Unassociated Document
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
 
(Mark One)
  
[X] 
 QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
 OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2008 .
 
 
OR
 
 
[   ] 
 TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
 OF 1934 FOR  THE  TRANSITION PERIOD FROM _______________   to   _______________ :
 
 
 
 
Commission File Number 0-26584
 
BANNER CORPORATION
(Exact name of registrant as specified in its charter)
 
 
Washington
(State or other jurisdiction of incorporation or
organization)
  
91-1691604
(I.R.S. Employer Identification Number)
 
 
 
10 South First Avenue, Walla Walla, Washington 99362
(Address of principal executive offices and zip code)
 
Registrant's telephone number, including area code:  (509) 527-3636
 
 
 
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 is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (check one)
               
Large accelerated filer   [   ]  Accelerated filer  [X]  Non-accelerated filer  [   ] Smaller reporting company  [   ]
               
 
           
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes
 [   ]
No
  [X]   
 
APPLICABLE ONLY TO CORPORATE ISSUERS
 
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
 
 Title of class:
Common Stock, $.01 par value per share
  
As of July 31, 2008
16,553,870 shares*
 
 
*  Includes 240,381 shares held by the Employee Stock Ownership Plan that have not been released, committed to be released, or allocated to participant accounts.
 

 
 
 

BANNER CORPORATION AND SUBSIDIARIES
Table of Contents

PART I - FINANCIAL INFORMATION
 
   
   
   
   
   
   
 
   
   
   
   
   
   
   
   
   
 
   
   
   
42
   
 
   
   
   
   
   
   
   
   

 
 
2 
 

BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(Unaudited) (In thousands, except shares)
June 30, 2008 and December 31, 2007

   
June 30
    
December 31
  
ASSETS
    
2008
    
2007
  
Cash and due from banks
  
$
92,383 
 
$
98,430 
 
               
Securities at fair value, cost $250,046 and $204,279, respectively
    
238,670 
   
202,863 
 
Securities held to maturity, fair value $56,515 and $55,010, respectively
    
55,612 
   
53,516 
 
               
Federal Home Loan Bank (FHLB) stock
    
37,371 
   
37,371 
 
Loans receivable:
              
Held for sale, fair value $6,898 and $4,680, respectively
    
6,817 
   
4,596 
 
Held for portfolio
    
3,966,482 
   
3,805,021 
 
Allowance for loan losses
    
(58,570 
)
  
(45,827 
)
     
3,914,729 
   
3,763,790 
 
               
Accrued interest receivable
    
22,890 
   
24,980 
 
Real estate owned, held for sale, net
    
11,390 
   
1,867 
 
Property and equipment, net
    
97,928 
   
98,098 
 
Goodwill and other intangibles, net
    
86,205 
   
137,654 
 
Deferred income tax asset, net
    
1,998 
   
-- 
 
Income taxes receivable, net
    
3,652 
   
1,610 
 
Bank-owned life insurance (BOLI)
    
52,213 
   
51,483 
 
Other assets
    
21,303 
   
20,996 
 
   
$
4,636,344 
 
$
4,492,658 
 
LIABILITIES
              
Deposits:
              
Non-interest-bearing
  
$
477,144 
 
$
484,251 
 
Interest-bearing transactions and savings accounts
    
1,216,217 
   
1,288,112 
 
Interest-bearing certificates
    
2,063,392 
   
1,848,230 
 
     
3,756,753 
   
3,620,593 
 
               
Advances from FHLB at fair value
    
182,496 
   
167,045 
 
Other borrowings
    
164,192 
   
91,724 
 
Junior subordinated debentures at fair value (issued in connection with Trust Preferred Securities)
    
101,358 
   
113,270 
 
Accrued expenses and other liabilities
    
37,438 
   
47,989 
 
Deferred compensation
    
12,694 
   
11,596 
 
Deferred income tax liability, net
    
-- 
   
2,595 
 
     
4,254,931 
   
4,054,812 
 
COMMITMENTS AND CONTINGENCIES
              
               
STOCKHOLDERS’ EQUITY
              
Preferred stock - $0.01 par value, 500,000 shares authorized, none issued
    
-- 
   
-- 
 
Common stock - $0.01 par value per share, 25,000,000 shares authorized, 16,305,282 shares issued:
16,064,901 shares and 16,025,768 shares outstanding at June 30, 2008 and December 31, 2007, respectively
    
299,425 
   
300,486 
 
Retained earnings
    
84,204 
   
139,636 
 
Accumulated other comprehensive income (loss):
              
Unrealized loss on securities available for sale transferred to held to maturity
    
(148 
)
  
(176 
)
Unearned shares of common stock issued to Employee Stock Ownership Plan (ESOP) trust at cost:
              
240,381 and 240,381 restricted shares outstanding at June 30, 2008 and December 31, 2007, respectively
    
(1,987 
)
  
(1,987 
)
               
Carrying value of shares held in trust for stock related compensation plans
    
(8,607
)
  
(7,960 
)
Liability for common stock issued to deferred, stock related, compensation plans
    
8,526 
   
7,847 
 
     
(81 
)
  
(113 
)
     
381,413 
   
437,846 
 
   
$
4,636,344 
 
$
4,492,658 
 

See selected notes to consolidated financial statements
 
 
3
 
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited) (In thousands except for per share amounts)
For the Quarters and Six Months Ended June 30, 2008 and 2007

   
Quarters Ended
    
Six Months Ended
  
   
June 30
    
June 30
  
   
2008 
   
2007
   
2008 
     
2007
  
INTEREST INCOME:
                        
Loans receivable
$
64,094 
 
$
71,047 
 
$
132,167
 
$
132,875 
 
Mortgage-backed securities
  
1,087 
   
1,535 
   
2,240
    
3,310 
   
Securities and cash equivalents
  
2,861 
     
1,829 
   
5,588
    
3,672 
 
   
68,042 
   
74,411 
   
139,995
    
139,857 
 
INTEREST EXPENSE:
                        
Deposits
  
27,565 
   
32,378 
   
57,628
    
59,988 
 
FHLB advances
  
1,301 
   
1,164 
   
3,150
    
3,441 
 
Other borrowings
  
530 
   
790 
   
1,140
    
1,718 
 
Junior subordinated debentures
  
1,666 
   
1,969 
   
3,730
    
4,423 
 
   
31,062 
   
36,301 
   
65,648
    
69,570 
 
                         
Net interest income before provision for loan losses
  
36,980 
   
38,110 
   
74,347
    
70,287 
 
                         
PROVISION FOR LOAN LOSSES
  
15,000 
   
1,400 
   
21,500
    
2,400 
 
Net interest income
  
21,980 
   
36,710 
   
52,847
    
67,887 
 
                         
OTHER OPERATING INCOME:
                        
Deposit fees and other service charges
  
5,494 
   
4,090 
   
10,507
    
7,053 
 
Mortgage banking operations
  
1,579 
   
1,808 
   
3,194
    
3,163 
 
Loan servicing fees
  
547 
   
373 
   
949
    
748 
 
Miscellaneous
  
363 
   
592 
   
694
    
1,053 
 
   
7,983 
   
6,863 
   
15,344
    
12,017 
 
Net change in valuation of financial instruments carried at fair value
  
649 
   
(1,877 
)
  
1,472
    
(697 
)
Total other operating income
  
8,632 
   
4,986 
   
16,816
    
11,320 
 
                         
OTHER OPERATING EXPENSES:
                        
Salary and employee benefits
  
19,744 
   
19,635 
   
39,382
    
36,103 
 
Less capitalized loan origination costs
  
(2,728 
)
  
(3,175 
)
  
(4,969
)
  
(5,769 
)
Occupancy and equipment
  
5,989 
   
5,106 
   
11,857
    
9,458 
 
Information/computer data services
  
1,840 
   
1,767 
   
3,829
    
3,136 
 
Payment and card processing expenses
  
1,768 
   
1,298 
   
3,299
    
2,286 
 
Professional services
  
1,331 
   
723 
   
2,086
    
1,282 
 
Advertising and marketing
  
1,677 
   
1,867 
   
3,095
    
3,724 
 
State/municipal business and use taxes
  
576 
   
470 
   
1,140
    
878 
 
Amortization of core deposit intangibles
  
725 
   
352 
   
1,461
    
352 
 
Miscellaneous
  
4,300 
   
3,256 
   
7,750
    
5,920 
 
   
35,222 
   
31,299 
   
68,930
    
57,370 
 
Goodwill write-off
  
50,000 
   
-- 
   
50,000
    
-- 
 
Total other operating expenses
  
85,222 
   
31,299 
   
118,930
    
57,370 
 
                         
Income (loss) before provision for (benefit from) income taxes
  
(54,610 
)
  
10,397 
   
(49,267
)
  
21,837 
 
                         
PROVISION FOR (BENEFIT FROM) INCOME TAXES
  
(2,305 
)
  
3,286 
   
(796
)
  
6,913 
 
                         
NET INCOME (LOSS)
$
(52,305 
)
$
7,111 
 
$
(48,471
)
$
14,924 
 
                         
Earnings (loss) per common share (see Note 9):
                        
Basic
$
(3.31 
)
$
0.49 
 
$
(3.06
)
$
1.11 
 
Diluted
$
(3.30 
)
$
0.48 
 
$
(3.05
)
$
1.09 
 
Cumulative dividends declared per common share:
$
0.20 
 
$
0.19 
 
$
0.40
  
$
0.38 
 
                         

See selected notes to consolidated financial statements


 
4 
 

BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(Unaudited) (In thousands)
For the Quarters and Six Months Ended June 30, 2008 and 2007


   
Quarters Ended
June 30
    
Six Months Ended
June 30
  
         
   
2008 
   
2007 
     
2008 
   
2007 
 
NET INCOME (LOSS)
$
(52,305
)
$
7,111 
 
$
(48,471 
)
$
14,924 
 
                         
OTHER COMPREHENSIVE INCOME, NET OF INCOME TAXES:
                        
Amortization of unrealized loss on tax exempt securities transferred from available-for-sale to held-to-maturity
  
14
    
13 
   
28 
   
27 
 
Other comprehensive income
  
14
    
13 
   
28 
   
27 
 
                         
COMPREHENSIVE INCOME (LOSS)
$
(52,291
)
$
7,124 
 
$
(48,443 
)
$
14,951 
 

See selected notes to consolidated financial statements

 
 
5 
 

BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
(Unaudited) (In thousands, except per share amounts)
For the Six Months Ended June 30, 2008 and 2007


 
Common
Stock
  
Retained
Earnings
  
Accumulated
Other
Comprehensive
Income (Loss)
  
Unearned Restricted
ESOP Shares
  
Carrying Value,
Net of Liability,
Of Shares Held
in Trust for
Stock-Related Compensation
Plans
  
Stockholders’
Equity
  
BALANCE, January 1, 2008
$
300,486 
 
$
139,636 
 
$
(176 
)
$
(1,987
)
$
(113
)
$
437,846 
 
                                     
Net income (loss)
        
(48,471 
)
                    
(48,471 
)
                                     
Cumulative effect of adoption of EITF 06-4 relating to liabilities under split dollar life insurance arrangements
        
(617 
)
                    
(617 
)
                                     
Amortization of unrealized loss on tax exempt securities transferred from available for sale to held to maturity
              
28
                
28 
 
                                     
Cash dividend on common stock ($.40/share cumulative)
        
(6,344 
)
                    
(6,344 
)
                                     
Purchase and retirement of common stock
  
(14,265 
)
                          
(14,265 
)
                                     
Proceeds from issuance of common stock for exercise of stock options
  
594
                            
594 
 
                                     
Proceeds from issuance of common stock for stockholder reinvestment program
  
12,425 
                           
12,425 
 
                                     
Net issuance of stock through employer’s stock plans, including tax benefit
  
4 
                           
4 
 
                                     
Amortization of compensation expense related to stock options
  
181
                            
181 
 
                                     
Amortization of compensation expense related to MRP
                          
32
    
32 
 
                                     
BALANCE, June 30, 2008
$
299,425 
 
$
84,204 
 
$
(148
)
$
(1,987
)
$
(81
)
$
381,413 
 
                                     

See selected notes to consolidated financial statements

 
6 
 

BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (Continued)
(Unaudited) (In thousands, except per share amounts)
For the Six Months Ended June 30, 2008 and 2007


 
Common
Stock
  
Retained
Earnings
  
Accumulated
Other
Comprehensive
Income (Loss)
  
Unearned Restricted
ESOP
Shares
  
Carrying Value,
Net of Liability,
Of Shares Held
in Trust for
Stock-Related Compensation
Plans
  
Stockholders’
Equity
  
BALANCE, January 1, 2007
 (As previously reported)
$
135,149 
 
$
120,206 
 
$
(2,852 
)
$
(1,987 
)
$
(289 
)
$
250,227 
 
                                     
Cumulative ESOP tax expense
        
(2,452 
)
                    
(2,452 
)
                                     
Tax benefit from prior periods
  
2,832 
                           
2,832 
 
                                     
Balance, January 1, 2007 (Restated)
  
137,981 
   
117,754 
   
(2,852 
)
  
(1,987 
)
  
(289 
)
  
250,607 
 
                                     
Net income
        
14,924 
                     
14,924 
 
                                     
Cumulative effect of early adoption of SFAS Nos. 157 & 159 Fair Value Option
        
(3,520 
)
  
2,623 
               
(897 
)
                                     
Amortization of unrealized loss on tax exempt securities transferred from available for sale to held to maturity
              
27 
               
27 
 
                                     
Cash dividend on common stock ($.38/share cumulative)
        
(5,361 
)
                    
(5,361 
)
                                     
Purchase and retirement of common stock
  
(430 
)
                          
(430 
)
                                     
Proceeds from issuance of common stock for exercise of stock options
  
991 
                           
991 
 
                                     
Proceeds from issuance of common stock for stockholder reinvestment program
  
29,368 
                           
29,368 
 
                                     
Acquisitions:
Shares issued to the shareholders of F&M Bank (“F&M”)
  
78,006 
                           
78,006 
 
                                     
Shares issued to the shareholders of San Juan Financial Holding Company (“SJFHC”)
  
35,149 
                           
35,149 
 
                                     
Net issuance of stock through employer’s stock plans, including tax benefit
  
58 
                           
58 
 
                                     
Amortization of compensation expense related to stock options
  
156 
                           
156 
 
                                     
Amortization of compensation expense related to MRP
                          
89 
   
89 
 
                                     
BALANCE, June 30, 2007
$
281,279 
 
$
123,797 
 
$
(202 
)
$
(1,987 
)
$
(200 
)
$
402,687 
 

See selected notes to consolidated financial statements

 
7 
 

BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (continued)
(Unaudited) (In thousands)
For the Six Months Ended June 30, 2008 and 2007


               
2008
    
2007 
 
                         
SHARES ISSUED AND OUTSTANDING:
                        
Common stock, shares issued, beginning of period
              
16,266 
   
12,314
 
                         
Purchase and retirement of common stock
              
(614 
)
  
(11 
)
Issuance of common stock for bank acquisitions
              
-- 
   
2,593
 
Issuance of common stock for exercised stock options and/or employee stock plans
              
31 
   
57
  
Issuance of common stock for stockholder reinvestment program
              
622 
   
727
  
Number of shares (retired) issued during the period
              
39 
   
3,366
  
                         
SHARES ISSUED AND OUTSTANDING, END OF PERIOD
              
16,305 
   
15,680
  
                         
UNEARNED, RESTRICTED ESOP SHARES:
                        
Number of shares, beginning of period
              
(240 
)
  
(240
)
Issuance/adjustment of earned shares
              
-- 
   
--
  
Number of shares, end of period
              
(240 
)
  
(240
)
                         
NET SHARES OUTSTANDING
              
16,065 
   
15,440
  

See selected notes to consolidated financial statements

 
8 
 

BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited) (In thousands)
For the Six Months Ended June 30, 2008 and 2007
               
2008
    
2007
  
OPERATING ACTIVITIES:
                        
Net income (loss)
            
$
(48,471 
)
$
14,924 
 
Adjustments to reconcile net income to net cash provided by
operating activities:
                        
Depreciation
              
5,198 
   
3,629 
 
Deferred income and expense, net of amortization
              
810 
   
(526 
)
Net change in valuation of financial instruments carried at fair value
              
(1,472 
)
  
697 
 
Purchases of securities at fair value
              
(74,600 
)
  
(125 
)
Principal repayments and maturities of securities at fair value
              
26,201 
   
14,219 
 
Proceeds from sales of securities at fair value
              
2,598 
   
61,364 
 
Deferred taxes
              
(4,593 
)
  
(2,887 
)
Equity-based compensation
              
213 
   
245 
 
Tax benefits realized from equity-based compensation
              
(4 
)
  
(58  
)
Increase in cash surrender value of bank-owned life insurance
              
(730 
)
  
(937 
)
Gain on sale of loans, excluding capitalized servicing rights
              
(2,550 
)
  
(2,853 
)
Loss (gain) on disposal of real estate held for sale and property
and equipment
              
136 
   
(75 
 
)
Provision for losses on loans and real estate held for sale
              
21,868 
   
2,400 
 
Origination of loans held for sale
              
(196,850 
)
  
(202,055 
)
Proceeds from sales of loans held for sale
              
194,629 
   
198,957 
 
Goodwill impairment
              
50,000 
   
-- 
 
Net change in:
                        
Other assets
              
384 
   
(46 
)
Other liabilities
              
(9,790 
)
  
8,351 
 
Net cash (used) provided by operating activities
              
(37,023 
)
  
95,224 
 
                         
INVESTING ACTIVITIES:
                        
Purchases of securities held to maturity
              
(2,617 
)
  
(661 
)
Principal repayments and maturities of securities held to maturity
              
487 
   
297 
 
Origination of loans, net of principal repayments
              
(169,448 
)
  
(132,339 
)
Purchases of loans and participating interest in loans
              
(8,825 
)
  
(2,354 
)
Purchases of property and equipment, net
              
(5,144 
)
  
(14,660 
)
Proceeds from sale of real estate held for sale, net
              
1,331 
   
74 
 
Cost of acquisitions, net of cash acquired
              
(150 
)
  
(6,839 
)
Other
              
(671 
)
  
(9 
)
Net cash used by investing activities
              
(185,037 
)
  
(156,491 
)
                         
FINANCING ACTIVITIES:
                        
Increase in deposits
              
136,160 
   
325,103 
 
Proceeds from FHLB advances
              
102,800 
   
-- 
 
Repayment of FHLB advances
              
(87,837 
)
  
(178,986 
)
Increase (decrease) in wholesale repurchase agreement borrowings, net
              
-- 
   
(24,524 
)
Increase (decrease) in other borrowings, net
              
72,468 
   
(26,359 
)
Repayment of trust securities
              
-- 
   
(25,774 
)
Cash dividends paid
              
(6,336 
)
  
(4,710 
)
Repurchases of stock, net of forfeitures
              
(14,265 
)
  
(430 
)
Tax benefits realized from equity-based compensation
              
4 
   
58 
 
Cash proceeds from issuance of stock, net of registration costs
              
12,425 
   
29,316 
 
Exercise of stock options
              
594 
   
991 
 
Net cash provided by financing activities
              
216,013 
   
94,685 
 
                         
NET INCREASE  IN CASH AND DUE FROM BANKS
              
(6,047 
)
  
33,418 
 
                         
CASH AND DUE FROM BANKS, BEGINNING OF PERIOD
              
98,430 
   
73,385 
 
CASH AND DUE FROM BANKS, END OF PERIOD
            
$
92,383 
 
$
106,803 
 

(Continued on next page)
 
 
9
 
 
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
(Unaudited) (In thousands)
For the Six Months Ended June 30, 2008 and 2007


               
2008
    
2007
  
                         
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
                        
Interest paid in cash
            
$
67,780 
 
$
63,169 
 
Taxes paid in cash
              
5,916 
   
388 
 
Non-cash investing and financing transactions:
                        
Loans, net of discounts, specific loss allowances and unearned income, transferred to real estate owned and other repossessed assets
              
11,232 
   
864 
 
Net change in accrued dividends payable
              
8 
   
651 
 
Change in other assets/liabilities
              
967 
   
1,075 
 
Cash paid out in acquisitions
              
-- 
   
(26,481 
)
Fair value of assets acquired
              
-- 
   
690,571 
 
Liabilities assumed in acquisition
              
-- 
   
550,883 
 
Stock based consideration issued for acquisition
              
-- 
   
(113,207 
)
Adoption of EITF 06-4
Accrual of liability for split-dollar life insurance
              
617 
   
-- 
 
Adoption of SFAS Nos. 157 and 159:
                        
Securities available for sale
  transferred to fair value
              
-- 
   
226,153 
 
FHLB advances adjustment to fair value
              
-- 
   
678 
 
Junior subordinated debentures
  including unamortized origination costs adjustment to fair value
              
-- 
   
2,079 
 
Deferred tax asset related to fair value adjustments
              
-- 
   
(504 
)

See selected notes to consolidated financial statements
 
 
10
 
BANNER CORPORATION AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1:  BASIS OF PRESENTATION AND CRITICAL ACCOUNTING POLICIES

Banner Corporation (Banner or the Company) is a bank holding company incorporated in the State of Washington.  We are primarily engaged in the business of planning, directing and coordinating the business activities of our wholly owned subsidiaries, Banner Bank and, subsequent to May 1, 2007, Islanders Bank, as explained below.  Banner Bank is a Washington-chartered commercial bank that conducts business from its main office in Walla Walla, Washington and, as of June 30, 2008, its 83 branch offices and 12 loan production offices located in Washington, Oregon and Idaho.  Islanders Bank is also a Washington-chartered commercial bank that conducts business from three locations in San Juan County, Washington.  Banner Corporation is subject to regulation by the Board of Governors of the Federal Reserve System.  Banner Bank and Islanders Bank (the Banks) are subject to regulation by the Washington State Department of Financial Institutions, Division of Banks and the Federal Deposit Insurance Corporation (FDIC).  The consolidated financial statements and results of operation presented in this report on Form 10-Q include financial information for Islanders Bank and our other recent acquisitions, F&M Bank, Spokane, Washington, and NCW Community Bank, Wenatchee, Washington, which were merged into Banner Bank in 2007.  (See Note 5 of the Selected Notes to the Consolidated Financial Statements for additional information with respect to these acquisitions.)

In the opinion of management, the accompanying consolidated statements of financial condition and related interim consolidated statements of operations, comprehensive income (loss), changes in stockholders’ equity and cash flows reflect all adjustments (which include reclassifications and normal recurring adjustments) that are necessary for a fair presentation in conformity with generally accepted accounting principles (GAAP). The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect amounts reported in the financial statements.  Various elements of our accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions and other subjective assessments.  In particular, management has identified several accounting policies that, due to the judgments, estimates and assumptions inherent in those policies, are critical to an understanding of our financial statements.  These policies relate to (i) the methodology for the recognition of interest income, (ii) determination of the provision and allowance for loan and lease losses and (iii) the valuation of financial assets and liabilities recorded at fair value, goodwill, mortgage servicing rights and real estate held for sale.  These policies and the judgments, estimates and assumptions are described in greater detail below in Management’s Discussion and Analysis of Financial Condition and Results of Operations and in Note 1 of the Notes to the Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2007 filed with the Securities and Exchange Commission (SEC).  Management believes that the judgments, estimates and assumptions used in the preparation of our consolidated financial statements are appropriate based on the factual circumstances at the time.  However, given the sensitivity of the financial statements to these critical accounting policies, the use of different judgments, estimates and assumptions could result in material differences in our results of operations or financial condition.  There have been no significant changes in our application of accounting policies since December 31, 2007 except for the adoption of Emerging Issues Task Force Issue 06-4, Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements, and the adoption of this standard did not have a material effect on our financial condition or results of operations (for additional information, see Note 2 of the Selected Notes to the Consolidated Financial Statements).

Certain information and disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to the rules and regulations of the SEC.  Certain reclassifications have been made to the 2007 Consolidated Financial Statements and/or schedules to conform to the 2008 presentation. These reclassifications may have affected certain ratios for the prior periods. The effect of these reclassifications is considered immaterial. All significant intracompany transactions and balances have been eliminated.

The information included in this Form 10-Q should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2007 filed with the SEC.  Interim results are not necessarily indicative of results for a full year.


Note 2:  RECENT DEVELOPMENTS AND SIGNIFICANT EVENTS

Goodwill write-off:  As a result of the significant decline in our stock price and market capitalization during the second quarter in conjunction with similar declines in the value of most financial institutions and the ongoing disruption in related financial markets, we decided to reduce the carrying value of goodwill by $50 million in our Consolidated Statements of Financial Condition as of June 30, 2008.  This write-down of goodwill is a non-cash charge that does not affect the Company’s or the Banks’ liquidity or operations.  The adjustment brings our book value and tangible book value more closely in line with each other and more accurately reflects current market conditions.  Also, since goodwill is excluded from regulatory capital, this impairment charge (which is not deductible for tax purposes) does not have an adverse effect on the regulatory capital ratios of the Company or either of our subsidiary banks, each of which continues to remain “well capitalized” under the regulatory requirements.  (See Note 6 of the Selected Notes to Consolidated Financial Statements for additional information with respect to our valuation of intangible assets.)

Stock Repurchase and Option Exercise Activity:  On July 26, 2007, our Board of Directors authorized the purchase of up to 750,000 shares of our outstanding common stock over the next twelve months.  As of June 30, 2008, we had repurchased 663,600 shares of stock under this program.  During the six months ended June 30, 2008, we repurchased 605,800 shares of our common stock under this program at an average price of $23.20 per share.  The program was not renewed when it expired on July 26, 2008.

In addition to shares repurchased under this program, during the six months ended June 30, 2008, we purchased 8,103 shares as consideration for the exercise of certain vested stock options at current market prices on the date of exercise.  In total, we issued 30,611 shares of common stock on exercise of vested options during the six months ended June 30, 2008.
 
 
11
 
 
Issuance of Shares through Dividend Reinvestment and Direct Stock Purchase and Sale Plan:  During the year ended December 31, 2007, we issued 995,590 new shares of common stock at an average net price of $37.75 through our Dividend Reinvestment and Direct Stock Purchase and Sale Plan (DRIP).  On October 23, 2007, our Board of Directors authorized the registration and issuance of up to an additional 1,000,000 shares of common stock through continuation of our DRIP.  During the six months ended June 30, 2008, we issued 622,425 shares at an average price, net of issuance costs, of $19.96 per share through our DRIP.  On July 22, 2008, our Board of Directors authorized the registration and issuance of up to an additional 3,000,000 shares of common stock through continuation of our DRIP.

Acquisition of F&M Bank, San Juan Financial Holding Company and NCW Community Bank:  We completed the acquisitions of F&M Bank (F&M) and San Juan Financial Holding Company (SJFHC) effective May 1, 2007, and NCW Community Bank (NCW) effective October 10, 2007.  SJFHC was merged into Banner Corporation and its wholly owned subsidiary, Islanders Bank, has continued operations as a subsidiary of Banner Corporation.  F&M and NCW were merged into Banner Bank upon acquisition and now operate under the Banner Bank name.  The financial results for the quarter and year to date ended June 30, 2008 include the assets, liabilities and results of operations for all three of the acquired companies.  The financial results for the quarter and year to date ended June 30, 2007 include the assets and liabilities acquired in the F&M and SJFHC transactions as well as the impact of those two acquisitions subsequent to May 1, 2007 as reported in the results of operations. (See Note 5 of the Selected Notes to the Consolidated Financial Statements for additional information with respect to these acquisitions.)

Branch Expansion:  Over the past several years, we have invested significantly in expanding Banner Bank’s branch and distribution systems with a primary emphasis on the greater Boise, Idaho and Portland, Oregon markets and the Puget Sound region of Washington.  This branch expansion is a significant element in our strategy to grow loans, deposits and customer relationships.  This emphasis on growth has resulted in an elevated level of operating expenses; however, we believe that over time these new branches should help improve profitability by providing low cost core deposits which will allow Banner Bank to proportionately reduce higher cost borrowings as a source of funds.  From March 2004 through June 2008, Banner Bank opened 28 new branch offices, relocated eight additional branch offices and significantly refurbished its main office in Walla Walla.  Branch expansion activity included ten new offices opened at various times during 2007 and two additional offices opened during the six months ended June 30, 2008.  We plan a more moderate pace of expansion going forward and we do not plan to open any additional branches during the remainder of the year.

Recently Adopted Accounting Standards: In September 2006, the Emerging Issues Task Force (EITF) issued EITF 06-4, Accounting for Deferred Compensation and Postretirement Benefit Aspects of Endorsement Split-Dollar Life Insurance Arrangements.  EITF 06-4 implemented a change in accounting principle that required the recognition of a liability and related compensation costs for endorsement split-dollar life insurance policies that provide a benefit to an employee that extends to post-retirement periods.  On January 1, 2008, the Company adopted EITF 06-4 and recognized the effects of this change in accounting principle through a $617,000 cumulative effect adjustment charge to opening retained earnings and an increase in benefit plan reserve liability of the same amount.  The Company will record an annual charge in 2008 of approximately $64,000 from the adoption of EITF 06-4, including $32,000 expensed in the six months ended June 30, 2008

Banner Corporation elected early adoption of Statement of Financial Accounting Standards (SFAS) No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, and SFAS No. 157, Fair Value Measurements, effective January 1, 2007.  SFAS No. 159, which was issued in February 2007, generally permits the measurement of selected eligible financial instruments at fair value at specified election dates.  SFAS No. 157 defines fair value, establishes a framework for measuring fair value under GAAP, and expands disclosures about fair value measurement.  The Company made this election to allow more flexibility with respect to the management of our investment securities, wholesale borrowings and interest rate risk position in future periods.

Upon adoption of SFAS No. 159, the Company selected fair value measurement for all of its “available for sale” investment securities, FHLB advances and junior subordinated debentures, which had fair values of approximately $226.2 million, $176.8 million and $124.4 million, respectively, on January 1, 2007.  The initial fair value measurement of these instruments resulted in a $3.5 million adjustment for the cumulative effect, net of tax, as a result of the change in accounting, which was recorded as a reduction in retained earnings as of January 1, 2007, and which under SFAS No. 159 has not been recognized in earnings.  While the adjustment to retained earnings is permanent, approximately $2.6 million of the amount was previously reported as accumulated other comprehensive loss at December 31, 2006, so the reduction in total stockholders’ equity was $897,000 on January 1, 2007.  Following the initial election, changes in the value of financial instruments recorded at fair value are recognized as gains or losses in earnings in subsequent financial reporting periods.  As a result of the adoption of SFAS No. 159 and changes in the fair value measurement of the financial assets and liabilities noted above, the Company recorded a net loss of $1.9 million ($1.2 million after tax) and a net gain of $650,000 ($416,000 after tax), respectively, for the quarters ended June 30, 2007 and 2008.  Likewise for the six month periods ended June 30, 2007 and 2008, the Company recorded a net loss of $697,000 ($446,000 after tax) and a net gain of $1.5 million ($943,000 after tax), respectively.  (For further information, see Note 8 of the Selected Notes to the Consolidated Financial Statements.)

In June 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 48, Accounting for Uncertainties in Income Taxes, an Interpretation of FASB Statement No. 109 (FIN 48).  On January 1, 2007, the Company adopted FIN 48.  FIN 48 prescribes a recognition threshold and measurement attribute for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return, and also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.  Currently, the Company is subject to United States federal income tax and income tax of the States of Idaho and Oregon.  The years 2004 through 2006 remain open to examination for federal and state income taxes.  As of June 30, 2008 and December 31, 2007, the Company believes it had insignificant unrecognized tax benefits or uncertain tax positions.  In addition, the Company had no material accrued interest or penalties as of either date.  It is our policy to record interest and penalties as a component of income tax expense.  The amount of interest and penalties for the year ended December 31, 2007 was also immaterial.  The adoption of this accounting standard has not had a material impact on the Company’s Consolidated Financial Statements.
 
 
12
 

Note 3:  RESTATEMENT UNDER SECURITIES AND EXCHANGE COMMISSION STAFF ACCOUNTING BULLETIN (SAB) 108

In connection with reviewing our previous accounting for the tax (benefits) provisions related to stock-based compensation for our ESOP share releases, exercises of non-qualified stock options and distributions of stock from deferred compensation plans, we determined there were net immaterial errors in the reporting in prior period financial statements.  These errors resulted in the understatement of our previously reported income tax provisions as a result of the difference between the tax and book accounting basis for ESOP share releases to individual participants, as well as benefits to stockholders’ equity from the release of the Company’s shares of common stock in connection with the exercise of stock options and deferred compensation distributions.  We concluded that while the amounts related to individual years were immaterial, in the aggregate they resulted in cumulative adjustments that Banner’s Board of Directors and management felt required the restatement of previously reported financial statements.  The effects of these adjustments were reductions of $380,000 in income taxes payable and $2.4 million in retained earnings and increases of $2.8 million and $380,000, respectively, in common stock (paid-in capital) and total stockholders’ equity as of December 31, 2006.  These adjustments are reflected in the June 30, 2007 Consolidated Statement of Financial Condition and Consolidated Statement of Changes in Stockholder’s Equity that are shown for comparative purposes in these financial statements.  The restatement has had no impact on management’s previous conclusions regarding the effectiveness of internal controls over financial reporting and disclosure controls and procedures for the years ended December 31, 2006 and 2005, nor on our conclusions for the year ended December 31, 2007. These adjustments have immaterially affected certain previously reported ratios for the quarter ended June 30, 2007.

The following tables summarize the impact of the restatement discussed above on the Consolidated Financial Statements as of June 30, 2007 previously filed with SEC (in thousands):
     
 
As Previously Reported
  
Adjustment
  
Restated
  
Consolidated Statement of Financial Condition as of
December 31, 2007
                  
                   
Income taxes payable
$
2,504
  
$
(380
)
$
2,124
  
                   
Common stock
  
135,149
    
2,832
    
137,981
  
Retained earnings
  
120,206
    
(2,452
)
  
117,754
  
Total stockholders’ equity
  
250,227
    
380
    
250,607
  
                   
Consolidated Statements of Changes in Stockholders’ Equity
as of June 30, 2007 (Beginning Balance)
                  
                   
Common stock
$
135,149
    
2,832
    
137,981
  
Retained earnings
  
120,206
    
(2,452
)
  
117,754
  
Total stockholders’ equity
  
250,227
    
380
    
250,607
  
                   


Note 4:  BUSINESS SEGMENTS

The Company is managed by legal entity and not by lines of business.  Each of the Banks is a community oriented commercial bank chartered in the State of Washington.  The Banks’ primary business is that of a traditional banking institution, gathering deposits and originating loans for portfolio in its respective primary market areas.  The Banks offer a wide variety of deposit products to its consumer and commercial customers.  Lending activities include the origination of real estate, commercial/agriculture business and consumer loans.  Banner Bank is also an active participant in the secondary market, originating residential loans for sale on both a servicing released and servicing retained basis.  In addition to interest income on loans and investment securities, the Banks receive other income from deposit service charges, loan servicing fees and from the sale of loans and investments.  The performance of the Banks is reviewed by the Company’s executive management and Board of Directors on a monthly basis.  All of the executive officers of the Company are members of Banner Bank’s management team.

Generally accepted accounting principles establish standards to report information about operating segments in annual financial statements and require reporting of selected information about operating segments in interim reports to stockholders.  The Company has determined that its current business and operations consist of a single business segment.


Note 5:  ACQUISITIONS OF F&M BANK, SAN JUAN FINANCIAL HOLDING COMPANY AND NCW COMMUNITY BANK

On May 1, 2007, we completed the acquisition of F&M Bank, Spokane, Washington (F&M), in a stock and cash transaction valued at approximately $98.1 million, with $19.4 million of cash and 1,773,402 shares of Banner common stock, for 100% of the outstanding common shares of F&M.  F&M was merged into Banner Bank and the results of its operations are included in those of Banner Bank starting in the quarter ended June 30, 2007.  The purchase of F&M allowed us to immediately expand Banner Bank’s franchise in the Spokane, Washington area, the fourth largest metropolitan market in the Pacific Northwest, by the addition of 13 branches and one loan office.

On May 1, 2007, we completed the acquisition of San Juan Financial Holding Company (SJFHC), the parent company of Islanders Bank, Friday Harbor, Washington, in a stock and cash transaction valued at approximately $41.6 million, with $6.2 million of cash and 819,209 shares of
 
 
13
 
Banner common stock, for 100% of the outstanding common shares of SJFHC.  SJFHC was merged into Banner Corporation and Islanders Bank has continued to operate as a separate subsidiary of Banner.  The results of its operations are included in the Company’s consolidated operations beginning in the quarter ended June 30, 2007.  The acquisition of Islanders Bank, with its three branches located in the San Juan Islands, added to Banner Corporation’s presence in the North Puget Sound region.

On October 10, 2007, we completed the acquisition of NCW Community Bank, Wenatchee, Washington (NCW), in a stock and cash transaction valued at approximately $18.5 million, with $6.5 million of cash and 339,860 shares of Banner common stock, for 100% of the outstanding common shares of NCW.  NCW was merged into Banner Bank and the results of its operations are included in Banner Bank’s consolidated operations beginning in the fourth quarter of 2007.  The acquisition of NCW added two branches to our network and significantly enhanced our presence and market share within a desirable central Washington community.

The acquisitions were accounted for as purchases in accordance with SFAS No. 141.  Accordingly, the purchase price was allocated to the assets acquired and the liabilities assumed based on their estimated fair values at the acquisition date as summarized in the following table:

 
F&M
May 1, 2007
(in thousands)
  
SJFHC
May 1, 2007
(in thousands)
  
NCW
October 10, 2007
(in thousands)
  
Total
(in thousands)
  
Date of acquisition
    
 
New shares issued in acquisition
1,773,402
  
819,209
  
339,860
  
2,932,471
  
                 
Cash paid to shareholders
$
19,404
  
$
6,159
  
$
6,505
  
$
32,068
  
Total value of Banner’s common stock exchanged with acquiree’s shareholders
  
78,030
    
35,177
    
11,813
    
125,020
  
Transaction closing costs
  
756
    
318
    
168
    
1,242
  
Total purchase price
$
98,190
    
41,654
    
18,486
    
158,330
  
                         
Allocation of purchase price
                        
Acquisitions’ equity
$
32,987
  
$
16,782
  
$
9,601
  
$
59,370
  
Adjustments to record assets and liabilities at estimated fair value
                        
Loans
  
(195
)
  
(604
)
  
(90
)
  
(889
)
Premises and equipment
  
3,315
    
1,800
  
--
--
    
5,115
  
Core deposit intangible (CDI)
  
10,867
    
6,147
    
1,245
    
18,259
  
Deposits
  
(336
)
  
37
    
(197
)
  
(496
)
Deferred taxes, net
  
(4,916
)
  
(2,659
)
  
(345
)
  
(7,920
)
Estimated fair value of net assets acquired
  
41,722
    
21,503
    
10,214
    
73,439
  
                         
Goodwill resulting from acquisition
$
56,468
  
$
20,151
  
$
8,272
  
$
84,891
  
                         
The fair value of assets and liabilities of acquired institutions at the date of acquisition follows:
 
 
F&M
May 1, 2007
(in thousands)
  
SJFHC
May 1, 2007
(in thousands)
  
NCW
October 10, 2007
(in thousands)
  
Total
(in thousands)
  
Date of acquisition
    
 
                 
Cash
$
12,056
  
$
7,449
  
$
2,916
  
$
22,421
  
Securities –available for sale
  
6,768
  
26
26,263
    
1,200
    
34,231
  
Federal funds sold and interest bearing deposits at banks
  
137
    
--
    
--
    
137
  
Loans-net of allowance for loan losses of $4,528, $1,429 and $1,319, respectively
  
389,290
    
116,999
    
90,522
    
596,811
  
Premises and equipment, net
  
11,872
    
5,756
    
3,012
    
20,640
  
BOLI
  
8,662
    
2,315
    
--
    
10,977
  
Other assets
  
7,528
    
2,082
    
1,597
    
11,207
  
Goodwill
  
56,468
    
20,151
    
8,272
    
84,891
  
Core deposit intangible (CDI)
  
10,867
    
6,298
    
1,245
    
18,410
  
Total assets
  
503,648
    
187,313
    
108,764
    
799,725
  
                         
Deposits
  
(348,822
)
  
(124,264
)
  
(86,756
)
  
(559,842
)
Advances from Federal Home Loan Bank
  
(20,000
)
  
(15,726
)
  
--
    
(35,726
)
Federal funds purchased and other borrowings
  
(19,625
)
  
--
    
(1,590
)
  
(21,215
)
Other liabilities
  
(17,011
)
  
(5,669
)
  
(1,932
)
  
(24,612
)
Total liabilities
  
(405,458
)
  
(145,659
)
  
(90,278
)
  
(641,395
)
                         
Net assets acquired
$
98,190
  
$
41,654
  
$
18,486
  
$
158,330
  
                         

 
14
 
Additional adjustments to the purchase price allocation may be required, specifically related to other assets and taxes.  During the six months ended June 30, 2008, we have incurred a net $12,000 of post-closing adjustments to professional fees and severance pay related to the 2007 acquisitions.  The CDI asset shown in the table above represents the value ascribed to the long-term deposit relationships acquired.  This intangible asset is being amortized using an accelerated method over an estimated useful life of eight years.  The core deposit intangible asset is not estimated to have a significant residual value.  Goodwill represents the excess of the total purchase price paid for the Banks over the fair values of the assets acquired, net of the fair values of the liabilities assumed.  Goodwill is not amortized, but is evaluated for possible impairment at least annually and more frequently if events and circumstances indicate that the asset might be impaired.  During the quarter ended June 30, 2008, we recorded a goodwill impairment charge of $50 million.  (See Note 6 of the Selected Notes to the Consolidated Financial Statements.)  No impairment losses have been recognized in connection with core deposit intangibles during the period from acquisition to the end of the current reporting period.


Note 6:  GOODWILL AND OTHER INTANGIBLES

The majority of goodwill and intangibles generally arise from business combinations accounted for under the purchase method.  Goodwill and other intangibles deemed to have indefinite lives generated from purchase business combinations are not subject to amortization and are instead tested for impairment no less than annually.  The goodwill recorded has been assigned to our one reporting segment, banking.

As a result of the Company’s market capitalization being less than our total shareholders’ equity at March 31, 2008 and this trend continuing during the second quarter of 2008, we engaged an independent valuation consultant to assist us in determining whether and to what extent our goodwill asset was impaired.  The analysis requires that we compare the implied fair value of goodwill to the carrying amount of goodwill on the Company’s balance sheet.  If the carrying amount of the goodwill is greater than the implied fair value of that goodwill, an impairment loss must be recognized in an amount equal to that excess.  The implied fair value of goodwill is determined in the same manner as goodwill recognized in a business combination is determined.  The estimated fair value of the Company is allocated to all of the Company’s individual assets and liabilities, including any unrecognized identifiable intangible assets, as if the Company had been acquired in a business combination and the estimated fair value of the Company is the price paid to acquire it.  The allocation process is performed only for purposes of determining the amount of goodwill impairment, as no assets or liabilities are written up or down, nor are any additional unrecognized identifiable intangible assets recorded as a part of this process.  After we completed this analysis, we determined the implied fair value of goodwill was less than the carrying value on the Company’s balance sheet, and we reduced the carrying value of goodwill by $50.0 million through a charge to earnings.  This impairment charge had no effect on the Company’s or the Banks’ cash balances or liquidity.  In addition, because goodwill and core deposit intangibles, net of related deferred income taxes, are not included in the calculation of regulatory capital, the Company’s and the Banks’ well-capitalized regulatory ratios were not affected by this non-cash expense.  No assurance can be given that our goodwill will not be written down further in future periods.

The following table presents the changes in goodwill for the six months ended June 30, 2008 (in thousands):

 
Six Months Ended
June 30, 2008
   
Balance, beginning of period
$
121,109
 
Adjustments related to 2007 acquisitions
  
12
  
Goodwill write-off
  
(50,000 
)
       
Balance, end of period
$
71,121
  

Intangible assets, such as core deposit intangibles and domain names with definite lives are amortized over their respective estimated useful lives to their estimated residual values and reviewed for impairment annually.  The estimated aggregate amortization expense related to these intangible assets is expected to be $2.8 million in 2008.  The estimated aggregate amortization expense related to these intangible assets for each of the subsequent four years is $2.6 million, $2.5 million, $2.3 million, and $2.1 million, respectively.


 
 
15 
 

The following table presents the changes in the gross amounts of core deposit and domain name intangibles and the related accumulated amortization for the six months ended June 30, 2008 and 2007 (in thousands):


   
Six Months Ended
June 30
  
     
   
2008 
   
2007 
 
             
Gross amount:
            
Balance, beginning of period
$
18,435 
 
$
25
  
Additions
  
-- 
   
17,165 
 
Balance, end of period
$
18,435 
 
$
17,190 
 
             
Accumulated amortization:
            
Balance, beginning of period
$
(1,889 
)
$
(7 
)
Amortization
  
(1,462 
)
  
(358 
)
Balance, end of period
  
(3,351 
)
  
(365 
)
             
Net balance, end of period
$
15,084 
 
$
16,825 
 


 Note 7:  ADDITIONAL INFORMATION REGARDING INTEREST-BEARING DEPOSITS AND SECURITIES

The following table sets forth additional detail on our interest-bearing deposits and securities at the dates indicated (at carrying value) (in thousands):

 
June 30
  
December 31
  
June 30
  
 
2008
  
2007
  
2007
  
             
Interest-bearing deposits included in Cash and due from banks
$
430
  
$
310
  
$
25,437
  
                   
Mortgage-backed securities
  
89,436
    
99,775
    
116,873
  
Other securities—taxable
  
141,198
    
98,067
    
63,677
  
Other securities—tax exempt
  
56,814
    
50,812
    
48,102
  
Equity securities with dividends
  
6,834
    
7,725
    
2,513
  
Total securities
  
294,282
    
256,379
    
231,165
  
                   
FHLB stock
  
37,371
    
37,371
    
37,291
  
                   
 
$
332,083
  
$
294,060
  
$
293,893
  


The following table provides additional detail on income from deposits and securities for the periods indicated (in thousands):

 
Quarters Ended
June 30
  
Six Months Ended
June 30
  
     
   
2008
    
2007
    
2008
    
2007
  
Mortgage-backed securities interest
$
1,087
  
$
1,535
  
$
2,240
  
$
3,310
  
                         
Taxable interest income
  
1,950
    
1,244
    
3,866
    
2,546
  
Tax-exempt interest income
  
633
    
503
    
1,216
    
968
  
Other stock—dividend income
  
147
    
27
    
282
    
67
  
FHLB stock dividends
  
131
    
55
    
224
    
91
  
   
2,861
    
1,829
    
5,588
    
3,672
  
                         
 
$
3,948
  
$
3,364
  
$
7,828
  
$
6,982
  


 
16 
 

Note 8:  FAIR VALUE ACCOUNTING AND MEASURMENT

The Company elected early adoption of SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, and SFAS No. 157, Fair Value Measurements, effective January 1, 2007.  SFAS No. 159, which was issued in February 2007, generally permits the measurement of selected eligible financial instruments at fair value (FV) at specified election dates.  Upon adoption of SFAS No. 159, the Company selected fair value measurement for all of our “available for sale” investment securities, FHLB advances and junior subordinated debentures, which had fair values of approximately $226.2 million, $176.8 million and $124.4 million, respectively, on January 1, 2007.  The initial fair value measurement of these instruments resulted in a $3.5 million adjustment for the cumulative effect, net of tax, as a result of the change in accounting, which was recorded as a reduction in retained earnings as of January 1, 2007, and which under SFAS No. 159 has not been recognized in current earnings.  While the adjustment to retained earnings is permanent, approximately $2.6 million of the amount was previously reported as accumulated other comprehensive loss at December 31, 2006, so the reduction in the January 1, 2007 opening stockholders’ equity was $897,000 when SFAS No. 159 was adopted.

The following tables detail the financial instruments measured at fair value, on a recurring basis, on the dates indicated (in thousands):

   
Cumulative Adjustment on Adoption of SFAS 159
    
   
January 1, 2007
  
June 30, 2007
  
     
Amortized Cost
    
Fair Market Valuation Adjustment
    
Fair
Value
    
Related Taxes
    
Cumulative Effect of Adoption
    
Amortized
Cost
    
Fair Market Valuation Adjustment
    
Fair Value
  
Assets:
                                                  
Securities available for sale reclassified to fair value
  
$
230,189
  
$
(4,036
)
$
226,153
  
$
1,413
  
$
(2,623
)
$
186,625
  
$
(3,656
)
$
182,969
  
                                                   
Liabilities: