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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1997
COMMISSION FILE NUMBER : 0-12499
FIRST FINANCIAL BANCORP
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
California 94-28222858
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
701 South Ham Lane, Lodi, California 95242
(Address of principal executive offices) (Zip Code)
(209)-367-2000
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value
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. [ X ] Yes [ ] 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. [ ]
As of January 31, 1998, there were 1,332,842 shares of Common Stock, no par
value, outstanding. The aggregate market value of the Common Stock held by non-
affiliates of the registrant was approximately $12,849,000 (based on the $13.00
average of bid and ask prices per share on January 27, 1998.)
Documents Incorporated by Reference Part of Form 10-K into which Incorporated
----------------------------------- -----------------------------------------
Proxy Statement for the Annual
Meeting of Shareholders to be held Part III, Items 10, 11, 12, 13
on April 28, 1998.
The Index to Exhibits is on page 59
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1
FIRST FINANCIAL BANCORP
1997 FORM 10-K
TABLE OF CONTENTS
PART 1
- ------
ITEM 1. BUSINESS............................................................. 3
General.............................................................. 3
The Bank............................................................. 3
Bank Services........................................................ 3
Sources of Business.................................................. 4
Competition.......................................................... 4
Employees............................................................ 5
Supervision and Regulation........................................... 5
The Company.................................................. 5
The Bank..................................................... 6
Officers..................................................... 6
Recent Legislation and Regulations Affecting Banking......... 7
ITEM 2. PROPERTIES........................................................... 9
ITEM 3. LEGAL PROCEEDINGS.................................................... 10
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.................. 10
PART II
- -------
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS.................................................. 10
ITEM 6. SELECTED FINANCIAL DATA.............................................. 11
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS............................................ 11
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.......................... 31
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE.................................. 31
PART III
- --------
ITEM 10 DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT................... 31
ITEM 11 EXECUTIVE COMPENSATION............................................... 31
ITEM 12 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT....... 31
ITEM 13 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS....................... 31
PART IV
- -------
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K..... 31
Signatures................................................................... 58
Index to Exhibits............................................................ 59
2
PART I
ITEM 1. BUSINESS
General:
- -------
First Financial Bancorp (the "Company") was incorporated under the laws of the
State of California on May 13, 1982, and operates principally as a bank holding
company for its wholly owned subsidiary, Bank of Lodi, N.A. (the "Bank"). The
Company is registered under the Bank Holding Company Act of 1956, as amended.
The Bank is the sole subsidiary of the Company and its principal source of
income. The Bank owns the office building where the Bank's Lodi Branch and
administrative offices are located, and the Company owns the land upon which the
Bank's Woodbridge Branch is located. The Company receives income from the Bank
from the lease associated with the Woodbridge Property. All references herein to
the "Company" include the Bank, unless the context otherwise requires.
The Bank:
- --------
The Bank was organized on May 13, 1982 as a national banking association. The
application to organize the Bank was accepted for filing by the Comptroller of
the Currency (the "OCC") on September 8, 1981, and preliminary approval to
organize was granted on March 27, 1982. On July 18, 1983 the Bank received from
the OCC a Certificate of Authority to Commence the Business of Banking.
Subsequently, the Bank opened branch offices in Woodbridge and Lockeford,
California. Effective February 22, 1997, the Bank acquired the Galt, Plymouth
and San Andreas offices of Wells Fargo Bank.
The Bank's main office is located at 701 South Ham Lane, Lodi, California, with
branch offices in Woodbridge, Lockeford, Galt, Plymouth and San Andreas,
California. The Bank's primary service area, from which the Bank attracts 75%
of its business, is the city of Lodi and the surrounding area. This area is
estimated to have a population approaching 70,000 persons, with a median annual
family income of approximately $30,000. The area includes residential
developments, neighborhood shopping centers, business and professional offices
and manufacturing and agricultural concerns. On January 5, 1998, the Bank opened
a loan production office in Folsom, California in order to develop loan business
in the Folsom, greater Sacramento, and South Placer County, California markets.
Bank Services:
- -------------
The Bank offers a wide range of commercial banking services to individuals and
business concerns located in and around its primary service area. These
services include personal and business checking and savings accounts (including
interest-bearing negotiable order of withdrawal ("NOW") accounts and/or accounts
combining checking and savings accounts with automatic transfers), and time
certificates of deposit. The Bank also offers extended banking hours at its
drive-through window, night depository and bank-by-mail services, and travelers'
checks (issued by an independent entity). Each branch location has a 24 hour
ATM machine, and the bank has 24 hour telephone banking and bill paying
services. The Bank issues MasterCard credit cards and acts as a merchant
depository for cardholder drafts under both VISA and MasterCard. In addition, it
provides note and collection services and direct deposit of social security and
other government checks.
The Bank engages in a full complement of lending activities, including
commercial, Small Business Administration (SBA), residential mortgage,
consumer/installment, and short-term real estate loans, with particular emphasis
on short and medium-term obligations. Commercial lending activities are
directed principally towards businesses whose demand for funds falls within the
Bank's lending limit, such as small to medium-sized professional firms, retail
and wholesale outlets and manufacturing and agricultural concerns. Consumer
lending is oriented primarily to the needs of the Bank's customers, with an
emphasis on automobile financing and leasing. Consumer loans also include loans
for boats, home improvements, debt consolidation, and other personal needs.
Real estate loans include short-term "swing" loans and construction loans.
Residential mortgages are generally sold into the secondary market for these
loans. SBA loans are made available to small to medium-sized businesses.
3
Sources of Business:
- --------------------
Management seeks to obtain sufficient market penetration through the full range
of services described above and through the personal solicitation of the Bank's
officers, directors and shareholders. All officers are responsible for making
regular calls on potential customers to solicit business and on existing
customers to obtain referrals. Promotional efforts are directed toward
individuals and small to medium-sized businesses. The Bank's customers are able
in their dealings with the Bank to be served by bankers who have commercial loan
experience, lending authority, and the time to serve their banking needs quickly
and competently. Bankers are assigned to customers and not transferred from
office to office as in many major chain or regional banks. In order to expedite
decisions on lending transactions, the Bank's loan committee meets on a regular
basis and is available where immediate authorization is important to the
customer.
The risk of non-payment (or deferred payment) of loans is inherent in commercial
banking. Furthermore, the Bank's marketing focus on small to medium-sized
businesses may involve certain lending risks not inherent in loans to larger
companies. Smaller companies generally have shorter operating histories, less
sophisticated internal record keeping and financial planning capabilities, and
greater debt-to-equity ratios. Management of the Bank carefully evaluates all
loan applicants and attempts to minimize its credit risk through the use of
thorough loan application and approval procedures.
Consistent with the need to maintain liquidity, management of the Bank seeks to
invest the largest portion of the Bank's assets in loans of the types described
above. Loans are generally limited to less than 75% of deposits and capital
funds. The Bank's surplus funds are invested in the investment portfolio, made
up of both taxable and non-taxable debt securities of the U.S. government, U.S.
government agencies, states, and municipalities. On a day to day basis, surplus
funds are invested in federal funds and other short-term money market
instruments.
Competition:
- -----------
The banking business in California generally, and in the northern portion of San
Joaquin County where the Bank is located, is highly competitive with respect to
both loans and deposits and is dominated by a relatively small number of major
banks with branch office networks and other operating affiliations throughout
the State. The Bank competes for deposits and loans with these banks, as well
as with savings and loan associations, thrift and loan associations, credit
unions, mortgage companies, insurance companies and other lending institutions.
Among the advantages certain of these institutions have over the Bank are their
ability (i) to finance extensive advertising campaigns, (ii) to allocate a
substantial portion of their investment assets in securities with higher yields
(not available to the Bank if its investments are to be diversified) and (iii)
to make funds available for loans in geographic regions with the greatest
demand. In competing for deposits, the Bank is subject to the same regulations
with respect to interest rate limitations on time deposits as other depository
institutions. See "Supervision and Regulation" below.
Many of the major commercial banks operating in the Bank's service area offer
certain services, such as international banking and trust services, which are
not offered directly by the Bank, and such banks, by virtue of their greater
capitalization, have substantially higher lending limits than the Bank. In
addition, other entities, both public and private, seeking to raise capital
through the issuance and sale of debt and equity securities compete with the
Bank for the acquisition of funds for deposit.
In order to compete with other financial institutions in its primary service
area, the Bank relies principally on local promotional activities, personal
contacts by its officers, directors, employees and shareholders, extended hours
and specialized services. The Bank's promotional activities emphasize the
advantages of dealing with a locally-owned and headquartered institution
sensitive to the particular needs of the community. The Bank also assists
customers in obtaining loans in excess of the Bank's lending limit or services
not offered by the Bank by arranging such loans or services in participation
with or through its correspondent banks.
The State Bank Parity Act, effective January 1, 1996, eliminated certain
existing disparities between California state chartered banks and national
banking associations, such as the Bank, by authorizing the California
Commissioner of Financial Institutions (the "Commissioner") to address such
disparities through a streamlined rule-making process.
4
Employees:
- ---------
As of December 31, 1997, the Company employed 87 full-time equivalent employees,
including five executive officers. Management believes that the Company's
relationship with its employees is good.
SUPERVISION AND REGULATION
The Company
- -----------
The common stock of the Company is subject to the registration requirements of
the Securities Act of 1933, as amended, and the qualification requirements of
the California Corporate Securities Law of 1968, as amended. The Company is
also subject to the periodic reporting requirements of Section 13(d) of the
Securities Exchange Act of 1934, as amended, which include, but are not limited
to, annual, quarterly and other current reports with the Securities and Exchange
Commission.
The Company is a bank holding company registered under the Bank Holding Company
Act of 1956 (the "Act") and is subject to supervision by the Board of Governors
of the Federal Reserve System (the "Board"). As a bank holding company, the
Company must file with the Board quarterly reports, annual reports, and such
other additional information as the Board may require pursuant to the Act. The
Board may also make examinations of the Company and its subsidiaries.
The Act requires prior approval of the Board for, among other things, the
acquisition by a bank holding company of direct or indirect ownership or control
of more than 5% of the voting shares, or substantially all the assets, of any
bank, or for a merger or consolidation by a bank holding company with any other
bank holding company. The Act also prohibits the acquisition by a bank holding
company or any of its subsidiaries of voting shares, or substantially all the
assets, of any bank located in a state other than the state in which the
operations of the bank holding company's banking subsidiaries are principally
conducted, unless the statutes of the state in which the bank to be acquired is
located expressly authorize such acquisition.
With certain limited exceptions, a bank holding company is prohibited from
acquiring direct or indirect ownership or control of more than 5% of the voting
shares of any company that is not a bank or bank holding company and from
engaging directly or indirectly in any activity other than banking or managing
or controlling banks or furnishing services to, or performing services for, its
authorized subsidiaries. A bank holding company may, however, engage in or
acquire an interest in a company that engages in activities that the Board has
determined to be so closely related to banking or to managing or controlling
banks as to be properly incident thereto. In making such a determination, the
Board is required to consider whether the performance of such activities
reasonably can be expected to produce benefits to the public, such as greater
convenience, increased competition, or gains in efficiency, which outweigh
possible adverse effects, such as undue concentration of resources, decreased or
unfair competition, conflicts of interest or unsound banking practices. The
Board is also empowered to differentiate between activities commenced de novo
and activities commenced by the acquisition, in whole or in part, of a going
concern.
Additional statutory provisions prohibit a bank holding company and any
subsidiary banks from engaging in certain tie-in arrangements in connection with
the extension of credit, sale or lease of property or furnishing of services.
Thus, a subsidiary bank may not extend credit, lease or sell property, or
furnish any services, or fix or vary the consideration for any of the foregoing
on the condition that: (i) the customer must obtain or provide some additional
credit, property or service from or to such bank other than a loan, discount,
deposit or trust service; or (ii) the customer must obtain or provide some
additional credit, property or service from or to the company or any other
subsidiary of the company; or (iii) the customer may not obtain some other
credit, property to service from competitors, except reasonable requirements to
assure soundness of the credit extended. These anti-tying restrictions also
apply to bank holding companies and their non-bank subsidiaries as if they were
banks.
The Company's ability to pay cash dividends is subject to restrictions set forth
in the California General Corporation Law. See Note 12(e) to the financial
statements for further information regarding the payment of cash dividends by
the Company and the Bank.
The Company is a bank holding company within the meaning of Section 3700 of the
California Financial Code. As such, the Company and its subsidiaries are subject
to examination by, and may be required to file reports with the Commissioner.
Regulations have not yet been proposed or adopted to implement the
Commissioner's powers under this statute.
5
The Bank:
- --------
The Bank, as a national banking association whose accounts are insured by the
Federal Deposit Insurance Corporation (the "FDIC") up to the maximum legal
limits and is subject to regulation, supervision, and regular examination by the
OCC. The Bank is a member of the Federal Reserve System, and, as such, is
subject to certain provisions of the Federal Reserve Act and regulations issued
by the Board. The Bank is also subject to applicable provisions of California
law, insofar as they are not in conflict with, or preempted by, federal law.
The regulations of these various agencies govern most aspects of the Bank's
business, including reserves against deposits, interest rates payable on
deposits, loans, investments, mergers and acquisitions, borrowings, dividends
and location of branch offices.
Officers:
- --------
Leon Zimmerman, age 55, is President and Chief Executive Officer of the Bank and
of the Company; David M. Philipp, age 35, is Executive Vice-President, Chief
Financial Officer and Secretary of the Bank and of the Company; Lance Gallagher,
age 52, is Senior Vice President and Operations Administrator of the Bank and
the Company; Dennis Ceklovsky, age 45 is Senior Vice President and Regional
Manager of the Bank and the Company; and David Redman, age 53, is Senior Vice
President and Chief Credit Officer of the Bank and of the Company;
Mr. Zimmerman joined the Company in April, 1990. He was promoted from
Executive Vice President and Chief Credit Officer of Bank of Lodi to President
and CEO in August of 1994. Mr. Zimmerman became President and CEO of the
Company effective August 1995. He lives in Lodi with his wife and has been in
the San Joaquin-Sacramento Valley since 1960, serving in various banking
capacities since 1962. Mr. Zimmerman serves on many community boards and
committees, including San Joaquin County Education Foundation, Boys & Girls
Club of Lodi, Economic Development Task Force and LEED - Sacramento Steering
Committee. He is an active member of Rotary, Chamber of Commerce and several
other community groups.
Mr. Philipp joined the Company in April, 1992. Prior to joining the Company,
Mr. Philipp was the Budget Director and Financial Analyst for Merksamer
Jewelers, Inc., at that time the eighth largest jewelry retailer in the United
States, headquartered in Sacramento, California. Prior to joining Merksamer
Jewelers, Inc., Mr. Philipp was a Supervising Senior Accountant in the
Sacramento office of KPMG Peat Marwick, LLP. While at KPMG Peat Marwick, LLP,
Mr. Philipp specialized in providing audit and accounting services to financial
institution, agribusiness, and broadcasting clients. Mr. Philipp is a CPA and
holds a Bachelor of Science in Business Administration, Accountancy from
California State University. He lives in El Dorado Hills with his wife and two
children, having been in the Greater Sacramento area for over 25 years.
Mr. Gallagher joined the Bank in February, 1991. He was promoted from Vice
President of Compliance to Senior Vice President & Operations Administrator in
January, 1997. As a graduate of the American Bankers Associations Graduate
School of Compliance, he is responsible for the Bank's regulatory matters in
addition to Bank operations and item processing. Prior to joining the Company,
Mr. Gallagher was with Wells Fargo Bank for 22 years in various customer
service, operations, and human resource capacities of increasing responsibility.
He lives in San Joaquin County with his wife and has 4 boys and a grandson.
Mr. Gallagher is a banking instructor for The American Institute of Banking and
Delta Community College, serves as a member of the Colleges Banking Advisory
Board, a member of the Heald College Employer Advisory Committee, and is the
Initiation Coaching Program Director with U. S. Hockey Pacific District.
Mr. Ceklovsky joined the Company in December, 1997. A resident of the greater
Sacramento area for over 30 years, Mr. Ceklovsky has over 24 years of banking
experience, including nearly 18 years in the greater Sacramento area. While
previously with three community banks and two major banks, Mr. Ceklovsky has
been responsible for all aspects of credit administration and management
positions of increasing responsibility, including the position of chief credit
officer for two community banks in the Sacramento area, both under successful
turnaround strategies. He is the former owner of DFC Consulting Company, a
financial consulting firm specializing in due diligence reviews and litigation
support to the banking industry. Mr. Ceklovsky has served the greater Sacramento
area on various community boards and committees including the Sacramento Metro
Chamber of Commerce, SACTO, Sacramento Juvenile Diabetes Foundation, Sacramento
YWCA and Robert Morris Associates. He is a founding member of the Sacramento
Capitol Club.
6
Mr. Redman joined the Company in December 1997. He has over 33 years of banking
experience in central California. He was previously President and CEO of
Citizens Bank of Paso Robles, N.A. (1990 to 1995). Mr. Redman assisted in the
start up of Commerce Bank of San Luis Obispo and served as Executive Vice
President of that bank (1985 to 1990). Most recently he was the organizing
President and CEO for Central California Bank (in organization). His banking
experience includes several years with two major California banks. Mr. Redman's
education includes Porterville Community College and the University of
Washington Graduate School of Banking. Community involvement has included the
Jaycees, Lions Club, Kiwanis Club, Rotary, Chamber of Commerce, Downtown
Merchants Association and the Elks Lodge.
Recent Legislation and Regulations Affecting Banking:
- ----------------------------------------------------
From time to time, new laws are enacted which increase the cost of doing
business, limit permissible activities, or affect the competitive balance
between banks and other financial institutions. Proposals to change the laws
and regulations governing the operations and taxation of bank holding companies,
banks and other financial institutions are frequently made in Congress, in the
California legislature and before various bank holding company and bank
regulatory agencies. The likelihood of any major changes and the impact such
changes might have are impossible to predict. Certain significant recently
proposed or enacted laws and regulations are discussed below.
INTERSTATE BANKING. Since 1986, California has permitted California banks and
bank holding companies to be acquired by banking organizations based in other
states on a "reciprocal" basis (i.e., provided the other state's laws permit
California banking organizations to acquire banking organizations in that state
on substantially the same terms and conditions applicable to local banking
organizations). Since October 2, 1995, California law implementing certain
provisions of prior federal law has (1) permitted interstate merger
transactions; (2) prohibited interstate branching through the acquisition of a
branch business unit located in California without acquisition of the whole unit
of the California bank; and (3) prohibited interstate branching through de novo
establishment of California branch offices. Initial entry into California by an
out-of-state institution must be accomplished by acquisition of or merger with
an existing whole bank which has been in existence for at least five years.
CAPITAL REQUIREMENTS. Federal regulation imposes upon all FDIC-insured
financial institutions a variable system of risk-based capital guidelines
designed to make capital requirements sensitive to differences in risk profiles
among banking organizations, to take into account off-balance sheet exposures
and to aid in making the definition of bank capital uniform internationally.
Under the OCC's risk-based capital guidelines, the Bank is required to maintain
capital equal to a at least 8 percent of its assets, weighted by risk. Assets
and off-balance sheet items are categorized by the guidelines according to risk,
and certain assets considered to present less risk than others permit
maintenance of capital at less than the 8 percent ratio. The guidelines
established to categories of qualifying capital: Tier 1 capital comprising core
capital elements, and Tier 2 comprising supplementary capital requirements. At
least one-half of the required capital must be maintained in the form of Tier 1
capital. For the Bank, Tier 1 capital includes only common stockholders' equity
and retained earnings, but qualifying perpetual preferred stock would also be
included without limit of the Bank were to issue such stock. Tier 2 capital
includes, among other items, limited life (and in the case of banks, cumulative)
preferred stock, mandatory convertible securities, subordinated debt and a
limited amount of the allowance for loan and lease losses.
The guidelines also require all insured institutions to maintain a minimum
leverage ratio of 3 percent Tier 1 capital to total assets (the "leverage
ratio"). The OCC emphasizes that the leverage ratio constitutes a minimum
requirement for the most well-run banking organizations. All other banking
organizations are required to maintain a minimum leverage ratio ranging
generally from 4 to 5 percent. The Bank's required minimum leverage ratio is 4
percent.
The federal banking agencies during 1996 issued a joint agency policy statement
regarding the management of interest-rate risk exposure (interest rate risk is
the risk that changes in market interest rates might adversely affect a bank's
financial condition) with the goal of ensuring that institutions with high
levels of interest-rate risk have sufficient capital to cover their exposures.
This policy statement reflected the agencies' decision at that time not to
promulgate a standardized measure and explicit capital charge for interest rate
risk, in the expectation that industry techniques for measurement of such risk
will evolve.
However, the Federal Financial Institutions Examination Council ("FFIEC") on
December 13, 1996, approved an updated Uniform Financial Rating System
("UFIRS"). In addition to the five components traditionally included in the so-
called "CAMEL" rating system which has been used by bank examiners for a number
of years to classify and evaluate the soundness of financial institutions
(including capital adequacy, asset quality, management, earnings and
liquidity), UFIRS includes for all bank regulatory examinations conducted on or
after January 1, 1997, a new rating for a sixth category identified as
sensitivity to
7
market risk. Ratings in this category are intended to reflect the degree to
which changes in interest rates, foreign exchange rates, commodity prices or
equity prices may adversely affect an institution's earnings and capital. The
rating system henceforth will be identified as the "CAMELS" system.
As of December 31, 1997, the Bank's total risk-based capital ratio was
approximately 12.95 percent and its leverage ratio was approximately 7.11
percent. The Bank does not presently expect that compliance with the risk-based
capital guidelines or minimum leverage requirements will have a materially
adverse effect on its business in the reasonably foreseeable future. Nor does
the bank expect that its sensitivity to market risk will adversely affect its
overall CAMELS rating as compared with its previous CAMEL ratings by bank
examiners.
DEPOSIT INSURANCE ASSESSMENTS. In 1995, the FDIC, pursuant to Congressional
mandate, reduced bank deposit insurance assessment rates to a range from $0 to
$.27 per $100 of deposits, dependent upon a bank's risk. The FDIC has continued
these reduced assessment rates through 1997. Based upon the above risk-based
assessment rate schedule, the Bank's current capital ratios, the Bank's current
level of deposits, and assuming no further change in the assessment rate
applicable to the Bank during 1998, the Bank estimates that its annual
noninterest expense attributed to the regular assessment schedule will not
increase during 1998.
PROMPT CORRECTIVE ACTION. Prompt Corrective Action Regulations (the "PCA
Regulations") of the federal bank regulatory agencies established five capital
categories in descending order (well capitalized, adequately capitalized,
undercapitalized, significantly undercapitalized and critically
undercapitalized), assignment to which depends upon the institution's total
risk-based capital ratio, Tier 1 risk-based capital ratio, and leverage ratio.
Institutions classified in one of the three undercapitalized categories are
subject to certain mandatory and discretionary supervisory actions, which
include increased monitoring and review, implementation of capital restoration
plans, asset growth restrictions, limitations upon expansion and new business
activities, requirements to augment capital, restrictions upon deposit gathering
and interest rates, replacement of senior executive officers and directors, and
requiring divestiture or sale of the institution. The Bank has been classified
as a well-capitalized bank since adoption of the PCA Regulations.
COMMUNITY REINVESTMENT ACT. Community Reinvestment Act ("CRA") regulations
effective as of July 1, 1995 evaluate banks' lending to low and moderate income
individuals and businesses across a four-point scale from "outstanding" to "
substantial noncompliance," and are a factor in regulatory review of
applications to merge, establish new branches or form bank holding companies.
In addition, any bank rated in "substantial noncompliance" with the CRA
regulations may be subject to enforcement proceedings. The Bank has a current
rating of "satisfactory" CRA compliance.
SAFETY AND SOUNDNESS STANDARDS. Federal bank regulatory agency safety and
soundness standards for insured financial institutions establish standards for
(1) internal controls, information systems and internal audit systems; (2) loan
documentation; (3) credit underwriting; (4) interest rate exposure; (5) asset
growth; and (6) compensation, fees and benefits. In addition, the standards
prohibit the payment of compensation which is excessive or which could lead to
material financial loss. If an agency determines that an institution fails to
meet any standard established by the guidelines, the agency may require the
financial institution to submit to the agency an acceptable plan to achieve
compliance with the standard. Agencies may elect to initiate enforcement action
in certain cases where failure to meet one or more of the standards could
threaten the safe and sound operation of the institution. The Bank has not been
and does not expect to be required to submit a safety and soundness compliance
plan because of a failure to meet any of the safety and soundness standards.
PERMITTED ACTIVITIES. Recently, the Federal banking agencies, especially the
OCC and the Board, have taken steps to increase the types of activities in which
national banks and bank holding companies can engage, and to make it easier to
engage in such activities. On November 20, 1996, the OCC issued final
regulations permitting national banks to engage in a wider range of activities
through subsidiaries. "Eligible institutions" (those national banks that are
well capitalized, have a high overall rating and a satisfactory CRA rating, and
are not subject to an enforcement order) may engage in activities related to
banking through operating subsidiaries after going through a new expedited
application process. In addition, the new regulations include a provision
whereby a national bank may apply to the OCC to engage in an activity through a
subsidiary in which the bank itself may not engage. Although the Bank in not
currently intending to enter into any new type of business, this OCC regulation
could be advantageous to the Bank if the Bank determines to expand its
operations in the future, depending on the extent to which the OCC permits
national banks to engage in new lines of business and whether the Bank qualifies
as an "eligible institution" at the time of making application.
8
MONETARY POLICIES. Banking is a business in which profitability depends on
rate differentials. In general, the differences between the interest rate
received by a bank on loans extended to its customers and securities held in
that bank's investment portfolio and the interest rate paid on its deposits and
its other borrowings constitute the major portion of the bank's earnings. To
the extent that a bank is not able to compensate for increases in the cost of
deposits and other borrowings with greater income from loans, securities and
fees, the net earnings of that bank will be reduced. The interest rates paid and
received by any bank are highly sensitive to many factors which are beyond the
control of that bank, including the influence of domestic and foreign economic
conditions. See Item 7 herein, Management's Discussion and Analysis of Financial
Condition and Results of Operations.
The earnings and growth of a bank are also affected by the monetary and fiscal
policy of the United States Government and its agencies, particularly the Board.
These agencies can and do implement national monetary policy, which is used in
part to curb inflation and combat recession. Among the instruments of monetary
policy used by these agencies are open market transactions in United States
Government securities, changes in the discount rates of member bank borrowings,
and changes in reserve requirements. The actions of the Board have had a
significant effect on banks' lending, investments and deposits, and such
actions are expected to continue to have a substantial effect in the future.
However, the nature and timing of any further changes in such policies and their
impact on banks cannot be predicted.
PROPOSED LEGISLATION AND REGULATION. Certain legislative and regulatory
proposals that could affect the Bank and the banking business in general are
pending or may be introduced before the United States Congress, the California
State Legislature and Federal and state government agencies. The United States
Congress is considering numerous bills that could reform banking laws
substantially. For example, proposed bank modernization legislation under
consideration would, among other matters, include a repeal of the Glass-Steagall
Act restrictions on banks that now prohibit the combination of commercial and
investment banks.
It is not known whether any of these current legislative proposals will be
enacted and what effect such legislation would have on the structure, regulation
and competitive relationships of financial institutions. It is likely, however,
that many of these proposals would subject the Bank to increased regulation,
disclosure and reporting requirements and would increase competition to the Bank
and its cost of doing business.
In addition to pending legislative changes, the various banking regulatory
agencies frequently propose rules and regulations to implement and enforce
already existing legislation. It cannot be predicted whether or in what form
any such rules or regulations will be enacted or the effect that such rules and
regulations may have on the Bank's business.
The above description of the business of the Bank should be read in conjunction
with Item 7 herein, Management's Discussion and Analysis of Financial Condition
and Results of Operations.
ITEM 2. PROPERTIES
The Bank owns a 0.861 acre lot located at the corner of Ham Lane and Tokay
Street, Lodi, California. A 34,000 square foot, tri-level commercial building
for the main branch and administrative offices of the Company and the Bank was
constructed on the lot. The Company and the Bank use approximately 75% of the
leasable space in the building and the remaining area is either leased or
available for lease as office space to other tenants. This expansion in 1991 has
enabled the Bank to better serve its customers with more teller windows, four
drive-through lanes and expanded safe deposit box capacity.
The Bank assumed a long-term ground lease on 1.7 acres of land at 19000 North
Highway 88, Lockeford, California. The building previously occupying the Lodi
site was moved to Lockeford, California, and has become the permanent branch
office of the Bank at that location. A temporary office was opened by the Bank
on January 8, 1990 at this location in a 1,100 square foot building. The
permanent office was opened on April 1, 1991. The temporary office, along with
a portion of the permanent building, are leased by the Bank to two tenants.
9
On February 22, 1997, the Bank acquired the Galt, Plymouth and San Andreas
branches of Wells Fargo Bank. The transaction included the assumption of the
6,000 square foot branch building lease in Galt with a remaining term of two
years, and the purchase of the branch building and land for the Plymouth and San
Andreas offices. The Plymouth and San Andreas offices are approximately 1,200
and 5,500 square feet, respectively.
The Company owns a 10,000 square foot lot located on Lower Sacramento Road in
the unincorporated San Joaquin County community of Woodbridge, California. The
entire parcel has been leased to the Bank on a long term basis at market rates.
The Bank has constructed, furnished and equipped a 1,437 square foot branch
office on the parcel and commenced operations of the Woodbridge Branch on
December 15, 1986.
On December 31, 1997, the Bank leased 1,220 square feet of office space in
Folsom, California for use as a loan production office. The lease term is for
one year and includes an option for one additional year.
ITEM 3. LEGAL PROCEEDINGS
There are no legal proceedings required to be discussed pursuant to this Item 3.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
The Company's common stock is traded in the over-the-counter market and is not
presently listed on a national exchange or reported by the NASDAQ Stock Market.
Trading of the stock has been limited and has been principally contained within
the Company's general service area. As of March 2, 1998, there were 1,170
shareholders of record of the Company's common stock.
1997 1996
BID PRICE OF COMMON SHARES HIGH LOW HIGH LOW
- ----------------------------------------------------------------------------
First Quarter $10.25 9.50 $ 8.87 8.37
Second Quarter 10.25 9.63 9.75 8.63
Third Quarter 12.75 9.81 10.00 9.50
Fourth Quarter 13.00 12.13 10.00 9.25
The foregoing prices are based on trades of which Company is aware and reflect
inter-dealer prices, without retail mark-up, mark-down or commissions, and may
not represent specific transactions.
10
ITEM 6. SELECTED FINANCIAL DATA
- ------------------------------------------------------------------------------
(in thousands except per share amounts)
Consolidated Statement of Income 1997 1996 1995 1994 1993
- ------------------------------------------------------------------------------
Interest Income $10,592 8,045 8,089 7,462 6,907
Interest Expense 3,785 3,254 3,138 2,767 2,765
Net Interest Income 6,807 4,791 4,951 4,695 4,142
Provision for Loan Losses (60) 310 115 323 327
Noninterest Income 1,423 1,067 940 1,050 1,151
Noninterest Expense 6,796 4,654 4,534 5,137 4,115
Net Income $ 1,015 640 843 338 746
Per Share Data
- ------------------------------------------------------------------------------
Basic Earnings $ .77 .49 .65 .26 .57
Diluted Earnings .73 .48 .64 .26 .57
Cash Dividends Declared $ .20 .20 .15 -- .10
Consolidated Balance Sheet Data
- ------------------------------------------------------------------------------
Federal Funds Sold $ 4,900 1,100 3,300 2,000 2,600
Investment Securities 61,917 36,913 36,945 33,100 23,956
Loans, net of loss reserve and
deferred fees 62,228 52,672 50,524 55,812 59,943
Total Assets 147,850 104,913 103,972 105,167 99,806
Total Deposits 133,891 92,207 89,216 89,979 86,174
Note Payable -- -- 2,585 2,618 2,648
Total StockholdersO Equity $ 12,861 11,889 11,564 10,610 10,380
- ------------------------------------------------------------------------------
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Certain statements in this Annual Report on Form 10-K include forward-looking
information within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and
are subject to the "safe harbor" created by those sections. These forward-
looking statements involve certain risks and uncertainties that could cause
actual results to differ materially from those in the forward-looking
statements. Such risks and uncertainties include, but are not limited to, the
following factors: competitive pressure in the banking industry; changes in the
interest rate environment; general economic conditions, either nationally or
regionally becoming less favorable than expected and resulting in, among other
things, a deterioration in credit quality and an increase in the provision for
possible loan losses; changes in the regulatory environment; changes in business
conditions; volatility of rate sensitive deposits; operational risks, including
data processing system failures or fraud; asset/liability matching risks and
liquidity risks; and changes in the securities markets.
The following discussion addresses information pertaining to the financial
condition and results of operations of the Company that may not be otherwise
apparent from a review of the consolidated financial statements and related
footnotes. It should be read in conjunction with those statements and notes
found on pages 33 through 54, as well as other information presented throughout
this report.
11
SUMMARY OF EARNINGS PERFORMANCE
- ------------------------------------------------------------------------------
For the Year Ended December 31:
------------------------------------
1997 1996 1995
-----------------------------------
Earnings (in thousands) $1,015 640 843
- ------------------------------------------------------------------------------
Basic earnings per share $ .77 .49 .65
Diluted earnings per share $ .73 .48 .64
Return on average assets 0.75% 0.60% 0.83%
Return on average equity 8.18% 5.44% 7.45%
Dividend payout ratio 26.11% 42.55% 22.25%
- ------------------------------------------------------------------------------
"Cash" earnings (in thousands) (1) $1,293 640 843
Diluted "cash" earnings per share $ .93 .48 .64
"Cash" return on average assets 0.96% 0.60% 0.83%
"Cash" return on average equity 10.42% 5.44% 7.45%
- ------------------------------------------------------------------------------
Average equity to average assets 9.12% 11.12% 11.13%
- ------------------------------------------------------------------------------
(1) "Cash" earnings represent earnings based upon generally accepted accounting
principles plus the after-tax, non-cash effect on earnings of the
amortization of intangible assets. Following the 1997 acquisition of three
branches from Wells Fargo Bank, the "cash" earnings, return on assets, and
return on equity are the most comparable to prior year numbers. They are
also the more relevant performance measures for shareholders because they
measure the Company's ability to support growth and pay dividends.
Diluted earning per share for 1997 increased by 52% over 1996, while 1997 "cash"
earnings per share increased by 94% over 1996. Diluted and cash earnings per
share for 1996 were 25% below the comparable earnings for 1995. "Cash" return
on equity and return on average assets for 1997 increased by 92% and 60%,
respectively, over 1996, while return on equity and return on average assets in
1996 were 27% and 28%, respectively, below 1995. The disproportionate increase
in return on average equity relative to return on average assets is the result
of more efficiently leveraged equity in 1997 versus 1996. Average equity to
average assets was reduced by 200 basis points in 1997 compared to 1996. As a
result each dollar of equity in 1997 supported $11 in assets versus $9 in 1996
and $9 in 1995. The principal reason for the increase in leverage was the
acquisition of three branches from Wells Fargo Bank on February 22, 1997. The
acquisition increased deposits by $34 million as of the closing date of the
transaction.
Earnings increased in 1997 versus 1996 as a result of a 30% increase in net
interest income, a 120% reduction in the provision for loan losses and a 31%
increase in noninterest income. The foregoing improvements were partially
offset by a 45% increase in noninterest expenses. The growth in net interest
income was the result of both increases in the volume of earning assets and
deposits and an increase in net interest margin. Noninterest income increased
due in part to record volumes in both SBA and mortgage lending of the Bank.
Service charges and noninterest expenses increased principally as a result of
the acquisition of three branches from Wells Fargo Bank on February 22, 1997.
As a result of the earnings in 1997, the Company continued the practice of
paying a quarterly dividend of $.05 per share that began in the first quarter of
1995.
Earnings fell in 1996 versus 1995 due to a 3.2% decrease in net interest income
and a 170% increase in the provision for loan losses. The impact of the
foregoing items offset the benefit of a 16% increase in SBA and mortgage income
in 1996 compared to 1995.
12
BRANCH ACQUISITION
The single factor that had the most pervasive impact on the financial
performance and financial position of the Company during 1997 was the
acquisition of three branches.
On February 22, 1997, the Bank completed the acquisition of the Galt, Plymouth,
and San Andreas, California, branches of Wells Fargo Bank. The Bank purchased
the premises and equipment of the Plymouth and San Andreas branches and assumed
the building lease for the Galt branch. The Bank also purchased the furniture
and equipment of all three branches and paid a premium for the deposits of each
branch. The total cost of acquiring the branches, including payments to Wells
Fargo Bank as well as other direct costs associated with the purchase, was $2.86
million. The transaction was accounted for using the purchase method of
accounting. Accordingly, the purchase price was allocated first to identifiable
tangible assets based upon those assets' fair value and then to identifiable
intangible assets based upon the assets' fair value. The excess of the purchase
price over identifiable tangible and intangible assets was allocated to
goodwill. Allocations to identifiable tangible assets, identifiable intangible
assets, and goodwill were $856 thousand, $1.98 million, and $24 thousand,
respectively. Deposits totaling $34 million were acquired in the transaction.
13
NET INTEREST INCOME
The following table provides a detailed analysis of net interest spread and net
interest margin for the years ended December 31, 1997, 1996, and 1995,
respectively:
- -----------------------------------------------------------------------------------------------------------------------------------
For the Year Ended For the Year Ended For the Year Ended
December 31, 1997 December 31, 1996 December 31, 1995
(in thousands) (in thousands) (in thousands)
-------------------------------------------------------------------------------------------------------
Average Income/ Average Income/ Average Income/
Balance Expenses Yield Balance Expenses Yield Balance Expenses Yield
-------- -------- ----- ------- --------- ------- ------- --------- -------
Earning Assets:
Investment securities (1)..... $ 53,580 3,519 6.57% 34,700 2,233 6.44% 29,709 1,777 5.98%
Federal funds sold............ 8,400 461 5.49% 3,790 199 5.25% 3,490 200 5.73%
Loans (2)..................... 58,600 6,612 11.28% 54,520 5,613 10.30% 56,450 6,112 10.83%
-------- ------ ----- ------ ------ ------ ------ ------ ------
$120,580 10,592 8.78% 93,010 8,045 8.65% 89,649 8,089 9.02%
======== ====== ===== ====== ====== ====== ====== ====== ======
LIABILITIES:
Noninterest bearing deposits.. $ 13,470 -- -- 8,280 -- -- 7,140 -- --
Savings, money market, & NOW.. 67,520 1,660 2.46% 47,820 1,193 2.49% 46,370 1,187 2.56%
deposits
Time deposits................. 41,550 2,125 5.11% 34,320 1,799 5.24% 32,570 1,672 5.13%
Note payable.................. -- -- -- 2,440 262 10.74% 2,600 279 10.73%
-------- ------ ----- ------ ------ ------ ------ ------ ------
TOTAL LIABILITIES............. $122,540 3,785 3.09% 92,860 3,254 3.50% 88,680 3,138 3.54%
======== ====== ===== ====== ====== ====== ====== ====== ======
NET SPREAD.................... 5.69% 5.15% 5.48%
===== ====== ======
- -----------------------------------------------------------------------------------------------------------------------------------
Average Income/ Average Income/ Average Income/
Balance Expenses Yield Balance Expenses Yield Balance Expenses Yield
-------- -------- ----- ------- --------- ------- ------- --------- -------
Yield on average earning
assets....................... $120,580 10,592 8.78% 93,010 8,045 8.65% 89,649 8,089 9.02%
Cost of funds for average
earning assets............... $120,580 (3,785) (3.13%) 93,010 (3,254) (3.50%) 89,649 (3,138) (3.50%)
-------- ------ ----- ------ ------ ------ ------ ------ ------
NET INTEREST MARGIN........... $120,580 6,807 5.65% 93,010 4,791 5.15% 89,649 4,951 5.52%
======== ====== ===== ====== ====== ====== ====== ====== ======
- -----------------------------------------------------------------------------------------------------------------------------------
(1) Income on tax-exempt securities has not been adjusted to a tax equivalent
basis.
(2) Nonaccrual loans are included in the loan totals for each year.
Net interest income increased by 42% in 1997 after declining by 3% in 1996. The
increase in 1997 was the result of both growth in earning assets and deposits as
well as increased earning asset yields and decreased deposit costs. The decline
in 1996 was primarily the result of falling interest rates which served to
reduce net interest margin.
Average earning assets increased by 30% in 1997 compared to 1996 and 4% in 1996
compared to 1995. The increase in average earning assets was driven by growth
in average deposits. Average deposits increased by 36% in 1997 compared to 1996
and 5% in 1996 compared to 1995. Using year-end totals, loans outstanding at
December 31, 1997 were in excess of loans outstanding at December 31, 1996 by
18%. Despite the significant growth in the loan portfolio, the deposit growth
reduced the average loan-to-deposit ratio to 48% in 1997 compared to 60% in 1996
and 66% in 1995. Average loans also increased, growing by 7.5% after declining
by 3.5% in 1996 compared to 1995. The largest growth in average earning assets
took place in the investment portfolio into which the proceeds from the branch
acquisition were initially invested. Average investments increased by 54% in
1997 after growing by 17% in 1996.
14
Net interest margin increased by 50 basis points in 1997 after declining by 37
basis points in 1996. The increase in 1997 was the result of several key items:
. The general level of short-term interest rates as indicated by the
comparative yields on federal funds sold increased by approximately 24 basis
points.
. Approximately $445 thousand in loan interest income was recognized during
1997 as a result of nonaccrual loan payoffs. The recovery of nonaccrual
interest increased loan yields and net interest margin for the year by 76
basis points and 37 basis points respectively.
. The general decline in interest rates helped to bring down the cost of
average certificates of deposit by 13 basis points, while a new tiered rate
pricing structure for savings, money market, and NOW accounts reduced the
cost of those funds by 3 basis points.
. In addition to changes in the pricing structure of deposits, the mix of
noninterest bearing and lower cost transaction accounts increased for 1997,
while the mix of higher cost certificates of deposit declined.
. The mortgage note payable, which carried a yield of 10.45%, was paid off
during November 1996.
The 37 basis point decline in net interest income in 1996 compared to 1995
reflects a drop in short term interest rates of approximately 48 basis points
based upon the change in the yield on federal funds for the same period. The
yield on loans declined in a similar manner, while investment yields increased
due to an emphasis on purchasing callable agency securities that carry higher
yields than conventional agency securities. The cost of certificates of deposit
increased during 1996 while short term interest rates declined as falling
interest rates prompted many depositors to extend maturities to achieve higher
yields.
15
The following table presents the monetary impact of the aforementioned changes
in earning asset and deposit volumes, yields and mix for the three years ended
December 31, 1997, 1996, and 1995
- ------------------------------------------------------------------------------------------------------------------------------------
1997 compared to 1996 1996 compared to 1995 1995 compared to 1994
(in thousands) (in thousands) (in thousands)
Change due to: Change due to: Change due to:
Volume Rate Mix Total Volume Rate Mix Total Volume Rate Mix Total
--------------------------------------------------------------------------------------------------
Investment securities $ 661 46 578 1,285 67 135 255 457 (5) 141 223 359
Federal funds sold 59 9 194 262 7 (17) 8 (2) 11 56 (1) 66
Loans 1,664 539 (1,203) 1,000 229 (300) (428) (499) (44) 642 (396) 202
------ ---- ------ ----- --- ---- ---- ---- --- --- ---- ---
Total interest income $2,384 594 (431) 2,547 303 (182) (165) (44) (38) 839 (174) 627
====== ==== ====== ===== === ==== ==== ==== === === ==== ===
Interest Expense:
Noninterest-bearing deposits $ -- -- -- -- -- -- -- -- -- -- -- --
Savings, money market, & NOW 382 (16) 103 469 56 (27) (22) 7 (18) 5 (80) (93)
accounts
Time deposits 573 (44) (205) 324 79 35 13 127 (28) 380 115 467
Note payable 84 (262) (84) (262) 13 -- (30) (17) 3 0 (6) (3)
------ ---- ------ ----- --- ---- ---- --- --- ---- ---
Total interest expense $1,039 (322) (186) 531 148 8 (39) 117 (43) 385 29 371
====== ==== ====== ===== === ==== ==== ==== === === ==== ===
Net interest income $1,345 916 (245) 2,016 155 (190) (126) (161) 5 454 (203) 256
====== ==== ====== ===== === ==== ==== ==== === === ==== ===
- ------------------------------------------------------------------------------------------------------------------------------------
The increase in net interest income for 1997 attributable to volume is
illustrative of the principal impact of acquiring the new branches. The volume
variance for 1997 compared to 1996 is nearly ten times greater than the
comparable variance for 1996 compared to 1995. Interest increased by $2.4
million as a result of volume, while interest expense increased by $1.1 million.
The volume variance for 1996 compared to 1995 reflects the modest growth in
earning assets and deposits.
The rate variance in net interest income for 1997 compared to 1996 is over ten
times greater than the comparable rate variance for 1996 compared to 1995.
Approximately 49% of the positive rate variance of $916 thousand for 1997
compared to 1996 is the result of the nonaccrual interest recoveries realized
during the year. The remainder of the variance is principally the result of
paying off the mortgage note payable and yield increases for loans and
investments. The negative rate variance for 1996 compared to 1995 is
principally the result of lower loan yields.
The negative impact of earning asset mix variances with respect to loans was
minimized for 1997 relative to 1996 due to favorable mix changes in the deposit
base. Noninterest bearing demand deposits increased to 11% of average deposits
for 1997 compared to 9% for 1996 and 8% for 1995. In a similar manner, NOW
accounts increased to 37% of average deposits compared to 34% in 1996 and 1995.
Certificates of deposit declined to 34% of average deposits in 1997 compared to
37% in 1996 and 1995. The favorable certificate of deposit mix variance in 1997
was $205 thousand, or twice the increase in interest expense attributable to the
growth in NOW account volumes. Although loans as a percentage of average
earning assets were 49% for 1997 compared to 59% in 1996, the growth in average
loans outstanding of 7.5% for 1997 compared to 1996 kept the loan mix variance
for interest income below the volume variance.
Provision for Loan Losses
16
Provision for Loan Losses
The following table reconciles the beginning and ending loan loss reserve for
the previous five years. Reconciling activity is broken down into the three
principal items that impact the reserve: (1) reductions from charge-offs; (2)
increases from recoveries; and (3) increases or decreases from positive or
negative provisions for loan losses.
- --------------------------------------------------------------------------------------------
(in thousands) 1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------
Balance at beginning of period $1,207 959 1,127 924 1,334
CHARGE-OFFS:
Commercial 249 237 357 98 676
Real estate -- -- 30 -- 41
Consumer 41 97 95 77 46
------ ----- ----- ----- -----
TOTAL CHARGE-OFFS $ 290 334 482 175 763
RECOVERIES:
Commercial 434 260 174 37 21
Real estate -- -- -- -- --
Consumer 22 12 25 18 5
------ ----- ----- ----- -----
TOTAL RECOVERIES $ 456 272 199 55 26
------ ----- ----- ----- -----
Net charge-offs $ (166) 62 283 120 737
Additions charged to operations ( 60) 310 115 323 327
------ ----- ----- ----- -----
BALANCE AT END OF PERIOD $1,313 1,207 959 1,127 924
====== ===== ===== ===== =====
RATIO OF NET CHARGE-OFFS TO AVERAGE LOANS $(.28%) 0.11% 0.50% 0.20% 1.15%
OUTSTANDING ====== ===== ===== ===== =====
- --------------------------------------------------------------------------------------------
Footnote 1(g) to the consolidated financial statement discusses the factors used
in determining the provision for loan losses and the adequacy of the allowance
for loan losses.
Charge-off activity declined by 31% and 13%, respectively, in 1996 and 1997,
while recoveries increased by 37% and 68%, respectively, for the same periods.
These trends are consistent with the improvements discussed below in the Asset
Quality section. The principal reason for the increases in recoveries was
improvement in the repayment capacity of certain credits that had previously
been charged off combined with the Bank's continued efforts subsequent to
charge-off to work diligently toward collection. These credits began to
contribute toward recoveries in the latter part of 1995 and were paid in full
during 1997. Approximately $285 thousand of the recoveries of $456 thousand for
1997 are attributable to the credits that were paid off.
The loan loss provision for 1996 exceeded the provision for 1995 by 170%.
Although net charge-offs declined from 1995 to 1996, management determined that
the loan loss provision of $310 thousand was necessary to provide for the loss
potential with respect to a specific group of loan relationships that exhibited
increased credit risk at that time.
The declining charge-offs and larger recoveries during 1997 increased the loan
loss reserve by more than management believed was necessary to provide for loss
potential in the loan portfolio. Accordingly, $60 thousand of the reserve for
loan losses was reversed and taken into income in the form of a negative
provision for loan losses in 1997. While portfolio quality generally improved
in 1997 compared to 1996 a larger reserve was necessitated by the significant
growth in the loan portfolio. Please also see the "Asset Quality".
17
Noninterest Income
Noninterest income increased by 33% in 1997 compared to 1996 and rose by 14% in
1996 compared to 1995. The increases in both years came from growth in the
major components of noninterest income: service charges, SBA, mortgage income,
and other noninterest income. The following table summarizes the significant
elements of service charge, SBA, mortgage and Farmer Mac revenue for the three
years ending 1997, 1996, and 1995:
- -------------------------------------------------------------------------------
(in thousands) 1997 1996 1995
- -------------------------------------------------------------------------------
Periodic deposit account charges $ 307 192 169
Returned item charges 332 259 254
Ancillary services charges 70 33 32
Other service charges 57 75 37
-----------------
Total service charge revenue 766 559 492
=================
Gain on sale of SBA loans 217 163 143
SBA loan servicing revenue 199 183 174
-----------------
Total SBA revenue 416 346 317
Gain on sale of mortgage loans 77 44 36
Mortgage loan servicing revenue 53 41 30
-----------------
Total mortgage revenue 130 85 66
Farmer Mac origination, sale and servicing 29 20 10
-----------------
Total loan origination, sale and servicing revenue $ 575 451 393
- -------------------------------------------------------------------------------
Service charge revenue increased by 37% in 1997 compared to 1996 and 14% in 1996
compared to 1995. The growth in service charge revenue for 1997 resulted
primarily from the acquisition of three branches as discussed above in "Branch
Acquisition." The acquisition increased deposits by approximately 37%. In
addition to deposit growth, the Bank's service charge schedule was reviewed
during 1997, and certain rates were increased in areas where the Bank's rates
were more than competitive. The increase in service charge revenue from 1995 to
1996 is principally the result of a 103% increase in other service charges. The
increase in other service charges was the result of increases in penalties for
the early withdrawl of certificates of deposit and increases in late charges on
loans. These items moderated in 1997 compared to 1996.
Revenue from SBA loan sales reached a record level in 1997, increasing by 33%
over 1996 and following an increase of 14% in 1996 compared to 1995. The
increase in 1997 was the result of both increases in the volume of loans
originated and sold as well as a general increase in the loan sale premiums
realized in the secondary market for SBA loan sales. During 1996, a new
incentive compensation program was put into place. The program was designed to
provide incentives for increasing levels of production. As production
increased, the SBA servicing portfolio increased and resulted in the 9% and 5%
increases in SBA servicing revenue for 1997 and 1996, respectively.
Revenue from mortgage loan sales also reached a record level in 1997, increasing
by 75% over 1996 and following an increase of 22% in 1996 compared to 1995.
Mortgage operations were reorganized in 1994, and part of the annual increases
since that time are the result of the relationships that have been developed
with builders, realtors, and title companies. In addition to reorganized
operations, housing activity in the Bank's trade area improved during 1996 and
1997, resulting in increased volumes. The Bank has packaged home construction
and mortgage take-out loans in a competitive manner and has successfully
marketed this product in the new trade areas that were opened as a result of the
acquisition of branches from Wells Fargo Bank in early 1997 (see "Branch
Acquisition" above). Finally, declining mortgage rates during 1997 have
resulted in increased mortgage refinance volumes.
The Bank began to participate in the Federal Agricultural Mortgage Corporation
("Farmer Mac") lending program in late 1994, whereby qualifying mortgage loans
on agricultural property are originated and sold.
18
NONINTEREST EXPENSES
Noninterest expenses increased by 46% in 1997 compared to 1996 and 3% in 1996
compared to 1995. The single biggest factor behind the increase in 1997 was the
acquisition of three branches from Wells Fargo Bank on February 22, 1997 as
discussed above in "Branch Acquisition." Noninterest expense is broken down
into four primary categories each of which is discussed in this section.
SALARIES AND EMPLOYEE BENEFITS
- ------------------------------
The following table provides the detail for each major segment of salaries and
employee benefits together with relevant statistical data:
- --------------------------------------------------------------------------------------
(in thousands except full time equivalents) 1997 1996 1995
- --------------------------------------------------------------------------------------
Regular payroll, contract labor, and overtime $2,298 1,699 1,788
Incentive compensation and profit sharing 335 125 83
Payroll taxes and employment benefits 459 381 360
----------------------
TOTAL SALARIES AND EMPLOYEE BENEFITS $3,092 2,205 2,231
======================
Number of full-time equivalent employees 82.00 62.25 64.50
----------------------
Regular payroll per full-time equivalent employee 28.02 27.29 27.72
----------------------
Incentive compensation to regular payroll 14.6% 7.4% 4.6%
----------------------
Ratio of payroll taxes and benefits per full-time equivalent 5.60 6.12 5.58
- --------------------------------------------------------------------------------------
Total salaries and benefits expense increased by 40% in 1997 compared to 1996
after declining by 1% in 1996 compared to 1995. Regular payroll increased by
35% in 1997 compared to 1996 due primarily to the increase in personnel from the
three branches purchased from Wells Fargo Bank (see "Branch Acquisition above").
At the closing date of the transaction, the branch acquisition added 20 full-
time equivalents. Regular payroll per full-time equivalent increased by 2.7% in
1997 compared to 1996. Regular payroll and regular payroll per full-time
equivalent declined in 1996 compared to 1995 by 5% and 1.5%, respectively. The
reason for the decline was twofold. The Bank's senior officers elected to forgo
salary increases for 1996 in exchange for the implementation of a management
Incentive Compensation Plan. In addition, during 1996 there were temporary
vacancies in certain officer positions with salaries for those positions that
were higher than the Bank average.
Incentive compensation includes bonus awards under the Incentive Compensation
Plan, contributions to the Employee Stock Ownership Plan and matching
contributions to the 401(k) Stock Ownership Plan. The Incentive Compensation
Plan pays bonuses to officers based upon the actual results of departmental and
Bank-wide performance in comparison to predetermined targets. As explained in
the preceding paragraph, the plan was implemented in 1996. Contributions to the
Employee Stock Ownership Plan are made at the discretion of the board of
directors based upon profitability. Matching contributions to the 401(k) Stock
Ownership Plan are made at the rate of 50% of the first 4% of compensation
contributed by employees. The rate of incentive compensation for 1997 was
nearly double the rate in 1996 based upon increased profitability. Although the
incentive compensation rate for 1996 is higher than 1995 despite a decline in
profitability, such a comparison is not meaningful as there was no Incentive
Compensation Plan in 1995.
Payroll taxes and employee benefits per full-time equivalent declined in 1997
compared to 1996 because certain benefit expenses did not increase
proportionately with the increase in full-time equivalents. Despite an increase
of 20 full-time equivalents, workers compensation insurance declined slightly in
1997, and medical insurance per full-time equivalent declined by $377. The
increase per full-time equivalent for payroll taxes and employee benefits of
9.6% in 1996 was the result of increases in the cost of medical benefits and
workers compensation insurance.
19
Occupancy Expense
- -----------------
The following table provides the detail for each major segment of occupancy
expense:
- ----------------------------------------------------------------------------------------
(in thousands except square footage and cost per sq. ft.) 1997 1996 1995
- ----------------------------------------------------------------------------------------
Depreciation 265 251 250
Property taxes, insurance, and utilities 204 168 183
Property maintenance 154 109 130
Net rental income (30) (45) (120)
--------------------------
TOTAL OCCUPANCY 593 483 443
==========================
Square footage of occupied and unoccupied space 40,725 28,312 24,635
--------------------------
Occupancy cost per square foot $14.56 $17.06 $17.98
--------------------------
Locations 6 3 3
- ----------------------------------------------------------------------------------------
Occupancy expenses increased by 23% in 1997 compared to 1996 and 9% in 1996
compared to 1995.
The increase in 1997 is attributable to the acquisition of three branches from
Wells Fargo Bank (see "Branch Acquisition"). Approximately 13,500 square feet
of space was added by the branch acquisition. Two of the locations were
purchased and the third, representing 6,000 square feet, was leased. The
occupancy cost per square foot declined by 15% as the acquired locations had a
lower cost per square foot than existing locations.
The increase in 1996 compared to 1995 was principally the result of lower net
rental income. Net rental income is rental income less rental expense. The
decline in net rental income from 1995 to 1996 is the result of a reduction in
the occupancy of space available for lease to third parties at the Company's
main location. Some of the impact of the reduction in net rental income was
offset by a reduction of property taxes based upon a request made to the San
Joaquin County to reduce the assessed value of three properties.
EQUIPMENT EXPENSE
- -----------------
The following table provides the detail for each major segment of equipment
expense:
- -----------------------------------------------------------------------------------------------------
(in thousands) 1997 1996 1995
- -----------------------------------------------------------------------------------------------------
Depreciation $ 318 232 172
Maintenance 136 109 144
Rental expense 1 26 58
-----------------
TOTAL EQUIPMENT $ 455 367 374
- -----------------------------------------------------------------------------------------------------
Equipment expense increased by 24% in 1997 compared to 1996 and declined by 2%
in 1996 compared to 1995.
The increase in 1997 was a function of the equipment acquired in, or purchased
as a result of, the acquisition of three branches from Wells Fargo Bank (see
"Branch Acquisition"). The increase in 1997 was also due in part to the
depreciation expense taken on a new banking information system, the Phoenix
Banking System, that was put into place in June of 1996. 1997 was the first
full year of depreciation and followed six months of depreciation in 1996. The
old system was no longer operationally or technologically current. As such, it
was subject to significant maintenance and repair expenses. Those costs
declined by 24% in 1996 as a result of the new system. Concurrent with
conversion to the Phoenix Banking System, the bank also contracted with an
outside vendor to process customer checks and statements. These functions had
previously been done internally with rented equipment. As a result of this
change, rental expenses for equipment were reduced by 55% in 1996 compared to
1995 and were nearly eliminated in 1997 compared to 1996.
20
OTHER NONINTEREST EXPENSE
- -------------------------
The following table provides the detail for each major segment of other
noninterest expense:
- ---------------------------------------------------------------------------
(in thousands) 1997 1996 1995
- ---------------------------------------------------------------------------
Third party data processing $ 642 371 244
Intangible amortization 479 - -
Professional fees 401 372 311
Telephone and postage 182 132 123
Director fees 150 124 109
Office supplies 142 113 115
Marketing 120 121 102
Printing 117 86 78
Other real estate owned losses and holding costs 94 49 83
Business development 55 43 39
Regulatory assessments 53 40 142
Other 220 148 140
--------------------
TOTAL OTHER NONINTEREST EXPENSE $2,656 1,599 1,486
- ---------------------------------------------------------------------------
Other noninterest expenses increased by 66% in 1997 compared to 1996 and 7.6% in
1996 compared to 1995. The most significant items behind the increase for 1997
were the acquisition of three branches from Wells Fargo Bank (see Branch
Acquisition), the outsourcing of more functions to third party processors and
increased losses and holding costs on other real estate owned. The increase in
1996 compared to 1995 was driven by higher outside processing costs and
increased professional fees related to loan resolution and strategic advisory
and consultation.
The acquisition of new branches in 1997 affected noninterest expenses in varying
degrees depending upon the fixed or variable nature of expenses. The most
definitive impact was the amortization of the core deposit and goodwill
intangible assets purchased in the acquisition. Amortization for 1997 amounted
to 24% of the purchase price of the related assets and represented 45% of the
increase in other noninterest expense for 1997 compared to 1996. The Bank is
using an accelerated method of amortization for these assets over an eight year
period. Excluding intangible amortization, the increase in other noninterest
expenses in 1997 was 36%.
As discussed under "Equipment Expense" above, the Bank outsourced the processing
of customer checks and statements to a third party in June of 1996. As a result
of this change in mid 1996, third party data processing costs increased in both
1996 and 1997. The acquisition of new branches approximately doubled the Bank's
customer base and added to the increase in third party data processing volumes
for 1997 compared to 1996.
The decision to outsource this function was based upon the prohibitive projected
cost of continuing to process these items in-house. An outside provider could
not only process these items more economically than what would be the case in-
house, it could do so with added features, such as statement imaging, which were
not affordable from an in-house perspective. While many of the financial
benefits of this change have been realized in other areas of the income
statement, such as salaries and benefits, equipment depreciation, and equipment
rental and maintenance, postage and supplies expenses (excluding the impact of
new branches) were also reduced.
Losses and holding costs for other real estate owned nearly doubled in 1997
compared to 1996. The Bank moved aggressively in 1997 to reduce other real
estate owned. In connection with that effort, carrying values and asking
prices were reduced to facilitate the sale of properties. In addition, new
properties were brought in during 1997 and increased holding costs, such as
taxes and bonds, compared to 1996.
Regulatory assessments decreased 72% in 1996 compared to 1995 based upon the
FDIC's new deposit insurance premium schedule. In 1995, the FDIC, pursuant to
Congressional mandate, reduced bank deposit insurance assessment rates to a
range from $0 to $.27 per $100 of deposits, dependent upon a bank's risk. The
FDIC has continued these reduced assessment rates through 1997.
21
Income Taxes
The provision for income taxes as a percentage of pretax income for 1997, 1996,
and 1995 was 32%, 28%, and 32%, respectively. The effective rate is lower than
the combined marginal rate for state and federal taxes due primarily to the
level of tax exempt income relative to total pre-tax income. Tax exempt income
has been reduced during this same period in an effort to avoid paying
alternative minimum taxes and recoup alternative minimum taxes paid in previous
periods. Footnote 11 to the Consolidated Financial Statements contains a
detailed presentation of the income tax provision and the related current and
deferred tax assets and liabilities.
Balance Sheet Review
The following table presents average balance sheets for the years ended December
31, 1997, 1996 and 1995.
- -------------------------------------------------------------------------------------------------------------
For the Year Ended For the Year Ended For the Year Ended
December 31, 1997 December 31, 1996 December 31, 1995
(in thousands) (in thousands) (in thousands)
-----------------------------------------------------------------
Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------- -------
- -------------------------------------------------------------------------------------------------------------
Assets:
Cash & Due from banks $ 5,362 3.94% 4,020 3.80% 3,582 3.54%
Federal funds sold 8,400 6.17% 3,790 3.58% 3,490 3.44%
Investment securities 53,580 39.36% 34,700 32.82% 29,709 29.33%
Loans (net of allowance for loan
losses and deferred income) 56,744 41.68% 53,213 50.33% 55,428 54.71%
Premises and equipment, net 7,227 5.31% 7,044 6.66% 6,552 6.47%
Other assets 4,830 3.54% 2,966 2.81% 2,546 2.51%
-------- ------ ------- ------ ------- ------
TOTAL ASSETS $136,143 100.00% 105,733 100.00 101,307 100.00%
======== ====== ======= ====== ======= ======
LIABILITIES & STOCKHOLDERS' EQUITY:
Deposits $122,540 90.00% 90,420 85.52% 86,080 84.97%
Note payable -- -- 2,440 2.31% 2,600 2.57%
Other liabilities 1,193 .88% 1,113 1.05% 1,309 1.29%
Stockholders' equity 12,410 9.12% 11,760 11.12% 11,318 11.17%
-------- ------ ------- ------ ------- ------
TOTAL LIABILITIES & STOCKHOLDERS' EQUITY $136,143 100.00% 105,733 100.00% 101,307 100.00%
======== ====== ======= ====== ======= ======
- ------------------------------------------------------------------------------------------------------------
Average total assets increased by 29% in 1997 compared to 1996 and 4% in 1996
compared to 1995. Year-end asset totals at December 31, 1997 reached $147.9
million and represented an increase of 41% over December 31, 1996. The increase
in 1997 is largely attributable to $34 million in deposits acquired in
connection with the acquisition of three branches from Wells Fargo Bank (see
"Branch Acquisition"). Deposits at December 31, 1997 increased by 45%, or $41.6
million, compared to December 31, 1996. Average deposits for 1997 exceeded 1996
by 36%. The increase in deposits reduced the ratio of average equity to average
assets by 200 basis points in 1997 to 9.12% and provided for a more efficient
use of capital.
The liquidity generated by the growth in deposits funded growth in the loan and
investment securities portfolios. Average loans for 1997 increased by 7% over
1996, while loans at December 31, 1997 were 18% above the comparable total at
December 31, 1996. The average investment portfolio for 1997 was 54% larger
than in 1996.
22
Investment Securities
The following table presents the investment portfolio at December 31, 1997,
1996 and 1995 by security type, maturity, and yield:
- ----------------------------------------------------------------------------------------------------------------
BOOK VALUE AT DECEMBER 31 (IN THOUSANDS)
------------------------------------------------------
1997 1996 1995
---------------- ---------------- ----------------
Amount Yield(a) Amount Yield(a) Amount Yield(a)
- ----------------------------------------------------------------------------------------------------------------
U.S. Treasury Securities:
Within 1 year $ 2,995 5.94% 600 8.09% 999 5.54%
After 1 year, within 5 years 1,000 5.87% 3,972 5.93% 600 8.09%
After 5 years, within 10 years -- -- -- -- -- --
After 10 years -- -- -- -- -- --
---------------------------------------------------
TOTAL U.S. TREASURY $ 3,995 5.92% 4,572 6.21% 1,599 6.49%
U.S. AGENCY SECURITIES:
Within 1 year 2,101 7.06% 4,023 5.94% 8,265 5.65%
After 1 year, within 5 years 13,997 6.46% 8,537 6.71% 7,105 6.37%
After 5 years, within 10 years 9,986 7.07% 5,038 7.04% 998 --
After 10 years 4,993 7.63% 483 8.30% -- --
---------------------------------------------------
TOTAL U.S. AGENCY $31,077 6.88% 18,081 6.67% 16,368 6.00%
COLLATERALIZED MORTGAGE OBLIGATIONS:
Within 1 year -- -- -- -- 1,142 5.89%
After 1 year, within 5 years 225 6.08% 329 5.65% 523 7.13%
After 5 years, within 10 years 277 6.27% 376 5.84% 35 6.00%
After 10 years 534 6.57% 534 6.40% 603 7.97%
---------------------------------------------------
TOTAL COLLATERALIZED MORTGAGE OBLIGATIONS $ 1,036 6.38% 1,239 6.03% 2,303 6.36%
MUNICIPAL SECURITIES:
Within 1 year 688 6.67% 250 6.33% 500 6.10%
After 1 year, within 5 years 3,118 6.94% 3,455 6.88% 1,987 6.74%
After 5 years, within 10 years 530 7.60% 886 6.14% 3,109 6.96%
After 10 years -- -- -- -- -- --
---------------------------------------------------
TOTAL MUNICIPALS $ 4,336 6.98% 4,591 6.71% 5,596 6.80%
OTHER DEBT SECURITIES:
Within 1 year 22 7.86% 27 8.57% 267 7.65%
After 1 year, within 5 years 2,748 7.41% 492 8.25% 8 8.20%
After 5 years, within 10 years 7 9.73% 1,097 7.33% 747 8.27%
After 10 years 972 7.67% 33 8.15% 1,007 7.11%
---------------------------------------------------
TOTAL OTHER DEBT SECURITIES $ 3,749 7.48% 1,649 7.64% 2,029 7.27%
MONEY MARKET MUTUAL FUND 17,200 6.12% 6,482 5.28% 8,640 5.77%
FEDERAL AGENCY STOCK 126 6.00% 83 6.00% 83 6.00%
UNREALIZED HOLDING GAIN/(LOSS) 398 -- 216 -- 327 --
---------------------------------------------------
TOTAL $61,917 6.59% 36,913 6.39% 36,945 6.18%
- ----------------------------------------------------------------------------------------------------------------
(a) The yields on tax-exempt obligations have not been computed on a tax-
equivalent basis.
23
The investment portfolio at December 31, 1997 increased by 68% compared to
December 31, 1996, and there was virtually no change in the portfolio size from
December 31, 1995 to December 31, 1996. The growth in the portfolio during 1997
resulted from the investment of the deposit liquidity that was received when the
Bank purchased three branches from Wells Fargo Bank (see "Branch Acquisition").
The growth in the portfolio was focused primarily in the U.S. Agency segment and
more specifically callable U.S. Agency bonds. The callable bonds provide
attractive yields relative to noncallable securities for the same contractual
maturity. In a rising rate scenario, the call option to the issuer loses
economic advantage. As a result, the securities estimated life extends but the
yield in excess of non-callable yields at the purchase date provides some
compensation for the extended life. In a falling rate scenario, the call option
to the issuer gains economic advantage. As a result, the likelihood of the bond
being called increases. While the proceeds from the call would need to be
reinvested at lower rates, the higher coupon on the callable bond compensates
for the risk of the bond being called. The callable U.S Agency securities
purchases were diversified. Final maturities ranged from three to fifteen years
with call protection from three months to two years. At December 31, 1997, the
Bank's callable U.S. Agency portfolio totaled $21 million and had an average
final maturity of nine years with average call protection of ten months.
A portion of the investment portfolio contains structured notes. Structured
notes generally carry terms that reference some index or predefined schedule as
a means of determining the coupon rate of interest to be paid on the security,
and there may also be interest rate caps or floors that limit the extent to
which the coupon rate can adjust in any given period and/or for the life of the
security. Depending upon the referenced index or predefined schedule as well as
the interest rate cap or floor, the coupon rate of a structured note can lead,
lag, move in tandem with, or move in the opposite direction of market interest
rates. As a result, the market value of the note can be favorably or adversely
impacted depending upon the direction and magnitude of change in market interest
rates. Structured notes may also contain provisions that give the issuer the
right to call the security away from the owner at a predetermined price;
therefore, the contractual, expected, and actual final maturity of the notes may
differ. Both the collateralized mortgage obligations and the structured agency
bonds are considered to be derivative securities under the broadest definitions
of derivatives, however, derivative investments in the Bank's portfolio are
structured such that they fall on the conservative end of the derivative risk
spectrum.
The amortized cost of the Bank's structured note portfolio at December 31, 1997
and 1996 was $1.0 million and $2.1 million, respectively, and represented
approximately 1.6% and 5.7%, respectively, of the investment portfolio. The
market value of the structured note portfolio at December 31, 1997 and 1996 was
$1.0 million and $2.1 million, respectively. All of the structured notes were
issued by Federal Agencies and therefore carry the implied AAA credit rating of
the Federal Government. The structured note portfolio at December 31, 1997
carries only floating rate coupons that generally lag overall movements in
market interest rates. The average final maturity of the structured note
portfolio at December 31, 1997 and 1996 was approximately one half year.
LOANS
The following table summarizes gross loans and the components thereof as of
December 31 for each of the last five years:
- --------------------------------------------------------------------------------------------------------------
OUTSTANDING AT DECEMBER 31 (IN THOUSANDS):
---------------------------------------------------------------
1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------------------------
Commercial $53,684 45,322 41,538 44,847 48,478
Real estate construction 6,900 5,802 7,549 9,809 10,182
Installment and other 3,525 3,155 2,757 2,656 2,804
------- ------ ------ ------ ------
$64,109 54,279 51,844 57,312 61,464
======= ====== ====== ====== ======
- --------------------------------------------------------------------------------------------------------------
Gross loans outstanding as of December 31, 1997 exceeded the comparable total at
December 31, 1996 by $9.8 million, or 18%. The primary lending categories of
commercial, real estate construction, and installment increased by 18%, 19%, and
12%
24
respectively. A significant amount of effort was put forth by management during
1994 to improve the credit quality of the loan portfolio and alter the labor
intensivity of certain segments of the portfolio. The portfolio dollars declined
in 1995 as a result of these efforts. During 1995 and thereafter, management's
focus expanded to business development and the approach to business development
was refined. The 5% and 18% growth in the portfolio for 1996 and 1997 are
attributable to diligent application of those business development disciplines
as well as modest economic improvement in the Bank's market areas.
The most significant segment of the loan portfolio is commercial loans, which
represented 84% and 83% of the total portfolio, respectively, at December 31,
1997 and 1996. Commercial loans include agricultural loans, working capital
loans to businesses in a number of industries, and loans to finance commercial
real estate. Agricultural loans represented approximately 21% and 29% of the
commercial loan portfolio at December 31, 1997 and 1996, respectively.
Agricultural loans are diversified throughout a number of agricultural business
segments, including dairy, orchards, row crops, vineyards, cattle and contract
harvesting. Agricultural lending risks are generally related to the potential
for volatility of agricultural commodity prices. Commodity prices are affected
by government programs to subsidize certain commodities, weather, and overall
supply and demand in wholesale and consumer markets. Excluding agricultural
loans, the remaining portfolio is principally dependent upon the health of the
local economy and related to the real estate market.
The maturity and repricing characteristics of the loan portfolio at December 31,
1997 are as follows:
- -----------------------------------------------------------------------------------
DUE: (1) Fixed Rate Floating Rate Total
- -----------------------------------------------------------------------------------
In 1 year or less 1,072 665 1,737
After 1 year through 5 years 21,171 26,391 47,562
After 5 years 8,412 6,398 14,810
------ ------ ------
TOTAL LOANS 30,655 33,454 64,109
====== ====== ======
- -----------------------------------------------------------------------------------
(1) Scheduled repayments are reported in the maturity category in which the
payment is due.
Approximately 48% of the loan portfolio carries a fixed rate of interest as of
December 31, 1997, while approximately 77% of the portfolio matures within five
years.
Deposits
The following table summarizes average deposit balances and rates for the years
ended December 31, 1997, 1996, and 1995:
- ---------------------------------------------------------------------------------------------------------------
(in thousands) For the Year Ended For the Year Ended For the Year Ended
December 31, 1997 December 31, 1996 December 31, 1995
Type Average Average Average Average Average Average
Amount Rate Amount Rate Amount Rate
- ---------------------------------------------------------------------------------------------------------------
Demand - non-interest bearing $ 13,470 N/A 8,280 N/A 7,140 N/A
NOW accounts 27,520 1.68% 19,561 1.89% 18,019 2.01%
Money market accounts 17,870 3.09% 12,469 2.95% 12,561 2.95%
Savings 22,130 2.92% 15,790 2.89% 15,791 2.87%
Time deposits 41,550 5.11% 34,320 5.24% 32,566 5.13%
-------- ---- ------ ---- ------ ----
TOTAL DEPOSITS $122,540 3.09% 90,420 3.31% 86,079 3.32%
======== ==== ====== ==== ====== ====
- ---------------------------------------------------------------------------------------------------------------
Average deposits increased by approximately 36% in 1997 compared to 1996, while
the average rate declined by 22 basis points. Average deposits increased by 5%
in 1996 compared to 1995, while the average rate declined by 1 basis point. The
majority of the deposit growth in 1997 came from the acquisition of three
branches with $34 million in deposits from Wells Fargo Bank on
25
February 22, 1997 (see "Branch Acquisition"). Deposits also grew as a result of
internal growth that resulted from the focused business development efforts of
Bank officers and staff. Growth in 1996 also came through focused business
development efforts as well as account transfers from large banks by customers
that had grown tired of the merger activity amongst large institutions.
The reduced rates on the deposit portfolio in 1996 and 1997 are a function of
changes in mix, pricing, and the general level of interest rates. The mix of
deposits has become more cost efficient over the past three years. The mix of
noninterest bearing deposits was 7%, 8%, and 11% for 1995, 1996, and 1997,
respectively. The mix of certificates of deposit declined significantly from
1996 to 1997 in favor of NOW, money market and savings accounts. The savings,
money market, and NOW accounts were repriced in early 1997. The basis used to
pay interest on these accounts was changed from a flat rate of interest
regardless of balance to a tiered rate of interest with increasingly higher
rates paid on incrementally higher balances. During the fourth quarter of 1997
rates on NOW savings and money market accounts were reduced by 20, 10 and 10
basis points, respectively. The effect of the pricing structure and pricing
level changes was to reduce the average rates paid on NOW accounts by 21 basis
points. The average rates paid on money market and savings accounts increased
by 14 and 3 basis points respectively.
Certificates of deposit contain regular and individual retirement account
balances. There are no brokered certificates of deposit in the portfolio.
Certificates of $100,000 or more represent approximately 35% of the certificate
of deposit portfolio at December 31, 1997, and the maturities of those
certificates are as follows:
- ---------------------------------------------------------------------------------------------------
(in thousands) 1997
- ---------------------------------------------------------------------------------------------------
Three months or less $ 6,285
Four months to six months 3,417
Seven months to twelve months 2,982
Over twelve months 800
-------
TOTAL TIME DEPOSITS OF $100,000 OR MORE $13,484
=======
- ---------------------------------------------------------------------------------------------------
ASSET QUALITY
The following table contains asset quality information with respect to the loan
portfolio and other real estate owned:
- ---------------------------------------------------------------------------------------------------------------
ASSET QUALITY STATISTICS AT DECEMBER 31
(in thousands except multiples and percentages) 1997 1996 1995 1994 1993
- ---------------------------------------------------------------------------------------------------------------
Nonaccrual loans $ 340 898 987 765 714
Accruing loans past due more than 90 days 65 52 118 40 237
------ ----- ----- ----- ----
Total nonperforming loans $ 405 950 1,105 805 951
====== ===== ===== ===== ====
Reserve for loan losses 1,313 1,207 959 1,127 924
Reserve for loan losses to nonperforming loans 3.24x 1.27x .87x 1.4x .97x
Total loan portfolio delinquency 1.09% 2.14% 2.57% 2.71% 5.12%
Reserve for loan losses to total gross loans 2.05% 2.22% 1.85% 1.97% 1.50%
Other real estate owned $ 159 400 357 175 407
- ---------------------------------------------------------------------------------------------------------------
The Company's nonaccrual policy is discussed in note 1(c) to the consolidated
financial statements. Interest income recorded on these nonaccrual loans was
approximately $8,000, $7,000, $13,000, $14,000 and $22,000 in 1997, 1996, 1995,
1994 and 1993, respectively. Interest income foregone or reversed on these
loans was approximately $45,000, $149,000, $161,000, $74,000 and $57,000 in
1997, 1996, 1995, 1994 and 1993, respectively. At December 31, 1997, there were
no individually material or a
26
material amount of loans in the aggregate for which management had serious
doubts as to the borrower's ability to comply with present loan repayment terms
and which may result in the subsequent reporting of such loans as nonaccrual.
Nonperforming loans have declined each year since 1995, while portfolio
delinquency has fallen each of the last four years. Nonperforming loans in 1997
are 57% below the 1996 level, while portfolio delinquency fell by 49% for the
same period. The reserve for loan losses increased for each of the last two
years after declining by 15% in 1995 compared to 1994. As a result, the reserve
coverage ratio for nonperforming loans increased in 1995, 1996, and 1997,
reaching 3.24 times at December 31, 1997. Notwithstanding the improving asset
quality statistics in 1997 and 1996, the reserve for loan losses was increased
in order to provide for the inherent loss potential in the new loan portfolio
growth. The following table summarizes the allocation of the allowance for loan
losses at December 31 for each of the last five years:
- -----------------------------------------------------------------------------------------------------------------------------------
(IN THOUSANDS) December 31, December 31, December 31, December 31, December 31,
EXCEPT PERCENTAGES 1997 1996 1995 1994 1993
- -----------------------------------------------------------------------------------------------------------------------------------
Loan Category Amount % Amount % Amount % Amount % Amount %
------ Loans ------ Loans ------ Loans ------ Loans ------ Loans
----- ----- ----- ----- -----
Commercial $ 309 60.95% 490 91.42% 295 84.29% 376 78.25% 140 79.22%
Real estate 192 37.87% 45 8.40% 38 10.86% 121 17.12% 45 16.20%
Consumer 6 1.18% 1 0.19% 17 4.86% 4 4.63% 2 4.58%
Unallocated 806 N/A 671 N/A 609 N/A 629 N/A 737 N/A
------ ------ ----- ------ --- ------ ----- ------ --- ------
$1,313 100.00% 1,207 100.00% 959 100.00% 1,127 100.00% 924 100.00%
====== ====== ===== ====== === ====== ===== ====== === ======
- ------------------------------------------------------------------------------------------------------------------------------------