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Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2016

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

CU BANCORP

(Exact name of registrant as specified in its charter)

Commission File Number 001-35683

 

California   90-0779788

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

818 West 7th Street, Suite 220

Los Angeles, California

  90017
(Address of principal executive offices)   (Zip Code)

(213) 430-7000

(Registrant’s telephone number, including area code)

Not applicable

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes   x     No   ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).     Yes   x     No   ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large Accelerated Filer   ¨    Accelerated Filer   x
Non Accelerated Filer   ¨    Smaller reporting company   ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No   x

As of May 4, 2016 the number of shares outstanding of the registrant’s no par value Common Stock was 17,516,136.


Table of Contents

CU BANCORP

March 31, 2016 FORM 10-Q

TABLE OF CONTENTS

 

PART I. FINANCIAL INFORMATION

  

ITEM 1.

  

Financial Statements

  

  

Consolidated Balance Sheets March 31, 2016 (Unaudited) and December 31, 2015

     3   
  

Consolidated Statements of Income Three Months Ended March 31, 2016 and 2015 (Unaudited)

     4   
  

Consolidated Statements of Comprehensive Income Three Months Ended March 31, 2016 and 2015 (Unaudited)

     5   
  

Consolidated Statements of Changes in Shareholders’ Equity Three Months Ended March 31, 2016 (Unaudited)

     6   
  

Consolidated Statements of Cash Flows Three Months Ended March 31, 2016 and 2015 (Unaudited)

     7   
  

Notes to the Consolidated Financial Statements (Unaudited)

     9   

ITEM 2.

   Management’s Discussion and Analysis of Financial Condition and Results of Operations      39   
   Overview      41   
   Results of Operations      45   
   Financial Condition      52   
   Liquidity      58   
   Dividends      60   
   Regulatory Matters      61   

ITEM 3.

   Quantitative and Qualitative Disclosures About Market Risk      64   

ITEM 4.

   Controls and Procedures      66   

PART II. OTHER INFORMATION

  

ITEM 1.

   Legal Proceedings      67   

ITEM 1A.

   Risk Factors      67   

ITEM 2.

   Unregistered Sales of Equity Securities and Use of Proceeds      67   

ITEM 3.

   Defaults Upon Senior Securities      67   

ITEM 4.

   Mine Safety Disclosures      67   

ITEM 5.

   Other Information      67   

ITEM 6.

   Exhibits      67   

Signatures 

     68   

 

Page 2 of 68


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CU BANCORP

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share data)

 

     March 31,
2016
    December 31,
2015
 
     (Unaudited)     (Audited)  

ASSETS

    

Cash and due from banks

   $ 43,912      $ 50,960   

Interest earning deposits in other financial institutions

     256,239        171,103   
  

 

 

   

 

 

 

Total cash and cash equivalents

     300,151        222,063   

Certificates of deposit in other financial institutions

     53,920        56,860   

Investment securities available-for-sale, at fair value

     315,499        315,785   

Investment securities held-to-maturity, at amortized cost

     40,256        42,036   
  

 

 

   

 

 

 

Total investment securities

     355,755        357,821   

Loans

     1,869,178        1,833,163   

Allowance for loan loss

     (16,545     (15,682
  

 

 

   

 

 

 

Net loans

     1,852,633        1,817,481   

Premises and equipment, net

     4,836        5,139   

Deferred tax assets, net

     14,094        17,033   

Other real estate owned, net

     —          325   

Goodwill

     64,603        64,603   

Core deposit and leasehold right intangibles, net

     7,301        7,671   

Bank owned life insurance

     50,235        49,912   

Accrued interest receivable and other assets

     36,005        35,734   
  

 

 

   

 

 

 

Total Assets

   $ 2,739,533      $ 2,634,642   
  

 

 

   

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

    

LIABILITIES

    

Non-interest bearing demand deposits

   $ 1,312,298      $ 1,288,085   

Interest bearing transaction accounts

     257,981        261,123   

Money market and savings deposits

     750,798        679,081   

Certificates of deposit

     54,807        58,502   
  

 

 

   

 

 

 

Total deposits

     2,375,884        2,286,791   

Securities sold under agreements to repurchase

     21,967        14,360   

Subordinated debentures, net

     9,737        9,697   

Accrued interest payable and other liabilities

     15,957        16,987   
  

 

 

   

 

 

 

Total Liabilities

     2,423,545        2,327,835   
  

 

 

   

 

 

 

Commitments and Contingencies (Note 13)

    

SHAREHOLDERS’ EQUITY

    

Serial Preferred Stock – authorized, 50,000,000 shares:

Series A, non-cumulative perpetual preferred stock, $1,000 per share liquidation preference, 16,400 shares authorized, 16,400 shares issued and outstanding at March 31, 2016 and December 31, 2015, respectively

     17,148        16,995   

Common stock – authorized, 75,000,000 shares no par value, 17,389,383 and 17,175,389 shares issued and outstanding at March 31, 2016 and December 31, 2015, respectively

     232,126        230,688   

Additional paid-in capital

     23,854        23,017   

Retained earnings

     42,907        36,923   

Accumulated other comprehensive loss

     (47     (816
  

 

 

   

 

 

 

Total Shareholders’ Equity

     315,988        306,807   
  

 

 

   

 

 

 

Total Liabilities and Shareholders’ Equity

   $ 2,739,533      $ 2,634,642   
  

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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CU BANCORP

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

(Dollars in thousands, except per share data)

 

     Three Months
Ended
March 31,
 
     2016      2015  

Interest Income

     

Interest and fees on loans

   $ 22,578       $ 19,906   

Interest on investment securities

     1,232         1,180   

Interest on interest bearing deposits in other financial institutions

     439         202   
  

 

 

    

 

 

 

Total Interest Income

     24,249         21,288   
  

 

 

    

 

 

 

Interest Expense

     

Interest on interest bearing transaction accounts

     99         100   

Interest on money market and savings deposits

     511         383   

Interest on certificates of deposit

     33         51   

Interest on securities sold under agreements to repurchase

     11         5   

Interest on subordinated debentures

     117         107   
  

 

 

    

 

 

 

Total Interest Expense

     771         646   
  

 

 

    

 

 

 

Net Interest Income

     23,478         20,642   

Provision for loan losses

     622         1,443   
  

 

 

    

 

 

 

Net Interest Income After Provision For Loan Losses

     22,856         19,199   
  

 

 

    

 

 

 

Non-Interest Income

     

Gain on sale of SBA loans, net

     554         423   

Deposit account service charge income

     1,189         1,141   

Other non-interest income

     1,077         1,044   
  

 

 

    

 

 

 

Total Non-Interest Income

     2,820         2,608   
  

 

 

    

 

 

 

Non-Interest Expense

     

Salaries and employee benefits (includes stock based compensation expense of $834 and $513 for the three months ended March 31, 2016 and 2015, respectively)

     10,153         9,151   

Occupancy

     1,436         1,420   

Data processing

     618         641   

Legal and professional

     475         846   

FDIC deposit assessment

     350         333   

Merger expenses

     —           240   

OREO loss and expenses

     79         6   

Office services expenses

     403         414   

Other operating expenses

     1,673         1,862   
  

 

 

    

 

 

 

Total Non-Interest Expense

     15,187         14,913   
  

 

 

    

 

 

 

Net Income Before Provision for Income Tax Expense

     10,489         6,894   

Provision for income tax expense

     4,202         2,695   
  

 

 

    

 

 

 

Net Income

     6,287         4,199   

Preferred stock dividends and discount accretion

     303         272   
  

 

 

    

 

 

 

Net Income available to common shareholders

   $ 5,984       $ 3,927   
  

 

 

    

 

 

 

Earnings Per Share

     

Basic earnings per share

   $ 0.35       $ 0.24   

Diluted earnings per share

   $ 0.35       $ 0.23   

The accompanying notes are an integral part of these consolidated financial statements.

 

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CU BANCORP

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

(Dollars in thousands)

 

     Three Months Ended
March 31,
 
     2016      2015  

Net Income

   $ 6,287       $ 4,199   

Other Comprehensive Income, net of tax:

     

Net change in unrealized gain on available-for-sale investment securities, net of tax

     769         511   
  

 

 

    

 

 

 

Other Comprehensive Income

     769         511   
  

 

 

    

 

 

 

Comprehensive Income

   $ 7,056       $ 4,710   
  

 

 

    

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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CU BANCORP

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

For the Three Months Ended March 31, 2016

(Unaudited)

(Dollars in thousands)

 

     Preferred Stock      Common Stock                           
     Issued and
Outstanding
Shares
     Amount      Issued and
Outstanding
Shares
    Amount      Additional
Paid in
Capital
    Retained
Earnings
    Accumulated
Other
Comprehensive
Income (Loss)
    Total
Shareholders’
Equity
 

Balance at December 31, 2015

     16,400       $ 16,995         17,175,389      $ 230,688       $ 23,017      $ 36,923      $ (816   $ 306,807   

Net issuance of restricted stock

     —           —           37,809        —           —          —          —          —     

Exercise of stock options

     —           —           189,489        1,438         —          —          —          1,438   

Stock based compensation expense related to employee stock options and restricted stock

     —           —           —          —           834        —          —          834   

Restricted stock repurchase

     —           —           (13,304     —           (294     —          —          (294

Excess tax benefit – stock based compensation

     —           —           —          —           297        —          —          297   

Preferred stock dividends and discount accretion

     —           153         —          —           —          (303     —          (150

Net income

     —           —           —          —           —          6,287        —          6,287   

Other comprehensive income

     —           —           —          —           —          —          769        769   
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Balance at March 31, 2016

     16,400       $ 17,148         17,389,383      $ 232,126       $ 23,854      $ 42,907      $ (47   $ 315,988   
  

 

 

    

 

 

    

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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CU BANCORP

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(Dollars in thousands)

 

     Three Months Ended
March 31,
 
     2016     2015  

Cash flows from operating activities:

    

Net income:

   $ 6,287      $ 4,199   

Adjustments to reconcile net income to net cash provided by operating activities:

    

Provision for loan losses

     622        1,443   

Provision for unfunded loan commitments

     102        24   

Stock based compensation expense

     834        513   

Depreciation

     361        359   

Net accretion of discounts/premiums for loans acquired and deferred loan fees/costs

     (2,140     (1,878

Net amortization from investment securities

     1,009        740   

Increase in bank owned life insurance

     (323     (296

Amortization of core deposit intangibles

     321        421   

Amortization of time deposit premium

     (1     (6

Net amortization of leasehold right intangible asset and liabilities

     (22     (15

Accretion of subordinated debenture discount

     40        40   

Loss on sale of OREO

     14        —     

Gain on sale of SBA loans, net

     (554     (423

Decrease in deferred tax assets

     2,381        545   

Decrease (increase) in accrued interest receivable and other assets

     26        (612

Decrease in accrued interest payable and other liabilities

     (1,622     (1,751

Net excess in tax benefit on stock compensation

     (297     (311

Increase in fair value of derivative swap liability

     561        1,044   
  

 

 

   

 

 

 

Net cash provided by operating activities

     7,599        4,036   
  

 

 

   

 

 

 

Cash flows from investing activities:

    

Purchases of available-for-sale investment securities

     (11,312     (5,002

Proceeds from repayment and maturities from investment securities

     13,696        9,079   

Loans originated, net of principal payments

     (33,080     (39,059

Purchases of premises and equipment

     (58     (172

Proceeds from sale of OREO

     311        —     

Net decrease in certificates of deposit in other financial institutions

     2,940        13,479   

Purchase of bank owned life insurance

     —          (10,000
  

 

 

   

 

 

 

Net cash used in investing activities

     (27,503     (31,675
  

 

 

   

 

 

 

Cash flows from financing activities:

    

Net increase in Non-interest bearing demand deposits

     24,213        77,689   

Net (decrease) increase in Interest bearing transaction accounts

     (3,142     44,865   

Net increase in Money market and savings deposits

     71,717        16,638   

Net decrease in Certificates of deposit

     (3,694     (3,288

Net increase in Securities sold under agreements to repurchase

     7,607        1,087   

Net proceeds from stock options exercised

     1,438        528   

Restricted stock repurchase

     (294     (146

Dividends paid on preferred stock

     (150     (41

Net excess in tax benefit on stock compensation

     297        311   
  

 

 

   

 

 

 

Net cash provided by financing activities

     97,992        137,643   
  

 

 

   

 

 

 

Net increase in cash and cash equivalents

     78,088        110,004   

Cash and cash equivalents, beginning of period

     222,063        132,586   
  

 

 

   

 

 

 

Cash and cash equivalents, end of period

   $ 300,151      $ 242,590   
  

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements

 

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CU BANCORP

CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)

(Unaudited)

(Dollars in thousands)

 

     Three Months Ended
March 31,
 
     2016      2015  

Supplemental disclosures of cash flow information:

     

Cash paid during the period for interest

   $ 782       $ 599   

Net cash paid during the year for taxes

   $ 1,710       $ 1,850   

Supplemental disclosures of non-cash investing activities:

     

Net change in unrealized gain on available-for-sale investment securities, net of tax

   $ 769       $ 511   

 

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CU BANCORP

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2016

(Unaudited)

Note 1 - Basis of Financial Statement Presentation

CU Bancorp (the “Company”) is a bank holding company whose operating subsidiary is California United Bank. As a bank holding company, CU Bancorp is subject to regulation of the Federal Reserve Board (“FRB”). The term “Company”, as used throughout this document, refers to the consolidated financial statements of CU Bancorp and California United Bank.

California United Bank (the “Bank”) is a full-service commercial business bank offering a broad range of banking products and services including: deposit services, lending and cash management to small and medium-sized businesses, to non-profit organizations, to business principals and entrepreneurs, to the professional community, including attorneys, certified public accountants, financial advisors, healthcare providers and investors. The Bank opened for business in 2005. Its current headquarters office is located in Los Angeles, California. As a state chartered non-member bank, the Bank is subject to regulation by the California Department of Business Oversight (“DBO”) and the Federal Deposit Insurance Corporation (“FDIC”). The deposits of the Bank are insured by the FDIC to the maximum amount allowed by law.

The consolidated financial statements include the accounts of the Company and the Bank. Significant intercompany items have been eliminated in consolidation. The accounting and reporting policies of the Company conform to U.S. generally accepted accounting principles (“GAAP”) and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”).

CU Bancorp is the common shareholder of Premier Commercial Statutory Trust I, Premier Commercial Statutory Trust II, and Premier Commercial Statutory Trust III, entities which were acquired in the merger with Premier Commercial Bancorp (“PC Bancorp”). These trusts were established for the sole purpose of issuing trust preferred securities and do not meet the criteria for consolidation. For more detail, see Note 8 – Borrowings and Subordinated Debentures.

Certain information and footnote disclosures presented in the annual consolidated financial statements are not included in the interim consolidated financial statements. Accordingly, the accompanying unaudited interim consolidated financial statements should be read in conjunction with the 2015 Annual Report on Form 10-K. In the opinion of management, the accompanying interim consolidated financial statements contain all necessary adjustments of a normal recurring nature, to present fairly the consolidated financial position of the Company and the results of its operations for the interim periods presented.

Use of Estimates in the Preparation of Consolidated Financial Statements

The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. In addition, these accounting principles require the disclosure of contingent assets and liabilities as of the date of the consolidated financial statements.

Estimates that are particularly susceptible to significant change relate to the determination of the allowance for loan loss and various assets and liabilities measured at fair value. While management uses the most current available information to recognize losses on loans, future additions to the allowance for loan loss may be necessary based on, among other factors, changes in local economic conditions. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Company’s allowance for loan loss. Regulatory agencies may require the Company to recognize changes to the allowance for loan loss based on their judgment about information available to them at the time of their examination.

 

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Business Segments

The Company is organized and operates as a single reporting segment, principally engaged in commercial business banking. The Company conducts its lending and deposit operations through nine full service branch offices located in Los Angeles, Orange, Ventura and San Bernardino counties.

Note 2 - Recent Accounting Pronouncements

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606), which replaced existing revenue recognition guidance for contracts to provide goods or services to customers and amended existing guidance related to recognition of gains and losses on the sale of certain nonfinancial assets such as real estate. ASU 2014-09 established a principles-based approach to recognizing revenue that applies to all contracts other than those covered by other authoritative GAAP guidance. Quantitative and qualitative disclosures regarding the nature, amount, timing and uncertainty of revenue and cash flows were also required. ASU 2014-09 was to be effective for interim and annual periods beginning after December 15, 2016 and was to be applied on either a modified retrospective or full retrospective basis. In response to stakeholders’ requests and to defer the effective date required by ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), in August 2015, the FASB issued ASU 2015-14 which defers the original effective date for all entities by one year. Public business entities, certain not-for-profit entities, and certain employee benefit plans should apply the guidance in ASU 2015-14 to annual reporting periods beginning after December 15, 2017, including interim reporting periods within that reporting period. Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. The Company is currently evaluating the impact of this ASU on its consolidated financial statements.

In January 2016, the FASB issued ASU 2016-01, Financial Instruments—Overall: Recognition and Measurement of Financial Assets and Financial Liabilities (ASU 2016-01). Changes to the current GAAP model primarily affect the accounting for equity investments, financial liabilities under the fair value option, and the presentation and disclosure requirements for financial instruments. In addition, the FASB clarified guidance related to the valuation allowance assessment when recognizing deferred tax assets resulting from unrealized losses on available-for-sale debt securities. The accounting for other financial instruments, such as loans, investments in debt securities, and financial liabilities is largely unchanged. The classification and measurement guidance will be effective for public business entities in fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. All entities can early adopt the provision to record fair value changes for financial liabilities under the fair value option resulting from instrument-specific credit risk in other comprehensive income. Early adoption of these provisions can be elected for all financial statements of fiscal years and interim periods that have not yet been issued (for public business entities) or that have not yet been made available for issuance. The classification and measurement guidance is the first ASU issued under the FASB’s financial instruments project. The Company is currently evaluating the impact of this ASU on its consolidated financial statements.

In February 2016, the FASB issued ASU 2016-02, Leases. While both lessees and lessors are affected by the new guidance, the effects on the lessees are much more significant. The most significant change for lessees is the requirement under the new guidance to recognize right-of-use assets and lease liabilities for all leases not considered short-term leases. By definition, a short-term lease is one in which: (a) the lease term is 12 months or less and (b) there is not an option to purchase the underlying asset that the lessee is reasonably certain to exercise. For short-term leases, lessees may elect an accounting policy by class of underlying asset under which right-of-use assets and lease liabilities are not recognized and lease payments are generally recognized as expense over the lease term on a straight-line basis. This change will result in lessees recognizing right-of-use assets and lease liabilities for most leases currently accounted for as operating leases under the legacy lease accounting guidance. For many entities, this could significantly affect the financial ratios they use for external reporting and other purposes, such as debt covenant compliance. Examples of changes in the new guidance affecting both lessees and lessors include: (a) defining initial direct costs to only include those incremental costs that would not have been incurred if the lease had not been entered into, (b) requiring related party leases to be accounted for based on their legally enforceable terms and conditions, (c) eliminating the additional requirements that must be applied today to leases involving real estate and (d) revising the circumstances under which the transfer contract in a sale-leaseback transaction should be accounted for as the sale of an asset by the seller-lessee and the purchase of an asset by the buyer-lessor. In addition, both lessees and lessors are subject to new disclosure requirements. ASU 2016-02 is effective for public entities for interim and annual periods beginning after December 15, 2018. The Company is currently evaluating the impact of this ASU on its consolidated financial statements.

 

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In March 2016, the FASB issued ASU 2016-09, Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting, to reduce the complexity of certain aspects of the accounting for employee share-based payment transactions. As a result of this ASU, changes applicable to all entities include: 1) minimum statutory withholding requirements; under the ASU, the threshold to qualify for equity classification would permit withholding up to the maximum individual statutory tax rate in the applicable jurisdictions. Also, the ASU provides that cash paid by an employer when directly withholding shares for tax-withholding purposes would be classified as a financing activity on the statement of cash flows; 2) accounting for forfeitures; the ASU would allow an entity to make an entity-wide accounting policy election to either estimate the number of awards that are expected to vest or account for forfeitures when they occur; 3) accounting for income taxes; under the ASU, all excess tax benefits and tax deficiencies would be recognized as income tax expense or benefit in the income statement. An entity also would recognize excess tax benefits regardless of whether the benefit reduces taxes payable in the current period. Further, excess tax benefits would not be separated from other income tax cash flows and thus would be classified along with other cash flows as an operating activity. ASU 2016-09 is effective for public entities for interim and annual periods beginning after December 15, 2016. The Company is currently evaluating the impact of this ASU on its consolidated financial statements.

 

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Note 3 - Computation of Book Value and Tangible Book Value per Common Share

Book value per common share was calculated by dividing total shareholders’ equity less preferred stock, by the number of common shares issued and outstanding. Tangible book value per common share was calculated by dividing tangible common equity, by the number of common shares issued and outstanding. The tables below present the computation of book value and tangible book value per common share as of the dates indicated (dollars in thousands, except share and per share data):

 

     March 31,
2016
     December 31,
2015
 

Total Shareholders’ Equity

   $ 315,988       $ 306,807   

Less: Preferred stock

     17,148         16,995   

Less: Goodwill

     64,603         64,603   

Less: Core deposit and leasehold right intangibles

     7,301         7,671   
  

 

 

    

 

 

 

Tangible common equity

   $ 226,936       $ 217,538   
  

 

 

    

 

 

 

Common shares issued and outstanding

     17,389,383         17,175,389   

Book value per common share

   $ 17.19       $ 16.87   
  

 

 

    

 

 

 

Tangible book value per common share

   $ 13.05       $ 12.67   
  

 

 

    

 

 

 

Note 4 - Computation of Earnings per Common Share

Basic and diluted earnings per common share were determined by dividing net income available to common shareholders by the applicable basic and diluted weighted average common shares outstanding. The following table shows weighted average basic common shares outstanding, potential dilutive shares related to stock options, unvested restricted stock, and weighted average diluted shares for the periods indicated (dollars in thousands, except share and per share data):

 

     Three Months Ended
March 31,
 
     2016      2015  

Net Income

   $ 6,287       $ 4,199   

Less: Preferred stock dividends and discount accretion

     303         272   
  

 

 

    

 

 

 

Net Income available to common shareholders

   $ 5,984       $ 3,927   
  

 

 

    

 

 

 

Weighted average basic common shares outstanding

     17,041,427         16,408,710   

Dilutive effect of potential common share issuances from stock options and restricted stock

     299,145         439,521   
  

 

 

    

 

 

 

Weighted average diluted common shares outstanding

     17,340,572         16,848,231   
  

 

 

    

 

 

 

Income per common share

     

Basic

   $ 0.35       $ 0.24   

Diluted

   $ 0.35       $ 0.23   
  

 

 

    

 

 

 

Anti-dilutive shares not included in the calculation of diluted earnings per share

     3,000         65,278   

 

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Note 5 - Investment Securities

The investment securities portfolio has been classified into two categories: available-for-sale (“AFS”) and held-to-maturity (“HTM”).

The following tables present the amortized cost, gross unrealized gains and losses, and fair values of investment securities by major category as of the dates indicated (dollars in thousands):

 

            Gross Unrealized         

March 31, 2016

   Amortized
Cost
     Gains      Losses      Fair Market
Value
 

Available-for-sale:

           

U.S. Govt Agency and Sponsored Agency - Note Securities

   $ 1,010       $ 1       $ —         $ 1,011   

U.S. Govt Agency - SBA Securities

     92,537         485         322         92,700   

U.S. Govt Agency - GNMA Mortgage-Backed Securities

     29,331         175         241         29,265   

U.S. Govt Sponsored Agency - CMO & Mortgage-Backed Securities

     102,518         556         402         102,672   

Corporate Securities

     511         2         —           513   

Municipal Securities

     1,002         1         —           1,003   

Asset Backed Securities

     7,691         —           305         7,386   

U.S. Treasury Notes

     80,981         19         51         80,949   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available-for-sale

     315,581         1,239         1,321         315,499   

Held-to-maturity:

           

Municipal Securities

     40,256         595         1         40,850   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held-to-maturity

     40,256         595         1         40,850   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total investment securities

   $ 355,837       $ 1,834       $ 1,322       $ 356,349   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

            Gross Unrealized         

December 31, 2015

   Amortized
Cost
     Gains      Losses      Fair Market
Value
 

Available-for-sale:

           

U.S. Govt Agency and Sponsored Agency - Note Securities

   $ 1,014       $ —         $ —         $ 1,014   

U.S. Govt Agency - SBA Securities

     93,674         399         583         93,490   

U.S. Govt Agency - GNMA Mortgage-Backed Securities

     30,916         202         418         30,700   

U.S. Govt Sponsored Agency - CMO & Mortgage-Backed Securities

     97,693         250         789         97,154   

Corporate Securities

     4,016         7         —           4,023   

Municipal Securities

     1,010         1         —           1,011   

Asset Backed Securities

     7,890         —           243         7,647   

U.S. Treasury Notes

     80,981         —           235         80,746   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total available-for-sale

     317,194         859         2,268         315,785   

Held-to-maturity:

           

Municipal Securities

     42,036         335         32         42,339   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total held-to-maturity

     42,036         335         32         42,339   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total investment securities

   $ 359,230       $ 1,194       $ 2,300       $ 358,124   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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The Company’s investment securities portfolio at March 31, 2016 consists of A-rated or above investment-grade securities. At March 31, 2016 and December 31, 2015, securities with a market value of $191 million and $197 million, respectively, were pledged as collateral for securities sold under agreements to repurchase, public deposits, outstanding standby letters of credit, bankruptcy deposits, and other purposes as required by various statutes and agreements. See Note 8 – Borrowings and Subordinated Debentures.

The following tables present the gross unrealized losses and fair values of AFS and HTM investment securities that were in unrealized loss positions, summarized and classified according to the duration of the loss period as of the dates indicated (dollars in thousands).

 

     < 12 Continuous
Months
     > 12 Continuous
Months
     Total  

March 31, 2016

   Fair
Value
     Net
Unrealized
Loss
     Fair
Value
     Net
Unrealized
Loss
     Fair
Value
     Net
Unrealized
Loss
 

Available-for-sale investment securities:

                 

U.S. Govt. Agency SBA Securities

   $ 40,397       $ 233       $ 7,879       $ 89       $ 48,276       $ 322   

U.S. Govt. Agency – GNMA Mortgage-Backed Securities

     8,051         42         13,850         198         21,901         240   

U.S. Govt. Sponsored Agency – CMO & Mortgage-Backed Securities

     30,557         204         13,360         198         43,917         402   

Asset Backed Securities

     2,718         60         4,667         246         7,385         306   

U.S Treasury Notes

     31,974         51         —           —           31,974         51   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total available-for-sale investment securities

   $ 113,697       $ 590       $ 39,756       $ 731       $ 153,453       $ 1,321   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Held-to-maturity investment securities:

                 

Municipal Securities

   $ 1,304       $ 1       $ —         $ —         $ 1,304       $ 1   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total held-to-maturity investment securities

   $ 1,304       $ 1       $ —         $ —         $ 1,304       $ 1   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
     < 12 Continuous
Months
     > 12 Continuous
Months
     Total  

December 31, 2015

   Fair
Value
     Net
Unrealized
Loss
     Fair
Value
     Net
Unrealized
Loss
     Fair
Value
     Net
Unrealized
Loss
 

Available-for-sale investment securities:

                 

U.S. Govt. Agency SBA Securities

   $ 53,852       $ 428       $ 7,935       $ 154       $ 61,787       $ 582   

U.S. Govt. Agency – GNMA Mortgage-Backed Securities

     5,417         47         14,296         371         19,713         418   

U.S. Govt. Sponsored Agency – CMO & Mortgage-Backed Securities

     67,475         564         10,024         225         77,499         789   

Asset Backed Securities

     2,928         54         4,719         190         7,647         244   

U.S Treasury Notes

     80,745         235         —           —           80,745         235   

Total available-for-sale investment securities

   $ 210,417       $ 1,328       $ 36,974       $ 940       $ 247,391       $ 2,268   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Held-to-maturity investment securities:

                 

Municipal Securities

   $ 5,669       $ 16       $ 2,392       $ 16       $ 8,061       $ 32   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total held-to-maturity investment securities

   $ 5,669       $ 16       $ 2,392       $ 16       $ 8,061       $ 32   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

The unrealized losses in each of the above categories are associated with the general fluctuation of market interest rates and are not an indication of any deterioration in the credit quality of the security issuers. Further, the Company does not intend to sell these securities and is not more-likely-than-not to be required to sell the securities before the recovery of its amortized cost basis. Accordingly, the Company had no securities that were classified as other-than-temporary impaired at March 31, 2016 or December 31, 2015, and did not recognize any impairment charges in the consolidated statements of income.

 

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The amortized cost, fair value and the weighted average yield of debt securities at March 31, 2016, are reflected in the table below (dollars in thousands). Maturity categories are determined as follows:

 

    U.S. Govt. Agency, U.S. Treasury Notes and U.S. Govt. Sponsored Agency bonds and notes – maturity date

 

    U.S. Govt. Sponsored Agency CMO or Mortgage-Backed Securities, U.S. Govt. Agency GNMA Mortgage-Backed Securities, Asset Backed Securities and U.S. Gov. Agency SBA Securities – estimated cash flow taking into account estimated pre-payment speeds

 

    Investment grade Corporate Bonds and Municipal Securities – the earlier of the maturity date or the expected call date

Although, U.S. Government Agency and U.S. Government Sponsored Agency Mortgage-Backed and CMO securities have contractual maturities through 2048, the expected maturity will differ from the contractual maturities because borrowers or issuers may have the right to prepay such obligations without penalties.

 

     March 31, 2016  

Maturities Schedule of Securities (Dollars in thousands)

   Amortized
Cost
     Fair Value      Weighted
Average
Yield
 

Available-for-sale:

        

Due through one year

   $ 69,974       $ 69,904         0.97

Due after one year through five years

     141,241         140,939         1.40

Due after five years through ten years

     68,914         68,953         2.07

Due after ten years

     35,452         35,703         2.64
  

 

 

    

 

 

    

 

 

 

Total available-for-sale

   $ 315,581       $ 315,499         1.58

Held-to-maturity:

        

Due through one year

   $ 1,746       $ 1,753         1.40

Due after one year through five years

     34,354         34,825         1.59

Due after five years through ten years

     4,156         4,272         1.91
  

 

 

    

 

 

    

 

 

 

Total held-to-maturity

   $ 40,256       $ 40,850         1.61
  

 

 

    

 

 

    

 

 

 

Total investment securities

   $ 355,837       $ 356,349         1.59
  

 

 

    

 

 

    

 

 

 

The weighted average yields in the above table are based on effective rates of book balances at the end of the period. Yields are derived by dividing interest income, adjusted for amortization of premiums and accretion of discounts, by total amortized cost.

Investment in Federal Home Loan Bank Borrowings (FHLB) Common Stock

The Company’s investment in the common stock of the FHLB of San Francisco is carried at cost and was $8.0 million at March 31, 2016 and December 31, 2015. The investment in FHLB stock is periodically evaluated for impairment. Based on the capital adequacy of the FHLB and its overall financial condition, no impairment losses have been recorded.

See Note 8 - Borrowings and Subordinated Debentures for a detailed discussion regarding the Company’s borrowings and the requirements to purchase FHLB common stock. See Note 5 - Investment Securities in the Company’s Form 10-K for the year ended December 31, 2015 for additional discussion on the Company’s evaluation and accounting for its investment in FHLB common stock.

 

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Note 6 - Loans

The following table presents the composition of the Company’s loan portfolio as of the dates indicated (dollars in thousands):

 

     March 31,
2016
     December 31,
2015
 

Commercial and Industrial Loans:

   $ 496,301       $ 537,368   

Loans Secured by Real Estate:

     

Owner-Occupied Nonresidential Properties

     423,370         407,979   

Other Nonresidential Properties

     562,871         533,168   

Construction, Land Development and Other Land

     156,731         125,832   

1-4 Family Residential Properties

     122,408         114,525   

Multifamily Residential Properties

     70,423         71,179   
  

 

 

    

 

 

 

Total Loans Secured by Real Estate

     1,335,803         1,252,683   
  

 

 

    

 

 

 

Other Loans:

     37,074         43,112   
  

 

 

    

 

 

 

Total Loans

   $ 1,869,178       $ 1,833,163   
  

 

 

    

 

 

 

Loan balances in the table above include net deferred fees and net discounts for a total of $19 million and $22 million as of March 31, 2016 and December 31, 2015 respectively.

The following table is a breakout of the Company’s loan portfolio stratified by the industry concentration of the borrower by their respective NAICS code as of the dates indicated (dollars in thousands):

 

     March 31,
2016
     December 31,
2015
 

Real Estate

   $ 905,848       $ 857,021   

Manufacturing

     162,129         174,773   

Construction

     180,255         161,618   

Wholesale

     118,845         134,093   

Hotel/Lodging

     108,816         105,741   

Finance

     80,947         87,734   

Professional Services

     59,724         60,952   

Healthcare

     48,256         47,293   

Other Services

     52,695         45,002   

Retail

     37,388         38,928   

Restaurant/Food Service

     25,017         26,226   

Administrative Management

     20,997         23,736   

Transportation

     22,219         22,237   

Information

     20,970         20,171   

Education

     8,955         9,244   

Management

     7,304         8,137   

Entertainment

     4,382         6,188   

Other

     4,431         4,069   
  

 

 

    

 

 

 

Total

   $ 1,869,178       $ 1,833,163   
  

 

 

    

 

 

 

Small Business Administration Loans

Included in the loan portfolio is $36 million in loans that were originated under the guidelines of the Small Business Administration (“SBA”) program of which $9 million is guaranteed. The total portfolio of the SBA contractual loan balances being serviced by the Company at March 31, 2016 was $117 million, of which $81 million has been sold.

At March 31, 2016, there were no loans classified as held for sale. At March 31, 2016, the balance of SBA 7a loans originated during the quarter is $3.2 million, of which $2.4 million is guaranteed by the SBA. The Company does not currently plan on selling these loans, but it may choose to do so in the future.

 

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Allowance for Loan Loss

The following table is a summary of the activity for the allowance for loan loss for the periods indicated (dollars in thousands):

 

     Three Months Ended
March 30,
 
     2016     2015  

Allowance for loan loss at beginning of the period

   $ 15,682      $ 12,610   

Provision for loan losses

     622        1,443   

Net (charge-offs) recoveries:

    

Charge-offs

     —          (890

Recoveries

     241        84   
  

 

 

   

 

 

 

Net (charge-offs) recoveries

     241        (806
  

 

 

   

 

 

 

Allowance for loan loss at end of period

   $ 16,545      $ 13,247   
  

 

 

   

 

 

 

Net (charge-offs) recoveries to average loans

     0.01     (0.05 )% 

Allowance for loan loss to total loans

     0.89     0.80

Allowance for loan loss to total loans accounted for at historical cost, which excludes loans acquired by acquisition

     1.23     1.36

The following tables present, by portfolio segment, the changes in the allowance for loan loss and the recorded investment in loans as of the dates and for the periods indicated (dollars in thousands):

 

     Commercial
and
Industrial
    Construction,
Land
Development
and
Other Land
     Commercial
and
Other
Real Estate
    Other     Total  

Three Months Ended

March 31, 2016

           

Allowance for loan loss – Beginning balance

   $ 5,924      $ 2,076       $ 6,821      $ 861      $ 15,682   

Provision for loan losses

     561        635         (448     (126     622   

Net (charge-offs) recoveries:

           

Charge-offs

     —          —           —          —          —     

Recoveries

     240        —           1        —          241   
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

Net (charge-offs) recoveries

     240        —           1        —          241   
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

Ending balance

   $ 6,725      $ 2,711       $ 6,374      $ 735      $ 16,545   
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

Three Months Ended

March 31, 2015

       

Allowance for loan loss – Beginning balance

   $ 5,864      $ 1,684       $ 4,802      $ 260      $ 12,610   

Provision for loan losses

     681        79         635        48        1,443   

Net (charge-offs) recoveries:

           

Charge-offs

     (890     —           —          —          (890

Recoveries

     82        —           2        —          84   
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

Net (charge-offs) recoveries

     (808     —           2        —          (806
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

Ending balance

   $ 5,737      $ 1,763       $ 5,439      $ 308      $ 13,247   
  

 

 

   

 

 

    

 

 

   

 

 

   

 

 

 

 

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The following tables present both the allowance for loan loss and the associated loan balance classified by loan portfolio segment and by credit evaluation methodology (dollars in thousands):

 

     Commercial
and

Industrial
     Construction,
Land
Development
and

Other Land
     Commercial
and

Other
Real Estate
     Other      Total  

March 31, 2016

           

Allowance for loan loss:

           

Individually evaluated for impairment

   $ —         $ —         $ —         $ —         $ —     

Collectively evaluated for impairment

     6,725         2,711         6,374         735         16,545   

Purchased credit impaired

(loans acquired with deteriorated credit quality)

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Allowance for Loan Loss

   $ 6,725       $ 2,711       $ 6,374       $ 735       $ 16,545   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans receivable:

           

Individually evaluated for impairment

   $ 256       $ —         $ 871       $ —         $ 1,127   

Collectively evaluated for impairment

     495,710         156,731         1,176,669         37,074         1,866,184   

Purchased credit impaired

(loans acquired with deteriorated credit quality)

     335         —           1,532         —           1,867   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Loans Receivable

   $ 496,301       $ 156,731       $ 1,179,072       $ 37,074       $ 1,869,178   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

     Commercial
and

Industrial
     Construction,
Land
Development
and

Other Land
     Commercial
and

Other
Real Estate
     Other      Total  

December 31, 2015

           

Allowance for loan loss:

           

Individually evaluated for impairment

   $ —         $ —         $ —         $ —         $ —     

Collectively evaluated for impairment

     5,924         2,076         6,821         861         15,682   

Purchased credit impaired

(loans acquired with deteriorated credit quality)

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Allowance for Loan Loss

   $ 5,924       $ 2,076       $ 6,821       $ 861       $ 15,682   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loans receivable:

           

Individually evaluated for impairment

   $ 558       $ —         $ 649       $ —         $ 1,207   

Collectively evaluated for impairment

     536,333         125,832         1,124,667         43,112         1,829,944   

Purchased credit impaired

(loans acquired with deteriorated credit quality)

     477         —           1,535         —           2,012   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Loans Receivable

   $ 537,368       $ 125,832       $ 1,126,851       $ 43,112       $ 1,833,163   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

Page 18 of 68


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Credit Quality of Loans

The Company utilizes an internal loan classification system as a means of reporting problem and potential problem loans. Under the Company’s loan risk rating system, loans are classified as “Pass,” with problem and potential problem loans as “Special Mention,” “Substandard,” “Doubtful” and “Loss”. Individual loan risk ratings are updated continuously or at any time the situation warrants. In addition, management regularly reviews problem loans to determine whether any loan requires a classification change, in accordance with the Company’s policy and applicable regulations. The grading analysis estimates the capability of the borrower to repay the contractual obligations of the loan agreements as scheduled or at all. The internal loan classification risk grading system is based on experiences with similarly graded loans.

The Company’s internally assigned grades are as follows:

 

    Pass – loans which are protected by the current net worth and paying capacity of the obligor or by the value of the underlying collateral. There are several different levels of Pass rated credits, including “Watch” which is considered a transitory grade for pass rated loans that require greater monitoring. Loans not meeting the criteria of special mention, substandard, doubtful or loss that have been analyzed individually as part of the above described process are considered to be pass-rated loans.

 

    Special Mention – loans where a potential weakness or risk exists, which could cause a more serious problem if not corrected. Special Mention loans do not currently expose the Company to sufficient risk to warrant classification as a Substandard, Doubtful or Loss classification, but possess weaknesses that deserve management’s close attention.

 

    Substandard – loans that have a well-defined weakness based on objective evidence and can be characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected.

 

    Doubtful – loans classified as doubtful have all the weaknesses inherent in those classified as substandard with the added characteristic that the weaknesses present make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable.

 

    Loss – loans classified as a loss are considered uncollectible, or of such value that continuance as an asset is not warranted.

The following tables present the risk category of loans by class of loans based on the most recent internal loan classification as of the dates indicated (dollars in thousands):

 

     Commercial
and

Industrial
     Construction,
Land
Development
and

Other Land
     Commercial
and

Other
Real Estate
     Other      Total  

March 31, 2016

              

Pass

   $ 462,898       $ 156,731       $ 1,154,374       $ 34,116       $ 1,808,119   

Special Mention

     2,648         —           3,084         —           5,732   

Substandard

     30,755         —           21,614         2,958         55,327   

Doubtful

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 496,301       $ 156,731       $ 1,179,072       $ 37,074       $ 1,869,178   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

December 31, 2015

              

Pass

   $ 503,006       $ 125,832       $ 1,101,548       $ 40,132       $ 1,770,518   

Special Mention

     16,041         —           6,494         43         22,578   

Substandard

     18,321         —           18,809         2,937         40,067   

Doubtful

     —           —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 537,368       $ 125,832       $ 1,126,851       $ 43,112       $ 1,833,163   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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Aging Analysis of Past Due and Non-Accrual Loans

The following tables present an aging analysis of the recorded investment of past due loans and non-accrual loans as of the dates indicated (dollars in thousands):

 

     31-60
Days
Past Due
     61-90
Days
Past Due
     Greater
than

90 Days
Past Due
and
Accruing
     Total
Past Due
and
Accruing
     Total
Non
Accrual
     Current      Total
Loans
 

March 31, 2016

                    

Commercial and Industrial

   $ 9       $ —         $ —         $ 9       $ 589       $ 495,703       $ 496,301   

Construction, Land Development and Other Land

     —           —           —           —           —           156,731         156,731   

Commercial and Other Real Estate

     800         —           —           800         1,226         1,177,046         1,179,072   

Other

     —           —           —           —           —           37,074         37,074   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 809       $  —         $  —         $ 809       $ 1,815       $ 1,866,554       $ 1,869,178   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

     31-60
Days
Past Due
     61-90
Days
Past Due
     Greater
than

90 Days
Past Due
and
Accruing
     Total
Past Due
and
Accruing
     Total
Non
Accrual
     Current      Total
Loans
 

December 31, 2015

                    

Commercial and Industrial

   $  —         $  —         $  —         $  —         $ 1,032       $ 536,336       $ 537,368   

Construction, Land Development and Other Land

     —           —           —           —           —           125,832         125,832   

Commercial and Other Real Estate

     —           —           —           —           1,019         1,125,832         1,126,851   

Other

     —           —           —           —           —           43,112         43,112   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ —         $ —         $ —         $ —         $ 2,051       $ 1,831,112       $ 1,833,163   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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Impaired Loans

Impaired loans are evaluated by comparing the fair value of the collateral, if the loan is collateral dependent, and the present value of the expected future cash flows discounted at the loan’s effective interest rate, if the loan is not collateral dependent.

A valuation allowance is established for an impaired loan when the realizable value of the loan is less than the recorded investment. In certain cases, portions of impaired loans are charged-off to realizable value instead of establishing a valuation allowance and are included, when applicable, in the table below as impaired loans “with no specific allowance recorded.” The valuation allowance disclosed below is included in the allowance for loan loss reported in the consolidated balance sheets as of March 31, 2016 and December 31, 2015.

The following tables present, by loan portfolio segment, the recorded investment and unpaid principal balances for impaired loans with the associated allowance amount, if applicable, for the dates and periods indicated (dollars in thousands). This table excludes purchased credit impaired loans (loans acquired in acquisitions with deteriorated credit quality) of $1.9 million and $2.0 million at March 31, 2016 and December 31, 2015, respectively.

 

     March 31, 2016      December 31, 2015  
     Recorded
Investment
     Unpaid
Principal
Balance
     Related
Allowance
     Recorded
Investment
     Unpaid
Principal
Balance
     Related
Allowance
 

With no specific allowance recorded:

                 

Commercial and Industrial

   $ 256       $ 652       $ —         $ 558       $ 1,027       $ —     

Commercial and Other Real Estate

     871         911         —           649         692         —     

With an allowance recorded:

                 

Commercial and Industrial

     —           —           —           —           —           —     

Total

                 

Commercial and Industrial

     256         652         —           558         1,027         —     

Commercial and Other Real Estate

     871         911         —           649         692         —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 1,127       $ 1,563       $  —         $ 1,207       $ 1,719       $  —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

     Three Months Ended
March 31,
 
     2016      2015  
     Average
Recorded
Investment
     Interest
Income
Recognized
     Average
Recorded
Investment
     Interest
Income
Recognized
 

With no specific allowance recorded:

           

Commercial and Industrial

   $ 256       $ —         $ 1,025       $ —     

Commercial and Other Real Estate

     666         —           728         —     

With a specific allowance recorded:

           

Commercial and Industrial

     —           —           1,374         —     

Total:

           

Commercial and Industrial

     256         —           2,399         —     

Commercial and Other Real Estate

     666         —           728         —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 922       $  —           3,127       $  —     
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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The following is a summary of additional information pertaining to impaired loans for the periods indicated (dollars in thousands):

 

     Three Months Ended
March 31,
 
     2016      2015  

Average recorded investment in impaired loans

   $ 922       $ 3,127   

Interest foregone on impaired loans

   $ 25       $ 69   

Cash collections applied to reduce principal balance

   $ 24       $ 144   

Interest income recognized on cash collections

   $  —         $ —     

Troubled Debt Restructuring

The Company’s loan portfolio contains certain loans that have been modified in a Troubled Debt Restructuring (“TDR”), where economic concessions have been granted to borrowers experiencing financial difficulties. Loans are restructured in an effort to maximize collections. Economic concessions can include: reductions to the stated interest rate, payment extensions, principal forgiveness or other actions.

The modification process includes evaluation of impairment based on the present value of expected future cash flows, discounted at the effective interest rate of the original loan agreement, except when the sole (remaining) source of repayment for the loan is the operation or liquidation of the loan collateral. In these cases, management uses the current fair value of the collateral, less selling costs, to evaluate the loan for impairment. If management determines that the value of the modified loan is less than the recorded investment in the loan (net of previous charge-offs and unamortized premium or discount) impairment is recognized through a specific allowance or a charge-off.

The following tables include the recorded investment and unpaid principal balances for troubled debt restructured loans at March 31, 2016 and December 31, 2015. These tables include TDR loans that were purchased credit impaired (“PCI”). TDR loans that are non-PCI loans are included in the Impaired Loans tables above. As of March 31, 2016, there were two PCI loans that are considered to be TDR loans with a recorded investment of $131 thousand and unpaid principal balances of $316 thousand.

 

     Recorded
Investment
     Unpaid
Principal
Balance
     Interest
Income
Recognized
 

(Dollars in thousands)

As of and for the three months ended March 31, 2016

        

Commercial and Industrial

   $ 393       $ 615       $  —     
  

 

 

    

 

 

    

 

 

 

Total

   $ 393       $ 615       $ —     
  

 

 

    

 

 

    

 

 

 

 

     Recorded
Investment
     Unpaid
Principal
Balance
     Interest
Income
Recognized
 
As of and for the twelve months ended December 31, 2015         

Commercial and Industrial

   $ 627       $ 1,363       $  —     
  

 

 

    

 

 

    

 

 

 

Total

   $ 627       $ 1,363       $ —     
  

 

 

    

 

 

    

 

 

 

 

     Recorded
Investment
     Unpaid
Principal
Balance
     Interest
Income
Recognized
 
As of and for the three months ended March 31, 2015         

Commercial and Industrial

   $ 500       $ 704       $  —     

Commercial and Other Real Estate

     110         112         —     
  

 

 

    

 

 

    

 

 

 

Total

   $ 610       $ 816       $ —     
  

 

 

    

 

 

    

 

 

 

 

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There were no loans modified or restructured during the three months ended March 31, 2016 or March 31, 2015.

There have been no payment defaults in the three months ended March 31, 2016 or March 31, 2015 subsequent to modification on troubled debt restructured loans that have been modified within the last twelve months.

Loans are restructured in an effort to maximize collections. Impairment analyses are performed on the Company’s troubled debt restructured loans in conjunction with the normal allowance for loan loss process. The Company’s troubled debt restructured loans are analyzed to ensure adequate cash flow or collateral supports the outstanding loan balance.

There were no commitments to lend additional funds to borrowers whose terms have been modified in troubled debt restructurings at March 31, 2016 and December 31, 2015.

Loans Acquired Through Acquisition

The following table reflects the accretable net discount for acquired loans for the periods indicated (dollars in thousands):

 

     Three Months Ended
March 31,
 
     2016      2015  

Balance, beginning of period

   $ 14,610       $ 21,402   

Accretion, included in interest income

     (1,133      (1,216

Reclassifications to non-accretable yield

     (7      (109
  

 

 

    

 

 

 

Balance, end of period

   $ 13,470       $ 20,077   
  

 

 

    

 

 

 

The above table reflects the fair value adjustment on the loans acquired from mergers that will be amortized to loan interest income based on the effective yield method over the remaining life of the loans. These amounts do not include the fair value adjustments on the purchased credit impaired loans acquired from mergers.

Purchased Credit Impaired Loans

PCI loans are acquired loans with evidence of deterioration of credit quality since origination and it is probable at the acquisition date, that the Company will not be able to collect all contractually required amounts.

When the timing and/or amounts of expected cash flows on such loans are not reasonably estimable, no interest is accreted and the loan is reported as a non-accrual loan; otherwise, if the timing and amounts of expected cash flows for PCI loans are reasonably estimable, then interest is accreted and the loans are reported as accruing loans.

The non-accretable difference represents the difference between the undiscounted contractual cash flows and the undiscounted expected cash flows, and also reflects the estimated credit losses in the acquired loan portfolio at the acquisition date and can fluctuate due to changes in expected cash flows during the life of the PCI loans.

The following table reflects the outstanding balance and related carrying value of PCI loans as of the dates indicated (dollars in thousands):

 

     March 31, 2016      December 31, 2015  
     Unpaid
Principal
Balance
     Carrying
Value
     Unpaid
Principal
Balance
     Carrying
Value
 

Commercial and Industrial

   $ 675       $ 335       $ 2,331       $ 477   

Commercial and Other Real Estate

     2,233         1,532         2,250         1,535   

Other

     —           —           61         —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 2,908       $ 1,867       $ 4,642       $ 2,012   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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The following table reflects the activities in the accretable net discount for PCI loans for the period indicated (dollars in thousands):

 

     Three Months Ended
March 31,
 
     2016      2015  

Balance, beginning of period

   $ 246       $ 324   

Accretion, included in interest income

     (20      (19

Reclassifications from non-accretable yield

     —           —     
  

 

 

    

 

 

 

Balance, end of period

   $ 226       $ 305   
  

 

 

    

 

 

 

Note 7 - Qualified Affordable Housing Project Investments

The Company’s investment in Qualified Affordable Housing Projects that generate Low Income Housing Tax Credits (“LIHTC”) was $3.6 million at March 31, 2016 and $3.7 million at December 31, 2015. The funding liability for the LIHTC at March 31, 2016 was $1.0 million compared to $1.1 million at December 31, 2015. The amount of tax credits and other tax benefits recognized was $573 thousand and $581 thousand for the three months ended March 31, 2016 and March 31, 2015, respectively. Further, the amount of amortization expense included in the provision for income taxes was $448 thousand and $457 thousand for the three months ended March 31, 2016 and March 31, 2015, respectively. These investments and related tax credits are described more fully in Note 11 – Qualified Affordable Housing Project Investments in the Company’s Form 10-K for the year ended December 31, 2015.

Note 8 - Borrowings and Subordinated Debentures

Securities Sold Under Agreements to Repurchase

The Company enters into certain transactions, the legal form of which are sales of securities under agreements to repurchase (“Repos”) at a later date at a set price. Securities sold under agreements to repurchase generally mature within 1 day to 180 days from the issue date and are routinely renewed.

As discussed in Note 5 – Investment Securities, the Company has pledged certain investments as collateral for these agreements. Securities with a fair value of $45 million and $47 million were pledged to secure the Repos at March 31, 2016 and December 31, 2015, respectively.

The tables below describe the terms and maturity of the Company’s securities sold under agreements to repurchase as of the dates indicated (dollars in thousands):

 

     March 31, 2016  

Date Issued

   Amount      Interest Rate     Original
Term
     Maturity Date  

March 31, 2016

   $ 21,967         0.125% – 0.25     1 day         April 01, 2016   
  

 

 

         

Total

   $ 21,967         0.21     
  

 

 

         

 

     December 31, 2015  

Date Issued

   Amount      Interest Rate     Original
Term
     Maturity Date  

December 31, 2015

   $ 14,360         0.08% – 0.25     4 days         January 4, 2016   
  

 

 

         

Total

   $ 14,360         0.19     
  

 

 

         

FHLB Borrowings

The Company maintains a secured credit facility with the FHLB, allowing the Company to borrow on an overnight and term basis. The Company’s credit facility with the FHLB is $659 million, which represents approximately 25% of the Bank’s total assets, as reported by the Bank in its December 31, 2015 Federal Financial Institution Examination Council (FFIEC) Call Report.

 

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As of March 31, 2016, the Company had $868 million of loan collateral pledged with the FHLB which provides $576 million in borrowing capacity. The Company has $19 million in investment securities pledged with the FHLB to support this credit facility. In addition, the Company must maintain an investment in the Capital Stock of the FHLB. Under the FHLB Act, the FHLB has a statutory lien on the FHLB capital stock that the Company owns and the FHLB capital stock serves as further collateral under the borrowing line.

The Company had no outstanding advances (borrowings) with the FHLB as of March 31, 2016 or December 31, 2015.

Subordinated Debentures

The following table summarizes the terms of each issuance of subordinated debentures outstanding as of March 31, 2016:

 

Series

   Amount
(in
thousands)
    Issuance
Date
     Maturity
Date
     Rate Index     Current
Rate
    Next
Reset
Date
 

Trust I

   $ 6,186        12/10/04         03/15/35         3 month LIBOR + 2.05     2.684     06/15/16   

Trust II

     3,093        12/23/05         03/15/36         3 month LIBOR + 1.75     2.384     06/15/16   

Trust III

     3,093        06/30/06         09/18/36         3 month LIBOR + 1.85     2.484     06/15/16   
  

 

 

             

Subtotal

     12,372               

Unamortized fair value adjustment

     (2,635            
  

 

 

             

Net

   $ 9,737               
  

 

 

             

The Company had an aggregate outstanding contractual balance of $12.4 million in subordinated debentures at March 31, 2016. These subordinated debentures were acquired as part of the PC Bancorp merger and were issued to trusts originally established by PC Bancorp, which in turn issued trust preferred securities. These subordinated debentures were issued in three separate series. Each issuance had a maturity of 30 years from their approximate date of issue. All three subordinated debentures are variable rate instruments that reprice quarterly based on the three month LIBOR plus a margin (see tables above). All three subordinated debentures had their interest rates reset in March 2016 at the current three month LIBOR plus their index, and will continue to reprice quarterly through their maturity date. All three subordinated debentures are currently callable at par with no prepayment penalties.

Under Dodd Frank, trust preferred securities are excluded from Tier 1 capital, unless such securities were issued prior to May 19, 2010 by a bank holding company with less than $15 billion in assets. CU Bancorp assumed approximately $12.4 million of junior subordinated debt securities issued to various business trust subsidiaries of Premier Commercial Bancorp and funded through the issuance of approximately $12.0 million of floating rate capital trust preferred securities. These junior subordinated debt securities were issued prior to May 19, 2010. Because CU Bancorp has less than $15 billion in assets, the trust preferred securities that CU Bancorp assumed from Premier Commercial Bancorp continue to be included in Tier 1 capital, subject to a limit of 25% of Tier 1 capital elements.

Interest payments made by the Company on subordinated debentures are considered dividend payments under FRB regulations. Notification to the FRB is required prior to the Company declaring and paying a dividend during any period in which the Company’s quarterly net earnings are insufficient to fund the dividend amount. This notification requirement is included in regulatory guidance regarding safety and soundness surrounding capital and includes other non-financial measures such as asset quality, financial condition, capital adequacy, liquidity, future earnings projections, capital planning and credit concentrations. Should the FRB object to the dividend payments, the Company would be precluded from paying interest on the subordinated debentures after giving notice within 15 days before the payment date. Payments would not commence until approval is received or the Company no longer needs to provide notice under applicable guidance. The Company has the right, assuming no default has occurred, to defer payments of interest on the subordinated debentures at any time for a period not to exceed 20 consecutive quarters. The Company has not deferred any interest payments.

 

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Note 9 - Derivative Financial Instruments

The Company is exposed to certain risks relating to its ongoing business operations and utilizes interest rate swap agreements (“swaps”) as part of its asset/liability management strategy to help manage its interest rate risk position. The Company has two counterparty banks.

Derivative Financial Instruments Acquired from 1st Enterprise Bank

At March 31, 2016, the Company has twelve interest rate swap agreements with customers and twelve offsetting interest-rate swaps with a counterparty bank that were acquired as a result of the merger with 1st Enterprise on November 30, 2014. The swap agreements are not designated as hedging instruments. The purpose of entering into offsetting derivatives not designated as a hedging instrument is to provide the Company a variable-rate loan receivable and provide the customer the financial effects of a fixed-rate loan without creating significant interest rate risk in the Company’s earnings.

The structure of the swaps is as follows: The Company enters into a swap with its customers to allow them to convert variable rate loans to fixed rate loans, and at the same time, the Company enters into a swap with the counterparty bank to allow the Company to pass on the interest-rate risk associated with fixed rate loans. The net effect of the transaction allows the Company to receive interest on the loan from the customer at a variable rate based on LIBOR plus a spread. The changes in the fair value of the swaps primarily offset each other and therefore should not have a significant impact on the Company’s results of operations. Our interest rate swap derivatives acquired from 1st Enterprise are subject to a master netting arrangement with one counterparty bank. None of our derivative assets and liabilities are offset in the balance sheet.

The Company believes the risk of loss associated with counterparty borrowers relating to interest rate swaps is mitigated as the loans with swaps are underwritten to take into account potential additional exposure, although there can be no assurances in this regard since the performance of the swaps is subject to market and counterparty risk. At March 31, 2016 and December 31, 2015, the total notional amount of the Company’s swaps with the counterparty bank was $27 million and $28 million, respectively.

The following tables present the fair values of the asset and liability of the Company’s derivative instruments acquired from 1st Enterprise as of the dates and periods indicated (dollars in thousands):

 

     March 31,
2016
     December 31,
2015
 

Interest rate swap contracts fair value

   $ 1,503       $ 881   
  

 

 

    

 

 

 

Balance sheet location

    
 
 
Accrued Interest
Receivable and Other
Assets
 
 
  
    
 
 
Accrued Interest
Receivable and Other
Assets
 
 
  

 

     March 31,
2016
     December 31,
2015
 

Interest rate swap contracts fair value

   $ 1,503       $ 881   
  

 

 

    

 

 

 

Balance sheet location

    
 
 
Accrued Interest
Payable and Other
Liabilities
  
  
  
    
 
 
Accrued Interest
Payable and Other
Liabilities
  
  
  

 

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Derivative Financial Instruments Acquired from PC Bancorp

At March 31, 2016, the Company also has nineteen pay-fixed, receive-variable, interest rate swaps that are designed to convert fixed rate loans into variable rate loans. The Company acquired these interest rate swap contracts on July 31, 2012 as a result of the merger with PC Bancorp.

All of the interest rate swap contracts acquired from PC Bancorp are with the same counterparty bank. The outstanding swaps have original maturities of up to 15 years.

The following table presents the notional amount and the fair values of the asset and liability of the Company’s derivative instruments acquired from PC Bancorp as of the dates indicated (dollars in thousands):

 

     Fair Value Hedges  
     March 31,
2016
     December 31,
2015
 

Total interest rate contracts notional amount

   $ 25,644       $ 25,938   
  

 

 

    

 

 

 

Derivatives not designated as hedging instruments:

     

Interest rate swap contracts fair value

   $ 274       $ 313   

Derivatives designated as hedging instruments:

     

Interest rate swap contracts fair value

     1,328         1,351   
  

 

 

    

 

 

 

Total interest rate contracts fair value

   $ 1,602       $ 1,664   
  

 

 

    

 

 

 

Balance sheet location

    
 
Accrued Interest Payable
and Other Liabilities
  
  
    
 
Accrued Interest Payable
and Other Liabilities
  
  

The Effect of Derivative Instruments on the Consolidated Statements of Income

The following table summarizes the effect of derivative financial instruments on the consolidated statements of income for the periods indicated (dollars in thousands):

 

     Three Months Ended
March 31,
 
     2016      2015  

Derivatives not designated as hedging instruments:

     

Interest rate swap contracts – loans

     

Increase in fair value of interest rate swap contracts

   $ 39       $ 27   

Payments on interest rate swap contracts on loans

     (61      (66
  

 

 

    

 

 

 

Net decrease in other non-interest income

     (22      (39
  

 

 

    

 

 

 

Derivatives designated as hedging instruments:

     

Interest rate swap contracts – loans

     

Increase in fair value of interest rate swap contracts

   $ 23       $ 85   

Increase in fair value of hedged loans

     212         161   

Payments on interest rate swap contracts on loans

     (230      (286
  

 

 

    

 

 

 

Net decrease in interest income on loans

   $ 5       $ (40
  

 

 

    

 

 

 

Under all of the Company’s interest rate swap contracts, the Company is required to pledge and maintain collateral for the credit support under these agreements. At March 31, 2016, the Company has pledged $1.9 million in investment securities, $2.7 million in certificates of deposit, for a total of $4.6 million, as collateral under the swap agreements.

 

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Note 10 – Balance Sheet Offsetting

Assets and liabilities relating to certain financial instruments, including derivatives, and securities sold under repurchase agreements (“Repos”), may be eligible for offset in the consolidated balance sheets as permitted under accounting guidance. The Company’s interest rate swap derivatives are subject to a master bilateral netting and offsetting arrangement under specific conditions as defined within a master agreement governing all interest rate swap contracts that the Company and the counterparty banks have entered into. In addition, the master agreement under which the interest rate contracts have been written require the pledging of assets by the Company based on certain risk thresholds. The Company has pledged a certificate of deposit and investment securities as collateral under the swap agreements. The pledged collateral under the swap agreements are reported in the Company’s consolidated balance sheets, unless the Company defaults under the master agreement. The Company currently does not net or offset the interest rate swap contracts in its consolidated balance sheets, as reflected within the table below.

The Company’s securities sold under repurchase agreements represent transactions the Company has entered into with several deposit customers. These transactions represent the sale of securities on an overnight or on a term basis to our deposit customers under an agreement to repurchase the securities from the customers the next business day or at maturity. There is an individual contract for each customer with only one transaction per customer. There is no master agreement that provides for the netting arrangement or the offsetting of these individual transactions or for the netting of collateral positions. The Company does not net or offset the Repos in its consolidated balance sheets as reflected within the table below.

The table below presents the Company’s financial instruments that may be eligible for offsetting which include securities sold under agreements to repurchase that have no enforceable master netting arrangement and derivative securities that could be offset in the consolidated financial statements due to an enforceable master netting arrangement (dollars in thousands):

 

     Gross
Amounts
Recognized
in the
Consolidated
Balance
Sheets
     Gross
Amounts
Offset in the
Consolidated
Balance
Sheets
     Net Amounts
of Assets /
Liabilities
Presented

in the
Consolidated
Balance
Sheets
     Gross Amounts
Not Offset in the
Consolidated Balance Sheets
     Net Amount
(Collateral
over liability
balance
required to
be pledged)
 
            Financial
Instruments
     Collateral
Pledged
    

March 31, 2016

                 

Financial Assets:

                 

Interest rate swap contracts fair value (See Note 9 – Derivative Financial Instruments)

   $ 1,503       $ —         $ 1,503       $ 1,503       $ —         $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 1,503       $ —         $ 1,503       $ 1,503       $ —         $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Financial Liabilities:

                 

Interest rate swap contracts fair value (See Note 9 – Derivative Financial Instruments)

   $ 3,105       $ —         $ 3,105       $ 3,105       $ 4,640       $ 1,535   

Securities sold under agreements to repurchase (See Note 8 – Borrowings and Subordinated Debentures)

     21,967         —           21,967         21,967         44,971         23,004   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 25,072       $ —         $ 25,072       $ 25,072       $ 49,611       $ 24,539   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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     Gross
Amounts
Recognized
in the
Consolidated
Balance
Sheets
     Gross
Amounts
Offset in the
Consolidated
Balance
Sheets
     Net
Amounts of
Assets /
Liabilities
Presented

in the
Consolidated
Balance
Sheets
     Gross Amounts
Not Offset in the
Consolidated Balance Sheets
     Net Amount
(Collateral
over liability
balance
required to
be pledged)
 
            Financial
Instruments
     Collateral
Pledged
    

December 31, 2015

                 

Financial Assets:

                 

Interest rate swap contracts fair value (See Note 9 – Derivative Financial Instruments)

   $ 881       $ —         $ 881       $ 881       $ —         $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 881       $ —         $ 881       $ 881       $ —         $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Financial Liabilities:

                 

Interest rate swap contracts fair value (See Note 9 – Derivative Financial Instruments)

   $ 2,545       $ —         $ 2,545       $ 2,545       $ 4,759       $ 2,214   

Securities sold under agreements to repurchase (See Note 8 – Borrowings and Subordinated Debentures)

     14,360         —           14,360         14,360         46,596         32,236   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 16,905       $ —         $ 16,905       $ 16,905       $ 51,355       $ 34,450   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Note 11 - Stock Options and Restricted Stock

Equity Compensation Plans

The Company’s 2007 Equity and Incentive Plan (“Equity Plan”) was adopted by the Company in 2007 and replaced two prior equity compensation plans. The Equity Plan provides for significant flexibility in determining the types and terms of awards that may be made to participants. The Equity Plan was revised and approved by the Company’s shareholders in 2011 and adopted by the Company as part of the Bank holding company reorganization. This plan is designed to promote the interest of the Company in aiding the Company to attract and retain employees, officers and non-employee directors who are expected to contribute to the future success of the organization. The Equity Plan is intended to provide participants with incentives to maximize their efforts on behalf of the Company through stock-based awards that provide an opportunity for stock ownership. This plan provides the Company with a flexible equity incentive compensation program, which allows the Company to grant stock options, restricted stock, restricted stock award units and performance units. Certain options and share awards provide for accelerated vesting, if there is a change in control, as defined in the Equity Plan. These plans are described more fully in Note 16 - Stock Options and Restricted Stock in the Company’s Form 10-K for the year ended December 31, 2015.

At March 31, 2016, future compensation expense related to unvested restricted stock grants are reflected in the table below (dollars in thousands):

 

Future Restricted Stock Expense

      

Remainder of 2016

   $ 2,048   

2017

     1,034   

2018

     296   

2019

     36   

Thereafter

     —     
  

 

 

 

Total

   $ 3,414   
  

 

 

 

At March 31, 2016, the weighted-average period over which the total compensation cost related to unvested restricted stock grants not yet recognized is 1.4 years. There was no future compensation expense related to unvested stock options as of March 31, 2016. All stock options outstanding at March 31, 2016 are vested.

 

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Stock Options

There were no stock options granted by the Company since 2010.

The following table summarizes the share option activity under the plans as of the date and for the period indicated:

 

     Shares      Weighted
Average
Exercise
Price
     Weighted
Average
Remaining
Contractual
Term

(in years)
     Aggregate
Intrinsic
Value

(in thousands)
 

Outstanding stock options at December 31, 2015

     557,471       $ 10.57         0.8       $ 8,248   

Granted

     —              

Exercised

     (189,489         

Forfeited

     —              

Expired

     —              
  

 

 

          

Outstanding stock options at March 31, 2016

     367,982       $ 12.10         0.7       $ 3,357   
  

 

 

          

Exercisable options at March 31, 2016

     367,982       $ 12.10         0.7       $ 3,357   

Unvested options at March 31, 2016

     —         $ —           —         $ —     

The total intrinsic value of options exercised during the three months ended March 31, 2016 and 2015 was $2.9 million and $643 thousand, respectively.

Restricted Stock

The weighted-average grant-date fair value per share in the table below is calculated by taking the total aggregate cost of the restricted shares issued divided by the number of shares of restricted stock issued. The aggregate cost of the restricted stock was calculated by multiplying the number of shares granted at each of the grant dates by the closing stock price of the Company’s common stock on the date of the grant. The following table summarizes the restricted stock activity under the Equity Plan for the period indicated:

 

     Number of Shares      Weighted-Average
Grant-Date Fair Value
per Share
 

Restricted Stock:

     

Unvested at December 31, 2015

     311,458       $ 19.29   

Granted

     41,809         22.65   

Vested

     (36,325      18.95   

Cancelled and forfeited

     (4,000      —     
  

 

 

    

Unvested at March 31, 2016

     312,942       $ 20.02   
  

 

 

    

Restricted stock compensation expense related to the restricted stock grants reflected in the table above was $776 thousand and $512 thousand for the three months ended March 31, 2016 and 2015, respectively. Restricted stock awards reflected in the table above are valued at the closing stock price on the date of grant and are expensed to stock based compensation expense over the period for which the related service is performed. In 2015, the Company granted 40,000 shares of Restricted Stock Unit (“RSU”) under the Equity Plan to one of its executive officers. Such grant is reflected in the table above. The shares of common stock underlying the 40,000 shares of RSU will not be issued until the RSUs vest and are not included in the Company’s shares issued and outstanding as of March 31, 2016. The RSUs are valued at the closing stock price on the date of grant and are expensed to stock based compensation expense over the period for which the related service is performed.

 

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Note 12 – Shareholders’ Equity

Common Stock

Holders of shares of the Company’s common stock are entitled to one vote for each share held of record on all matters voted upon by shareholders. Furthermore, the holders of the Company’s common stock have no preemptive rights to subscribe for new issue securities, and shares of the Company’s common stock are not subject to redemption, conversion, or sinking fund provisions.

With respect to the payment of dividends, after the preferential dividends upon all other classes and series of stock entitled thereto have been paid or declared and set apart for payment, then the holders of the Company’s common stock are entitled to such dividends as may be declared by the Company’s board of directors out of funds legally available under the laws of the State of California.

Upon the Company’s liquidation or dissolution, the assets legally available for distribution to holders of the Company’s shares of common stock, after payment of all the Company’s obligations and payment of any liquidation preference of all other classes and series of stock entitled thereto, including the Company’s preferred stock, are distributable ratably among the holders of the Company’s common stock.

During 2016, the Company issued 189,489 shares of stock from the exercise of employee stock options for a total value of $1.4 million. The Company also issued 41,809 shares of restricted stock to the Company’s directors and employees, cancelled 4,000 shares of unvested restricted stock related to employee turnover and cancelled 13,304 shares of restricted stock that had a value of $294 thousand when employees elected to pay their tax obligation via the repurchase of the stock by the Company. The net issuance of restricted stock for 2016 was 37,809 shares. The Equity Plan, as amended, allows employees to make an election to have a portion of their restricted stock that became vested during the year repurchased by the Company to provide funds to pay the employee’s tax obligation related to the vesting of the stock.

Preferred Stock

The Company completed the merger with 1st Enterprise on November 30, 2014. As part of the Merger Agreement, 16,400 shares of preferred stock issued by 1st Enterprise as part of the Small Business Lending Fund (SBLF) program of the United States Department of the Treasury was converted into 16,400 CU Bancorp preferred shares with substantially identical terms. CU Bancorp Preferred Stock has a liquidation preference amount of $1 thousand per share, designated as the Company’s Non-Cumulative Perpetual Preferred Stock, Series A. The U.S. Department of the Treasury is the sole holder of all outstanding shares of CU Bancorp Preferred Stock. The CU Bancorp Preferred Stock had an estimated life of four years and the fair value was $16 million at the merger date, resulting in a net discount of $479 thousand. The life-to-date and the year-to-date accretion on the net discount as of March 31, 2016 is $1.3 million and $153 thousand, respectively. The net carrying value of the CU Bancorp Preferred Stock is $17.1 million ($16.4 million plus of $0.7 million net premium) as of March 31, 2016.

Dividends on the Company’s Series A Preferred Stock are payable quarterly in arrears if authorized and declared by the Company’s board of directors out of legally available funds, on a non-cumulative basis, on the $1 thousand per share liquidation preference amount. Dividends are payable on January 1, April 1, July 1 and October 1 of each year. The current coupon dividend rate was adjusted to 9% on March 1, 2016 through perpetuity. However, the dividend yield through November 30, 2018 approximates 7% as a result of business combination accounting. Dividends on the Series A Preferred Stock are non-cumulative. There is no sinking fund with respect to dividends on the Series A Preferred Stock. So long as the Company’s Series A Preferred Stock remains outstanding, the Company may declare and pay dividends on the common stock only if full dividends on all outstanding shares of Series A Preferred Stock for the most recently completed dividend period have been or are contemporaneously declared and paid. In the event of any voluntary or involuntary liquidation, dissolution or winding up of the affairs of the Company, holders of the Series A Preferred Stock will be entitled to receive for each share of Series A Preferred Stock, out of the Company’s assets or proceeds available for distribution to the Company’s shareholders, subject to any rights of the Company’s creditors, before any distribution of assets or proceeds is made to or set aside for the holders of the common stock, payment of an amount equal to the sum of (i) the $1 thousand liquidation preference amount per share and (ii) the amount of any accrued and unpaid dividends on the Series A Preferred Stock. To the extent the assets or proceeds available for distribution to shareholders are not sufficient to fully pay the liquidation payments owing to the holders of the Series A Preferred Stock and the holders of any other class or series of the stock ranking equally with the Series A Preferred Stock, the holders of the Series A Preferred Stock and such the Company’s stock will share ratably in the distribution. Holders of the Series A Preferred Stock have no right to exchange or convert their shares into common stock or any other securities and do not have voting rights.

 

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Other Comprehensive Income (Loss)

The following table presents the changes in accumulated other comprehensive income (loss) by component for the periods indicated (dollars in thousands):

 

     Before Tax      Tax Effect      Net of Tax  

Three Months Ended – March 31, 2016

        

Net unrealized gains (losses) on investment securities:

        

Beginning balance

   $ (1,409    $ 593       $ (816

Net unrealized gains arising during the period

     1,328         (559      769   
  

 

 

    

 

 

    

 

 

 

Ending balance

   $ (81    $ 34       $ (47
  

 

 

    

 

 

    

 

 

 
     Before Tax      Tax Effect      Net of Tax  

Three Months Ended – March 31, 2015

        

Net unrealized gains (losses) on investment securities:

        

Beginning balance

   $ 333       $ (143    $ 190   

Net unrealized gains arising during the period

     882         (371      511   
  

 

 

    

 

 

    

 

 

 

Ending balance

   $ 1,215       $ (514    $ 701   
  

 

 

    

 

 

    

 

 

 

Note 13 - Commitments and Contingencies

Litigation

From time to time the Company is a party to claims and legal proceedings arising in the ordinary course of business. The Company accrues for any probable loss contingencies that are estimable and discloses any material losses. As of March 31, 2016, there were no legal proceedings against the Company the outcome of which are expected to have a material adverse impact on the Company’s financial position, results of operations or cash flows, as a whole.

Financial Instruments with Off Balance Sheet Risk

See Note 21 – Commitments and Contingencies in the Company’s Form 10-K for the year ended December 31, 2015. Financial instruments with off balance sheet risk include commitments to extend credit of $891 million and $806 million at March 31, 2016 and December 31, 2015, respectively. Included in the aforementioned commitments were standby letters of credit outstanding of $73 million at March 31, 2016 and December 31, 2015.

 

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Note 14 - Fair Value Information

Fair Value Measurement

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for an asset or liability in an orderly transaction between market participants at the measurement date. ASC Topic 825 requires disclosure of the fair value of financial assets and financial liabilities, including both those financial assets and financial liabilities that are not measured and reported at fair value on a recurring basis and a non-recurring basis. The methodologies for estimating the fair value of financial assets and financial liabilities that are measured at fair value, and for estimating the fair value of financial assets and financial liabilities not recorded at fair value, are discussed below.

In accordance with accounting guidance, the Company groups its financial assets and financial liabilities measured at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. These levels are as follows:

 

    Level 1 – Observable unadjusted quoted market prices in active markets for identical assets and liabilities that the reporting entity has the ability to access at the measurement date.

 

    Level 2 – Significant other observable market based inputs, other than Level 1 prices such as quoted prices for similar assets or liabilities or unobservable inputs that are corroborated by market data. This includes quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data, either directly or indirectly. This would include those financial instruments that are valued using models or other valuation methodologies where substantially all of the assumptions are observable in the marketplace, can be derived from observable market data or are supported by observable levels at which transactions are executed in the marketplace.

 

    Level 3 – Significant unobservable inputs that reflect a reporting entity’s evaluation about the assumptions that market participants would use in pricing an asset or liability. Assets measured utilizing level 3 are for positions that are not traded in active markets or are subject to transfer restrictions, and or where valuations are adjusted to reflect illiquidity and or non-transferability. These assumptions are not corroborated by market data. This is comprised of financial instruments whose fair value is estimated based on internally developed models or methodologies utilizing significant inputs that are generally less readily observable from objective sources. Management uses a combination of reviews of the underlying financial statements, appraisals and management’s judgment regarding credit quality to determine the value of the financial asset or liability.

A financial instrument’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. Management maximizes the use of observable inputs and attempts to minimize the use of unobservable inputs when determining fair value measurements. The following is a description of both the general and specific valuation methodologies used for certain instruments measured at fair value, as well as the general classification of these instruments pursuant to the valuation hierarchy.

Investment Securities Available-for-Sale and Held-to-Maturity: The fair value of securities available-for-sale and held-to-maturity may be determined by obtaining quoted prices in active markets, when available, from nationally recognized securities exchanges (Level 1 financial assets). If quoted market prices are not available, the fair value is determined by matrix pricing, which is a mathematical technique widely used in the securities industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities’ relationship to other benchmark quoted securities which are observable market inputs (Level 2 financial assets). Debt securities’ pricing is generally obtained from one of the matrix pricing models developed from one of the three national pricing agencies. In cases where significant credit valuation adjustments are incorporated into the estimation of fair value, reported amounts are classified as Level 3 financial assets.

Securities classified as available-for-sale are accounted for at their current fair value rather than amortized historical cost. Unrealized gains or losses are excluded from net income and reported as an amount net of taxes as a separate component of accumulated other comprehensive income included in shareholders’ equity. Securities classified as held-to-maturity are accounted for at their amortized historical cost.

 

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The Company considers the inputs utilized to fair value the available-for-sale and held-to-maturity investment securities to be observable market inputs and classified these financial assets within the Level 2 fair value hierarchy. Management bases the fair value for these investments primarily on third party price indications provided by independent pricing sources utilized by the Company’s bond accounting system to obtain market pricing on its individual securities. Vining Sparks, who provides the Company with its bond accounting system, utilizes pricing from three independent third party pricing sources for pricing of securities. These third party pricing sources utilize quoted market prices, or when quoted market prices are not available, the fair values are estimated using nationally recognized third-party vendor pricing models, of which the inputs are observable. However, the fair value reported may not be indicative of the amounts that could be realized in an actual market exchange.

The fair value of the Company’s U.S. Agency and available-for-sale and held-to-maturity investment securities are calculated using an option adjusted spread model from one of the nationally recognized third-party pricing models. Depending on the assumptions used and the treasury yield curve and other interest rate assumptions, the fair value could vary significantly in the near term.

Loans: The fair value for loans is estimated by discounting the expected future cash flows using current interest rates at which similar loans would be made to borrowers with similar credit ratings for the same remaining maturities. Loans are segregated by type such as commercial and industrial, commercial real estate, construction and other loans with similar credit characteristics and are further segmented into fixed and variable interest rate loan categories. Expected future cash flows are projected based on contractual cash flows, adjusted for estimated credit losses and estimated prepayments. The inputs utilized in determining the fair value of loans are unobservable and accordingly, these financial assets are classified within Level 3 of the fair value hierarchy.

Impaired Loans: The fair value of impaired loans is determined based on an evaluation at the time the loan is originally identified as impaired, and periodically thereafter, at the lower of cost or fair value. Fair value on impaired loans is measured based on the value of the collateral securing these loans, less costs to sell, if the loan is collateral dependent, or based on the cash flows for non-collateral dependent loans discounted at the loan’s original effective rate. Collateral dependent loans may be secured by either real estate and/or business assets including equipment, inventory and/or accounts receivable and is determined based on appraisals performed by qualified licensed appraisers hired by the Company. Appraised and reported values may be discounted based on management’s historical knowledge, changes in market conditions from the time of valuation, and/or management’s expertise and knowledge of the client and client’s business. Such discounts are typically significant and unobservable. For unsecured loans, the estimated future discounted cash flows of the business or borrower, are used in evaluating the fair value. Impaired loans are reviewed and evaluated on at least a quarterly basis for additional impairment and adjusted accordingly, based on the same factors identified above. The inputs utilized in determining the fair value of impaired loans are unobservable and accordingly, these financial assets are classified within Level 3 of the fair value hierarchy.

Interest Rate Swap Contracts: The fair value of the interest rate swap contracts are provided by independent third party vendors that specialize in interest rate risk management and fair value analysis using a model that utilizes current market data to estimate cash flows of the interest rate swaps utilizing the future London Interbank Offered Rate (“LIBOR”) yield curve for accruing and the future Overnight Index Swap Rate (“OIS”) yield curve for discounting through the maturity date of the interest rate swap contract. The future LIBOR yield curve is the primary input in the valuation of the interest rate swap contracts. Both the LIBOR and OIS yield curves are readily observable in the marketplace. Accordingly, the interest rate swap contracts are classified within Level 2 of the fair value hierarchy.

Other Real Estate Owned: The fair value of other real estate owned is generally based on real estate appraisals (unless more current market information is available) less estimated costs to sell. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are typically significant. The inputs utilized in determining the fair value of other real estate owned are unobservable and accordingly, these financial assets are classified within Level 3 of the fair value hierarchy.

SBA Servicing Asset: A servicing asset is recorded at fair value upon the sale of an SBA loan. The fair value of this asset is based on the estimated discounted future cash flows utilizing market based discount rates and estimated prepayment speeds. The discount rate was based on the current U.S. Treasury yield curve, plus a spread for marketplace risk associated with these assets. Prepayment speeds were selected based on the historical prepayments of similar SBA pools. The prepayment speeds determine the timing of the cash flows. The SBA servicing asset is amortized over the contractual life of the loans based on an effective yield approach.

 

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In addition, the Company’s servicing asset is evaluated regularly for impairment by discounting the estimated future cash flows using market-based discount rates and prepayment speeds. If the calculated present value of the servicing asset declines below the Company’s current carrying value, the servicing asset is written down to its present value. Based on the Company’s methodology in its valuation of the SBA servicing asset, the current carrying value is estimated to approximate the fair value. The inputs utilized in determining the fair value of SBA servicing asset are unobservable and accordingly, these financial assets are classified within Level 3 of the fair value hierarchy.

Non-Maturing Deposits: The fair values for non-maturing deposits (deposits with no contractual termination date), which include non-interest bearing demand deposits, interest bearing transaction accounts, money market deposits and savings accounts are equal to their carrying amounts, which represent the amounts payable on demand. Because the carrying value and fair value are by definition identical, and accordingly non-maturity deposits are classified within Level 1 of the fair value hierarchy, these balances are not listed in the following tables.

Maturing Deposits: The fair values of fixed maturity certificates of deposit (time deposits) are estimated using a discounted cash flow calculation that applies current market deposit interest rates to the Company’s current certificates of deposit interest rates for similar term certificates. The inputs utilized in determining the fair value of maturing deposits are observable and accordingly, these financial liabilities are classified within Level 2 of the fair value hierarchy.

Securities Sold under Agreements to Repurchase (“Repos”): The fair value of securities sold under agreements to repurchase is estimated based on the discounted value of future cash flows expected to be paid on the deposits. The carrying amounts of Repos with maturities of 90 days or less approximate their fair values. The fair value of Repos with maturities greater than 90 days is estimated based on the discounted value of the contractual future cash flows. The inputs utilized in determining the fair value of securities sold under agreements to repurchase are observable and accordingly, these financial liabilities are classified within Level 2 of the fair value hierarchy.

Subordinated Debentures: The fair value of the three variable rate subordinated debentures (“debentures”) is estimated using a discounted cash flow calculation that applies the three month LIBOR plus the margin index at March 31, 2016, to the cash flows from the debentures, based on the actual interest rate the debentures were accruing at March 31, 2016. Because all three of the debentures re-priced on March 16, 2016 based on the current three month LIBOR index rate plus the index margin at that date, and with relatively little to no change in the three month LIBOR index rate from the re-pricing date through March 31, 2016, the current face value of the debentures and their calculated fair value are approximately equal. The inputs utilized in determining the fair value of subordinated debentures are observable and accordingly, these financial liabilities are classified within Level 2 of the fair value hierarchy.

Fair Value of Commitments: Loan commitments that are priced on an index plus a margin to a market rate of interest are reported at the carrying value of the loan commitment. Loan commitments on which the committed fixed interest rate is less than the current market rate were insignificant at March 31, 2016 and December 31, 2015.

 

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Assets and Liabilities Measured at Fair Value on a Recurring Basis

The following table summarizes the financial assets and financial liabilities measured at fair value on a recurring basis as of the dates indicated, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value (dollars in thousands):

 

     Fair
Value
     Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Financial Assets – March 31, 2016

           

Investment securities available-for-sale

   $ 315,499       $ —         $ 315,499       $ —     

Interest Rate Swap Contracts

     1,503         —           1,503         —     

Financial Liabilities – March 31, 2016

           

Interest Rate Swap Contracts

   $ 3,105       $ —         $ 3,105       $ —     

Financial Assets – December 31, 2015

           

Investment securities available-for-sale

   $ 315,785       $ —         $ 315,785       $ —     

Interest Rate Swap Contracts

     881         —           881         —     

Financial Liabilities – December 31, 2015

           

Interest Rate Swap Contracts

   $ 2,545       $ —         $ 2,545       $ —     

At March 31, 2016 and at December 31, 2015 the Company had no financial assets or liabilities that were measured at fair value on a recurring basis that required the use of significant unobservable inputs (Level 3). Additionally, there were no transfers of assets either between Level 1 and Level 2 nor in or out of Level 3 of the fair value hierarchy for assets measured on a recurring basis for the period ended March 31, 2016.

 

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Assets Measured at Fair Value on a Non-recurring Basis

The Company may be required periodically, to measure certain financial assets and financial liabilities at fair value on a nonrecurring basis, that is, the instruments are not measured at fair value on an ongoing basis, but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment). These include assets that are measured at the lower of cost or fair value that were recognized at fair value below cost at the end of or during the period.

There were no transfers of assets either between Level 1 and Level 2 nor in or out of Level 3 of the fair value hierarchy for assets measured on a non-recurring basis for the three months ended March 31, 2016.

The following table presents the balances of assets and liabilities measured at fair value on a non-recurring basis by caption and by level within the fair value hierarchy as of the dates indicated (dollars in thousands):

 

     Net
Carrying
Value
     Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

Financial Assets – March 31, 2016

           

Collateral dependent impaired loans with specific valuation allowance and/or partial charge-offs (non-purchased credit impaired loans)

   $ —         $ —         $ —         $ —     

Other real estate owned

     —           —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ —         $ —         $ —         $ —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Financial Assets – December 31, 2015

           

Collateral dependent impaired loans with specific valuation allowance and/or partial charge-offs (non-purchased credit impaired loans)

   $ —         $ —         $ —         $ —     

Other real estate owned

     325         —           —           325   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 325       $ —         $ —         $ 325   
  

 

 

    

 

 

    

 

 

    

 

 

 

The following table presents the significant unobservable inputs used in the fair value measurements for Level 3 assets and liabilities measured at fair value on a recurring or non-recurring basis as of the dates indicated (dollars in thousands):

 

     Fair
Value
     Valuation
Methodology
   Valuation Model
and/or Factors
   Unobservable
Input Values

Financial Assets – March 31, 2016

           

Collateral dependent impaired loans with specific valuation allowance and/or partial charge-off

   $     —         —      —      —  

Other real estate owned

   $     —         —      —      —  
  

 

 

          

Total

   $     —              
  

 

 

          

Financial Assets – December 31, 2015

           

Collateral dependent impaired loans with specific valuation allowance and/or partial charge-off

   $ —         —      —      —  

Other real estate owned

   $ 325       Broker opinion of value    Sales approach

Estimated selling costs

   6%
  

 

 

          

Total

   $ 325            
  

 

 

          

 

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Fair Value of Financial Assets and Liabilities

ASC Topic 825 requires disclosure of the fair value of financial assets and financial liabilities, including those financial assets and financial liabilities that are not measured and reported at fair value on a recurring basis or on a non-recurring basis. The estimated fair value amounts have been determined by the Company using available market information and appropriate valuation methodologies. However, considerable judgment is required to develop the estimates of fair value. Accordingly, the estimates presented below are not necessarily indicative of the amounts the Company could have realized in a current market exchange as of March 31, 2016 and December 31, 2015. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. The description of the valuation methodologies used for assets and liabilities measured at fair value and for estimating fair value for financial instruments not recorded at fair value has been described above.

The table below presents the carrying amounts and fair values of financial instruments based on their fair value hierarchy indicated (dollars in thousands):

 

                   Fair Value Measurements  
     Carrying
Amount
     Fair Value      Quoted Prices
in Active
Markets for
Identical Assets
(Level 1)
     Significant
Other
Observable
Inputs
(Level 2)
     Significant
Unobservable
Inputs
(Level 3)
 

March 31, 2016

              

Financial Assets

              

Investment securities available-for-sale

   $ 315,499         315,499       $ —         $ 315,499       $ —     

Investment securities held-to-maturity

     40,256         40,850         —           40,850         —     

Loans, net

     1,852,633         1,888,412         —                   1,888,412   

Interest rate swap contracts

     1,503         1,503         —           1,503         —     

Financial Liabilities

              

Certificates of deposit

     54,807         54,807         —           54,807         —     

Securities sold under agreements to repurchase

     21,967         21,967         —           21,967         —     

Subordinated debentures

     9,737         12,372         —           12,372         —     

Interest rate swap contracts

     3,105         3,105         —           3,105         —     

December 31, 2015

              

Financial Assets

              

Investment securities available-for-sale

   $ 315,785         315,785       $ —         $ 315,785       $ —     

Investment securities held-to-maturity

     42,036         42,339         —           42,339         —     

Loans, net

     1,817,481         1,851,220         —                   1,851,220   

Interest rate swap contracts

     881         881         —           881         —     

Financial Liabilities

                 —     

Certificates of deposit

     58,502         58,502         —           58,502         —     

Securities sold under agreements to repurchase

     14,360         14,360         —           14,360         —     

Subordinated debentures

     9,697         12,372         —           12,372         —     

Interest rate swap contracts

     2,545         2,545         —           2,545         —     

Note 15 - Subsequent Events

We have evaluated events that have occurred subsequent to March 31, 2016 and have concluded there are no subsequent events that would require recognition in the accompanying interim consolidated financial statements.

 

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ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

See “Cautionary Statement for Purposes of the “Safe Harbor” Provisions of the Private Securities Litigation Reform Act of 1995” below relating to “forward-looking” statements included in this report.

The following is management’s discussion and analysis of the major factors that influenced the results of the operations and financial condition of CU Bancorp, (“the Company”) for the current period. This analysis should be read in conjunction with the audited financial statements and accompanying notes included in the Company’s 2015 Annual Report on Form 10-K and with the unaudited financial statements and notes as set forth in this report.

CAUTIONARY STATEMENT FOR PURPOSES OF THE “SAFE HARBOR” PROVISIONS OF THE

PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995

We have made forward-looking statements in this document about the Company, for which the Company claims the protection of the safe harbor provisions contained in the Private Securities Litigation Reform Act of 1995.

The Company’s forward-looking statements include descriptions of plans or objectives of management for future operations, products or services, and forecasts of its revenues, earnings or other measures of economic performance. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They often include the words “believe,” “expect,” “intend,” “estimate,” “anticipate,” “project,” “assume,” “plan,” “predict” or words of similar meaning, or future or conditional verbs such as “will,” “would,” “should,” “could” or “may.”

We make forward-looking statements as set forth above and regarding projected sources of funds, availability of acquisition and growth opportunities, dividends, adequacy of our allowance for loan losses and provision for loan losses, our loan portfolio and subsequent charge-offs. Forward-looking statements involve substantial risks and uncertainties, many of which are difficult to predict and are generally beyond our control. There are many factors that could cause actual results to differ materially from those contemplated by these forward-looking statements. Risks and uncertainties that could cause our financial performance to differ materially from our goals, plans, expectations and projections expressed in forward-looking statements include those set forth in our filings with the SEC, Item 1A of our Annual Report on Form 10-K, and the following:

 

    Current and future economic and market conditions in the United States generally or in the communities we serve, including the effects of declines in property values, high unemployment rates and overall slowdowns in economic growth should these events occur.

 

    The effects of trade, monetary and fiscal policies and laws.

 

    Possible losses of businesses and population in Los Angeles, Orange, Ventura, San Bernardino or Riverside Counties.

 

    Loss of customer checking and money-market account deposits as customers pursue other higher-yield investments, particularly in a rising interest rate environment.

 

    Possible changes in consumer and business spending and saving habits and the related effect on our ability to increase assets and to attract deposits.

 

    Competitive market pricing factors.

 

    Deterioration in economic conditions that could result in increased loan losses.

 

    Risks associated with concentrations in real estate related loans.

 

    Risks associated with concentrations in deposits.

 

    Loss of significant customers.

 

    Market interest rate volatility.

 

    Possible changes in the creditworthiness of customers and the possible impairment of the collectability of loans.

 

    Changes in the speed of loan prepayments, loan origination and sale volumes, loan loss provisions, charge offs or actual loan losses.

 

    Compression of our net interest margin.

 

    Stability of funding sources and continued availability of borrowings to the extent necessary.

 

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    Changes in legal or regulatory requirements or the results of regulatory examinations that could restrict growth.

 

    The inability of our internal disclosure controls and procedures to prevent or detect all errors or fraudulent acts.

 

    Inability of our framework to manage risks associated with our business, including operational risk and credit risk, to mitigate all risk or loss to us.

 

    Our ability to keep pace with technological changes, including our ability to identify and address cyber-security risks such as data security breaches, “denial of service” attacks, “hacking” and identity theft.

 

    The effects of man-made and natural disasters, including earthquakes, floods, droughts, brush fires, tornadoes and hurricanes.

 

    The effect of labor and port slowdowns on small businesses.

 

    Risks of loss of funding of Small Business Administration or SBA loan programs, or changes in those programs.

 

    Lack of take-out financing or problems with sales or lease-up with respect to our construction loans.

 

    Our ability to recruit and retain key management and staff.

 

    Availability of, and competition for, acquisition opportunities.

 

    Risks associated with merger and acquisition integration.

 

    Significant decline in the market value of the Company that could result in an impairment of goodwill.

 

    Regulatory limits on the Bank’s ability to pay dividends to the Company.

 

    The uncertainty of obtaining regulatory approval for various merger and acquisition opportunities.

 

    New accounting pronouncements.

 

    The impact of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) and related rules and regulations on the Company’s business operations and competitiveness.

 

    Our ability to comply with applicable capital and liquidity requirements (including the finalized Basel III capital standards), including our ability to generate capital internally or raise capital on favorable terms.

 

    Increased regulation of the securities markets, including the securities of the Company, whether pursuant to the Sarbanes-Oxley Act of 2002, or otherwise.

 

    The effects of any damage to our reputation resulting from developments related to any of the items identified above.

Forward-looking statements speak only as of the date they are made. The Company does not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made or to reflect the occurrence of unanticipated events. You should consider any forward looking statements in light of this explanation, and we caution you about relying on forward-looking statements.

For a more complete discussion of these risks and uncertainties, see the Company’s Annual Report on Form 10-K for the year ended December 31, 2015 and particularly, Item 1A, titled “Risk Factors.”

 

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OVERVIEW

CU Bancorp (the “Company”) is a bank holding company whose operating subsidiary is California United Bank. As a bank holding company, CU Bancorp is subject to regulation of the Federal Reserve Board (“FRB”). The term “Company”, as used throughout this document, refers to the consolidated balance sheets and consolidated statements of income of CU Bancorp and California United Bank.

California United Bank (the “Bank”) is a full-service commercial business bank offering a broad range of banking products and services including: deposit services, lending and cash management to small and medium-sized businesses in Los Angeles, Orange, Ventura, San Bernardino and Riverside counties, to non-profit organizations, to business principals and entrepreneurs, to the professional community, including attorneys, certified public accountants, financial advisors, healthcare providers and investors. The Bank opened for business in 2005, with its current headquarters office located in Los Angeles, California. As a state chartered non-member bank, the Bank is subject to regulation by the California Department of Business Oversight, (the “DBO”) and the Federal Deposit Insurance Corporation (“FDIC”). The deposits of the Bank are insured by the FDIC, to the maximum amount allowed by law.

Total assets increased $105 million or 4% from December 31, 2015 to $2.7 billion mainly due to deposit growth of $89 million and earnings available to common shareholders of $6 million. Loan growth during the period was concentrated primarily in Other Nonresidential Property loans of $30 million, Construction, Land Development and Other Land loans of $31 million and Owner-Occupied Nonresidential Properties of $15 million. Funding the loan growth of the Company for the three months ended March 31, 2016 were increases in non-interest bearing demand deposits of $24 million and money market and savings deposits of $71 million. At March 31, 2016 and December 31, 2015, non-interest bearing deposits represented 55% and 56% of total deposits, respectively. Tangible book value per common share was $13.05, $12.67 and $11.65 at March 31, 2016, December 31, 2015 and March 31, 2015, respectively.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). The preparation of these consolidated financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities at the date of our financial statements. Actual results may differ from these estimates under different assumptions or conditions.

Various elements of our accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions, and other subjective assessments. We have identified several accounting policies that, due to judgments, estimates, and assumptions inherent in those policies, are essential to an understanding of our consolidated financial statements. These policies relate to the accounting for business combinations, evaluation of goodwill for impairment, methodologies that determine our allowance for loan loss, the valuation of impaired loans, the classification and valuation of investment securities, accounting for derivatives financial instruments and hedging activities, and accounting for income taxes.

Our critical accounting policies are described in greater detail in our 2015 Annual Report on Form 10-K, Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies and Estimates. We believe that our most critical accounting policies upon which our financial condition depends, and which involve the most complex or subjective decisions or assessment, are as follows:

Business Combinations

The Company has a number of fair value adjustments recorded within the consolidated financial statements at March 31, 2016 that relate to the business combinations with California Oaks State Bank “COSB”, Premier Commercial Bancorp “PC Bancorp” and 1st Enterprise Bank “1st Enterprise” on December 31, 2010, July 31, 2012 and November 30, 2014, respectively. These fair value adjustments includes goodwill, fair value adjustments on loans, core deposit intangible assets, other intangible assets, fair value adjustments to acquired lease obligations, fair value adjustments to certificates of deposit and fair value adjustments on derivatives. The assets and liabilities acquired through acquisitions have been accounted for at fair value as of the date of the acquisition. The goodwill that was recorded on the transactions represented the excess of the purchase price over the fair value of net assets acquired. Goodwill is not amortized and is reviewed for impairment on October 1st of each year. If an event occurs or circumstances change that result in the Company’s fair value declining below its book value, the Company would perform an impairment analysis at that time.

 

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Based on the Company’s 2015 goodwill impairment analysis, no impairment to goodwill has occurred. The Company is a sole reporting unit for evaluation of goodwill.

The core deposit intangibles on non-maturing deposits, which represent the intangible value of depositor relationships resulting from deposit liabilities assumed through acquisitions, are being amortized over the projected useful lives of the deposits. The weighted average remaining life of the core deposit intangible is estimated at approximately 7 years at March 31, 2016. Core deposit intangibles are reviewed for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable.

Loans acquired through acquisition are recorded at fair value at acquisition date without a carryover of the related Allowance. Purchased Credit Impaired (“PCI”) loans are acquired loans with evidence of deterioration of credit quality since origination and it is probable, at the acquisition date, that the Company will not be able to collect all contractually required amounts. When the timing and/or amounts of expected cash flows on such loans are not reasonably estimable, no interest is accreted and the loan is reported as a non-accrual loan; otherwise, if the timing and amounts of expected cash flows for PCI loans are reasonably estimable, then interest is accreted and the loans are reported as accruing loans. The non-accretable difference represents the difference between the undiscounted contractual cash flows and the undiscounted expected cash flows, and also reflects the estimated credit losses in the acquired loan portfolio at the acquisition date and can fluctuate due to changes in expected cash flows during the life of the PCI loans. For non-PCI loans, loan fair value adjustments consist of an interest rate premium or discount on each individual loan and are amortized to loan interest income based on the effective yield method over the remaining life of the loans. Subsequent decreases to the expected cash flows for both PCI and non-PCI loans will result in a provision for loan losses.

Allowance for Loan Loss

The allowance for loan loss (“Allowance”) is established by a provision for loan losses that is charged against income, increased by charges to expense and decreased by charge-offs (net of recoveries). Loan charge-offs are charged against the Allowance when management believes the collectability of loan principal becomes unlikely. Subsequent recoveries, if any, are credited to the Allowance.

The Allowance is an amount that management believes will be adequate to absorb estimated charge-offs related to specifically identified loans, as well as probable loan charge-offs inherent in the balance of the loan portfolio, based on an evaluation of the collectability of existing loans and prior loss experience. Management carefully monitors changing economic conditions, the concentrations of loan categories and collateral, the financial condition of the borrowers, the history of the loan portfolio, as well as historical peer group loan loss data to determine the adequacy of the Allowance. The Allowance is based upon estimates, and actual charge-offs may vary from the estimates. No assurance can be given that adverse future economic conditions will not lead to delinquent loans, increases in the provision for loan losses and/or charge-offs. These evaluations are inherently subjective, as they require estimates that are susceptible to significant revisions as conditions change. In addition, regulatory agencies, as an integral part of their examination process, may require changes to the Allowance based on their judgment about information available at the time of their examinations. Management believes that the Allowance as of March 31, 2016 is adequate to absorb known and probable losses in the loan portfolio.

The Allowance consists of specific and general components. The specific component relates to loans that are categorized as impaired. For loans that are categorized as impaired, a specific allowance is established when the realizable value of the impaired loan is lower than the carrying value of that loan. The general component covers non-impaired loans and is based on the type of loan and historical charge-off experience adjusted for qualitative factors.

While the general allowance covers all non-impaired loans and is based on historical loss experience adjusted for the various qualitative factors, the change in the Allowance from one reporting period to the next may not directly correlate to the rate of change of nonperforming loans for the following reasons:

 

    A loan moving from the impaired performing status to an impaired non-performing status does not mandate an automatic increase in allowance. The individual loan is evaluated for a specific allowance requirement when the loan moves to the impaired status, not when the loan moves to non-performing status. In addition, the impaired loan is reevaluated at each subsequent reporting period. Impairment is measured based on the present value of the expected future cash flows discounted at the loan’s effective interest rate, except that as a practical expedient, the Company may measure impairment based on the loan’s observable market price or the fair value of the collateral if the loan is collateral dependent.

 

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    Not all impaired loans require a specific allowance. The payment performance of the borrower may require an impaired classification, but the collateral evaluation may support adequate collateral coverage. For a number of impaired loans in which borrower performance is in question, the collateral coverage may be sufficient. In those instances, neither a general allowance nor a specific allowance is assessed.

Investment Securities

The Company currently classifies its investment securities under the available-for-sale and held-to-maturity classifications. Under the available-for-sale classification, securities can be sold in response to certain conditions, such as changes in interest rates, changes in the credit quality of the securities, when the credit quality of a security does not conform with current investment policy guidelines, fluctuations in deposit levels or loan demand or need to restructure the portfolio to better match the maturity or interest rate characteristics of liabilities with assets. Securities classified as available-for-sale are accounted for at their current fair value rather than amortized cost. Unrealized gains or losses are excluded from net income and reported as a separate component of accumulated other comprehensive income (loss) included in shareholders’ equity. Under the held-to-maturity classification, if the Company has the intent and the ability at the time of purchase to hold these securities until maturity, they are classified as held-to-maturity and are stated at amortized cost.

As of each reporting date, the Company evaluates the securities portfolio to determine if there has been an other-than-temporary impairment (“OTTI”) on each of the individual securities in the investment securities portfolio. If it is probable that the Company will be unable to collect all amounts due according to the contractual terms of a debt security not impaired at acquisition, an OTTI shall be considered to have occurred. Once an OTTI is considered to have occurred, the credit portion of the loss is required to be recognized in current earnings, while the non-credit portion of the loss is recorded as a separate component of shareholders’ equity.

In estimating whether an other-than-temporary impairment loss has occurred, management considers, among other things, (i) the length of time and the extent to which the fair value has been less than cost, (ii) the financial condition and near-term prospects of the issuer, (iii) the current liquidity and volatility of the market for each of the individual security categories, (iv) the current slope and shape of the Treasury yield curve, along with where the economy is in the current interest rate cycle, (v) the spread differential between the current spread and the long-term average spread for that security category, (vi) the projected cash flows from the specific security type, (vii) any financial guarantee and financial condition of the guarantor and (viii) the intent and ability of the Company to retain its investment in the issue for a period of time sufficient to allow for any anticipated recovery in fair value.

If it’s determined that an OTTI exists on a debt security, the Company then determines if (a) it intends to sell the security or (b) it is more likely than not that it will be required to sell the security before its anticipated recovery. If either of the conditions is met, the Company will recognize the amount of the OTTI in earnings equal to the difference between the security’s fair value and its adjusted cost basis. If neither of the conditions is met, the Company determines (a) the amount of the impairment related to credit loss and (b) the amount of the impairment due to all other factors. The difference between the present value of the cash flows expected to be collected and the amortized cost basis is the credit loss. The credit loss is the portion of the other-than-temporary impairment that is recognized in earnings and is a reduction to the cost basis of the security. The portion of total impairment related to all other factors is included in other comprehensive income. Significant judgment is required in this analysis that includes, but is not limited to assumptions regarding the collectability of principal and interest, future default rates, future prepayment speeds, the amount of current delinquencies that will result in defaults and the amount of eventual recoveries expected on the underlying collateral.

Realized gains and losses on sales of securities are recognized in earnings at the time of sale and are determined on a specific-identification basis. Purchase premiums and discounts are recognized in interest income using the interest method over the expected maturity term of the securities. For mortgage-backed securities, the amortization or accretion is based on estimated average lives of the securities. The lives of these securities can fluctuate based on the amount of prepayments received on the underlying collateral of the securities. The amount of prepayments varies from time to time based on the interest rate environment and the rate of turnover of mortgages.

 

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Derivative Financial Instruments and Hedging Activities

All derivative instruments (interest rate swap contracts) were recognized on the consolidated balance sheet at their current fair value. For derivatives designated as fair value hedges, changes in the fair value of the derivative and hedged item related to the hedged risk are recognized in earnings. Accounting Standards Codification (“ASC”) Topic 815 establishes the accounting and reporting standards requiring that every derivative instrument (including certain derivative instruments embedded in other contracts) be recorded in the balance sheet as either an asset or liability measured at its fair value. ASC Topic 815 requires that changes in the derivative’s fair value be recognized currently in earnings unless specific hedge accounting criteria are met. Accounting for qualifying hedges allows a derivative’s gains and losses to offset related results on the hedged item in the income statement, and requires that a company must formally document, designate and assess the effectiveness of transactions that receive hedge accounting.

On the date a derivative contract is entered into by the Company, the Company will designate the derivative contract as either a fair value hedge (i.e. a hedge of the fair value of a recognized asset or liability), a cash flow hedge (i.e. a hedge of the variability of cash flows to be received or paid related to a recognized asset or liability), or a stand-alone derivative (i.e. an instrument with no hedging designation). For a derivative designated as a fair value hedge, the changes in the fair value of the derivative and of the hedged item attributable to the hedged risk are recognized in earnings. If the derivative is designated as a cash flow hedge, the effective portions of changes in the fair value of the derivative are recorded in other comprehensive income and are recognized in the income statement when the hedged item affects earnings. Changes in the fair value of derivatives that do not qualify for hedge accounting are reported currently in earnings, as other non-interest income. At inception and on an ongoing basis, the derivatives that are used in hedging transactions are evaluated as to how effective they are in offsetting changes in fair values or cash flows of hedged items.

The Company will discontinue hedge accounting prospectively when it is determined that the derivative is no longer effective in offsetting change in the fair value of the hedged item, the derivative expires or is sold, is terminated, or management determines that designation of the derivative as a hedging instrument is no longer appropriate. When hedge accounting is discontinued, the Company will continue to carry the derivative on the balance sheet at its fair value (if applicable), but will no longer adjust the hedged asset or liability for changes in fair value. The adjustments of the carrying amount of the hedged asset or liability will be accounted for in the same manner as other components of the carrying amount of that asset or liability, and the adjustments are amortized to interest income over the remaining life of the hedged item upon the termination of hedge accounting.

Income Taxes

The Company provides for current federal and state income taxes payable and for deferred taxes that result from differences between financial accounting rules and tax laws governing the timing of recognition of various income and expense items. The Company recognizes deferred income tax assets and liabilities for the future tax effects of such temporary differences based on the difference between the financial statement and tax bases of the existing assets and liabilities using the statutory rate expected in the years in which the differences are expected to reverse. The effect on deferred taxes of any enacted change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is established to the extent necessary to reduce the deferred tax asset to the level at which it is “more likely than not” that the tax assets or benefits will be realized. Realization of tax benefits for deductible temporary differences and loss carryforwards depends on having sufficient taxable income of an appropriate character within the carryback and carryforward period and that current tax law will allow for the realization of those tax benefits.

The Company is required to account for uncertainty associated with the tax positions it has taken or expects to be taken on past, current and future tax returns. Where there may be a degree of uncertainty as to the tax realization of an item, the Company may only record the tax effects (expense or benefits) from an uncertain tax position in the consolidated financial statements if, based on its merits, the position is more likely than not to be sustained on audit by the taxing authorities. Management does not believe that it has any material uncertain tax positions taken to date that are not more likely than not to be realized. Interest and penalties related to uncertain tax positions are recorded as part of other operating expense.

 

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RESULTS OF OPERATIONS

Key Profitability Measures

The following table presents key profitability measures for the periods indicated and the dollar and percentage changes between the periods (dollars in thousands, except per share data):

 

     Three Months Ended
March 31,
    Increase / (Decrease)  
     2016     2015     $     %  

Net Income Available to Common Shareholders

   $ 5,984      $ 3,927      $ 2,057        52.38
  

 

 

   

 

 

   

 

 

   

Earnings per share

        

Basic

   $ 0.35      $ 0.24      $ 0.11        45.83

Diluted

   $ 0.35      $ 0.23      $ 0.12        52.17

Return on average assets (1)

     0.89     0.69     0.20     28.99

Return on average tangible common equity (2)

     10.75     8.23     2.52     30.62

Net interest margin (3)

     3.77     3.95     (0.18 )%      (4.56 )% 

Efficiency ratio (4)

     57.75     64.14     (6.39 )%      (9.96 )% 

 

(1) Return on average assets is calculated by dividing net income available to common shareholders by the average assets for the period.
(2) Return on average tangible common equity is calculated by dividing the Company’s net income available to common shareholders by average tangible common equity for the period. See the tables for return on average tangible common equity calculation and reconciliation to average common equity.
(3) Net interest margin represents net interest income as a percent of interest earning assets.
(4) Efficiency ratio represents non-interest expense as a percent of net interest income plus non-interest income, excluding gain on sale of securities, net.

Average Tangible Common Equity (TCE) Calculation and Reconciliation to Total Average Shareholders’ Equity

The Company utilizes the term TCE, a non-GAAP financial measure. The Company’s management believes TCE is useful because it is a measure utilized by both regulators and market analysts in evaluating the Company’s financial condition and capital strength. TCE represents common shareholders’ equity less goodwill and certain intangible assets. Return on Average Tangible Common Equity represents annualized net income available to common shareholders as a percent of average tangible common equity. A calculation of the Company’s Return on Average Tangible Common Equity is provided in the table below for the periods indicated (dollars in thousands):

 

     Three Months Ended
March 31,
 
     2016     2015  

Average Tangible Common Equity Calculation

    

Total average shareholders’ equity

   $ 313,014      $ 282,902   

Less: Average serial preferred stock

     17,088        16,085   

Less: Average goodwill

     64,603        63,950   

Less: Average core deposit and leasehold right intangibles

     7,515        9,356   
  

 

 

   

 

 

 

Average Tangible Common Equity

   $ 223,808      $ 193,511   
  

 

 

   

 

 

 

Annualized Net Income Available to Common Shareholders

   $ 24,068      $ 15,926   

Return on Average Tangible Common Equity

     10.75     8.23

Operations Performance Summary

Three Months Ended March 31, 2016 Compared to Three Months Ended March 31, 2015

Net income available to common shareholders for the three months ended March 31, 2016 was $6.0 million, or $0.35 per diluted share, compared to $3.9 million, or $0.23 per diluted share for the three months ended March 31, 2015. The $2.1 million increase, or 52%, was primarily due to a $3.7 million increase in net interest income after provision for loan

 

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losses, offset by a $1.5 million increase in provision for income tax expense. The increase in net interest income after provision for loan losses was mainly driven by strong organic loan growth. The increase in income tax expense is directionally consistent with the increase in profitability while the effective tax rates are comparable for both periods. Non-interest income increased by $212 thousand or 8.1% and non-interest expense had a modest increase of $274 thousand, or 1.8%. Salaries and other benefits expense increased $1.0 million, or 10.9%, as the Company’s active full-time equivalent employees grew to 273 at March 31, 2016, an increase of 20 from March 31, 2015. Increase in salaries and other benefits were offset by a decrease of $371 thousand in legal and professional expense and decrease of $240 thousand in merger expense, compared to the quarter ended March 31, 2015.

 

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Average Balances, Interest Income and Expense, Yields and Rates

Three Months Ended March 31, 2016 and 2015

The following table presents the Company’s average balance sheets, together with the total dollar amounts of interest income and interest expense and the weighted average interest yield/rate for the periods presented. All average balances are daily average balances (dollars in thousands).

 

     Three Months Ended March 31,  
     2016     2015  
     Average
Balance
     Interest
Income/
Expense
     Average
Yield/Rate
(6)
    Average
Balance
     Interest
Income/
Expense
     Average
Yield/Rate
(6)
 

Interest earning Assets:

                

Deposits in other financial institutions

   $ 301,402       $ 439         0.58   $ 197,465       $ 202         0.41

Investment securities (1)

     352,929         1,232         1.40     271,504         1,180         1.74

Loans (2)

     1,849,201         22,578         4.91     1,650,802         19,906         4.89
  

 

 

    

 

 

      

 

 

    

 

 

    

Total interest earning assets

     2,503,532         24,249         3.90     2,119,771         21,288         4.07
     

 

 

         

 

 

    

Non-interest earning assets

     214,581              202,055         
  

 

 

         

 

 

       

Total assets

   $ 2,718,113            $ 2,321,826         
  

 

 

         

 

 

       

Interest bearing Liabilities:

                

Interest bearing transaction accounts

   $ 270,796       $ 99         0.15   $ 238,220       $ 100         0.17

Money market and savings deposits

     726,681         511         0.28     650,721         383         0.24

Certificates of deposit

     55,920         33         0.24     63,942         51         0.32
  

 

 

    

 

 

      

 

 

    

 

 

    

Total interest bearing deposits

     1,053,397         643         0.25     952,883         534         0.23
  

 

 

    

 

 

      

 

 

    

 

 

    

Securities sold under agreements to repurchase

     20,540         11         0.22     10,760         5         0.19

Subordinated debentures

     9,719         117         4.76     9,568         107         4.47
  

 

 

    

 

 

      

 

 

    

 

 

    

Total borrowings

     30,259         128         1.70     20,328         112         2.23
  

 

 

    

 

 

      

 

 

    

 

 

    

Total interest bearing liabilities

     1,083,656         771         0.29     973,221         646         0.27
     

 

 

         

 

 

    

Non-interest bearing demand deposits

     1,305,018              1,046,636         
  

 

 

         

 

 

       

Total funding sources

     2,388,674              2,019,847         

Non-interest bearing liabilities

     16,425              19,077         

Shareholders’ equity

     313,014              282,902         
  

 

 

         

 

 

       

Total liabilities and shareholders’ equity

   $ 2,718,113            $ 2,321,826         
  

 

 

         

 

 

       

Excess of interest earning assets over funding sources

   $ 114,858            $ 99,924         

Net interest rate spread (3)

           3.61           3.80

Net interest margin (4)

           3.77           3.95

Core net interest margin (5)

           3.67           3.90

 

(1) Average balances of investment securities available-for-sale are presented on an amortized cost basis and thus do not include the unrealized market gain or loss on the securities.
(2) Average balances of loans are calculated net of deferred loan fees and fair value discounts, but would include non-accrual loans which have a zero yield.
(3) Net interest rate spread represents the yield earned on average total interest earning assets less the rate paid on average total interest bearing liabilities.
(4) Net interest margin is computed by dividing net interest income by average total interest earning assets.
(5) Core net interest margin is computed by dividing net interest income, excluding accelerated accretion of fair value discounts earned on early loan payoffs of acquired loans and other associated payoff benefits, and interest recovered or reversed on non-accrual loans, by average total interest-earning assets. See the reconciliation table for core net interest margin.
(6) Annualized.

 

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Net Changes in Average Balances, Composition, Yields and Rates

Three Months Ended March 31, 2016 and 2015

The following table set forth the composition of average interest-earning assets and average interest bearing liabilities by category and by the percentage of each category to the total for the periods indicated, including the change in average balance, composition, and yield/rate between these respective periods (dollars in thousands):

 

     Three Months Ended March 31,                    
     2016     2015     Increase (Decrease)  
     Average
Balance
     % of
Total
    Average
Yield/
Rate
    Average
Balance
     % of
Total
    Average
Yield/
Rate
    Average
Balance
    % of
Total
    Average
Yield/
Rate
 

Interest earning Assets:

                    

Deposits in other financial institutions

   $ 301,402         12.0     0.58   $ 197,465         9.3     0.41   $ 103,937        2.7     0.17

Investment securities

     352,929         14.1     1.40     271,504         12.8     1.74     81,425        1.3     (0.34 )% 

Loans

     1,849,201         73.9     4.91     1,650,802         77.9     4.89     198,399        (4.0 )%      0.02
  

 

 

    

 

 

     

 

 

    

 

 

     

 

 

     

Total interest earning assets

   $ 2,503,532         100     3.90   $ 2,119,771         100     4.07   $ 383,761        —       (0.17 )% 
  

 

 

    

 

 

     

 

 

    

 

 

     

 

 

     

Interest bearing Liabilities:

                    

Non-interest bearing demand deposits

   $ 1,305,018         54.6     —     $ 1,046,636         51.8     —     $ 258,382        2.8     —  

Interest bearing transaction accounts

     270,796         11.4     0.15     238,220         11.8     0.17     32,576        (0.4 )%      (0.02 )% 

Money market and savings deposits

     726,681         30.4     0.28     650,721         32.2     0.24     75,960        (1.8 )%      0.04

Certificates of deposit

     55,920         2.3     0.24     63,942         3.2     0.32     (8,022     (0.9 )%      (0.08 )% 
  

 

 

    

 

 

     

 

 

    

 

 

     

 

 

     

Total deposits

     2,358,415         98.7     0.11     1,999,519         99.0     0.11     358,896        (0.3 )%      —  

Securities sold under agreements to repurchase

     20,540         0.9     0.22     10,760         0.5     0.19     9,780        0.4     0.03

Subordinated debentures

     9,719         0.4     4.76     9,568         0.5     4.47     151        (0.1 )%      0.29
  

 

 

    

 

 

     

 

 

    

 

 

     

 

 

     

Total borrowings

     30,259         1.3     1.70     20,328         1.0     2.23     9,931        0.3     (0.53 )% 
  

 

 

    

 

 

     

 

 

    

 

 

     

 

 

     

Total funding sources

   $ 2,388,674         100     0.13   $ 2,019,847         100     0.13   $ 368,827        —       —  
  

 

 

    

 

 

     

 

 

    

 

 

     

 

 

     

Excess of interest earning assets over funding sources

   $ 114,858           $ 99,924           $ 14,934       

Net interest rate spread

          3.61          3.80         (0.19 )% 

Net interest margin

          3.77          3.95         (0.18 )% 

Core net interest margin

          3.67          3.90         (0.23 )% 

See footnotes on prior page.

 

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Table of Contents

Volume and Rate Variance Analysis of Net Interest Income

Three Months Ended March 31, 2016 and 2015

The following table presents the dollar amount of changes in interest income and interest expense due to changes in average balances of interest-earning assets and interest-bearing liabilities and changes in interest rates. For each category of interest-earning assets and interest bearing liabilities, information is provided on changes attributable to: (i) changes in days (i.e. changes in days multiplied by prior period interest income/expense) (ii) changes in volume (i.e. changes in average balance multiplied by prior period rate) and (iii) changes in rate (i.e. changes in rate multiplied by prior period average balance). For purposes of this table, changes attributable to both rate and volume which cannot be segregated have been allocated proportionately based on the absolute dollar amounts of the changes due to volume and rate (dollars in thousands):

 

     Three Months Ended
March 31,
2016 vs. 2015
 
     Increase (Decrease)
Due To
 
     Volume      Rate      Total  

Interest Income:

        

Deposits in other financial institutions

   $ 108       $ 129       $ 237   

Investment securities

     355         (303      52   

Loans

     2,574         98         2,672   
  

 

 

    

 

 

    

 

 

 

Total interest income

     3,037         (76      2,961   
  

 

 

    

 

 

    

 

 

 

Interest Expense:

        

Interest bearing transaction accounts

     14         (15      (1

Money market and savings deposits

     52         76         128   

Certificates of deposit

     (7      (11      (18
  

 

 

    

 

 

    

 

 

 

Total deposits

     59         50         109   

Subordinated debentures

     2         8         10   

Securities sold under agreements to repurchase

     4         2         6   
  

 

 

    

 

 

    

 

 

 

Total borrowings

     6         10         16   
  

 

 

    

 

 

    

 

 

 

Total interest expense

     65         60         125   
        
  

 

 

    

 

 

    

 

 

 

Net Interest Income

   $ 2,972       $ (136    $ 2,836   
  

 

 

    

 

 

    

 

 

 

Reconciliation of Core Net Interest Margin to Net Interest Margin

The following table represents a reconciliation of GAAP net interest margin to core net interest margin (a non-GAAP financial measure) used by the Company. The table presents the information for the periods indicated (dollars in thousands):

 

     Three Months Ended
March 31,
 
     2016     2015  

Net Interest Income

   $ 23,478      $ 20,642   

Less:

    

Accelerated accretion of fair value adjustment on early loan payoffs and other associated payoff benefits on acquired loans

     651        110   

Income recognition due to early payoff of organic loans

     —          201   
  

 

 

   

 

 

 

Core Net Interest Income

   $ 22,827      $ 20,331   
  

 

 

   

 

 

 

Net interest margin

     3.77     3.95

Core net interest margin

     3.67     3.90

Although the core net interest margin declined due to average deposits growing faster than average loans, core net interest income grew by $2.5 million, or 12%, which is reflected in the growth in net income.

 

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Composition of Net Deferred Loan Fees, Costs and Fair Value Discounts

The following table reflects the composition of the net deferred loan fees, costs and fair value discounts at March 31, 2016 and December 31, 2015 (dollars in thousands):

 

     March 31,
2016
     December 31,
2015
 

Accretable loan discount

   $ 13,696       $ 14,856   

Non-Accretable loan discount

     510         2,061   
  

 

 

    

 

 

 

Remaining loan discount on acquired loans

     14,206         16,917   

Net deferred loan fees on organic loans

     5,221         4,575   
  

 

 

    

 

 

 

Total

   $ 19,427       $ 21,492   
  

 

 

    

 

 

 

Three Months Ended March 31, 2016 Compared to Three Months Ended March 31, 2015

The net interest margin decreased 18 basis points to 3.77% for the three months ended March 31, 2016, compared to 3.95% for the three months ended March 31, 2015. The decrease in net interest margin is primarily due to average loans being a lower percentage of interest-earning assets for the quarter ended March 31, 2016 than for the same quarter a year ago.

Net interest margin for both quarters were positively impacted by the recognition of fair value discounts earned on early payoffs of acquired loans. For the quarter ended March 31, 2016 the Company recorded $528 thousand in discounts earned on early loan payoffs, and prepayment penalty fees of $123 thousand on acquired loans, which had a positive impact on the net interest margin of 11 basis points. In the first quarter of 2015 the Company recorded $110 thousand in discounts earned on early loan payoffs of acquired loans, and other payoff benefits of $201 thousand, which had a positive impact on the net interest margin of 6 basis points.

Provision for Loan Losses

Provision for loan losses for the three months ended March 31, 2016 was $622 million compared to $1.4 million for the three months ended March 31, 2015. The Company had $90 million of net organic loan growth for the quarter ended March 31, 2016, compared to $67 million for the same quarter a year ago. Net recoveries for the three months ended March 31, 2016 were $241 thousand compared to net charge-offs of $806 thousand in 2015. The loan loss provision reflects strong organic loan growth during the quarter, with the benefit of the net recovery from a loan charged off a couple of years ago. See further discussion in Balance Sheet Analysis, Allowance for Loan Loss.

Non-Interest Income

The following table lists the major components of the Company’s non-interest income for the periods indicated (dollars in thousands):

 

     Three Months
Ended

March 31,
     Increase
(Decrease)
 
     2016      2015      $      %  

Gain on sale of SBA loans, net

   $ 554       $ 423       $ 131         31.0

Deposit account service charge income

     1,189         1,141         48         4.2

Letters of credit income

     270         146         124         84.9

Interchange fees

     113         45         68         151.1

BOLI Income

     323         296         27         9.1

Dividend income in equity securities

     151         198         (47      (23.7 )% 

Other non-interest income

     220         359         (139      (38.7 )% 
  

 

 

    

 

 

    

 

 

    

 

 

 

Total Non-Interest Income

   $ 2,820       $ 2,608       $ 212         8.1
  

 

 

    

 

 

    

 

 

    

 

 

 

Three Months Ended March 31, 2016 Compared to Three Months Ended March 31, 2015

Non-interest income increased $212 thousand or 8.1% to $2.8 million for the three months ended March 31, 2016 compared to $2.6 million for the three months ended March 31, 2015. This change was mainly due to a $131 thousand increase in gain on sale of SBA loans and a $124 thousand increase in letters of credit income.

 

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Non-Interest Expense

The following table lists the major components of the Company’s non-interest expense for the periods indicated (dollars in thousands):

 

     Three Months
Ended March 31,
     Increase
(Decrease)
 
     2016      2015      $      %  

Salaries and employee benefits

   $ 9,319       $ 8,638       $ 681         7.9

Stock based compensation expense

     834         513         321         62.6

Occupancy

     1,436         1,420         16         1.1

Data processing

     618         641         (23      (3.6 )% 

Legal and professional

     475         846         (371      (43.9 )% 

FDIC deposit assessment

     350         333         17         5.1

Merger related expenses

     —           240         (240      (100.0 )% 

OREO loss and expenses

     79         6         73         1216.7

Office services expenses

     403         414         (11      (2.7 )% 

Core deposit intangible amortization

     321         422         (101      (23.9 )% 

Other operating expenses

     1,352         1,440         (88      (6.1 )% 
  

 

 

    

 

 

    

 

 

    

 

 

 

Total Non-Interest Expense

   $ 15,187       $ 14,913       $ 274         1.8
  

 

 

    

 

 

    

 

 

    

 

 

 

Three Months Ended March 31, 2016 Compared to Three Months Ended March 31, 2015

Non-interest expense increased modestly by $274 thousand or 1.8% to $15.2 million for the three months ended March 31, 2016 compared to $14.9 million for the three months ended March 31, 2015. The increase was largely related to increases in salaries and employee benefits, as the Company’s active full-time equivalent employees grew to 273 at March 31, 2016, an increase of 20 from the year-ago period end. Much of the growth in headcount, and related salaries and benefits, over the last year has been to support the Company’s double-digit loan and deposit growth, as well as the Company’s significant increase in customer relationships. The $321 thousand increase in stock based compensation expense is primarily due to the adoption of the 2015 Management Incentive Plan in March 2015, which impacted the comparability between the two periods. The increase in salaries and employee benefits was offset by a $371 thousand decrease in legal and professional fees, a $240 thousand decrease in merger expenses and a $101 thousand decrease in core deposit intangible amortization. The decreases are a result of a full year past the merger.

After five quarters of flat operating expenses while growing the Company over 10%, the Company expects future increases to personnel and infrastructure expenses in order to support its increasing size and increasing regulatory requirements.

Income Taxes

The effective tax rate for the three months ended March 31, 2016 was 40.1% compared to 39.1% for the three months ended March 31, 2015. The effective tax rate increase from 2015 is primarily attributable to BOLI income as a lower proportion to pre-tax income and lower deductions from disqualifying disposition of incentive stock options in 2016. The Company’s effective tax rate is impacted by BOLI income and interest income from tax exempt securities and loans which are excluded from taxable income. In addition, the Company has invested in Qualified Affordable Housing Projects “LIHTC” that generate tax credits and benefits for the Company. The Company operates in the Federal and California jurisdictions and the blended statutory tax rate for Federal and California income taxes is 42.05%.

 

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FINANCIAL CONDITION

Balance Sheet Analysis

Total assets increased $105 million for the three months ended March 31, 2016 to $2.7 billion with an increase of $78 million in cash and cash equivalents and an increase of $36 million in loans, mainly driven by an $89 million increase in total deposits during the quarter. The increase in loans from the prior quarter was due to organic loan growth. Net organic loan growth during the period was $90 million, partially offset by $54 million in runoff of purchased loans from the COSB, PC Bancorp acquisitions and 1st Enterprise merger.

Funding the asset growth for the Company for the first three months of 2016 was the growth in deposits of $89 million and earnings of $6.3 million. Further, the deposit growth of $89 million is the result of a $24 million increase in non-interest bearing deposits and a $72 million increase in money market and savings deposits. Non-interest bearing deposits represented 55% of total deposits at March 31, 2016, and 56% at December 31, 2015.

Lending

The following table presents the composition of the loan portfolio at the dates indicated (dollars in thousands):

 

     March 31,
2016
    December 31,
2015
 
     Amount      % of Total     Amount      % of Total  

Commercial and Industrial Loans:

   $ 496,301         27 %   $ 537,368         29

Loans Secured by Real Estate:

          

Owner-Occupied Nonresidential Properties

     423,370         23     407,979         23

Other Nonresidential Properties

     562,871         30 %     533,168         29

Construction, Land Development and Other Land

     156,731         8     125,832         7

1-4 Family Residential Properties

     122,408         6 %     114,525         6

Multifamily Residential Properties

     70,423         4     71,179         4
  

 

 

    

 

 

   

 

 

    

 

 

 

Total Loans Secured by Real Estate

     1,335,803         71 %     1,252,683         69
  

 

 

    

 

 

   

 

 

    

 

 

 

Other Loans:

     37,074         2 %     43,112         2