1,740,000
29,447,000
92,000
(88,000)
$ (1,559,000) $ (249,000) $
(1,017,000)
(1,547,000)
(3,000)
0
(584,000)
(974,000)
(8,000)
20,000
218,000
(818,000)
136,000
(8,000)
20,000
$ (467,000)
234,000
(1,110,000)
0
0
interest income
30,907,000
35,033,000
(4,126,000)
(1,795,000)
(452,000)
(1,343,000)
Increase (decrease) in interest expense
Interest-bearing demand deposits
Savings deposits
Money market accounts
Time deposits
Short-term borrowings
Federal Home Loan Bank
advances
Other borrowings
Net change in interest
expense
Net change in tax-equivalent
(135,000)
263,000
(2,000)
(660,000)
42,000
555,000
316,000
136,000
1,733,000
46,000
(690,000)
(53,000)
(138,000)
(2,393,000)
(4,000)
(296,000)
24,000
(205,000)
(1,748,000)
(77,000)
(7,000)
33,000
(49,000)
(689,000)
10,000
(289,000)
(9,000)
(156,000)
(1,059,000)
(87,000)
103,000
943,000
157,000
705,000
(54,000)
238,000
(460,000)
332,000
(18,000)
3,000
(442,000)
329,000
554,000
3,648,000
(3,094,000)
(2,430,000)
(717,000)
(1,713,000)
net interest income
$30,353,000
$31,385,000
$ (1,032,000) $
635,000
$
265,000
$
370,000
Interest income is primarily generated from the loan portfolio, and to a significantly lesser degree, from securities,
federal funds sold, and interest-bearing deposits. Interest income increased $30.9 million during 2014 from that
earned in 2013, totaling $89.6 million in 2014 compared to $58.7 million in the previous year. The increase in
interest income is attributable to a higher level of average earning assets, which more than offset a decreased yield
on average earning assets. During 2014 and 2013, earning assets had an average yield (tax equivalent-adjusted
basis) of 4.29% and 4.57%, respectively. The decline in earning asset yield in 2014 mainly resulted from a
decreased yield on average securities, and to a lesser extent, a decreased yield on average loans. During 2014,
earning assets averaged $2.09 billion, or $803.5 million higher than average earning assets during 2013. Average
loans increased $602.6 million, average securities increased $197.2 million, average interest-bearing deposits
increased $38.5 million, and average federal funds sold decreased $34.8 million.
Interest income generated from the loan portfolio increased $27.9 million in 2014 compared to the level earned in
2013; growth in the loan portfolio during 2014 resulted in a $29.4 million increase in interest income, while a
decline in loan yield from 5.04% in 2013 to 4.89% in 2014 resulted in a $1.5 million decrease in interest income.
The lower yield on average loans mainly resulted from a decreased yield on average commercial loans, which
equaled 4.83% in 2014 compared to 5.06% in 2013. The commercial loan yield was negatively impacted by the
lowering of rates on certain commercial loans throughout 2013 and 2014 as a result of borrowers warranting
decreased loan rates due to improved financial performance, the renewal of certain maturing term loans at lower
rates, and competitive pricing pressures. In addition, the commercial loan yield was negatively impacted by an
ongoing interest rate risk management strategy implemented in early 2011 whereby certain commercial loan
relationships are being converted from the Mercantile Bank Prime Rate to the Wall Street Journal Prime Rate; this
strategy, which helps mitigate interest rate risk exposure in an increasing rate environment, has a short-term negative
impact on net interest income as the conversions generally involve interest rate reductions. Accretion of acquired
loans totaled $3.2 million during 2014.
F-21
Interest income generated from the securities portfolio increased $3.0 million in 2014 compared to the level earned
in 2013 due to portfolio growth associated with the merger with Firstbank, which more than offset a lower yield on
average securities. The higher average portfolio balance resulted in a $5.6 million increase in interest income, while
the lower yield on average securities equated to a decrease in interest income of $2.6 million. Average securities
equaled $340.8 million during 2014, up from $143.6 million during 2013. The yield on securities equaled 2.52% in
2014 compared to 3.88% in 2013; the lower yield on average securities primarily resulted from decreased yields on
municipal securities, mortgage-backed securities, and U.S. Government agency bonds, reflecting the ongoing low
interest rate environment.
Interest income earned on federal funds sold decreased $0.1 million in 2014 compared to 2013 due to a lower
average balance, while interest income earned on interest-bearing deposits increased $0.1 million due to a higher
average balance, which more than offset a slight decline in yield.
Interest expense is primarily generated from interest-bearing deposits, and to a lesser degree, from subordinated
debentures, FHLB advances, repurchase agreements, and other borrowings. Interest expense increased $0.5 million
during 2014 from that expensed in 2013, totaling $11.3 million in 2014 compared to $10.8 million in the previous
year. The increase in interest expense is attributable to a higher level of average interest-bearing liabilities,
primarily reflecting the completion of the merger, which more than offset a decreased cost of funds.
During 2014 and 2013, interest-bearing liabilities had a weighted average rate of 0.71% and 1.04%, respectively; a
decline in interest expense of $3.1 million was recorded during 2014 due to the decreased cost of funds. The
absorption of Firstbank’s lower-costing interest-bearing liability base and the lowering of interest rates on certain
non-certificate of deposit accounts in the latter part of the fourth quarter of 2013 positively impacted the cost of
funds during 2014. In addition, maturing fixed-rate certificates of deposit were renewed at lower rates, replaced by
lower-costing funds, or allowed to runoff during 2013 and 2014.
During 2014, interest-bearing liabilities averaged $1.60 billion, or $561.2 million higher than average interest-
bearing liabilities of $1.04 billion during the prior year. Growth in these liabilities resulted in increased interest
expense of $3.6 million. Interest-bearing liabilities include Firstbank’s liabilities from the date of acquisition.
Average interest-bearing deposits were up $492.1 million, while average short-term borrowings increased $39.6
million, average other borrowings increased $17.1 million, and average FHLB advances increased $12.4 million.
Average certificates of deposit increased $143.4 million during 2014, which equated to an increase in interest
expense of $1.7 million. A $2.4 million reduction in interest expense resulted from a decrease in the average rate
paid as higher-rate certificates of deposit matured and were renewed at lower rates, replaced with lower-costing
funds, or allowed to runoff throughout 2013 and 2014. An increase in other average interest-bearing deposit
accounts, totaling $348.7 million, equated to a $1.0 million increase in interest expense, while a decrease in the
average rate paid on these deposit accounts resulted in a $0.9 million decline in interest expense.
Average short-term borrowings, comprised entirely of repurchase agreements, increased $39.6 million during 2014,
resulting in a slight increase in interest expense. Average FHLB advances increased $12.4 million, resulting in a
$0.2 million increase in interest expense, while a lower average rate paid on the advances resulted in a $0.1 million
decrease in interest expense. A $17.1 million increase in average other borrowings, which is comprised of
subordinated debentures and deferred director and officer compensation programs, equated to a $0.7 million
increase in interest expense, while a higher average rate paid on these borrowings resulted in a $0.2 million increase
in interest expense.
F-22
Net interest income and the net interest margin were affected by purchase accounting accretion and amortization
entries associated with the fair value measurements recorded effective June 1, 2014. An increase in interest income
on loans totaling $3.2 million, as well as a decrease in interest expense on deposits and FHLB advances aggregating
$1.4 million, were recorded during the seven months subsequent to consummation of the Firstbank merger. An
increase in interest expense on subordinated debentures totaling $0.4 million was also recorded during the same time
period. Mercantile expects to continue to record adjustments in interest income on loans and interest expense on
subordinated debentures in future periods; however, the adjustments to interest expense on deposits and FHLB
advances will no longer occur after July of 2015 in accordance with our fair value measurements at the time of the
merger. The resulting increase in interest expense will negatively affect our net interest margin by approximately
nine basis points in future periods starting after July 31, 2015. An ongoing reallocation of our earning asset mix will
help offset this negative impact, as excess lower-yielding overnight funds and cash flows from lower-yielding
investments are invested into higher-yielding loans.
Provision for Loan Losses
A negative loan loss provision expense of $3.0 million was recorded in 2014, compared to a negative provision
expense of $7.2 million recorded in 2013. The negative provision expense reflects recoveries of previously charged-
off loans, reversals of specific reserves, a reduced level of loan-rating downgrades, and ongoing loan-rating
upgrades as the quality of the loan portfolio continued to improve. Continued progress in the stabilization of
economic and real estate market conditions and resulting collateral valuations also positively impacted provision
expense.
Net loan recoveries of $0.2 million were recorded during 2014, compared to net loan recoveries of $1.3 million
recorded during the prior year. The allowance for originated loans, as a percentage of total originated loans, was
1.6% as of December 31, 2014, compared to 2.2% as of December 31, 2013. Our allowance for acquired loans
totaled $0.7 million as of December 31, 2014.
Noninterest Income
Noninterest income totaled $10.0 million in 2014, an increase of $3.1 million, or 45.9%, from the $6.9 million
earned in 2013. The increase in noninterest income was mainly due to higher debit and credit card fee income,
service charges on deposit accounts, and mortgage referral and sale fees. These categories of noninterest income
benefited from the consummation of the merger with Firstbank. An industry-wide slowdown in mortgage banking
activity negatively affected our mortgage banking income during 2014; however, reflecting lower interest rates,
mortgage banking income in the fourth quarter of 2014 increased approximately 21 percent in comparison to the
linked quarter, and was approximately 10 percent below what Firstbank and Mercantile combined had achieved in
the fourth quarter of 2013. During the third quarter of 2014, mortgage banking income was less than half of what
the two companies combined recorded during the third quarter of 2013.
Noninterest Expense
Noninterest expense during 2014 totaled $65.6 million, an increase of $29.2 million, or 80.2%, from the $36.4
million expensed in 2013. The increase in noninterest expense primarily resulted from higher salary and benefit
expenses; these expenses totaled $33.7 million during 2014, an increase of $13.4 million, or 66.0%, from the $20.3
million expensed during 2013. The increase in salary and benefit expenses was mainly due to the increase in
employees associated with the completion of the merger with Firstbank, along with the hiring of additional staff
members over the past year and merit pay increases. As of December 31, 2014, full-time equivalent employees
numbered 653, up from 241 as of December 31, 2013. In addition, we recorded core deposit intangible expense
totaling $1.9 million during the last seven months of 2014.
Increases in merger-related expenses and other categories of nonmerger-related costs necessary to operate the
combined company also contributed to the higher level of overhead costs. Pre-tax merger-related costs totaled $5.4
million in 2014 compared to $1.2 million in 2013.
F-23
Federal Income Tax Expense
During 2014, we recorded income before federal income tax of $25.2 million and a federal income tax expense of
$7.9 million, compared to income before federal income tax of $25.1 million and a federal income tax expense of
$8.1 million during 2013. The decline in federal income tax expense resulted from a decrease in our effective tax
rate from 32.2% in 2013 to 31.2% in 2014, generally reflecting a higher level of tax-exempt interest income in 2014.
Preferred Stock Dividends and Accretion
Preferred stock dividends and discount accretion totaled $1.0 million during 2012. No preferred stock dividends and
discount accretion were recorded during 2014 or 2013 as we repurchased the $21.0 million in non-voting preferred
stock issued in May of 2009 to the U.S. Department of the Treasury under the Treasury’s Capital Purchase Program,
as part of the Troubled Asset Relief Program, during the second quarter of 2012.
RESULTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 2013 and 2012
Summary
We recorded net income attributable to common shares of $17.0 million, or $1.96 per basic share and $1.95 per
diluted share, for 2013, compared to net income attributable to common shares of $11.5 million, or $1.33 per basic
share and $1.30 per diluted share, for 2012. The results for 2013 include costs associated with our pending merger
with Firstbank Corporation. On an after-tax basis, we expensed $1.2 million during 2013, nearly all of which was
expensed during the third and fourth quarters.
The improved earnings performance in 2013 compared to 2012 resulted from a larger negative loan loss provision,
decreased overhead costs, lower preferred stock dividends and discount accretion, and increased net interest income.
The continued improvement in the quality of our loan portfolio and recoveries of prior period loan charge-offs
produced a positive impact on our loan loss reserve calculations and allowed us to make negative provisions to the
loan loss reserve during 2013 and 2012. The decline in preferred stock dividends and discount accretion in 2013
compared to 2012 resulted from us repurchasing the non-voting preferred stock issued in May of 2009 to the U.S.
Department of the Treasury during the second quarter of 2012.
The decline in overhead costs in 2013 mainly resulted from decreased problem asset administration and resolution
costs. Gains on sales of other real estate, which are netted against problem asset costs, contributed to the reduction
in costs associated with the administration and resolution of problem assets in 2013 compared to the prior year;
excluding the impact of these gains, problem asset costs still decreased significantly in 2013 compared to 2012.
Costs associated with the administration and resolution of problem assets remained elevated; however, these costs
trended downward during 2011, 2012, and 2013 as the level of problem assets declined. Although decreasing, the
level of problem assets remained elevated compared to pre-2006 levels as a result of the state, regional and national
economic struggles experienced over the past few years and related impact on certain of our borrowers.
A higher net interest margin, which more than offset a slight decline in average earning assets, resulted in an
increased level of net interest income in 2013 compared to 2012. The yield on average earning assets, although
declining in comparison to 2012 primarily due to decreased yields on average loans and securities, was relatively
stable throughout 2013 as the collection of unaccrued interest on several larger nonaccrual commercial loan
relationships that were paid off during the year and the collection of prepayment fees associated with several larger
performing commercial loan relationships substantially offset a high level of lower-yielding federal funds sold. The
cost of funds declined in 2013 compared to 2012 mainly due to decreases in the costs of various certificate of
deposit account categories, certain non-certificate of deposit account categories, FHLB advances, and repurchase
agreements and a change in interest-bearing liability mix, most notably a decrease in various higher-costing average
certificates of deposit account categories and increases in certain lower-costing non-certificate of deposit account
categories and repurchase agreements as a percentage of average interest-bearing liabilities.
F-24
The following table shows some of the key performance and equity ratios for the years ended December 31, 2013
and 2012:
Return on average assets
Return on average shareholders’ equity
Average shareholders’ equity to average assets
2013
2012
1.22%
11.36%
10.77%
0.82%
7.51%
10.90%
Net Interest Income
Net interest income, the difference between revenue generated from earning assets and the interest cost of funding
those assets, is our primary source of earnings. Interest income (adjusted for tax-exempt income) and interest
expense totaled $58.7 million and $10.8 million during 2013, respectively, providing for net interest income of
$47.9 million. During 2012, interest income and interest expense equaled $60.5 million and $13.2 million,
respectively, providing for net interest income of $47.3 million.
In comparing 2013 with 2012, interest income decreased 3.0%, interest expense was down 18.4%, and net interest
income increased 1.3%. The level of net interest income is primarily a function of asset size, as the weighted
average interest rate received on earning assets is greater than the weighted average interest cost of funding sources;
however, factors such as types and levels of assets and liabilities, interest rate environment, interest rate risk, asset
quality, liquidity, and customer behavior also impact net interest income as well as the net interest margin.
The $0.6 million increase in net interest income in 2013 compared to 2012 resulted from an improved net interest
margin, which more than offset a slight decline in average earning assets. During 2013, the net interest margin
equaled 3.73%, up from 3.67% during 2012. Although our yield on earning assets declined in 2013 compared to
2012 primarily due to a decreased yield on average loans, our cost of funds declined at a greater rate, resulting in the
improved net interest margin. The decline in loan yield primarily resulted from a decreased yield on commercial
loans, while the cost of funds decreased primarily due to decreases in the costs of various certificate of deposit
account categories, certain non-certificate of deposit account categories, FHLB advances, and repurchase
agreements and a change in funding mix, most notably a decrease in higher-costing average certificates of deposit
and increases in certain lower-costing non-certificate of deposit accounts, noninterest-bearing deposit accounts, and
repurchase agreements as a percentage of average total funding sources.
Interest income is primarily generated from the loan portfolio, and to a significantly lesser degree, from securities,
federal funds sold, and interest-bearing deposit balances. Interest income decreased $1.8 million during 2013 from
that earned in 2012, totaling $58.7 million in 2013 compared to $60.5 million in the previous year. The reduction in
interest income is attributable to a decreased yield on average earning assets and, to a much lesser extent, a lower
level of average earning assets. During 2013 and 2012, earning assets had an average yield (tax equivalent-adjusted
basis) of 4.57% and 4.70%, respectively. The decline in earning asset yield in 2013 mainly resulted from a
decreased yield on average loans, and to a lesser extent, a decreased yield on average securities. During 2013,
earning assets averaged $1.29 billion, or $2.7 million lower than average earning assets during 2012. Average
securities were down $9.3 million, average federal funds sold increased $7.8 million, average interest-bearing
deposit balances decreased $2.8 million, and average loans increased $1.6 million.
F-25
Interest income generated from the loan portfolio decreased $1.0 million in 2013 compared to the level earned in
2012; a decline in loan yield from 5.14% in 2012 to 5.04% in 2013 resulted in a $1.1 million decrease in interest
income, while growth in the loan portfolio during 2013 resulted in a $0.1 million increase in interest income. The
lower yield on average loans mainly resulted from a decreased yield on average commercial loans, which equaled
5.06% in 2013 compared to 5.16% in 2012. The commercial loan yield was negatively impacted by the lowering of
rates on certain commercial loans throughout 2012 and 2013 as a result of borrowers warranting decreased loan rates
due to improved financial performance, the renewal of certain maturing term loans at lower rates, and competitive
pricing pressures. In addition, the commercial loan yield was negatively impacted by an ongoing interest rate risk
management strategy implemented in early 2011 whereby certain commercial loan relationships are being converted
from the Mercantile Bank Prime Rate to the Wall Street Journal Prime Rate; this strategy, which helps mitigate
interest rate risk exposure in an increasing rate environment, has a short-term negative impact on net interest income
as the conversions generally involve interest rate reductions. A declining level of nonaccrual loans and the
collection of unaccrued interest on nonaccrual commercial loan relationships that were paid off and commercial loan
prepayment fees helped mitigate the negative impact of these factors on the commercial loan yield. Unaccrued
interest totaling $1.9 million was collected on the paid off nonaccrual commercial loan relationships and recorded as
interest income during 2013.
Interest income generated from the securities portfolio decreased $0.8 million in 2013 compared to the level earned
in 2012 due to portfolio contraction and a lower yield on average securities, which equaled 3.88% in 2013 compared
to 4.19% in 2012. The reduced average portfolio balance resulted in a $0.6 million decrease in interest income,
while the lower yield on average securities equated to a decrease in interest income of $0.2 million. Average
securities equaled $143.6 million during 2013, down from $152.9 million during 2012 primarily due to decreases in
the average balances of mortgage-backed securities, municipal securities, and Michigan Strategic Fund bonds,
which more than offset an increase in the average balance of U.S. Government agency bonds. The lower yield on
average securities resulted from a decreased yield on U.S. Government agency bonds, reflecting a decline in market
rates, and a shift in the securities portfolio mix from higher-yielding mortgage-backed and municipal securities to
lower-yielding agency bonds. The yield on U.S. Government agency bonds was 3.28% during 2013 compared to
3.70% during 2012. Purchases of U.S. Government agency bonds with lower yields during 2012 and 2013 using
proceeds received from called bonds of the same type and called and matured municipal securities and principal
paydowns on mortgage-backed securities negatively impacted the yield on average securities. Proceeds received
from called U.S. Government agency bonds totaled $78.4 million and $20.0 million in 2012 and 2013, respectively,
while proceeds from called and matured municipal bonds totaled $7.1 million and $6.1 million in 2012 and 2013,
respectively. Principal payments received on mortgage-backed securities totaled $11.7 million in 2012 and $7.8
million in 2013. The bond purchases were necessary to meet pledging requirements and internal funds management
policy guidelines. Unaccreted discount of $30,000 related to called U.S. Government agency bonds was recognized
as income during 2013; excluding this discount, the yield on U.S. Government agency bonds would have been
3.25% in 2013. Unaccreted discount of $116,000 related to called U.S. Government agency bonds was recognized
as income during 2012; excluding this discount, the yield on U.S. Government agency bonds would have been
3.54% in 2012. Average U.S. Government agency bonds, municipal securities, and mortgage-backed securities
represented 61.0%, 14.3%, and 11.8%, respectively, of average total securities during 2013 compared to 46.0%,
18.5%, and 18.6%, respectively, during 2012. A decline in the market value of the available for sale securities
portfolio during 2013 partially offset the negative impacts of the decreased yield on U.S. Government agency bonds
and the shift in securities portfolio mix on portfolio yield. The average net unrealized loss on available for sale
securities equaled $1.5 million during 2013, while the average net unrealized gain on available for sale securities
equaled $5.1 million during 2012.
Interest income earned on federal funds sold increased slightly in 2013 compared to 2012 due to a higher average
balance, while interest income earned on interest-bearing deposit balances decreased slightly due to a lower average
balance.
Interest expense is primarily generated from interest-bearing deposits, and to a lesser degree, from subordinated
debentures, FHLB advances, repurchase agreements, and other borrowings. Interest expense decreased $2.4 million
during 2013 from that expensed in 2012, totaling $10.8 million in 2012 compared to $13.2 million in the previous
year. The decline in interest expense is attributable to a decreased cost of funds and a lower level of average
interest-bearing liabilities.
F-26
During 2013 and 2012, interest-bearing liabilities had a weighted average rate of 1.04% and 1.22%, respectively; a
decline in interest expense of $1.7 million was recorded during 2013 due to the decreased cost of funds. The lower
weighted average cost of interest-bearing liabilities was primarily due to decreases in the costs of various certificate
of deposit account categories, certain non-certificate of deposit account categories, FHLB advances, and repurchase
agreements and a change in interest-bearing liability mix, most notably a decrease in various higher-costing average
certificates of deposit account categories and increases in certain lower-costing non-certificate of deposit account
categories and repurchase agreements as a percentage of average interest-bearing liabilities. Market interest rates
began falling in the latter part of 2007 and have remained low since. The lowering of interest rates on non-
certificate of deposit accounts and repurchase agreements periodically during 2012 positively impacted the weighted
average cost of interest-bearing liabilities in 2013; interest rates on certain non-certificate of deposit accounts were
also reduced in December of 2013. In addition, maturing fixed-rate certificates of deposit and FHLB advances were
renewed at lower rates, replaced by lower-costing funds, or allowed to runoff during 2012 and 2013.
During 2013, interest-bearing liabilities averaged $1.04 billion, or $43.3 million lower than average interest-bearing
liabilities of $1.08 billion during the prior year. This reduction resulted in decreased interest expense of $0.7
million. Average interest-bearing deposits were down $46.7 million, while average short-term borrowings increased
$4.0 million, average FHLB advances decreased $0.7 million, and average other borrowings increased $0.1 million.
Average certificates of deposit declined $44.9 million during 2013, which equated to a decrease in interest expense
of $0.7 million. An additional $1.0 million reduction in interest expense resulted from a decrease in the average rate
paid as higher-rate certificates of deposit matured and were renewed at lower rates, replaced with lower-costing
funds, or allowed to runoff throughout 2013. A reduction in other average interest-bearing deposit accounts, totaling
$1.9 million, equated to a nominal decrease in interest expense, while a decrease in the average rate paid on these
deposit accounts resulted in a $0.5 million decline in interest expense.
Average short-term borrowings, comprised entirely of repurchase agreements, increased $4.0 million during 2013,
resulting in a slight increase in interest expense, while a decrease in the average rate paid during 2013 resulted in a
reduction in interest expense of $0.1 million. Average FHLB advances decreased $0.7 million, resulting in a
nominal decrease in interest expense, while a lower average rate paid on the advances resulted in a $0.4 million
decrease in interest expense. A $0.1 million increase in average other borrowings, which is comprised of
subordinated debentures and deferred director and officer compensation programs, equated to a nominal increase in
interest expense, while a higher average rate paid on subordinated debentures resulted in a $0.3 million increase in
interest expense.
Provision for Loan Losses
A negative loan loss provision expense of $7.2 million was recorded in 2013, compared to a negative provision
expense of $3.1 million recorded in 2012. The negative provision expense reflects recoveries of previously charged-
off loans and a reduced level of loan-rating downgrades and ongoing loan-rating upgrades as the quality of the loan
portfolio continued to improve. Continued progress in the stabilization of economic and real estate market
conditions and resulting collateral valuations also positively impacted provision expense. Recoveries of previously
charged-off loans totaled $6.6 million during 2013, while loan charge-offs not specifically reserved for in prior
periods amounted to $1.4 million, resulting in a net positive impact of $5.2 million on provision expense. Net loan
recoveries of $1.3 million were recorded during 2013, compared to net loan charge-offs of $4.8 million during the
prior year. Of the $5.2 million in gross loans charged-off during 2013, $3.9 million, or 73.4%, represents the
elimination of specific reserves that were established through provision expense in earlier periods. Nonperforming
loans totaled $6.7 million, or 0.6% of total loans, as of December 31, 2013, compared to $19.0 million, or 1.8% of
total loans, as of December 31, 2012. The allowance, as a percentage of total loans outstanding, was 2.2% as of
December 31, 2013, compared to 2.8% as of December 31, 2012.
F-27
Noninterest Income
Noninterest income totaled $6.9 million in 2013, a decrease of $1.1 million, or 14.0%, from the $8.0 million earned
in 2012. The decrease in noninterest income was mainly due to lower residential mortgage banking fee income,
rental income from foreclosed properties, and earnings on bank owned life insurance. Residential mortgage rates
were relatively stable during 2012 and the first few months of 2013, resulting in a lower level of refinance activity
during 2013 as many qualifying borrowers had already refinanced at these rates during 2012. Residential mortgage
rates began increasing during the latter part of the second quarter of 2013, continued increasing during the early part
of the third quarter, and stabilized during the rest of the year. Increased fee income from the sales of purchase
mortgages during 2013 helped mitigate the decreased fee income resulting from the lower level of refinance activity.
A reduction in the number of foreclosed properties, reflecting ongoing sales of these properties, resulted in the
decreased rental income, while the decline in earnings on bank owned life insurance primarily resulted from reduced
investment yields, as paydowns on mortgage-backed securities were reinvested into similar securities with lower
rates.
Noninterest Expense
Noninterest expense during 2013 totaled $36.4 million, a decrease of $3.2 million, or 8.1%, from the $39.6 million
expensed in 2012. Merger-related costs were $1.2 million during 2013. The decrease in noninterest expense
primarily resulted from lower problem asset administration and resolution costs and FDIC insurance premiums.
Problem asset administration and resolution costs totaled $0.6 million during 2013, a decrease of $5.3 million, or
89.8%, from the $5.9 million in costs incurred during 2012. Gains on sales of other real estate owned, which are
netted against problem asset costs, totaled $2.3 million in 2013 compared to $1.3 million in 2012.
FDIC insurance costs were $0.8 million during 2013, a decrease of $0.4 million, or 33.9%, from the $1.2 million in
costs incurred during 2012. The lower premiums mainly resulted from a decreased assessment rate, reflecting
further improvement in our financial condition and operating performance.
Federal Income Tax Expense
During 2013, we recorded income before federal income tax of $25.1 million and a federal income tax expense of
$8.1 million, compared to income before federal income tax of $18.2 million and a federal income tax expense of
$5.6 million during 2012. The increase in federal income tax expense resulted from the higher level of income
before federal income tax and an increase in our effective tax rate from 31.0% in 2012 to 32.2% in 2013.
Preferred Stock Dividends and Accretion
Preferred stock dividends and discount accretion totaled $1.0 million during 2012. No preferred stock dividends and
discount accretion were recorded during 2013 as we repurchased the $21.0 million in non-voting preferred stock
issued in May of 2009 to the U.S. Department of the Treasury under the Treasury’s Capital Purchase Program, as
part of the Troubled Asset Relief Program, during the second quarter of 2012.
CAPITAL RESOURCES
Shareholders’ equity increased $175 million during 2014, primarily reflecting the merger with Firstbank. We issued
almost 8.1 million shares of common stock, with a value of $173 million, in connection with the Firstbank merger.
Net income totaled $17.3 million during 2014. Negatively impacting shareholders’ equity during 2014 were cash
dividends on our common stock totaling $24.5 million. In accordance with the plan of merger with Firstbank, we
declared and paid a special $2.00 per share cash dividend to Mercantile shareholders prior to the effective date of the
merger and before the issuance of Mercantile shares in exchange for Firstbank shares. In addition, we declared and
paid a $0.12 per share cash dividend during each of the four quarters during 2014. Positively impacting
shareholders’ equity during 2014 was an increase in the net unrealized gain on securities available for sale of $5.6
million.
F-28
We and our bank are subject to regulatory capital requirements administered by state and federal banking agencies.
Failure to meet the various capital requirements can initiate regulatory action that could have a direct material effect
on the financial statements. As of December 31, 2014, our bank’s total risk-based capital ratio was 14.4%,
compared to 15.7% at December 31, 2013. Our bank’s total regulatory capital increased $142 million during 2014,
primarily reflecting the net impact of the Firstbank merger whereby the Firstbank and Keystone Community Bank
charters were consolidated into the existing Mercantile Bank of Michigan charter, and net income of $21.2 million.
Negatively impacting total regulatory capital were cash dividends paid to Mercantile Bank Corporation during 2014
totaling $12.1 million. Our bank’s total risk-based capital ratio was also impacted by a $1.10 billion increase in total
risk-weighted assets, primarily resulting from the merger with Firstbank. As of December 31, 2014, our bank’s total
regulatory capital equaled $333 million, or approximately $101 million in excess of the amount necessary to attain
the 10.0% minimum total risk-based capital ratio, which is among the requirements to be categorized as “well
capitalized.”
On January 30, 2015, we announced that our Board of Directors had authorized a new program to repurchase up to
$20.0 million of our common stock from time to time in open market transactions at prevailing market prices or by
other means in accordance with applicable regulations. We expect to fund a majority of such repurchases from cash
dividends paid to us from our bank.
LIQUIDITY
Liquidity is measured by our ability to raise funds through deposits, borrowed funds, capital or cash flow from the
repayment of loans and securities. These funds are used to fund loans, meet deposit withdrawals, maintain reserve
requirements and operate our company. Liquidity is primarily achieved through local and out-of-area deposits and
liquid assets such as securities available for sale, matured and called securities, federal funds sold and interest-
bearing deposit balances. Asset and liability management is the process of managing the balance sheet to achieve a
mix of earning assets and liabilities that maximizes profitability, while providing adequate liquidity.
To assist in providing needed funds, we have regularly obtained monies from wholesale funding sources. Wholesale
funds, primarily comprised of deposits from customers outside of our market areas and advances from the FHLB,
totaled $230 million, or 9.2% of combined deposits and borrowed funds as of December 31, 2014, compared to
$258 million, or 20.9% of combined deposits and borrowed funds, as of December 31, 2013.
Sweep accounts increased $98.3 million during 2014, totaling $168 million at December 31, 2014. The increase is
primarily due to the merger with Firstbank. Our sweep account program entails transferring collected funds from
certain business noninterest-bearing checking accounts to overnight interest-bearing repurchase agreements. Such
repurchase agreements are not deposit accounts and are not afforded federal deposit insurance. All of our repurchase
agreements are accounted for as secured borrowings. Information regarding our repurchase agreements as of
December 31, 2014 and during 2014 is as follows:
Outstanding balance at December 31, 2014
Weighted average interest rate at December 31, 2014
Maximum daily balance twelve months ended December 31, 2014
Average daily balance for twelve months ended December 31, 2014
Weighted average interest rate for twelve months ended December 31, 2014
$ 167,569,000
0.11%
$ 178,042,000
$ 105,474,000
0.12%
Primarily reflecting the merger with Firstbank, FHLB advances increased $9.0 million during 2014, totaling $54.0
million as of December 31, 2014. The FHLB advances are generally collateralized by a blanket lien on our
residential mortgage loan portfolio. Our borrowing line of credit at year-end 2014 totaled $410 million, with
availability of $356 million.
F-29
We also have the ability to borrow up to $63.0 million on a daily basis through correspondent banks using
established unsecured federal funds purchased lines of credit. We did not access these lines of credit during 2014; in
fact, we have not accessed the lines of credit since January of 2010. In contrast, federal funds sold averaged $48.7
million and interest-bearing deposit balances averaged $46.2 million during 2014. We have a line of credit through
the Discount Window of the Federal Reserve Bank of Chicago. Using certain municipal bonds as collateral, we
could have borrowed up to $12.1 million at December 31, 2014. We did not utilize this line of credit during the
past six years, and do not plan to access this line of credit in future periods.
The following table reflects, as of December 31, 2014, significant fixed and determinable contractual obligations to
third parties by payment date, excluding accrued interest:
One Year
or Less
One to
Three Years
Three to
Five Years
Over
Five Years
Total
Deposits without a stated
maturity
Certificates of deposit
Short-term borrowings
Federal Home Loan Bank
advances
Subordinated debentures
Other borrowed money
Property leases
$ 1,538,166,000 $
368,163,000
167,569,000
0 $
0 $
272,265,000
0
98,321,000
0
0 $ 1,538,166,000
738,749,000
0
167,569,000
0
6,022,000
0
0
368,000
48,000,000
0
0
753,000
0
0
0
493,000
0
54,472,000
3,727,000
143,000
54,022,000
54,472,000
3,727,000
1,757,000
In addition to normal loan funding and deposit flow, we must maintain liquidity to meet the demands of certain
unfunded loan commitments and standby letters of credit. At December 31, 2014, we had a total of $746 million in
unfunded loan commitments and $35.5 million in unfunded standby letters of credit. Of the total unfunded loan
commitments, $636 million were commitments available as lines of credit to be drawn at any time as customers’
cash needs vary, and $110 million were for loan commitments generally expected to close and become funded
within the next twelve months. We regularly monitor fluctuations in loan balances and commitment levels, and
include such data in our overall liquidity management.
The following table depicts our loan commitments at the end of the past three years:
Commercial unused lines of credit
Unused lines of credit secured by 1-4 family
residential properties
Credit card unused lines of credit
Other consumer unused lines of credit
Commitments to make loans
Standby letters of credit
12/31/14
12/31/13
12/31/12
$ 554,856,000 $ 257,937,000 $ 222,237,000
60,983,000
11,649,000
8,673,000
110,126,000
35,461,000
23,429,000
9,013,000
5,695,000
58,799,000
19,670,000
24,250,000
8,512,000
4,613,000
64,565,000
10,591,000
Total
$ 781,748,000 $ 374,543,000 $ 334,768,000
We monitor our liquidity position and funding strategies on an ongoing basis, but recognize that unexpected events,
economic or market conditions, reduction in earnings performance, declining capital levels or situations beyond our
control could cause liquidity challenges. While we believe it is unlikely that a funding crisis of any significant
degree is likely to materialize, we have developed a comprehensive contingency funding plan that provides a
framework for meeting liquidity disruptions.
F-30
MARKET RISK ANALYSIS
Our primary market risk exposure is interest rate risk and, to a lesser extent, liquidity risk. All of our transactions
are denominated in U.S. dollars with no specific foreign exchange exposure. We have only limited agricultural-
related loan assets and therefore have no significant exposure to changes in commodity prices. Any impact that
changes in foreign exchange rates and commodity prices would have on interest rates is assumed to be insignificant.
Interest rate risk is the exposure of our financial condition to adverse movements in interest rates. We derive our
income primarily from the excess of interest collected on interest-earning assets over the interest paid on interest-
bearing liabilities. The rates of interest we earn on our assets and owe on our liabilities generally are established
contractually for a period of time. Since market interest rates change over time, we are exposed to lower
profitability if we cannot adapt to interest rate changes. Accepting interest rate risk can be an important source of
profitability and shareholder value; however, excessive levels of interest rate risk could pose a significant threat to
our earnings and capital base. Accordingly, effective risk management that maintains interest rate risk at prudent
levels is essential to our safety and soundness.
Evaluating the exposure to changes in interest rates includes assessing both the adequacy of the process used to
control interest rate risk and the quantitative level of exposure. Our interest rate risk management process seeks to
ensure that appropriate policies, procedures, management information systems and internal controls are in place to
maintain interest rate risk at prudent levels with consistency and continuity. In evaluating the quantitative level of
interest rate risk, we assess the existing and potential future effects of changes in interest rates on our financial
condition, including capital adequacy, earnings, liquidity and asset quality.
We use two interest rate risk measurement techniques. The first, which is commonly referred to as GAP analysis,
measures the difference between the dollar amounts of interest-sensitive assets and liabilities that will be refinanced
or repriced during a given time period. A significant repricing gap could result in a negative impact to the net
interest margin during periods of changing market interest rates.
F-31
The following table depicts our GAP position as of December 31, 2014:
Within
Three
Months
Three to
Twelve
Months
One to
Five
Years
After
Five
Years
Total
Assets:
Commercial loans (1)
$
311,964,000
$
225,534,000
$
966,618,000
$
171,505,000
$
1,675,621,000
Residential real estate loans
Consumer loans
Securities (2)
Federal funds sold
Interest-bearing deposits
Allowance for loan losses
Other assets
Total assets
Liabilities:
Interest-bearing checking
Savings deposits
Money market accounts
Time deposits under $100,000
Time deposits $100,000 & over
Short-term borrowings
Federal Home Loan Bank advances
Other borrowed money
Noninterest-bearing checking
Other liabilities
Total liabilities
Shareholders' equity
Total liabilities & shareholders'
37,501,000
2,438,000
18,381,000
11,207,000
116,530,000
0
0
20,090,000
1,934,000
26,545,000
0
497,000
0
0
140,054,000
43,663,000
233,561,000
0
750,000
0
0
155,795,000
12,181,000
168,124,000
0
0
0
0
353,440,000
60,216,000
446,611,000
11,207,000
117,777,000
(20,041,000)
248,548,000
498,021,000
274,600,000
1,384,646,000
507,605,000
$
2,893,379,000
413,382,000
330,459,000
235,587,000
26,951,000
75,356,000
167,569,000
6,022,000
3,727,000
0
0
0
0
0
74,526,000
191,330,000
0
0
0
0
0
0
0
0
81,971,000
288,615,000
0
48,000,000
0
0
0
0
0
0
0
0
0
0
54,472,000
0
0
413,382,000
330,459,000
235,587,000
183,448,000
555,301,000
167,569,000
54,022,000
58,199,000
558,738,000
8,536,000
1,259,053,000
265,856,000
418,586,000
54,472,000
2,565,241,000
0
0
0
0
328,138,000
equity
1,259,053,000
265,856,000
418,586,000
54,472,000
$
2,893,379,000
Net asset (liability) GAP
Cumulative GAP
$
$
Percent of cumulative GAP to
total assets
(761,032,000)
$
8,744,000 $
966,060,000 $
453,133,000
(761,032,000)
$
(752,288,000)
$
213,772,000 $
666,905,000
(26.3%)
(26.0%)
7.4%
23.0%
(1) Floating rate loans that are currently at interest rate floors are treated as fixed rate loans and are reflected using maturity date
and not repricing frequency.
(2) Mortgage-backed securities are categorized by expected maturities based upon prepayment trends as of December 31, 2014.
The second interest rate risk measurement used is commonly referred to as net interest income simulation analysis.
We believe that this methodology provides a more accurate measurement of interest rate risk than the GAP analysis,
and therefore, it serves as our primary interest rate risk measurement technique. The simulation model assesses the
direction and magnitude of variations in net interest income resulting from potential changes in market interest rates.
F-32
Key assumptions in the model include prepayment speeds on various loan and investment assets; cash flows and
maturities of interest-sensitive assets and liabilities; and changes in market conditions impacting loan and deposit
volume and pricing. These assumptions are inherently uncertain, subject to fluctuation and revision in a dynamic
environment; therefore, the model cannot precisely estimate net interest income or exactly predict the impact of
higher or lower interest rates on net interest income. Actual results will differ from simulated results due to timing,
magnitude, and frequency of interest rate changes and changes in market conditions and our strategies, among other
factors.
We conducted multiple simulations as of December 31, 2014, in which it was assumed that changes in market
interest rates occurred ranging from up 400 basis points to down 400 basis points in equal quarterly instalments over
the next twelve months. The following table reflects the suggested impact on net interest income over the next
twelve months in comparison to estimated net interest income based on our balance sheet structure, including the
balances and interest rates associated with our specific loans, securities, deposits and borrowed funds, as of
December 31, 2014. The resulting estimates are well within our policy parameters established to manage and
monitor interest rate risk.
Interest Rate Scenario
Interest rates down 400 basis points
Interest rates down 300 basis points
Interest rates down 200 basis points
Interest rates down 100 basis points
No change in interest rates
Interest rates up 100 basis points
Interest rates up 200 basis points
Interest rates up 300 basis points
Interest rates up 400 basis points
Dollar Change
In Net
Interest
Income
Percent Change
In Net
Interest Income
$
(6,730,000)
(5,870,000)
(4,890,000)
(3,140,000)
70,000
1,230,000
2,180,000
3,130,000
3,670,000
(7.3%)
(6.4)
(5.3)
(3.4)
0.1
1.3
2.4
3.4
4.0
The resulting estimates have been significantly impacted by the current interest rate and economic environment, as
adjustments have been made to critical model inputs with regards to traditional interest rate relationships. This is
especially important as it relates to floating rate commercial loans and out-of-area deposits, which comprise a
sizable portion of our balance sheet.
In addition to changes in interest rates, the level of future net interest income is also dependent on a number of other
variables, including: the growth, composition and absolute levels of loans, deposits, and other earning assets and
interest-bearing liabilities; level of nonperforming assets; economic and competitive conditions; potential changes in
lending, investing, and deposit gathering strategies; client preferences; and other factors.
F-33
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
Mercantile Bank Corporation
Grand Rapids, Michigan
We have audited the accompanying Consolidated Balance Sheets of Mercantile Bank Corporation as of
December 31, 2014 and 2013, and the related Consolidated Statements of Income, Comprehensive Income, Changes
in Shareholders' Equity and Cash Flows for each of the three years in the period ended December 31, 2014. These
financial statements are the responsibility of the Company’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, 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 consolidated financial statements referred to above present fairly, in all material respects, the
financial position of Mercantile Bank Corporation as of December 31, 2014 and 2013, and the results of its
operations and its cash flows for each of the three years in the period ended December 31, 2014, in conformity with
accounting principles generally accepted in the United States of America.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States), Mercantile Bank Corporation’s internal control over financial reporting as of December 31, 2014, based on
criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring
Organizations of the Treadway Commission (“COSO”) and our report dated March 10, 2015 expressed an
unqualified opinion thereon.
/s/ BDO USA, LLP
BDO USA, LLP
Grand Rapids, Michigan
March 10, 2015
F-34
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
Mercantile Bank Corporation
Grand Rapids, Michigan
We have audited Mercantile Bank Corporation’s internal control over financial reporting as of December 31, 2014,
based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of
Sponsoring Organizations of the Treadway Commission (the COSO criteria). Mercantile Bank 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 Report by Mercantile
Bank Corporation’s Management 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, and testing and evaluating the design and operating effectiveness of internal control based on the
assessed risk. Our audit also included 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, Mercantile Bank Corporation maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2014, 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 Balance Sheets of Mercantile Bank Corporation as of December 31, 2014 and 2013, and
the related Consolidated Statements of Income, Comprehensive Income, Changes in Shareholders’ Equity and Cash
Flows for each of the three years in the period ended December 31, 2014, and our report dated March 10, 2015
expressed an unqualified opinion thereon.
/s/ BDO USA, LLP
BDO USA, LLP
Grand Rapids, Michigan
March 10, 2015
F-35
March 10, 2015
REPORT BY MERCANTILE BANK CORPORATION’S MANAGEMENT
ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Management is responsible for establishing and maintaining an effective system of internal control over financial
reporting that is designed to produce reliable financial statements presented in conformity with generally accepted
accounting principles. There are inherent limitations in the effectiveness of any system of internal control.
Accordingly, even an effective system of internal control can provide only reasonable assurance with respect to
financial statement preparation.
Management assessed the Company’s system of internal control over financial reporting that is designed to produce
reliable financial statements presented in conformity with generally accepted accounting principles as of December
31, 2014. This assessment was based on criteria for effective internal control over financial reporting described in
Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the
Treadway Commission. Based on this assessment, management believes that, as of December 31, 2014, Mercantile
Bank Corporation maintained an effective system of internal control over financial reporting that is designed to
produce reliable financial statements presented in conformity with generally accepted accounting principles based
on those criteria.
The Company’s independent auditors have issued an audit report on the effectiveness of the Company’s internal
control over financial reporting as found on page F-35.
Mercantile Bank Corporation
/s/ Michael H. Price
Michael H. Price
President and Chief Executive Officer
/s/ Charles E. Christmas
Charles E. Christmas
Senior Vice President, Chief Financial Officer and Treasurer
F-36
MERCANTILE BANK CORPORATION
CONSOLIDATED BALANCE SHEETS
December 31, 2014 and 2013
ASSETS
Cash and due from banks
Interest-bearing deposits
Federal funds sold
Total cash and cash equivalents
Securities available for sale
Federal Home Loan Bank stock
Loans
Allowance for loan losses
Loans, net
Premises and equipment, net
Bank owned life insurance
Goodwill
Cored deposit intangible
Other assets
2014
2013
$
43,754,000
117,777,000
11,207,000
172,738,000
$
17,149,000
6,389,000
123,427,000
146,965,000
432,912,000
13,699,000
131,178,000
11,961,000
2,089,277,000
(20,041,000)
2,069,236,000
1,053,243,000
(22,821,000)
1,030,422,000
48,812,000
57,861,000
49,473,000
15,624,000
33,024,000
24,898,000
51,377,000
0
0
30,165,000
Total assets
$ 2,893,379,000
$ 1,426,966,000
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits
Noninterest-bearing
Interest-bearing
Total deposits
Securities sold under agreements to repurchase
Federal Home Loan Bank advances
Subordinated debentures
Accrued interest and other liabilities
Total liabilities
Shareholders' equity
Preferred stock, no par value; 1,000,000 shares authorized;
0 shares outstanding at December 31, 2014 and
December 31, 2013
Common stock, no par value; 40,000,000 shares authorized;
16,976,839 shares outstanding at December 31, 2014 and
8,739,108 shares outstanding at December 31, 2013
Retained earnings (deficit)
Accumulated other comprehensive income (loss)
Total shareholders’ equity
$ 558,738,000
1,718,177,000
2,276,915,000
$ 224,580,000
894,331,000
1,118,911,000
167,569,000
54,022,000
54,472,000
12,263,000
2,565,241,000
69,305,000
45,000,000
32,990,000
7,435,000
1,273,641,000
0
0
317,904,000
10,218,000
16,000
328,138,000
162,999,000
(4,101,000)
(5,573,000)
153,325,000
Total liabilities and shareholders’ equity
$ 2,893,379,000
$ 1,426,966,000
See accompanying notes to consolidated financial statements.
F-37
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31, 2014, 2013 and 2012
Interest income
Loans, including fees
Securities, taxable
Securities, tax-exempt
Federal funds sold
Interest-bearing deposits
Total interest income
Interest expense
Deposits
Short-term borrowings
Federal Home Loan Bank advances
Subordinated debentures and other borrowings
Total interest expense
Net interest income
Provision for loan losses
2014
2013
2012
$ 80,824,000
6,417,000
1,643,000
124,000
110,000
89,118,000
$ 52,924,000
4,134,000
951,000
212,000
21,000
58,242,000
$ 53,898,000
4,383,000
1,415,000
192,000
29,000
59,917,000
8,378,000
122,000
636,000
2,204,000
11,340,000
8,912,000
80,000
533,000
1,261,000
10,786,000
11,137,000
157,000
993,000
929,000
13,216,000
77,778,000
47,456,000
46,701,000
(3,000,000)
(7,200,000)
(3,100,000)
Net interest income after provision for loan losses
80,778,000
54,656,000
49,801,000
Noninterest income
Service charges on deposit and sweep accounts
Credit and debit card fees
Mortgage banking activities
Earnings on bank owned life insurance
Payroll processing
Letter of credit fees
Rental income from other real estate owned
Other income
Total noninterest income
Noninterest expense
Salaries and benefits
Occupancy
Furniture and equipment rent, depreciation and maintenance
Data processing
Merger-related costs
Advertising
FDIC insurance costs
Problem asset costs
Other expense
Total noninterest expenses
2,586,000
2,494,000
1,672,000
1,184,000
782,000
335,000
109,000
866,000
10,028,000
33,703,000
4,637,000
1,738,000
5,869,000
5,447,000
1,315,000
1,182,000
585,000
11,134,000
65,610,000
1,532,000
1,063,000
800,000
1,329,000
660,000
370,000
528,000
590,000
6,872,000
20,298,000
2,547,000
984,000
3,440,000
1,246,000
1,113,000
793,000
595,000
5,387,000
36,403,000
1,523,000
891,000
1,479,000
1,528,000
591,000
336,000
1,061,000
585,000
7,994,000
19,367,000
2,501,000
1,176,000
3,193,000
0
1,167,000
1,200,000
5,862,000
5,158,000
39,624,000
Income before federal income tax expense
25,196,000
25,125,000
18,171,000
Federal income tax expense
7,865,000
8,092,000
5,636,000
Net income
17,331,000
17,033,000
12,535,000
Preferred stock dividends and accretion
0
0
1,030,000
Net income attributable to common shares
$ 17,331,000
$ 17,033,000
$ 11,505,000
Earnings per common share:
Basic
Diluted
$ 1.28
$ 1.28
$ 1.96
$ 1.95
$ 1.33
$ 1.30
See accompanying notes to consolidated financial statements.
F-38
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years ended December 31, 2014, 2013 and 2012
Net income
$ 17,331,000
$ 17,033,000
$ 12,535,000
2014
2013
2012
Other comprehensive income (loss):
Unrealized holding gains (losses)
on securities available for sale
Fair value of interest rate swap
Tax effect of unrealized holding
gains (losses) on securities
available for sale
Tax effect of fair value of interest
rate swap
Other comprehensive income (loss),
net of tax effect
8,596,000
11,000
8,607,000
(11,960,000)
849,000
(11,111,000)
(2,184,000)
(1,113,000)
(3,297,000)
(3,014,000)
4,186,000
1,229,000
(4,000)
(3,018,000)
(298,000)
3,888,000
390,000
1,619,000
5,589,000
(7,223,000)
(1,678,000)
Comprehensive income
$ 22,920,000
$
9,810,000
$ 10,857,000
See accompanying notes to consolidated financial statements.
F-39
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Years ended December 31, 2014, 2013 and 2012
($ in thousands)
Preferred
Stock
Common
Stock
Common
Stock
Warrant
Retained
Earnings
(Deficit)
Accumulated
Other
Comprehensive
Income/(Loss)
Total
Shareholders’
Equity
Balances, January 1, 2012
$ 20,331
$ 172,841
$ 1,138
$(32,639)
$
3,328
$
164,999
Repurchase of preferred stock
(21,000)
Preferred stock dividends
Accretion of preferred stock
669
(361)
(669)
Repurchase of stock warrant
(6,327)
(1,138)
Employee stock purchase plan
(2,400 shares)
Dividend reinvestment plan
(934 shares)
Stock option exercises
(50,930 shares)
Stock tendered for stock option
exercises (19,120 shares)
Stock-based compensation expense
Cash dividends
($0.09 per common share)
Net income for 2012
Change in net unrealized gain on
securities available for sale, net
of tax effect
Change in fair value of interest
rate swap, net tax effect
39
14
551
(324)
54
(774)
12,535
(21,000)
(361)
0
(7,465)
39
14
551
(324)
54
(774)
12,535
(955)
(955)
(723)
(723)
Balances, December 31, 2012
$
0
$ 166,074
$
0
$(21,134)
$
1,650
$
146,590
See accompanying notes to consolidated financial statements.
F-40
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Continued)
Years ended December 31, 2014, 2013 and 2012
($ in thousands)
Preferred
Stock
Common
Stock
Retained
Earnings
(Deficit)
Accumulated
Other
Comprehensive
Income/(Loss)
Total
Shareholders’
Equity
Balances, January 1, 2013
$
0
$ 166,074
$ (21,134)
$
1,650
$ 146,590
Employee stock purchase plan
(1,098 shares)
Dividend reinvestment plan
(1,954 shares)
Stock option exercises
(51,055 shares)
Stock tendered for stock option
exercises (18,950 shares)
Stock-based compensation expense
Cash dividends
($0.45 per common share)
Net income for 2013
Change in net unrealized gain on
securities available for sale, net
of tax effect
Change in fair value of interest
rate swap, net of tax effect
19
33
700
(411)
473
(3,889)
17,033
19
33
700
(411)
473
(3,889)
17,033
(7,774)
(7,774)
551
551
Balances, December 31, 2013
$
0
$ 162,999
$ (4,101)
$ (5,573)
$ 153,325
See accompanying notes to consolidated financial statements.
F-41
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Continued)
Years ended December 31, 2014, 2013 and 2012
($ in thousands)
Preferred
Stock
Common
Stock
Retained
Earnings
(Deficit)
Accumulated
Other
Comprehensive
Income/(Loss)
Total
Shareholders’
Equity
Balances, January 1, 2014
$
0
$ 162,999
$ (4,101)
$ (5,573)
$ 153,325
Common stock issued in connection
with Firstbank merger
(8,087,272 shares)
Issuance of stock options to replace
existing Firstbank options
at merger date
Employee stock purchase plan
(1,150 shares)
Dividend reinvestment plan
(10,359 shares)
Stock option exercises
(30,585 shares)
Stock grants to directors for
retainer fees (7,375 shares)
Stock-based compensation expense
Cash dividends
($2.48 per common share)
Net income for 2014
Change in net unrealized gain on
securities available for sale, net
of tax effect
Change in fair value of interest
rate swap, net of tax effect
173,310
1,664
23
209
282
155
714
(21,452)
(3,012)
17,331
Balances, December 31, 2014
$
0
$ 317,904
$ 10,218
$
173,310
1,664
23
209
282
155
714
(24,464)
17,331
5,582
5,582
7
16
7
$ 328,138
See accompanying notes to consolidated financial statements.
F-42
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 2014, 2013 and 2012
Cash flows from operating activities
Net income
Adjustments to reconcile net income
to net cash from operating activities:
Depreciation and amortization
Accretion of acquired loans
Provision for loan losses
Deferred income tax expense
Stock-based compensation expense
Stock grants to directors for retainer fee
Proceeds from sales of mortgage loans held for sale
Origination of mortgage loans held for sale
Net gain on sales of mortgage loans held for sale
Net (gain) loss on sale and valuation write-downs
of foreclosed assets
Earnings on bank owned life insurance
Net change in:
Accrued interest receivable
Other assets
Accrued interest and other liabilities
Net cash from operating activities
Cash flows from investing activities
Cash received in merger
Purchases of:
Securities available for sale
Proceeds from:
Maturities, calls and repayments of
securities available for sale
Proceeds from sales of securities available for sale
Proceeds from Federal Home Loan Bank stock redemption
Loan originations and payments, net
Purchases of premises and equipment, net
Proceeds from sale of foreclosed assets
Net cash from (for) investing activities
Cash flows from financing activities
Net decrease in time deposits
Net increase (decrease) in all other deposits
Net increase (decrease) in securities sold under
agreements to repurchase
Proceeds from Federal Home Loan Bank advances
Maturities and prepayments of Federal Home Loan Bank advances
Repurchase of preferred stock
Repurchase of common stock warrant
Proceeds from stock option exercises, net of cashless exercises
Employee stock purchase plan
Dividend reinvestment plan
Payment of cash dividends on preferred stock
Payment of cash dividends to common shareholders
Net cash for financing activities
2014
2013
2012
$
17,331,000
$
17,033,000
$
12,535,000
7,613,000
(3,194,000)
(3,000,000)
4,506,000
714,000
155,000
67,422,000
(65,392,000)
(1,625,000)
2,208,000
0
(7,200,000)
8,092,000
473,000
0
51,373,000
(48,321,000)
(658,000)
2,238,000
0
(3,100,000)
5,636,000
54,000
0
83,713,000
(83,986,000)
(1,247,000)
(894,000)
(1,184,000)
(1,585,000)
(1,329,000)
1,725,000
(1,528,000)
(11,000)
1,795,000
(9,822,000)
14,414,000
225,000
8,465,000
(94,000)
28,682,000
529,000
(1,805,000)
2,267,000
17,031,000
91,806,000
0
0
(19,874,000)
(49,812,000)
(69,956,000)
75,880,000
0
5,527,000
(90,853,000)
(2,150,000)
4,427,000
64,763,000
34,809,000
10,310,000
0
(15,298,000)
(326,000)
7,898,000
(12,419,000)
102,672,000
0
0
16,237,000
(571,000)
18,348,000
66,730,000
(58,927,000)
(11,307,000)
(23,038,000)
6,745,000
(47,257,000)
70,386,000
43,780,000
0
(3,000,000)
0
0
282,000
23,000
209,000
0
(24,464,000)
(53,404,000)
4,540,000
10,000,000
0
0
0
289,000
19,000
33,000
0
(3,889,000)
(5,301,000)
(7,804,000)
20,000,000
(30,000,000)
(21,000,000)
(7,465,000)
227,000
39,000
14,000
(496,000)
(774,000)
(24,130,000)
Net change in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
25,773,000
146,965,000
$ 172,738,000
10,962,000
136,003,000
$ 146,965,000
59,631,000
76,372,000
$ 136,003,000
See accompanying notes to consolidated financial statements.
F-43
MERCANTILE BANK CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
Years ended December 31, 2014, 2013 and 2012
2014
2013
2012
Supplemental disclosures of cash flows information
Cash paid during the year for:
Interest
Federal income taxes
Noncash financing and investing activities:
Transfers from loans to foreclosed assets
Common stock issued in connection with the Firstbank merger
$
11,439,000
2,625,000
$
11,059,000
0
$
13,741,000
0
1,490,000
173,310,000
2,194,000
0
11,761,000
0
See accompanying notes to consolidated financial statements.
F-44
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation: The consolidated financial statements include the accounts of Mercantile Bank
Corporation (“Mercantile”) and its subsidiary, Mercantile Bank of Michigan (“Bank”), and of Mercantile Bank Real
Estate Co., L.L.C. (“Mercantile Real Estate”) and Mercantile Insurance Center, Inc. (“Mercantile Insurance”),
subsidiaries of our Bank, after elimination of significant intercompany transactions and accounts.
We have five separate business trusts: Mercantile Bank Capital Trust I, Firstbank Capital Trust I, Firstbank Capital
Trust II, Firstbank Capital Trust III and Firstbank Capital Trust IV (“our trusts”). Our trusts were formed to issue
trust preferred securities. We issued subordinated debentures to our trusts in return for the proceeds raised from the
issuance of the trust preferred securities. Our trusts are not consolidated, but instead we report the subordinated
debentures issued to the trusts as liabilities.
Nature of Operations: Mercantile was incorporated on July 15, 1997 to establish and own the Bank based in Grand
Rapids, Michigan. The Bank began operations on December 15, 1997. We completed the merger of Firstbank
Corporation (“Firstbank”), a Michigan corporation with approximately $1.5 billion in total assets and 46 branch
locations, into Mercantile as of June 1, 2014.
The Bank is a community-based financial institution. The Bank’s primary deposit products are checking, savings,
and term certificate accounts, and its primary lending products are commercial loans, residential mortgage loans,
and instalment loans. Substantially all loans are secured by specific items of collateral including business assets,
real estate or consumer assets. Commercial loans are expected to be repaid from cash flow from operations of
businesses. Real estate loans are secured by commercial or residential real estate. The Bank’s loan accounts and
retail deposits are primarily with customers located in the communities in which we have bank office locations. As
an alternative source of funds, the Bank has also issued certificates of deposit to depositors outside of its primary
market areas. Substantially all revenues are derived from banking products and services and investment securities.
While we monitor the revenue streams of the various products and services offered, we manage our business on the
basis of one operating segment, banking.
Mercantile Insurance was formed during 2002 through the acquisition of an existing shelf insurance agency.
Insurance products are offered through an Agency and Institutions Agreement among Mercantile Insurance, the
Bank and Hub International. The insurance products are marketed through a central facility operated by the
Michigan Bankers Insurance Association, members of which include the insurance subsidiaries of various
Michigan-based financial institutions and Hub International. Mercantile Insurance receives commissions based
upon written premiums produced under the Agency and Institutions Agreement.
Mercantile Real Estate was organized on July 21, 2003, principally to develop, construct, and own a facility in
downtown Grand Rapids that serves as our Bank’s main office and Mercantile’s headquarters. This facility was
placed into service during the second quarter of 2005.
Use of Estimates: To prepare financial statements in conformity with accounting principles generally accepted in
the United States of America, management makes estimates and assumptions based on available information. These
estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and
actual results could differ. The allowance for loan losses and the fair values of financial instruments are particularly
subject to change.
Cash Flow Reporting: Cash and cash equivalents include cash on hand, demand deposits with other financial
institutions, short-term investments (including securities with daily put provisions) and federal funds sold. Cash
flows are reported net for customer loan and deposit transactions, interest-bearing time deposits with other financial
institutions and short-term borrowings with maturities of 90 days or less.
(Continued)
F-45
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Securities: Debt securities classified as held to maturity are carried at amortized cost when management has the
positive intent and ability to hold them to maturity. Debt securities are classified as available for sale when they
might be sold prior to maturity. Equity securities with readily determinable fair values are classified as available for
sale. Securities available for sale are carried at fair value, with unrealized holding gains and losses reported in other
comprehensive income, net of tax. Federal Home Loan Bank stock is carried at cost.
Interest income includes amortization of purchase premiums and accretion of discounts. Premiums and discounts on
securities are amortized or accreted on the level-yield method without anticipating prepayments, except for
mortgage-backed securities where prepayments are anticipated. Gains and losses on sales are recorded on the trade
date and determined using the specific identification method.
Declines in the fair value of debt securities below their amortized cost that are other than temporary (“OTTI”) are
reflected in earnings or other comprehensive income, as appropriate. For those debt securities whose fair value is
less than their amortized cost, we consider our intent to sell the security, whether it is more likely than not that we
will be required to sell the security before recovery and whether we expect to recover the entire amortized cost of
the security based on our assessment of the issuer’s financial condition. In analyzing an issuer’s financial condition,
we consider whether the securities are issued by the federal government or its agencies, and whether downgrades by
bond rating agencies have occurred. If either of the criteria regarding intent or requirement to sell is met, the entire
difference between amortized cost and fair value is recognized as impairment through earnings. For debt securities
that do not meet the aforementioned criteria, the amount of impairment is split into two components as follows: 1)
OTTI related to credit loss, which must be recognized in the income statement, and 2) OTTI related to other factors,
such as liquidity conditions in the market or changes in market interest rates, which is recognized in other
comprehensive income. The credit loss is defined as the difference between the present value of the cash flows
expected to be collected and the amortized cost.
Loans: Loans that we have the intent and ability to hold for the foreseeable future or until maturity or payoff are
reported at the principal balance outstanding, net of deferred loan fees and costs and an allowance for loan losses.
Interest income is accrued on the unpaid principal balance. Loan origination fees, net of certain direct origination
costs, are deferred and recognized in interest income using the level-yield method without anticipating prepayments.
Net unamortized deferred loan fees amounted to $1.1 million and $0.5 million at December 31, 2014 and 2013,
respectively.
Interest income on commercial loans and mortgage loans is discontinued at the time the loan is 90 days delinquent
unless the loan is well-secured and in process of collection. Consumer and credit card loans are typically charged
off no later than when they are 120 days past due. Past due status is based on the contractual terms of the loan. In
all cases, loans are placed on nonaccrual or charged off at an earlier date if collection of principal and interest is
considered doubtful.
All interest accrued but not received for loans placed on nonaccrual is reversed against interest income. Interest
received on such loans is accounted for on the cash-basis or cost-recovery method, until qualifying for return to
accrual. Loans are returned to accrual status when all the principal and interest amounts contractually due are
brought current and future payments are reasonably assured.
(Continued)
F-46
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Loans Held for Sale: Mortgage loans originated and intended for sale in the secondary market are carried at the
lower of aggregate cost or fair value, as determined by outstanding commitments from investors. Net unrealized
losses, if any, are recorded as a valuation allowance and charged to earnings. Prior to the merger with Firstbank,
such mortgage loans were sold servicing released. Subsequent to the merger, mortgage loans held for sale are
generally sold with servicing rights retained. Gains and losses on sales of mortgage loans are based on the
difference between the selling price and the carrying value of the related mortgage loan sold, which is reduced by
the cost allocated to the servicing right. We generally lock in the sale price to the purchaser of the mortgage loan at
the same time we make an interest rate commitment to the borrower.
Year-end mortgage loans held for sale were as follows:
Mortgage loans held for sale
Less: Allowance to adjust to lower of cost or market
Mortgage loans held for sale, net
2014
2013
$
$
1,574,000
0
1,574,000
$
$
1,115,000
0
1,115,000
Mortgage Loan Derivatives: From time to time, we enter into mortgage loan derivatives such as forward contracts
and interest rate lock commitments in the ordinary course of business. The derivatives are not designated as hedges
and are carried at fair value. The net gain or loss on mortgage loan derivatives is included in mortgage banking
activities in the income statement. The balance of mortgage loan derivatives was immaterial at December 31, 2014
and 2013.
Mortgage Banking Activities: Mortgage loan servicing rights are recognized as assets based on the allocated value
of retained servicing rights on mortgage loans sold. Mortgage loan servicing rights are carried at the lower of
amortized cost or fair value and are expensed in proportion to, and over the period of, estimated net servicing
revenues. Impairment is evaluated based on the fair value of the rights using groupings of the underlying mortgage
loans as to interest rates. Any impairment of a grouping is reported as a valuation allowance.
Servicing fee income is recorded for fees earned for serving mortgage loans. The fees are based on a contractual
percentage of the outstanding principal or a fixed amount per loan and are recorded as income when earned.
Amortization of mortgage loan servicing rights is netted against mortgage loan servicing income and recorded in
mortgage banking activities in the income statement.
Troubled Debt Restructurings: A loan is accounted for as a troubled debt restructuring if we, for economic or legal
reasons, grant a concession to a borrower considered to be experiencing financial difficulties that we would not
otherwise consider. A troubled debt restructuring may involve the receipt of assets from the debtor in partial or full
satisfaction of the loan, or a modification of terms such as a reduction of the stated interest rate or balance of the
loan, a reduction of accrued interest, an extension of the maturity date or renewal of the loan at a stated interest rate
lower than the current market rate for a new loan with similar risk, or some combination of these concessions.
Troubled debt restructurings can be in either accrual or nonaccrual status. Nonaccrual troubled debt restructurings
are included in nonperforming loans. Accruing troubled debt restructurings are generally excluded from
nonperforming loans as it is considered probable that all contractual principal and interest due under the restructured
terms will be collected.
(Continued)
F-47
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Loans modified as troubled debt restructurings are, by definition, considered to be impaired loans. Impairment for
these loans is measured on a loan-by-loan basis similar to other impaired loans as described below under
“Allowance for Loan Losses.” Certain loans modified as troubled debt restructurings may have been previously
measured for impairment under a general allowance methodology (i.e., pooling), thus at the time the loan is
modified as a troubled debt restructuring the allowance will be impacted by the difference between the results of
these two measurement methodologies. Loans modified as troubled debt restructurings that subsequently default are
factored into the determination of the allowance for loan losses in the same manner as other defaulted loans.
Allowance for Loan Losses: The allowance for loan losses (“allowance”) is a valuation allowance for probable
incurred credit losses. Loan losses are charged against the allowance when we believe the uncollectability of a loan
is confirmed. Subsequent recoveries, if any, are credited to the allowance. We estimate the allowance balance
required using past loan loss experience, the nature and volume of the loan portfolio, information about specific
borrower situations and estimated collateral values, economic conditions and other factors. We estimate credit
losses based on individual loans determined to be impaired and on all other loans grouped on similar risk
characteristics. Our historical loss component is the most significant of the allowance components and is based on
historical loss experience by credit risk grade for commercial loans and payment status for mortgage and consumer
loans. Loans are pooled based on similar risk characteristics supported by observable data. The historical loss
experience component of the allowance represents the results of migration analysis of historical net charge-offs for
portfolios of loans, including groups of commercial loans within each credit risk grade. For measuring loss
exposure in a pool of loans, the historical net charge-off or migration experience is utilized to estimate expected
future losses to be realized from the pool of loans. Allocations of the allowance may be made for specific loans, but
the entire allowance is available for any loan that, in our judgment, should be charged-off.
A loan is considered impaired when, based on current information and events, it is probable we will be unable to
collect the scheduled payments of principal and interest when due according to the contractual terms of the loan
agreement. Factors considered in determining impairment include payment status and collateral value. Loans that
experience insignificant payment delays and payment shortfalls generally are not classified as impaired. We
determine the significance of payment delays and payment shortfalls on a case-by-case basis, taking into
consideration all of the circumstances surrounding the loan and the borrower, including the length of delay, the
reasons for delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and
interest owed. Impairment is measured on a loan-by-loan basis for commercial and construction loans by the present
value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price
or the fair value of collateral if the loan is collateral dependent. Large groups of smaller balance homogeneous loans
are collectively evaluated for impairment.
Transfers of Financial Assets: Transfers of financial assets are accounted for as sales when control over the assets
has been surrendered. Control over transferred assets is deemed to be surrendered when: (1) the assets have been
isolated from the Bank and put presumptively beyond the reach of the transferor and its creditors, even in
bankruptcy or other receivership, (2) the transferee obtains the right (free of conditions that constrain it from taking
advantage of that right) to pledge or exchange the transferred assets, and (3) the Bank does not maintain effective
control over the transferred assets through an agreement to repurchase them before their maturity or the ability to
unilaterally cause the holder to return specific assets. Our transfers of financial assets are generally limited to
commercial loan participations sold and residential mortgage loans sold in the secondary market.
Premises and Equipment: Land is carried at cost. Premises and equipment are stated at cost less accumulated
depreciation. Buildings and related components are depreciated using the straight-line method with useful lives
ranging from 5 to 33 years. Furniture, fixtures and equipment are depreciated using the straight-line method with
useful lives ranging from 3 to 7 years. Maintenance, repairs and minor alterations are charged to current operations
as expenditures occur and major improvements are capitalized.
(Continued)
F-48
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Long-lived Assets: Premises and equipment and other long-lived assets are reviewed for impairment when events
indicate their carrying amount may not be recoverable based on future undiscounted cash flows. If impaired, the
assets are recorded at the lower of carrying value or fair value.
Foreclosed Assets: Assets acquired through or in lieu of foreclosure are initially recorded at their estimated fair
value net of estimated selling costs, establishing a new cost basis. If fair value subsequently declines, a valuation
allowance is recorded through noninterest expense, as are collection and operating costs after acquisition.
Foreclosed assets totaled $2.0 million and $2.9 million as of December 31, 2014 and 2013, respectively.
Bank Owned Life Insurance: The Bank has purchased life insurance policies on certain key officers. Bank owned
life insurance is recorded at its cash surrender value, or the amount that can be realized.
Goodwill and Core Deposit Intangible: Goodwill results from business acquisitions and represents the excess of the
purchase price over the fair value of acquired tangible assets and liabilities and identifiable intangible assets.
Goodwill is assessed at least annually for impairment and any such impairment is recognized in the period
identified. A more frequent assessment is performed should events or changes in circumstances indicate the
carrying value of the goodwill may not be recoverable. We may elect to perform a qualitative assessment for the
annual impairment test. If the qualitative assessment indicates it is more likely than not that the fair value of a
reporting unit is less than its carrying amount, or if we elect not to perform a qualitative assessment, then we would
be required to perform a quantitative test for goodwill impairment. The quantitative test is a two-step process
consisting of comparing the carrying value of the reporting unit to an estimate of its fair value. If the estimated fair
value of the reporting unit is less than the carrying value, goodwill is impaired and is written down to its estimated
fair value. In 2014, we elected to perform a qualitative assessment for our annual impairment test and concluded our
fair value was greater than its carrying amount; therefore, no further testing was required.
The core deposit intangible that arose from the merger with Firstbank was initially measured at fair value and is
being amortized into noninterest expense over a ten-year period using the sum-of-the-years-digits methodology.
Repurchase Agreements: The Bank sells certain securities under agreements to repurchase. The agreements are
treated as collateralized financing transactions, with the obligations to repurchase the securities sold reflected as
liabilities and the securities underlying the agreements remaining in assets in the Consolidated Balance Sheets.
Financial Instruments and Loan Commitments: Financial instruments include off-balance-sheet credit instruments,
such as commitments to make loans and commercial letters of credit, issued to meet customer financing needs. The
face amount for these items represents the exposure to loss, before considering customer collateral or ability to
repay. Such financial instruments are recorded when they are funded. Instruments, such as standby letters of credit,
that are considered financial guarantees are recorded at fair value.
Stock-Based Compensation: Compensation cost for equity-based awards is measured on the grant date based on the
fair value of the award at that date, and is recognized over the requisite service period, net of estimated forfeitures.
Fair value of stock option awards is estimated using a closed option valuation (Black-Scholes) model. Fair value of
restricted stock awards is based upon the quoted market price of the common stock on the date of grant.
Advertising Costs: Advertising costs are expensed as incurred.
Income Taxes: Income tax expense is the total of the current year income tax due or refundable, the change in
deferred income tax assets and liabilities, and any adjustments related to unrecognized tax benefits. Deferred
income tax assets and liabilities are recognized for the tax consequences of temporary differences between the
carrying amounts and tax bases of assets and liabilities, computed using enacted tax rates applicable to future years.
A valuation allowance, if needed, reduces deferred income tax assets to the amount expected to be realized.
(Continued)
F-49
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Fair Values of Financial Instruments: Fair values of financial instruments are estimated using relevant market
information and other assumptions. Fair value estimates involve uncertainties and matters of significant judgment
regarding interest rates, credit risk, prepayments and other factors, especially in the absence of broad markets for
particular items. Changes in assumptions or in market conditions could significantly affect the estimates. The fair
value estimates of existing on- and off-balance sheet financial instruments do not include the value of anticipated
future business or the values of assets and liabilities not considered financial instruments.
Earnings Per Share: Basic earnings per share is based on the weighted average number of common shares and
participating securities outstanding during the period. Diluted earnings per share include the dilutive effect of
additional potential common shares issuable under our stock-based compensation plans using the treasury stock
method. In addition, diluted earnings per share for 2012 include the dilutive effect of our common stock warrant
granted to the U.S. Department of Treasury that we repurchased on July 3, 2012, also using the treasury stock
method. Our unvested stock awards, which contain non-forfeitable rights to dividends whether paid or unpaid (i.e.,
participating securities), are included in the number of shares outstanding for both basic and diluted earnings per
share calculations. In the event of a net loss, our unvested stock awards are excluded from the calculations of both
basic and diluted earnings per share.
Comprehensive Income: Comprehensive income consists of net income and other comprehensive income (loss).
Other comprehensive income (loss) includes unrealized gains and losses on securities available for sale and interest
rate swaps which are also recognized as a separate component of equity.
Derivatives: Derivative financial instruments are recognized as assets or liabilities at fair value. The accounting for
changes in the fair value of derivatives depends on the use of the derivatives and whether the derivatives qualify for
hedge accounting. Used as part of our asset and liability management to help manage interest rate risk, our
derivatives have historically generally consisted of interest rate swap agreements that qualified for hedge
accounting. We do not use derivatives for trading purposes.
Changes in the fair value of derivatives that are designated, for accounting purposes, as a hedge of the variability of
cash flows to be received on various assets and liabilities and are effective are reported in other comprehensive
income. They are later reclassified into earnings in the same periods during which the hedged transaction affects
earnings and are included in the line item in which the hedged cash flows are recorded. If hedge accounting does not
apply, changes in the fair value of derivatives are recognized immediately in current earnings as interest income or
expense.
If designated as a hedge, we formally document the relationship between the derivative instrument and the hedged
item, as well as the risk-management objective and the strategy for undertaking the hedge transaction. This
documentation includes linking cash flow hedges to specific assets on the balance sheet. If designated as a hedge, we
also formally assess, both at the hedge’s inception and on an ongoing basis, whether the derivative instrument that is
used is highly effective in offsetting changes in cash flows of the hedged items. Ineffective hedge gains and losses
are recognized immediately in current earnings as noninterest income or expense. We discontinue hedge accounting
when we determine the derivative is no longer effective in offsetting changes in the cash flows of the hedged item,
the derivative is settled or terminates, or treatment of the derivatives as a hedge is no longer appropriate or intended.
Contingencies: Loss contingencies, including claims and legal actions arising in the ordinary course of business, are
recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably
estimated. We do not believe there are any such matters outstanding that would have a material effect on the
financial statements.
Reclassifications: Certain items in the prior years’ financial statements have been reclassified to conform to the
current year presentation.
(Continued)
F-50
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Accounting Standards Updates: In January of 2014, the FASB issued Accounting Standards Update (“ASU”) 2014-
04, Reclassification of Residential Real Estate Collateralized Consumer Mortgage Loans upon Foreclosure. This
ASU clarifies 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 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. The ASU also requires additional
related interim and annual disclosures. The guidance in this ASU is effective for annual and interim periods
beginning after December 15, 2014, and is not expected to have a material effect on our financial position or results
of operations when adopted.
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers. This ASU establishes a
comprehensive revenue recognition standard for virtually all industries under U.S. GAAP, including those that
previously followed industry-specific guidance such as the real estate, construction and software industries. The
revenue standard’s core principle is built on the contract between a vendor and a customer for the provision of goods
and services. It attempts to depict the exchange of rights and obligations between the parties in the pattern of
revenue recognition based on the consideration to which the vendor is entitled. To accomplish this objective, the
standard requires five basic steps: i) identify the contract with the customer, (ii) identify the performance obligations
in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations
in the contract, and (v) recognize revenue when (or as) the entity satisfies a performance obligation. The guidance
in this ASU is effective for annual and interim periods beginning after December 15, 2016, with three transition
methods available – full retrospective, retrospective and cumulative effect approach. Although we are in process of
evaluating the impact, the adoption of this ASU is not expected to have a material effect on our financial position or
results of operations.
In June 2014, the FASB issued ASU 2014-11, Repurchase-to-Maturity Transactions, Repurchase Financings, and
Disclosures. This ASU requires two accounting changes. First, repurchase-to-maturity transactions will be
accounted for as secured borrowing transactions on the balance sheet, rather than sales. Second, for repurchase
financing arrangements, the ASU requires separate accounting for a transfer of a financial asset executed
contemporaneously with (or in contemplation of) a repurchase agreement with the same counterparty, which also
will generally result in secured borrowing accounting for the repurchase agreement. The ASU also introduces new
disclosures to increase transparency about the types of collateral pledged for repurchase agreements, securities
lending transactions, and repurchase-to-maturity transactions that are accounted for as secured borrowings. The
ASU also requires a transferor to disclose information about transactions accounted for as a sale in which the
transferor retains substantially all of the exposure to the economic return on the transferred financial assets through
an agreement with the transferee. The accounting changes and disclosure for certain transactions accounted for as a
sale are effective for the first annual and interim periods beginning after December 15, 2014. The disclosure for
transactions accounted for as secured borrowings is required for annual periods beginning after December 15, 2014,
and for interim periods beginning after March 15, 2015. Adoption of this ASU is not expected to have a material
effect on our financial position or results of operations.
In August 2014, the FASB issued ASU 2014-14, Classification of Certain Government-Guaranteed Mortgage
Loans Upon Foreclosure. This ASU requires that certain government-guaranteed mortgage loans, including those
guaranteed by the Federal Housing Administration, be derecognized and that a separate other receivable be
recognized upon foreclosure if certain conditions are met. Upon foreclosure on the loans that meet these criteria, a
separate receivable should be recorded based on the amount of the loan balance expected to be recovered from the
guarantor. The guidance in this ASU is effective for annual and interim periods beginning after December 15, 2014,
and is not expected to have a material effect on our financial position or results of operations when adopted.
(Continued)
F-51
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 2 - BUSINESS COMBINATION
We completed the merger of Firstbank Corporation (“Firstbank”), a Michigan corporation with approximately $1.5
billion in total assets and 46 branch locations, into Mercantile Bank Corporation as of June 1, 2014 (“Merger Date”).
Each share of Firstbank’s common stock was converted into the right to receive one share of Mercantile common
stock, resulting in Mercantile issuing 8,087,272 shares of its common stock. The merger provided an expanded
geographic footprint for the Company and increased the size of the balance sheet. In conjunction with the
completion of the merger, Mercantile assumed the obligations of Firstbank Capital Trust I, Firstbank Capital Trust
II, Firstbank Capital Trust III and Firstbank Capital Trust IV.
The Firstbank transaction was accounted for using the acquisition method of accounting and accordingly, assets
acquired, liabilities assumed and consideration exchanged were recorded at estimated fair value on the Merger Date.
Preliminary goodwill of $49.5 million was calculated as the purchase premium after adjusting for the fair value of
net assets acquired and represents the value expected from the synergies created from combining the two banking
organizations as well as the economies of scale expected from combining the operations of the two companies.
None of the goodwill is deductible for income tax purposes as the merger is accounted for as a tax-free exchange.
The following table provides the purchase price calculation as of the Merger Date and the identifiable assets
purchased and the liabilities assumed at their estimated fair values. These fair value measurements are provisional
based on third-party valuations that are currently under review and are subject to refinement for up to one year after
the Merger Date based on additional information that may be obtained by us that existed as of the Merger Date.
(Continued)
F-52
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 2 - BUSINESS COMBINATION (Continued)
Purchase Price:
Mercantile common shares issued for Firstbank common shares
Price per share, based on Mercantile closing price on May 30, 2014
Value of common stock issued
Value of replacement stock options granted
Total purchase price
Preliminary Statement of Net Assets Acquired at Fair Value:
Assets
Cash and cash equivalents
Securities
Total loans
Premises and equipment
Core deposit intangible
Mortgage servicing rights
Other assets
Total Assets
Liabilities
Deposits
Borrowings
Other liabilities
Total Liabilities
Net Identifiable Assets Acquired
Goodwill
$
91,806,000
358,599,000
943,662,000
24,049,000
17,478,000
7,389,000
9,897,000
$ 1,452,880,000
$ 1,229,609,000
87,615,000
10,155,000
$ 1,327,379,000
$
8,087,272
21.43
173,310,000
1,664,000
$ 174,974,000
$ 125,501,000
49,473,000
$
Effective December 31, 2014, we identified certain Firstbank deferred tax assets and liabilities that should have been
addressed on the Merger Date. The net impact of recording the necessary entries was a $1.4 million reduction to
Goodwill and a $1.4 million increase to our net deferred tax asset account (included in other assets above) from
what we reported in our June 30, 2014 and September 30, 2014 Form 10-Qs.
Firstbank’s results of operations prior to the Merger Date are not included in our Consolidated Statements of Income
or Consolidated Statements of Comprehensive Income. We recorded merger-related expenses of $5.4 million and
$1.2 million during 2014 and 2013, respectively. Such expenses were generally for professional services, costs
related to termination of existing contractual arrangements for various services, retention and severance
compensation costs, marketing and promotional expenses, travel costs, and printing and supplies costs. We do not
expect to record any additional significant expenses related to the Firstbank merger in future periods. We are not
presenting the amounts of revenue and earnings of Firstbank since the Merger Date as it is impracticable due to the
integration of Firstbank upon the consummation of the merger.
(Continued)
F-53
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 2 - BUSINESS COMBINATION (Continued)
The following table provides the unaudited pro forma information for the results of operations for the twelve month
periods ended December 31, 2014 and 2013, as if the acquisition had occurred on January 1, 2013. These
adjustments reflect the impact of certain purchase accounting fair value measurements primarily related to
Firstbank’s loan and deposit portfolios. In addition, the aggregate $12.2 million in merger-related expenses
recorded by us and Firstbank during 2014 and 2013 are reflected to have been recorded during 2013. We expect to
achieve further operating cost savings and other business synergies as a result of the merger which are not reflected
in the pro forma amounts. These unaudited pro forma results are presented for illustrative purposes only and are not
intended to represent or be indicative of the actual results of operations of the combined banking organization that
would have been achieved had the merger occurred at the beginning of each period presented, nor are they intended
to represent or be indicative of future results of operations.
Net interest income
Noninterest expense
Net income
Net income per diluted share
2014
2013
$ 98,607,000
81,295,000
22,659,000
1.33
$ 93,862,000
93,263,000
16,068,000
0.96
In most instances, determining the fair value of the acquired assets and assumed liabilities required us to estimate
cash flows expected to result from those assets and liabilities and to discount those cash flows at appropriate rates of
interest. The most significant of those determinations relates to the valuation of acquired loans. For such loans, the
excess of cash flows expected at acquisition over the estimated fair value is recognized as interest income over the
remaining lives of the loans. The difference between contractually required payments at acquisition and the cash
flows expected to be collected at acquisition reflects the impact of estimated credit losses and other factors, such as
prepayments. In accordance with the applicable accounting guidance for business combinations, there was no carry-
over of Firstbank’s previously established allowance for loan losses.
The acquired loans were divided into loans with evidence of credit quality deterioration, which are accounted for
under ASC 310-30 (“acquired impaired”), and loans that do not meet this criteria, which are accounted for under
ASC 310-20 (“acquired non-impaired”). In addition, the loans are further categorized into different loan pools
based primarily on the type and purpose of the loan.
(Continued)
F-54
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 2 - BUSINESS COMBINATION (Continued)
The provisional fair value of loans at the Merger Date is presented in the following table:
Commercial Loans:
Commercial & industrial
Commercial real estate
Construction & development
Total Commercial Loans
Consumer Loans:
Residential mortgages
Instalment
Home equity lines
Construction
Total Consumer Loans
Total Loans
$
$
$
$
$
Acquired
Impaired
Acquired
Non-Impaired
Acquired
Total Loans
878,000
12,973,000
1,289,000
15,140,000
$ 163,316,000
378,016,000
33,726,000
$ 575,058,000
$ 164,194,000
390,989,000
35,015,000
$ 590,198,000
9,694,000
167,000
288,000
76,000
10,225,000
25,365,000
$ 216,653,000
61,657,000
52,054,000
12,875,000
$ 343,239,000
$ 918,297,000
$ 226,347,000
61,824,000
52,342,000
12,951,000
$ 353,464,000
$ 943,662,000
The following table presents data on acquired impaired loans at the Merger Date:
Contractually required payments
Nonaccretable difference
Expected cash flows
Accretable yield
Carrying balance
Acquired
Impaired
$
$
44,936,000
17,057,000
27,879,000
2,514,000
25,365,000
The nonaccretable difference includes $10.4 million in principal cash flows not expected to be collected, $2.8
million of pre-acquisition charge-offs and $3.9 million of future interest not expected to be collected. The unpaid
principal balance of acquired performing loans was $926.4 million at the Merger Date, and the unaccreted discount
on such loans was $8.1 million.
(Continued)
F-55
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 3 – SECURITIES
The amortized cost and fair value of available for sale securities and the related gross unrealized gains and losses
recognized in accumulated other comprehensive income (loss) were as follows:
2014
U.S. Government agency
debt obligations
Mortgage-backed securities
Municipal general obligation bonds
Municipal revenue bonds
Other investments
2013
U.S. Government agency
debt obligations
Mortgage-backed securities
Municipal general obligation bonds
Municipal revenue bonds
Mutual funds
Amortized
Cost
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Fair
Value
$ 194,894,000
92,656,000
132,347,000
10,769,000
1,925,000
$ 1,612,000
1,123,000
1,042,000
117,000
3,000
$ (3,038,000)
(218,000)
(307,000)
(13,000)
0
$ 193,468,000
93,561,000
133,082,000
10,873,000
1,928,000
$ 432,591,000
$ 3,897,000
$ (3,576,000)
$ 432,912,000
$ 108,279,000
12,456,000
16,488,000
878,000
1,386,000
$ 263,000
1,102,000
388,000
38,000
0
$ (10,065,000)
0
(4,000)
0
(31,000)
$
98,477,000
13,558,000
16,872,000
916,000
1,355,000
$ 139,487,000
$ 1,791,000
$ (10,100,000)
$ 131,178,000
(Continued)
F-56
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 3 – SECURITIES (Continued)
Securities with unrealized losses at year-end 2014 and 2013, aggregated by investment category and length of time
that individual securities have been in a continuous loss position, are as follows:
Description of Securities
2014
U.S. Government agency
debt obligations
Mortgage-backed securities
Municipal general
obligation bonds
Municipal revenue bonds
Other investments
2013
U.S. Government agency
debt obligations
Mortgage-backed securities
Municipal general
obligation bonds
Municipal revenue bonds
Mutual funds
Less than 12 Months
Unrealized
Fair
Loss
Value
12 Months or More
Fair
Value
Unrealized
Loss
Total
Fair
Value
Unrealized
Loss
$ 81,891,000 $ 202,000 $ 74,120,000 $ 2,836,000 $ 156,011,000 $ 3,038,000
218,000
0
49,940,000
49,940,000
218,000
0
54,104,000
4,644,000
0
307,000
13,000
0
0
0
0
0
0
0
54,104,000
4,644,000
0
307,000
13,000
0
$190,579,000 $ 740,000 $ 74,120,000 $ 2,836,000 $264,699,000 $ 3,576,000
$ 57,117,000 $ 5,798,000 $ 29,679,000 $ 4,267,000 $ 86,796,000 $10,065,000
0
0
0
0
0
0
295,000
0
1,355,000
4,000
0
31,000
0
0
0
0
0
0
295,000
0
1,355,000
4,000
0
31,000
$ 58,767,000 $ 5,833,000 $ 29,679,000 $ 4,267,000 $ 88,446,000 $10,100,000
We evaluate securities for other-than-temporary impairment at least on a quarterly basis. Consideration is given to
the length of time and the extent to which the fair value has been less than cost, the financial condition and near-
term prospects of the issuer, and the intent and ability we have to retain our investment in the issuer for a period of
time sufficient to allow for any anticipated recovery in fair value. For those debt securities whose fair value is less
than their amortized cost basis, we also consider our intent to sell the security, whether it is more likely than not that
we will be required to sell the security before recovery and if we do not expect to recover the entire amortized cost
basis of the security. In analyzing an issuer’s financial condition, we may consider whether the securities are issued
by the federal government or its agencies, whether downgrades by bond rating agencies have occurred and the
results of reviews of the issuer’s financial condition.
At December 31, 2014, 341 debt securities with fair values totaling $264.7 million have unrealized losses
aggregating $3.6 million. After we considered whether the securities were issued by the federal government or its
agencies and whether downgrades by bond rating agencies had occurred, we determined that unrealized losses were
due to changing interest rate environments. As we do not intend to sell our debt securities before recovery of their
cost basis and we believe it is more likely than not that we will not be required to sell our debt securities before
recovery of the cost basis, no unrealized losses are deemed to be other-than-temporary.
(Continued)
F-57
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 3 – SECURITIES (Continued)
The amortized cost and fair values of debt securities at December 31, 2014, by maturity, are shown in the following
table. The contractual maturity is utilized for U.S. Government agency debt obligations and municipal bonds.
Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties. Securities not due at a single maturity date, primarily
mortgage-backed securities, are shown separately. Weighted average yields are also reflected, with yields for
municipal securities shown at their tax equivalent yield.
Due in one year or less
Due from one to five years
Due from five to ten years
Due after ten years
Mortgage-backed securities
Other investments
Weighted
Average
Yield
Amortized
Cost
Fair
Value
0.72%
1.35
2.99
3.62
1.79
2.57
$ 27,651,000
148,233,000
70,282,000
91,844,000
92,656,000
1,925,000
$ 27,662,000
147,974,000
70,191,000
91,596,000
93,561,000
1,928,000
2.17%
$ 432,591,000
$ 432,912,000
During 2013, Michigan Strategic Fund bonds totaling $10.3 million were sold at par. No securities were sold during
2014 and 2012.
Securities issued by the State of Michigan and all its political subdivisions had a combined amortized cost of $113.1
million and $17.4 million at December 31, 2014 and December 31, 2013, respectively, with estimated market values
of $113.9 million and $17.8 million, respectively. Securities issued by all other states and their political
subdivisions had a combined amortized cost of $30.0 million and estimated market value of $30.0 million at
December 31, 2014; as of December 31, 2013, our entire municipal bond portfolio consisted of securities issued by
the State of Michigan and its political subdivisions. Total securities of any other specific issuer, other than the U.S.
Government and its agencies and the State of Michigan and all its political subdivisions, did not exceed 10% of
shareholders’ equity.
The carrying value of U.S. Government agency debt obligations and mortgage-backed securities that are pledged to
secure repurchase agreements was $180.5 million and $94.4 million at December 31, 2014 and 2013, respectively.
In addition, substantially all of our municipal bonds have been pledged to the Discount Window of the Federal
Reserve Bank of Chicago. Investments in FHLB stock are restricted and may only be resold to, or redeemed by, the
issuer.
(Continued)
F-58
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES
Loans originated for investment are stated at their principal amount outstanding adjusted for partial charge-offs, the
allowance, and net deferred loan fees and costs. Interest income on loans is accrued over the term of the loans
primarily using the simple interest method based on the principal balance outstanding. Interest is not accrued on
loans where collectability is uncertain. Accrued interest is included in other assets in the Consolidated Balance
Sheets. Loan origination fees and certain direct costs incurred to extend credit are deferred and amortized over the
term of the loan or loan commitment period as an adjustment to the related loan yield.
Acquired loans are those purchased in the Firstbank merger (see Note 2 – Business Combination for further
information). These loans were recorded at estimated fair value at the Merger Date with no carryover of the related
allowance. The acquired loans were segregated between those considered to be performing (“acquired non-impaired
loans”) and those with evidence of credit deterioration (“acquired impaired loans”). Acquired loans are considered
impaired if there is evidence of credit deterioration and if it is probable, at acquisition, all contractually required
payments will not be collected. Acquired loans restructured after acquisition are not considered or reported as
troubled debt restructurings if the loans evidenced credit deterioration as of the Merger Date and are accounted for
in pools.
The fair value estimates for acquired loans are based on expected prepayments and the amount and timing of
discounted expected principal, interest and other cash flows. Credit discounts representing the principal losses
expected over the life of the loan are also a component of the initial fair value. In determining the Merger Date fair
value of acquired impaired loans, and in subsequent accounting, we have generally aggregated acquired commercial
and consumer loans into pools of loans with common risk characteristics.
The difference between the fair value of an acquired non-impaired loan and contractual amounts due at the Merger
Date is accreted into income over the estimated life of the loan. Contractually required payments represent the total
undiscounted amount of all uncollected principal and interest payments. Acquired non-impaired loans are placed on
nonaccrual status and reported as nonperforming or past due using the same criteria applied to the originated loan
portfolio.
The excess of an acquired impaired loan’s contractually required payments over the amount of its undiscounted cash
flows expected to be collected is referred to as the non-accretable difference. The non-accretable difference, which
is neither accreted into income nor recorded on the Consolidated Balance Sheets, reflects estimated future credit
losses and uncollectable contractual interest expected to be incurred over the life of the acquired impaired loan. The
excess cash flows expected to be collected over the carrying amount of the acquired loan is referred to as the
accretable yield. This amount is accreted into interest income over the remaining life of the acquired loans or pools
using the level yield method. The accretable yield is affected by changes in interest rate indices for variable rate
loans, changes in prepayment speed assumptions and changes in expected principal and interest payments over the
estimated lives of the acquired impaired loans.
(Continued)
F-59
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
We evaluate quarterly the remaining contractually required payments receivable and estimate cash flows expected to
be collected over the lives of the impaired loans. Contractually required payments receivable may increase or
decrease for a variety of reasons, for example, when the contractual terms of the loan agreement are modified, when
interest rates on variable rate loans change, or when principal and/or interest payments are received. Cash flows
expected to be collected on acquired impaired loans are estimated by incorporating several key assumptions similar
to the initial estimate of fair value. These key assumptions include probability of default, loss given default, and the
amount of actual prepayments after the Merger Date. Prepayments affect the estimated lives of loans and could
change the amount of interest income, and possibly principal, expected to be collected. In re-forecasting future
estimated cash flows, credit loss expectations are adjusted as necessary. The adjustments are based, in part, on
actual loss severities recognized for each loan type, as well as changes in the probability of default. For periods in
which estimated cash flows are not re-forecasted, the prior reporting period’s estimated cash flows are adjusted to
reflect the actual cash received and credit events that transpired during the current reporting period.
Increases in expected cash flows of acquired impaired loans subsequent to the Merger Date are recognized
prospectively through adjustments of the yield on the loans or pools over their remaining lives, while decreases in
expected cash flows are recognized as impairment through a provision for loan losses and an increase in the
allowance.
Year-end loans disaggregated by class of loan within the loan portfolio segments were as follows:
December 31, 2014
Balance
%
December 31, 2013
Balance
%
Percent
Increase
(Decrease)
Originated Loans
Commercial:
Commercial and industrial
Vacant land, land
development, and
residential construction
Real estate – owner occupied
Real estate – non-owner
occupied
Real estate – multi-family
and residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
$ 384,570,000
30.8%
$ 286,373,000
27.2%
34.3%
29,826,000
291,758,000
2.4
23.4
36,741,000
261,877,000
3.5
24.9
(18.8)
11.4
410,977,000
33.0
364,066,000
34.6
12.9
36,058,000
1,153,189,000
2.9
92.5
37,639,000
986,696,000
3.5
93.7
(4.2)
16.9
50,059,000
42,868,000
92,927,000
4.0
3.5
7.5
35,080,000
31,467,000
66,547,000
3.3
3.0
6.3
42.7
36.2
39.6
Total originated loans
$ 1,246,116,000
100.0% $ 1,053,243,000
100.0%
18.3%
(Continued)
F-60
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
December 31, 2014
Balance
%
December 31, 2013
Balance
%
Percent
Increase
(Decrease)
$ 166,037,000
19.7%
$
0
NA
NM
Acquired Loans
Commercial:
Commercial and industrial
Vacant land, land
development, and
residential construction
Real estate – owner occupied
Real estate – non-owner
occupied
Real estate – multi-family
and residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
22,148,000
138,630,000
2.6
16.4
148,597,000
17.6
86,702,000
562,114,000
10.3
66.6
109,219,000
171,828,000
281,047,000
13.0
20.4
33.4
Total acquired loans
$
843,161,000
100.0% $
0
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0
0
0
NA
NA
NM
NM
NA
NM
NA
NA
NM
NM
NA
NA
NA
NA
NM
NM
NM
NM
Total Loans
Commercial:
Commercial and industrial
Vacant land, land
development, and
residential construction
Real estate – owner occupied
Real estate – non-owner
occupied
Real estate – multi-family
and residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
December 31, 2014
Balance
%
December 31, 2013
Balance
%
Percent
Increase
(Decrease)
$ 550,607,000
26.4%
$ 286,373,000
27.2%
92.3%
51,974,000
430,388,000
2.5
20.5
36,741,000
261,877,000
3.5
24.9
41.5
64.3
559,574,000
26.8
364,066,000
34.6
53.7
122,760,000
1,715,303,000
5.9
82.1
37,639,000
986,696,000
3.5
93.7
159,278,000
214,696,000
373,974,000
7.6
10.3
17.9
35,080,000
31,467,000
66,547,000
3.3
3.0
6.3
226.2
73.8
354.0
582.3
462.0
Total loans
$ 2,089,277,000
100.0% $ 1,053,243,000
100.0%
98.4%
(Continued)
F-61
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
The total contractually required payments and carrying value of acquired impaired loans was $31.4 million and
$18.6 million, respectively, as of December 31, 2014. Changes in the accretable yield for acquired impaired loans
for the seven-month period ended December 31, 2014 were as follows:
Balance at May 31, 2014
Additions
Accretion
Net reclassification from nonaccretable to accretable
Disposals
Other activity
Balance at December 31, 2014
2014
0
2,514,000
(786,000)
3,537,000
(40,000)
(227,000)
4,998,000
$
$
Concentrations within the loan portfolio were as follows at year-end:
2014
2013
Balance
Percentage of
Loan Portfolio
Balance
Percentage of
Loan Portfolio
Commercial real estate loans to
lessors of non-residential
buildings
$ 480,170,000
23.0%
$ 299,446,000
28.4%
Year-end nonperforming originated loans were as follows:
2014
2013
Loans past due 90 days or more still accruing interest
Nonaccrual loans
$
0
26,048,000
$
0
6,718,000
Total nonperforming loans
$ 26,048,000
$
6,718,000
Year-end nonperforming acquired loans were as follows:
Loans past due 90 days or more still accruing interest
Nonaccrual loans
Total nonperforming loans
2014
2013
$
26,000
3,358,000
$
3,384,000
$
$
NA
NA
NA
(Continued)
F-62
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
The recorded principal balance of nonperforming loans was as follows:
Commercial:
Commercial and industrial
Vacant land, land development, and residential construction
Real estate – owner occupied
Real estate – non-owner occupied
Real estate – multi-family and residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
December 31,
2014
December 31,
2013
$
$
6,478,000
209,000
18,062,000
378,000
106,000
25,233,000
800,000
3,399,000
4,199,000
1,501,000
785,000
389,000
168,000
208,000
3,051,000
788,000
2,879,000
3,667,000
Total nonperforming loans
$ 29,432,000
$
6,718,000
Acquired impaired loans are not reported as nonperforming loans based on acquired impaired loan accounting.
Acquired non-impaired loans are placed on nonaccrual status and reported as nonperforming or past due using
the same criteria applied to the originated loan portfolio.
(Continued)
F-63
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F
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
All commercial loans are graded using the following number system:
Grade 1. Excellent credit rating that contain very little, if any, risk of loss.
Grade 2. Strong sources of repayment and have low repayment risk.
Grade 3. Good sources of repayment and have limited repayment risk.
Grade 4. Adequate sources of repayment and acceptable repayment risk; however, characteristics are present
that render the credit more vulnerable to a negative event.
Grade 5. Marginally acceptable sources of repayment and exhibit defined weaknesses and negative
characteristics.
Grade 6. Well defined weaknesses which may include negative current cash flow, high leverage, or operating
losses. Generally, if the credit does not stabilize or if further deterioration is observed in the near
term, the loan will likely be downgraded and placed on the Watch List (i.e., list of lending
relationships that receive increased scrutiny and review by the Board of Directors and senior
management).
Grade 7. Defined weaknesses or negative trends that merit close monitoring through Watch List status.
Grade 8.
Inadequately protected by current sound net worth, paying capacity of the obligor, or pledged
collateral, resulting in a distinct possibility of loss requiring close monitoring through Watch List
status.
Grade 9. Vital weaknesses exist where collection of principal is highly questionable.
Grade 10. Considered uncollectable and of such little value that their continuance as an asset is not warranted.
The primary risk elements with respect to commercial loans are the financial condition of the borrower, the
sufficiency of collateral, and timeliness of scheduled payments. We have a policy of requesting and reviewing
periodic financial statements from commercial loan customers and employ a disciplined and formalized review of
the existence of collateral and its value. The primary risk element with respect to each residential real estate loan
and consumer loan is the timeliness of scheduled payments. We have a reporting system that monitors past due
loans and have adopted policies to pursue creditor’s rights in order to preserve our collateral position.
(Continued)
F-76
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
The allowance for originated loan losses and recorded investments in originated loans for the year-ended December
31, 2014 are as follows:
Allowance for loan losses:
Beginning balance
Provision for loan losses
Charge-offs
Recoveries
Ending balance
Ending balance: individually
evaluated for impairment
Ending balance: collectively
evaluated for impairment
Total loans:
Ending balance
Ending balance: individually
evaluated for impairment
Ending balance: collectively
evaluated for impairment
Commercial
Loans
Retail
Loans
Unallocated
Total
$
$
20,455,000
(3,140,000)
(876,000)
1,297,000
17,736,000
$ 2,358,000
(721,000)
(554,000)
404,000
$ 1,487,000
$
$
8,000
68,000
0
0
76,000
$
$
22,821,000
(3,793,000)
(1,430,000)
1,701,000
19,299,000
$
9,374,000
$
777,000
$
0
$
10,151,000
$
8,362,000
$
710,000
$
76,000
$
9,148,000
$ 1,153,189,000
$ 92,927,000
$ 1,246,116,000
$
45,021,000
$ 2,835,000
$
47,856,000
$ 1,108,168,000
$ 90,092,000
$ 1,198,260,000
The allowance for acquired loan losses for the year-ended December 31, 2014 is as follows:
Commercial
Loans
Retail
Loans
Unallocated
Total
Allowance for loan losses:
Beginning balance
Provision for loan losses
Charge-offs
Recoveries
Ending balance
$
$
0
734,000
(55,000)
2,000
681,000
$
$
0
59,000
(16,000)
18,000
61,000
$
$
0
0
0
0
0
$
$
0
793,000
(71,000)
20,000
742,000
In accordance with the applicable accounting guidance for business combinations, there was no carry-over of
Firstbank’s previously established allowance for loan losses.
(Continued)
F-77
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
The allowance for loan losses and recorded investments in loans for the year-ended December 31, 2013 are as
follows:
Allowance for loan losses:
Beginning balance
Provision for loan losses
Charge-offs
Recoveries
Ending balance
Ending balance: individually
evaluated for impairment
Ending balance: collectively
evaluated for impairment
Total loans:
Ending balance
Ending balance: individually
evaluated for impairment
Ending balance: collectively
evaluated for impairment
Commercial
Loans
Retail
Loans
Unallocated
Total
$
$
26,043,000
(6,730,000)
(5,120,000)
6,262,000
20,455,000
$ 2,645,000
(489,000)
(170,000)
372,000
$ 2,358,000
$
$
(11,000) $
19,000
0
0
8,000
$
28,677,000
(7,200,000)
(5,290,000)
6,634,000
22,821,000
$
11,260,000
$ 1,126,000
$
0
$
12,386,000
$
9,195,000
$ 1,232,000
$
8,000
$
10,435,000
$ 986,696,000
$ 66,547,000
$ 1,053,243,000
$
33,240,000
$ 3,628,000
$
36,868,000
$ 953,456,000
$ 62,919,000
$ 1,016,375,000
(Continued)
F-78
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
The allowance for loan losses and recorded investments in loans for the year-ended December 31, 2012 are as
follows:
Allowance for loan losses:
Beginning balance
Provision for loan losses
Charge-offs
Recoveries
Ending balance
Ending balance: individually
evaluated for impairment
Ending balance: collectively
evaluated for impairment
Total loans:
Ending balance
Ending balance: individually
evaluated for impairment
Ending balance: collectively
evaluated for impairment
Commercial
Loans
Retail
Loans
Unallocated
Total
$
$
33,431,000
(2,800,000)
(12,075,000)
7,487,000
26,043,000
$ 3,019,000
(207,000)
(569,000)
402,000
$ 2,645,000
$
$
$
82,000
(93,000)
0
0
(11,000) $
36,532,000
(3,100,000)
(12,644,000)
7,889,000
28,677,000
$
16,860,000
$
329,000
$
0
$
17,189,000
$
9,183,000
$ 2,316,000
$
(11,000) $
11,488,000
$ 968,506,000
$ 72,683,000
$ 1,041,189,000
$
55,138,000
$ 2,141,000
$
57,279,000
$ 913,368,000
$ 70,542,000
$ 983,910,000
(Continued)
F-79
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
Loans modified as troubled debt restructurings during 2014 were as follows:
Originated Loans
Commercial:
Commercial and industrial
Vacant land, land development and
residential construction
Real estate – owner occupied
Real estate – non-owner occupied
Real estate – multi-family and
residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
Total
Acquired Loans
Commercial:
Commercial and industrial
Vacant land, land development and
residential construction
Real estate – owner occupied
Real estate – non-owner occupied
Real estate – multi-family and
residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
Pre-
Post-
Modification Modification
Recorded
Principal
Balance
Recorded
Principal
Balance
Number of
Contracts
2
0
2
1
0
5
0
0
0
5
7
0
2
1
4
14
1
1
2
$ 5,994,000
$ 6,094,000
0
16,787,000
146,000
0
16,787,000
146,000
0
22,927,000
0
23,027,000
0
0
0
0
0
0
$ 22,927,000
$ 23,027,000
$ 1,604,000
$ 1,604,000
0
1,619,000
65,000
394,000
3,682,000
0
1,619,000
65,000
394,000
3,682,000
26,000
179,000
205,000
26,000
179,000
205,000
Total
16
$ 3,887,000
$ 3,887,000
(Continued)
F-80
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
Originated loans modified as troubled debt restructurings during 2013 were as follows:
Commercial:
Commercial and industrial
Vacant land, land development and
residential construction
Real estate – owner occupied
Real estate – non-owner occupied
Real estate – multi-family and
residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
Pre-
Post-
Modification Modification
Recorded
Principal
Balance
Recorded
Principal
Balance
$
741,000
$
741,000
3,610,000
715,000
45,000
241,000
5,352,000
3,610,000
715,000
45,000
241,000
5,352,000
0
1,879,000
1,879,000
0
1,879,000
1,879,000
Number of
Contracts
3
2
2
1
1
9
0
1
1
Total
10
$ 7,231,000
$ 7,231,000
The following originated loans, modified as troubled debt restructurings within the previous twelve months, became
over 30 days past due during the twelve months ended December 31, 2014 (amounts as of period end):
Commercial:
Commercial and industrial
Vacant land, land development and
residential construction
Real estate – owner occupied
Real estate – non-owner occupied
Real estate – multi-family and
residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
Total
Number of
Contracts
Recorded
Principal
Balance
0
0
0
0
0
0
0
0
0
0
$
$
0
0
0
0
0
0
0
0
0
0
(Continued)
F-81
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
The following acquired loans, modified as troubled debt restructurings within the previous seven months, became
over 30 days past due during the seven months ended December 31, 2014 (amounts as of period end):
Commercial:
Commercial and industrial
Vacant land, land development and
residential construction
Real estate – owner occupied
Real estate – non-owner occupied
Real estate – multi-family and
residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
Total
Number of
Contracts
Recorded
Principal
Balance
0
0
0
0
0
0
0
0
0
0
$
$
0
0
0
0
0
0
0
0
0
0
The following originated loans, modified as troubled debt restructurings within the previous twelve months, became
over 30 days past due during the twelve months ended December 31, 2013 (amounts as of period end):
Commercial:
Commercial and industrial
Vacant land, land development and
residential construction
Real estate – owner occupied
Real estate – non-owner occupied
Real estate – multi-family and
residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
Total
Number of
Contracts
0
0
1
0
0
1
0
0
0
1
Recorded
Principal
Balance
$
0
0
65,000
0
0
65,000
0
0
0
$
65,000
(Continued)
F-82
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MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 4 – LOANS AND ALLOWANCE FOR LOAN LOSSES (Continued)
The allowance related to loans categorized as troubled debt restructurings was as follows:
Commercial:
Commercial and industrial
Vacant land, land development, and residential construction
Real estate – owner occupied
Real estate – non-owner occupied
Real estate – multi-family and residential rental
Total commercial
Retail:
Home equity and other
1-4 family mortgages
Total retail
December 31,
2014
December 31,
2013
$
16,000
151,000
182,000
4,778,000
666,000
5,793,000
$
187,000
798,000
528,000
7,828,000
1,010,000
10,351,000
0
0
0
0
48,000
48,000
Total related allowance
$
5,793,000
$
10,399,000
In general, our policy dictates that a renewal or modification of an 8- or 9-rated commercial loan meets the criteria
of a troubled debt restructuring, although we review and consider all renewed and modified loans as part of our
troubled debt restructuring assessment procedures. Loan relationships rated 8 contain significant financial
weaknesses, resulting in a distinct possibility of loss, while relationships rated 9 reflect vital financial weaknesses,
resulting in a highly questionable ability on our part to collect principal; we believe borrowers warranting such
ratings would have difficulty obtaining financing from other market participants. Thus, due to the lack of
comparable market rates for loans with similar risk characteristics, we believe 8- or 9-rated loans renewed or
modified were done so at below market rates. Loans that are identified as troubled debt restructurings are
considered impaired and are individually evaluated for impairment when assessing these credits in our allowance for
loan losses calculation.
NOTE 5 - PREMISES AND EQUIPMENT, NET
Year-end premises and equipment were as follows:
Land and improvements
Buildings
Furniture and equipment
Less: accumulated depreciation
2014
2013
$
16,579,000
38,761,000
16,622,000
71,962,000
23,150,000
$
8,556,000
24,733,000
12,718,000
46,007,000
21,109,000
Total premises and equipment
$
48,812,000
$
24,898,000
F-87
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 5 - PREMISES AND EQUIPMENT, NET (Continued)
Future lease payments total $1.8 million, comprised of $0.4 million in one year, $0.8 million in one to three years,
$0.5 million in three to five years and $0.1 million in over five years. Depreciation expense totaled $2.3 million in
2014, $1.3 million in 2013, and $1.5 million in 2012.
NOTE 6 – MORTGAGE LOAN SERVICING
Mortgage loans serviced for others are not reported as assets in the Consolidated Balance Sheets. The mortgage
loan servicing portfolio was acquired in the merger with Firstbank. The year-end aggregate unpaid principal
balances of mortgage loans serviced for others were as follows:
Mortgage loan portfolios serviced for:
Federal Home Loan Mortgage Corporation
Federal Home Loan Bank
Total mortgage loans serviced for others
2014
$ 589,118,000
1,702,000
$ 590,820,000
Custodial escrow balances maintained in connection with serviced loans were $2.8 million as of December 31, 2014.
Activity for capitalized mortgage loan servicing rights, included in other assets in the Consolidated Balance Sheets,
during 2014 was as follows:
Balance at January 1, 2014
Firstbank merger
Additions
Amortized to expense
Balance at December 31, 2014
2014
$
$
0
7,389,000
575,000
(1,252,000)
6,712,000
We determined that no valuation allowance was necessary as of December 31, 2014. The estimated fair value of
mortgage servicing rights was $7.3 million as of December 31, 2014. The fair value of mortgage servicing rights is
estimated using a valuation model that calculates the present value of estimated future net servicing cash flows,
taking into consideration expected mortgage loan prepayment rates, discount rates, servicing costs and other
economic factors, which are determined based on current market conditions. Fair value was determined using a
discount rate of 7.05%, a weighted average constant prepayment rate of 12.6%, depending on the stratification of the
specific right, and a weighted average delinquency rate of 1.01%.
F-88
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 6 – MORTGAGE LOAN SERVICING (Continued)
The weighted average amortization period is 3.7 years as of December 31, 2014. Estimated amortization is as
follows:
2015
2016
2017
2018
2019
Thereafter
$
1,560,000
1,256,000
1,023,000
857,000
722,000
1,294,000
NOTE 7 – CORE DEPOSIT INTANGIBLE ASSETS, NET
The gross carrying amount of core deposit intangible assets totaled $17.5 million as of December 31, 2014 (none at
December 31, 2013). The accumulated amortization on core deposit intangible assets was $1.9 million, providing
for a net carry balance of $15.6 million as of December 31, 2014.
The estimated amortization expense on core deposit intangible assets in future periods is:
2015
2016
2017
2018
2019
Thereafter
$
2,992,000
2,675,000
2,357,000
2,039,000
1,721,000
3,839,000
F-89
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 8 – DEPOSITS
Deposits at year-end are summarized as follows:
Noninterest-bearing
demand
Interest-bearing
checking
Money market
Savings
Time, under $100,000
Time, $100,000 and
over
Out-of-area time,
under $100,000
Out-of-area time,
$100,000 and over
December 31, 2014
Balance
%
December 31, 2013
Balance
%
Percent
Increase
(Decrease)
$ 558,738,000
24.5% $ 224,580,000
20.1%
148.8%
413,382,000
235,587,000
330,459,000
181,026,000
18.2
10.3
14.5
8.0
197,388,000
133,369,000
52,606,000
43,251,000
17.6
11.9
4.7
3.9
382,120,000
2,101,312,000
16.8
92.3
254,600,000
905,794,000
22.8
81.0
109.4
76.6
528.2
318.5
50.1
132.0
2,422,000
173,181,000
175,603,000
0.1
7.6
7.7
4,078,000
0.4
(40.6)
209,039,000
213,117,000
18.6
19.0
(17.2)
(17.6)
Total deposits
$ 2,276,915,000
100.0% $ 1,118,911,000
100.0%
103.5
Out-of-area certificates of deposit consist of certificates obtained from depositors outside of our primary market
areas almost exclusively through deposit brokers.
The following table depicts the maturity distribution for certificates of deposit at year-end:
In one year or less
In one to two years
In two to three years
In three to four years
In four to five years
2014
2013
$ 368,163,000
153,346,000
118,919,000
60,953,000
37,368,000
$ 213,454,000
80,138,000
73,271,000
95,979,000
48,126,000
Total certificates of deposit
$ 738,749,000
$ 510,968,000
F-90
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 8 – DEPOSITS (Continued)
The following table depicts the maturity distribution for certificates of deposit with balances of $100,000 or more at
year-end:
Up to three months
Three months to six months
Six months to twelve months
Over twelve months
2014
2013
$
75,356,000
65,838,000
125,492,000
288,615,000
$ 57,469,000
41,237,000
93,920,000
271,013,000
Total certificates of deposit
$ 555,301,000
$ 463,639,000
NOTE 9 – SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
Information regarding securities sold under agreements to repurchase at year-end is summarized below:
Outstanding balance at year-end
Weighted average interest rate at year-end
Average daily balance during the year
Weighted average interest rate during the year
2014
2013
$ 167,569,000
0.11%
$ 69,305,000
0.12%
$ 105,474,000
0.12%
$ 65,939,000
0.12%
Maximum daily balance during the year
$ 178,042,000
$ 78,960,000
Securities sold under agreements to repurchase (“repurchase agreements”) generally have original maturities of less
than one year. Repurchase agreements are treated as financings, and the obligations to repurchase securities sold are
reflected as liabilities. Securities involved with the repurchase agreements are recorded as assets of our Bank and
are held in safekeeping by a correspondent bank. Repurchase agreements are offered principally to certain large
deposit customers. Repurchase agreements are secured by securities with an aggregate fair value equal to the
aggregate outstanding balance.
NOTE 10 - FEDERAL HOME LOAN BANK ADVANCES
Federal Home Loan Bank (“FHLB”) advances totaled $54.0 million at December 31, 2014, and mature at varying
dates from January 2015 through September 2017, with fixed rates of interest from 0.62% to 1.51% and averaging
1.26%. FHLB advances totaled $45.0 million at December 31, 2013, and were expected to mature at varying dates
ranging from March 2017 through September 2017, with fixed rates of interest from 1.22% to 1.51% and averaging
1.34%.
Each advance is payable at its maturity date, and is subject to a prepayment fee if paid prior to the maturity date.
The advances are generally collateralized by a blanket lien on our residential mortgage loan portfolio. Our
borrowing line of credit as of December 31, 2014 totaled $409.5 million, with availability of $355.5 million.
F-91
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 10 - FEDERAL HOME LOAN BANK ADVANCES (Continued)
Maturities over the next five years are:
2015
2016
2017
2018
2019
$
6,022,000
3,000,000
45,000,000
0
0
NOTE 11 - FEDERAL INCOME TAXES
The consolidated income tax expense is as follows:
Current expense
Deferred expense
Tax expense
2014
2013
2012
$
$
3,359,000
4,506,000
7,865,000
$
$
0
8,092,000
8,092,000
$
$
0
5,636,000
5,636,000
A reconciliation of the differences between the federal income tax expense recorded and the amount computed by
applying the federal statutory rate to income before income taxes is as follows:
Tax at statutory rate (35%)
Increase (decrease) from
Tax-exempt interest
Bank owned life insurance
Other
Tax expense
2014
2013
2012
$
8,819,000
$
8,794,000
$
6,360,000
(621,000)
(415,000)
82,000
7,865,000
(347,000)
(465,000)
110,000
8,092,000
(486,000)
(535,000)
297,000
5,636,000
$
$
$
F-92
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 11 - FEDERAL INCOME TAXES (Continued)
Significant components of deferred tax assets and liabilities as of December 31, 2014 and 2013 are as follows:
Deferred income tax assets
Allowance for loan losses
Tax credit carryforwards
Nonaccrual loan interest income
Deferred compensation
Deferred loan fees
Fair value write-downs on foreclosed properties
Fair value of interest rate swap
Losses on capital investments
Stock compensation
Net operating loss carryforward
Unrealized loss on securities
Other
Deferred income tax liabilities
Depreciation
Prepaid expenses
Core deposit intangible
Mortgage loan servicing rights
Unrealized gain on securities
Other
Net deferred tax asset before valuation allowance
Valuation allowance
Total net deferred tax asset
2014
2013
$
7,014,000
3,395,000
471,000
1,304,000
445,000
212,000
89,000
450,000
521,000
0
0
725,000
14,626,000
$
7,987,000
1,397,000
605,000
567,000
273,000
241,000
92,000
0
207,000
4,050,000
2,908,000
136,000
18,463,000
1,217,000
425,000
5,386,000
2,349,000
112,000
476,000
9,965,000
4,661,000
(450,000)
4,211,000
419,000
192,000
0
0
0
98,000
709,000
17,754,000
0
$ 17,754,000
$
A valuation allowance related to deferred tax assets is required when it is considered more likely than not that all or
part of the benefits related to such assets will not be realized. We do not believe the deferred tax asset related to
losses on certain capital investments acquired in our merger with Firstbank is more likely than not to be realized.
Therefore, we established a valuation allowance of $0.5 million in connection with the acquisition accounting at the
time of the merger.
At December 31, 2014, we had carryforwards of the following tax attributes: general business tax credits of $0.6
million that expire in the years 2028 through 2034; and $2.8 million of federal alternative minimum tax credits with
an indefinite life.
We had no unrecognized tax benefits at any time during 2014 or 2013 and do not anticipate any significant increase
in unrecognized tax benefits during 2015. Should the accrual of any interest or penalties relative to unrecognized
tax benefits be necessary, it is our policy to record such accruals in our income tax accounts; no such accruals
existed at any time during 2014 or 2013. Our U.S. federal income tax returns are no longer subject to examination
for all years before 2011.
F-93
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 12 – STOCK-BASED COMPENSATION
Stock-based compensation plans are used to provide directors and employees with an increased incentive to
contribute to our long-term performance and growth, to align the interests of directors and employees with the
interests of our shareholders through the opportunity for increased stock ownership and to attract and retain directors
and employees. From 2000 through 2005, stock option grants were provided to directors and certain employees
through several stock option plans, including the 2000 Employee Stock Option Plan, 2004 Employee Stock Option
Plan and Independent Director Stock Option Plan. During 2006, 2007 and 2008, stock option and restricted stock
grants were provided to certain employees through the Stock Incentive Plan of 2006. No stock option or restricted
stock grants were made during 2009, 2010 or 2011. During 2012, restricted stock grants were provided to directors
and certain employees through the Stock Incentive Plan of 2006. No stock option or restricted stock grants were
made during 2013 due to the pending merger with Firstbank. During 2014, stock option and restricted stock grants
were provided to certain employees through the Stock Incentive Plan of 2006. In addition, stock grants were
provided to directors as retainer payments during 2014 through the Stock Incentive Plan of 2006.
Under our 2000 Employee Stock Option Plan and 2004 Employee Stock Option Plan, stock options granted to
employees were granted at the market price on the date of grant, generally fully vested after one year and expired ten
years from the date of grant. Stock options granted to non-executive officers during 2005 vested about three weeks
after being granted. Under our Independent Director Stock Option Plan, stock options granted to non-employee
directors were at 125% of the market price on the date of grant, fully vested after five years and expire ten years
from the date of grant.
The Stock Incentive Plan of 2006 replaced all of our outstanding stock option plans for stock options not previously
granted. Under the Stock Incentive Plan of 2006, incentive awards may include, but are not limited to, stock
options, restricted stock, stock appreciation rights and stock awards. Incentive awards that are stock options or stock
appreciation rights are granted with an exercise price not less than the closing price of our common stock on the date
of grant, or for stock options granted in 2006 or 2007, the day before the date of grant, if the closing price was
higher on the day before the date of grant. Price, vesting and expiration date parameters are determined by
Mercantile’s Compensation Committee on a grant-by-grant basis. Generally, the stock options granted to employees
during 2006, 2007 and 2008 fully vested after two years and expire after seven years. The restricted stock awards
granted to certain employees during 2006, 2007 and 2008 fully vested after four years, while the restricted stock
awards granted to directors and certain employees during 2012 fully vested after two years. No payments were
required from employees for the restricted stock awards. The restricted stock awards granted to certain employees
during 2014 fully vest after three years. The stock options granted to certain employees during 2014, which were at
110% of the market price on the date of grant, fully vest after two years and expire after seven years. At year-end
2014, there were approximately 277,000 shares authorized for future incentive awards.
In conjunction with the Firstbank merger, all of our outstanding restricted stock awards, which were scheduled to
vest in full in November, 2014, became fully vested on June 1, 2014, resulting in the recognition of compensation
expense of $0.2 million in the second quarter of 2014 to reflect the accelerated vesting of the restricted stock awards.
The unrecognized compensation cost related to unvested stock options was less than $0.1 million as of December
31, 2014, which will be recognized as expense over the next two years. The unrecognized compensation cost related
to restricted stock grants was $2.0 million as of December 31, 2014, which will be recognized as expense over the
next three years.
F-94
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 12 – STOCK-BASED COMPENSATION (Continued)
Also in conjunction with the Firstbank merger, we issued Mercantile stock options in replacement of all outstanding
Firstbank stock option grants that had been previously issued to Firstbank employees under the Firstbank
Corporation Stock Option and Restricted Stock Plan of 1997 and the Firstbank Corporation 2006 Stock
Compensation Plan. In general, stock option grants for 50 shares or less fully vested after one year from date of
grant, while stock option grants for more than 50 shares vested over a five-year period at 20% of the grant per
annum starting one year from date of grant. The stock option grants expire ten years from date of grant. There were
approximately 282,200 Mercantile stock options issued as a result of the merger, with about 258,400 of the stock
option grants fully vested and exercisable on the date of merger. Unrecognized compensation cost related to the
unvested stock options was less than $0.1 million as of December 31, 2014, which will be fully expensed during
2015.
A summary of restricted stock activity from grants issued under the Mercantile Stock Incentive Plan of 2006 during
the past three years is as follows:
2014
2013
2012
Weighted
Average
Fair Value
Shares
63,800
101,490
(63,300)
(500)
$ 14.30
20.13
14.30
14.30
Weighted
Average
Fair Value
$ 14.30
NA
NA
14.30
Weighted
Average
Fair Value
Shares
38,650
66,100
(38,266)
(384)
$ 6.20
14.30
6.20
6.20
Shares
66,100
0
0
(2,300)
101,490
$ 20.13
63,800
$ 14.30
66,100
$ 14.30
Nonvested at
beginning of year
Granted
Vested
Forfeited
Nonvested at
end of year
A summary of stock option activity from grants issued under various Mercantile plans during the past three years is
as follows:
2014
2013
2012
Weighted
Average
Exercise
Price
$ 33.11
22.15
17.74
34.60
Shares
60,876
6,488
(2,845)
(29,184)
Weighted
Average
Exercise
Price
Weighted
Average
Exercise
Price
Shares
Shares
152,896
0
(51,055)
(40,965)
$ 26.15
NA
13.72
31.30
214,903
0
(50,930)
(11,077)
$ 22.40
NA
10.83
23.77
35,335
$ 31.09
60,876
$ 33.11
152,896
$ 26.15
Outstanding at
beginning of year
Granted
Exercised
Forfeited or expired
Outstanding at
end of year
Options exercisable
at year-end
28,847
$ 33.11
60,876
$ 33.11
152,896
$ 26.15
F-95
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 12 – STOCK-BASED COMPENSATION (Continued)
The fair value of each stock option award is estimated on the date of grant using a closed option valuation (Black-
Scholes) model that uses the assumptions noted in the table below. Expected volatilities are based on historical
volatilities on our common stock. Historical data is used to estimate stock option expense and post-vesting
termination behavior. The expected term of stock options granted is based on historical data and represents the
period of time that stock options granted are expected to be outstanding, which takes into account that the stock
options are not transferable. The risk-free interest rate for the expected term of the stock option is based on the U.S.
Treasury yield curve in effect at the time of the stock option grant.
The fair value of stock options granted during 2014 was determined using the following weighted-average
assumptions as of the grant date. No stock options were granted during 2013 or 2012.
Risk-free interest rate
Expected option life
Expected stock price volatility
Dividend yield
2014
1.56%
5 Years
26%
2.5%
Options issued under various Mercantile plans outstanding at year-end 2014 were as follows:
Outstanding
Exercisable
Range of
Exercise
Prices
$ 6.21 - $ 8.00
$20.01 - $24.00
$32.01 - $36.00
Weighted Average Weighted
Average
Exercise
Price
Remaining
Contractual
Life
Number
2,700
6,488
26,147
0.9 Years
6.9 Years
0.9 Years
$ 6.21
22.15
35.88
Weighted
Average
Exercise
Price
Number
2,700
0
26,147
$ 6.21
NA
35.88
Outstanding at year end
35,335
2.0 Years
$ 31.09
28,847
$ 33.11
Information related to options issued under various Mercantile plans outstanding at year-end 2014, 2013 and 2012 is
as follows:
Minimum exercise price
Maximum exercise price
Average remaining option term
2014
2013
2012
$
6.21
35.88
2.0 Years
$
6.21
40.28
1.4 Years
$
6.21
40.28
1.9 Years
F-96
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 12 – STOCK-BASED COMPENSATION (Continued)
Information related to stock option grants and exercises issued under various Mercantile plans during 2014, 2013
and 2012 is as follows:
Aggregate intrinsic value of stock options exercised
Cash received from stock option exercises
Tax benefit realized from stock option exercises
Weighted average per share fair value of stock
2014
2013
2012
$
11,000
50,000
0
$408,000
289,000
0
$ 307,000
227,000
0
options granted
$
2.72
NA
NA
The aggregate intrinsic value of all stock options issued under various Mercantile plans outstanding and exercisable
at December 31, 2014 was less than $0.1 million. Shares issued as a result of the exercise of stock option grants
have been authorized and previously unissued shares.
A summary of stock option activity from grants issued under various Firstbank plans that became part of
Mercantile’s plans upon consummation of the merger on June 1, 2014 is as follows:
Outstanding at
beginning of year
Granted
Replaced as part of merger
Exercised
Forfeited or expired
Outstanding at
end of year
Options exercisable
at year-end
2014
Weighted
Average
Exercise
Price
NA
NA
15.48
8.34
24.46
Shares
0
0
282,178
(27,740)
(36,456)
217,982
$ 14.89
210,777
$ 15.22
F-97
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 12 – STOCK-BASED COMPENSATION (Continued)
Options issued under various Firstbank plans outstanding at year-end 2014 were as follows:
Outstanding
Exercisable
Range of
Exercise
Prices
$ 4.00 - $ 8.00
$ 8.01 - $12.00
$20.01 - $25.00
Weighted Average Weighted
Average
Exercise
Price
Remaining
Contractual
Life
Number
63,590
68,430
85,962
4.9 Years
3.7 Years
1.4 Years
$ 6.53
13.20
22.43
Weighted
Average
Exercise
Price
Number
56,385
68,430
85,962
$ 6.70
13.20
22.43
Outstanding at year end
217,982
3.1 Years
$ 14.89
210,777
$ 15.22
Information related to options issued under various Firstbank plans outstanding at year-end 2014 is as follows:
Minimum exercise price
Maximum exercise price
Average remaining option term
2014
$
5.19
24.46
3.1 Years
Information related to stock option grants and exercises issued under various Firstbank plans during 2014 is as
follows:
Aggregate intrinsic value of stock options exercised
Cash received from stock option exercises
Tax benefit realized from stock option exercises
Weighted average per share fair value of stock
options granted
2014
$ 333,000
232,000
116,000
NA
The aggregate intrinsic value of all stock options issued under various Firstbank plans outstanding and exercisable at
December 31, 2014 was $1.3 million. Shares issued as a result of the exercise of stock option grants have been
authorized and previously unissued shares.
On June 26, 2014, we granted a total of 7,375 shares of common stock to our Corporate, Bank and Regional
Advisory Boards of Directors for retainer payments for the period of June 1, 2014 through December 31, 2014. The
associated $0.2 million cost was expensed on a straightline basis over the last six months of 2014.
F-98
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 13 – RELATED PARTIES
Certain directors and executive officers of the Bank, including their immediate families and companies in which
they are principal owners, were loan customers of the Bank. At year-end 2014 and 2013, the Bank had $15.8
million and $7.8 million in loan commitments to directors and executive officers, of which $9.0 million and $6.9
million were outstanding at year-end 2014 and 2013, respectively, as reflected in the following table. The line item
entitled “Adjustments” primarily relates to the Firstbank merger in 2014 and Board member retirements during
2013.
Beginning balance
New loans
Repayments
Adjustments
Ending balance
2014
2013
$
6,884,000
781,000
(381,000)
1,718,000
$
1,418,000
6,309,000
(252,000)
(591,000)
$
9,002,000
$
6,884,000
Related party deposits and repurchase agreements totaled $16.6 million and $3.9 million at year-end 2014 and 2013,
respectively.
NOTE 14 – COMMITMENTS AND OFF-BALANCE-SHEET RISK
We are a party to financial instruments with off-balance sheet risk in the normal course of business to meet the
financing needs of our customers. These financial instruments include commitments to extend credit and standby
letters of credit. Loan commitments to extend credit are agreements to lend to a customer as long as there is no
violation of any condition established in the contract. Standby letters of credit are conditional commitments issued
by our Bank to guarantee the performance of a customer to a third party. Commitments generally have fixed
expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are
expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future
cash requirements.
These instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized, if any, in
the balance sheet. Our maximum exposure to loan loss in the event of nonperformance by the other party to the
financial instrument for commitments to extend credit and standby letters of credit is represented by the contractual
notional amount of those instruments. We use the same credit policies in making commitments and conditional
obligations as we do for on-balance sheet instruments. Collateral, such as accounts receivable, securities, inventory,
and property and equipment, is generally obtained based on management’s credit assessment of the borrower. If
required, estimated loss exposure resulting from these instruments is expensed and recorded as a liability. There
was no liability balance for these instruments as of December 31, 2014 and 2013.
At year-end 2014 and 2013, the rates on existing off-balance sheet instruments were substantially equivalent to
current market rates, considering the underlying credit standing of the counterparties.
F-99
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 14 – COMMITMENTS AND OFF-BALANCE-SHEET RISK (Continued)
Our maximum exposure to credit losses for loan commitments and standby letters of credit outstanding at year-end
was as follows:
Commercial unused lines of credit
Unused lines of credit secured by 1 – 4 family
residential properties
Credit card unused lines of credit
Other consumer unused lines of credit
Commitments to make loans
Standby letters of credit
2014
2013
$
554,856,000
$
257,937,000
60,983,000
11,649,000
8,673,000
110,126,000
35,461,000
23,429,000
9,013,000
5,695,000
58,799,000
19,670,000
Total commitments
$
781,748,000
$
374,543,000
Commitments to make loans generally reflect our binding obligations to existing and prospective customers to
extend credit, including line of credit facilities secured by accounts receivable and inventory, and term debt secured
by either real estate or equipment. In most instances, line of credit facilities are for a one-year term and are at a
floating rate tied to the Mercantile Bank Prime Rate, the Wall Street Journal Prime Rate or the 30-Day Libor rate.
For term debt secured by real estate, customers are generally offered a floating rate tied to the Mercantile Bank
Prime Rate or Wall Street Journal Prime Rate, and a fixed rate currently ranging from 4.00% to 7.00%. These credit
facilities generally balloon within five years, with payments based on amortizations ranging from 10 to 20 years.
For term debt secured by non-real estate collateral, customers are generally offered a floating rate tied to the
Mercantile Bank Prime Rate or Wall Street Journal Prime Rate, and a fixed rate currently ranging from 4.00% to
7.50%. These credit facilities generally mature and fully amortize within five years.
Certain of our commercial loan customers have entered into interest rate swap agreements directly with our
correspondent banks. To assist our commercial loan customers in these transactions, and to encourage our
correspondent banks to enter into the interest rate swap transactions with minimal credit underwriting analyses on
their part, we have entered into risk participation agreements with the correspondent banks whereby we agree to
make payments to the correspondent banks owed by our commercial loan customers under the interest rate swap
agreement in the event that our commercial loan customers do not make the payments. We are not a party to the
interest rate swap agreements under these arrangements. As of December 31, 2014, the total notional amount of the
underlying interest rate swap agreements was $15.4 million, with a net fair value from our commercial loan
customers’ perspective of negative $2.9 million. These risk participation agreements are considered financial
guarantees in accordance with applicable accounting guidance and are therefore recorded as liabilities at fair value,
generally equal to the fees collected at the time of their execution. These liabilities are accreted into income during
the terms of the interest rate swap agreements, generally ranging from an original term of four to fifteen years, and
totaled less than $0.1 million at December 31, 2014 and December 31, 2013.
F-100
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 14 – COMMITMENTS AND OFF-BALANCE-SHEET RISK (Continued)
The following instruments are considered financial guarantees under current accounting guidance. These
instruments are carried at fair value.
2014
Contract
Amount
Carrying
Value
2013
Contract
Amount
Carrying
Value
Standby letters of credit
$
35,461,000
$ 150,000
$ 19,670,000
$ 148,000
We were required to have $8.4 million and $1.5 million of cash on hand or on deposit with the Federal Reserve
Bank of Chicago to meet regulatory reserve and clearing requirements at year-end 2014 and 2013, respectively.
NOTE 15 – BENEFIT PLANS
We have a 401(k) benefit plan that covers substantially all of our employees. The percent of our matching
contributions to the 401(k) benefit plan is determined annually by the Board of Directors. The matching
contribution was 3% as of January 1, 2012, and then increased to 4% as of October 1, 2012. Effective January 1,
2014, the matching contribution was increased to 4.25%. Matching contributions, if made, are immediately vested.
Our 2014, 2013 and 2012 matching 401(k) contributions charged to expense were $0.9 million, $0.5 million and
$0.4 million, respectively.
We have a deferred compensation plan in which all persons serving on the Board of Directors may defer all or
portions of their annual retainer and meeting fees, with distributions to be paid upon termination of service as a
director or specific dates selected by the director. We also have a non-qualified deferred compensation program in
which selected officers may defer all or portions of salary and bonus payments. The deferred amounts, totaling $3.7
million and $1.6 million as of December 31, 2014 and 2013, respectively, are categorized as other liabilities in the
Consolidated Balance Sheets, and are paid interest at a rate equal to the Wall Street Journal Prime Rate. Interest
expense is insignificant for all periods presented.
The Mercantile Bank Corporation Employee Stock Purchase Plan of 2002 was replaced by the Mercantile Bank
Corporation Employee Stock Purchase Plan of 2014 (herein after referred to as the “Stock Purchase Plans”) in June
of 2014. The Stock Purchase Plans are non-compensatory plans intended to encourage full- and part-time
employees of Mercantile and its subsidiaries to promote our best interests and to align employees’ interests with the
interests of our shareholders by permitting employees to purchase shares of our common stock through regular
payroll deductions. Shares are purchased on the last business day of each calendar quarter at a price equal to the
consolidated closing bid price of our common stock reported on The Nasdaq Stock Market. A total of 250,000
shares of common stock may be issued under the existing plan; however, the number of shares may be adjusted to
reflect any stock dividends and other changes in our capitalization. The number of shares issued under the Stock
Purchase Plans totaled 1,150 and 1,098 in 2014 and 2013, respectively. As of December 31, 2014, there were
28,850 shares available under our current plan.
F-101
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 16 – HEDGING ACTIVITIES
Our interest rate risk policy includes guidelines for measuring and monitoring interest rate risk. Within these
guidelines, parameters have been established for maximum fluctuations in net interest income. Possible fluctuations
are measured and monitored using net interest income simulation. Our policy provides for the use of certain
derivative instruments and hedging activities to aid in managing interest rate risk to within policy parameters.
In February 2012, we entered into an interest rate swap agreement with a correspondent bank to hedge the floating
rate on the subordinated debentures issued to Mercantile Bank Capital Trust I, which became effective in January
2013 and matures in January 2018. The $32.0 million of subordinated debentures have a rate equal to the 90-Day
Libor Rate plus a fixed spread of 218 basis points, and are subject to repricing quarterly. The interest rate swap
agreement provides for us to pay our correspondent bank a fixed rate, while our correspondent bank will pay us the
90-Day Libor Rate on a $32.0 million notional amount. The quarterly re-set dates for the floating rate on the interest
rate swap agreement are the same as the re-set dates for the floating rate on the subordinated debentures. The
interest rate swap agreement qualifies for hedge accounting; therefore, fluctuations in the fair value of the interest
rate swap agreement, net of tax effect, are recorded in other comprehensive income. As of December 31, 2014 and
2013, the fair value of the interest rate swap agreement was recorded as a liability in the amount of $0.3 million.
NOTE 17 – FAIR VALUES OF FINANCIAL INSTRUMENTS
Carrying amount, estimated fair value and level within the fair value hierarchy of financial instruments were as
follows at year-end (dollars in thousands):
Level in
Fair Value
Hierarchy
2014
2013
Carrying
Amount
Fair
Value
Carrying
Amount
Fair
Value
Financial assets
Cash
Cash equivalents
Securities available for sale
Federal Home Loan Bank stock
Loans, net
Bank owned life insurance
Accrued interest receivable
Financial liabilities
Deposits
Securities sold under agreements
to repurchase
Federal Home Loan Bank
advances
Subordinated debentures
Accrued interest payable
Interest rate swap
Level 1
Level 2
(1)
(2)
Level 3
Level 2
Level 2
$
13,261 $
159,477
432,912
13,699
2,069,236
57,861
8,033
13,261
159,477
432,912
13,699
2,064,140
57,861
8,033
$
1,464 $
145,501
131,178
11,961
1,030,422
51,377
3,649
1,464
145,501
131,178
11,961
1,027,300
51,377
3,649
Level 2
2,276,915
2,254,749
1,118,911
1,120,576
Level 2
167,569
167,569
69,305
69,305
Level 2
Level 2
Level 2
(1)
54,022
54,472
1,942
253
54,720
54,508
1,942
253
45,000
32,990
2,041
264
45,139
32,974
2,041
264
(1) See Note 18 for a description of the fair value hierarchy as well as a disclosure of levels for classes of financial
assets and liabilities.
(2) It is not practical to determine the fair value of FHLB stock due to transferability restrictions.
F-102
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 17 – FAIR VALUES OF FINANCIAL INSTRUMENTS (Continued)
Carrying amount is the estimated fair value for cash and cash equivalents, Federal Home Loan Bank stock, accrued
interest receivable and payable, bank owned life insurance, demand deposits, securities sold under agreements to
repurchase, and variable rate loans and deposits that reprice frequently and fully. Security fair values are based on
market prices or dealer quotes, and if no such information is available, on the rate and term of the security and
information about the issuer. For fixed rate loans and deposits and for variable rate loans and deposits with
infrequent repricing or repricing limits, fair value is based on discounted cash flows using current market rates
applied to the estimated life and credit risk. Fair value of subordinated debentures and Federal Home Loan Bank
advances is based on current rates for similar financing. Fair value of the interest rate swap is determined primarily
utilizing market-consensus forecasted yield curves. Fair value of off-balance sheet items is estimated to be nominal.
NOTE 18 – FAIR VALUE MEASUREMENTS
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly
transaction between market participants. A fair value measurement assumes that the transaction to sell the asset or
transfer the liability occurs in the principal market for the asset or liability, or in the absence of a principal market,
the most advantageous market for the asset or liability. The price of the principal (or most advantageous) market
used to measure the fair value of the asset or liability is not adjusted for transaction costs. An orderly transaction is
a transaction that assumes exposure to the market for a period prior to the measurement date to allow for marketing
activities that are usual and customary for transactions involving such assets and liabilities; it is not a forced
transaction. Market participants are buyers and sellers in the principal market that are (i) independent, (ii)
knowledgeable, (iii) able to transact and (iv) willing to transact.
We are required to use valuation techniques that are consistent with the market approach, the income approach
and/or the cost approach. The market approach uses prices and other relevant information generated by market
transactions involving identical or comparable assets and liabilities. The income approach uses valuation techniques
to convert future amounts, such as cash flows or earnings, to a single present amount on a discounted basis. The
cost approach is based on the amount that currently would be required to replace the service capacity of an asset
(replacement cost). Valuation techniques should be consistently applied. Inputs to valuation techniques refer to the
assumptions that market participants would use in pricing the asset or liability. Inputs may be observable, meaning
those that reflect the assumptions market participants would use in pricing the asset or liability developed based on
market data obtained from independent sources, or unobservable, meaning those that reflect our own estimates about
the assumptions market participants would use in pricing the asset or liability based on the best information
available in the circumstances. In that regard, we utilize a fair value hierarchy for valuation inputs that gives the
highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to
unobservable inputs. The fair value hierarchy is as follows:
Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that we have the ability to
access as of the measurement date.
Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or
liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; or
other inputs that are observable or can be derived from or corroborated by observable market data by correlation or
other means.
F-103
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 18 – FAIR VALUE MEASUREMENTS (Continued)
Level 3: Significant unobservable inputs that reflect our own estimates about the assumptions that market
participants would use in pricing an asset or liability.
The following is a description of our valuation methodologies used to measure and disclose the fair values of our
financial assets and liabilities on a recurring or nonrecurring basis:
Securities available for sale. Securities available for sale are recorded at fair value on a recurring basis. Fair value
measurement is based on quoted prices, if available. If quoted prices are not available, fair values are measured
using independent pricing models. Level 2 securities include U.S. Government agency debt obligations, mortgage-
backed securities issued or guaranteed by U.S. Government agencies, municipal general obligation and revenue
bonds, and mutual funds. Level 3 securities include bonds issued by certain relatively small municipalities located
within our markets that have very limited marketability due to their size and lack of ratings from a recognized rating
service. We carry these bonds at historical cost, which we believe approximates fair value, unless our periodic
financial analysis or other information becomes known which necessitates a valuation allowance. There was no
such valuation allowance as of December 31, 2014 or 2013. We have no Level 1 securities available for sale.
Mortgage loans held for sale. Mortgage loans held for sale are carried at the lower of aggregate cost or fair value
and are measured on a nonrecurring basis. Fair value is based on independent quoted market prices, where
applicable, or the prices for other mortgage whole loans with similar characteristics. As of December 31, 2014 and
2013, we determined that the fair value of our mortgage loans held for sale approximated the recorded cost of $1.6
million and $1.1 million, respectively.
Loans. We do not record loans at fair value on a recurring basis. However, from time to time, we record
nonrecurring fair value adjustments to collateral dependent loans to reflect partial write-downs or specific reserves
that are based on the observable market price or current estimated value of the collateral. These loans are reported
in the nonrecurring table below at initial recognition of impairment and on an ongoing basis until recovery or
charge-off.
Foreclosed assets. At time of foreclosure or repossession, foreclosed and repossessed assets are adjusted to fair
value less costs to sell upon transfer of the loans to foreclosed and repossessed assets, establishing a new cost basis.
We subsequently adjust estimated fair value on foreclosed assets on a nonrecurring basis to reflect write-downs
based on revised fair value estimates.
Derivatives. The interest rate swap agreement is measured at fair value on a recurring basis. We measure fair value
utilizing models that use primarily market observable inputs, such as forecasted yield curves, and accordingly, the
interest rate swap agreement is classified as Level 2.
F-104
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 18 – FAIR VALUE MEASUREMENTS (Continued)
Assets and Liabilities Measured at Fair Value on a Recurring Basis
The balances of assets and liabilities measured at fair value on a recurring basis as of December 31, 2014 are as
follows:
Quoted Prices
in Active
Markets for
Identical
Assets
(Level 1)
Total
Available for sale securities
U.S. Government agency
debt obligations
Mortgage-backed securities
Municipal general obligation
bonds
Municipal revenue bonds
Other investments
Derivatives
$ 193,468,000
93,561,000
$
133,082,000
10,873,000
1,928,000
Interest rate swap agreement
Total
(253,000)
$ 432,659,000
$
0
0
0
0
0
0
0
Significant
Other
Observable
Inputs
(Level 2)
$ 193,468,000
93,561,000
122,801,000
10,873,000
1,928,000
Significant
Unobservable
Inputs
(Level 3)
$
0
0
10,281,000
0
0
(253,000)
$ 422,378,000
0
$ 10,281,000
There were no transfers in or out of Level 1, Level 2 or Level 3 during 2014. The Level 3 investments in the table
above originated from the merger with Firstbank.
The balances of assets and liabilities measured at fair value on a recurring basis as of December 31, 2013 are as
follows:
Quoted Prices
in Active
Markets for
Identical
Assets
(Level 1)
Significant
Other
Significant
Observable Unobservable
Inputs
(Level 2)
Inputs
(Level 3)
Total
Available for sale securities
U.S. Government agency
debt obligations
Mortgage-backed securities
Municipal general obligation
bonds
Municipal revenue bonds
Mutual funds
Derivatives
$ 98,477,000
13,558,000
$
16,872,000
916,000
1,355,000
Interest rate swap agreement
Total
(264,000)
$ 130,914,000
$
0
0
0
0
0
0
0
$ 98,477,000
13,558,000
$
16,872,000
916,000
1,355,000
(264,000)
$ 130,914,000
$
0
0
0
0
0
0
0
There were no transfers in or out of Level 1, Level 2 or Level 3 during 2013.
F-105
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 18 – FAIR VALUE MEASUREMENTS (Continued)
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
The balances of assets and liabilities measured at fair value on a nonrecurring basis as of December 31, 2014 are as
follows:
Quoted Prices
in Active
Markets for
Identical
Assets
(Level 1)
Total
Impaired loans (1)
Foreclosed assets (1)
Total
$ 17,097,000
1,995,000
$ 19,092,000
$
$
0
0
0
Significant
Other
Observable
Inputs
(Level 2)
$
$
0
0
0
Significant
Unobservable
Inputs
(Level 3)
$ 17,097,000
1,995,000
$ 19,092,000
The balances of assets and liabilities measured at fair value on a nonrecurring basis as of December 31, 2013 are as
follows:
Quoted Prices
in Active
Markets for
Identical
Assets
(Level 1)
Total
Impaired loans (1)
Foreclosed assets (1)
Total
$ 23,405,000
2,851,000
$ 26,256,000
$
$
0
0
0
Significant
Other
Observable
Inputs
(Level 2)
$
$
0
0
0
Significant
Unobservable
Inputs
(Level 3)
$ 23,405,000
2,851,000
$ 26,256,000
(1) Represents carrying value and related write-downs for which adjustments are based on the estimated value of
the property or other assets.
Fair value estimates of collateral on impaired loans, as well as on foreclosed assets, are reviewed periodically. Our
credit policies establish criteria for obtaining appraisals and determining internal value estimates. We may also
adjust outside appraisals and internal evaluations based on identifiable trends within our markets, such as sales of
similar properties or assets, listing prices and offers received. In addition, we may discount certain appraised and
internal value estimates to address current distressed market conditions.
F-106
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 19 – EARNINGS PER SHARE
The factors used in the earnings per share computation follow:
Basic
Net income attributable to common shares
$ 17,331,000
$ 17,033,000
$ 11,505,000
2014
2013
2012
Weighted average common shares outstanding
13,510,991
8,710,677
8,625,198
Basic earnings per common share
$
1.28
$
1.96
$
1.33
Diluted
Net income attributable to common shares
$ 17,331,000
$ 17,033,000
$ 11,505,000
Weighted average common shares outstanding for
basic earnings per common share
13,510,991
8,710,677
8,625,198
Add: Dilutive effects of share-based awards
30,913
14,031
224,429
Average shares and dilutive potential
common shares
13,541,904
8,724,708
8,849,627
Diluted earnings per common share
$
1.28
$
1.95
$
1.30
Stock options for approximately 168,000, 55,000 and 132,000 shares of common stock were antidilutive and were
not included in determining dilutive earnings per share in 2014, 2013, and 2012, respectively.
NOTE 20 – SUBORDINATED DEBENTURES
We have five business trusts that are wholly-owned subsidiaries of Mercantile, four of which were assumed by
Mercantile in conjunction with the Firstbank merger. A fair value discount of $15.0 million was recorded at the
time of the merger, which is being amortized at $0.7 million annually over the next 21.5 years. Each of the trusts
was formed to issue Preferred Securities that were sold in private sales, as well as selling Common Securities to
Mercantile. The proceeds from the Preferred and Common Securities sales were used by the trusts to purchase
Floating Rate Notes issued by Mercantile. The rates of interest, interest payment dates, call features and maturity
dates of each Floating Rate Note are identical to its respective Preferred Securities. The net proceeds from the
issuance of the Floating Rate Notes were used for a variety of purposes, including contributions to the Bank as
capital to provide support for asset growth and the funding of stock repurchase programs and certain acquisitions.
The only significant assets of our trusts are the Floating Rate Notes, and the only significant liabilities of our trusts
are the Preferred Securities. The Floating Rate Notes are categorized on our Consolidated Balance Sheets as
subordinated debentures and the interest expense is recorded on our Consolidated Statements of Income under
interest expense on other borrowings.
F-107
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 20 – SUBORDINATED DEBENTURES (Continued)
The following table depicts our five business trusts as of December 31, 2014:
Trust Name
Preferred
Securities
Outstanding
Interest Rate
Maturity Date
Mercantile Bank Capital Trust I
$32,000,000
3 Month Libor + 218 bps
September 16, 2034
Firstbank Capital Trust I
$10,000,000
3 Month Libor + 199 bps
October 18, 2034
Firstbank Capital Trust II
$10,000,000
3 Month Libor + 127 bps
April 7, 2036
Firstbank Capital Trust III
$7,500,000
3 Month Libor + 135 bps
July 30, 2037
Firstbank Capital Trust IV
$7,500,000
3 Month Libor + 135 bps
July 30, 2037
NOTE 21 - REGULATORY MATTERS
We are subject to regulatory capital requirements administered by federal banking agencies. Capital adequacy
guidelines and prompt corrective action regulations involve quantitative measures of assets, liabilities, and certain
off-balance sheet items calculated under regulatory accounting practices. Capital amounts and classifications are
also subject to qualitative judgments by regulators about components, risk weightings, and other factors, and the
regulators can lower classifications in certain cases. Failure to meet various capital requirements can initiate
regulatory action that could have a direct material effect on the financial statements.
The prompt corrective action regulations provide five classifications, including well capitalized, adequately
capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are
not used to represent overall financial condition. If an institution is not well capitalized, regulatory approval is
required to accept brokered deposits. Subject to limited exceptions, no institution may make a capital distribution if,
after making the distribution, it would be undercapitalized. If an institution is undercapitalized, it is subject to close
monitoring by its principal federal regulator, its asset growth and expansion are restricted, and plans for capital
restoration are required. In addition, further specific types of restrictions may be imposed on the institution at the
discretion of the federal regulator. At year-end 2014 and 2013, our Bank was in the well capitalized category under
the regulatory framework for prompt corrective action. There are no conditions or events since December 31, 2014
that we believe have changed our Bank’s categorization.
F-108
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 21 - REGULATORY MATTERS (Continued)
Our actual capital levels (dollars in thousands) and minimum required levels were:
Actual
Amount
Ratio
Minimum Required
for Capital
Adequacy Purposes
Ratio
Amount
Minimum Required
to be Well
Capitalized Under
Prompt Corrective
Action Regulations
Ratio
Amount
$ 334,793
332,749
14.4%
14.4
$ 185,553
185,309
8.0%
8.0
$
NA
231,636
NA
10.0%
314,752
312,708
13.6
13.5
92,777
92,655
314,752
312,708
11.2
11.1
112,949
112,856
4.0
4.0
4.0
4.0
NA
138,982
NA
6.0
NA
141,070
NA
5.0
$ 193,925
190,493
15.9%
15.7
$
97,498
97,329
8.0%
8.0
$
NA
121,662
NA
10.0%
178,598
175,192
14.7
14.4
178,598
175,192
12.5
12.3
48,749
48,665
57,006
56,860
4.0
4.0
4.0
4.0
NA
72,997
NA
6.0
NA
71,075
NA
5.0
2014
Total capital (to risk
weighted assets)
Consolidated
Bank
Tier 1 capital (to risk
weighted assets)
Consolidated
Bank
Tier 1 capital (to average
assets)
Consolidated
Bank
2013
Total capital (to risk
weighted assets)
Consolidated
Bank
Tier 1 capital (to risk
weighted assets)
Consolidated
Bank
Tier 1 capital (to average
assets)
Consolidated
Bank
Federal and state banking laws and regulations place certain restrictions on the amount of dividends our Bank can
transfer to Mercantile and on the capital levels that must be maintained. At year-end 2014, under the most restrictive
of these regulations, our Bank could distribute approximately $87.7 million to Mercantile as dividends without prior
regulatory approval.
F-109
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 21 - REGULATORY MATTERS (Continued)
Our and our bank’s ability to pay cash and stock dividends is subject to limitations under various laws and
regulations and to prudent and sound banking practices. On January 16, 2014, our Board of Directors declared a
cash dividend on our common stock in the amount of $0.12 per share that was paid on March 10, 2014 to
shareholders of record as of February 10, 2014. On May 9, 2014, our Board of Directors declared a cash dividend
on our common stock in the amount of $0.12 per share that was paid on June 25, 2014 to shareholders of record as
of June 13, 2014. On July 17, 2014, our Board of Directors declared a cash dividend on our common stock in the
amount of $0.12 per share that was paid on September 24, 2014 to shareholders of record as of September 12, 2014.
On October 16, 2014, our Board of Directors declared a cash dividend on our common stock in the amount of $0.12
per share that was paid on December 24, 2014 to shareholders of record as of December 12, 2014. In addition, on
May 9, 2014, our Board of Directors declared a special cash dividend on our common stock in the amount of $2.00
per share that was paid on May 29, 2014 to shareholders of record as of May 22, 2014. The special cash dividend,
in contemplation of the plan of merger with Firstbank, was paid to Mercantile shareholders prior to the effective date
of the merger with Firstbank and before the issuance of Mercantile shares in exchange for Firstbank shares.
On January 15, 2015, our Board of Directors declared a cash dividend on our common stock in the amount of $0.14
per share that will be paid on March 25, 2015 to shareholders of record as of March 13, 2015. In addition, on
January 30, 2015, we announced that our Board of Directors had authorized a new program to repurchase up to
$20.0 million of our common stock from time to time in open market transactions at prevailing market prices or by
other means in accordance with applicable regulations. We expect to fund a majority of such repurchases from cash
dividends paid to us from our Bank.
Our consolidated capital levels as of December 31, 2014 and 2013 include $52.4 million and $32.0 million,
respectively, of trust preferred securities subject to certain limitations. Under applicable Federal Reserve guidelines,
the trust preferred securities constitute a restricted core capital element. The guidelines provide that the aggregate
amount of restricted core elements that may be included in Tier 1 capital must not exceed 25% of the sum of all core
capital elements, including restricted core capital elements, net of goodwill less any associated deferred tax liability.
Our ability to include the trust preferred securities in Tier 1 capital in accordance with the guidelines is not affected
by the provision of the Dodd-Frank Act generally restricting such treatment, because (i) the trust preferred securities
were issued before May 19, 2010, and (ii) our total consolidated assets as of December 31, 2009 were less than
$15.0 billion. At December 31, 2014 and 2013, all $52.4 million and $32.0 million, respectively, of the trust
preferred securities were included as Tier 1 capital of Mercantile.
NOTE 22 – U.S. TREASURY CAPITAL PURCHASE PROGRAM PARTICIPATION
On May 15, 2009, we completed the sale of preferred stock and a warrant for common stock to the United States
Treasury Department (“Treasury”) for $21.0 million under the Treasury’s Capital Purchase Program. The program
was designed to attract broad participation by healthy banking institutions to help stabilize the financial system and
increase lending for the benefit of the U.S. economy. Under the terms of the sale, the Treasury received 21,000
shares of fixed rate cumulative perpetual preferred stock with a liquidation value of $1,000 per share and a warrant
to purchase 616,438 shares of our common stock, no par value, in exchange for $21.0 million. The preferred stock
qualified as Tier 1 capital and paid cumulative dividends at a rate of 5.00% for the first five years, and 9.00%
thereafter. The common stock warrant had a 10-year term and was immediately exercisable upon its issuance, with
an exercise price equal to $5.11 per share. The Treasury agreed not to exercise voting power with respect to any
shares of common stock issued upon exercise of the warrant, while it held the shares.
F-110
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 22 – U.S. TREASURY CAPITAL PURCHASE PROGRAM PARTICIPATION (Continued)
During the second quarter of 2012, we consummated the repurchase of the $21.0 million in preferred stock at par
from the Treasury following approval from the Federal Reserve and consultation with the Federal Deposit Insurance
Corporation. To fund the repurchase, our bank paid us cash dividends aggregating approximately the same amount.
We recorded a reduction of retained earnings of approximately $0.6 million in the second quarter of 2012 resulting
from the accelerated discount on the preferred stock which was being amortized over an original period of five years
from the issuance date of May 15, 2009. During the third quarter of 2012, we consummated the repurchase of the
warrant for approximately $7.5 million from the Treasury. To fund the repurchase, our bank paid us a cash dividend
of approximately the same amount. As part of the repurchase, we recorded a reduction in shareholders’ equity of
approximately $7.5 million during the third quarter of 2012.
NOTE 23 – ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
At December 31, 2014, accumulated other comprehensive loss, net of tax effects (as applicable), consists of a net
unrealized gain on available for sale securities of $0.2 million and the fair value of an interest rate swap of negative
$0.2 million. At December 31, 2013, accumulated other comprehensive income, net of tax effects (as applicable),
consists of a net unrealized loss on available for sale securities of $5.4 million and the fair value of an interest rate
swap of negative $0.2 million. At December 31, 2012, accumulated other comprehensive income, net of tax effects
(as applicable), consists of a net unrealized gain on available for sale securities of $2.4 million and the fair value of
an interest rate swap of negative $0.7 million.
NOTE 24 - QUARTERLY FINANCIAL DATA (Unaudited)
2014
First quarter
Second quarter
Third quarter
Fourth quarter
2013
First quarter
Second quarter
Third quarter
Fourth quarter
Interest
Income
Net Interest
Income
Net
Income
Earnings per Share
Basic
Diluted
$ 13,588,000
18,483,000
28,900,000
28,147,000
$ 11,064,000
15,552,000
25,989,000
25,173,000
$ 3,580,000
1,510,000
5,948,000
6,293,000
$ 0.41
0.13
0.35
0.37
$ 14,210,000
13,992,000
14,667,000
15,373,000
$ 11,455,000
11,312,000
11,994,000
12,695,000
$ 4,401,000
4,016,000
3,453,000
5,163,000
$ 0.51
0.46
0.40
0.59
$ 0.41
0.13
0.35
0.37
$ 0.50
0.46
0.40
0.59
F-111
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 25 – MERCANTILE BANK CORPORATION (PARENT COMPANY ONLY)
CONDENSED FINANCIAL STATEMENTS
CONDENSED BALANCE SHEETS
ASSETS
Cash and cash equivalents
Investment in bank subsidiary
Other assets
Total assets
LIABILITIES AND SHAREHOLDERS’ EQUITY
Liabilities
Subordinated debentures
Shareholders’ equity
2014
2013
$
1,441,000
361,355,000
20,948,000
$
2,506,000
179,706,000
4,740,000
$ 383,744,000
$ 186,952,000
$
1,134,000
54,472,000
328,138,000
$
637,000
32,990,000
153,325,000
Total liabilities and shareholders’ equity
$ 383,744,000
$ 186,952,000
CONDENSED STATEMENTS OF INCOME
Income
Interest and dividends from subsidiaries
Total income
Expenses
Interest expense
Other operating expenses
Total expenses
2014
2013
2012
$ 12,139,000
12,139,000
$ 5,516,000
5,516,000
$ 32,532,000
32,532,000
2,145,000
3,552,000
5,697,000
1,213,000
2,773,000
3,986,000
884,000
1,048,000
1,932,000
Income before income tax benefit and
equity in undistributed net income (loss) of subsidiary
6,442,000
1,530,000
30,600,000
Federal income tax benefit
(1,758,000)
(1,042,000)
(665,000)
Equity in undistributed net income (loss) of subsidiary
9,131,000
14,461,000
(18,730,000)
Net income
17,331,000
17,033,000
12,535,000
Preferred stock dividends and accretion
0
0
1,030,000
Net income attributable to common shares
$ 17,331,000
$ 17,033,000
$ 11,505,000
Comprehensive income
$ 22,920,000
$ 9,810,000
$ 10,857,000
F-112
MERCANTILE BANK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2014
NOTE 25 – MERCANTILE BANK CORPORATION (PARENT COMPANY ONLY)
CONDENSED FINANCIAL STATEMENTS (Continued)
CONDENSED STATEMENTS OF CASH FLOWS
Cash flows from operating activities
Net income
Adjustments to reconcile net income to net
cash from operating activities:
Equity in undistributed (income) loss of subsidiary
Stock-based compensation expense
Change in other assets
Change in other liabilities
Net cash from operating activities
Cash flows from investing activities
Net capital investment into subsidiaries
Net cash for investing activities
Cash flows from financing activities
Repurchase of preferred stock
Repurchase of common stock warrant
Stock option exercises, net of cashless exercises
Employee stock purchase plan
Dividend reinvestment plan
Stock grants to directors for retainer fees
Cash dividends on preferred stock
Cash dividends on common stock
Net cash for financing activities
2014
2013
2012
$ 17,331,000
$ 17,033,000
$ 12,535,000
(9,131,000)
714,000
(8,163,000)
21,979,000
22,730,000
(14,461,000)
473,000
3,244,000
(708,000)
5,581,000
18,730,000
54,000
(3,006,000)
1,073,000
29,386,000
0
0
0
0
0
0
0
0
282,000
23,000
209,000
155,000
0
(24,464,000)
(23,795,000)
0
0
289,000
19,000
33,000
0
0
(3,889,000)
(3,548,000)
(21,000,000)
(7,465,000)
227,000
39,000
14,000
0
(496,000)
(774,000)
(29,455,000)
Net change in cash and cash equivalents
(1,065,000)
2,033,000
(69,000)
Cash and cash equivalents at beginning of period
2,506,000
473,000
542,000
Cash and cash equivalents at end of period
$ 1,441,000
$ 2,506,000
$
473,000
F-113
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,
on March 10, 2015.
MERCANTILE BANK CORPORATION
/s/ Michael H. Price
Michael H. Price
President and Chief Executive Officer
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 indicated on March 10, 2015.
/s/ David M. Cassard
David M. Cassard, Director
/s/ Jeff A. Gardner
Jeff A. Gardner, Director
/s/ Edward B. Grant
Edward B. Grant, Director
/s/ Calvin D. Murdock
Calvin D. Murdock, Director
/s/ Michael H. Price
Michael H. Price, Director, President and
Chief Executive Officer
(principal executive officer)
/s/ Thomas R. Sullivan
Thomas R. Sullivan, Chairman of the Board
s/ Charles E. Christmas
Charles E. Christmas, Senior Vice President
Chief Financial Officer and Treasurer
(principal financial and accounting officer)
CORPORATE
INFORMATION
2015 Strategic Planning Team
Shareholder Information
Mark S. Augustyn
Senior Vice President, Commercial Loan Manager
Charles E. Christmas
Senior Vice President, Chief Financial Officer
Amy W.M. Kam
Assistant Vice President, Executive Administrator
Robert B. Kaminski, Jr.
Executive Vice President & Chief Operating Officer
David L. Miller
Senior Vice President, Retail Banking Director
Douglas J. Ouellette
Senior Vice President, Central Region President
Michael H. Price
President & Chief Executive Officer
Raymond E. Reitsma
Senior Vice President, Senior Lending Officer
Richard D. Rice
Senior Vice President, Operations Manager
John R. Schulte
Senior Vice President, Chief Information Officer
Michelle L. Shangraw
Senior Vice President, Retail Banking Director
Samuel G. Stone
Executive Vice President
Corporate Finance & Strategic Planning
Lonna L. Wiersma
Senior Vice President, Human Resource Director
Robert T. Worthington
Senior Vice President
Risk Management Director & General Counsel
Annual Meeting
The Corporation’s Annual Meeting of Shareholders
will be held on Thursday, May 28, 2015, at
Kent Country Club, 1600 College Ave. NE,
Grand Rapids, MI 49505 at 9:00 a.m. local time.
Administrative Headquarters
310 Leonard Street NW, 4th Floor
Grand Rapids, MI 49504
616.406.3000 or 888.345.6296
Legal Counsel
Dickinson Wright PLLC
500 Woodward Avenue, Suite 4000
Detroit, MI 48226-3425
www.dickinsonwright.com
Independent Certified Public Accountants
BDO USA, LLP
200 Ottawa Avenue NW, Suite 300
Grand Rapids, MI 49503-2654
www.bdo.com
Investor Relations
Lambert, Edwards & Associates
47 Commerce
Grand Rapids, MI 49503
Common Stock Listing
NASDAQ Global Select Market
Symbol: MBWM
Stock Registrar and Transfer Agent
Computershare Investor Services
P.O. Box 30170
College Station, TX 77842-3170
Shareholder Inquiries 1.800.733.5001
www.computershare.com/investor
SEC Form 10-K
Copies of the Corporation’s Annual Report
on Form 10-K, as filed with the Securities and
Exchange Commission, are available to shareholders
without charge upon written request.
mercbank.com
Mercantile Bank Corporation does not discriminate on
the basis of race, color, national origin, sex, religion, age
or disability in employment or the provision of services.
Please mail your request to:
Charles E. Christmas
Mercantile Bank Corporation
310 Leonard Street NW, 4th Floor
Grand Rapids, MI 49504
Mission Statement
The mission of Mercantile Bank of Michigan is to provide
financial products and services in a highly professional
and personalized manner. We recognize that our most
important partners are our customers. We will satisfy
our customers by delivering top quality service that
distinguishes us from our competitors.
Our employees are our most valuable asset. We strive
to hire exceptional team members and are committed to
maintaining an environment of growth and development.
We recognize the importance of being strong supporters
of the diverse communities we serve, and pledge to make
them stronger.
We believe that fulfilling our mission to our customers,
employees and community will allow us to reward our
shareholders with an excellent return on their investment
in Mercantile Bank Corporation.
310 Leonard Street NW
Grand Rapids, MI 49504
888.345.6296
mercbank.com
002CSN497B
Mercantile Bank of Michigan and Michigan’s Community Bank are registered trademarks of Mercantile Bank Corporation.