UNITED SECURITY BANCSHARES - Annual Report: 2009 (Form 10-K)
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D.C. 20549
FORM
10-K
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x
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ANNUAL REPORT PURSUANT TO
SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
FOR THE FISCAL YEAR ENDED DECEMBER 31,
2009.
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o
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TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF
1934
FOR THE TRANSITION PERIOD FROM __________ TO
__________.
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Commission file number:
000-32987
UNITED SECURITY
BANCSHARES
(Exact
name of registrant as specified in its charter)
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CALIFORNIA
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91-2112732
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(State
or other jurisdiction of
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(I.R.S.
Employer
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incorporation
or organization)
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Identification
No.)
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2126 Inyo Street,
Fresno, California
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93721
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(Address
of principal executive offices)
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(Zip
Code)
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Registrant’s
telephone number, including area code (559)
248-4943
Securities
registered pursuant to Section 12(b) of the Act:
Common Stock, no par value
on Nasdaq
(Title
of Class)
Securities
registered pursuant to Section 12(g) of the Act: NONE
Indicate
by check mark whether the registrant is a well-known seasoned issuer, as defined
in Rule 405 of the Securities Act.
Yes o No x
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Securities Act.
Yes o No x
Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing for the past 90
days.
Yes x No o
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every
Interactive
Data File required to be submitted and posted pursuant to Rule 405 of Regulation
S-T (§232.405 of this chapter) during the preceding 12 months (or for such
shorter period that the registrant was required to submit and post such files).
Yes o No o
Indicate
by check mark if disclosure of delinquent filers pursuant to item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of the registrants knowledge, in the definitive proxy or information statements
incorporated by reference in Part III of this form 10-K or any amendment to this
Form 10-K. o
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.
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Large
accelerated filer o
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Accelerated
filer o
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Non-accelerated
filer x
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Small
reporting company o
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Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act). Yes o No x
Aggregate
market value of the Common Stock held by non-affiliates as of the last business
day of the registrant's most recently completed second fiscal quarter - June 30,
2009: $43,114,654
Shares
outstanding as of February 28, 2009: 12,496,499
DOCUMENTS
INCORPORATED BY REFERENCE
Certain
portions of the Definitive Proxy Statement for the 2010 Meeting of Part III,
Items 10, 11, 12, 13 and 14 Shareholders
is incorporated by reference into Part III.
UNITED
SECURITY BANCSHARES
TABLE
OF CONTENTS
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PART
I:
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Item
1 - Business
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3
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Item
1A – Risk Factors
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18
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Item
1B – Unresolved Staff Comments
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23
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Item
2 - Properties
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23
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Item
3 - Legal Proceedings
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26
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Item
4 – (Reserved)
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26
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PART
II:
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Item
5 - Market for the Registrant's Common Equity, Related Stockholder
Matters,
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and
Issuer Purchases of Equity Securities
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27
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Item
6 - Selected Financial Data
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30
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Item
7 - Management's Discussion and Analysis of Financial
Condition
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and
Results of Operations
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31
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Item
7A - Quantitative and Qualitative Disclosure About Market
Risk
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69
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Item
8 - Financial Statements and Supplementary Data
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72
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Item
9 - Changes in and Disagreements with Accountants on
Accounting
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and
Financial Disclosure
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111
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Item
9A(T) – Controls and Procedures
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111
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Item
9B – Other Information
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113
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PART
III:
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Item
10 – Directors, Executive Officers, and Corporate
Governance
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113
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Item
11 - Executive Compensation
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113
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Item
12 - Security Ownership of Certain Beneficial Owners and
Management
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and
Related Stockholder Matters
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113
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Item
13 - Certain Relationships and Related Transactions, and Director
Independence
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113
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Item
14 – Principal Accounting Fees and Services
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113
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PART
IV:
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Item
15 – Exhibits and Financial Statement Schedules
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114
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2
PART
1
Certain
matters discussed or incorporated by reference in this Annual Report of Form
10-K including, but not limited to, those described in "Item 7 - Management's
Discussion and Analysis of Financial Condition and Results of Operations", are
forward-looking statements as defined under the Securities Litigation Reform Act
of 1995 that are subject to risks and uncertainties that could cause actual
results to differ materially from those projected in the forward-looking
statements. Such risks and uncertainties include, among others, (1) competitive
pressure in the banking industry increases significantly; (2) changes in the
interest rate environment which may reduce margins and devalue assets; (3)
general economic conditions, either nationally or regionally, are less favorable
than expected, resulting in, among other things, a deterioration in credit
quality; (4) changes in the regulatory environment; (5) changes in business
conditions and inflation; (6) changes in securities markets; (7) asset/liability
matching risks and liquidity risks; (8) potential impairment of goodwill and
other intangible assets; (9) loss of key personnel; and (10)
operational interruptions including data processing systems failure and
fraud. Therefore, the information set forth therein should be carefully
considered when evaluating the business prospects of the Company.
Item
1 - Business
General
United
Security Bancshares (the “Company”) is a California corporation incorporated
during March of 2001 and is registered with the Board of Governors of the
Federal Reserve System as a bank holding company under the Bank Holding Company
Act of 1956, as amended. The Company’s stock is listed on NASDAQ under the
symbol “UBFO”. United Security Bank (the “Bank”) is a wholly-owned bank
subsidiary of the Company and was formed in 1987. United Security Bancshares
Capital Trust I (the “Trust”) was formed during June of 2001 as a Delaware
business trust for the sole purpose of issuing Trust Preferred securities. The
Trust was originally formed as a subsidiary of the Company, but was
deconsolidated during 2004 pursuant to the adoption of FIN 46 (as revised),
“Consolidation of Variable Interest Entities”. During July 2007, the Trust
Preferred Securities issued under USB Capital Trust I were redeemed, and upon
retirement, the USB Capital Trust I was dissolved. During July the Company
formed United Security Bancshares Capital Trust II and issued $15.0 million in
Trust Preferred Securities with terms similar to those originally issued under
USB Capital Trust I, except at a lower interest rate. At present, the Company
does not engage in any material business activities other than ownership of the
Bank.
United
Security Bank
On June
12, 2001, the Bank became the wholly owned subsidiary of United Security
Bancshares, through a tax-free holding company reorganization, accounted for on
a basis similar to the pooling of interest method. In the transaction, each
share of Bank stock was exchanged for a share of Company stock on a one-to-one
basis.
The Bank
is a California state-chartered bank headquartered in Fresno, California. It is
also a member of the Federal Reserve System (“Fed member”). The Bank originally
commenced business on December 21, 1987 as a national bank and, during the
fourth quarter of 1998, filed an application with the California Department of
Financial Institutions and other regulatory authorities to become a
state-chartered bank. The shareholders approved the conversion in January of
1999, and the Bank was granted approval to operate as a state-chartered bank on
February 3, 1999. The Bank’s operations are currently subject to federal and
state laws applicable to state-chartered, Fed member banks and its deposits are
insured up to the applicable limits by the Federal Deposit Insurance Corporation
(the "FDIC"). The Bank is also subject to the Federal Deposit Insurance Act and
regulatory reporting requirements of the FDIC. As a state-chartered bank and a
member of the Federal Reserve System, the Bank is subject to supervision and
regular examinations by the Board of Governors of the Federal Reserve System
(the “FRB”) and the California Department of Financial Institutions (the “DFI”).
In addition, the Bank is required to file reports with the FRB and provide such
additional information as the FRB may require.
USB
Investment Trust Inc. was incorporated effective December 31, 2001 as a special
purpose real estate investment trust (“REIT”) under Maryland law. The REIT is a
subsidiary of the Bank and was funded with $133.0 million in real estate-secured
loans contributed by the Bank. USB Investment Trust was originally formed to
give the Bank flexibility in raising capital, and reduce the expenses associated
with holding the assets contributed to USB Investment Trust. For further
discussion of the REIT, refer to Item 7 – Management’s Discussion and Analysis
of Financial Condition and Results of Operations – Income Taxes.
Effective
April 23, 2004, the Company completed a merger with Taft National Bank
headquartered in Taft, California. Taft National Bank (“Taft”) was merged into
United Security Bank and Taft’s two branches operate as branches of United
Security Bank. The total consideration paid to Taft shareholders was 241,447
shares of the Company’s Common Stock valued at just over $6 million. In the
merger, the Company acquired $15.4 million in cash and short-term investments,
$23.3 million in loans, and $48.2 million in deposits. This transaction was
accounted for using the purchase method of accounting, and resulted in the
purchase price being allocated to the assets acquired and liabilities assumed
from Taft based on the fair value of those assets and
liabilities.
3
On
February 16, 2007, the Company completed its merger with Legacy Bank, N.A.,
located in Campbell, California, with the acquisition of 100 percent of Legacy’s
outstanding common shares. At merger, Legacy Bank’s one branch was merged with
and into United Security Bank, a subsidiary of the Company. The total value of
the merger transaction was $21.5 million, and the shareholders of Legacy Bank
received merger consideration consisting of 976,411 shares of common stock of
the Company. The merger transaction was accounted for as a purchase transaction,
and resulted in the purchase price being allocated to the assets acquired and
liabilities assumed from Legacy Bank based on the fair value of those assets and
liabilities. The net of assets acquired and liabilities assumed totaled
approximately $8.6 million at the date of the merger. Fair value of Legacy
assets and liabilities acquired, and resultant goodwill, has been determined and
recorded as of the date of the merger and the resulting operations thereafter
have been included in the consolidated financial statements.
During
November 2007, the Company purchased the recurring contractual revenue stream
and certain fixed assets from ICG Financial, LLC. Additionally, the Company
hired all but one of the former employees of ICG Financial, LLC and its
subsidiaries. The total purchase price was $414,000 including $378,000 for the
recurring revenue stream and $36,000 for the fixed assets. A newly formed
department of the Bank, USB Financial Services provides wealth management,
employee benefit, insurance and loan products, as well as consulting services
for a variety of clients, utilizing employees hired from ICG Financial LLC. The
Company believes the wealth management and related services provided by USB
Financial Services will enhance the products and services offered by the
Company, and increase noninterest income. The original capitalized cost of
$378,000 for the recurring contractual revenue stream is being amortized over a
period of approximately three years.
At
December 31, 2009, the Bank operates three branches (including its main office),
one construction lending office, and one financial services office in Fresno and
one branch each, in Oakhurst, Caruthers, San Joaquin, Firebaugh, Coalinga,
Bakersfield, and Taft. In addition, the Company and Bank have administrative
headquarters located at 2126 Inyo Street, Fresno, California,
93721.
At
December 31, 2009, the consolidated Company had approximately $692.6 million in
total assets, $492.7 million in net loans, $561.7 million in deposits, and $75.8
million in shareholders' equity.
The
following discussion of the Company's services should be read in conjunction
with "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS."
Bank
Services
As a
state-chartered commercial bank, United Security Bank offers a full range of
commercial banking services primarily to the business and professional community
and individuals located in Fresno, Madera, Kern, and Santa
Clara Counties.
The Bank
offers a wide range of deposit instruments including personal and business
checking accounts and savings accounts, interest-bearing negotiable order of
withdrawal ("NOW") accounts, money market accounts and time certificates of
deposit. Most of the Bank's deposits are attracted from individuals and from
small and medium-sized business-related sources.
The Bank
also engages in a full complement of lending activities, including real estate
mortgage, commercial and industrial, real estate construction, as well as
agricultural, lease financing, and consumer loans, with particular emphasis on
short and medium-term obligations. The Bank's loan portfolio is not concentrated
in any one industry, although approximately 68% of the Bank's loans are secured
by real estate. A loan may be secured (in whole or in part) by real estate even
though the purpose of the loan is not to facilitate the purchase or development
of real estate. At December 31, 2009, the Bank had loans (net of unearned fees)
outstanding of $507.7 million, which represented approximately 90% of the Bank's
total deposits and approximately 73% of its total assets.
Real
estate mortgage loans are secured by deeds of trust primarily on commercial
property. Repayment of real estate mortgage loans is generally from the cash
flow of the borrower. Commercial and industrial loans have a high degree of
industry diversification. Loans may be originated in the Company’s market area,
or participated with other financial institutions outside the Company’s market
area. A substantial portion of commercial and industrial loans are secured by
accounts receivable, inventory, leases or other collateral. The remainder are
unsecured; however extensions of credit are predicated on the financial capacity
of the borrower to repay the extension of credit. Repayment of commercial loans
is generally from the cash flow of the borrower. Real estate construction loans
consist of loans to residential contractors, which are secured by single-family
residential properties. All real estate loans have established equity
requirements. Repayment of real estate construction loans is generally from
long-term mortgages with other lending institutions. Agricultural loans are
generally secured by land, equipment, inventory and receivables. Repayment of
agricultural loans is from the expected cash flow of the
borrower.
4
In the
normal course of business, the Bank makes various loan commitments and incurs
certain contingent liabilities. At December 31, 2009 and 2008, loan commitments
of the Bank totaled $84.0 million and $112.3 million, respectively, and letters
of credit totaled $4.0 million and $7.1 million, respectively. Of the $84.0
million in loan commitments outstanding at December 31, 2009, $65.4 million or
77.9% were for loans with maturities of one year or less. Due to the nature of
the business of the Bank's customers, there are no seasonal patterns or absolute
predictability to the utilization of unused loan commitments; therefore the Bank
is unable to forecast the extent to which these commitments will be exercised
within the current year. The Bank does not believe that any such utilization
will constitute a material liquidity demand. The Company does however have
collateralized and uncollateralized lines of credit which could be utilized if
such loan commitments were to be exercised in excess of normal
expectations.
In
addition to the loan and deposit services discussed above, the Bank also offers
a wide range of specialized services designed to attract and service the needs
of commercial customers and account holders. These services include online
banking, safe deposit boxes, ATM services, payroll direct deposit, cashier's
checks, traveler's checks, money orders, and foreign drafts. In addition, the
Bank offers a variety of specialized financial services, including wealth
management, employee benefit, insurance and loan products, as well as consulting
services for a variety of clients. The Bank does not operate a trust department;
however, it makes arrangements with its correspondent bank to offer trust
services to its customers on request. Most of the Bank's business originates
within Fresno, Madera, Kern, and Santa Clara Counties. Neither the Bank’s
business or liquidity is seasonal, and there has been no material effect upon
the Bank's capital expenditures, earnings or competitive position as a result of
federal, state or local environmental regulation.
Competition
and Market Share
The
banking business in California generally, and in the market area served by the
Company specifically, is highly competitive with respect to both loans and
deposits. The Company competes for loans and deposits with other commercial
banks, savings and loan associations, finance companies, money market funds,
credit unions and other financial institutions, including a number that are
substantially larger than the Company. Deregulation of the banking industry,
increased competition from non-bank entities for the cash balances of
individuals and businesses, and continuing developments in the computer and
communications industries have had, and most likely will continue to have, a
significant impact on the Company's competitive position. With the enactment of
interstate banking legislation in California, bank holding companies
headquartered outside of California will continue to enter the California market
and provide competition for the Company. Additionally, with the
Gramm-Leach-Bliley Act of 1999, traditional competitive barriers between
insurance companies, securities underwriters, and commercial banks have been
eased, allowing a greater number of financial intermediaries to offer a wider
assortment of financial services. Many of the major commercial banks operating
in the Company's market areas offer certain services such as trust and
international banking services, which the Company does not offer directly. In
addition, banks with larger capitalization have larger lending limits and are
thereby able to serve larger customers.
The
Company’s primary market area at December 31, 2009 was located in Fresno,
Madera, and Kern Counties, in which approximately 33 FDIC-insured financial
institutions compete for business. Santa Clara County was added during
February 2007 with the Legacy Bank acquisition, in which approximately 55
FDIC-insured financial institutions compete for business. The following table
sets forth information regarding deposit market share and ranking by county as
of June 30, 2009, which is the most current information
available.
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Rank
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Share
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||||
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Fresno County
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9th
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4.17 | % | ||
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Madera County
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9th
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4.02 | % | ||
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Kern County
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13th
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1.15 | % | ||
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Total
of Fresno, Madera, Kern Counties
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10th
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3.10 | % | ||
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Santa
Clara County
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46th
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0.04 | % | ||
5
Supervision
and Regulation
The
Company
The
Company is a bank holding company within the meaning of the Bank Holding Company
Act of 1956, as amended (the “BHC Act”), and is registered as such with the FRB.
A bank holding company is required to file with the FRB annual reports and other
information regarding its business operations and those of its subsidiaries and
is also subject to examination by the FRB.
The BHC
Act requires, among other things, prior approval before acquiring, directly or
indirectly, ownership or control of any voting shares of any bank, if after such
acquisition it would directly or indirectly own or control more than 5% of the
voting stock of that bank, unless it already owns a majority of the voting stock
of that bank. The BHC Act also provides that the FRB shall not approve any
acquisition that would result in or further the creation of a monopoly, or the
effect of which may be substantially to lessen competition, unless the
anticompetitive effects of the proposed transaction are clearly outweighed by
the probable effect in meeting the convenience and needs of the community
served.
Furthermore,
under the BHC Act, a bank holding company is, with limited exceptions,
prohibited from (i) acquiring direct or indirect ownership or control of more
than 5% of the voting shares of any company which is not a bank or (ii) engaging
in any activity other than managing or controlling banks. With the prior
approval of the FRB, however, a bank holding company may own shares of a company
engaged in activities which the FRB has determined to be so closely related to
banking or managing or controlling banks as to be proper incident thereto.
Amendments to the BHC Act expand the circumstances under which a bank holding
company may acquire control of all or substantially all of the assets of a bank
located outside the State of California.
The BHC
Act requires a bank holding company to serve as a source of financial and
managerial strength to its subsidiary banks. It is the FRB’s policy that a bank
holding company should stand ready to use available resources to provide
adequate capital funds to subsidiary banks during periods of financial stress
and should maintain the financial flexibility and capital raising capacity to
obtain additional resources for assisting a subsidiary bank. Under certain
conditions, the FRB may conclude that certain actions of a bank holding company,
such as payment of cash dividends, would constitute unsafe and unsound banking
practices because they violate the FRB’s “source of strength”
doctrine.
A bank
holding company and its subsidiaries are prohibited from certain tie-in
arrangements in connection with any extension of credit, sale or lease of
property or furnishing of services. For example, with certain exceptions, a bank
may not condition an extension of credit on a promise by its customer to obtain
other services by it, its holding company or other subsidiaries, or on a promise
by its customer not to obtain services from a competitor. In addition, federal
law imposes certain restrictions between the Company and its subsidiaries,
including the Bank. As an affiliate of the Bank, the Company is subject, with
certain exceptions, to provisions of federal law imposing limitations on, and
requiring collateral for, extensions of credit by the Bank to its
affiliates.
As a
public company, United Security Bancshares is subject to the Sarbanes-Oxley Act
of 2002. The Sarbanes-Oxley Act amends the Securities and Exchange Act of 1934,
and is intended to protect investors by, among other things, improving the
reliability of financial reporting, increasing management accountability, and
increasing the independence of Directors and the Company’s external
accountants.
The
Company is subject to the periodic reporting requirements of the Securities
Exchange Act of 1934, as amended, which include but are not limited to the
filing of annual, quarterly and other current reports with the SEC.
The
Bank
The Bank
as a state-chartered bank is subject to regulation, supervision and regular
examination by the California Department of Financial Institutions. In addition,
The Bank is also a member of the Federal Reserve System and, as such, is subject
to applicable provisions of the Federal Reserve Act and regulations issued
thereunder and, is subject to regulation, supervision and regular examination by
the Federal Reserve Bank. The Bank is subject to California law, insofar as they
are not preempted by federal banking law. Deposits of the Bank are insured by
the FDIC up to the applicable limits in an amount up to $250,000 per customer,
and, as such, the Bank is subject to the regulations of the FDIC and the Federal
Deposit Insurance Act. As a consequence of the extensive regulation of
commercial banking activities in California and the United States, the Bank’s
business is particularly susceptible to changes in California and federal
legislation and regulation, which may have the effect of increasing the cost of
doing business, limiting permissible activities or increasing
competition.
Various
other requirements and restrictions under the laws of the United States and the
State of California affect the operations of the Bank. Federal and California
statutes and regulations relate to many aspects of the Bank’s operations,
including capital requirements and disclosure requirements to depositors and
borrowers, requirements to maintain reserves against deposits, limitations on
interest rates payable on deposits, loans, investments, and restrictions on
borrowings and on payment of dividends. The DFI regulates the number and
location of branch offices of a state-chartered bank, and may permit a bank to
maintain branches only to the extent allowable under state law for state banks.
California law presently permits a bank to locate a branch in any locality in
the state. Additionally, California law exempts banks from California usury
laws.
6
Capital
Standards. The FRB has risk-based
capital adequacy guidelines intended to provide a measure of capital adequacy
that reflects the degree of risk associated with a banking organization’s
operations for both transactions reported on the balance sheet as assets, and
transactions, such as letters of credit and recourse arrangements, which are
reported as off-balance-sheet items. Under these guidelines, nominal
dollar amounts of assets and credit equivalent amounts of off-balance-sheet
items are multiplied by one of several risk adjustment percentages, which range
from 0% for assets with low credit risk, such as certain U.S. government
securities, to 100% for assets with relatively higher credit risk, such as
business loans.
A banking
organization’s risk-based capital ratios are obtained by dividing its qualifying
capital by its total risk-adjusted assets and off-balance-sheet
items. The regulators measure risk-adjusted assets and
off-balance-sheet items against both total qualifying capital (the sum of Tier 1
capital and limited amounts of Tier 2 capital) and Tier 1
capital. Tier 1 capital consists of common stock, retained earnings,
noncumulative perpetual preferred stock and minority interests in certain
subsidiaries, less most other intangible assets. Tier 2 capital may
consist of a limited amount of the allowance for loan and lease losses and
certain other instruments with some characteristics of equity. The
inclusion of elements of Tier 2 capital is subject to certain other requirements
and limitations of the federal banking agencies. Since December 31,
1992, the FRB and the FDIC have required a minimum ratio of qualifying total
capital to risk-adjusted assets and off-balance-sheet items of 8%, and a minimum
ratio of Tier 1 capital to risk-adjusted assets and off-balance-sheet items of
4%.
In
addition to the risk-based guidelines, the FRB requires banking organizations to
maintain a minimum amount of Tier 1 capital to average total assets, referred to
as the leverage ratio. For a banking organization rated in the
highest of the five categories used by regulators to rate banking organizations,
the minimum leverage ratio of Tier 1 capital to total assets is
3%. It is improbable; however, that an institution with a 3% leverage
ratio would receive the highest rating by the regulators since a strong capital
position is a significant part of the regulators’ ratings. For all
banking organizations not rated in the highest category, the minimum leverage
ratio is at least 100 to 200 basis points above the 3% minimum. Thus,
the effective minimum leverage ratio, for all practical purposes, is at least 4%
or 5%. In addition to these uniform risk-based capital guidelines and
leverage ratios that apply across the industry, the FRB and FDIC have the
discretion to set individual minimum capital requirements for specific
institutions at rates significantly above the minimum guidelines and
ratios.
A bank
that does not achieve and maintain the required capital levels may be issued a
capital directive by the FDIC to ensure the maintenance of required capital
levels. As discussed above, we are required to maintain certain
levels of capital, as is the Bank. The regulatory capital guidelines
as well as the actual capitalization for the Bank and the Company as of December
31, 2009 follow:
|
Requirement
for the
Bank
to be:
|
||||||||||||||||
|
Adequately
Capitalized
|
Well
Capitalized
|
Company
|
Bank
|
|||||||||||||
|
Tier
1 leverage capital ratio
|
4.0 | % | 5.0 | % | 11.68 | % | 11.19 | % | ||||||||
|
Tier
1 risk-based capital ratio
|
4.0 | % | 6.0 | % | 13.03 | % | 12.47 | % | ||||||||
|
Total
risk-based capital ratio
|
8.0 | % | 10.0 | % | 14.30 | % | 13.70 | % | ||||||||
Prompt Corrective
Action. Federal banking agencies
possess broad powers to take corrective and other supervisory action to resolve
the problems of insured depository institutions, including those institutions
that fall below one or more prescribed minimum capital ratios described
above. An institution that, based upon its capital levels, is
classified as well capitalized, adequately capitalized, or undercapitalized may
be treated as though it were in the next lower capital category if the
appropriate federal banking agency, after notice and opportunity for hearing,
determines that an unsafe or unsound condition or an unsafe or unsound practice
warrants such treatment. At each successive lower capital category,
an insured depository institution is subject to more restrictions.
In
addition to measures taken under the prompt corrective action provisions,
commercial banking organizations may be subject to potential enforcement actions
by the federal regulators for unsafe or unsound practices in conducting their
businesses or for violations of any law, rule, regulation, or any condition
imposed in writing by the agency or any written agreement with the
agency. Enforcement actions may include the imposition of a
conservator or receiver, the issuance of a cease-and-desist order that can be
judicially enforced, the termination of insurance of deposits (in the case of a
depository institution), the imposition of civil money penalties, the issuance
of directives to increase capital, the issuance of formal and informal
agreements, the issuance of removal and prohibition orders against
institution-affiliated parties and the enforcement of such actions through
injunctions or restraining orders based upon a judicial determination that the
agency would be harmed if such equitable relief was not
granted. Additionally, a holding company’s inability to serve as a
source of strength to its subsidiary banking organizations could serve as an
additional basis for a regulatory action against the holding
company.
7
Premiums for Deposit
Insurance. The deposit insurance
fund of the FDIC insures our customer deposits up to prescribed limits for each
depositor. The Federal Deposit Insurance Reform Act of 2005 and the
Federal Deposit Insurance Reform Conforming Amendments Act of 2005 amended the
insurance of deposits by the FDIC and collection of assessments from insured
depository institutions for deposit insurance. The FDIC approved a
final rule in 2006 and amended the rule in February 2009 that sets an insured
depository institution’s assessment rate on different factors that pose a risk
of loss to the Deposit Insurance Fund, including the institution’s recent
financial ratios and supervisory ratings, and level of reliance on a significant
amount of secured liabilities or significant amount of brokered deposits (except
that the factor of brokered deposits will not be considered for well capitalized
institutions that are not accompanied by rapid growth). The FDIC also
in February 2009 set the assessment base rates to range between $0.12 to $0.16
per $100 of insured deposits on an annual basis. In May 2009, the FDIC imposed a
special assessment of 5 basis points on each insured depository institution’s
assets less its Tier 1 capital payable on September 30, 2009 with a ceiling of
10 basis points of an institution’s domestic deposits. In November 2009, the
FDIC approved a final rule to require all insured depository
institutions including the Bank to prepay three years of FDIC assessments in the
fourth quarter of 2009, except in the event such prepayment is waived by the
FDIC. The prepayment provision was waived for the Bank by the FDIC. Although the
Bank was exempted from the three-year prepayment assessment, amounts paid and
expensed for the quarterly FDIC insurance assessment increased significantly
during 2009 and may reduce the cash and liquidity of the Bank in subsequent
periods. Due to the significant losses at failed banks and expected losses for
banks that will fail, it is likely that FDIC insurance fund assessments on the
Bank will increase, and such assessments may materially adversely affect the
profitability of the Bank.
Any
increase in assessments or the assessment rate could have a material adverse
effect on our business, financial condition, results of operations or cash
flows, depending on the amount of the increase. Furthermore, the FDIC is
authorized to raise insurance premiums under certain circumstances.
The FDIC
is authorized to terminate a depository institution’s deposit insurance upon a
finding by the FDIC that the institution’s financial condition is unsafe or
unsound or that the institution has engaged in unsafe or unsound practices or
has violated any applicable rule, regulation, order or condition enacted or
imposed by the institution’s regulatory agency. The termination of
deposit insurance for the bank would have a material adverse effect on our
business, financial condition, results of operations and/or cash
flows.
Federal Home Loan Bank
System. The Bank is a member of the Federal Home Loan Bank of San
Francisco (the “FHLB-SF”). Among other benefits, each Federal Home
Loan Bank (“FHLB”) serves as a reserve or central bank for its members within
its assigned region. Each FHLB is financed primarily from the sale of
consolidated obligations of the FHLB system. Each FHLB makes
available loans or advances to its members in compliance with the policies and
procedures established by the Board of Directors of the individual FHLB. The
FHLB-SF utilizes a single class of stock with a par value of $100 per share,
which may be issued, exchanged, redeemed and repurchased only at par value. As
an FHLB member, the Bank is required to own FHLB –SF capital stock in an amount
equal to the greater of:
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a membership stock requirement
with an initial cap of $25 million (100% of “membership asset value” as
defined), or
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an activity based stock
requirement (based on percentage of outstanding
advances).
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The FHLB
– SF capital stock is redeemable on five years written notice, subject to
certain conditions. At December 31, 2009 the Bank owned 41,595 shares of the
FHLB-SF capital stock.
Federal
Reserve. The FRB requires all depository institutions to maintain
non-interest bearing reserves at specified levels against their transaction
accounts and non-personal time deposits. At December 31, 2009, we
were in compliance with these requirements.
Regulatory
Action
Effective
March 23, 2010, United Security Bancshares (the "Company") and its wholly owned
subsidiary, United Security Bank (the "Bank"), entered into a written agreement
with the Federal Reserve Bank of San Francisco. Under the terms of the
agreement, the Company and the Bank agreed, among other things, to strengthen
board oversight of management and the Bank's operations; submit an enhanced
written plan to strengthen credit risk management practices and improve the
Bank’s position on the past due loans, classified loans, and other real estate
owned; maintain a sound process for determining, documenting, and recording an
adequate allowance for loan and lease losses; improve the management of the
Bank's liquidity position and funds management policies; maintain sufficient
capital at the Company and Bank level; and improve the Bank’s earnings and
overall condition. The Company and Bank have also agreed not to increase or
guarantee any debt, purchase or redeem any shares of stock, declare or pay any
cash dividends, or pay interest on the Company's junior subordinated debt or
trust preferred securities, without prior written approval from the Federal
Reserve Bank.
8
This
agreement was a result of a regulatory examination that was conducted by the
Federal Reserve and the California Department of Financial Institutions in
June 2009, and relates primarily to the Bank’s asset quality. Progress on
these items has been made since the completion of the examination and management
and the Board are committed to resolving all of the items addressed by the
Federal Reserve in the agreement. Both the Company and the Bank will submit
quarterly written progress reports to the Federal Reserve Bank.
The
Company and the Bank have also received notification from the California
Department of Financial Institutions of their intention to issue a regulatory
order as a result of the June 2009 regulatory examination. The Company and the
Bank have not yet entered into an agreement with the California Department of
Financial Institutions, but believe that any agreement entered into, will be
similar to the current agreement with the Federal Reserve Bank of San
Francisco.
Effect
of Governmental Policies and Recent Legislation
Banking
has traditionally been a business that depends on rate differentials. In
general, the difference between the interest rate paid by the Company on its
deposits and other borrowings and the interest rate received on loans extended
to its customers and securities held in the Company's portfolio comprise the
major portion of the Company's earnings. These rates are highly sensitive to
many factors which are beyond the control of the Company. Accordingly, the
earnings and growth of the Company are subject to the influence of domestic and
foreign economic conditions, including, but not limited to, inflation, recession
and unemployment.
Impact of Monetary
Policies. The earnings and growth of the Company are affected not
only by general economic conditions, both domestic and foreign, but also by the
monetary and fiscal policies of the United States government and its agencies,
particularly the Federal Reserve Board (“FRB”). The FRB implements
national monetary policies (with objectives such as to curb inflation and combat
recession) by its open market operations in United States Government securities,
by adjusting the required level of reserves for financial institutions subject
to reserve requirements, and by varying the discount rates applicable to
borrowing by banks which are members of the Federal Reserve
System. The actions of the FRB in these areas influence the growth of
bank loans, investments and deposits and also affect interest rates charged on
loans and paid on deposits. The FRB’s policies have had a significant effect on
the operating results of commercial banks and are expected to continue to do so
in the future. The nature and timing of any future changes in
monetary policies are not predictable. In addition, adverse economic conditions
could make a higher provision for loan losses a prudent course and could cause
higher loan charge-offs, thus adversely affecting the Company’s net
income.
Extensions of Credit to
Insiders and Transactions with Affiliates. The Federal Reserve Act and FRB
Regulation O place
limitations and conditions on loans or extensions of credit to:
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a bank’s or bank holding
company’s executive officers, directors and principal shareholders
(i.e., in most cases, those persons
who own, control or have power to vote more than 10% of any class of
voting securities),
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any company controlled by any
such executive officer, director or shareholder,
or
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any political or campaign
committee controlled by such executive officer, director or principal
shareholder.
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Loans and
leases extended to any of the above persons must comply with
loan-to-one-borrower limits, require prior full board approval when aggregate
extensions of credit to the person exceed specified amounts, must be made on
substantially the same terms (including interest rates and collateral) as, and
follow credit-underwriting procedures that are not less stringent than, those
prevailing at the time for comparable transactions with non-insiders, and must
not involve more than the normal risk of repayment or present other unfavorable
features. In addition, Regulation O provides that the aggregate limit
on extensions of credit to all insiders of a bank as a group cannot exceed the
bank’s unimpaired capital and unimpaired surplus. Regulation O also
prohibits a bank from paying an overdraft on an account of an executive officer
or director, except pursuant to a written pre-authorized interest-bearing
extension of credit plan that specifies a method of repayment or a written
pre-authorized transfer of funds from another account of the officer or director
at the bank.
Consumer Protection Laws and
Regulations. The banking regulatory
agencies are focusing greater attention on compliance with consumer protection
laws and their implementing regulations. Examination and enforcement
have become more intense in nature, and insured institutions have been advised
to monitor carefully compliance with such laws and regulations. The
Company is subject to many federal and state consumer protection and privacy
statutes and regulations, some of which are discussed below.
9
The Community Reinvestment Act
(the “CRA”) is intended to encourage insured depository institutions, while
operating safely and soundly, to help meet the credit needs of their
communities. The CRA specifically directs the federal regulatory
agencies, in examining insured depository institutions, to assess a bank’s
record of helping meet the credit needs of its entire community, including low-
and moderate-income neighborhoods, consistent with safe and sound banking
practices. The CRA further requires the agencies to take a financial
institution’s record of meeting its community credit needs into account when
evaluating applications for, among other things, domestic branches, mergers or
acquisitions, or holding company formations. The agencies use
the CRA assessment factors in order to provide a rating to the financial
institution. The ratings range from a high of “outstanding” to a low
of “substantial noncompliance.” In its last examination for CRA
compliance, as of August 2005, the Bank was rated “satisfactory.”
The Equal Credit Opportunity Act
(the “ECOA”) generally prohibits discrimination in any credit transaction,
whether for consumer or business purposes, on the basis of race, color,
religion, national origin, sex, marital status, age (except in limited
circumstances), receipt of income from public assistance programs, or good faith
exercise of any rights under the Consumer Credit Protection Act.
The Truth in Lending Act (the
“TILA”) is designed to ensure that credit terms are disclosed in a meaningful
way so that consumers may compare credit terms more readily and
knowledgeably. As a result of the TILA, all creditors must use the
same credit terminology to express rates and payments, including the annual
percentage rate, the finance charge, the amount financed, the total of payments
and the payment schedule, among other things.
The Fair Housing Act (the “FH
Act”) regulates many practices, including making it unlawful for any lender to
discriminate in its housing-related lending activities against any person
because of race, color, religion, national origin, sex, handicap or familial
status. A number of lending practices have been found by the courts
to be, or may be considered, illegal under the FH Act, including some that are
not specifically mentioned in the FH Act itself.
The Home Mortgage Disclosure Act
(the “HMDA”), in response to public concern over credit shortages in certain
urban neighborhoods, requires public disclosure of information that shows
whether financial institutions are serving the housing credit needs of the
neighborhoods and communities in which they are located. The HMDA
also includes a "fair lending" aspect that requires the collection and
disclosure of data about applicant and borrower characteristics as a way of
identifying possible discriminatory lending patterns and enforcing
anti-discrimination statutes.
The Right to Financial Privacy
Act (the “RFPA”) imposes a new requirement for financial institutions to
provide new privacy protections to consumers. Financial institutions
must provide disclosures to consumers of its privacy
policy, and state the rights of consumers to direct their financial institution
not to share their nonpublic personal information with third
parties.
Finally,
the Real Estate Settlement
Procedures Act (the “RESPA”) requires lenders to provide noncommercial
borrowers with disclosures regarding the nature and cost of real estate
settlements. Also, RESPA prohibits certain abusive practices, such as
kickbacks, and places limitations on the amount of escrow accounts.
Penalties
for noncompliance or violations under the above laws may include fines,
reimbursement and other penalties. Due to heightened regulatory
concern related to compliance with CRA, ECOA, TILA, FH Act, HMDA, RFPA and RESPA
generally, the Company may incur additional compliance costs or be required to
expend additional funds for investments in its local communities.
From time
to time, legislation is enacted which has the effect of increasing the cost of
doing business, limiting or expanding permissible activities or affecting the
competitive balance between banks and other financial institutions. Proposals to
change the laws and regulations governing the operations and taxation of banks
and other financial institutions are frequently made in Congress, in the
California legislature and before various bank regulatory agencies. The
likelihood of any major change and the impact such change may have on the
Company is impossible to predict. Certain of the potentially significant changes
which have been enacted recently and other which are currently under
consideration by Congress or various regulatory agencies or professional
agencies are discussed below.
Recent
Legislation and Other Changes
Federal
and state laws affecting banking are enacted from time to time, and similarly
federal and state regulations affecting banking are also adopted from time to
time. The following include some of the recent laws and regulations
affecting banking.
10
In May
2009 the Helping Families Save Their Homes Act of 2009 was enacted to help
consumers avoid mortgage foreclosures on their homes through certain loss
mitigation actions including special forbearance, loan modification,
pre-foreclosure sale, deed in lieu of foreclosure, support for borrower housing
counseling, subordinate lien resolution, and borrower relocation. The
new law permits the Secretary of Housing and Urban Development (HUD), for
mortgages either in default or facing imminent default, to: (1) authorize the
modification of such mortgages; and (2) establish a program for payment of a
partial claim to a mortgagee who agrees to apply the claim amount to payment of
a mortgage on a 1- to 4-family residence. In implementing the law,
the Secretary of HUD is authorized to (1) provide compensation to the mortgagee
for lost income on monthly mortgage payments due to interest rate reduction; (2)
reimburse the mortgagee from a guaranty fund in connection with activities that
the mortgagee is required to undertake concerning repayment by the mortgagor of
the amount owed to HUD; (3) make payments to the mortgagee on behalf of the
borrower, under terms defined by HUD; and (4) make mortgage modification with
terms extended up to 40 years from the modification date. The new law
also authorizes the Secretary of HUD to: (1) reassign the mortgage to the
mortgagee; (2) act as a Government National Mortgage Association (GNMA, or
Ginnie Mae) issuer, or contract with an entity for such purpose, in order to
pool the mortgage into a Ginnie Mae security; or (3) resell the mortgage in
accordance with any program established for purchase by the federal government
of insured mortgages. The new law also amends the Foreclosure
Prevention Act of 2008, with respect to emergency assistance for the
redevelopment of abandoned and foreclosed homes (neighborhood stabilization), to
authorize each state that has received certain minimum allocations and has
fulfilled certain requirements, to distribute any remaining amounts to areas
with homeowners at risk of foreclosure or in foreclosure without regard to the
percentage of home foreclosures in such areas.
Also in
May 2009, the Credit Card Act of 2009 was enacted to help consumers and ban
certain practices of credit card issuers. The new law allows interest
rate hikes on existing balances only under limited conditions, such as when a
promotional rate ends, there is a variable rate or if the cardholder makes a
late payment. Interest rates on new transactions can increase only
after the first year. Significant changes in terms on accounts cannot
occur without 45 days' advance notice of the change. The new law bans
raising interest rates on customers based on their payment records with other
unrelated credit issuers (such as utility companies and other creditors) for
existing credit card balances, though card issuers would still be allowed to use
universal default on future credit card balances if they give at least 45 days'
advance notice of the change. The new law allows
consumers to opt out of certain significant changes in terms on their
accounts. Opting out means cardholders agree to close their accounts
and pay off the balance under the old terms. They have at least five
years to pay the balance. Credit card issuers will
be banned from issuing credit cards to anyone under 21, unless they have adult
co-signers on the accounts or can show proof they have enough income to repay
the card debt. Credit card companies must stay at least 1,000 feet
from college campuses if they are offering free pizza or other gifts to entice
students to apply for credit cards.
The new
law requires card issuers to give card account holders "a reasonable amount of
time" to make payments on monthly bills. That means payments would be
due at least 21 days after they are mailed or delivered. Credit card
issuers would no longer be able to set early morning or other arbitrary
deadlines for payments. When consumers have accounts
that carry different interest rates for different types of
purchases payments in excess of the minimum amount due must go to
balances with higher interest rates first. Consumers
must "opt in" to over-limit fees. Those who opt out would have their
transactions rejected if they exceed their credit limits, thus avoiding
over-limit fees. Fees charged for going over the limit must be
reasonable. Finance charges on outstanding credit
card balances would be computed based on purchases made in the current cycle
rather than going back to the previous billing cycle to calculate interest
charges. Fees on credit cards cannot exceed 25 percent of the
available credit limit in the first year of the card. Credit card issuers must disclose to cardholders the
consequences of making only minimum payments each month, namely how long it
would take to pay off the entire balance if users only made the minimum monthly
payment. Issuers must also provide information on how much users must
pay each month if they want to pay off their balances in 36 months, including
the amount of interest.
On
February 17, 2009, the American Recovery and Reinvestment Act of 2009 (“ARRA”)
was enacted to provide stimulus to the struggling US economy. ARRA
authorizes spending of $787 billion, including about $288 billion for tax
relief, $144 billion for state and local relief aid, and $111 billion for
infrastructure and science. In addition, ARRA includes additional
executive compensation restrictions for recipients of funds from the US Treasury
under the Troubled Assets Relief Program of the Emergency Economic Stimulus Act
of 2008 (“EESA”). The provisions of EESA amended by the ARRA include
(i) expanding the coverage of the executive compensation limits to as many as
the 25 most highly compensated employees of a TARP funds recipient and its
affiliates for certain aspects of executive compensation limits and (ii)
specifically limiting incentive compensation of covered executives to one-third
of their annual compensation which is required to be paid in restricted stock
that does not vest until all of the TARP funds are no longer outstanding (note
that if TARP warrants remain outstanding and no other TARP instruments are
outstanding, then such warrants would not be considered outstanding for purposes
of this incentive compensation restriction. In addition, the board of
directors of any TARP recipient is required under EESA, as amended to have a
company-wide policy regarding excessive or luxury expenditures, as identified by
the Treasury, which may include excessive expenditures on entertainment or
events; office and facility renovations; aviation or other transportation
services; or other activities or events that are not reasonable expenditures for
staff development, reasonable performance incentives, or other similar measures
conducted in the normal course of the business operations of the TARP
recipient.
11
EESA, as
amended by ARRA, provides for a new incentive compensation restriction for
financial institutions receiving TARP funds. The number of executives
and employees covered by this new incentive compensation restriction depends on
the amount of TARP funds received by such entity. For community banks
that have or will receive less than $25 million, the new incentive compensation
restriction applies only to the highest paid employee. This new incentive
compensation restriction prohibits a TARP recipient from paying or accruing any
bonus, retention award, or incentive compensation during the period in which any
TARP obligation remains outstanding, except that such prohibition shall not
apply to the payment of long-term restricted stock by such TARP recipient,
provided that such long-term restricted stock (i) does not fully vest during the
period in which any TARP obligation remains outstanding, (ii) has a value in an
amount that is not greater than 1/3 of the total amount of annual compensation
of the employee receiving the stock; and (iii) is subject to such other terms
and conditions as the Secretary of the Treasury may determine is in the public
interest. In addition, this prohibition does not prohibit any bonus
payment required to be paid pursuant to a written employment contract executed
on or before February 11, 2009, as such valid employment contracts are
determined by the Treasury.
EESA was
amended by ARRA to also provide additional corporate governance provisions with
respect to executive compensation including the following:
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ESTABLISHMENT
OF STANDARDS - During the period in which any TARP obligation remains
outstanding, each TARP recipient shall be subject to the standards in the
regulations issued by the Treasury with respect to executive compensation
limitations for TARP recipients, and the provisions of section 162(m)(5)
of the Internal Revenue Code of 1986, as applicable (nondeductibility of
executive compensation in excess of
$500,000).
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COMPLIANCE
WITH STANDARDS - The Treasury is required to see that each TARP recipient
meet the required standards for executive compensation and corporate
governance.
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SPECIFIC
REQUIREMENTS FOR THE REQUIRED STANDARDS
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Limits
on compensation that exclude incentives for senior executive officers of
the TARP recipient to take unnecessary and excessive risks that threaten
the value of the financial institution during the period in which any TARP
obligation remains outstanding.
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A
clawback requirement by such TARP recipient of any bonus, retention award,
or incentive compensation paid to a senior executive officer and any of
the next 20 most highly-compensated employees of the TARP recipient based
on statements of earnings, revenues, gains, or other criteria that are
later found to be materially
inaccurate.
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A
prohibition on such TARP recipient making any golden parachute payment to
a senior executive officer or any of the next 5 most highly-compensated
employees of the TARP recipient during the period in which any TARP
obligation remains outstanding.
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A
prohibition on any compensation plan that would encourage manipulation of
the reported earnings of such TARP recipient to enhance the compensation
of any of its employees.
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A
requirement for the establishment of an independent Compensation Committee
that meets at least twice a year to discuss and evaluate employee
compensation plans in light of an assessment of any risk posed to the TARP
recipient from such plans. For a non SEC company that is a TARP
recipient that has received $25,000,000 or less of TARP assistance, the
duties of the compensation committee may be carried out by the board of
directors of such TARP recipient.
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In
addition, EESA as amended by ARRA provides that for any TARP recipient, its
annual meeting materials shall include a nonbinding shareholder approval
proposal of executive compensation for shareholders to vote. The SEC
is to establish regulations to implement this provision. While
nonpublic companies are required to include this proposal, it is not known what
the regulations will provide as to executive compensation disclosure
requirements of such TARP recipients, and whether they will be as extensive as
the existing SEC executive compensation requirements. In addition,
shareholders are allowed to present other nonbinding proposals with respect to
executive compensation.
ARRA also
provides $730 million to the SBA and makes changes to the agency’s lending and
investment programs so that they can reach more small businesses that need help.
The funding includes:
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$375
million for temporarily eliminating fees on SBA-backed loans and raising
SBA's guarantee percentage on some loans to 90
percent.
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$255
million for a new loan program to help small businesses meet existing debt
payments
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$30
million for expanding SBA’s Microloan program, enough to finance up to $50
million in new lending and $24 million in technical assistance grants to
microlenders.
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12
On
February 10, 2009, the U. S. Treasury, the Federal Reserve Board, the FDIC, the
Office of the Comptroller of the Currency, and the Office of Thrift Supervision
all announced a comprehensive set of measures to restore confidence in the
strength of U.S. financial institutions and restart the critical flow of credit
to households and businesses. This program is intended to restore the
flows of credit necessary to support recovery.
The core
program elements include:
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A
new Capital Assistance Program to help ensure that our banking
institutions have sufficient capital to withstand the challenges ahead,
paired with a supervisory process to produce a more consistent and
forward-looking assessment of the risks on banks' balance sheets and their
potential capital needs.
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A
new Public-Private Investment Fund on an initial scale of up to $500
billion, with the potential to expand up to $1 trillion, to catalyze the
removal of legacy assets from the balance sheets of financial
institutions. This fund will combine public and private capital with
government financing to help free up capital to support new
lending.
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A
new Treasury and Federal Reserve initiative to dramatically expand – up to
$1 trillion – the existing Term Asset-Backed Securities Lending Facility
(TALF) in order to reduce credit spreads and restart the securitized
credit markets that in recent years supported a substantial portion of
lending to households, students, small businesses, and
others.
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An
extension of the FDIC's Temporary Liquidity Guarantee Program to October
31, 2009. A new framework of governance and oversight to help ensure that
banks receiving funds are held responsible for appropriate use of those
funds through stronger conditions on lending, dividends and executive
compensation along with enhanced reporting to the
public.
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In
October 2008, the President signed the Emergency Economic Stabilization Act of
2008 (“EESA”), in response to the global financial crisis of 2008 authorizing
the United States Secretary of the Treasury with authority to spend up to $700
billion to purchase distressed assets, especially mortgage-backed securities,
under the Troubled Assets Relief Program (“TARP”) and make capital injections
into banks under the Capital Purchase Program. EESA gives the
government the unprecedented authority to buy troubled assets on balance sheets
of financial institutions under the Troubled Assets Relief Program and increases
the limit on insured deposits from $100,000 to $250,000 through December 31,
2009. Some of the other provisions of EESA are as
follows:
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accelerated
from 2011 to 2008 the date that the Federal Reserve Bank could pay
interest on deposits of banks held with the Federal Reserve to meet
reserve requirements;
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to
the extent that the U. S. Treasury purchases mortgage securities as part
of TARP, the Treasury shall implement a plan to minimize foreclosures
including using guarantees and credit enhancements to support reasonable
loan modifications, and to the extent loans are owned by the government to
consent to the reasonable modification of such
loans;
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limits
executive compensation for executives for TARP participating financial
institutions including a maximum corporate tax deduction limit of $500,000
for each of the top five highest paid executives of such institution,
requiring clawbacks of incentive compensation that were paid based on
inaccurate or false information, limiting golden parachutes for
involuntary and certain voluntary terminations to 2.99x their average
annual salary and bonus for the last five years, and prohibiting the
payment of incentive compensation that encourages management to take
unnecessary and excessive risks with respect to the
institution;
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extends
the mortgage debt forgiveness provision of the Mortgage Forgiveness Debt
Relief Act of 2007 by three years (2012) to ease the income tax burden on
those involved with certain foreclosures;
and
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qualified
financial institutions may count losses on FNMA and FHLMC preferred stock
against ordinary income, rather than capital gain
income.
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On
February 10, 2009, the Treasury Secretary announced a new comprehensive
financial stability legislation (the “Financial Stability Plan”), which
earmarked the second $350 billion of unused funds originally authorized under
the EESA. The major elements of the Financial Stability Plan
included: (i) a capital assistance program that has invested in convertible
preferred stock of certain qualifying institutions, (ii) a consumer and business
lending initiative to fund new consumer loans, small business loans and
commercial mortgage asset-backed securities issuances, (iii) a public/private
investment fund intended to leverage public and private capital with public
financing to purchase up to $500 billion to $1 trillion of legacy “toxic assets”
from financial institutions, and (iv) assistance for homeowners by providing up
to $75 billion to reduce mortgage payments and interest rates and establishing
loan modification guidelines for government and private programs.
On
October 22, 2009, the Federal Reserve Board issued a comprehensive proposal on
incentive compensation policies intended to ensure that the incentive
compensation policies of banking organizations do not undermine the safety and
soundness of such organizations by encouraging excessive
risk-taking. The proposal, which covers all employees that have the
ability to materially affect the risk profile of an organization, either
individually or as part of a group, is based upon the key principles that a
banking organization’s incentive compensation arrangements should (i) provide
incentives that do not encourage risk-taking beyond the organization’s ability
to effectively identify and manage risks, (ii) be compatible with effective
internal controls and risk management, and (iii) be supported by strong
corporate governance, including active and effective oversight by the
organization’s board of directors. The proposal also contemplates a detailed
review by the Federal Reserve Board of the incentive compensation policies and
practices of a number of “large, complex banking organizations.” Any
deficiencies in compensation practices that are identified may be incorporated
into the organization’s supervisory ratings, which can affect its ability to
make acquisitions or perform other actions. In addition, the proposal
provides that enforcement actions may be taken against a banking organization if
its incentive compensation arrangements or related risk-management control or
governance processes pose a risk to the organization’s safety and soundness and
the organization is not taking prompt and effective measures to correct the
deficiencies. Similarly, on January 12, 2010, the FDIC announced that
it would seek public comment through advance notice of rule making on whether
banks with compensation plans that encourage risky behavior should be charged at
higher deposit assessment rates than such banks would otherwise be
charged.
13
On September 3, 2009, the U.S. Treasury
issued a policy statement entitled “Principles for Reforming the U.S. and
International Regulatory Capital Framework for Banking Firms.” The
statement was developed in consultation with the U.S. bank regulatory agencies
and sets forth eight “core principles” intended to shape a new international capital
accord. Six of the core principles relate directly to bank capital
requirements. The statement contemplates changes to the existing regulatory
capital regime that would involve substantial revisions to, if not replacement
of, major parts of the Basel I and Basel II and affect all regulated banking
organizations and other systemically important institutions. The
statement calls for higher and stronger capital requirements for bank and
non-bank financial firms that are deemed to pose a risk to financial stability
due to their combination of size, leverage, interconnectedness and liquidity
risk. The statement suggested that changes to the regulatory capital
framework be phased in over a period of several years with a recommended
schedule providing for a comprehensive international agreement by December 31,
2010, with the implementation of reforms by December 31, 2012, although it does
remain possible that U.S. bank regulatory agencies could officially adopt, or
informally implement, new capital standards at an earlier
date. Following the issuance of the statement, on December 17, 2009,
the Basel committee issued a set of proposals (the “Capital Proposals”) that
would significantly revise the definitions of Tier 1 capital and Tier 2 capital,
with the most significant changes being to Tier 1 capital. Most
notably, the Capital Proposals would disqualify certain structured capital
instruments, such as trust preferred securities, from Tier 1 capital
status. The Capital Proposals would also re-emphasize that common
equity is the predominant component of Tier 1 capital by adding a minimum common
equity to risk-weighted assets ratio and requiring that goodwill, general
intangibles and certain other items that currently must be deducted from Tier 1
capital instead be deducted from common equity as a component of Tier 1 capital.
The Capital Proposals also leave open the possibility that the Basel committee
will recommend changes to the minimum Tier 1 capital and total capital ratios of
4.0% and 8.0%, respectively. Concurrently with the release of the
Capital Proposals, the Basel committee also released a set of proposals related
to liquidity risk exposure (the “Liquidity Proposals”). The Liquidity
Proposals have three key elements, including the implementation of (i) a
“liquidity coverage ratio” designed to ensure that a bank maintains an adequate
level of unencumbered, high-quality assets sufficient to meet the bank’s
liquidity needs over a 30-day time horizon under an acute liquidity stress
scenario, (ii) a “net stable funding ratio” designed to promote more medium and
long-term funding of the assets and activities of banks over a one-year time
horizon, and (iii) a set of monitoring tools that the Basel committee indicates
should be considered as the minimum types of information that banks should
report to supervisors and that supervisors should use in monitoring the
liquidity risk profiles of supervised entities.
In June
2009, the Administration proposed a wide range of regulatory reforms that, if
enacted, may have significant effects on the financial services industry in the
United States. Significant aspects of the Administration’s proposals
included, among other things, proposals (i) that any financial firm whose
combination of size, leverage and interconnectedness could pose a threat to
financial stability be subject to certain enhanced regulatory requirements, (ii)
that federal bank regulators require loan originators or sponsors to retain part
of the credit risk of securitized exposures, (iii) that there be increased
regulation of broker-dealers and investment advisers, (iv) for the creation of a
federal consumer financial protection agency that would, among other things, be
charged with applying consistent regulations to similar products (such as
imposing certain notice and consent requirements on consumer overdraft lines of
credit), (v) that there be comprehensive regulation of OTC derivatives, (vi)
that the controls on the ability of banking institutions to engage in
transactions with affiliates be tightened, and (vii) that financial holding
companies be required to be “well-capitalized” and “well-managed” on a
consolidated basis. The Congress, state lawmaking bodies and federal
and state regulatory agencies continue to consider a number of wide-ranging and
comprehensive proposals for altering the structure, regulation and competitive
relationships of the nation’s financial institutions, including rules and
regulations related to the broad range of reform proposals set forth by the
Obama administration described above. Along with amendments to the
Administration’s proposal there are separate comprehensive financial reform
bills intended to address in part or whole or vary in part or in whole from the
proposals set forth by the Administration were introduced in both houses of
Congress in the second half of 2009 and in 2010 and remain under review by both
the U.S. House of Representatives and the U.S. Senate.
14
The
Temporary Liquidity Guarantee Program was implemented by the FDIC on October 14,
2008 to mitigate the lack of liquidity in the financial markets. The
Temporary Liquidity Guarantee Program has two primary components: the Debt
Guarantee Program, by which the FDIC will guarantee the payment of certain
newly-issued senior unsecured debt, and the Transaction Account Guarantee
Program, by which the FDIC will guarantee certain noninterest-bearing and low
interest-bearing transaction accounts. The Debt Guarantee Program
provides for an FDIC guarantee as to the payment of all senior unsecured debt
(with a term of more than 30 days) issued by a qualified participating entity
(insured depository institutions, bank and financial holding companies, and
certain savings and loan holding companies) up to a limit of 125 percent of all
senior unsecured debt outstanding on September 30, 2008, and maturing by June
30, 2009. The FDIC guarantee is until June 30, 2012, and the fee for
such guarantee depends on the term with a maximum of 100 basis points for terms
in excess of 365 days. The Transaction Account Guarantee
Program is the second part of the FDIC’s Temporary Liquidity Guarantee
Program. The FDIC provides for a temporary full guarantee held at a
participating FDIC-insured depository institution of noninterest-bearing and low
interest-bearing transaction accounts above the existing deposit insurance limit
at the additional cost of 10 basis points per annum. This coverage
became effective on October 14, 2008, and would continue through December 31,
2009.
On July
30, 2008, the Housing and Economic Recovery Act was signed the
President. It authorizes the Federal Housing Administration to
guarantee up to $300 billion in new 30-year fixed rate mortgages for subprime
borrowers if lenders write-down principal loan balances to 90 percent of current
appraisal value. It is also intended to restore confidence in Fannie
Mae and Freddie Mac by strengthening regulations and injecting capital into
them. States will be authorized to refinance subprime loans using
mortgage revenue bonds. It also establishes the Federal Housing
Finance Agency out of the Federal Housing Finance Board and Office of Federal
Housing Enterprise Oversight.
In 2008,
the Federal Reserve Board, the FDIC, the Office of the Comptroller of the
Currency, and the Office of Thrift Supervision amended their regulatory capital
rules to permit banks, bank holding companies, and savings associations (as to
any of these a “financial institution”) to reduce the amount of goodwill that a
banking organization must deduct from Tier 1 capital by the amount of any
deferred tax liability associated with that goodwill. However, a
financial institution that reduces the amount of goodwill deducted from Tier 1
capital by the amount of the deferred tax liability is not permitted to net this
deferred tax liability against deferred tax assets when determining regulatory
capital limitations on deferred tax assets. For these financial
institutions, the amount of goodwill deducted from Tier 1 capital will reflect
each institution’s maximum exposure to loss in the event that the entire amount
of goodwill is impaired or derecognized, an event which triggers the concurrent
derecognition of the related deferred tax liability for financial reporting
purposes.
On
October 7, 2008 the FDIC adopted a restoration plan that would increase the
rates banks pay for deposit insurance, and proposed rules for adjusting the
system that determines what deposit insurance premium rate a bank pays the
FDIC. Currently, banks pay anywhere from five basis points to 43
basis points for deposit insurance. Under the proposal rule, the assessment rate
schedule would be raised uniformly by 7 basis points (annualized) beginning on
January 1, 2009. Beginning with the second quarter of 2009, changes
would be made to the deposit insurance assessment system to make the increase in
assessments fairer by requiring riskier institutions to pay a larger
share. Together, the proposed changes would improve the way the
system differentiates risk among insured institutions and help ensure that the
reserve ratio returns to at least 1.15 percent by the end of
2013. The proposed changes to the assessment system include assessing
higher rates to institutions with a significant reliance on secured liabilities,
which generally raises the FDIC's loss in the event of failure without providing
additional assessment revenue. The proposal also would assess higher
rates for institutions with a significant reliance on brokered deposits but, for
well-managed and well-capitalized institutions, only when accompanied by rapid
asset growth. Brokered deposits combined with rapid asset growth have
played a role in a number of costly failures, including some recent
ones. The proposal also would provide incentives in the form of a
reduction in assessment rates for institutions to hold long-term unsecured debt
and, for smaller institutions, high levels of Tier 1 capital. The
FDIC also voted to maintain the Designated Reserve Ratio at 1.25 percent as a
signal of its long term target for the fund.
The
Federal Reserve Board in October 2008 approved final amendments to Regulation C
that revise the rules for reporting price information on higher-priced mortgage
loans. The changes are intended to improve the accuracy and usefulness of
data reported under the Home Mortgage Disclosure Act. Regulation C
currently requires lenders to collect and report the spread between the annual
percentage rate (APR) on a mortgage loan and the yield on a Treasury security of
comparable maturity if the spread is greater than 3.0 percentage points for a
first lien loan or greater than 5.0 percentage points for a subordinate lien
loan. This difference is known as a rate spread. Under the
final rule, a lender will report the spread between the loan's APR and a
survey-based estimate of APRs currently offered on prime mortgages of a
comparable type ("average prime offer rate") if the spread is equal to or
greater than 1.5 percentage points for a first lien loan or equal to or greater
than 3.5 percentage points for a subordinate-lien loan. The Board will
publish average prime offer rates based on the Primary Mortgage Market Survey®
currently published by Freddie Mac. In setting the rate spread reporting
threshold, the Board sought to cover subprime mortgages and generally avoid
covering prime mortgages. The changes to Regulation C conform the
threshold for rate spread reporting to the definition of higher-priced mortgage
loans adopted by the Board under Regulation Z (Truth in Lending) in July of
2008.
15
The
Federal Reserve Board in July 2008 approved a final rule for home mortgage loans
to better protect consumers and facilitate responsible lending. The rule
prohibits unfair, abusive or deceptive home mortgage lending practices and
restricts certain other mortgage practices. The final rule also
establishes advertising standards and requires certain mortgage disclosures to
be given to consumers earlier in the transaction. The final rule, which
amends Regulation Z (Truth in Lending) and was adopted under the Home Ownership
and Equity Protection Act (HOEPA), largely follows a proposal released by the
Board in December 2007, with enhancements that address ensuing public comments,
consumer testing, and further analysis.
The final
rule adds four key protections for a newly defined category of "higher-priced
mortgage loans" secured by a consumer's principal dwelling. For loans in
this category, these protections will:
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Prohibit
a lender from making a loan without regard to borrowers' ability to repay
the loan from income and assets other than the home's value. A
lender complies, in part, by assessing repayment ability based on the
highest scheduled payment in the first seven years of the
loan. To show that a lender violated this prohibition, a
borrower does not need to demonstrate that it is part of a "pattern or
practice."
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Require
creditors to verify the income and assets they rely upon to determine
repayment ability.
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Ban
any prepayment penalty if the payment can change in the initial four
years. For other higher-priced loans, a prepayment penalty period
cannot last for more than two
years.
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Require
creditors to establish escrow accounts for property taxes and homeowner's
insurance for all first-lien mortgage
loans.
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In
addition to the rules governing higher-priced loans, the rules adopt the
following protections for loans secured by a consumer's principal dwelling,
regardless of whether the loan is higher-priced:
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Creditors
and mortgage brokers are prohibited from coercing a real estate appraiser
to misstate a home's value.
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Companies
that service mortgage loans are prohibited from engaging in certain
practices, such as pyramiding late fees. In addition, servicers are
required to credit consumers' loan payments as of the date of receipt and
provide a payoff statement within a reasonable time of
request.
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Creditors
must provide a good faith estimate of the loan costs, including a schedule
of payments, within three days after a consumer applies for any mortgage
loan secured by a consumer's principal dwelling, such as a home
improvement loan or a loan to refinance an existing loan. Currently,
early cost estimates are only required for home-purchase loans.
Consumers cannot be charged any fee until after they receive the early
disclosures, except a reasonable fee for obtaining the consumer's credit
history.
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For all
mortgages, the rule also sets additional advertising standards.
Advertising rules now require additional information about rates, monthly
payments, and other loan features. The final rule bans seven deceptive or
misleading advertising practices, including representing that a rate or payment
is "fixed" when it can change. The rule's definition of "higher-priced
mortgage loans" will capture virtually all loans in the subprime market, but
generally exclude loans in the prime market. To provide an index, the
Federal Reserve Board will publish the "average prime offer rate," based on a
survey currently published by Freddie Mac. A loan is higher-priced if it
is a first-lien mortgage and has an annual percentage rate that is 1.5
percentage points or more above this index, or 3.5 percentage points if it is a
subordinate-lien mortgage. The new rules take effect on October 1,
2009. The single exception is the escrow *requirement, which will be
phased in during 2010 to allow lenders to establish new systems as
needed.
In
California, the enactment of AB329 in 2009, the Reverse Mortgage Elder
Protection Act of 2009 prohibits a lender or any other person who participates
in the origination of the mortgage from participation in, being associated with,
or employing any party that participates in or is associated with any other
financial or insurance activity or referring a prospective borrower to anyone
for the purchase of other financial or insurance products; and imposes certain
disclosure requirements on the lender.
The
enactment of AB1160 in 2009, requires a supervised financial institution in
California that negotiates primarily in any of a number of specified languages
in the course of entering into a contract or agreement for a loan or extension
of credit secured by residential real property, to deliver, prior to the
execution of the contract or agreement, and no later than 3 business days after
receiving the written application, a specified form in that language summarizing
the terms of the contract or agreement; provides for administrative penalties
for violations; and requires the California Department of Corporations and the
Department of Financial Institutions to create a form for providing translations
and make it available in Spanish, Chinese, Tagalog, Vietnamese and
Korean. The statute becomes operative on July 1, 2010, or 90 days
after issuance of the form, whichever occurs later.
The
enactment of AB 1291 in 2009 makes changes to the California Unclaimed Property
Law including (among other things): allowing electronic notification to
customers who have consented to electronic notice; requiring that notices
contain certain information and allow the holder to provide electronic means to
enable the owner to contact the holder in lieu of returning the prescribed form
to declare the owner’s intent; authorizing the holder to give additional
notices; and requiring, beginning January 1, 2011, a banking or financial
organization to provide a written notice regarding escheat at the time a new
account or safe deposit box is opened.
16
The
enactment of SB306 makes specified changes to clarify existing law related to
filing a notice of default on residential real property in California, including
(among other things): clarifying that the provisions apply to mortgages and
deeds of trust recorded from January 1, 2003 through December 31, 2007, secured
by owner-occupied 3 4 residential real property containing no more than 4
dwelling units; revising the declaration to be filed with the notice of default;
specifying how the loan servicers have to maximize net present value under their
pooling and servicing agreements applies to certain investors; specifying how
and when the notice to residents of property subject to foreclosure is to be
mailed; and extending the time during which the notice of sale must be recorded
from 14 to 20 days. The bill also makes certain changes related to
short-pay agreements and short-pay demand statements.
On
February 20, 2009, Governor Schwarzenegger signed ABX2 7 and SBX2 7, which
established the California Foreclosure Prevention Act. The California
Foreclosure Prevention Act modifies the foreclosure process to provide
additional time for borrowers to work out loan modifications while providing an
exemption for mortgage loan servicers that have implemented a comprehensive loan
modification program. Civil Code Section 2923.52 requires an additional 90 day
period beyond the period already provided before a Notice of Sale can be given
in order to allow all parties to pursue a loan modification to prevent
foreclosure of loans meeting certain criteria identified in that
section.
A
mortgage loan servicer who has implemented a comprehensive loan modification
program may file an application for exemption from the provisions of Civil Code
Section 2923.52. Approval of this application provides the mortgage
loan servicer an exemption from the additional 90-day period before filing the
Notice of Sale when foreclosing on real property covered by the new
law.
California
Assembly Bill 1301 was signed by the Governor on July 16, 2008 and became law on
January 1, 2009. Among other things, the bill eliminated unnecessary
applications that consume time and resources of bank licensees and which in many
cases are now perfunctory. All of current Article 5 – “Locations of
Head Office” of Chapter 3, and all of Chapter 4 – “Branch Offices, Other Places
of Business and Automated Teller Machines” were repealed. A new
Chapter 4 – “Bank Offices” was added. The new Chapter 4 requires
notice to the California Department of Financial Institutions (“DFI”) the
establishment of offices, rather than the current application
process. Many of the current branch applications are perfunctory in
nature and/or provide for a waiver of application. Banks, on an
exception basis, may be subject to more stringent requirements as deemed
necessary. As an example, new banks, banks undergoing a change in
ownership and banks in less than satisfactory condition may be required to
obtain prior approval from the DFI before establishing offices if such activity
is deemed to create an issue of safety and soundness. The bill
eliminated unnecessary provisions in the Banking Law that are either outdated or
have become undue restrictions to bank licensees. Chapter 6 – “Powers
and Miscellaneous Provisions” was repealed. A new Chapter 6 -
“Restrictions and Prohibited Practices” was added. This chapter
brings together restrictions in bank activities as formerly found in Chapter 18
– “Prohibited Practices and Penalties.” However, in bringing the
restrictions into the new chapter, various provisions were updated to remove the
need for prior approval by the DFI Commissioner. The bill renumbered
current Banking Law sections to align like sections. Chapter 4.5 –
“Authorizations for Banks” was added. The purpose of the chapter is to provide
exceptions to certain activities that would otherwise be prohibited by other
laws outside of the Financial Code. The bill added Article 1.5 -
“Loan and Investment Limitations” to Chapter 10 – “Commercial
Banks.” This article is new in concept and acknowledges that
investment decisions are business decisions – so long as there is a
diversification of the investments to spread any risk. The risk is
diversified in this article by placing a limitation on the loans and investments
that can be made to any one entity. This section is a trade-off for
elimination of applications to the DFI for approval of investments in
securities, which were repealed.
Other
changes AB 1301 made to the Banking Law:
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Authorized
a bank or trust acting in any capacity under a court or private trust to
arrange for the deposit of securities in a securities depository or
federal reserve bank, and provided how they may be held by the securities
depository;
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Reduced
from 5% to 1% the amount of eligible assets to be maintained at an
approved depository by an office of a foreign (other nation) bank for the
protection of the interests of creditors of the bank’s business in this
state or for the protection of the public
interest;
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Enabled
the DFI to issue an order against a bank licensee parent or
subsidiary;
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Provided
that the examinations may be conducted in alternate examination periods if
the DFI concludes that an examination of the state bank by the appropriate
federal regulator carries out the purpose of this section, but the DFI may
not accept two consecutive examination reports made by federal
regulators;
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Provided
that the DFI may examine subsidiaries of every California state bank,
state trust company, and foreign (other nation) bank to the extent and
whenever and as often as the DFI shall deem
advisable;
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Enabled
the DFI issue an order or a final order to now include any bank holding
company or subsidiary of the bank, trust company, or foreign banking
corporation that is violating or failing to comply with any applicable
law, or is conducting activities in an unsafe or injurious
manner;
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17
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Enabled
the DFI to take action against a person who has engaged in or participated
in any unsafe or unsound act with regard to a bank, including a former
employee who has left the
bank.
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It is
impossible to predict what effect the enactment of certain of the
above-mentioned legislation will have on the Company. Moreover, it is
likely that other bills affecting the business of banks may be introduced in the
future by the United States Congress or California legislature.
Employees
At
December 31, 2009, the Company employed 141 persons on a full-time equivalent
basis. The Company believes its employee relations are excellent.
Available
Information
The
Company files period reports and other reports under the Securities and Exchange
Act of 1934 with the Securities and Exchange Commission (SEC). These
reports, as well as the Company’s Code of Ethics, are posted and are available
at no cost on the Company’s website at http://www.unitedsecuritybank.com as soon
as reasonably practical after the Company files such reports with the SEC. The
Company’s periodic and other reports filed with the SEC are also available at
the SEC’s website (http://www.sec.gov).
Item
1A. Risk Factors
There are
risk factors that may affect the Company’s business and impact the results of
operations, some of which are beyond the control of the Company.
Difficult market conditions
and economic trends have adversely affected the banking industry and could
continue to
adversely
affect the Company’s business, financial condition, results of operations and
cash flows.
The
Company is operating in a challenging and uncertain economic environment,
including generally uncertain conditions nationally and locally in its markets.
Financial institutions continue to be affected by declines in the real estate
market that have negatively impacted the credit performance of construction,
commercial real estate loans, and residential mortgage loans and resulted in
significant write-downs of assets by many financial institutions. Concerns over
the stability of the financial markets and the economy have resulted in
decreased lending by financial institutions to their customers and to each
other. The Company retains direct exposure to the residential and commercial
real estate markets, and it is affected by these events. Continued declines in
real estate values, home sales volumes and financial stress on borrowers as a
result of the uncertain economic environment, including job losses, could have
an adverse affect on the Company’s borrowers or their customers, which could
adversely affect the Company’s business, financial condition, results of
operations and cash flows.
The
Company’s ability to assess the creditworthiness of customers and to estimate
the losses inherent in its credit portfolio is made more complex by these
difficult market and economic conditions. The Company also expects to face
increased regulation and government oversight as a result of these downward
trends. This increased government action may increase the Company’s costs and
limit its ability to pursue certain business opportunities. In addition, the
Company may be required to pay even higher FDIC deposit insurance premiums than
the recently increased level, because financial institution failures resulting
from the depressed market conditions and other factors have depleted and may
continue to deplete the deposit insurance fund and reduce its ratio of reserves
to insured deposits.
A
prolonged national economic recession or further deterioration of these
conditions in the Company’s markets could drive losses beyond that which is
provided for in its allowance for credit losses and result in the following
consequences:
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increases
in loan delinquencies;
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increases
in nonperforming assets and foreclosures;
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decreases
in demand for the Company’s products and services, which could adversely
affect its liquidity position; and
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decreases
in the value of the collateral securing the Company’s loans, especially
real estate, which could reduce customers’ borrowing
power.
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18
A
worsening of these conditions would likely exacerbate the adverse effects of
these difficult economic conditions on the Company, its customers and the other
financial institutions in its market. As a result, the Company may experience
increases in foreclosures, delinquencies and customer bankruptcies, as well as
more restricted access to funds.
The U.S.
Treasury and the FDIC have initiated programs to address economic stabilization,
yet the efficacy of these programs in stabilizing the economy and the banking
system at large are uncertain.
The Bank is subject to
certain operating restrictions.
As the
result of a recent written agreement with the Federal Reserve Bank (see
Regulatory Action included in Supervision and Regulation section of Item 1) ,
the Bank’s results of operations and financial condition will be impacted by its
ability to address certain conditions or achieve certain financial ratios,
including strengthening board oversight of management and the Bank's operations;
enhancing credit risk management practices and improving the Bank’s position on
the past due loans, classified loans, and other real estate owned; maintaining a
sound process for determining, documenting, and recording an adequate allowance
for loan and lease losses; improving the management of the Bank's liquidity
position and funds management policies; maintaining sufficient capital at the
Company and Bank level; and improving the Bank’s earnings and overall condition.
Although management of the Bank expects to fully address each of these matters,
no assurances can be given that the actions of management will be successful.
The failure to address these operating concerns could negatively impact results
of operations and the Bank’s financial condition and lead to additional
regulatory action.
Current levels of market
volatility are unprecedented and could adversely impact the Company’s results of
operations and access to capital.
The
capital and credit markets have been experiencing volatility and disruption for
more than a year. In recent months, the volatility and disruption has reached
unprecedented levels. In some cases, the markets have produced downward pressure
on stock prices and credit capacity for certain issuers without regard to those
issuers’ underlying financial strength. If the current levels of market
disruption and volatility continue or worsen, there can be no assurance that the
Company will not experience further adverse effects, which may be material, on
its ability to access capital and on its business, financial condition and
results of operations.
Liquidity risk could impair
the Company’s ability to fund operations and jeopardize its financial
condition.
Liquidity
is essential to the Company’s business. An inability to raise funds through
deposits, borrowings, the sale of loans and other sources could have a
substantial negative effect on its liquidity. The Company’s access to funding
sources in amounts adequate to finance its activities or on terms which are
acceptable to it could be impaired by factors that affect the Company
specifically or the financial services industry or economy in general. Factors
that could detrimentally impact the Company’s access to liquidity sources
include a decrease in the level of its business activity as a result of a
downturn in the markets in which its loans are concentrated or adverse
regulatory action against it. The Company’s ability to borrow could also be
impaired by factors that are not specific to it, such as a disruption in the
financial markets or negative views and expectations about the prospects for the
financial services industry in light of the recent turmoil faced by banking
organizations and the continued deterioration in credit markets.
The Company’s financial
performance is subject to interest rate risk.
The
Company’s operations are greatly influenced by general economic conditions and
by related monetary and fiscal policies of the federal government. Deposit flows
and the funding costs are influenced by interest rates of competing investments
and general market rates of interest. Lending activities are affected
by the demand for loans, which in turn is affected by the interest rates at
which such financing may be offered and by other factors affecting the
availability of funds.
The
Company’s performance is substantially dependent on net interest income, which
is the difference between the interest income received from interest-earning
assets and the interest expense incurred in connection with our interest-bearing
liabilities. To reduce the Company’s exposure to interest rate
fluctuations, management seeks to manage the balances of interest sensitive
assets and liabilities, and maintain appropriate maturity and repricing
parameters for these assets and liabilities. A mismatch between the
amount of rate sensitive assets and rate sensitive liabilities in any time
period may expose the Company to interest rate risk. Generally, if rate
sensitive assets exceed rate sensitive liabilities, the net interest margin will
be positively impacted during a rising rate environment and negatively impacted
during a declining rate environment. When rate sensitive liabilities
exceed rate sensitive assets, the net interest margin will generally be
positively impacted during a declining rate environment and negatively impacted
during a rising rate environment.
19
Increases
in the level of interest rates may reduce the overall level of loans originated
by the Company, and, thus, the amount of loan and commitment fees earned, as
well as the market value of investment securities and other interest-earning
assets. Moreover, fluctuations in interest rates may also result in
disintermediation, which is the flow of funds away from depository institutions
into direct investments, such as corporate securities and other investment
vehicles which, because of the absence of federal deposit insurance, generally
pay higher rates of return than depository institutions.
The
continued deterioration of local economic conditions in the Company’s market
area could hurt profitability.
The
Company’s operations are located primarily in Fresno, Madera, Kern, and Santa
Clara Counties, and are concentrated in Fresno County and surrounding
areas. As a result of this geographic concentration, the Company’s
financial results depend largely upon economic conditions in these
areas. The local economy in the Company’s market areas rely heavily
on agriculture, real estate, professional and business services, manufacturing,
trade and tourism. The significant economic downturn experienced in the
sub-prime lending and credit markets since the later part of 2007, has
negatively impacted the Company’s operations and financial condition, and may
further worsen with further deterioration of local and state-wide economic
conditions. Poor economic conditions could cause the Company to incur additional
losses associated with higher default rates and decreased collateral values in
the loan portfolio.
|
Concentrations
|
in
commercial and industrial loans, real estate-secured commercial loans, and
real estate construction loans, may expose the Company to increased
lending risks, especially in the event of a recession.
|
|
The
|
Company
has significant concentrations in commercial real estate and real estate
construction loans. As of December 31, 2009, 23.0%, and 20.7%
of the Company’s loan portfolio was concentrated in these two categories,
respectively. In addition, the Company has many commercial loans to
businesses in the construction and real estate industry. There
has been significant volatility in real estate values in the Company’s
market area in recent years, and an extended real estate
recession affecting these market areas would likely reduce the security
for many of the Company’s loans and adversely affect the ability of many
of borrowers to repay loan balances due the Company and require increased
provisions to the allowance for loan losses. Therefore, the
Company’s financial condition and results of operations may continue to be
adversely affected by a decline in the value of the real estate securing
the Company’s loans.
|
|
If
|
the Company forecloses
on collateral property, we may be subject to the increased costs
associated with the ownership of real property, resulting in reduced
revenues.
|
|
The
|
Company
has and may continue to foreclose on collateral property to protect its
investment and may thereafter own and operate such property, in which case
we will be exposed to the risks inherent in the ownership of real estate.
The amount that the Company, as a mortgagee, may realize after a default
is dependent upon factors outside of the Company’s control, including, but
not limited to: (i) general or local economic conditions;
(ii) neighborhood values; (iii) interest rates; (iv) real
estate tax rates; (v) operating expenses of the mortgaged properties;
(vi) environmental remediation liabilities; (vii) ability to obtain
and maintain adequate occupancy of the properties; (viii) zoning
laws; (ix) governmental rules, regulations and fiscal policies; and
(x) acts of God. Certain expenditures associated with the ownership
of real estate, principally real estate taxes, insurance, and maintenance
costs, may adversely affect the income from the real estate, and as a
result, the Company may be required to dispose of the real property at a
loss. The foregoing expenditures and costs could adversely affect the
Company’s ability to generate revenues, resulting in reduced levels of
profitability.
|
|
The
|
small to medium-sized
businesses that the Company lends to may have fewer resources to weather a
downturn in the economy, which may impair a borrower’s ability to repay a
loan to the Company that could materially harm the Company’s operating
results.
|
|
The
|
Company
targets its business development and marketing strategy primarily to serve
the banking and financial services needs of small to medium-sized
businesses. These small to medium-sized businesses frequently have smaller
market share than their competition, may be more vulnerable to economic
downturns, often need substantial additional capital to expand or compete
and may experience significant volatility in operating results. Any one or
more of these factors may impair the borrower’s ability to repay a loan.
In addition, the success of a small to medium-sized business often depends
on the management talents and efforts of one or two persons or a small
group of persons, and the death, disability or resignation of one or more
of these persons could have a material adverse impact on the business and
its ability to repay a loan. Economic downturns and other events that
negatively impact the Company’s market areas could cause the Company to
incur substantial credit losses that could negatively affect the Company’s
results of operations, financial condition and cash
flows.
|
|
|
20
|
|
The
|
Company faces strong
competition, which may adversely affect its operating
results.
|
|
In
|
recent
years, competition for bank customers, the source of deposits and loans
for the Company has greatly intensified. This competition
includes:
|
|
·
|
larger
regional and national banks and other FDIC insured depository institutions
in many of the communities the Company
serves;
|
|
·
|
finance
companies, investment banking and brokerage firms, and insurance companies
that offer bank-like products;
|
|
·
|
credit
unions, which can offer highly competitive rates on loans and deposits
because they receive tax advantages not available to commercial banks;
and
|
|
·
|
technology-based
financial institutions including large national and super-regional banks
offering on-line deposit, bill payment, and mortgage loan application
services.
|
|
Some
|
of
the financial services organizations with which the Company competes are
not subject to the same degree of regulation as is imposed on bank holding
companies and federally insured financial institutions. As a
result, these non-bank competitors have certain advantages over the
Company in accessing funding and in providing various banking-related
services.
|
|
By
|
virtue
of their larger capital position, regional and national banks have
substantially larger lending limits than the Company, and can provide
certain services to their customers which the Company is not able to offer
directly, such as trust and international services. Many of
these larger banks also operate with greater economies of scale which
result in lower operating costs than the Company on a per-unit
basis.
|
|
Other
|
existing
single or multi-branch community banks, or new community bank start-ups,
have marketing strategies similar to United Security Bancshares. These
other community banks can open new branches in the communities the Company
serves and compete directly for customers who want the high level of
service community banks offer. Other community banks also compete for the
same management personnel and the same potential acquisition and merger
candidates. Ultimately, competition can drive down the
Company’s interest margins and reduce profitability, as well as make it
more difficult for the Company to achieve its growth
objectives.
|
|
The
|
Company may need to
raise additional capital in the future and such capital may not be
available when needed or at
all.
|
The
Company may need to raise additional capital in the future to provide it with
sufficient capital resources and liquidity to meet its commitments and business
needs. In addition, the Company may elect to raise additional capital to support
its business or to finance acquisitions, if any. The Company’s ability to raise
additional capital, if needed, will depend on, among other things, conditions in
the capital markets at that time, which are outside of its control, and its
financial performance. The ongoing liquidity crisis and the loss of confidence
in financial institutions may increase the Company’s cost of funding and limit
its access to some of its customary sources of capital, including, but not
limited to, inter-bank borrowings, repurchase agreements and borrowings from the
discount window of the Federal Reserve.
The Company cannot assure you that such capital will be available to it on
acceptable terms or at all. Any occurrence that may limit its access to the
capital markets, such as a decline in the confidence of investors, depositors of
the Banks or counterparties participating in the capital markets, may adversely
affect the Company’s capital costs and its ability to raise capital and, in
turn, its liquidity. An inability to raise additional capital on acceptable
terms when needed could have a material adverse effect on the Company’s
business, financial condition and results of operations.
The Company could experience loan losses, which exceed the overall
allowance for loan losses.
The risk of credit losses on loans and leases varies with, among other
things, general economic conditions, the type of loan being made, the
creditworthiness of the borrower, and, in the case of collateralized loans, the
value and marketability of the collateral. The Company maintains an
allowance for loan losses based upon, among other things, historical experience,
an evaluation of economic conditions, and regular reviews of delinquencies and
loan portfolio quality. Based upon such factors, management makes various
assumptions and determinations about the ultimate collectibility of the loan
portfolio and provides an allowance for losses based upon a percentage of the
outstanding balances and for specific loans where their collectibility is
considered to be questionable.
As of December 31, 2009, the Company’s allowance for loan losses was
approximately $15.0 million representing 2.96% of gross outstanding loans.
Although management believes that the allowance is adequate, there can be no
absolute assurance that it will be sufficient to cover future loan losses.
Although the Company uses the best information available to make determinations
with respect to adequacy of the allowance for loan losses, future adjustments
may be necessary if economic conditions change substantially from the
assumptions used or if negative developments occur with respect to
non-performing or performing loans. If management’s assumptions or conclusions
prove to be incorrect and the allowance for loan losses is not adequate to
absorb future losses, or if Company’s regulatory agencies require an increase in
the allowance for loan losses, the Company’s earnings, and potentially its
capital, could be significantly and adversely impacted.
21
The Company is Subject to Other-than-temporary Impairment Risk
The Company recognizes an impairment charge when the decline in the fair
value of equity, debt securities and cost-method investments below their cost
basis are judged to be other-than-temporary. Significant judgment is used to
identify events or circumstances that would likely have a significant adverse
effect on the future use of the investment. The Company considers various
factors in determining whether an impairment is other-than-temporary, including
the severity and duration of the impairment, forecasted recovery, the financial
condition and near-term prospects of the investee, and our ability and intent to
hold the investment for a period of time sufficient to allow for any anticipated
recovery in market value. Information about unrealized gains and losses is
subject to changing conditions. The values of securities with unrealized gains
and losses will fluctuate, as will the values of securities that we identify as
potentially distressed. Our current evaluation of other-than-temporary
impairments reflects our intent to hold securities for a reasonable period of
time sufficient for a forecasted recovery of fair value. However, our intent to
hold certain of these securities may change in future periods as a result of
facts and circumstances impacting a specific security. If our intent to hold a
security with an unrealized loss changes, and we do not expect the security to
fully recover prior to the expected time of disposition, we will write down the
security to its fair value in the period that our intent to hold the security
changes.
The process of evaluating the potential impairment of goodwill and other
intangibles is highly subjective and requires significant judgment. The Company
estimates expected future cash flows of its various businesses and determines
the carrying value of these businesses. The Company exercises
judgment in assigning and allocating certain assets and liabilities to these
businesses. The Company then compares the carrying value, including goodwill and
other intangibles, to the discounted future cash flows. If the total of future
cash flows is less than the carrying amount of the assets, an impairment loss is
recognized based on the excess of the carrying amount over the fair value of the
assets. Estimates of the future cash flows associated with the assets are
critical to these assessments. Changes in these estimates based on changed
economic conditions or business strategies could result in material impairment
charges in future periods.
If the goodwill that the Company recorded in connection with a business
acquisition becomes impaired, it could require charges to earnings, which would
have a negative impact on the Company’s financial condition, results of
operations and cash flows.
Goodwill represents the amount of acquisition cost over the fair value of
net assets the Company acquired in the purchase of another financial
institution. The Company reviews goodwill for impairment at least annually, or
more frequently if events or changes in circumstances indicate the carrying
value of the asset might be impaired.
The Company determines impairment by comparing the implied fair value of
the reporting unit goodwill with the carrying amount of that goodwill. If the
carrying amount of the reporting unit goodwill exceeds the implied fair value of
that goodwill, an impairment loss is recognized in an amount equal to that
excess. Any such adjustments are reflected in the Company’s results of
operations in the periods in which they become known. At December 31, 2009, the
Company’s goodwill totaled $7.4 million after recognizing a goodwill impairment
loss of $3.0 million during the year ended December 31, 2009. Given the current
economic environment, there can be no assurance that the Company’s future
evaluations of goodwill will not result in additional findings of impairment and
related write-downs, which may have a material adverse effect on its financial
condition, results of operations and cash flows.
The loss of any of the Company’s executive officers or key personnel could
be damaging to the business.
The Company depends upon the skills and reputations of its executive
officers and key employees for its future success. The loss of any of
these key persons or the inability to attract and retain other key personnel
could adversely affect the Company’s business operations.
The Company’s growth and expansion strategy may not prove to be successful
and as a result, its market value and profitability may suffer.
The Company plans to grow operations within its market area and expand into
new market areas when it makes strategic business sense, however the Company’s
capacity to manage any such growth will depend primarily on the ability to
attract and retain qualified personnel, monitor operations, maintain earnings
and control costs. The Company expects to continue to grow its assets and
deposits, the products and services which it offers and accordingly the scale of
its operations. The Company’s ability to manage growth successfully will depend
on the ability to maintain cost controls and asset quality while attracting
additional loans and deposits on favorable terms. If the Company
grows too quickly and is not able to control costs and maintain asset quality,
this rapid growth could materially adversely affect the financial performance of
the Company. The future successful growth of the Company will depend on the
ability of its officers and other key employees to continue to implement and
improve operational, credit, financial, management and other internal risk
controls and processes, reporting systems and procedures, and to manage a
growing number of customer relationships. The Company may not successfully
implement improvements to management information and control systems, and
control procedures and processes, in an efficient or timely manner and may
discover deficiencies in existing systems and controls. In
particular, the Company’s controls and procedures must be able to accommodate an
increase in expected loan volume and the infrastructure that comes with growth.
Thus, the Company’s growth strategy may divert management from existing
businesses and may require the Company to incur additional expenditures to
expand its administrative and operational infrastructure. If the Company is
unable to manage future expansion in its operations, it may experience
compliance and operational problems, need to slow the pace of growth, or need to
incur additional expenditures beyond current projections to support such growth,
any one of which could adversely affect the Company’s business and
profitability.
22
The regulatory environment under which the Company operates may have an
adverse impact on the banking industry.
The Company is subject to extensive regulatory supervision and
oversight from both federal and state authorities. Regulatory oversight of the
Company is provided by the Federal Reserve Bank (FRB) and the California
Department of Financial Institutions (DFI). Future legislation and government
may adversely impact the Company and the commercial banking industry in general.
Future regulatory changes may also alter the structure and competitive
relationship among financial institutions.
The Company may be exposed to compliance risk resulting from
violations or nonconformity with laws, rules, regulations, internal policies and
procedures, or ethical standards set forth by regulatory authorities. The
Company may also be subject to compliance risk in situations where laws or rules
governing certain products or activities of the Company’s customers may be
uncertain or untested. Compliance risk exposes the Company to fines, civil money
penalties, payment of damages, and the potential voiding of contracts.
Compliance risk can result in diminished reputation, reduced franchise value,
limited business opportunities, and reduced growth potential.
Increase in FDIC insurance premiums may negatively affect
profitability.
The FDIC insures deposits at FDIC insured financial institutions,
including the Bank. The FDIC charges the insured financial institutions premiums
to maintain the Deposit Insurance Fund at a certain level. Current economic
conditions have increased bank failures and expectations for further failures,
in which case the FDIC insures payment of deposits up to insured limits from the
Deposit Insurance Fund. In late 2008, the FDIC announced an increase in
insurance premium rates of seven basis points, beginning with the first quarter
of 2009. Additional changes, beginning April 1, 2009, were to require riskier
institutions to pay a larger share of premiums by factoring in rate adjustments
based on secured liabilities and unsecured debt levels.
On May 22, 2009, the FDIC adopted a final rule that imposed a
special assessment for the second quarter of 2009 of five basis points on each
insured depository institution’s assets minus its Tier 1 capital as of
June 30, 2009, which was collected on September 30, 2009. The Company
expensed $334,000 during the second quarter for this special assessment. In
November 2009, the FDIC approved a final rule to require all insured
depository institutions including the Bank to prepay three years of FDIC
assessments in the fourth quarter of 2009, except in the event such prepayment
is waived by the FDIC. Although the three-year prepayment assessment was waived
for the Bank by the FDIC, insurance premiums paid quarterly have increased
substantially during the later part of 2009, and may increase in future
periods.
In general, we are unable to control the amount of premiums that we
are required to pay for FDIC insurance. If there are additional failures of
FDIC-insured institutions, we may be required to pay even higher FDIC premiums.
The announced increases and any future increases in FDIC insurance premiums may
materially adversely affect our results of operations.
If the Company lost a significant portion of its low-cost core deposits,
it would negatively impact profitability.
The Company’s profitability depends in part on its success in
attracting and retaining a stable base of low-cost deposits. As of December 31,
2009, noninterest-bearing checking accounts comprised 24.9% of the Company’s
deposit base, and interest-bearing checking and money market accounts comprised
an additional 8.6% and 19.7%, respectively. The Company considers these deposits
to be core deposits. If the Company lost a significant portion of these low-cost
deposits, it would negatively impact its profitability and long-term growth
objectives. While Management generally does not believe these deposits are
sensitive to interest-rate fluctuations, the competition for these deposits in
the Company’s market area is strong and if the Company were to lose a
significant portion of these low-cost deposits, it would negatively affect
business operations.
23
The Company relies on dividends from its subsidiaries for most of its
revenue.
United Security Bancshares is a separate and distinct legal entity
from its subsidiaries. The Company receives substantially all of its revenue
from dividends from its subsidiary, United Security Bank. These dividends are
the principal source of funds to pay dividends on common stock and interest on
the Company’s junior subordinated debt. Various federal and/or state laws and
regulations limit the amount of dividends that United Security Bank and certain
non-bank subsidiaries may pay to United Security Bancshares. Also, United
Security Bancshares’ right to participate in a distribution of assets upon a
subsidiary’s liquidation or reorganization is subject to the prior claims of the
subsidiary’s creditors. As a result of the written agreement with the Federal
Reserve Bank entered into March 23, 2010, the United Security Bank is unable to
pay dividends to United Security Bancshares, and United Security Bancshares is
not able to pay dividends on common stock, or pay interest on its junior
subordinated debt. This could have a negative impact on the Company's business,
financial condition and results of operations. Under regulatory restraints, the
Bank is currently precluded from paying dividends to the Company and may be
precluded from doing so into the foreseeable future.
We have elected to defer interest payments on our trust preferred
securities which prevents us from paying dividends on our capital stock until
those payments are brought current.
We have not paid any cash dividends on our common stock since the
second quarter of 2008 and do not expect to resume common stock dividends for
the foreseeable future. In order to preserve capital, we elected at September
30, 2009 to defer quarterly payments of interest on our junior subordinated
debentures issued in connection with our trust preferred securities beginning
with the quarterly payment due October 1, 2009. The terms of the debentures
permit us to defer payment of interest for up to 20 consecutive quarters.
Interest continues to accrue while interest payments are deferred. Under the
terms of the trust preferred securities we are prohibited from paying cash
dividends on our capital stock (including common stock) during the deferral
period.
The holders of the Company’s junior subordinated debentures have rights that
are senior to those of the Company’s shareholders.
On July 25, 2007 the Company issued $15.5 million of floating rate
junior subordinated debentures in connection with a $15.0 million trust
preferred securities issuance by its subsidiary, United Security Bancshares
Capital Trust II. The junior subordinated debentures mature in July 2037.
The Company conditionally guarantees payments of the principal and
interest on the trust preferred securities. The Company’s junior subordinated
debentures are senior to holders of common stock. As a result, the Company must
make payments on the junior subordinated debentures (and the related trust
preferred securities) before any dividends can be paid on our common stock and,
in the event of bankruptcy, dissolution or liquidation, the holders of the
debentures must be satisfied before any distributions can be made to the holders
of common stock. The Company has elected to defer distributions on our junior
subordinated debentures (and the related trust preferred securities) for up to
five years, during which time no dividends may be paid to holders of common
stock.
The Company may become
subject to environmental liability risk associated with lending
activities.
A
significant portion of the Company’s loan portfolio is secured by real property.
During the ordinary course of business, we may foreclose on and take title to
properties securing certain loans. In doing so, there is a risk that hazardous
or toxic substances could be found on these properties. If hazardous or toxic
substances are found, the Company may be liable for remediation costs, as well
as for personal injury and property damage. Environmental laws may require the
Company to incur substantial expenses and may materially reduce the affected
property’s value or limit the ability to use or sell the affected property. In
addition, future laws or more stringent interpretations or enforcement policies
with respect to existing laws may increase our exposure to environmental
liability. Although the Company has policies and procedures to perform an
environmental review before initiating any foreclosure action on nonresidential
real property, these reviews may not be sufficient to detect all potential
environmental hazards. The remediation costs and any other financial liabilities
associated with an environmental hazard could have a material adverse effect on
the Company’s financial condition and results of operations.
The Company’s Internal
controls and procedures may fail or be circumvented.
Management
regularly reviews and updates our internal controls, disclosure controls and
procedures, and corporate governance policies and procedures. Any system of
controls, however well designed and operated, is based, in part, on certain
assumptions and can provide only reasonable, not absolute, assurances that the
objectives of the system are met. Any failure or circumvention of the Company’s
controls and procedures or failure to comply with regulations related to
controls and procedures could have a material adverse effect the Company’s
business, results of operations and financial condition.
24
The Company’s information
systems may experience an interruption or breach in
security.
The
Company relies heavily on communications and information systems to conduct its
business. Any failure, interruption or breach in security of these systems could
result in failures or disruptions in customer relationship management, general
ledger, deposit, loan and other systems. While the Company has policies and
procedures designed to prevent or limit the effect of the failure, interruption
or security breach of its information systems, there can be no assurance that we
can prevent any such failures, interruptions or security breaches or, if they do
occur, that they will be adequately addressed. The occurrence of any failures,
interruptions or security breaches of the Company’s information systems could
damage our reputation, result in a loss of customer business, subject the
Company to additional regulatory scrutiny, or expose it to civil litigation and
possible financial liability, any of which could have a material adverse effect
on the Company’s financial condition and results of operations.
The Company continually
encounters technological change.
The
financial services industry is continually undergoing rapid technological change
with frequent introductions of new technology-driven products and services. The
effective use of technology increases efficiency and enables financial
institutions to better serve customers and to reduce costs. The Company’s future
success depends, in part, upon its ability to address the needs of its customers
by using technology to provide products and services that will satisfy customer
demands, as well as to create additional efficiencies in the Company’s
operations. Many of the Company’s competitors have substantially greater
resources to invest in technological improvements. We may not be able to
effectively implement new technology-driven products and services or be
successful in marketing these products and services to the company’s customers
and even if such products and services are implemented, the Company may incur
substantial costs in doing so. Failure to successfully keep pace with
technological change affecting the financial services industry could have a
material adverse impact on the Company’s business, financial condition and
results of operations.
Severe weather, natural
disasters, acts of war or terrorism and other external events could
significantly impact the Company’s business.
Severe
weather, natural disasters, including but not limited to earthquakes and
droughts, acts of war or terrorism and other adverse external events could have
a significant impact on the Company’s ability to conduct business. Such events
could affect the stability of our deposit base, impair the ability of borrowers
to repay outstanding loans, impair the value of collateral securing loans, cause
significant property damage, result in loss of revenue and/or cause the Company
to incur additional expenses. Severe weather or natural disasters, acts of war
or terrorism or other adverse external events may occur in the future. Although
management has established disaster recovery policies and procedures, there can
be no assurance of the effectiveness of such policies and procedures, and the
occurrence of any such event could have a material adverse effect on the
Company’s business, financial condition and results of operations.
Item
1B. - Unresolved Staff Comments
The
Company had no unresolved staff comments at December 31, 2009.
Item 2 - Properties
The
Bank’s Main bank branch is located at 2151 West Shaw Avenue, Fresno, California.
The Company owns the building and leases the land under a sublease dated
December 1, 1986 between Central Bank and USB. The current sublessor under the
master ground lease is Bank of the West, which acquired the position through the
purchase of Central Bank. The lessor under the ground lease (Master Lease) is
Thomas F. Hinds. The lease expires on December 31, 2015 and the Company has
options to extend the term for four (4) ten-year periods and one seven (7) year
period.
The
Company leases the banking premises of approximately 6,450 square feet for its
second of three Fresno branches at 7088 N. First Ave, Fresno, California., under
a lease which commenced August 2005 for a term of ten years expiring in July
2015. The branch was previously located at 1041 E. Shaw Avenue, Fresno,
California, under a lease extension expiring February 28, 2005. The lease was
renewed until August 2005. The 7088 N. First location provides space for the
relocated branch as well as the Real Estate Construction Department and the
Indirect Consumer Lending Department.
The
Company leases the Oakhurst bank branch located at the
Old Mill Village Shopping Center, 40074 Highway 49, Oakhurst,
California. The branch facility consists of approximately 5,000 square feet with
a lease term of 15 years ending April 2014, and has two five-year options to
extend the lease term after that date.
25
The
Company owns the Caruthers bank branch located at 13356 South Henderson,
Caruthers, California, which consists of approximately 5,000 square feet of
floor space.
The
Company owns the San Joaquin branch facilities located at 21574 Manning Avenue,
San Joaquin, California. The bank branch is approximately 2,500 square
feet.
The
Company owns the Firebaugh bank branch located at 1067 O Street, Firebaugh,
California. The premises are comprised of approximately 4,666 square feet of
office space situated on land totaling approximately one-third of an
acre.
The
Company owns the Coalinga bank branch located at 145 East Durian, Coalinga,
California. The office building has a total of 6,184 square feet of interior
floor space situated on approximately 0.45 acres of land.
The
Company leases the Convention Center branch located at 855 “M” Street, Suite
130, Fresno, California. Total space leased is approximately 4,520 square feet,
and was occupied during March 2004. The fifteen-year lease expires in March
2019. There are no extension provisions.
The
Company owns the Taft branch office premises located at 523 Cascade Place, Taft,
California. The branch facilities consist of approximately 9,200 square feet of
office space.
The
Company owns the branch facilities located at 3404 Coffee Road, Bakersfield,
California, which has approximately 6,130 square feet of office space located on
1.15 acres.
The
Company leases the Campbell branch located at 125 E. Campbell Ave, Campbell,
California, which has approximately 6,995 square feet which it occupied after
the merger completed in February 2007. The lease expires on December 31,
2010.
The
Company subleases the space for its USB Financial Services offices at 855 “M”
Street, Suite 1120, Fresno, California from Centex Homes, Inc. The subleased
facility totals 3,656 square feet and the lease expires on March 31, 2010. After
March 31, 2010, the USB Financial Services staff will occupy space in the
Company’s administrative headquarters located at 2126 Inyo Street, Fresno,
California.
The
Company owns its administrative headquarters at 2126 Inyo Street, Fresno,
California. The facility consists of approximately 21,400 square feet. A portion
of the premises has been subleased to a third-party under a lease term of
approximately seven years.
Item
3 - Legal Proceedings
From time
to time, the Company is party to claims and legal proceedings arising in the
ordinary course of business. At this time, the management of the Company is not
aware of any material pending litigation proceedings to which it is a party or
has recently been party to, which will have a material adverse effect on the
financial condition or results of operations of the Company.
Item
4 - Reserved
26
PART
II
Item
5 - Market for the Registrant's Common Equity, Related Stockholder Matters, and
Issuer Purchases of Equity Securities
Trading
History
The
Company became a NASDAQ National Market listed company on May 31, 2001, then
became a Global Select listed company during 2006, and trades under the symbol
UBFO.
The
Company currently has four market makers for its common stock. These include,
Stone & Youngberg, LLC, Howe Barnes Hoeffer & Arnett, Sandler O’Neill
& Partners, and Hill Thompson, Magid & Company. The Company is aware of
two other securities dealers: Smith Barney and Dean Witter Reynolds Inc., which
periodically act as brokers in the Company's stock.
On March
28, 2006, the Company announced a 2-for-1 stock split of the Company’s no-par
common stock payable May 1, 2006 effected in the form of a 100% stock dividend.
Share information for all periods presented in this 10-K have been restated to
reflect the effect of the stock split.
During
the third quarter ended September 30, 2008 and the fourth quarter ended December
31, 2008, the Company declared 1% stock dividends. During each of the quarters
ended March 31, 2009, June 30, 2009, September 30, 2009, and December 31, 2009,
the Company again declared 1% stock dividends. Share information for all periods
presented in this Form 10-K has been restated to reflect the effect of the 1%
stock dividends.
The
Company was included in the Russell 2000 Stock Index during June 2006 and
remained a member of the Russell 2000 Stock Index until June 2009, when the
Company’s market capitalization fell below the threshold required to remain on
the Index. The inclusion of the Company’s stock in the index has provided
additional exposure for the Company in equity markets, and increased the
transaction volume.
The
following table sets forth the high and low closing sales prices by quarter for
the Company's common stock, for the years ended December 31, 2009 and
2008.
|
Closing
Prices
|
||||||||||||
|
Quarter
|
High
|
Low
|
Volume
|
|||||||||
|
4th
Quarter 2009
|
$ | 5.60 | $ | 2.50 | 975,000 | |||||||
|
3rd
Quarter 2009
|
$ | 6.00 | $ | 4.10 | 1,377,400 | |||||||
|
2nd
Quarter 2009
|
$ | 9.57 | $ | 4.35 | 2,427,600 | |||||||
|
1st
Quarter 2009
|
$ | 11.81 | $ | 4.72 | 979,600 | |||||||
|
4th
Quarter 2008
|
$ | 16.06 | $ | 6.89 | 950,400 | |||||||
|
3rd
Quarter 2008
|
$ | 17.90 | $ | 12.67 | 1,045,700 | |||||||
|
2nd
Quarter 2008
|
$ | 17.54 | $ | 13.58 | 1,309,300 | |||||||
|
1st
Quarter 2008
|
$ | 18.20 | $ | 12.41 | 1,689,400 | |||||||
At
January 31, 2009, there were approximately 841 record holders of common stock of
the Company. This does not reflect the number of persons or entities who hold
their stock in nominee or street name through various brokerage
firms.
Dividends
The
Company's shareholders are entitled to cash dividends when and as declared by
the Company’s Board of Directors out of funds legally available therefore.
Dividends paid to shareholders by the Company are subject to restrictions set
forth in California General Corporation Law, which provides that a corporation
may make a distribution to its shareholders if retained earnings immediately
prior to the dividend payout are at least equal the amount of the proposed
distribution. As a bank holding company without significant assets other than
its equity position in the Bank, the Company’s ability to pay dividends to its
shareholders depends primarily upon dividends it receives from the Bank. Such
dividends paid by the Bank to the Company are subject to certain limitations.
See “Management’s Discussion and Analysis of Financial and Results of Operations
– Regulatory Matters”.
The
Company distributed a 1% stock dividend to shareholders on January 21, 2009,
April 22, 2009, July 22, 2009, and then again on October 21, 2009. During the
previous year, the Company paid cash dividends to shareholders of $0.13 per
share on January 23, 2008, and April 23, 2008. The Company also distributed a 1%
stock dividend to shareholders on July 23, 2008, and then again on October 22,
2008.
The
amount and payment of dividends by the Company to shareholders are set by the
Company's Board of Directors with numerous factors involved including the
Company's earnings, financial condition and the need for capital for expanded
growth and general economic conditions. No assurance can be given that cash or
stock dividends will be paid in the future.
27
Securities
Authorized for Issuance under Equity Compensation Plans
The
following table sets forth securities authorized for issuance under equity
compensation plans as for December 31, 2009.
|
Plan
Category
|
Number
of securities to be issued upon exercise of outstanding options, warrants
and rights
(column
a)
|
Weighted-average
exercise price of outstanding options, warrants and rights
|
Number
of securities remaining available for future issuance under equity
compensation plans (excluding securities reflected in
column
(a))
|
|||||||||
|
Equity
compensation plans approved by security holders
|
177,804 | $ | 15.01 | 323,976 | ||||||||
|
Equity
compensation plans not approved by security holders
|
N/A | N/A | N/A | |||||||||
|
Total
|
177,804 | $ | 15.01 | 323,976 | ||||||||
A
complete description of the above plans is included in Note 10 of the Company’s
Financial Statements in Item 8 of this Annual Report on Form 10K, and is hereby
incorporated by reference.
Purchases
of Equity Securities by Affiliates and Associated Purchasers
On August
30, 2001 the Company announced that its Board of Directors approved a plan to
repurchase, as conditions warrant, up to 280,000 shares (560,000 shares adjusted
for May 2006 stock split) of the Company's common stock on the open market or in
privately negotiated transactions. The duration of the program was open-ended
and the timing of purchases was dependent on market conditions. A total of
215,423 shares (430,846 shares adjusted for May 2006 stock split) had been
repurchased under that plan as of December 31, 2003, at a total cost of $3.7
million.
On
February 25, 2004 the Company announced a second stock repurchase plan under
which the Board of Directors approved a plan to repurchase, as conditions
warrant, up to 276,500 shares (553,000 shares adjusted for May 2006 stock split)
of the Company's common stock on the open market or in privately negotiated
transactions. As with the first plan, the duration of the new program is
open-ended and the timing of purchases will depend on market conditions.
Concurrent with the approval of the new repurchase plan, the Board terminated
the 2001 repurchase plan and canceled the remaining 64,577 shares (129,154
shares adjusted for May 2006 stock split) yet to be purchased under the earlier
plan.
On May
16, 2007, the Company announced another stock repurchase plan to repurchase, as
conditions warrant, up to 610,000 shares of the Company's common stock on the
open market or in privately negotiated transactions. The repurchase plan
represents approximately 5.00% of the Company's currently outstanding common
stock. The duration of the program is open-ended and the timing of purchases
will depend on market conditions. Concurrent with the approval of the new
repurchase plan, the Company canceled the remaining 75,733 shares available
under the 2004 repurchase plan.
During
the year ended December 31, 2008, 89,001 shares were repurchased at a total cost
of $1.21 million and an average per share price of $13.70. During the year
ended December 31, 2009, 488 shares were repurchased at a total cost of $3,700
and an average per share price of $7.50.
Financial
Performance
The
following performance graph does not constitute soliciting material and should
not be deemed filed incorporated by reference into any other Company under the
Securities Act of 1933 or the Securities Exchange Act of 1934, except to the
extent the Company specifically incorporates the performance graph by reference
therein.
28
|
Period
Ending
|
||||||||||||||||||||||||
|
Index
|
12/31/04
|
12/31/05
|
12/31/06
|
12/31/07
|
12/31/08
|
12/31/09
|
||||||||||||||||||
|
United
Security Bancshares
|
100.00 | 122.90 | 198.37 | 128.15 | 101.12 | 39.98 | ||||||||||||||||||
|
Russell
2000
|
100.00 | 104.55 | 123.76 | 121.82 | 80.66 | 102.58 | ||||||||||||||||||
|
Russell
3000
|
100.00 | 106.12 | 122.80 | 129.11 | 80.94 | 103.88 | ||||||||||||||||||
|
SNL
Bank $500M-$1B Index
|
100.00 | 104.29 | 118.61 | 95.04 | 60.90 | 58.00 | ||||||||||||||||||
29
Item
6 - Selected Financial Data
The
following table sets forth certain selected financial data for the Bank for each
of the years in the five-year periods ended December 31, 2009 and should be read
in conjunction with the more detailed information and financial statements
contained elsewhere herein (in thousands except per share data and
ratios).
|
December
31,
|
||||||||||||||||||||
|
(in
thousands except per share data and ratios)
|
2009
|
2008
|
2007
|
2006
|
2005
|
|||||||||||||||
|
Summary of Year-to-Date
Earnings:
|
||||||||||||||||||||
|
Interest
income and loan fees
|
$ | 35,673 | $ | 45,147 | $ | 57,156 | $ | 47,356 | $ | 38,898 | ||||||||||
|
Interest
expense
|
7,327 | 14,938 | 20,573 | 14,175 | 9,658 | |||||||||||||||
|
Net
interest income
|
28,346 | 30,209 | 36,583 | 33,181 | 29,240 | |||||||||||||||
|
Provision
for credit losses
|
13,375 | 9,526 | 6,231 | 880 | 1,140 | |||||||||||||||
|
Net
interest income after
|
||||||||||||||||||||
|
Provision
for credit losses
|
14,971 | 20,683 | 30,372 | 32,301 | 28,100 | |||||||||||||||
|
Noninterest
income
|
6,308 | 8,343 | 9,681 | 9,031 | 6,280 | |||||||||||||||
|
Noninterest
expense
|
27,966 | 23,351 | 22,215 | 19,937 | 16,982 | |||||||||||||||
|
(Loss)
income before taxes on income
|
(6,688 | ) | 5,675 | 17,818 | 21,395 | 17,398 | ||||||||||||||
|
Taxes
on income
|
(2,150 | ) | 1,605 | 6,561 | 8,035 | 6,390 | ||||||||||||||
|
Net
(loss) income
|
$ | (4,537 | ) | $ | 4,070 | $ | 11,257 | $ | 13,360 | $ | 11,008 | |||||||||
|
Per Share Data:
|
||||||||||||||||||||
|
Net
(loss) income – Basic
|
$ | (0.36 | ) | $ | 0.32 | $ | 0.89 | $ | 1.11 | $ | 0.91 | |||||||||
|
Net
(loss) income – Diluted
|
$ | (0.36 | ) | $ | 0.32 | $ | 0.89 | $ | 1.10 | $ | 0.91 | |||||||||
|
Average
shares outstanding – Basic
|
12,496,578 | 12,537,955 | 12,659,442 | 12,042,293 | 12,069,323 | |||||||||||||||
|
Average
shares outstanding - Diluted
|
12,496,578 | 12,541,516 | 12,696,327 | 12,167,476 | 12,157,751 | |||||||||||||||
|
Cash
dividends paid
|
$ | 0.00 | $ | 0.26 | $ | 0.50 | $ | 0.43 | $ | 0.35 | ||||||||||
|
Financial Position at
Period-end:
|
||||||||||||||||||||
|
Total
assets
|
$ | 692,567 | $ | 761,077 | $ | 771,715 | $ | 678,314 | $ | 628,859 | ||||||||||
|
Total
net loans and leases
|
492,692 | 531,788 | 583,625 | 489,764 | 407,416 | |||||||||||||||
|
Total
deposits
|
561,660 | 508,486 | 634,617 | 587,127 | 546,460 | |||||||||||||||
|
Total
shareholders' equity
|
75,821 | 79,610 | 82,431 | 66,042 | 59,014 | |||||||||||||||
|
Book
value per share
|
$ | 6.07 | $ | 6.37 | $ | 6.55 | $ | 5.51 | $ | 4.89 | ||||||||||
|
Selected Financial Ratios:
|
||||||||||||||||||||
|
Return
on average assets
|
(0.62 | %) | 0.52 | % | 1.47 | % | 2.04 | % | 1.76 | % | ||||||||||
|
Return
on average shareholders' equity
|
(5.77 | %) | 4.93 | % | 13.73 | % | 20.99 | % | 19.46 | % | ||||||||||
|
Average
shareholders' equity to average assets
|
10.71 | % | 10.60 | % | 10.73 | % | 9.70 | % | 9.02 | % | ||||||||||
|
Allowance
for credit losses as a percentage
|
||||||||||||||||||||
|
of
total nonperforming loans
|
43.20 | % | 25.24 | % | 45.99 | % | 57.50 | % | 91.31 | % | ||||||||||
|
Net
charge-offs to average loans
|
1.85 | % | 0.93 | % | 0.77 | % | 0.05 | % | 0.15 | % | ||||||||||
|
Allowance
for credit losses as a percentage
|
||||||||||||||||||||
|
of
period-end loans
|
2.96 | % | 2.12 | % | 1.26 | % | 0.88 | % | 1.04 | % | ||||||||||
|
Dividend
payout ratio
|
0.00 | % | 80.12 | % | 56.39 | % | 39.16 | % | 38.65 | % | ||||||||||
30
Item
7. Management's Discussion and Analysis of Financial Condition and Results of
Operations
Overview
Certain
matters discussed or incorporated by reference in this Annual Report on Form
10-K are forward-looking statements that are subject to risks and uncertainties
that could cause actual results to differ materially from those projected in the
forward-looking statements. Such risks and uncertainties include, but are not
limited to, those described in Management’s Discussion and Analysis of Financial
Condition and Results of Operations. Such risks and uncertainties include, but
are not limited to, the following factors: i) competitive pressures in the
banking industry and changes in the regulatory environment; ii) exposure to
changes in the interest rate environment and the resulting impact on the
Company’s interest rate sensitive assets and liabilities; iii) decline in the
health of the economy nationally or regionally which could reduce the demand for
loans or reduce the value of real estate collateral securing most of the
Company’s loans; iv) credit quality deterioration that could cause an increase
in the provision for loan losses; v) Asset/Liability matching risks and
liquidity risks; volatility and devaluation in the securities markets, and vi)
expected cost savings from recent acquisitions are not realized. Therefore, the
information set forth therein should be carefully considered when evaluating the
business prospects of the Company.
The
Company
On June
12, 2001, the United Security Bank (the “Bank”) became the wholly owned
subsidiary of United Security Bancshares (the “Company”) through a tax-free
holding company reorganization, accounted for on a basis similar to the pooling
of interest method. In the transaction, each share of Bank stock was exchanged
for a share of Company stock on a one-to-one basis. No additional equity was
issued as part of this transaction. In the following discussion, references to
the Bank are references to United Security Bank. References to the Company are
references to United Security Bancshares (including the Bank).
On June
28, 2001, United Security Bancshares Capital Trust I (the “Trust”) was formed as
a Delaware business trust for the sole purpose of issuing Trust Preferred
securities. On July 16, 2001, the Trust completed the issuance of $15 million in
Trust Preferred securities, and concurrently, the Trust used the proceeds from
that offering to purchase Junior Subordinated Debentures of the Company. The
Company contributed $13.7 million of the $14.5 million in net proceeds received
from the Trust to the Bank to increase its regulatory capital and used the rest
for the Company’s business. Effective January 1, 2007, the Company adopted the
fair value option for its junior subordinated debt issued by the Trust. As a
result of the adoption of the accounting standards related to the fair value
option, the Company recorded a fair value adjustment of $1.3 million, reflected
as an adjustment to beginning retained earnings. On July 25, 2007, the Company
redeemed the $15.0 million in subordinated debentures plus accrued interest of
$690,000 and a 6.15% prepayment penalty totaling $922,500. Concurrently, the
Trust Preferred securities issued by Capital Trust I were redeemed. The
prepayment penalty of $922,500 had previously been a component of the fair value
adjustment for the junior subordinated debt at the initial adoption of the fair
value option.
Effective
December 31, 2001, United Security Bank formed a subsidiary Real Estate
Investment Trust (“REIT”) through which preferred stock was offered to private
investors, to raise capital for the bank in accordance with the laws and
regulations in effect at the time. The principal business purpose of the REIT
was to provide an efficient and economical means to raise capital. The REIT also
provided state tax benefits beginning in 2002. On December 31, 2003 the
California Franchise Tax Board (FTB) announced certain tax transactions related
to real estate investment trusts (REITs) and regulated investment companies
(RICs) will be disallowed pursuant to Senate Bill 614 and Assembly Bill 1601,
which were signed into law in the 4th quarter of 2003 (For further discussion see Income
Taxes section of Results of Operations contained in this Management’s Discussion
and Analysis of Financial Condition and Results of
Operations).
Effective
April 23, 2004, the Company completed its merger with Taft National Bank
headquartered in Taft, California. Taft National Bank (“Taft”) was merged into
United Security Bank and Taft’s two branches began operating as branches of
United Security Bank. The total consideration paid to Taft shareholders was
241,447 shares of the Company’s common stock valued at just over approximately
$6.0 million. As a result of the merger, the Company acquired $15.4 million in
cash and short-term investments, $23.3 million in loans, and $48.2 million in
deposits.
31
During
August 2005, the Bank formed a new subsidiary named United Security Emerging
Capital Fund (the Fund) for the purpose of providing investment capital for
Low-Income Communities (LIC’s). The new subsidiary was formed as a Community
Development Entity (CDE) and as such, must be certified by the Community
Development Financial Institutions Fund of the United States Department of the
Treasury in order to apply for New Market Tax Credits (NMTC). The Fund submitted
an application to the Department of the Treasury to become certified as a CDE in
August 2005 and was approved in February 2006. Subsequent to that application,
the Fund submitted an application to apply for an allocation of New Market Tax
Credits in September 2005. The Fund was not awarded funding from the Department
of Treasury during the 2006 allocation process, but applied for the 2007
allocation of New Market Tax Credits in August 2006. The Fund was not awarded
funding during the 2007 allocation process. The Fund did not apply for
allocations of New Market Credits during 2007, 2008, or 2009. If the
Fund’s NMTC is ever approved for the allocation of New Market Credits, the Fund
can attract investments and make loans and investments in LIC’s and thereby
qualify its investors to receive Federal Income Tax Credits. The maximum that
can be applied for under the New Markets Tax Credit program by any one CDE is
$150 million, and the Bank is subject to an investment limitation of 10% of its
risk-based capital. Federal new market tax credits would be applied over a
seven-year period, 5% for the first three years, and 6% for the next four years
for a total of 39%.
On
February 16, 2007, the Company completed its merger of Legacy Bank, N.A. with
and into United Security Bank, a wholly owned subsidiary of the Company. Legacy
Bank which began operations in 2003 operated one banking office in Campbell,
California serving small business and retail banking clients. With its small
business and retail banking focus, Legacy Bank provides a unique opportunity for
United Security Bank to serve a loyal and growing small business niche and
individual client base in the San Jose area. Upon completion of the merger,
Legacy Bank's branch office began operating as a branch office of United
Security Bank. As of February 16, 2007 Legacy Bank had net assets of
approximately of $8.6 million, including net loans of approximately $62.4
million and deposits of approximately $69.6 million.
In the
merger with Legacy Bank, the Company issued 976,411 shares of its stock in a tax
free exchange for all of the Legacy Bank common shares. The total value of the
transaction was approximately $21.7 million. The merger transaction was
accounted for using the purchase accounting method, and resulted in the purchase
price being allocated to the assets acquired and liabilities assumed from Legacy
based on the fair value of those assets and liabilities. Fair-market-value
adjustments and intangible assets totaled approximately $12.9 million, including
$8.8 million in goodwill. The allocations of purchase price based upon the fair
market value of assets acquired and liabilities assumed were finalized during
the fourth quarter of 2007.
During
July 2007, the Company formed USB Capital Trust II, a wholly-owned special
purpose entity, for the purpose of issuing Trust Preferred Securities. Like USB
Capital Trust I formed in July 2001, USB Capital Trust II is a Variable Interest
Entity (VIE) and a deconsolidated entity pursuant current accounting standards
related to variable interest entities. On July 23, 2007 USB Capital Trust II
issued $15 million in Trust Preferred securities. The securities have a
thirty-year maturity and bear a floating rate of interest (repricing quarterly)
of 1.29% over the three-month LIBOR rate. Interest is payable quarterly.
Concurrent with the issuance of the Trust Preferred securities, USB Capital
Trust II used the proceeds of the Trust Preferred securities offering to
purchase a like amount of junior subordinated debentures of the Company. The
Company pays interest on the junior subordinated debentures to USB Capital Trust
II, which represents the sole source of dividend distributions to the holders of
the Trust Preferred securities. The Company elected at September 30, 2009 to
defer quarterly payments of interest on the junior subordinated debentures
beginning with the quarterly payment due October 1, 2009. The terms of the
debentures permit the deferment of payment of interest for up to 20 consecutive
quarters. Interest continues to accrue while interest payments are deferred.
Under the terms of the trust preferred securities the Company is prohibited from
paying dividends on its capital stock (including common stock) during the
deferral period. The Company may redeem the junior subordinated debentures at
anytime before October 2008 at a redemption price of 103.3, and thereafter each
October as follows: 2008 at 102.64, 2009 at 101.98, 2010 at 101.32, 2011 at
100.66, and at par anytime after October 2012.
The Bank
currently has eleven banking branches, one construction lending office, and one
financial services office, which provide banking and financial services in
Fresno, Madera, Kern, and Santa Clara counties. As a community-oriented bank
holding company, the Company continues to seek ways to better meet its
customers' needs for financial services, and to expand its business
opportunities in today's ever-changing financial services environment. The
Company's strategy is to be a better low-cost provider of services to its
customer base while enlarging its market area and corresponding customer base to
further its ability to provide those services.
The
Company has made certain reclassifications to the previous year’s financial
information to conform to the classifications used in 2009. Effective January 1,
2009, the Company reclassified a contingent asset that represents a claim from
an insurance company related to a charged-off lease portfolio, including
specific reserves, from loans to other assets. Management believes the asset is
better reflected, given its nature, as an asset other than loans (see Note 1 to
the consolidated financial statements contained in Item 8 of this Form 10-K for
more details). All periods presented have been retroactively adjusted for the
reclassification to other assets and therefore amounts have been excluded from
loans and reserves for credit losses, including impaired and nonaccrual balances
for periods prior to December 31, 2009. The contingent asset was ultimately
settled during the quarter ended June 30, 2009 resulting in a pretax gain of
$117,000. In addition, At December 31, 2009, the Company reclassified certain
loans in its portfolio for reporting purposes. In particular, certain loans
previously classified as commercial and industrial loans have been
retrospectively reclassified as either construction and development loans, or
commercial real estate loans, depending on whether they are partially completed,
or are generating rental income (see Significant Accounting Policies in Note 1
to the consolidated financial statements contained in Item 8 of this Form 10K
for more details.)
32
Current
Trends Affecting Results of Operations and Financial Position
The
Company’s overall operations are impacted by a number of factors, including not
only interest rates and margin spreads, which impact results of operations, but
also the composition of the Company’s balance sheet. One of the primary
strategic goals of the Company is to maintain a mix of assets that will generate
a reasonable rate of return without undue risk, and to finance those assets with
a low-cost and stable source of funds. Liquidity and capital resources must also
be considered in the planning process to mitigate risk and allow for
growth.
The
following table summarizes the year-to-date averages of the components of
interest-bearing assets as a percentage of total interest bearing assets, and
the components of interest-bearing liabilities as a percentage of total
interest-bearing liabilities:
|
YTD
Average 12/31/09
|
YTD
Average 12/31/08
|
YTD
Average 12/31/07
|
||||||||||
|
Loans
|
85.09 | % | 84.11 | % | 84.88 | % | ||||||
|
Investment
securities
|
13.38 | % | 14.41 | % | 13.57 | % | ||||||
|
Interest-bearing
deposits in other banks
|
0.94 | % | 1.40 | % | 1.03 | % | ||||||
|
Federal
funds sold
|
0.59 | % | 0.08 | % | 0.52 | % | ||||||
|
Total
earning assets
|
100.00 | % | 100.00 | % | 100.00 | % | ||||||
|
NOW
accounts
|
8.80 | % | 7.92 | % | 8.82 | % | ||||||
|
Money
market accounts
|
22.68 | % | 22.89 | % | 25.99 | % | ||||||
|
Savings
accounts
|
6.86 | % | 7.50 | % | 8.79 | % | ||||||
|
Time
deposits
|
39.94 | % | 42.51 | % | 50.05 | % | ||||||
|
Other
borrowings
|
19.44 | % | 16.84 | % | 3.40 | % | ||||||
|
Trust
Preferred Securities
|
2.28 | % | 2.34 | % | 2.95 | % | ||||||
|
Total
interest-bearing liabilities
|
100.00 | % | 100.00 | % | 100.00 | % | ||||||
Continued
weakness in the real estate markets and the general economy have impacted the
Company’s operations during the past year with increased levels of nonperforming
assets, increased expenses related to foreclosed properties, and decreased
profit margins. Although the Company continues its business development and
expansion efforts throughout its market area, increased attention has been
placed on reducing nonperforming assets and providing customers more options to
help work through this difficult economic period.
With
market rates of interest declining 100 basis points during the fourth quarter of
2007, and another 400 basis points during the year ended December 31, 2008, the
Company continues to experience compressed net interest margins. The Company’s
net interest margin was 4.51% for the year ended December 31, 2009, as compared
to 4.36% for the year ended December 31, 2008, and 5.40% for the year ended
December 31, 2007. With approximately 62% of the loan portfolio in floating rate
instruments at December 31, 2009, the effects of low market rates continue to
impact loan yields. Loans yielded 5.83% during the year ended December 31, 2009,
as compared to 6.81% and 9.16% for the years ended December 31, 2008 and 2007,
respectively. With the rapid decline in market rates of interest experienced
during 2008, deposit repricing was slow to follow the decline in loan rates
during the second half of 2008. However, with stock market declines, combined
with more substantial FDIC insurance coverage, deposit rates declined during the
fourth quarter of 2008 as investors sought safety in bank deposits. Borrowing
rates declined significantly during the fourth quarter of 2008 and have remained
low during 2009, resulting in overnight and short-term borrowing rates of less
than 0.50% during much of the year. The Company has benefited from these rate
declines, as it has continued to utilize overnight and short-term borrowing
lines through the Federal Reserve and Federal Home Loan Bank to a greater
degree. In addition, brokered and other wholesale deposits provided lower rates
than much of the Company’s market area during much of the second half of 2009.
The Company’s average cost of funds was 1.43% for the year ended December 31,
2009 as compared to 2.75% and 3.91% for the years ended December 31, 2008 and
2007.
Total
noninterest income of $6.3 million reported for the year ended December 31, 2009
decreased $2.0 million or 24.4% as compared to the year ended December 31, 2008,
resulting in declines in all but two of the noninterest income categories
between the two annual periods. Noninterest income continues to be driven by
customer service fees, which totaled $3.9 million for the year ended December
31, 2009, representing a decrease of $774,000 or 16.6% over the $4.7 million in
customer service fees reported for the year ended December 31, 2008, and a
decrease of $908,000 or 19.0% over the $4.8 million reported for the year ended
December 31, 2007. Other components of noninterest income have become more
volatile during the past several years as many have been nonrecurring or
non-sustainable, including gains or losses on other real estate owned through
foreclosure or other asset disposals as the Company works to reduce problem
assets. Although we believe the decline in current economic conditions has had
an impact on the level of customer service fees, decreases in ATM fees between
the periods presented resulting from the loss of a contract during 2008 to
provide multiple ATM’s in a single location have also adversely impacted the
level of customer service fees. Customer service fees represented 61.5%, 55.8%,
and 49.5% of total noninterest income for the years ended December 31, 2009,
2008, and 2007, respectively.
33
Noninterest
expense increased approximately $4.6 million or 19.8% between the years ended
December 31, 2008 and December 31, 2009, and increased $5.8 million of 25.9%
between the years ended December 31, 2007 and December 31, 2009. Although
noninterest expense increased only minimally between 2007 and 2008, significant
increases experienced during the year ended December 31, 2009 were primarily the
result of both increases in impairment charges, as well as increased costs
associated with problem loan workouts, as well as OREO maintenance and disposal
preparation costs on foreclosed properties. A major component of the increase in
noninterest expense experienced during the year ended December 31, 2009 was a
goodwill impairment loss totaling $3.0 million recognized during the second
quarter of 2009. While impairment losses on the Company’s core
deposit intangible assets decreased $567,000 between the years ended December
31, 2008 and 2009, the Company took impairment charges of $1.3 million during
2009 on real estate owned through foreclosure, and $843,000 on investment
securities. Salary expense decreased $2.1 million or 19.4% between the years
ended December 31, 2008 and December 31, 2009, primarily as the result of
declines in accrued bonuses and employee incentives between the two
periods.
Effective
September 30, 2009 and beginning with the quarterly interest payment due October
1, 2009, the Company elected to defer interest payments on the Company's $15.0
million of junior subordinated debentures relating to its trust preferred
securities. This is the result of regulatory restraints which have precluded the
Bank from paying dividends to the Company. The terms of the debentures and trust
indentures allow for the Company to defer interest payments for up to 20
consecutive quarters without default or penalty. During the period that the
interest deferrals are elected, the Company will continue to record interest
expense associated with the debentures. Upon the expiration of the deferral
period, all accrued and unpaid interest will be due and payable. Under the terms
of the debenture, the Company is precluded from paying cash dividends to
shareholders or repurchasing its stock during the deferral period.
The
Company has not paid any cash dividends on its common stock since the second
quarter of 2008 and does not expect to resume common stock dividends for the
foreseeable future. Because the Company has elected to defer the quarterly
payments of interest on its junior subordinated debentures issued in connection
with the trust preferred securities as discussed above, the Company is
prohibited from paying cash dividends on its common stock during the deferral
period. As with the first three quarters of 2009, on December 15, 2009 the
Company’s Board of Directors again declared a one-percent (1%) stock dividend on
the Company’s outstanding common stock. The stock dividend replaces quarterly
cash dividends and reflects a similar value. Although the Company's capital
position remains strong, the change in the dividend from cash to stock begun
during the third quarter of 2008 was employed as a precaution against
uncertainties in the 1-4 family residential real estate market and the potential
impact on the Company's construction and related land and lot loan portfolio.
The Company believes, given the current uncertainties in the economy and
unprecedented declines in real estate valuations in our markets, it is prudent
to retain capital in this environment, and better position the Company for
future growth opportunities. Based upon the number of outstanding common shares
on the record date of January 8, 2010, an additional 123,716 shares were issued
to shareholders on January 20, 2010. For purposes of earnings per share
calculations, the Company’s weighted average shares outstanding and potentially
dilutive shares used in the computation of earnings per share have been restated
after giving retroactive effect to the 1% stock dividend to shareholders for all
periods presented.
The
Company has sought to maintain a strong, yet conservative balance sheet while
reducing the level of nonperforming assets during the year ended December 31,
2009. Total assets decreased approximately $68.5 million during the year ended
December 31, 2009, with a decrease of $39.1 million in interest-bearing deposits
in other banks and investment securities as the Company decreased its borrowing
exposure during 2009. Decreases of $115.0 million in overnight and term
borrowings were partially offset by increases in brokered and other deposits.
Declines of approximately $36.0 million in loans during the year ended December
31, 2009 are due in large part to loan charge-offs or transfers to other real
estate owned through foreclosure. Average loans comprised approximately 85% of
overall average earning assets during the year ended December 31, 2009, a
percentage that has remained consistent over the past three years.
Nonperforming
assets, which are primarily related to the real estate loan and property
portfolio, remained high during the year ended December 31, 2009 as real estate
markets continue to suffer from the mortgage crisis which began during mid-2007.
Nonaccrual loans totaling $34.8 million at December 31, 2009, decreased $10.5
million from the balance reported at December 31, 2008, and decreased $20.4
million from the balance reported at September 30, 2009. In determining the
adequacy of the underlying collateral related to these loans, management
monitors trends within specific geographical areas, loan-to-value ratios,
appraisals, and other credit issues related to the specific
loans. Impaired loans increased $4.8 million during the year ended
December 31, 2009 to a balance of $53.8 million at December 31, 2009, but
decreased $20.0 million during the quarter ended December 31, 2009. Other real
estate owned through foreclosure increased $6.1 million between December 31,
2008 and December 31, 2009, as transfers of $21.7 million in loans to other real
estate owned during the year more than offset write-downs and sales of those
assets during the year. As a result of these events, nonperforming assets as a
percentage of total assets increased from 9.96% at December 31, 2008 to 12.56%
at December 31, 2009.
34
As the
economy has declined along with asset valuations, increased emphasis has been
placed on impairment analysis of both tangible and intangible assets on the
balance sheet. As of March 31, 2009, the Company conducted annual impairment
testing on the largest component of its outstanding balance of goodwill, that of
the Campbell operating unit (resulting from the Legacy merger during February
2007.) In part, as a result of the severe decline in interest rates and other
economic factors within the industry, we could not conclude at March 31, 2009
that there was not a possibility of goodwill impairment under the current
economic conditions. During the second quarter of 2009, the Company utilized an
independent valuation service to determine the aggregate fair value of the
individual assets, liabilities, and identifiable intangible assets of the
Campbell operating unit in question to determine if the goodwill related to that
operating unit was impaired, and if so, how much the impairment was. Management,
with the assistance of the independent third-party, concluded that there was
impairment of the goodwill related to the Campbell operating unit, and as a
result the Company recognized an impairment loss of $3.0 million or $0.25 per
share (pre-tax and after-tax) for the quarter ended June 30, 2009 and the year
ended December 31, 2009.
Management
continues to monitor economic conditions in the real estate market for signs of
further deterioration or improvement which may impact the level of the allowance
for credit losses required to cover identified losses in the loan portfolio.
Greater focus has been placed on identifying and reducing the level of problem
assets, while working with borrowers to find more options, including loan
restructures, to work through these difficult economic times. Increased
charge-offs and significant provisions for loan losses made during 2009
materially impacted earnings, but the provisions made to the allowance for
credit losses, totaling $1.4 million during the first quarter of 2009, $6.8
million during the second quarter of 2009, $435,000 made during the third
quarter of 2009, and $4.8 million made during the fourth quarter of 2009,
provided a level in the allowance for credit losses that is deemed adequate to
cover inherent losses in the loan portfolio. Loan and lease charge-offs totaling
$10.1 million during the year ended December 31, 2009 included $2.6 million
during the quarter ended March 31, 2009, $1.5 million during the quarter ended
June 30, 2009, $1.9 million during the quarter ended September 30, 2009, and an
additional $4.2 million during the fourth quarter of 2009.
Deposits
increased by $53.2 million during the year ended December 31, 2009, with
increases experienced in both interest-bearing checking accounts and time
deposits. Increases in time deposits experienced during the later part of 2009
were the result of a plan to reduce the Company’s reliance on borrowed
funds.
Although
balances have declined during the last half of 2009, the Company continues to
utilize overnight borrowings and other term credit lines, with borrowings
totaling $40.0 million at December 31, 2009, as compared to $54.4 million at
September 30, 2009, $135.3 million at June 30, 2009, and $155.0 million at
December 31, 2008. The average rate of those term borrowings was 0.86% at
December 31, 2009, as compared to 0.95% at September 30, 2009, 0.60% at June 30,
2009, and 0.93% at December 31, 2008. Although the Company continues to realize
significant interest expense reductions by utilizing these overnight and term
borrowings lines, the use of such lines are monitored closely to ensure sound
balance sheet management in light of the current economic, credit, and
regulatory environment.
The cost
of the Company’s subordinated debentures issued by USB Capital Trust II has
remained low as market rates have actually declined during most of 2009. With
pricing at 3-month-LIBOR plus 129 basis points, the effective cost of the
subordinated debt was 1.54% at December 31, 2009, representing a rate reduction
of 122 basis points between December 31, 2008 and December 31, 2009. Pursuant to
fair value accounting guidance, the Company has recorded $1.2 million in pretax
fair value gains on its junior subordinated debt during the year ended December
31, 2009, bringing the total cumulative gain recorded on the debt to $4.9
million at December 31, 2009.
The
Company continues to emphasize relationship banking and core deposit growth, and
has focused greater attention on its market area of Fresno, Madera, and Kern
Counties, as well as Campbell, in Santa Clara County. The San Joaquin Valley and
other California markets continue to exhibit weak demand for construction
lending and commercial lending from small and medium size businesses, as
commercial and residential real estate markets declined during much of 2008, a
condition which still persists at this time. The past year has presented
significant challenges for the banking industry with tightening credit markets,
weakening real estate markets, and increased loan losses adversely affecting the
industry.
35
The
Company continually evaluates its strategic business plan as economic and market
factors change in its market area. Balance sheet management, enhancing revenue
sources, and maintaining market share will be of primary importance during 2010
and beyond. The banking industry is currently experiencing continued pressure on
net margins as well as asset quality resulting from conditions in the real
estate market, and a general deterioration in credit markets. On March 23, 2010,
the Company and the Bank entered into a regulatory agreement with the Federal
Reserve Bank which, among other things, requires improvements in the overall
condition of the Company and the Bank (see Regulatory Agreement in the
Regulatory Matters section of this Management's Discussion and Analysis of
Financial Condition and Results of Operations for more details.) As a result,
market rates of interest, asset quality, as well as regulatory oversight will
continue be an important factor in the Company’s ongoing strategic planning
process.
Application of Critical
Accounting Policies and Estimates
The
Company’s consolidated financial statements are prepared in accordance with
generally accepted accounting principles and follow general practices within the
industry in which it operates. Application of these principles requires
management to make estimates, assumptions, and judgments that affect the amounts
reported in the financial statements and accompanying notes. These estimates,
assumptions, and judgments are based on information available as of the date of
the financial statements; accordingly, as this information changes, the
financial statements could reflect different estimates, assumptions, and
judgments. Certain policies inherently have a greater reliance on the use of
estimates, assumptions, and judgments and as such have a greater possibility of
producing results that could be materially different than originally reported.
Estimates, assumptions, and judgments are necessary when assets and liabilities
are required to be recorded at fair value, when a decline in the value of an
asset not carried on the financial statements at fair value warrants an
impairment write-down or valuation reserve to be established, or when an asset
or liability needs to be recorded contingent upon a future event. Carrying
assets and liabilities at fair value inherently results in more financial
statement volatility. The fair values and the information used to record
valuation adjustments for certain assets and liabilities are based either on
quoted market prices or are provided by other third-party sources, when
available. When third-party information is not available, valuation adjustments
are estimated using the Company’s own assumptions about the assumptions that
market participants would use in pricing the asset or liability.
The most
significant accounting policies followed by the Company are presented in Note 1
to the Company’s consolidated financial statements included herein. These
policies, along with the disclosures presented in the other financial statement
notes and in this financial review, provide information on how significant
assets and liabilities are valued in the financial statements and how those
values are determined. Based on the valuation techniques used and the
sensitivity of financial statement amounts to the methods, assumptions, and
estimates underlying those amounts, management has identified the determination
of the allowance for credit losses, other real estate owned through foreclosure,
impairment of collateralized mortgage obligations and other investment
securities, and fair value estimates on junior subordinated debt, valuation for
deferred income taxes, and goodwill, to be accounting areas that require the
most subjective or complex judgments, and as such could be most subject to
revision as new information becomes available.
Allowance
for Credit Losses
The
allowance for credit losses represents management's estimate of probable credit
losses inherent in the loan portfolio. Determining the amount of the allowance
for credit losses is considered a critical accounting estimate because it
requires significant judgment and the use of estimates related to the amount and
timing of expected future cash flows on impaired loans, estimated losses on
pools of homogeneous loans based on historical loss experience, and
consideration of current economic trends and conditions, all of which may be
susceptible to significant change. The loan portfolio also represents the
largest asset type on the consolidated balance sheet. Note 1 to the consolidated
financial statements describes the methodology used to determine the allowance
for credit losses and a discussion of the factors driving changes in the amount
of the allowance for credit losses is included in the Asset Quality and
Allowance for Credit Losses section of this financial review.
If the
loan portfolio were to increase by 10% proportionally throughout all loan
classifications, the additional estimated provision to the allowance that would
be required, based on the percentage loss allocations utilized at December 31,
2009, would be approximately $1.5 million pretax ($870,000 net of tax, or $0.07
per share basic and diluted). This estimate is comprised of an additional $1.1
million ($611,000 net of tax, or $0.05 per share basic and diluted) for
criticized loans (those classified as special mention or worse, excluding those
considered impaired and subject to asset-specific reserve allocations under
current accounting guidelines), and an additional $448,000 ($260,000 net of tax,
or $0.02 per share basic and diluted) for the remainder of the loan portfolio
that is performing.
Other Real Estate
Owned
Real
estate properties acquired through, or in lieu of, loan foreclosure are to be
sold and are initially recorded at fair value of the property, less estimated
costs to sell. The excess, if any, of the loan amount over the fair value of the
collateral is charged to the allowance for credit losses. The determination of
fair value is generally based upon pre-approved, external appraisals. As real
estate markets declined during over the past two years and essentially became
illiquid in many areas, Management was required to use additional judgment in
determining the factors associated with fair value of the real estate, including
the term over which the properties could be disposed in an orderly liquidation.
This became necessary as many appraisals were based upon comparable sales which
were deeply discounted forced liquidations or bulk sales caused by the severity
of the housing crises. Subsequent declines in the fair value of other real
estate owned, along with related revenue and expenses from operations, are
charged to noninterest expense. The fair market valuation of such properties is
based upon estimates, and as such, is subject to change as circumstances in the
Company’s market area, or general economic trends, change.
36
Impairment of Investment
Securities
Investment
securities classified as available for sale (“AFS”) are carried at fair value
and the impact of changes in fair value are recorded on the Company’s
consolidated balance sheet as an unrealized gain or loss in “Accumulated other
comprehensive income (loss),” a separate component of shareholders’ equity.
Securities classified as AFS or held to maturity (“HTM”) are subject to review
to identify when a decline in value is other than temporary. In April 2009, the FASB
updated the accounting standards for the recognition and presentation of
other-than-temporary impairments. The standard amends existing guidance on
other-than-temporary impairments for debt securities and requires that the
credit portion of other-than-temporary impairments be recorded in earnings and
the noncredit portion of losses be recorded in other comprehensive income (loss)
when the entity does not intend to sell the security and it is more likely than
not that the entity will not be required to sell the security prior to recovery
of its cost basis. The Company adopted the standard during the first quarter of
2009. Factors considered in determining whether a decline in value is
other than temporary include: whether the decline is substantial; the duration
of the decline; the reasons for the decline in value; whether the decline is
related to a credit event or to a change in interest rate; our ability and
intent to hold the investment for a period of time that will allow for a
recovery of value; and the financial condition and near-term prospects of the
issuer.
At
December 31, 2009, the Company considered three of its investment securities
other than temporarily impaired. The three private-label collateralized
mortgage obligations (residential mortgage obligations) have an amortized cost
of $15.1 million and carrying value of $9.7 million. Impairment analysis on
these three residential mortgage obligations was performed utilizing the
services of a third-party investment broker specializing in private-label CMO’s,
and was based upon estimated cash flows. Estimated cash flows were based upon
assumptions of future prepayments and default rates, and thus may be subject to
revision as events change in the future. For the year ended December 31, 2009,
the Company recognized pre-tax losses totaling $842,000 related to the credit
portion of the other-than-temporary impairment in earnings. The remaining $4.6
million impairment on the three residential mortgage obligations is recorded as
a component of other comprehensive income at December 31, 2009.
Fair
Value
Effective
January 1, 2007, the Company adopted fair value option accounting standards
choosing to apply the standards to its junior subordinated debt. The
Company concurrently adopted the accounting standards related to fair value
measurements. The accounting standards related to fair value measurements
defines how applicable assets and liabilities are to be valued, and requires
expanded disclosures about financial instruments carried at fair value. The fair
value measurement accounting standard establishes a hierarchical disclosure
framework associated with the level of pricing observability utilized in
measuring financial instruments at fair value. The degree of judgment utilized
in measuring the fair value of financial instruments generally correlates to the
level of pricing observability. Financial instruments with readily available
active quoted prices or for which fair value can be measured from actively
quoted prices generally will have a higher degree of pricing observability and a
lesser degree of judgment utilized in measuring fair value. Conversely,
financial instruments infrequently traded or not quoted in an active market will
generally have little or no pricing observability and a higher degree of
judgment utilized in measuring fair value. Pricing observability is impacted by
a number of factors, including the type of financial instrument, whether the
financial instrument is new to the market and not yet established and the
characteristics specific to the transaction. Determining fair values under the
accounting standards may include judgments related to measurement factors that
may vary from actual transactions executed in the marketplace. For the years
ended December 31, 2009 and December 31, 2008, the Company recorded fair value
gains related to its junior subordinated debt totaling $1.1 million and $1.4
million, respectively. (See Notes 8 and 13 of the Notes to Consolidated Financial
Statements for additional information about financial instruments carried
at fair value.)
Goodwill
Business
combinations involving the Company’s acquisition of the equity interests or net
assets of another enterprise or the assumption of net liabilities in an
acquisition of branches constituting a business may give rise to goodwill. The
acquisition of Taft National Bank during April 2004 gave rise to goodwill
totaling approximately $1.6 million, and the acquisition of Legacy Bank during
February 2007 resulted in goodwill of approximately $8.8 million. Goodwill
represents the excess of the cost of an acquired entity over the net of the
amounts assigned to assets acquired and liabilities assumed in transactions
accounted for under the purchase method of accounting. The value of goodwill is
ultimately derived from the Company’s ability to generate net earnings after the
acquisition. A decline in net earnings could be indicative of a decline in the
fair value of goodwill and result in impairment. For that reason, goodwill is
assessed for impairment at a reporting unit level at least annually using an
internal cash flow model. During the quarter ended June 30, 2009, the
Company recognized goodwill impairment of $3.0 million on the goodwill
associated with the 2007 Legacy acquisition. While the Company believes all
assumptions utilized in its assessment of goodwill for impairment are reasonable
and appropriate, changes in earnings, the effective tax rate, historical
earnings multiples and the cost of capital could all cause different results for
the calculation of the present value of future cash flows.
37
Income
Taxes
Deferred
income taxes are provided for the temporary differences between the financial
reporting basis and the tax basis of the Company's assets and liabilities.
Deferred taxes are measured using current tax rates applied to such taxable
income in the years in which those temporary differences are expected to be
recovered. If the Company’s future income is not sufficient to apply the
deferred tax assets within the tax years to which they may be applied, the
deferred tax asset may not be realized and the Company’s income will be
reduced.
On
January 1, 2007 the Company adopted the accounting standards
related to uncertainty in income taxes. The standard prescribes a recognition
threshold and measurement attribute for the financial statement recognition and
measurement of a tax position taken or expected to be taken in a tax return.
Under the accounting standards, an entity should recognize the financial
statement benefit of a tax position if it determines that it is more likely than not that the
position will be sustained on examination. The term “more likely than not” means
a likelihood of more than 50 percent.” In assessing whether the
more-likely-than-not criterion is met, the entity should assume that the tax
position will be reviewed by the applicable taxing authority.
The
Company reviewed its various tax positions, including its ongoing REIT case with
the California Franchise Tax Board (FTB), as of January 1, 2007 (adoption date),
and then again each subsequent quarter during 2007 in light of the adoption of
the accounting
standards related to uncertainty in income taxes. The Bank, with guidance
from advisors believes the case related to consent dividends taken by the Bank’s
REIT during 2002 has merit with regard to points of law, and that the tax law at
the time allowed for the deduction of the consent dividend. However, the Bank,
with the concurrence of advisors, cannot conclude that it is “more than likely”
(as defined) that the Bank will prevail in its case with the FTB. As a result of
this determination, effective January 1, 2007 the Company recorded an adjustment
of $1,298,470 to beginning retained earnings upon adoption of the accounting standards
related to uncertainty in income taxes to recognize the potential tax
liability under the guidelines of the interpretation. The adjustment includes
amounts for assessed taxes, penalties, and interest. During the years ended
December 31, 2009, 2008 and 2007, the Company increased the unrecognized tax
liability by an additional $87,092, $87,421 and $87,091, respectively, in
interest for the period, bringing the total recorded tax liability to
$1,560,084, $1,472,992 and $1,385,561 at December 31, 2009, December 31, 2008
and December 31, 2007, respectively. It is the Company’s policy to recognize
interest and penalties under FIN48 as a component of income tax
expense.
Pursuant
to the accounting
standards related to uncertainty in income taxes, the Company will
continue to re-evaluate existing tax positions, as well as new positions as they
arise. If the Company determines in the future that its tax positions are not
“more likely than not” to be sustained (as defined) by taxing authorities, the
Company may need to recognize additional tax liabilities.
Revenue
recognition
The
Company’s primary sources of revenue are interest income from loans and
investment securities. Interest income is generally recorded on an accrual
basis, unless the collection of such income is not reasonably assured or cannot
be reasonably estimated. Pursuant to accounting standards related to revenue
recognition, nonrefundable fees and costs associated with originating or
acquiring loans are recognized as a yield adjustment to the related loans by
amortizing them into income over the term of the loan using a method which
approximates the interest method. Other credit-related fees, such as
standby letter of credit fees, loan placement fees and annual credit card fees
are recognized as noninterest income during the period the related service is
performed.
For loans
placed on nonaccrual status, the accrued and unpaid interest receivable may be
reversed at management's discretion based upon management's assessment of
collectibility, and interest is thereafter credited to principal to the extent
necessary to eliminate doubt as to the collectibility of the net carrying amount
of the loan.
38
Results of
Operations
For the
year ended December 31, 2009, the Company reported a net loss of $4.5 million or
$0.36 per share ($0.36 diluted) as compared to net income of $4.1 million or
$0.32 per share ($0.32 diluted) for the year ended December 31, 2008, and net
income of $11.3 million or $0.89 per share ($0.89 diluted) for the year ended
December 31, 2007. Net income decreased $8.6 million between December 31, 2008
and December 31, 2009 as the result of increased provisions for credit losses
taken during the year, combined with declines in the volume of, and yields on
earning assets, as well as increases in other impairment losses and OREO-related
expenses. Net income decreased $7.2 million between December 31, 2007 and
December 31, 2008 as the result of increased provisions for credit losses taken
during the third and fourth quarters, combined with significant declines in
market rates of interest during 2008.
The
Company’s return on average assets was (0.62%) for the year ended December 31,
2009 as compared to 0.52 % and 1.47 % for the same twelve-month periods of 2008
and 2007, respectively. The Company’s return on average equity was (5.77%) for
the year ended December 31, 2009 as compared to 4.93 % and 13.73 % for the same
twelve-month periods of 2008 and 2007, respectively. As with declines in net
income, declines in the return on average assets and average equity experienced
by the Company during 2009 were primarily the result of additional loan loss
provisions taken during the year, as well as increased impairment losses and
OREO-related expenses.
Net
Interest Income
Net
interest income, the most significant component of earnings, is the difference
between the interest and fees received on earning assets and the interest paid
on interest-bearing liabilities. Earning assets consist primarily of loans, and
to a lesser extent, investments in securities issued by federal, state and local
authorities, and corporations, as well as interest-bearing deposits and
overnight funds with other financial institutions. These earning assets are
funded by a combination of interest-bearing and noninterest-bearing liabilities,
primarily customer deposits and short-term and long-term
borrowings.
Net
interest income before provision for credit losses totaled $28.3 million for the
year ended December 31, 2009 as compared to $30.2 million for the year ended
December 31, 2008, and $36.6 million for the year ended December 31, 2007. This
represents a decrease of $1.9 million or 6.2 % between the years ended December
31, 2008 and 2009, as compared to a decrease of $6.4 million or 17.4% between
2006 and 2007. The decrease in net interest income between 2008 and 2009, as
well as between 2007 and 2008, is primarily the result of decreased yields on
interest-earning assets, which more than offset the decreased yields on
interest-bearing liabilities.
39
Table 1. – Distribution of
Average Assets, Liabilities and Shareholders’ Equity:
Interest
rates and interest differentials
Years
Ended December 31, 2009, 2008, and 2007
|
2009
|
2008
|
2007
|
||||||||||||||||||||||||||||||||||
|
(Dollars
in thousands)
|
Average
Balance
|
Interest
|
Yield/ Rate
|
Average
Balance
|
Interest
|
Yield/ Rate
|
Average
Balance
|
Interest
|
Yield/ Rate
|
|||||||||||||||||||||||||||
|
Assets:
|
||||||||||||||||||||||||||||||||||||
|
Interest-earning
assets:
|
||||||||||||||||||||||||||||||||||||
|
Loans
(1)
|
$ | 534,830 | $ | 31,197 | 5.83 | % | $ | 582,500 | $ | 39,669 | 6.81 | % | $ | 575,448 | $ | 52,690 | 9.16 | % | ||||||||||||||||||
|
Investment
Securities – taxable
|
82,865 | 4,298 | 5.19 | % | 98,330 | 5,170 | 5.26 | % | 89,765 | 3,896 | 4.34 | % | ||||||||||||||||||||||||
|
Investment
Securities – nontaxable (2)
|
1,252 | 58 | 4.63 | % | 1,452 | 68 | 4.68 | % | 2,227 | 108 | 4.85 | % | ||||||||||||||||||||||||
|
Interest
on deposits in other banks
|
5,905 | 117 | 1.98 | % | 9,680 | 222 | 2.29 | % | 7,001 | 271 | 3.87 | % | ||||||||||||||||||||||||
|
Federal
funds sold and reverse repos
|
3,708 | 3 | 0.08 | % | 549 | 18 | 3.28 | % | 3,527 | 191 | 5.42 | % | ||||||||||||||||||||||||
|
Total
interest-earning assets
|
628,560 | $ | 35,673 | 5.68 | % | 692,511 | $ | 45,147 | 6.52 | % | 677,968 | $ | 57,156 | 8.43 | % | |||||||||||||||||||||
|
Allowance
for credit losses
|
(12,639 | ) | (8,729 | ) | (5,867 | ) | ||||||||||||||||||||||||||||||
|
Noninterest-bearing
assets:
|
||||||||||||||||||||||||||||||||||||
|
Cash
and due from banks
|
18,528 | 20,785 | 25,255 | |||||||||||||||||||||||||||||||||
|
Premises
and equipment, net
|
13,731 | 14,981 | 15,899 | |||||||||||||||||||||||||||||||||
|
Accrued
interest receivable
|
2,405 | 2,779 | 4,061 | |||||||||||||||||||||||||||||||||
|
Other
real estate owned
|
34,345 | 9,434 | 3,187 | |||||||||||||||||||||||||||||||||
|
Other
assets
|
49,153 | 46,122 | 43,831 | |||||||||||||||||||||||||||||||||
|
Total
average assets
|
$ | 734,083 | $ | 777,883 | $ | 764,334 | ||||||||||||||||||||||||||||||
|
Liabilities
and Shareholders' Equity:
|
||||||||||||||||||||||||||||||||||||
|
Interest-bearing
liabilities:
|
||||||||||||||||||||||||||||||||||||
|
NOW
accounts
|
$ | 45,189 | $ | 176 | 0.39 | % | $ | 42,988 | $ | 223 | 0.52 | % | $ | 46,382 | $ | 292 | 0.63 | % | ||||||||||||||||||
|
Money
market accounts
|
116,522 | 2,214 | 1.90 | % | 124,202 | 2,963 | 2.39 | % | 136,720 | 4,246 | 3.11 | % | ||||||||||||||||||||||||
|
Savings
accounts
|
35,228 | 219 | 0.62 | % | 40,699 | 482 | 1.18 | % | 46,225 | 883 | 1.91 | % | ||||||||||||||||||||||||
|
Time
deposits
|
205,261 | 3,583 | 1.75 | % | 230,746 | 8,420 | 3.65 | % | 263,196 | 12,993 | 4.94 | % | ||||||||||||||||||||||||
|
Other
borrowings
|
99,877 | 804 | 0.80 | % | 91,368 | 2,116 | 2.32 | % | 17,891 | 925 | 5.17 | % | ||||||||||||||||||||||||
|
Trust
Preferred securities
|
11,692 | 331 | 2.83 | % | 12,710 | 734 | 5.77 | % | 15,537 | 1,234 | 7.94 | % | ||||||||||||||||||||||||
|
Total
interest-bearing liabilities
|
513,769 | $ | 7,327 | 1.43 | % | 542,713 | $ | 14,938 | 2.75 | % | 525,951 | $ | 20,573 | 3.91 | % | |||||||||||||||||||||
|
Noninterest-bearing
liabilities:
|
||||||||||||||||||||||||||||||||||||
|
Noninterest-bearing
checking
|
134,925 | 144,772 | 146,954 | |||||||||||||||||||||||||||||||||
|
Accrued
interest payable
|
623 | 1,131 | 2,207 | |||||||||||||||||||||||||||||||||
|
Other
liabilities
|
6,147 | 6,782 | 7,221 | |||||||||||||||||||||||||||||||||
|
Total
average liabilities
|
655,464 | 695,398 | 682,333 | |||||||||||||||||||||||||||||||||
|
Total
average shareholders' equity
|
78,619 | 82,485 | 82,001 | |||||||||||||||||||||||||||||||||
|
Total
average liabilities and
|
||||||||||||||||||||||||||||||||||||
|
Shareholders'
equity
|
$ | 734,083 | $ | 777,883 | $ | 764,334 | ||||||||||||||||||||||||||||||
|
Interest
income as a percentage
|
||||||||||||||||||||||||||||||||||||
|
of
average earning assets
|
5.68 | % | 6.52 | % | 8.43 | % | ||||||||||||||||||||||||||||||
|
Interest
expense as a percentage
|
||||||||||||||||||||||||||||||||||||
|
of
average earning assets
|
1.17 | % | 2.16 | % | 3.03 | % | ||||||||||||||||||||||||||||||
|
Net
interest margin
|
4.51 | % | 4.36 | % | 5.40 | % | ||||||||||||||||||||||||||||||
|
(1)
|
Loan
amounts include nonaccrual loans, but the related interest income has been
included only if collected for the period prior to the loan being placed
on a nonaccrual basis. Loan interest income includes loan fees of
approximately $1,547,000, $3,074,000, and $3,076,000 for the years ended
December 31, 2009, 2008, and 2007,
respectively.
|
|
(2)
|
Applicable nontaxable securities
yields have not been calculated on a tax-equivalent basis because they are
not material to the Company’s results of
operations.
|
As
summarized in Table 2, the increase in net interest income between the two
twelve-month periods ended December 31, 2009 and 2008 is comprised of a decrease
in total interest income of approximately $9.5 million, which was only partially
offset by a decrease in total interest expense of approximately $7.6 million.
This change is less severe than the previous year’s comparison where an increase
in net interest income between the two years ended December 31, 2008 and 2007
was comprised of a decrease in total interest income of approximately $12.0
million, which was only partially offset by a decrease in total interest expense
of approximately $5.6 million.
The
Bank's year-to-date net interest margin, as shown in Table 1, increased to 4.51%
at December 31, 2009 from 4.36% at December 31, 2008, an increase of 15 basis
points (100 basis points = 1%) between the two periods, but decreased 89 basis
points from the 5.40% net margin realized during the year ended December 31,
2007.
As a
result of changes in market rates of interest, the prime rate averaged 3.25% for
the year ended December 31, 2009 as compared to 5.09% and 8.05% for the years
ended December 31, 2008 and 2007, respectively.
Both the
Company's net interest income and net interest margin are affected by changes in
the amount and mix of interest-earning assets and interest-bearing liabilities,
referred to as "volume change." Both are also affected by changes in yields on
interest-earning assets and rates paid on interest-bearing liabilities, referred
to as "rate change." The following table sets forth the changes in interest
income and interest expense for each major category of interest-earning asset
and interest-bearing liability, and the amount of change attributable to volume
and rate changes for the years indicated. Changes in interest income and
expense, which are not attributable specifically to either rate or volume, are
allocated proportionately between the two variances based on the absolute dollar
amounts of the change in each.
Table 2. Rate and
Volume Analysis
|
2009
compared to 2008
|
2008
compared to 2007
|
|||||||||||||||||||||||
|
(In
thousands)
|
Total
|
Rate
|
Volume
|
Total
|
Rate
|
Volume
|
||||||||||||||||||
|
Increase
(decrease) in interest income:
|
||||||||||||||||||||||||
|
Loans
|
$ | (8,472 | ) | $ | (5,395 | ) | $ | (3,077 | ) | $ | (13,021 | ) | $ | (13,659 | ) | $ | 638 | |||||||
|
Investment
securities
|
(882 | ) | (70 | ) | (812 | ) | 1 ,234 | 875 | 359 | |||||||||||||||
|
Interest-bearing
deposits in other banks
|
(105 | ) | (39 | ) | (66 | ) | (49 | ) | (132 | ) | 35 | |||||||||||||
|
Federal
funds sold and securities purchased
|
||||||||||||||||||||||||
|
under
agreements to resell
|
(15 | ) | (32 | ) | 17 | (173 | ) | (55 | ) | (118 | ) | |||||||||||||
|
Total
interest income
|
$ | (9,474 | ) | (5,536 | ) | (3,938 | ) | $ | (12,009 | ) | (12,972 | ) | 963 | |||||||||||
|
Increase
(decrease) in interest expense:
|
||||||||||||||||||||||||
|
Interest-bearing
demand accounts
|
(796 | ) | (695 | ) | (101 | ) | (1,352 | ) | (983 | ) | (369 | ) | ||||||||||||
|
Savings
accounts
|
(263 | ) | (205 | ) | (58 | ) | (401 | ) | (305 | ) | (96 | ) | ||||||||||||
|
Time
deposits
|
(4,837 | ) | (3,992 | ) | (845 | ) | (4,573 | ) | (3,105 | ) | (1,468 | ) | ||||||||||||
|
Other
borrowings
|
(1,312 | ) | (1,493 | ) | 181 | 1,191 | (759 | ) | 1,950 | |||||||||||||||
|
Trust
Preferred securities
|
(403 | ) | (348 | ) | (55 | ) | (500 | ) | (300 | ) | (200 | ) | ||||||||||||
|
Total
interest expense
|
(7,611 | ) | (6,733 | ) | (878 | ) | (5,635 | ) | (5,541 | ) | (184 | ) | ||||||||||||
|
Increase
(decrease) in net interest income
|
$ | (1,863 | ) | $ | 1,197 | $ | (3,060 | ) | $ | (6,374 | ) | $ | (7,521 | ) | $ | 1,147 | ||||||||
40
Total interest income
decreased approximately
$9.5 million or 21.0% between the years ended
December 31, 2008 and 2009, and was attributable
to a decrease in yields on those
earning assets,
and to a lesser degree, earning asset volume. Earning
asset decline was mostly in loans, with smaller declines in investments and interest-bearing
deposits in other banks. On average, loans
decreased by approximately
$47.7 million between
2008 and 2009 as the Company focused more
on the work-out of problem assets. The Company continues to
maintain a high percentage of loans in its earning asset mix with loans
averaging 85.1% of total earning assets for
the year ended December 31, 2009, as compared to
84.1% and 84.9% for the years ended
December 31, 2008 and 2007,
respectively.
Total interest expense
decreased approximately
$7.6 million between the years
ended December 31, 2008 and 2009 as a result of significant decreases in
rates paid on interest-bearing liabilities during 2009, combined with decreases
in the volumes
of those
interest-bearing liabilities. Deposit rates continued to decline
throughout much of 2009 as the Federal Reserve lengthened the anticipated
duration of the low-interest rate cycle in its efforts to resolve the
severe economic downturn. Between the years ended
December 31, 2009 and December 31,
2008, rates paid on
interest-bearing liabilities decreased in all
categories, and
on average decreased to almost half of what they had been during the year ended
December 31, 2008. During 2009, the Company benefited as it utilized lower-cost
funding sources including overnight and short-term borrowings, as well as
brokered and other wholesale time deposits, which provided funding rates of less
then 0.50% during a significant portion of the year.
Total interest income
decreased approximately $12.0 million or 21.0% between the years ended December
31, 2007 and 2008, and is attributable primarily to significant declines in
market rates of interest resulting in decreased net interest margins, which
outweighed minor increases experienced in average earning assets. Loans were
most adversely impacted by yield declines as approximately two-thirds of the
loan portfolio is comprised of floating rate instruments.
Total interest expense
decreased approximately $5.6 million between the years ended December 31, 2007
and 2008, primarily as a result of decreased rates paid on deposit accounts and
other borrowings as market rates of interest continued to decline throughout
most of 2008. Rates paid on interest-bearing liabilities decreased in all
categories, with the greatest decreases experienced in time deposits, borrowings
through the FHLB and the FRB, and the Company’s junior subordinated debt. The
Company’s interest-bearing liability mix changed during 2008 with declines in
average deposit accounts, especially time deposits, which was more than offset
by increases in the average volume of other borrowings including FHLB advances
and overnight borrowings from the Federal Reserve. On average, time deposits
decreased $32.5 million, interest-bearing demand accounts decreased by $15.9
million, and savings accounts decreased by $5.5 million between the years ended
December 31, 2007 and December 31, 2008. The decrease in average deposits was
more than offset by increases of more than $73.5 million in other borrowings
between the years ended December 31, 2007 and December 31,
2008.
Provision
for Credit Losses
Provisions
for credit losses and the amount added to the allowance for credit losses is
determined on the basis of management's continuous credit review of the loan
portfolio, consideration of past loan loss experience, current and future
economic conditions, and other pertinent factors. Such factors consider the
allowance for credit losses to be adequate when it covers estimated losses
inherent in the loan portfolio. Based on the condition of the loan portfolio,
management believes the allowance is sufficient to cover risk elements in the
loan portfolio. For the year ended December 31, 2009 the provision to the
allowance for credit losses amounted to $13.4 million as compared to $9.5
million and $6.2 million for the years ended December 31, 2008 and 2007,
respectively.
During
2009, increases in the provision to the allowance for credit losses included
large provisions during the second and fourth quarters of the year as prolonged
weakness in the economy, and specifically the residential housing market,
required the Company to become even more proactive in its assessment of problem
loans. Provisions of $4.8 million and $6.8 million were made in the
second and fourth quarters of 2009
Increases
in the provision to the allowance for credit losses during 2008, including
provisions of $6.4 million and $2.4 million in the third and fourth quarters of
2008, respectively, were the result of higher levels of nonperforming loans
during the year, and general deterioration in the housing and credit markets
which began during the later part of 2007, and continued throughout
2008.
41
The
amount provided to the allowance for credit losses during 2009 brought the
allowance to 2.96% of net outstanding loan balances at December 31, 2009, as
compared to 2.12% of net outstanding loan balances at December 31, 2008, and
1.26% at December 31, 2007.
Noninterest
Income
The
following table summarizes significant components of noninterest income for the
years indicated and the net changes between those years:
|
Years
Ended December 31,
|
Increase
(decrease)
during
Year
|
|||||||||||||||||||
|
(In
thousands)
|
2009
|
2008
|
2007
|
2009
|
2008
|
|||||||||||||||
|
Customer
service fees
|
$ | 3,882 | $ | 4,656 | $ | 4,790 | $ | (774 | ) | (134 | ) | |||||||||
|
Gain
on disposition of securities
|
(37 | ) | 24 | 0 | (61 | ) | 24 | |||||||||||||
|
Gain
(loss) on sale of OREO
|
(793 | ) | 67 | 209 | (860 | ) | (142 | ) | ||||||||||||
|
Gain
on sale of assets
|
863 | 0 | 0 | 863 | -- | |||||||||||||||
|
Proceeds
from life insurance
|
0 | 0 | 483 | -- | (483 | ) | ||||||||||||||
|
Gain
(loss) on swap ineffectiveness
|
0 | 9 | 66 | (9 | ) | (57 | ) | |||||||||||||
|
Gain
on fair value option of financial liabilities
|
1,145 | 1,363 | 2,504 | (218 | ) | (1,141 | ) | |||||||||||||
|
Gain
(loss) on sale of fixed assets
|
22 | (4 | ) | 2 | 26 | (6 | ) | |||||||||||||
|
Shared
appreciation income
|
23 | 265 | 42 | (242 | ) | 223 | ||||||||||||||
|
Other
|
1,203 | 1,963 | 1,585 | (760 | ) | 378 | ||||||||||||||
|
Total
|
$ | 6,308 | $ | 8,343 | $ | 9,681 | $ | (2,035 | ) | $ | (1,338 | ) | ||||||||
Noninterest
income consists primarily of fees and commissions earned on services that are
provided to the Company’s banking customers and, to a lesser extent, gains on
sales of Company assets and other miscellaneous income. Noninterest income for
the year ended December 31, 2009 decreased $2.0 million or 24.4% when compared
to the previous year, and decreased $3.4 million or 34.8% when compared to the
year ended December 31, 2007. Decreases in noninterest income were experienced
in all but two categories during 2009, with decreases experienced in customer
service fees, gains in OREO sales, and shared appreciation income. Increases
were experienced in gains on sale of assets as the Company disposed of a large
inventory of agricultural equipment that had been foreclosed upon during the
year. The decrease of $760,000 in other noninterest income experienced during
2009 includes a decrease of approximately $312,000 on OREO rental income; an
income decline which the Company does not expect to see change in the future.
The loss of $37,000 realized during 2009 on the disposition of investment
securities was the result of the sale of a $5.0 million mutual fund that was
disposed of for liquidity purposes.
Decreases
in noninterest income experienced during 2008 as compared to 2007 were primarily
the result of a decrease in fair value gains recorded on the Company’s junior
subordinated debt, as well as an employee death-benefit payment received during
2007 that did not occur again during 2008. The gain on disposition of securities
totaling $24,000 during 2008 was the result of an early call on municipal bonds
with an amortized cost of approximately $940,000. The municipal bonds were
redeemed at face value, resulting in a recognized gain on the remaining
unaccreted discount.
Customer
service fees continue to provide a substantial part of noninterest income over
the three years presented, representing 61.5%, 55.8%, and 49.4% of total
noninterest income for the years ended December 31, 2009, 2008, and 2007,
respectively. Customer service fees decreased $774,000 between the years ended
December 31, 2008 and December 31, 2009, and decreased $134,000 between the
years ended December 2007 and December 31, 2008. Much of the decrease in
customer service fees between the periods presented is attributable to decreases
in ATM fee income. Additionally, decreases of approximately $450,000 were
experienced in revenue generated by the Company’s Financial Services department
between the years ended December 31, 2008 and December 31, 2009.
The
Company has experienced decreases in gains realized from the sale of other real
estate owned through foreclosure and, actually realized net pre-tax losses of
$793,000 during 2009 as compared to net pre-tax gains of $67,000 and $209,000
for the years ended December 31, 2008 and 2007, respectively. With continued and
prolonged deterioration in real estate markets, the Company has sought to
dispose of properties when economically possible rather than continue to hold
them and incur ongoing carrying costs to maintain the properties.
Shared
appreciation income has fluctuated over the three years presented, with
decreases of $242,000 between 2008 and 2009, as compared to increases of
$223,000 between 2007 and 2008. Shared appreciation income results from
agreements between the
42
Company
and the borrower on certain construction loans where the Company agrees to
receive interest on the loan at maturity rather than monthly and the borrower
agrees to share in the profits of the project. The profit is determined by the
appraised value of the completed project and subsequent refinancing or sale of
the project. Due to the difficulty in calculating future values, shared
appreciation income is recognized when received. The Company does not
participate in a significant number of shared appreciation projects, and as a
result, does not anticipate large amounts of shared appreciation income on an
ongoing basis.
Noninterest
Expense
The
following table sets forth the components of total noninterest expense in
dollars and as a percentage of average earning assets for the years ended
December 31, 2009, 2008 and 2007:
|
2009
|
2008
|
2007
|
||||||||||||||||||||||
|
(Dollars
in thousands)
|
Amount
|
%
of Average Earning Assets
|
Amount
|
%
of Average Earning Assets
|
Amount
|
%
of Average Earning Assets
|
||||||||||||||||||
|
Salaries
and employee benefits
|
$ | 8,551 | 1.36 | % | $ | 10,610 | 1.53 | % | $ | 10,830 | 1.56 | % | ||||||||||||
|
Occupancy
expense
|
3,692 | 0.59 | % | 3,954 | 0.57 | % | 3,787 | 0.55 | % | |||||||||||||||
|
Data
processing
|
102 | 0.02 | % | 279 | 0.04 | % | 420 | 0.06 | % | |||||||||||||||
|
Professional
fees
|
2,201 | 0.35 | % | 1,482 | 0.21 | % | 1,811 | 0.26 | % | |||||||||||||||
|
FDIC/DFI
assessments
|
1,203 | 0.19 | % | 535 | 0.08 | % | 186 | 0.03 | % | |||||||||||||||
|
Directors
fees
|
253 | 0.04 | % | 262 | 0.04 | % | 268 | 0.04 | % | |||||||||||||||
|
Amortization
of intangibles
|
885 | 0.14 | % | 972 | 0.14 | % | 1,021 | 0.15 | % | |||||||||||||||
|
Correspondent
bank service charges
|
362 | 0.06 | % | 427 | 0.06 | % | 476 | 0.07 | % | |||||||||||||||
|
Writedown
on investment
|
0 | 0.00 | % | 23 | 0.00 | % | 34 | 0.00 | % | |||||||||||||||
|
Impairment
loss on OREO
|
1,324 | 0.21 | % | 887 | 0.13 | % | 0 | 0.00 | % | |||||||||||||||
|
Impairment
loss on intangible assets
|
81 | 0.01 | % | 648 | 0.09 | % | 0 | 0.00 | % | |||||||||||||||
|
Impairment
loss on Goodwill
|
3,026 | 0.48 | % | 0 | 0.00 | % | 0 | 0.00 | % | |||||||||||||||
|
Impairment
loss on investment securities
|
843 | 0.13 | % | 0 | 0.00 | % | 0 | 0.00 | % | |||||||||||||||
|
Loss
on lease assets held for sale
|
0 | 0.00 | % | 0 | 0.00 | % | 820 | 0.12 | % | |||||||||||||||
|
Loss
on CA Tax Credit Partnership
|
428 | 0.07 | % | 432 | 0.06 | % | 430 | 0.06 | % | |||||||||||||||
|
OREO
expense
|
1,612 | 0.26 | % | 418 | 0.06 | % | 209 | 0.03 | % | |||||||||||||||
|
Other
|
3,403 | 0.54 | % | 2,422 | 0.35 | % | 1,923 | 0.28 | % | |||||||||||||||
|
Total
|
$ | 27,966 | 4.45 | % | $ | 23,351 | 3.37 | % | $ | 22,215 | 3.21 | % | ||||||||||||
Noninterest
expense, excluding provision for credit losses and income tax expense, totaled
$28.0 million for the year ended December 31, 2009 as compared to $23.4 million
and $22.2 million for the years ended December 31, 2008 and 2007, respectively.
These figures represent an increase of $4.6 million or 19.8% between the years
ended December 31, 2008 and 2009 and an increase of $1.1 million or 5.1% between
the years ended December 31, 2007 and 2008. As a percentage of average earning
assets, total noninterest expense has remained relatively stable over the past
three years, but increased slightly, as the Company has successfully controlled
overhead expenses in a challenging economic environment. Noninterest expense
amounted to 4.45% of average earning assets for the year ended December 31, 2009
as compared to 3.37% at December 31, 2008 and 3.11% at December 31,
2007
The net
increase in noninterest expense between the years ended December 31, 2008 and
2009 is in large part the result of $3.0 million in goodwill impairment losses
taken during second quarter of 2009. Other changes in noninterest expense are
comprised of reductions in salaries and bonus incentives of nearly $2.1 million,
and reductions in occupancy and data processing costs of $262,000, which were
more than offset by increases in OREO impairment and overhead costs, legal fees,
FDIC insurance assessments, and other expenses associated with nonperforming and
foreclosed loans, as well as changes in the components of other impairment
losses taken on various assets of the Company. As the economy has declined over
the past year, the Company has streamlined certain departments to more
effectively control salary and employee benefit costs where the levels of
business are lower than they have been historically. The increase of $981,000 in
other noninterest expense between the years ended December 31, 2009 and 2008 is
primarily the result of a legal settlement totaling $800,000 for a disputed ATM
servicing contract with a third-party servicer.
While
impairment losses on intangible assets decreased $567,000 or 87.5% between the
years ended December 31, 2008 and 2009, additional impairment losses were
recorded during 2009 on other of the Company’s assets. Impairment losses
totaling $1.3 million were
realized on OREO during 2009 as OREO properties were further written-down to
fair value as new valuations were received. In addition, during the year ended
December 31, 2009, the Company recognized $843,000 in impairment losses
($163,000 during the first quarter, $240,000 during the second quarter, $317,000
during the third quarter, and $123,000 during the fourth quarter of 2009) on
three of its non-agency collateralized mortgage obligations which were
determined to be other-than-temporarily impaired. The amount expensed as
impairment losses on the three securities represents the identified
credit-related portion of the impairment. Although there are some indications of
improvement in current economic conditions, a prolonged recessionary period
could result in additional impairment losses in the future.
43
Increases
in noninterest expense between the years ended December 31, 2007 and December
31, 2008 include impairment losses of $887,000 on OREO, and $648,000 on
intangible assets. With economic conditions deteriorating during 2008, increased
emphasis has been placed on impairment review, as the values on many assets have
declined. Impairment losses on OREO properties are also a function of an
increase in the volume of OREO acquired during 2008, which is also reflected in
the increase of $209,000 in OREO expense during 2008. Decreases in noninterest
expense have been realized in many categories during 2008 including a decrease
of $220,000 in salary expense, $141,000 in data processing expense, and $329,000
in professional fees. The decrease in salary expense between the years ended
December 31, 2007 and December 31, 2008 is primarily the result of a reduction
in bonuses and incentives paid during 2008, many of which are based upon the
Company’s net income.
During
the years ended December 31, 2009, 2008, and 2007, the Company recognized
stock-based compensation expense of $53,000 (less than $0.01 per share basic and
diluted), $110,000 ($0.01 per share basic and diluted), and $187,000 ($0.02 per
share basic and diluted), respectively. This expense is included in noninterest
expense under salaries and employee benefits. Under the current pool of stock
options, the Company expects stock-based compensation expense to be about $6,000
per quarter for 2010, and decline after that through 2011. If new stock options
are issued, or existing options fail to vest due, for example, to forfeiture,
actual stock-based compensation expense in future periods will
change.
Income
Taxes
The
Company’s income tax expense is impacted to some degree by permanent taxable
differences between income reported for book purposes and income reported for
tax purposes, as well as certain tax credits which are not reflected in the
Company’s pretax income or loss shown in the statements of operations and
comprehensive income. As pretax income or loss amounts become smaller, the
impact of these differences become more significant and are reflected as
variances in the Company’s effective tax rate for the periods presented. In
general, the permanent differences and tax credits affecting tax expense have a
positive impact and tend to reduce the effective tax rates shown in the
Company’s statements of operations and comprehensive income.
The
Company reviews its current tax positions at least quarterly based accounting standards
related to uncertainty in income taxes which includes the criteria that
an individual tax position would have to meet for some or all of the income tax
benefit to be recognized in a taxable entity’s financial statements. Under the
income tax guidelines, an entity should recognize the financial statement
benefit of a tax position if it determines that it is more likely than not that the
position will be sustained on examination. The term “more likely than not” means
a likelihood of more than 50 percent.” In assessing whether the
more-likely-than-not criterion is met, the entity should assume that the tax
position will be reviewed by the applicable taxing authority.
On
December 31, 2003 the California Franchise Tax Board (FTB) announced certain tax
transactions related to real estate investment trusts (REITs) and regulated
investment companies (RICs) will be disallowed pursuant to Senate Bill 614 and
Assembly Bill 1601, which were signed into law in the 4th quarter of
2003. As a result, the Company reversed related net state tax
benefits recorded in the first three quarters of 2003 and has taken no related
tax benefits since that time. The Company continues to review the information
available from the FTB and its financial advisors and believes that the
Company's position has merit. The Company will pursue its tax claims and defend
its use of these entities and transactions. At this time, the Company
cannot predict the ultimate outcome.
Pursuant
to the guidance, the Company reviewed its REIT tax position as of January 1,
2007 (adoption date of the new guidance), and then has again reviewed its
position each subsequent quarter since adoption. The Bank, with guidance from
advisors, believes that the case has merit with regard to points of law, and
that the tax law at the time allowed for the deduction of the consent dividend.
However, the Bank, with the concurrence of advisors, cannot conclude that it is
“more than likely” that the Bank will prevail in its case with the FTB. As a
result of this determination, effective January 1, 2007 the Company recorded an
adjustment of $1.3 million to beginning retained earnings upon adoption of the
new guidance related
to uncertainty in income taxes to recognize the potential tax liability
under the guidelines of the interpretation. The adjustment includes amounts for
assessed taxes, penalties, and interest. During the years ended December 31,
2008 and 2007, the Company increased the unrecognized tax liability by an
additional $87,000 in interest for each of the two years, bringing the total
recorded tax liability to $1.5 million at December 31, 2008. The Company has
determined that there has been no material change to its position on the REIT
from that at December 31, 2008, and as a result recorded
44
additional
interest liability of $87,000 during the year ended December 31, 2009. It is the
Company’s policy to recognize interest and penalties as a component of income
tax expense. The Company has reviewed all of its tax positions as of December
31, 2009, and has determined that, other than the REIT, there are no other
material amounts that should be recorded under the current income tax accounting
guidelines.
Financial
Condition
Total
assets decreased by $68.5 million or 9.0% during the year to $692.6 million at
December 31, 2009, and decreased $79.1 million or 10.3% from the balance of
$771.7 million at December 31, 2007. During the year ended December 31, 2009,
decreases of $35.6 million were experienced in net loans as construction and
real estate lending slowed and approximately $20.0 million in problem loans were
transferred to OREO, while another $10.1 million was charged off against the
allowance for loan losses. Interest-bearing deposits in other banks and
investment securities decreased by $17.1 million and $21.3 million,
respectively, during the year ended December 31, 2009. Total deposits of $561.7
million at December 31, 2009 increased $53.2 million or 10.5% from the
balance reported at December 31, 2008, and decreased $73.0 million or 11.5% from
the balance of $634.6 million reported at December 31, 2007. Deposit growth
during 2009 occurred in interest-bearing checking accounts and time deposits of
$100,000 or more, while other deposit categories experienced declines between
December 31, 2008 and December 31, 2009. Increases in time deposits during 2009
are in large part the result of additional brokered deposits which were obtained
as the Company sought to reduce its dependence on overnight and term borrowings
from the Federal Reserve and FHLB.
During
2008, net loans decreased $47.7 million, while interest-bearing deposits in
other banks and investment securities increased $17.5 million and $3.3 million,
respectively, between the two period-ends. During 2008, growth of $10.5 million
and $13.4 million was experienced in noninterest-bearing deposits and time
deposits of less than $100,000, respectively, which was more than offset by
substantial declines in time deposits of $100,000 or more, and to a lesser
degree interest-bearing checking and savings accounts. The decrease of $130.9
million in time deposits of $100,000 or more experienced during 2008 was
primarily the result of brokered time deposits and deposits from the State of
California, which were not renewed as they matured during 2008. The brokered
time deposits were replaced with less expensive borrowings including FHLB
advances and overnight borrowings from the Federal Reserve Discount
Window.
Earning
assets averaged approximately $628.6 million during the year ended December 31,
2009, as compared to $692.5 million and $678.0 million for the years ended
December 31, 2008 and 2007, respectively. Average interest-bearing liabilities
decreased to $513.8 million for the year ended December 31, 2009, as compared to
$542.7 million for the year ended December 31, 2008, and decreased from the
balance of $565.0 million for the year ended December 31, 2007.
Loans
The
Company's primary business is that of acquiring deposits and making loans, with
the loan portfolio representing the largest and most important component of its
earning assets. Loans totaled $508.6 million at December 31, 2009, representing
a decrease of $40.0 million or 6.6% when compared to the balance of $544.6
million at December 31, 2008, and a decrease of $84.2 million or 14.2% when
compared to the balance of $592.8 million reported at December 31, 2007. Total
loans decreased approximately $25.6 million during the fourth quarter of 2009,
$4.7 million of which was the result of transfers of nonperforming loans to
OREO, and another $4.2 million was the result of charge-offs against the reserve
for loan and lease losses . Average loans totaled $534.8 million, $582.5
million, and $575.4 million for the years ended December 31, 2009, 2008 and
2007, respectively. During 2009 average loans decreased 8.2% when compared to
the year ended December 31, 2008 and decreased 7.1% compared to the year ended
December 31, 2007.
The
following table sets forth the amounts of loans outstanding by category and the
category percentages as of the year-end dates indicated:
|
2009
|
2008
|
2007
|
2006
|
2005
|
||||||||||||||||||||||||||||||||||||
|
(In
thousands)
|
Dollar
Amount
|
%
of
Loans
|
Dollar
Amount
|
%
of
Loans
|
Dollar
Amount
|
%
of
Loans
|
Dollar
Amount
|
%
of
Loans
|
Dollar
Amount
|
%
of
Loans
|
||||||||||||||||||||||||||||||
|
Commercial
and industrial
|
$ | 167,930 | 33.0 | % | $ | 188,207 | 34.6 | % | $ | 188,826 | 31.9 | % | $ | 146,964 | 29.7 | % | $ | 111,904 | 27.1 | % | ||||||||||||||||||||
|
Real
estate – mortgage
|
165,629 | 32.6 | 130,856 | 24.0 | 135,252 | 22.8 | 113,613 | 22.9 | 89,503 | 21.7 | ||||||||||||||||||||||||||||||
|
RE
construction & development
|
105,220 | 20.7 | 151,091 | 27.7 | 200,836 | 33.8 | 176,825 | 35.7 | 163,953 | 39.8 | ||||||||||||||||||||||||||||||
|
Agricultural
|
50,897 | 10.0 | 52,020 | 9.6 | 46,387 | 7.8 | 35,502 | 7.1 | 25,214 | 6.1 | ||||||||||||||||||||||||||||||
|
Installment/other
|
18,191 | 3.6 | 20,782 | 3.8 | 18,171 | 3.1 | 16,712 | 3.4 | 15,002 | 3.6 | ||||||||||||||||||||||||||||||
|
Lease
financing
|
706 | 0.1 | 1,595 | 0.3 | 3,323 | 0.6 | 5,507 | 1.1 | 6,889 | 1.7 | ||||||||||||||||||||||||||||||
|
Total
Loans
|
$ | 508,573 | 100.0 | % | $ | 544,551 | 100.0 | % | $ | 592,795 | 100.0 | % | $ | 495,123 | 100.0 | % | $ | 412,465 | 100.0 | % | ||||||||||||||||||||
45
Although
the Company does not generally provide permanent financing for its construction
and development loans, shorter-term permanent financing or “mini-perm” loans
have been provided to a number of borrowers over the past several years as the
current economic downturn has prolonged the development and completion of some
projects. At the time of their renewal, some of these loans were classified as
commercial and industrial loans because either the construction and development
portion of the project had been delayed, or the project had been completed and
the borrower opted to delay the sale of the completed project until market
conditions improved. Some of the completed projects are currently providing
rental income to the borrower. Upon review, it was determined that the Company
had classified certain of its loans as commercial and industrial which, should
have been classified as something other than commercial and industrial loans. As
a result, at December 31, 2009, the Company retrospectively reclassified for
reporting purposes forty-seven loans from commercial and industrial loans to
either construction & land development, or commercial real estate loans,
depending on whether they are partially completed, or are generating rental
income. The reclassification had no impact on the Company’s results of
operations. The following summarizes the reclassification amounts for the
periods prior to December 31, 2009 (in 000’s).
|
Net
changes in loans:
|
12/31/2008
|
12/31/2007
|
12/31/2006
|
12/31/2005
|
||||||||||||
|
Commercial
and industrial
|
$ | (35,373 | ) | $ | (15,559 | ) | $ | (8,847 | ) | $ | (1,359 | ) | ||||
|
Real
estate mortgage
|
4,167 | (7,312 | ) | 0 | 0 | |||||||||||
|
RE
construction & development
|
31,206 | 22,539 | 8,447 | 1,080 | ||||||||||||
|
Agricultural
|
0 | 332 | 400 | 279 | ||||||||||||
|
Net
change - total loans
|
$ | 0 | $ | 0 | $ | 0 | $ | 0 | ||||||||
Loan
volume continues to be greatest in what has historically been the Bank’s primary
lending emphasis: commercial, real estate mortgage, and construction lending.
With the continued deterioration of real estate markets during 2008 and 2009,
the Company experienced a decrease of $45.9 million or 30.4 % in construction
loans, and a decrease of $20.3 million or 10.81% in commercial and industrial
loans, with minor decreases in installment as well as in agricultural
loans. Lease financing decreased $889,000 during 2009, as the Company is no
longer originating commercial leases. Partially offsetting these decreases were
increases of $34.8 million in real estate mortgage loans, a portion of which
were the result of construction loans which were completed or matured during the
year and the borrower obtained longer-term financing from the Company.
Approximately $20.0 million of the total $36.0 million decrease in loans
experienced during the year ended December 31, 2009, was the result of
nonperforming loans transferred to other real estate owned when all other means
of settlement were exhausted.
During
2008, the Company experienced a decrease of $49.7 million or 24.8 % in
construction loans, and decreases of $4.4 million and $619,000 in real estate
mortgage loans, and commercial and industrial loans, respectively. Lease
financing decreased $1.7 million during 2008, as the Company is no longer
originating commercial leases. Partially offsetting these decreases were
increases of $6.0 million in agricultural loans, and $2.6 million in consumer
installment loans. Part of the decrease in construction and real estate loans
experienced during 2008 is the result of transfers of approximately $28.5
million ($26.0 million net of charge-offs) in nonperforming loans to
OREO.
During
2007 loan growth occurred in all categories except lease financing. During 2007,
significant increases occurred in commercial and industrial loans, as well as
real estate mortgage loans, with increases of $41.9 million or 28.5% and $21.6
million or 19.1% in those two categories, respectively. Agricultural loans
increased $10.9 million or 30.7% during 2007, and real estate construction loans
increased $24.0 million or 13.6% during 2007. The acquisition of Legacy Bank
during February 2007 contributed approximately $63.9 million to the loan growth
experienced during 2007. During the fourth quarter of 2007 loan volume declined
approximately $27.7 million or 4.4% as the Company slowed additional loan growth
as part of its asset/liability management and liquidity plan.
At
December 31, 2009, approximately 74% of commercial and industrial loans have
floating rates and, although some may be secured by real estate, many are
secured by accounts receivable, inventory, and other business assets.
Residential housing markets have suffered considerably since the later half of
2007, and as a result, residential construction loans decreased during 2008 and
again during 2009. Real estate construction loans decreased $45.9 million or
30.4% during 2009, as compared to a decrease of $49.7 million or 24.8 % during
2008, and an increase of $24.0 million or 13.6% during 2007. Construction loans
are generally short-term, floating-rate obligations, which consist of both
residential and commercial projects. Agricultural loans consisting of mostly
short-term, floating rate loans for crop financing, decreased $1.1 million or
6.0% between December 31, 2008 and December 31, 2009, while installment loans
decreased $2.6 million or 12.5% during that same period.
46
The real
estate mortgage loan portfolio totaling $165.6 million at December 31, 2009
consists of commercial real estate, residential mortgages, and home equity
loans. Commercial real estate is the core of this segment of the portfolio, with
balances of $117.0 million, $86.0 million, and $95.1 million at December 31,
2009, 2008, and 2007, respectively. Commercial real estate loans are generally a
mix of short to medium-term, fixed and floating rate instruments and, are mainly
tied to commercial income and multi-family residential properties. The Company does not
currently offer traditional residential mortgage loans, but may purchase
mortgage portfolios. As a result of real estate mortgage purchases over the past
several years, that portion of the portfolio has remained relatively stable with balances
of $45.8 million, $41.6 million, and $37.2 million at December 31,
2009, 2008 and 2007, respectively. The
Company also offers short to medium-term, fixed-rate, home equity loans, which
totaled $2.8 million at December 31, 2009, $3.2 million at December 31, 2008,
and $3.0 million at December 31, 2007.
The
following table sets forth the maturities of the Bank's loan portfolio at
December 31, 2009. Amounts presented are shown by maturity dates rather than
repricing periods:
|
(In
thousands)
|
Due
in one year or less
|
Due
after one Year through Five years
|
Due
after Five years
|
Total
|
||||||||||||
|
Commercial
and agricultural
|
$ | 117,097 | $ | 81,989 | $ | 19,741 | $ | 218,827 | ||||||||
|
Real
estate construction & development
|
78,941 | 25,302 | 977 | 105,220 | ||||||||||||
| 196,038 | 107,291 | 20,718 | 324,047 | |||||||||||||
|
Real
estate – mortgage
|
22,262 | 93,708 | 49,659 | 165,629 | ||||||||||||
|
All
other loans
|
6,191 | 10,396 | 2,310 | 18,897 | ||||||||||||
|
Total
Loans
|
$ | 224,491 | $ | 211,395 | $ | 72,687 | $ | 508,573 | ||||||||
For the
year ended December 31, 2009, the average yield on loans was 5.83%, representing
a decrease of 98 basis points when compared to the year ended December 31, 2008
and was a result of continued loan pricing pressures as market rates of interest
remained at historical lows. The Bank’s loan portfolio is generally comprised of
short-term or floating rate loans and is therefore susceptible to fluctuations
in market rates of interest.
The
average yield on loans was 6.75% for the year ended December 31, 2008,
representing a decrease of 232 basis points when compared to the year ended
December 31, 2007 and was a result of a significant decrease in market rates of
interest during 2008. The average loan yield for 2008 was also impacted by the
reversal of approximately $1.0 million in interest on nonaccrual loans, reducing
the average loan yield by 17 basis points for the year ended December 31,
2008.
For the
year ended December 31, 2007, the average yield on loans was 9.07%, representing
a decrease of 6 basis points when compared to the year ended December 31, 2006
and was a result of increased loan pricing pressures experienced during 2007
which more than outweighed an average increase of 9 basis point in the prime
rate between the year ended December 31, 2006 and December 31, 2007. The Bank’s
loan portfolio is generally comprised of short-term or floating rate loans and
is therefore susceptible to fluctuations in market rates of
interest.
At
December 31, 2009, 2008 and 2007, approximately 60.7%, 64.0% and 62.3% of the
Bank's loan portfolio consisted of floating rate instruments, with the majority
of those tied to the prime rate.
The
following table sets forth the contractual maturities of the Bank's fixed and
floating rate loans at December 31, 2009. Amounts presented are shown by
maturity dates rather than repricing periods, and do not consider renewals or
prepayments of loans:
|
(In
thousands)
|
Due
in one year or less
|
Due
after one Year through Five years
|
Due
after Five years
|
Total
|
||||||||||||
|
Accruing
loans:
|
||||||||||||||||
|
Fixed
rate loans
|
$ | 12,898 | $ | 107,993 | $ | 60,093 | $ | 180,984 | ||||||||
|
Floating
rate loans
|
184,025 | 96,357 | 12,450 | 292,832 | ||||||||||||
|
Total
accruing loans
|
196,923 | 204,350 | 72,543 | 473,816 | ||||||||||||
|
Nonaccrual
loans:
|
||||||||||||||||
|
Fixed
rate loans
|
14,266 | 2,095 | 28 | 16,389 | ||||||||||||
|
Floating
rate loans
|
13,302 | 4,950 | 116 | 18,368 | ||||||||||||
|
Total
nonaccrual loans
|
27,568 | 7,045 | 144 | 34,757 | ||||||||||||
|
Total
Loans
|
$ | 224,491 | $ | 211,395 | $ | 72,687 | $ | 508,573 | ||||||||
47
Securities
Following
is a comparison of the amortized cost and approximate fair value of
available-for-sale for the three years indicated:
|
December
31, 2009
|
December
31, 2008
|
|||||||||||||||||||||||||||||||
|
(In
thousands)
|
Amortized
Cost
|
Gross
Unrealized
Gains
|
Gross
Unrealized
Losses
|
Fair
Value
(Carrying
Amount)
|
Amortized
Cost
|
Gross
Unrealized
Gains
|
Gross
Unrealized
Losses
|
Fair
Value
(Carrying
Amount)
|
||||||||||||||||||||||||
|
Available-for-sale:
|
||||||||||||||||||||||||||||||||
|
U.S.
Government agencies
|
$ | 35,119 | $ | 1,469 | $ | (2 | ) | $ | 36,586 | $ | 43,110 | $ | 1,280 | $ | (204 | ) | $ | 44,186 | ||||||||||||||
|
U.S
Gov’t agency collateralized
|
||||||||||||||||||||||||||||||||
|
mortgage
obligations
|
14,954 | 376 | (10 | ) | 15,320 | 21,317 | 189 | (40 | ) | 21,466 | ||||||||||||||||||||||
|
Residential
mortgage
|
||||||||||||||||||||||||||||||||
|
obligations
|
14,273 | 0 | (4,559 | ) | 9,714 | 17,751 | 0 | (4,951 | ) | 12,800 | ||||||||||||||||||||||
|
Obligations
of state and
|
||||||||||||||||||||||||||||||||
|
political
subdivisions
|
1,252 | 33 | 0 | 1,285 | 1,252 | 28 | 0 | 1,280 | ||||||||||||||||||||||||
|
Other
investment securities
|
9,004 | 0 | (498 | ) | 8,506 | 13,880 | 0 | (863 | ) | 13,017 | ||||||||||||||||||||||
|
Total
available-for-sale
|
$ | 74,602 | $ | 1,878 | $ | (5,069 | ) | $ | 71,411 | $ | 97,310 | $ | 1,497 | $ | (6,058 | ) | $ | 92,749 | ||||||||||||||
|
December
31, 2007
|
||||||||||||||||
|
(In
thousands)
|
Amortized Cost
|
Gross Unrealized Gains
|
Gross Unrealized Losses
|
Fair Value
|
||||||||||||
|
Available-for-sale:
|
||||||||||||||||
|
U.S.
Government agencies
|
$ | 65,764 | $ | 524 | $ | (302 | ) | $ | 65,986 | |||||||
|
Collateralized
mortgage obligations
|
7,782 | 44 | (4 | ) | 7,822 | |||||||||||
|
Obligations
of state and
|
||||||||||||||||
|
political
subdivisions
|
2,227 | 54 | 0 | 2,281 | ||||||||||||
|
Other
investment securities
|
13,752 | 0 | (426 | ) | 13,326 | |||||||||||
|
Total
available-for-sale
|
$ | 89,525 | $ | 622 | $ | (732 | ) | $ | 89,415 | |||||||
Included
in other investment securities at December 31, 2009, is a short-term government
securities mutual fund totaling $7.5 million, and an overnight money-market
mutual fund totaling $1.0 million. Included in other investment securities
at December 31, 2007, is a short-term government securities mutual fund totaling
$7.7 million, a CRA-qualified mortgage fund totaling $4.9 million, and an
overnight money-market mutual fund totaling $752,000. Included in other
investment securities at December 31, 2006, is a short-term government
securities mutual fund totaling $7.7 million, and a CRA-qualified mortgage fund
totaling $4.8 million. The commercial asset-backed trust consists of fixed and
floating rate commercial and multifamily mortgage loans. The short-term
government securities mutual fund invests in debt securities issued or
guaranteed by the U.S. Government, its agencies or instrumentalities, with a
maximum duration equal to that of a 3-year U.S. Treasury
Note.
There
were no realized gains, but there were realized losses on available-for-sale
securities totaling $37,000 for the year ended December 31, 2009. There were
realized gains on available-for-sale securities totaling $24,000 and $27,000 for
the years ended December 31, 2008 and 2006, respectively. There were no realized
gains or losses on securities available-for-sale during 2007. There were no
realized losses on securities available-for-sale during 2008 or
2006.
Investment
securities decreased $21.3 million between December 2008 and December 2009, as
maturities and pay-downs from investment securities were not reinvested in the
securities portfolio but were instead utilized to reduce overnight and term
borrowings. In addition, one mutual fund with a carrying cost of $5.0 million
was sold during the fourth quarter of 2009 to provide additional liquidity.
Investment securities increased $3.3 million between December 2007 and December
2008, as U.S. government agencies and municipal bonds were either paid down or
matured, and additional funds from maturing loans were utilized to purchase
additional investment securities or interest-bearing deposits in other
banks.
48
Securities
that have been temporarily impaired less than 12 months at December 31, 2009 are
comprised of two U.S. government agency securities and one collateralized
mortgage obligation with a weighted average life of 1.90 years. As of December
31, 2009, there were three residential mortgage obligations, and one other
investment security with a total weighted average life of 1.37 years that have
been temporarily impaired for twelve months or more. At December 31, 2009,
the decline in market value for all but three (see below) of the impaired
securities is attributable to changes in interest rates and illiquidity, and not
credit quality. Because the Company does not have the intent to sell these
impaired securities and it is likely that it will not be required to sell the
securities before their anticipated recovery, the Company does not consider
these securities to be other-than-temporarily impaired at December 31,
2009.
At
December 31, 2009, the Company had three non-agency residential mortgage
obligations which have been impaired more than twelve months. All three
residential mortgage obligations were rated less than high credit quality at
December 31, 2009. The residential mortgage obligations had a market value of
$9.7 million and unrealized losses of approximately $4.6 million at
December 31, 2009. The Company evaluated these three residential mortgage
obligations for OTTI by comparing the present value of expected cash flows to
previous estimates to determine whether there had been adverse changes in cash
flows during the quarter. The OTTI evaluation was conducted utilizing the
services of a third party specialist and consultant in MBS and CMO products. The
cash flow assumptions used in the evaluation included a number of factors
including changes in delinquency rates, anticipated prepayment speeds,
loan-to-value ratios, changes in agency ratings, and market prices. As a result
of the impairment evaluation, the Company determined that there had been adverse
changes in cash flows during the quarter for all three of the residential
mortgage obligations reviewed, and concluded that these three investments were
other-than-temporarily impaired. During the fourth quarter of 2009, the three
residential mortgage obligations had other-than-temporary-impairment losses of
$4.7 million, of which $123,000 was recorded as expense and
$4.6 million was recorded in other comprehensive loss. On a year-to-date
basis, the three residential mortgage obligations had
other-than-temporary-impairment losses of $5.4 million, of which $843,000
was recorded as expense and $4.6 million was recorded in other
comprehensive loss. The three residential mortgage obligations remained
classified as available for sale at December 31, 2009.
The
following summarizes temporarily impaired investment securities at December 31,
2009
|
Less
than 12 Months
|
12
Months or More
|
Total
|
||||||||||||||||||||||
|
(In thousands)
Securities available for
sale:
|
Fair
Value
(Carrying
Amount)
|
Unrealized
Losses
|
Fair
Value
(Carrying
Amount)
|
Unrealized
Losses
|
Fair
Value
(Carrying
Amount)
|
Unrealized
Losses
|
||||||||||||||||||
|
U.S.
Government agencies
|
$ | 1,498 | $ | (2 | ) | $ | 0 | $ | 0 | $ | 1,498 | $ | (2 | ) | ||||||||||
|
U.S.
Government agency
|
||||||||||||||||||||||||
|
collateral
mortgage obligations
|
2,236 | (10 | ) | 0 | 0 | 2,236 | (10 | ) | ||||||||||||||||
|
Residential
mortgage obligations
|
0 | 0 | 9,714 | (4,559 | ) | 9,714 | (4,559 | ) | ||||||||||||||||
|
Obligations
of state and
|
||||||||||||||||||||||||
|
political
subdivisions
|
0 | 0 | 0 | 0 | 0 | 0 | ||||||||||||||||||
|
Other
investment securities
|
0 | 0 | 7,502 | (498 | ) | 7,502 | (498 | ) | ||||||||||||||||
|
Total
impaired securities
|
$ | 3,734 | $ | (12 | ) | $ | 17,216 | $ | (5,057 | ) | $ | 20,950 | $ | (5,069 | ) | |||||||||
Securities
that have been temporarily impaired less than 12 months at December 31, 2008 are
comprised of three residential mortgage obligations and one collateralized
mortgage obligation with a weighted average life of 3.66 years, and seven U.S.
agency bonds with a weighted average life of 3.18 years. As of December 31,
2008, there were two other investment securities with a total weighted average
life of 0.50 years that have been temporarily impaired for twelve months or
more. The unrealized losses are due in most part to interest rate changes, as
well as credit downgrades in some of the portfolio including three
collateralized mortgage obligations. The Company has the ability and intent to
hold all investment securities with identified impairments resulting from
interest rate changes and credit downgrades to the earlier of the forecasted
recovery or the maturity of the underlying investment security. The Company
believes that credit downgrades on securities within the portfolio are a result
of the severity of the current economic downturn and does not believe the
downgrades will result in permanent impairment of those securities. As a result,
the Company does not consider these investments to be other-than-temporarily
impaired at December 31, 2008.
49
The
following summarizes temporarily impaired investment securities at December 31,
2008
|
Less
than 12 Months
|
12
Months or More
|
Total
|
||||||||||||||||||||||
|
(In thousands)
Securities available for
sale:
|
Fair
Value
(Carrying
Amount)
|
Unrealized
Losses
|
Fair
Value
(Carrying
Amount)
|
Unrealized
Losses
|
Fair
Value
(Carrying
Amount)
|
Unrealized
Losses
|
||||||||||||||||||
|
U.S.
Government agencies
|
$ | 6,471 | $ | (204 | ) | $ | 0 | $ | 0 | $ | 6,471 | $ | (204 | ) | ||||||||||
|
U.S.
Government agency
|
||||||||||||||||||||||||
|
collateral
mortgage obligations
|
4,768 | (40 | ) | 0 | 0 | 4,768 | (40 | ) | ||||||||||||||||
|
Residential
mortgage obligations
|
12,800 | (4,951 | ) | 0 | 0 | 12,800 | (4,951 | ) | ||||||||||||||||
|
Obligations
of state and
|
||||||||||||||||||||||||
|
political
subdivisions
|
0 | 0 | 0 | 0 | 0 | 0 | ||||||||||||||||||
|
Other
investment securities
|
0 | 0 | 12,137 | (863 | ) | 12,137 | (863 | ) | ||||||||||||||||
|
Total
impaired securities
|
$ | 24,039 | $ | (5,195 | ) | $ | 12,137 | $ | (863 | ) | $ | 36,176 | $ | (6,058 | ) | |||||||||
Securities
that have been temporarily impaired less than 12 months at December 31, 2007 are
comprised of one U.S. government agency collateralized mortgage obligation with
a weighted average life of 1.19 years. As of December 31, 2007, there were nine
U.S. government agency securities, and two other investment securities with a
total weighted average life of 0.97 years that have been temporarily impaired
for twelve months or more. Because the decline in market value is attributable
to changes in market rates of interest rather than credit quality, and because
the Company has the ability and intent to hold these investments until a
recovery of fair value, which may be maturity, the Company does not consider
these investments to be other-than-temporarily impaired at December 31,
2007.
The
following summarizes temporarily impaired investment securities at December 31,
2007
|
Less
than 12 Months
|
12
Months or More
|
Total
|
||||||||||||||||||||||
|
(In thousands)
Securities available for
sale:
|
Fair
Value
(Carrying
Amount)
|
Unrealized
Losses
|
Fair
Value
(Carrying
Amount)
|
Unrealized
Losses
|
Fair
Value
(Carrying
Amount)
|
Unrealized
Losses
|
||||||||||||||||||
|
U.S.
Government agencies
|
$ | 0 | $ | 0 | $ | 30,241 | $ | (302 | ) | $ | 30,241 | $ | (302 | ) | ||||||||||
|
Collateralized
mortgage
|
||||||||||||||||||||||||
|
obligations
|
4,129 | (4 | ) | 0 | 0 | 4,129 | (4 | ) | ||||||||||||||||
|
Obligations
of state and
|
||||||||||||||||||||||||
|
political
subdivisions
|
0 | 0 | 0 | 0 | 0 | 0 | ||||||||||||||||||
|
Other
investment securities
|
0 | 0 | 12,574 | (426 | ) | 12,574 | (426 | ) | ||||||||||||||||
|
Total
impaired securities
|
$ | 4,129 | $ | (4 | ) | $ | 42,815 | $ | (728 | ) | $ | 46,944 | $ | (732 | ) | |||||||||
The
contractual maturities of investment securities as well as yields based on
amortized cost of those securities at December 31, 2009 are shown
below. Actual maturities may differ from contractual maturities
because issuers have the right to call or prepay obligations with or without
call or prepayment penalties.
|
One
year or less
|
After
one year to five years
|
After
five years to ten years
|
After
ten years
|
Total
|
||||||||||||||||||||||||||||||||||||
|
(Dollars in
thousands)
|
Amount
|
Yield
(1)
|
Amount
|
Yield
(1)
|
Amount
|
Yield
(1)
|
Amount
|
Yield
(1)
|
Amount
|
Yield
(1)
|
||||||||||||||||||||||||||||||
|
Available-for-sale:
|
||||||||||||||||||||||||||||||||||||||||
|
U.S.
Government agencies
|
$ | 0 | --- | $ | 4,204 | 2.94 | % | $ | 11,288 | 5.06 | % | $ | 21,094 | 4.49 | % | $ | 36,586 | 4.59 | % | |||||||||||||||||||||
|
U.S.
Gov’t agency collateralized
|
||||||||||||||||||||||||||||||||||||||||
|
mortgage
obligations
|
--- | --- | 2,162 | 4.68 | % | 6,054 | 4.40 | % | 7,104 | 5.79 | % | 15,320 | 5.19 | % | ||||||||||||||||||||||||||
|
Residential
mortgage obligations
|
--- | --- | --- | --- | --- | --- | 9,714 | 6.91 | % | 9,714 | 6.91 | % | ||||||||||||||||||||||||||||
|
Obligations
of state and
|
||||||||||||||||||||||||||||||||||||||||
|
political
subdivisions
|
--- | --- | 628 | 4.38 | % | 657 | 4.72 | % | --- | --- | 1,285 | 4.55 | % | |||||||||||||||||||||||||||
|
Other
investment securities
|
8,506 | 5.70 | % | --- | --- | --- | --- | --- | --- | 8,506 | 5.70 | % | ||||||||||||||||||||||||||||
|
Total
estimated fair value
|
$ | 8,506 | 5.70 | % | $ | 6,994 | 3.61 | % | $ | 17,999 | 4.82 | % | $ | 37,912 | 5.35 | % | $ | 71,411 | 5.49 | % | ||||||||||||||||||||
50
At
December 31, 2009 and 2008, available-for-sale securities with an amortized cost
of approximately $66.5 million and $81.4 million, respectively (fair value of
$65.3 million and $79.6 million, respectively) were pledged as collateral for
public funds, FHLB borrowings, and treasury tax and loan balances.
Deposits
The Bank
attracts commercial deposits primarily from local businesses and professionals,
as well as retail checking accounts, savings accounts and time deposits. Total
deposits increased $53.2 million or 10.5% during the year to a balance of $561.7
million at December 31, 2009 and decreased $126.1 million or 19.9% between
December 31, 2007 and December 31, 2008. Core deposits, consisting of all
deposits other than time deposits of $100,000 or more and brokered deposits,
continue to provide the foundation for the Bank's principal sources of funding
and liquidity. These core deposits amounted to 66.7%, 71.9% and 59.9% of the
total deposit portfolio at December 31, 2009, 2008 and 2007,
respectively.
The
following table sets forth the year-end amounts of deposits by category for the
years indicated, and the dollar change in each category during the
year:
|
December
31,
|
Change
during Year
|
|||||||||||||||||||
|
(In
thousands)
|
2009
|
2008
|
2007
|
2009
|
2008
|
|||||||||||||||
|
Noninterest-bearing
deposits
|
$ | 139,724 | $ | 149,529 | $ | 139,066 | $ | (9,805 | ) | $ | 10,463 | |||||||||
|
Interest-bearing
deposits:
|
||||||||||||||||||||
|
NOW
and money market accounts
|
158,795 | 136,612 | 153,717 | 22,183 | (17,105 | ) | ||||||||||||||
|
Savings
accounts
|
34,146 | 37,586 | 40,012 | (3,440 | ) | (2,426 | ) | |||||||||||||
|
Time
deposits:
|
||||||||||||||||||||
|
Under
$100,000
|
64,481 | 66,128 | 52,297 | (1,647 | ) | 13,831 | ||||||||||||||
|
$100,000
and over
|
164,514 | 118,631 | 249,525 | 45,883 | (130,894 | ) | ||||||||||||||
|
Total
interest-bearing deposits
|
421,936 | 358,957 | 495,551 | 62,979 | (136,594 | ) | ||||||||||||||
|
Total
deposits
|
$ | 561,660 | $ | 508,486 | $ | 634,617 | $ | 53,174 | $ | (126,131 | ) | |||||||||
During
the year ended December 31, 2009, increases were experienced in interest-bearing
checking accounts and time deposits of $100,000 or more, while other deposit
categories experienced small decreases. The Company increased brokered deposits
during 2009 as part of its liquidity strategy to reduce dependence on overnight
and term borrowings from the Federal Reserve and FHLB. Although pricing on
borrowing remains attractive, access to credit lines has become more vulnerable
as risk profiles of most banks have increased in the current economic
environment. Pricing of brokered time deposits and other wholesale deposits
remain extremely low at this time and currently provides a viable alternate to
borrowings from the Federal Reserve or the FHLB. The Company believes this rate
structure will eventually turn, and wholesale funding sources, both deposits and
borrowings, will again become expensive relative to other core deposits in the
marketplace. The Company will continue to use pricing strategies to control the
overall level of time deposits and other borrowings as part of its growth and
liquidity planning process, but will continue to emphasize core deposits as part
of its long-term relationship banking strategy. As a result, core
deposits, including NOW and money market accounts, and savings accounts, as well
as noninterest-bearing checking accounts, continue to provide the Company’s
primary funding source.
During
the year ended December 31, 2008, decreases were experienced primarily in time
deposits, and to a lesser degree in interest-bearing checking accounts and
saving accounts. Brokered and other time deposits were allowed to runoff as they
matured during 2008, as the Company sought other less-expensive funding sources
including FHLB advances and overnight borrowings from the Federal Reserve. In
addition, time deposits from the State of California, which totaled $45.0
million at both December 31, 2007 and December 31, 2006, were not renewed by the
State of California during 2008. The Company had increased brokered deposits
throughout 2007 as part of its liquidity strategy begun during 2006 to fund loan
growth as core deposits became increasingly difficult to obtain and pricing
became more competitive. As market rates of interest declined during 2008,
brokered deposit pricing did not decline to the same degree, due largely to
liquidity and credit issues in the market place. As a result, brokered deposits
and other time deposits became less attractive as a funding source. NOW and
money market accounts, as well as savings accounts declined $17.1 million and
$2.4 million, respectively, between December 31, 2007 and December 31, 2008 as
these deposits remain competitive.
During
the year ended December 31, 2007 increases were experienced primarily in time
deposits, and to a lesser degree in saving accounts. Increases in time deposits
during 2007 were largely the result brokered time deposits obtained by the
Company as part of its liquidity strategy begun during 2006 to fund loan growth
as core deposits became increasingly difficult to obtain and pricing became more
competitive. This liquidity strategy allowed the Company to obtain the
additional funding sources needed during 2007 to fund loan growth without
adversely impacting the cost of its core deposit base. NOW and money market
accounts, as well as noninterest-bearing deposits declined $30.7 million and
$19.9 million, respectively, between December 31, 2006 and December 31, 2007 as
these deposits became increasingly competitive.
51
The
Company's deposit base consists of two major components represented by
noninterest-bearing (demand) deposits and interest-bearing deposits.
Interest-bearing deposits consist of time certificates, NOW and money market
accounts and savings deposits. Between December 31, 2008 and December 31, 2009,
total interest-bearing deposits increased $63.0 million or 17.5%, while
noninterest-bearing deposits decreased $19.8 million or 6.6%. Total
noninterest-bearing deposits increased $10.5 million or 7.5% between December
31, 2007 and December 31, 2008, while interest-bearing deposits decreased $136.6
million or 27.6% between the same two periods presented.
On a
year-to-date average, the Company experienced a decrease of $46.3 million or 7.9
% in total deposits between the years ended December 31, 2008 and December 31,
2009. Between these two periods, average interest-bearing deposits decreased
$36.4 million or 8.3%, while total noninterest-bearing checking decreased $9.8
million or 6.8% on a year-to-date average basis. On average, the Company
experienced increases in NOW between the years ended December 31, 2008 and
December 31, 2009, while other deposit categories experienced moderate declines
on average during 2009. On a year-to-date average basis, total deposits
decreased $56.1 million or 8.8% between the years ended December 31, 2007 and
December 31, 2008. Of that total, interest-bearing deposits decreased by $53.9
million or 10.9%, while noninterest-bearing deposits decreased $2.2 million or
1.5% during 2008. On average, the Company experienced decreases in all deposit
categories between the years ended December 31, 2007 and December 31,
2008.
The
following table sets forth the average deposits and average rates paid on those
deposits for the years ended December 31, 2009, 2008 and 2007:
|
2009
|
2008
|
2007
|
||||||||||||||||||||||
|
(Dollars in
thousands)
|
Average Balance
|
Rate
%
|
Average Balance
|
Rate
%
|
Average Balance
|
Rate
%
|
||||||||||||||||||
|
Interest-bearing
deposits:
|
||||||||||||||||||||||||
|
Checking
accounts
|
$ | 161,711 | 1.48 | % | $ | 167,190 | 1.91 | % | $ | 183,102 | 2.48 | % | ||||||||||||
|
Savings
|
35,228 | 0.62 | % | 40,699 | 1.18 | % | 46,225 | 1.91 | % | |||||||||||||||
|
Time
deposits (1)
|
205,261 | 1.75 | % | 230,746 | 3.65 | % | 263,196 | 4.94 | % | |||||||||||||||
|
Noninterest-bearing
deposits
|
134,925 | 144,772 | 146,954 | |||||||||||||||||||||
|
(1)
|
Included
at December 31, 2009, are $164.5 million in time certificates of deposit
of $100,000 or more, of which $76.2 million matures in three
months or less, $63.6 million matures in 3 to 6 months, $19.2 million
matures in 6 to 12 months, and $5.5 million matures in more than 12
months.
|
Short-term
Borrowings
The
Company has the ability to obtain borrowed funds consisting of federal funds
purchased, securities sold under agreements to repurchase (“repurchase
agreements”) and Federal Home Loan Bank (“FHLB”) advances as alternatives to
retail deposit funds. The Company has established collateralized and
uncollateralized lines of credit with several correspondent banks, as well as a
securities dealer, for the purpose of obtaining borrowed funds as needed. The
Company may continue to borrow funds in the future as part of its
asset/liability strategy, and may use these funds to acquire certain other
assets as deemed appropriate by management for investment purposes and to better
utilize the capital resources of the Bank. Federal funds purchased represent
temporary overnight borrowings from correspondent banks and are generally
unsecured. Repurchase agreements are collateralized by mortgage backed
securities and securities of U.S. Government agencies, and generally have
maturities of one to six months, but may have longer maturities if deemed
appropriate as part of the Company’s asset/liability management strategy. FHLB
advances are collateralized by the Company’s investment in FHLB stock,
securities, and certain qualifying mortgage loans. In addition, the Company has
the ability to obtain borrowings from the Federal Reserve Bank of San Francisco,
which would be collateralized by certain pledged loans in the Company’s loan
portfolio. The lines of credit are subject to periodic review of the Company’s
financial statements by the grantors of the credit lines. Lines of credit may be
modified or revoked at any time if the grantors feel there are adverse trends in
the Company’s financial position.
The
Company had collateralized and uncollateralized lines of credit aggregating
$124.2 million and $242.7 million, as well as FHLB lines of credit totaling
$40.8 million and $97.1 million at December 31, 2009 and 2008, respectively. At
December 31, 2009, the Company had total outstanding balances of $40.0 million
drawn against its FHLB line of credit. Of the $40.0 million in FHLB borrowings
outstanding at December 31, 2009, all mature within three months and have an
average rate of 0.86. These lines of credit generally have interest rates tied
to the Federal Funds rate or are indexed to short-term U.S. Treasury rates or
LIBOR.
52
The
table below provides further detail of the Company’s federal funds purchased,
repurchase agreements and FHLB advances for the years ended December 31, 2009,
2008 and 2007:
|
December
31,
|
||||||||||||
|
(Dollars in
thousands)
|
2009
|
2008
|
2007
|
|||||||||
|
At
period end:
|
||||||||||||
|
Federal
funds purchased
|
$ | 0 | $ | 66,545 | $ | 10,380 | ||||||
|
Repurchase
agreements
|
0 | 0 | 0 | |||||||||
|
FHLB
advances
|
40,000 | 88,500 | 21,900 | |||||||||
|
Total
at period end
|
$ | 40,000 | $ | 155,045 | $ | 32,280 | ||||||
|
Average
ending interest rate – total
|
0.86 | % | 0.93 | % | 4.10 | % | ||||||
|
Average
for the year:
|
||||||||||||
|
Federal
funds purchased
|
$ | 40,443 | $ | 58,432 | $ | 4,660 | ||||||
|
Repurchase
agreements
|
0 | 0 | 0 | |||||||||
|
FHLB
advances
|
59,434 | 32,937 | 13,231 | |||||||||
|
Total
average for the year
|
$ | 99,877 | $ | 91,369 | $ | 17,891 | ||||||
|
Average
interest rate – total
|
0.80 | % | 2.32 | % | 5.17 | % | ||||||
|
Maximum
total borrowings outstanding at
|
||||||||||||
|
any
month-end during the year:
|
||||||||||||
|
Federal
funds purchased
|
$ | 87,530 | $ | 160,083 | $ | 16,400 | ||||||
|
Repurchase
agreements/FHLB advances
|
73,700 | 28,000 | 20,000 | |||||||||
|
Total
|
$ | 161,230 | $ | 188,083 | $ | 36,400 | ||||||
Asset
Quality and Allowance for Credit Losses
Lending
money is the Company's principal business activity, and ensuring appropriate
evaluation, diversification, and control of credit risks is a primary management
responsibility. Implicit in lending activities is the fact that losses will be
experienced and that the amount of such losses will vary from time to time,
depending on the risk characteristics of the loan portfolio as affected by local
economic conditions and the financial experience of borrowers.
The
allowance for credit losses is maintained at a level deemed appropriate by
management to provide for known and inherent risks in existing loans and
commitments to extend credit. The adequacy of the allowance for credit losses is
based upon management's continuing assessment of various factors affecting the
collectibility of loans and commitments to extend credit; including current
economic conditions, past credit experience, collateral, and concentrations of
credit. There is no precise method of predicting specific losses or amounts
which may ultimately be charged off on particular segments of the loan
portfolio. The collectibility of a loan is subjective to some degree, but must
relate to the borrower’s financial condition, cash flow, quality of the
borrower’s management expertise, collateral and guarantees, and the state of the
local economy. When determining the adequacy of the allowance for credit losses,
the Company follows, in accordance with GAAP, the guidelines set forth in the
Interagency Policy Statement on the Allowance for Loan and Lease Losses
(“Statement”) issued jointly by banking regulators during 2003, and updated and
revised in 2006. The Statement outlines characteristics that should be used in
segmentation of the loan portfolio for purposes of the analysis including risk
classification, past due status, type of loan, industry or collateral. It also
outlines factors to consider when adjusting the loss factors for various
segments of the loan portfolio. Securities and Exchange Commission Staff
Accounting Bulletin No. 102 was also released at this time which represents the
SEC staff’s view relating to methodologies and supporting documentation for the
Allowance for Loan and Lease Losses that should be observed by all public
companies in complying with the federal securities laws and the Commission’s
interpretations. It is also generally consistent with the guidance
published by the banking regulators.
The
allowance for loan losses includes an asset-specific component, as well as a
general or formula-based component. The Company segments the loan and lease
portfolio into eleven (11) segments, primarily by loan class and type, that have
homogeneity and commonality of purpose and terms for analysis under the
formula-based component of the allowance. Those loans which are determined to be
impaired under current accounting guidelines are not subject to the
formula-based reserve analysis, and evaluated individually for specific
impairment under the asset-specific component of the allowance. The eleven
segments of the Company’s loan portfolio are as follows (subtotals are provided
as needed to allow the reader to reconcile the amounts to the Company’s loan
classification reported elsewhere in these financial statements):
53
|
Loan
Segments for Loan Loss Reserve Analysis
|
Loan
Balance at December 31,
|
||||||||||||||||||||||
|
(dollars
in 000's)
|
2009
|
2008
|
2007
|
2006
|
2005
|
||||||||||||||||||
| 1 |
Commercial
and Business Loans
|
$ | 161,292 | $ | 180,750 | $ | 181,123 | $ | 143,223 | $ | 108,424 | ||||||||||||
| 2 |
Government
Program Loans
|
6,638 | 7,457 | 7,703 | 3,741 | 3,480 | |||||||||||||||||
|
Total
Commercial and Industrial
|
167,930 | 188,207 | 188,826 | 146,964 | 111,904 | ||||||||||||||||||
| 3 |
Commercial
Real Estate Term Loans
|
117,010 | 86,007 | 95,085 | 71,697 | 43,644 | |||||||||||||||||
| 4 |
Single
Family Residential Loans
|
45,828 | 41,608 | 37,195 | 39,184 | 43,308 | |||||||||||||||||
| 5 |
Home
Improvement/Home Equity Loans
|
2,791 | 3,241 | 2,972 | 2,732 | 2,551 | |||||||||||||||||
|
Total
Real Estate Mortgage
|
165,629 | 130,856 | 135,252 | 113,613 | 89,503 | ||||||||||||||||||
| 6 |
Total
Real Estate Construction Loans
|
105,220 | 151,091 | 200,836 | 176,825 | 163,953 | |||||||||||||||||
| 7 |
Total
Agricultural Loans
|
50,897 | 52,020 | 46,387 | 35,502 | 25,214 | |||||||||||||||||
| 8 |
Consumer
Loans
|
17,939 | 20,370 | 17,521 | 16,327 | 14,373 | |||||||||||||||||
| 9 |
Overdraft
protection Lines
|
73 | 80 | 85 | 82 | 102 | |||||||||||||||||
| 10 |
Overdrafts
|
179 | 332 | 565 | 303 | 527 | |||||||||||||||||
|
Total
Installment/other
|
18,191 | 20,782 | 18,171 | 16,712 | 15,002 | ||||||||||||||||||
| 11 |
Total
Lease Financing
|
706 | 1,595 | 3,323 | 5,507 | 6,889 | |||||||||||||||||
|
Total
Loans
|
$ | 508,573 | $ | 544,551 | $ | 592,795 | $ | 495,123 | $ | 412,465 | |||||||||||||
The
Company’s methodology for assessing the adequacy of the allowance for credit
losses consists of several key elements, which include:
- the formula allowance,
- specific allowances for problem
graded loans (“classified loans”)
- and the unallocated
allowance
In
addition, the allowance analysis also incorporates the results of measuring
impaired loans as provided current accounting standards for
contingencies.
The
formula allowance is calculated by applying loss factors to outstanding loans
and certain unfunded loan commitments. Loss factors are based on the Company’s
historical loss experience and on the internal risk grade of those loans and,
may be adjusted for significant factors that, in management's judgment, affect
the collectibility of the portfolio as of the evaluation date. Factors that may
affect collectibility of the loan portfolio include:
|
|
·
|
Levels
of, and trends in delinquencies and nonaccrual
loans;
|
|
|
·
|
Trends
in volumes and term of loans;
|
|
|
·
|
Effects
of any changes in lending policies and procedures including those for
underwriting, collection, charge-off, and
recovery;
|
|
|
·
|
Experience,
ability, and depth of lending management and
staff;
|
|
|
·
|
National
and local economic trends and conditions
and;
|
|
|
·
|
Concentrations
of credit that might affect loss experience across one or more components
of the portfolio, including high-balance loan concentrations and
participations.
|
Management
determines the loss factors for problem-graded loans (substandard, doubtful, and
loss), special mention loans, and pass graded loans, based on a loss migration
model. The migration analysis incorporates loan losses over the past twelve
quarters (three years) and loss factors are adjusted to recognize and quantify
the loss exposure from changes in market conditions and trends in the Company’s
loan portfolio. For purposes of this analysis, loans are grouped by internal
risk classifications, which are “pass”, “special mention”, “substandard”,
“doubtful”, and “loss.” Certain loans are homogenous in nature and are therefore
pooled by risk grade. These homogenous loans include consumer installment and
home equity loans. Special mention loans are currently performing but are
potentially weak, as the borrower has begun to exhibit deteriorating trends,
which if not corrected, could jeopardize repayment of the loan and result in
further downgrade. Substandard loans have well-defined weaknesses which, if not
corrected, could jeopardize the full satisfaction of the debt. A loan classified
as “doubtful” has critical weaknesses that make full collection of the
obligation improbable. Classified loans, as defined by the Company, include
loans categorized as substandard, doubtful, and loss. At December
54
31, 2009,
problem graded or “classified” loans totaled $69.6 million or 13.7% of gross
loans, as compared to $85.3 million or 16.0% of gross loans at September 30,
2009, and $82.7 million or 15.2% of gross loans at December 31,
2008.
Loan
participations are reviewed for allowance adequacy under the same guidelines as
other loans in the Company’s portfolio, with an additional participation factor
added, if required, for specific risks associated with participations. In
general, participations are subject to certain thresholds set by the Company,
and are reviewed for geographic location as well as the well-being of the
underlying agent bank.
The
formula allowance includes reserves for certain off-balance sheet risks
including letters of credit, unfunded loan commitments, and lines of credit.
Reserves for undisbursed commitments are generally formula allocations based on
the Company’s historical loss experience and other loss factors, rather than
specific loss contingencies. At December 31, 2009, 2008 and 2007 the formula
reserve allocated to undisbursed commitments totaled $234,000, $313,000 and
$548,000, respectively. The reserve for unfunded commitments is considered a
reserve for contingent liabilities and is therefore carried as a liability on
the balance sheet for all periods presented.
Specific
allowances are established based on management’s periodic evaluation of loss
exposure inherent in classified loans, impaired loans, and other loans in which
management believes there is a probability that a loss has been incurred in
excess of the amount determined by the application of the formula allowance. For
impaired loans, specific allowances are determined based on the collateralized
value of the underlying properties, the net present value of the anticipated
cash flows, or the market value of the underlying assets. Formula allowances for
classified loans excluding impaired loans, specific allowances, where required,
are determined on the basis of additional risks involved with individual loans
that may be in excess of risk factors associated with the loan portfolio as a
whole. The specific allowance is different from the formula allowance in that
the specific allowance is determined on a loan-by-loan basis based on risk
factors directly related to a particular loan, as opposed to the formula
allowance which is determined for a pool of loans with similar characteristics,
based on past historical trends and other risk factors which may be relevant on
an ongoing basis.
The
unallocated portion of the allowance is the result of both expected and
unanticipated changes in various conditions that are not directly measured in
the determination of the formula and specific allowances. The conditions may
include, but are not limited to, general economic and business conditions
affecting the key lending areas of the Company, credit quality trends,
collateral values, loan volumes and concentrations, and other business
conditions.
The
following table summarizes the specific allowance, formula allowance, and
unallocated allowance at December 31, 2009, September 30, 2009 and December 31,
2008.
|
Balance
|
Balance
|
Balance
|
||||||||||
|
(in
000's)
|
December
31, 2009
|
September
30, 2009
|
December
31, 2008
|
|||||||||
|
Specific
allowance – impaired loans
|
$ | 7,974 | $ | 7,687 | $ | 4,972 | ||||||
|
Formula
allowance – classified loans not impaired
|
1,979 | 1,248 | 2,113 | |||||||||
|
Formula
allowance – special mention loans
|
587 | 767 | 752 | |||||||||
|
Total
allowance for special mention and classified loans
|
10,540 | 9,702 | 7,837 | |||||||||
|
Formula
allowance for pass loans
|
4,476 | 4,702 | 3,550 | |||||||||
|
Unallocated
allowance
|
0 | 9 | 142 | |||||||||
|
Total
allowance
|
$ | 15,016 | $ | 14,413 | $ | 11,529 | ||||||
|
Impaired
loans
|
$ | 53,794 | $ | 73,762 | $ | 48,946 | ||||||
|
Classified
loans not considered impaired
|
15,816 | 11,670 | 33,758 | |||||||||
|
Total
classified loans
|
$ | 69,610 | $ | 85,432 | $ | 82,704 | ||||||
|
Special
mention loans
|
$ | 27,939 | $ | 40,505 | $ | 32,285 | ||||||
Impaired
loans increased approximately $4.8 million between December 31, 2008 and
December 31, 2009, but decreased approximately $20.0 million during the
quarter ended December 31, 2009. The specific allowance related to impaired
loans increased $3.0 million and $287,000 for the year ended and quarter ended
December 31, 2009, respectively. The formula allowance related to loans that are
not impaired (including special mention and substandard) decreased approximately
$299,000 between December 31, 2008 and December 31, 2009, and decreased
$551,000 during the quarter ended December 31, 2009. Increases for the year
55
ended
December 31, 2009 were the result of increases in adjusting factors for current
economic trends and conditions, and trends in delinquent and nonaccrual loans,
as well as increased asset-specific reserves on certain loan relationships. Even
though the level of “pass” loans decreased approximately $16.7 million during
the year ended December 31, 2009, the related formula allowance increased
$926,000 during 2009 as a result of an increase in percentage loss allocations,
as well as factor allocation increases due to current economic
conditions.
At
December 31, 2008, the Company segregated approximately $26.3 million of the
total $33.8 million in substandard classified loans for purposes of the
quarterly analysis of the adequacy of the allowance for credit losses under the
formula allowance. Many of these loans had been downgraded to substandard
because the borrowers had other direct or indirect lending relationships which
were classified as substandard or impaired. The $26.3 million in substandard
loans consisted of ten borrowing relationships, which although classified as
substandard, the Company believed were performing and therefore did not
warrant the same loss factors as other substandard loans in the portfolio. The
adequacy of the allowance for credit losses related to this $26.3 million pool
of substandard loans was based upon current payment history, loan-to-value
ratios, future anticipated performance, and other various factors. The formula
allowance for credit losses related to these substandard loans totaled $1.2
million at December 31, 2008. This formula reserve was previously included in
the formula allowance for special mention and classified loans totaling $2.9
million at December 31, 2008 in the above table. During the second quarter of
2009, the performance of the segregated substandard loan portfolio deteriorated
to a point where management determined that the loans were either impaired or
subject to the higher loss factors traditionally applied to other substandard
loans. As a result, approximately $16.8 million of the previously segregated
substandard loans were transferred to impaired loans, and the remainder analyzed
using applicable formula loss factors related to their risk ratings. The
increase in the reserve for impaired loans related to this transfer totaled $1.8
million during the quarter ended June 30, 2009 and an increase of approximately
$225,000 in other reserve categories during the same period.
The
Company’s methodology includes features that are intended to reduce the
difference between estimated and actual losses. The specific allowance portion
of the analysis is designed to be self-correcting by taking into account the
current loan loss experience based on that portion of the portfolio. By
analyzing the probable estimated losses inherent in the loan portfolio on a
quarterly basis, management is able to adjust specific and inherent loss
estimates using the most recent information available. In performing the
periodic migration analysis, management believes that historical loss factors
used in the computation of the formula allowance need to be adjusted to reflect
current changes in market conditions and trends in the Company’s loan portfolio.
There are a number of other factors, which are reviewed when determining
adjustments in the historical loss factors. They include 1) trends in delinquent
and nonaccrual loans, 2) trends in loan volume and terms, 3) effects of changes
in lending policies, 4) concentrations of credit, 5) competition, 6) national
and local economic trends and conditions, 7) experience of lending staff, 8)
loan review and Board of Directors oversight, 9) high balance loan
concentration, and 10) other business conditions. Other than the
reclassification of approximately $26.3 million in previously segregated
substandard loans during 2009 discussed above, there were no changes in
estimation methods or assumptions during 2009 that affected the methodology for
assessing the overall adequacy of the allowance for credit losses.
Management
and the Company’s lending officers evaluate the loss exposure of classified and
impaired loans on a weekly and monthly basis, and through discussions and
officer meetings as conditions change. The Company’s Loan Committee meets weekly
and serves as a forum to discuss specific problem assets that pose significant
concerns to the Company, and to keep the Board of Directors informed through
committee minutes. All special mention and classified loans are reported
quarterly on Criticized Asset Reports, which are reviewed by senior management.
With this information, the migration analysis and the impaired loan analysis are
performed on a quarterly basis and adjustments are made to the allowance as
deemed necessary. As the real estate market and economic crisis became more
severe beginning during the later part of 2008, the Company successfully worked
with many of its borrowers to re-margin loans as collateral values declined,
weakening the Company’s credit position and increasing the potential for losses.
This process of working with potentially troubled borrowers is monitored closely
through the loan review process.
The
specific allowance for impaired loans is measured based on the present value of
the expected future cash flows discounted at the loan's effective interest rate
or the fair value of the collateral if the loan is collateral dependent. The
amount of impaired loans is not directly comparable to the amount of
nonperforming loans disclosed later in this section. The primary differences
between impaired loans and nonperforming loans are: i) all loan categories are
considered in determining nonperforming loans while impaired loan recognition is
limited to commercial and industrial loans, commercial and residential real
estate loans, construction loans, and agricultural loans, and ii) impaired loan
recognition considers not only loans 90 days or more past due, restructured
loans and nonaccrual loans but also may include problem loans other than
delinquent loans.
The
Company considers a loan to be impaired when, based upon current information and
events, it believes it is probable the Company will be unable to collect all
amounts due according to the contractual terms of the loan
agreement. Impaired loans include nonaccrual loans, restructured
debt, and performing loans in which full payment of principal or interest is not
expected. Management bases the
56
measurement
of these impaired loans on the fair value of the loan's collateral or the
expected cash flows on the loans discounted at the loan's stated interest rates.
Cash receipts on impaired loans not performing to contractual terms and that are
on nonaccrual status are used to reduce principal balances. Impairment losses
are included in the allowance for credit losses through a charge to the
provision, if applicable.
At
December 31, 2009 and 2008, the Company's recorded investment in loans for which
impairment has been recognized totaled $53.8 million and $48.9 million,
respectively. Included in total impaired loans at December 31, 2009, are $26.3
million of impaired loans for which the related specific allowance is $8.0
million, as well as $27.5 million of impaired loans that as a result of
write-downs or the fair value of the collateral, did not have a specific
allowance. Total impaired loans at December 31, 2008 included $25.5 million of
impaired loans for which the related specific allowance is $5.0 million, as well
as $23.4 million of impaired loans that as a result of write-downs or the fair
value of the collateral, did not have a specific allowance. The average recorded
investment in impaired loans was $59.6 million, $31.7 million and $10.4 million
during the years ended December 31, 2009, 2008 and 2007, respectively. In most
cases, the Company uses the cash basis method of income recognition for impaired
loans. In the case of certain troubled debt restructuring for which the loan is
performing under the current contractual terms, income is recognized under the
accrual method. For the year ended December 31, 2009, the Company recognized
$326,000 in income on such loans. For the years ended December 31, 2008 and
2007, the Company recognized no income on such loans.
The
largest category of impaired loans during the year ended December 31, 2009 has
been real estate construction and development loans, with that loan category
comprising almost 48% of total impaired loans at December 31, 2009. Impaired
construction loans decreased $16.2 million, impaired commercial and industrial
loans decreased $1.23 million, and impaired agricultural loans decreased $2.4
million during the fourth quarter of 2009. Although impaired balances for
construction loans have declined slightly during the year ended December 31,
2009, and construction loans are generally collateral dependent and the related
collateral is considered adequate to cover the loan’s carrying value in many
cases, the specific reserve related to impaired construction loans has increased
approximately $2.4 million since December 31, 2008 as property valuations
have declined. Specific collateral related to impaired loans is reviewed for
current appraisal information, economic trends within geographic markets,
loan-to-value ratios, and other factors that may impact the value of the loan
collateral. Adjustments are made to collateral values as needed for these
factors. Of total impaired loans, approximately $39.7 million or 73.7% are
secured by real estate. The following table summarizes the components of
impaired loans and their related specific allowance at December 31, 2009,
September 30, 2009 and December 31, 2008.
|
(in 000’s)
|
Balance
December
31,
2009
|
Allowance
December
31,
2009
|
Balance
Sept
30,
2009
|
Allowance
Sept
30,
2009
|
Balance
December
31,
2008
|
Allowance
December
31,
2008
|
||||||||||||||||||
|
Commercial
and industrial
|
$ | 9,064 | $ | 2,383 | $ | 10,260 | $ | 2,491 | $ | 12,244 | $ | 2,340 | ||||||||||||
|
Real
estate – mortgage
|
12,584 | 536 | 12,718 | 344 | 3,689 | 226 | ||||||||||||||||||
|
RE
construction and development
|
25,606 | 4,741 | 41,801 | 3,751 | 28,927 | 2,338 | ||||||||||||||||||
|
Agricultural
|
6,212 | 153 | 8,651 | 934 | 4,086 | 68 | ||||||||||||||||||
|
Installment/other
|
328 | 160 | 332 | 167 | 0 | 0 | ||||||||||||||||||
|
Lease
financing
|
0 | 0 | 0 | 0 | 0 | 0 | ||||||||||||||||||
|
Total
|
$ | 53,794 | $ | 7,973 | $ | 73,761 | $ | 7,687 | $ | 48,946 | $ | 4,972 | ||||||||||||
Geographically,
the $53.8 million in impaired loans are disbursed throughout a wide area of
California, with approximately 62.7% of those loans within Fresno, Madera, Kern,
and Santa Clara Counties. The following table summarizes the impaired loan
balances by county as of December 31, 2009.
|
County
|
Impaired
Balance (000's)
|
Percentage
|
||||||
|
Kern
|
$ | 21,686 | 40.31 | % | ||||
|
Fresno
|
9,954 | 18.50 | % | |||||
|
Monterey
|
7,514 | 13.97 | % | |||||
|
Merced
|
2,581 | 4.80 | % | |||||
|
Madera
|
3,602 | 6.70 | % | |||||
|
San
Mateo
|
2,089 | 3.88 | % | |||||
|
Santa
Clara
|
2,103 | 3.91 | % | |||||
|
Mariposa
|
1,850 | 3.44 | % | |||||
|
Tulare
|
1,160 | 2.16 | % | |||||
|
Marin
|
839 | 1.56 | % | |||||
|
Other
counties
|
416 | 0.77 | % | |||||
|
Total
impaired loans
|
$ | 53,794 | 100.00 | % | ||||
57
The
Company focuses on competition and other economic conditions within its market
area and other geographical areas in which it does business, which may
ultimately affect the risk assessment of the portfolio. The Company continues to
experience increased competition from major banks, local independents and
non-bank institutions creating pressure on loan pricing. With interest rates
decreasing 100 basis points during the fourth quarter of 2007, another 400 basis
points during 2008, indications are that the economy will continue to suffer in
the near future as a result of sub-prime lending problems, a weakened real
estate market, and tight credit markets. As a result of these conditions, the
Company has placed increased emphasis on reducing both the level of
nonperforming assets and the level of losses taken, if any, on the disposition
of these assets if required It has been in the best interest of both the Company
and the borrowers to seek alternative options to foreclosure in an effort to
diminish the impact on an already depressed real estate market. As part of this
strategy, the Company has increased its level of troubled debt restructurings,
when it makes economic sense. Both business and consumer spending have
slowed during the past several quarters, and current GDP projections for the
next year have softened significantly. It is difficult to determine to what
degree the Federal Reserve will adjust short-term interest rates in its efforts
to influence the economy, or what magnitude government economic support programs
will reach. It is likely that the business environment in California will
continue to be influenced by these domestic as well as global events. The local
market has remained relatively more stable economically during the past several
years than other areas of the state and the nation, which have experienced more
volatile economic trends, including significant deterioration of residential
real estate markets. Although the local area residential housing markets have
been hit hard, they continue to perform better than other parts of the state,
which should bode well for sustained, but slower growth in the Company’s market
areas of Fresno and Madera, Kern, and Santa Clara Counties. Local
unemployment rates in the San Joaquin Valley remain high primarily as a
result of the areas’ agricultural dynamics, however unemployment rates have
increased recently as the national economy has declined. It is difficult to
predict what impact this will have on the local economy. The Company believes
that the Central San Joaquin Valley will continue to grow and
diversify as property and housing costs remain reasonable relative to other
areas of the state. Management recognizes increased risk of loss due to the
Company's exposure from local and worldwide economic conditions, as well as
potentially volatile real estate markets, and takes these factors into
consideration when analyzing the adequacy of the allowance for credit
losses.
The
following table provides a summary of the Company's allowance for credit losses,
provisions made to that allowance, and charge-off and recovery activity
affecting the allowance for the years indicated.
|
December
31,
|
||||||||||||||||||||
|
(Dollars in
thousands)
|
2009
|
2008
|
2007
|
2006
|
2005
|
|||||||||||||||
|
Total
loans outstanding at end of period before
|
||||||||||||||||||||
|
deducting
allowances for credit losses
|
$ | 507,709 | $ | 543,317 | $ | 591,056 | $ | 488,680 | $ | 406,266 | ||||||||||
|
Average
net loans outstanding during period
|
$ | 534,830 | $ | 582,500 | $ | 575,448 | $ | 464,514 | $ | 397,375 | ||||||||||
|
Balance
of allowance at beginning of period
|
$ | 11,529 | $ | 7,431 | $ | 4,381 | $ | 4,295 | $ | 5,147 | ||||||||||
|
Loans
charged off:
|
||||||||||||||||||||
|
Real
estate
|
(4,245 | ) | (3,103 | ) | (4,005 | ) | 0 | 0 | ||||||||||||
|
Commercial
and industrial
|
(5,648 | ) | (1,890 | ) | (303 | ) | (290 | ) | (323 | ) | ||||||||||
|
Lease
financing
|
(122 | ) | (281 | ) | (8 | ) | (163 | ) | (364 | ) | ||||||||||
|
Installment
and other
|
(130 | ) | (271 | ) | (177 | ) | (48 | ) | (86 | ) | ||||||||||
|
Total
loans charged off
|
(10,145 | ) | (5,545 | ) | (4,493 | ) | (501 | ) | (773 | ) | ||||||||||
|
Recoveries
of loans previously charged off:
|
||||||||||||||||||||
|
Real
estate
|
1 | 0 | 0 | 0 | 0 | |||||||||||||||
|
Commercial
and industrial
|
245 | 92 | 46 | 195 | 108 | |||||||||||||||
|
Lease
financing
|
1 | 14 | 0 | 1 | 3 | |||||||||||||||
|
Installment
and other
|
10 | 11 | 18 | 43 | 54 | |||||||||||||||
|
Total
loan recoveries
|
257 | 117 | 64 | 239 | 165 | |||||||||||||||
|
Net
loans charged off
|
(9,888 | ) | (5,428 | ) | (4,429 | ) | (262 | ) | (608 | ) | ||||||||||
|
Reclassification
of off-balance sheet reserve
|
0 | 0 | 0 | 0 | (35 | ) | ||||||||||||||
|
Reserve
acquired in business acquisition
|
0 | 0 | 1,268 | 0 | 0 | |||||||||||||||
|
Provision
charged to operating expense
|
13,375 | 9,526 | 6,211 | 328 | (209 | ) | ||||||||||||||
|
Balance
of allowance for credit losses
|
||||||||||||||||||||
|
at
end of period
|
$ | 15,016 | $ | 11,529 | $ | 7,431 | $ | 4,361 | $ | 4,295 | ||||||||||
|
Net
loan charge-offs to total average loans
|
1.85 | % | 0.93 | % | 0.77 | % | 0.06 | % | 0.15 | % | ||||||||||
|
Net
loan charge-offs to loans at end of period
|
1.95 | % | 1.00 | % | 0.75 | % | 0.05 | % | 0.15 | % | ||||||||||
|
Allowance
for credit losses to total loans at end of period
|
2.96 | % | 2.12 | % | 1.26 | % | 0.89 | % | 1.06 | % | ||||||||||
|
Net
loan charge-offs to allowance for credit losses
|
68.85 | % | 47.08 | % | 59.60 | % | 6.01 | % | 14.16 | % | ||||||||||
|
Net
loan charge-offs to provision for credit losses
|
73.93 | % | 56.98 | % | 71.31 | % | 79.88 | % | -290.91 | % | ||||||||||
58
Management
believes that the 2.96% credit loss allowance to total loans at December 31,
2009 is adequate to absorb known and inherent risks in the loan portfolio. No
assurance can be given, however, that the economic conditions which may
adversely affect the Company's service areas or other circumstances will not be
reflected in increased losses in the loan portfolio. Management is not currently
aware of any conditions that may adversely affect the levels of losses incurred
in the Company’s loan portfolio.
Although
the Company does not normally allocate the allowance for credit losses to
specific loan categories, an allocation to the major categories has been made
for the purposes of this report as set forth in the following table. The
allocations are estimates based on the same factors as considered by management
in determining the amount of additional provisions to the credit loss allowance
and the overall adequacy of the allowance for credit losses.
|
2009
|
2008
|
2007
|
2006
|
2005
|
||||||||||||||||||||||||||||||||||||
|
(Dollars in
thousands)
|
Allowance
for
Credit
Losses
|
%
of
Loans
|
Allowance
for
Credit
Losses
|
%
of
Loans
|
Allowance
For
Credit
Losses
|
%
of
Loans
|
Allowance
for
Credit
Losses
|
%
of
Loans
|
Allowance
for
Credit
Losses
|
%
of
Loans
|
||||||||||||||||||||||||||||||
|
Commercial
and industrial
|
$ | 7,125 | 33.0 | % | $ | 4,620 | 34.6 | % | $ | 3,008 | 31.9 | % | $ | 1,821 | 29.7 | % | $ | 1,397 | 27.1 | % | ||||||||||||||||||||
|
Real
estate – mortgage
|
1,426 | 32.6 | % | 787 | 24.0 | % | 593 | 22.8 | % | 619 | 22.9 | % | 330 | 21.7 | % | |||||||||||||||||||||||||
|
RE
construction and development
|
5,561 | 20.7 | % | 4,796 | 27.7 | % | 3,070 | 33.8 | % | 1,123 | 35.7 | % | 1,598 | 39.7 | % | |||||||||||||||||||||||||
|
Agricultural
|
334 | 10.0 | % | 1,035 | 9.6 | % | 559 | 7.8 | % | 310 | 7.1 | % | 316 | 6.0 | % | |||||||||||||||||||||||||
|
Installment/other
|
535 | 3.6 | % | 101 | 3.8 | % | 133 | 3.1 | % | 187 | 3.4 | % | 112 | 3.6 | % | |||||||||||||||||||||||||
|
Lease
financing
|
35 | 0.1 | % | 49 | 0.3 | % | 68 | 0.6 | % | 161 | 1.1 | % | 166 | 1.7 | % | |||||||||||||||||||||||||
|
Not
allocated
|
0 | -- | 142 | -- | 0 | -- | 140 | -- | 376 | -- | ||||||||||||||||||||||||||||||
| $ | 15,016 | 100.0 | % | $ | 11,529 | 100.0 | % | $ | 7,431 | 100.0 | % | $ | 4,361 | 100.0 | % | $ | 4,295 | 100.0 | % | |||||||||||||||||||||
During
2009, reserve allocations increased for commercial and industrial loans, real
estate mortgage loans, construction loans, and installment loans. Increased
reserve allocations for commercial and industrial loans are the result of
increased loan volume and increased loss factors applied to classified loan
classifications, while increases in reserve allocations for real estate mortgage
and installment loans are primarily the result of increases in substandard loans
in those categories. Reserve allocations increased for real estate construction
loans as a result of both an increase in the level of special mention loans in
that category, as well as increased specific reserves on certain loans in that
category between December 31, 2008 and December 31, 2009.
During
2008, reserve allocations increased for commercial and industrial loans, as well
as construction and agricultural loans. As with prior years, the significant
reserve allocation for lease financing loans is the result of specific reserves
allocated to a lease portfolio that has been nonperforming since 2002 and is in
the process of litigation (see discussion following). Increased reserve
allocations for commercial and industrial loans, construction loans, as well as
agricultural loans, are the result of increases in special mention and
substandard loans in those categories, with an increase in the volume of loans
considered impaired. Successful re-margining of a number of the Company’s
problem loans during the third and fourth quarters of 2008 helped to reduce
potential loss exposure in the loan portfolio.
During
2007, reserve allocations increased significantly for commercial and industrial
loans, construction loans, and to lesser extent, agricultural loans. Increased
reserve allocations for commercial and industrial loans, as well as agricultural
loans are the result of increased loan volume, as well as increases in
substandard loans in those categories. Increases in reserve allocations for
construction loans are primarily the result of increases in special mention and
substandard loans in those categories. Reserve allocations decreased for lease
financing loans as a result of declining balances in the lease
portfolio.
59
The
Company purchased a schedule of payments collateralized by Surety Bonds and
lease payments in September 2001 that have a current balance owing of $5.4
million plus interest. The leases have been nonperforming since June 2002 (see “Asset Quality and Allowance for
Credit Losses” section of Management’s Discussion and Analysis of Financial
Condition and Results of Operations contained in the Company’s 2007 Annual
Report on Form 10-K). For reporting purposes at December 31, 2008, the
impaired lease portfolio was on non-accrual status and had a specific allowance
allocation of $3.5 million, and a net carrying value of $1.9 million. During the
first quarter of 2009, the Company evaluated its position with regard to the
nonperforming lease portfolio, and determined that because the ultimate payoff
of the lease portfolio would come from the underlying surety bonds rather than
individual leases, the portfolio was better classified as a receivable to be
included in other assets rather than classified as loans. As a result, the
Company reclassified the net lease amount of $1.9 million ($5.4 million in gross
leases less $3.5 million is specific reserve) from loans to other assets
effective January 1, 2009. All periods presented in this 10-K for the period
ended December 31, 2009 have been restated to reflect the transfer of the
nonperforming lease portfolio from loans to other assets. During June 2009, the
Company agreed to settle with the insurance company issuing the surety bonds for
a total settlement amount of $2.0 million. At June 30, 2009, the Company
increased the lease receivable classified in other assets to reflect the $2.0
million settlement amount, and recorded a gain of $117,000 for the difference
between the carrying amount previously recorded and the settlement amount. The
Company received the proceeds from the settlement during July 2009.
The
following summarizes the Company’s allowance for credit losses related to the
specific, formula, and unallocated reserves for the year-ends
shown:
|
December
31,
|
||||||||||||||||||||
|
(Dollars
in 000’s)
|
2009
|
2008
|
2007
|
2006
|
2005
|
|||||||||||||||
|
Formula
allowance
|
$ | 7,043 | $ | 6,414 | $ | 6,447 | $ | 3,637 | $ | 2,976 | ||||||||||
|
Specific
allowance
|
7,973 | 4,973 | 984 | 584 | 943 | |||||||||||||||
|
Unallocated
allowance
|
0 | 142 | 0 | 140 | 376 | |||||||||||||||
|
Total
allowance
|
$ | 15,016 | $ | 11,529 | $ | 7,431 | $ | 4,361 | $ | 4,295 | ||||||||||
At
December 31, 2009, the allowance for credit losses totaled $15.0 million, and
consisted of $7.0 million in formula allowance, $8.0 million in specific
allowance, and no unallocated allowance. At December 31, 2009, $4.7 million of
the specific allowance was allocated to real estate construction loans, and the
remaining $2.4 million, $536,000, $160,000, and $153,000 were allocated to
commercial and industrial loans, commercial real estate, installment loans, and
agricultural loans, respectively.
The
allowance for credit losses totaled $11.5 million At December 31, 2008, and
consisted of $6.4 million in formula allowance, $5.0 million in specific
allowance, and $142,000 in unallocated reserve. At December 31, 2008, $2.3
million of the specific allowance was allocated to real estate construction
loans, and the remaining $2.3 million, $227,000, and $68,000 were allocated to
commercial and industrial loans, real estate commercial loans, and agricultural
loans, respectively.
At
December 31, 2007, the allowance for credit losses totaled $7.4 million, and
consisted of $6.4 million in formula allowance, and $984,000 in specific
allowance. At December 31, 2007, $599,000 of the specific allowance was
allocated to real estate construction loans, and the remaining $339,000 and
$46,000 were allocated to commercial and industrial loans, and leases,
respectively.
The total
formula allowance increased approximately $629,000 between 2008 and 2009,
primarily as the result of increased loss factors applied to “pass loans” which
more than outweighed the decline in volume of “pass” loans. Between December 31,
2008 and December 31, 2009, sub-substandard loans decreased $14.5 million, while
special mention loans decreased $5.9 million, but the specific reserve increased
$3.0 million during the period as a result of deterioration in the impaired loan
portfolio.
The total
formula allowance decreased approximately $33,000 between 2007 and 2008,
primarily as the result of decreased volume in “pass” loans. The formula
allowance for construction loans decreased $905,000 during 2008,
but increased $574,000 and $408,000 for commercial real estate loans and
agricultural loans, respectively, with only minor changes in other loan
categories. Between December 31, 2007 and December 31, 2008, sub-substandard
loans increased $34.8 million, while special mention and doubtful loans
increased $21.1 million and $1.6 million, respectively. Increases in loan
downgrades experienced during 2008 were primarily the result of continued
deterioration in the overall economy, including the residential construction
market, which in turn has impacted other sectors of the lending
portfolio.
The total
formula allowance increased approximately $2.8 million between 2006 and 2007,
primarily as the result of increased volume in “pass” loans. There were only
minor formula allowance allocation changes between loan categories occurring
between December 31, 2006 and December 31, 2007, and so most changes in the
formula allowance during 2007 were the result of volume changes.
60
Between
December 31, 2006 and December 31, 2007, substandard loans increased $35.0
million, while special mention and doubtful loans increased $8.6 million and
$891,000 million, respectively. Increases in loan downgrades experienced during
2007 were primarily the result of deteriorating economic factors in the
residential construction market, which in turn has impacted other sectors of the
lending portfolio.
Although
in some instances, the downgrading of a loan resulting from the factors used by
the Company in its allowance analysis has been reflected in the formula
allowance, management believes that in some instances, the impact of material
events and trends has not yet been reflected in the level of nonperforming loans
or the internal risk grading process regarding these loans. Accordingly, the
Company’s evaluation of probable losses related to these factors may be
reflected in the unallocated allowance. The evaluation of the inherent losses
concerning these factors involve a higher degree of uncertainty because they are
not identified with specific problem credits, and therefore the Company does not
spread the unallocated allowance among segments of the portfolio. At December
31, 2009 and December 31, 2007, the Company had no unallocated allowance, while
at December 31, 2008 the Company had an unallocated allowance of $142,000.
Management’s estimates of the unallocated allowance are based upon a number of
underlying factors including 1) the effect of deteriorating national and local
economic trends, 2) the effects of export market conditions on certain
agricultural and manufacturing borrowers, 3) the effects of abnormal weather
patterns on agricultural borrowers, as well as other borrowers that may be
impacted by such conditions, 4) the effect of increased competition in the
Company’s market area and the resultant potential impact of more relaxed
underwriting standards to borrowers with multi-bank relationships, 5) the effect
of soft real estate markets, and 6) the effects of having a larger number of
borrowing relationships which are close to the Company’s lending limit, any one
if which were not to perform to contractual terms, would have a material impact
on the allowance.
The
Company's loan portfolio has concentrations in commercial real estate,
commercial, and construction loans, however the portfolio percentages fall
within the Company's loan policy guidelines.
It is the
Company's policy to discontinue the accrual of interest income on loans for
which reasonable doubt exists with respect to the timely collectibility of
interest or principal due to the inability of the borrower to comply with the
terms of the loan agreement. Such loans are placed on nonaccrual status whenever
the payment of principal or interest is 90 days past due or earlier when the
conditions warrant, and interest collected is thereafter credited to principal
to the extent necessary to eliminate doubt as to the collectibility of the net
carrying amount of the loan. Management may grant exceptions to this policy if
the loans are well secured and in the process of collection.
The
following table sets forth the Company’s nonperforming assets as of the dates
indicated:
|
December
31,
|
||||||||||||||||||||
|
(Dollars in thousands, except
footnote)
|
2009
|
2008
|
2007
|
2006
|
2005
|
|||||||||||||||
|
Nonaccrual
loans (1)
|
$ | 34,757 | $ | 45,671 | $ | 16,158 | $ | 2,693 | $ | 8,485 | ||||||||||
|
Restructured
loans
|
16,026 | 0 | 23 | 4,906 | 0 | |||||||||||||||
|
Total
non-performing loans
|
50,783 | 45,671 | 16,181 | 7,599 | 8,485 | |||||||||||||||
|
Other
real estate owned
|
36,217 | 30,153 | 6,666 | 1,919 | 4,356 | |||||||||||||||
|
Total
non-performing assets
|
$ | 87,000 | $ | 75,824 | $ | 22,847 | $ | 9,518 | $ | 12,841 | ||||||||||
|
Loans,
past due 90 days or more, still accruing
|
$ | 486 | $ | 680 | $ | 189 | $ | 0 | $ | 0 | ||||||||||
|
Non-performing
loans to total gross loans
|
9.99 | % | 8.39 | % | 2.73 | % | 1.53 | % | 2.06 | % | ||||||||||
|
Non-performing
assets to total gross loans
|
17.11 | % | 13.92 | % | 3.85 | % | 1.92 | % | 3.11 | % | ||||||||||
|
(1)
|
Included in nonaccrual loans at
December 31, 2009
and 2008 are
restructured loans totaling $10.0 million and $378,000, respectively. There were no nonaccrual loans
at December 31, 2007 which are restructured. The interest income that
would have been earned on nonaccrual loans outstanding at December 31,
2009 in accordance with their
original terms is approximately $3.2
million.
|
Non-performing assets have
increased between December 31, 2008 and December 31,
2009 as the prolonged economic
downturn continued into 2009. While nonaccrual loans decreased $10.9 million
between December 31, 2008 and December 31, 2009, restructured loans not included
in the nonaccrual totals increased $16.0 million as the Company sought to
work-out problem credits with borrowers. When all other means of repayment
failed, the underlying collateral on nonperforming loans was foreclosed upon,
resulting in the net increase of $6.1 million in other real estate owned between
December 31, 2008 and December 31, 2009. The net change in other real estate
owned includes additions of approximately $20.0 million in properties
transferred from loans, and gross sales of nearly $13.6 million during the year
ended December 31, 2009.
61
Non-performing assets
increased between December 31, 2007 and December 31, 2008 as declines in real
estate markets and related sectors experienced since the later part of
2007 resulting from lending problems continued to impact credit markets and the
general economy throughout 2008. Nonaccrual loans increased $29.5 million
between December 31, 2007 and December 31, 2008, with construction loans
comprising approximately 57% of total nonaccrual loans at December 31, 2008, and
commercial and industrial loans comprising another 19%.
Non-performing assets
increased between December 31, 2006 and December 2007 as housing markets
and related sectors experienced declines during the second half of the year as a
result of sub-prime lending problems which impacted credit markets and the
overall economy worldwide. Economic conditions in the San Joaquin Valley
remained strong during much of 2007, although as a result of the decline in the
housing sector and related real estate valuations, nonperforming assets
increased during the years and additional charge-offs were taken during the
third and fourth quarters of 2007. Non-performing assets increased during 2007,
totaling 4.73% of total loans at December 31, 2007 as compared to 2.99% of total
loans at December 31, 2006. Non-performing loans, a component of non-performing
assets, increased nearly $8.6 million during 2007 primarily as the result of
real estate construction and real estate development loans which become impaired
during the period. Some, but not all, of these nonperforming real estate credits
were outside the Company’s immediate market area, specifically Southern
California and the San Francisco Bay area.
The
following table summarizes the nonaccrual totals by loan category for the
periods shown:
|
Nonaccrual Loans (in
000's):
|
Balance
December
31,
2009
|
Balance
Sept
30,
2009
|
Balance
December
31,
2008
|
Change
from
Sept
30,
2009
|
Change
from
December
31,
2008
|
|||||||||||||||
|
Commercial
and industrial
|
$ | 5,355 | $ | 6,531 | $ | 9,507 | $ | (1,176 | ) | $ | (4,152 | ) | ||||||||
|
Real
estate - mortgage
|
5,336 | 6,311 | 3,714 | (975 | ) | 1,622 | ||||||||||||||
|
Real
estate - construction
|
17,591 | 33,354 | 28,928 | (15,763 | ) | (11,337 | ) | |||||||||||||
|
Agricultural
|
6,212 | 8,651 | 3,406 | (2,439 | ) | 2,806 | ||||||||||||||
|
Installment/other
|
150 | 260 | 55 | (110 | ) | 95 | ||||||||||||||
|
Lease
financing
|
114 | 70 | 61 | 44 | 53 | |||||||||||||||
|
Total
Nonaccrual Loans
|
$ | 34,757 | $ | 55,177 | $ | 45,671 | $ | (20,420 | ) | $ | (10,914 | ) | ||||||||
The
decrease in nonaccrual real estate construction loans between December 31, 2008
and December 31, 2009 is partially the result of a single condominium project
totaling $8.0 million at December 31, 2008, which was completed and sold during
the fourth quarter of 2009. Decreases of $20.4 million in total nonaccrual loans
between December 31, 2008 and December 31, 2009 included transfers of nearly
$20.0 million to other real estate owned, as well as a number paydowns or
payoffs on those nonperforming loans. Of the $20.0 million in transfers between
nonaccrual loans and other real estate owned during 2009, $4.7 million was
transferred during the fourth quarter of 2009.
Increases
in nonaccrual construction loans between December 31, 2007 and December 31, 2008
are the result of a significant slowdown in new housing starts and the resultant
depreciation in land, and both partially completed and completed construction
projects. Nonaccrual construction loans decreased $10.2 million during the
fourth quarter of 2008, primarily as the result of construction loans that were
transferred to other real estate owned. As with impaired loans, a large
percentage of nonaccrual loans were made for the purpose of residential
construction, residential and commercial acquisition and development, and land
development. The following table summarizes nonaccrual balances by purpose at
both December 31, 2009 and December 31, 2008.
| (000’s) |
December
31,
2009
|
December
31,
2008
|
|||||||
|
Residential
construction
|
$ | 6,847 | $ | 17,386 | |||||
|
Residential
and commercial acquisition and development
|
11,176 | 450 | |||||||
|
Land
development
|
2,524 | 16,043 | |||||||
|
Other
purposes
|
14,210 | 11,792 | |||||||
|
Total
nonaccrual loans
|
$ | 34,757 | $ | 45,671 | |||||
Loans
past due more than 30 days are receiving increased management attention and are
monitored for increased risk. The Company continues to move past due loans to
nonaccrual status in its ongoing effort to recognize loan problems at an earlier
point in time when they may
be dealt with more effectively. As impaired loans, nonaccrual and restructured
loans are reviewed for specific reserve allocations and the allowance for credit
losses is adjusted accordingly.
62
Except
for the loans included in the above table, and the land development loan
discussed above, there were no loans at December 31, 2009 where the known credit
problems of a borrower caused the Company to have serious doubts as to the
ability of such borrower to comply with the present loan repayment terms and
which would result in such loan being included as a nonaccrual, past due or
restructured loan at some future date.
Liquidity and
Asset/Liability Management
The
primary function of asset/liability management is to provide adequate liquidity
and maintain an appropriate balance between interest-sensitive assets and
interest-sensitive liabilities.
Liquidity
Liquidity
management may be described as the ability to maintain sufficient cash flows to
fulfill both on- and off-balance sheet financial obligations, including loan
funding commitments and customer deposit withdrawals, without straining the
Company’s equity structure. To maintain an adequate liquidity position, the
Company relies on, in addition to cash and cash equivalents, cash inflows from
deposits and short-term borrowings, repayments of principal on loans and
investments, and interest income received. The Company's principal cash outflows
are for loan origination, purchases of investment securities, depositor
withdrawals and payment of operating expenses. Other sources of liquidity not on
the balance sheet at December 31, 2009 include unused collateralized and
uncollateralized lines of credit from other banks, the Federal Home Loan Bank,
and from the Federal Reserve Bank totaling $165.0 million.
Cash and
cash equivalents have fluctuated during the three years ended December 31, 2009,
2008, and 2007, with period-end balances as follows (from Consolidated Statements of Cash
Flows – in 000’s):
|
Balance
|
||||
|
December
31, 2009
|
$ | 29,229 | ||
|
December
31, 2008
|
$ | 19,426 | ||
|
December
31, 2007
|
$ | 25,300 | ||
|
December
31, 2006
|
$ | 43,068 | ||
Cash and
cash equivalents increased $9.8 million during the year ended December 31, 2009,
as compared to a decrease of $5.9 million and $17.8 million during the years
ended December 31, 2008 and 2007, respectively.
The
Company has maintained positive cash flows from operations over the past three
years, which amounted to $13.3 million, $12.6 million, and $19.0 million for the
years ended December 31, 2009, 2008, and 2007, respectively.
The
Company experienced net cash inflows from investing activities totaling $58.3
million during the year ended December 31, 2009, as the Company experienced
maturities of investment securities and interest-bearing deposits with other
banks, as well as net decreases in loans. The Company experienced net
cash outflows from investing activities totaling $9.4 million during the year
ended December 31, 2008, as purchases of investment securities interest-bearing
deposits in other banks exceeded net loan payoffs and maturities of investment
securities during the period. The Company experienced net cash outflows from
investing activities totaling $30.5 million during the year ended December 31,
2007 as loan growth has exceeded net maturities of investment securities as well
as other investment instruments during the year.
Net cash
flows from financing activities, including deposit growth and borrowings, have
traditionally provided funding sources for loan growth, but during 2009, 2008,
and 2007 the Company experienced net cash outflows totaling $61.8 million, $9.1
million, and $6.3 million, respectively. The cash outflows experienced during
2009 were primarily the result of planned reductions in outstand borrowings
which exceeded increases in deposit accounts. During 2008 and 2007 declines in
net deposit accounts, as well as repurchases of the Company’s common stock,
exceeded growth in financing categories, including borrowings. The Company has
the ability to decrease loan growth, increase deposits and borrowings, or a
combination of both to manage balance sheet liquidity.
Liquidity
risk arises from the possibility the Company may not be able to satisfy current
or future financial commitments, or the Company may become unduly reliant on
alternative funding sources. The Company maintains a liquidity risk management
policy to address and manage this risk. The policy identifies the primary
sources of liquidity, sets wholesale funding limits, establishes procedures for
monitoring and measuring liquidity, and establishes minimum liquidity
requirements, which comply with regulatory guidance. The liquidity position is
continually monitored and reported on a monthly basis to the Board of
Directors.
63
The
policy also includes a contingency funding plan to address liquidity needs in
the event of an institution-specific or a systemic financial market crisis. In
addition to unused lines of credit from other banks totaling $125.0 million, the
contingency plan includes identified funding sources, and steps that may be
taken in the event the total liquidity ratio falls or is projected to fall below
policy limits for any extended period of time. One of the primary directives of
the contingency funding plan is to limit the Company’s overall level of
wholesale funding to no more than 40% of deposits. The current funding program
uses both asset-based and liability-based principles, and identifies core
deposits as the favored funding source when attainable at a reasonable cost. The
policy identifies a number of funding sources or methods the Bank ALCO committee
may utilize to fulfill the Company’s liquidity funding
requirements:
|
|
1)
|
Local
core deposits are the Company’s primary funding source. The Company must
expand its efforts to attract these deposits through service-related and
competitive pricing tactics. Other liquidity funding sources should only
be consider of local core deposits are not attractive because of maturity
or pricing.
|
|
|
2)
|
Unsecured
Federal Funds lines with correspondent banks may be used to fund
short-term peaks in loan demand or deposit run-off. Currently, unsecured
borrowing lines with correspondents are limited and may not be reliable
for long periods of time or in times of economic
stress.
|
|
|
3)
|
Other
funding sources such as secured credit lines with the Federal Home Loan
Bank or the Federal Reserve may be used for longer periods. The Company
collateralizes these available lines with a combination of investment
securities and pledged loans. The Company has utilized specific loan
pledging with both the FHLB and the Federal Reserve to better ensure the
continued availability of those lines of
credit.
|
|
|
4)
|
The
Company presently has a Discount Window facility available from the
Federal Reserve Bank of San Francisco collateralized with loans as
discussed above. At December 31, 2009 the Company had available credit of
$120.7 million from the Federal Reserve based upon the loans pledged at
that date. The Federal Reserve will monitor use of the Discount Window
closely given the current status of the Company and the economy as a whole
and. In addition, this credit facility may not be competitively priced
under normal economic conditions. As such, the Company does not expect to
use this facility except in times of crises, but does consider this to be
a key contingency funding source.
|
|
|
5)
|
As
long as the Bank remains “Well Capitalized” the Company may rely on
brokered deposits when core deposit rates are higher in the marketplace or
maturity structures are not desirable. The Company’s current policy limit
for brokered deposits is 25% of total deposits. The Company may also
utilize other wholesale deposit sources such as memberships that advertise
the Bank’s time deposit rates to other subscribers, typically banks and
credit unions. The Company’s current policy limit on other wholesale
deposits is 10% of total deposits.
|
|
|
6)
|
The
Bank may sell whole loans or participations in loans to provide
additional liquidity. During economic downturns or other crises events,
these funding sources may be difficult to achieve in a short period of
time or at a reasonable price. As such, this strategy is better used as a
long-term asset/liability management tool to effectively balance assets
and liabilities to reduce liquidity
risk.
|
|
|
7)
|
The
Company currently has Bank Owned Life Insurance (BOLI) policies issued by
highly rated insurance companies which may be sold to increase
liquidity.
|
|
|
8)
|
The
Company owns certain real estate including its administration building and
several of its branches. These may be sold and vacated or leased back from
the purchaser after sale to provide additional liquidity if needed. The
sales process may require substantial time to complete, and may have an
adverse impact on earnings depending on market rates and other factors at
the time of sale.
|
|
|
9)
|
Investments
near maturity may be sold to meet temporary funding needs but may need to
be replaced to maintain liquidity ratios within acceptable limits. At the
current time much of the investment portfolio is pledged to secure public
deposits and borrowing lines. As wholesale funding dependence is reduced,
the available liquidity in the investment portfolio will increase. The
Company seeks to maintain an investment-grade securities portfolio to
ensure quality collateral for pledging against borrowing lines of credit
as well as to provide liquidity in times of
needs.
|
64
The
Company continues to utilize liability management, when needed, as part of its
overall asset/liability management strategy. Through the discretionary
acquisition of short term borrowings, the Company has been able to provide
liquidity to fund asset growth while, at the same time, better utilizing its
capital resources, and better controlling interest rate risk. The
borrowings are generally short-term and more closely match the repricing
characteristics of floating rate loans, which comprise approximately 60.7% of
the Company’s loan portfolio at December 31, 2009. This does not preclude the
Company from selling assets such as investment securities to fund liquidity
needs but, with favorable borrowing rates, the Company has maintained a positive
yield spread between borrowed liabilities and the assets which those liabilities
fund. If, at some time, rate spreads become unfavorable, the Company has the
ability to utilize an asset management approach and, either control asset growth
or, fund further growth with maturities or sales of investment
securities.
The
Company's liquid asset base which generally consists of cash and due from banks,
federal funds sold, securities purchased under agreements to resell (“reverse
repos”) and investment securities, is maintained at a level deemed sufficient to
provide the cash outlay necessary to fund loan growth as well as any customer
deposit runoff that may occur. Within this framework is the objective of
maximizing the yield on earning assets. This is generally achieved by
maintaining a high percentage of earning assets in loans, which historically
have represented the Company's highest yielding asset. At December 31, 2009, the
Bank had 71.1% of total assets in the loan portfolio and a loan-to-deposit ratio
of 90.4%. Liquid assets at December 31, 2009 include cash and cash equivalents
totaling $29.2 million as compared to $19.4 million at December 31,
2008.
Liabilities
used to fund liquidity sources include core and non-core deposits as well as
short-term borrowings. Core deposits, which comprise approximately 66.7% of
total deposits at December 31, 2009, provide a significant and stable funding
source for the Company. At December 31, 2009, unused lines of credit
with the Federal Home Loan Bank and the Federal Reserve Bank totaling $125.0
million are collateralized in part by certain qualifying loans in the Company’s
loan portfolio. The carrying value of loans pledged on these used and unused
borrowing lines totaled $270.9 million at December 31, 2009. For further
discussion of the Company’s borrowing lines, see “Short Term Borrowings”
included in previously in the financial condition section of this financial
review. The Federal
Reserve Board has notified the Bank that it will permit the Bank to draw on its
line of credit with the Federal Reserve Bank only in limited circumstances and
for a short duration.
The
liquidity of the parent company, United Security Bancshares, is primarily
dependent on the payment of cash dividends by its subsidiary, United Security
Bank, subject to limitations imposed by the Financial Code of the State of
California. The Bank currently has limited ability to pay dividends or make
capital distributions (see Regulatory Agreement section included in Regulatory
Matters of this Management’s Discussion.) The limited ability of the Bank to pay
dividends may impact the ability of the Company to fund its ongoing liquidity
requirements including ongoing operating expenses, as well as quarterly interest
payments on the Company’s junior subordinated debt (Trust Preferred Securities.)
Under an agreement with the Federal Reserve dated March 23, 2010, the Bank is
precluded from paying a cash dividend to the Company. To conserve cash and
capital resources, the Company elected at September 30, 2009 to defer the
payment of interest on its junior subordinated debt beginning with the quarterly
payment due October 1, 2009. The Company has not determined how long it will
defer interest payments, but under the terms of the debenture, interest payments
may be deferred up to five years (20 quarters). During such deferral
periods, the Company is prohibited from paying dividends on its common stock
(subject to certain exceptions) and will continue to accrue interest payable on
the junior subordinated debt. During the year ended December 31,
2009, cash dividends paid by the Bank to the parent company totaled
$200,000.
Contractual Obligations,
Commitments, Contingent Liabilities, and Off-Balance Sheet
Arrangements
The
following table presents, as of December 31, 2009, the Company's significant
fixed and determinable contractual obligations by payment date. The payment
amounts represent those amounts contractually due to the recipient and do not
include any unamortized premiums or discounts, or other similar carrying value
adjustments. Further discussion of the nature of each obligation is included in
the referenced note to the consolidated financial statements.
|
Payments
Due In
|
||||||||||||||||||||||||
|
(In
thousands)
|
Note
Reference
|
One
Year
Or
Less
|
One
to
Three
Years
|
Three
to
Five
Years
|
Over
Five
Years
|
Total
|
||||||||||||||||||
|
Deposits
without a stated maturity
|
6 | $ | 332,665 | $ | ---- | $ | ---- | $ | ---- | $ | 332,665 | |||||||||||||
|
Time
Deposits
|
6 | 218,694 | 9,386 | 904 | 11 | 228,995 | ||||||||||||||||||
|
FHLB
Borrowings
|
7 | 40,000 | 40,000 | |||||||||||||||||||||
|
Junior
Subordinated Debt (at FV)
|
8 | 10,716 | 10,716 | |||||||||||||||||||||
|
Operating
Leases
|
12 | 713 | 781 | 743 | 661 | 2,898 | ||||||||||||||||||
|
Contingent
tax liabilities
|
9 | 1,560 | 1,560 | |||||||||||||||||||||
65
A
schedule of significant commitments at December 31, 2009 follows:
|
(In
thousands)
|
||||
|
Commitments
to extend credit:
|
||||
|
Commercial
and industrial
|
$ | 45,865 | ||
|
Real
estate – mortgage
|
4,502 | |||
|
Real
estate – construction
|
19,691 | |||
|
Agricultural
|
10,319 | |||
|
Installment
|
3,377 | |||
|
Revolving
home equity and credit card lines
|
263 | |||
|
Standby
letters of credit
|
3,975 | |||
Further
discussion of these commitments is included in Notes 3 and 12 to the
consolidated financial statements.
Regulatory
Matters
Regulatory
Agreement
Effective
March 23, 2010, United Security Bancshares (the "Company") and its wholly owned
subsidiary, United Security Bank (the "Bank"), entered into a written agreement
with the Federal Reserve Bank of San Francisco. Under the terms of the
agreement, the Company and the Bank agreed, among other things, to strengthen
board oversight of management and the Bank's operations; submit an enhanced
written plan to strengthen credit risk management practices and improve the
Bank’s position on the past due loans, classified loans, and other real estate
owned; maintain a sound process for determining, documenting, and recording an
adequate allowance for loan and lease losses; improve the management of the
Bank's liquidity position and funds management policies; maintain sufficient
capital at the Company and Bank level; and improve the Bank’s earnings and
overall condition. The Company and Bank have also agreed not to increase or
guarantee any debt, purchase or redeem any shares of stock, declare or pay any
cash dividends, or pay interest on the Company's junior subordinated debt or
trust preferred securities, without prior written approval from the Federal
Reserve Bank.
This
agreement was a result of a regulatory examination that was conducted by the
Federal Reserve and the California Department of Financial Institutions in
June 2009, and relates primarily to the Bank’s asset quality. Progress on
these items has been made since the completion of the examination and management
and the Board are committed to resolving all of the items addressed by the
Federal Reserve in the agreement. Both the Company and the Bank will submit
quarterly written progress reports to the Federal Reserve Bank.
The
Company and the Bank have also received notification from the California
Department of Financial Institutions of their intention to issue a regulatory
order as a result of the June 2009 regulatory examination. The Company and the
Bank have not yet entered into an agreement with the California Department of
Financial Institutions, but believe that any agreement entered into, will be
similar to the current agreement with the Federal Reserve Bank of San
Francisco.
Capital Adequacy
Capital
adequacy for bank holding companies and their subsidiary banks has become
increasingly important in recent years. Continued deregulation of the banking
industry since the 1980's has resulted in, among other things, a broadening of
business activities allowed beyond that of traditional banking products and
services. Because of this volatility within the banking and financial services
industry, regulatory agencies have increased their focus upon ensuring that
banking institutions meet certain capital requirements as a means of protecting
depositors and investors against such volatility.
During
July 2007, the Company redeemed its $15.0 million in Trust Preferred Securities
originally issued during 2001 under United Security Bancshares Capital Trust I.
During the same month, the Company issued $15.0 million in new Trust Preferred
Securities with similar terms under newly formed United Security Bancshares
Capital Trust II. Under applicable regulatory guidelines, the Trust Preferred
Securities qualify as Tier 1 capital up to a maximum of 25% of Tier 1 capital.
Any additional portion will qualify as Tier 2 capital. As shareholders’ equity
increases, the amount of Tier 1 capital that can be comprised of Trust Preferred
Securities will increase.
66
The Board
of Governors of the Federal Reserve System (“Board of Governors”) has adopted
regulations requiring insured institutions to maintain a minimum leverage ratio
of Tier 1 capital (the sum of common stockholders' equity, noncumulative
perpetual preferred stock and minority interests in consolidated subsidiaries,
minus intangible assets, identified losses and investments in certain
subsidiaries, plus unrealized losses or minus unrealized gains on available for
sale securities) to total assets. Institutions which have received the highest
composite regulatory rating and which are not experiencing or anticipating
significant growth are required to maintain a minimum leverage capital ratio of
3% Tier 1 capital to total assets. To be considered well capitalized, the
institution must maintain a leverage capital ratio of 5%. All other institutions
are required to maintain a minimum leverage capital ratio of at least 100 to 200
basis points above the minimum requirements.
The Board
of Governors has also adopted a statement of policy, supplementing its leverage
capital ratio requirements, which provides definitions of qualifying total
capital (consisting of Tier 1 capital and Tier 2 supplementary capital,
including the allowance for loan losses up to a maximum of 1.25% of
risk-weighted assets) and sets forth minimum risk-based capital ratios of
capital to risk-weighted assets. The most highly rated insured institutions are
required to maintain a minimum ratio of qualifying total capital to risk
weighted assets of 8%, at least one-half (4%) of which must be in the form of
Tier 1 capital. To be considered well capitalized, institutions must maintain a
ratio of qualifying total capital to risk weighted assets of 10%, at least
one-half (6%) of which must be in the form of Tier 1 capital.
The Bank
has agreed with the California Department of Financial Institutions, to maintain
Tier I capital and leverage ratios that are at or in excess of 9.00%. In
addition, the Bank has agreed to maintain total risk-based capital ratios at or
in excess of 10.00% (at or above “Well Capitalized” levels as defined.) The
Company is not subject to “Well Capitalized” guidelines under regulatory Prompt
Corrective Action Provisions.
The
following table sets forth the Company’s and the Bank's actual capital positions
at December 31, 2009 and the regulatory minimums for the Company and the Bank to
be well capitalized under the guidelines discussed above:
|
Company
Actual Capital
Ratios
|
Bank
Actual Capital
Ratios
|
Minimum Capital
Ratios
|
Regulatory
Minimums
- Well
Capitalized
|
|||||||||||||
|
Total
risk-based capital ratio
|
14.30 | % | 13.70 | % | 10.00 | % | 10.00 | % | ||||||||
|
Tier
1 capital to risk-weighted assets
|
13.03 | % | 12.47 | % | 9.00 | % | 6.00 | % | ||||||||
|
Leverage
ratio
|
11.68 | % | 11.19 | % | 9.00 | % | 5.00 | % | ||||||||
As is
indicated by the above table, the Company and the Bank exceeded all applicable
regulatory capital guidelines at December 31, 2009. Management believes that,
under the current regulations, both will continue to meet their minimum capital
requirements in the foreseeable future.
Dividends
Dividends
paid to shareholders by the Company are subject to restrictions set forth in the
California General Corporation Law. The California General Corporation Law
provides that a corporation may make a distribution to its shareholders if
retained earnings immediately prior to the dividend payout are at least equal
the amount of the proposed distribution. The primary source of funds
with which dividends will be paid to shareholders will come from cash dividends
received by the Company from the Bank. As noted earlier, the
Company and the Bank have entered into an agreement with the Federal Reserve
Bank that, among other things, require us to obtain the prior approval before
paying a cash dividend or otherwise making a distribution on our stock. In
addition, the Company has elected to defer regularly scheduled quarterly
interest payments on its junior subordinated debentures issued in connection
with its trust preferred securities. The Company is prohibited from paying any
dividends or making any other distribution on its common stock for so long as
interest payments are being deferred. During the year ended December 31,
2009, the Company received $200,000 in cash dividends from the Bank. During the
same period, the Company paid $6,000 in cash dividends to shareholders
representing cash-in-lieu amounts paid in connection quarterly stock
dividends.
The Bank
as a state-chartered bank is subject to dividend restrictions set forth in
California state banking law, and administered by the California Commissioner of
Financial Institutions (“Commissioner”). Under such restrictions, the Bank may
not pay cash dividends in an amount which exceeds the lesser of the retained
earnings of the Bank or the Bank’s net income for the last three fiscal years
(less the amount of distributions to shareholders during that period of time).
If the above test is not met, cash dividends may only be paid with the prior
approval of the Commissioner, in an amount not exceeding the Bank’s net income
for its last fiscal year or the amount of its net income for the current fiscal
year. Such restrictions do not apply to stock dividends, which generally require
neither the satisfaction
67
of any
tests nor the approval of the Commissioner. Notwithstanding the foregoing, if
the Commissioner finds that the shareholders’ equity is not adequate or that the
declarations of a dividend would be unsafe or unsound, the Commissioner may
order the state bank not to pay any dividend. The FRB may also limit dividends
paid by the Bank. As noted above, the terms of the regulatory agreement with the
Federal Reserve prohibit both the Company and the Bank from paying dividends
without prior approval of the Federal Reserve.
Stock
Repurchase Plan (all figures have been restated t reflect effect of 2-for-1
stock split during May 2006)
|
For
the Quarters Ended
|
||||||||||||||||||||
|
March
31,
|
June
30,
|
September
30,
|
December
31,
|
YTD
|
||||||||||||||||
|
Shares
repurchased – 2009
|
488 | 0 | 0 | 0 | 488 | |||||||||||||||
|
Average
price paid – 2009
|
$ | 7.50 | $ | -- | $ | -- | $ | -- | $ | 7.50 | ||||||||||
|
Shares
repurchased – 2008
|
29,626 | 34,574 | 1,886 | 22,915 | 89,001 | |||||||||||||||
|
Average
price paid – 2008
|
$ | 15.26 | $ | 15.20 | $ | 15.09 | $ | 9.31 | $ | 13.70 | ||||||||||
|
Shares
repurchased – 2007
|
117,403 | 306,758 | 28,916 | 59,255 | 512,332 | |||||||||||||||
|
Average
price paid – 2007
|
$ | 21.48 | $ | 19.89 | $ | 18.32 | $ | 18.32 | $ | 19.71 | ||||||||||
|
Shares
repurchased – 2006
|
84 | 13,121 | 84,215 | 10,585 | 108,005 | |||||||||||||||
|
Average
price paid – 2006
|
$ | 16.57 | $ | 23.13 | $ | 22.21 | $ | 24.58 | $ | 22.55 | ||||||||||
|
Shares
repurchased – 2005
|
7,152 | 4,936 | 0 | 14,074 | 26,162 | |||||||||||||||
|
Average
price paid – 2005
|
$ | 12.28 | $ | 12.78 | $ | -- | $ | 16.16 | $ | 14.46 | ||||||||||
On
February 25, 2004 the Company announced a second stock repurchase plan under
which the Board of Directors approved a plan to repurchase, as conditions
warrant, up to 276,500 shares (553,000 shares adjusted for May 2006 stock split)
of the Company's common stock on the open market or in privately negotiated
transactions. As with the first stock repurchase plan initiated during 2001, the
duration of the new program was open-ended and the timing of purchases will
depend on market conditions. Concurrent with the approval of the new repurchase
plan, the Board terminated the 2001 repurchase plan and canceled the remaining
64,577 shares (129,154 shares adjusted for May 2006 stock split) yet to be
purchased under the earlier plan.
On May
16, 2007, the Company announced another stock repurchase plan to repurchase, as
conditions warrant, up to 610,000 shares of the Company's common stock on the
open market or in privately negotiated transactions. The repurchase plan
represents approximately 5.00% of the Company's currently outstanding common
stock. The duration of the program is open-ended and the timing of purchases
will depend on market conditions. Concurrent with the approval of the new
repurchase plan, the Company canceled the remaining 75,733 shares available
under the 2004 repurchase plan.
During
the year ended December 31, 2007, 512,332 shares were repurchased at a total
cost of $10.1 million and an average per share price of $19.71. Of the shares
repurchased during 2007, 166,660 shares were repurchased under the 2004 plan at
an average cost of $20.46 per shares, and 345,672 shares were repurchased under
the 2007 plan at an average cost of $19.35 per share.
During
the year ended December 31, 2008, 89,001 shares were repurchased at a total cost
of $1.2 million and an average per share price of $13.70.
During
the year ended December 31, 2009, 448 shares were repurchased at a total cost of
$3,700 and an average per share price of $7.50.
Reserve
Balances
The Bank
is required to maintain average reserve balances with the Federal Reserve Bank.
During 2005, the Company implemented a deposit reclassification program, which
allows the Company to reclassify a portion of transaction accounts to
non-transaction accounts for reserve purposes. The deposit reclassification
program was provided by a third-party vendor, and has been approved by the
Federal Reserve Bank. At December 31, 2009 the Bank's qualifying
balance with the Federal Reserve was approximately $25,000.
68
Item
7A. Quantitative and Qualitative Disclosures about Market Risk
Interest
Rate Sensitivity and Market Risk
An
interest rate-sensitive asset or liability is one that, within a defined time
period, either matures or is subject to interest rate adjustments as market
rates of interest change. Interest rate sensitivity is the measure of the
volatility of earnings from movements in market rates of interest, which is
generally reflected in interest rate spread. As interest rates change in the
market place, yields earned on assets do not necessarily move in tandem with
interest rates paid on liabilities. Interest rate sensitivity is related to
liquidity in that each is affected by maturing assets and sources of funds.
Interest rate sensitivity is also affected by assets and liabilities with
interest rates that are subject to change prior to maturity.
The
object of interest rate sensitivity management is to minimize the impact on
earnings from interest rate changes in the marketplace. In recent years,
deregulation, causing liabilities to become more interest rate sensitive,
combined with interest rate volatility in the capital markets, has placed
additional emphasis on this principal. When management decides to maintain
repricing imbalances, it usually does so on the basis of a well- conceived
strategy designed to ensure that the risk is not excessive and that liquidity is
properly maintained. The Company's interest rate risk management is the
responsibility of the Asset/Liability Management Committee (ALCO), which reports
to the Board of Directors on a periodic basis, pursuant to established operating
policies and procedures.
As part
of its overall risk management, the Company pursues various asset and liability
management strategies, which may include obtaining derivative financial
instruments to mitigate the impact of interest fluctuations on the Company’s net
interest margin. During the second quarter of 2003, the Company entered into a
five-year amortizing interest rate swap agreement with the purpose of minimizing
interest rate fluctuations on its interest rate margin and equity. The interest
rate swap agreement matured on September 30, 2008.
Interest
rate risk can be measured through various methods including gap, duration and
market value analysis as well as income simulation models, which provides a
dynamic view of interest rate sensitivity based on the assumptions of the
Company’s Management. The Company employs each of these methods and refines
these processes to make the most accurate measurements possible. The information
provided by these calculations is the basis for management decisions in managing
interest rate risk.
From the
“Gap” report below, the Company is apparently subject to interest rate risk to
the extent that its assets have the potential to reprice more quickly than its
liabilities within the next year. At December 31, 2009, the Company
had a cumulative 12-month Gap of $11.1 million or 2.0% of total earning
assets. Management believes the Gap analysis shown below is not
entirely indicative of the Company’s actual interest rate sensitivity, because
certain interest-sensitive assets and liabilities would not reprice to the same
degree as the change in underlying market rates. Approximately $221.2 million of
the floating rate loans included in the $255.9 million immediately adjustable
category have rate floors and would only change to some degree if any, depending
on the magnitude of changes in market rates. Of the $221.2 million in floating
rate loans with rate floors, approximately $209.4 million have floors more than
100 basis points above the current loan index rate, and thus rates on those
loans would not change for the first 100 basis point increase in market rates.
Interest bearing checking and savings accounts which are also included in the
immediately adjustable column probably would move only a portion of the total
change in market rates and, in fact, might not even move at all. The effects of
market value risk have been mitigated to some degree by the makeup of the Bank's
balance sheet. Loans are generally short-term or are floating-rate instruments.
At December 31, 2009, $432.0 million or 91.2% of the loan portfolio matures or
reprices within one year, and less than 1.0% of the portfolio matures or
reprices in more than 5 years.
Total
investment securities including call options and prepayment assumptions, have a
combined duration of approximately 2.5 years. More than $463.6 million or 98.1%
of interest-bearing liabilities mature or can be repriced within the next 12
months, even though the rate elasticity of deposits with no defined maturities
may not necessarily be the same as interest-earning assets.
69
The
following table sets forth the Company's gap, or estimated interest rate
sensitivity profile based on ending balances as of December 31, 2009,
representing the interval of time before earning assets and interest-bearing
liabilities may respond to changes in market rates of interest. Assets and
liabilities are categorized by remaining interest rate maturities rather than by
principal maturities of obligations.
Maturities and Interest Rate
Sensitivity
|
December
31, 2009
|
||||||||||||||||||||||||
|
(In
thousands)
|
Immediately
|
Next Day But Within Three Months
|
After Three Months Within 12 Months
|
After One Year But Within Five Years
|
After Five Years
|
Total
|
||||||||||||||||||
|
Interest
Rate Sensitivity Gap:
|
||||||||||||||||||||||||
|
Loans
(1)
|
$ | 255,903 | $ | 102,998 | $ | 73,069 | $ | 40,602 | $ | 1,244 | $ | 473,816 | ||||||||||||
|
Investment
securities
|
8,572 | 19,990 | 32,939 | 9,910 | 71,411 | |||||||||||||||||||
|
Interest
bearing deposits in other banks
|
1,953 | 647 | 713 | 0 | 3,313 | |||||||||||||||||||
|
Federal
funds sold and reverse repos
|
11,585 | 11,585 | ||||||||||||||||||||||
|
Total
earning assets
|
$ | 267,488 | $ | 113,523 | $ | 93,706 | $ | 74,254 | $ | 11,154 | $ | 560,125 | ||||||||||||
|
Interest-bearing
|
||||||||||||||||||||||||
|
transaction
accounts
|
158,795 | 158,795 | ||||||||||||||||||||||
|
Savings
accounts
|
34,146 | 34,146 | ||||||||||||||||||||||
|
Time
deposits (2)
|
3,547 | 100,081 | 116,297 | 9,059 | 11 | 228,995 | ||||||||||||||||||
|
Federal
funds purchased/other borrowings
|
0 | 40,000 | 40,000 | |||||||||||||||||||||
|
Junior
subordinated debt
|
10,716 | 10,716 | ||||||||||||||||||||||
|
Total
interest-bearing liabilities
|
$ | 196,488 | $ | 150,797 | $ | 116,297 | 9,059 | $ | 11 | $ | 472,652 | |||||||||||||
|
Interest
rate sensitivity gap
|
$ | 71,000 | $ | (37,274 | ) | $ | (22,591 | ) | $ | 65,195 | $ | 11,143 | $ | 87,473 | ||||||||||
|
Cumulative
gap
|
$ | 71,000 | $ | 33,726 | $ | 11,136 | $ | 76,330 | $ | 87,473 | ||||||||||||||
|
Cumulative
gap percentage to
|
||||||||||||||||||||||||
|
Total
earning assets
|
12.7 | % | 6.0 | % | 2.0 | % | 13.6 | % | 15.6 | % | ||||||||||||||
|
(1)
|
Loan
balance does not include nonaccrual loans of $34.757
million.
|
|
(2)
|
See
above for discussion of the impact of floating rate
CD’s.
|
The
Company utilizes a vendor-purchased simulation model to analyze net interest
income sensitivity to movements in interest rates. The simulation model projects
net interest income based on a 100, 200, and 300 basis point rise and a 100,
200, and 300 basis point fall in interest rates ramped over a twelve-month
period, with net interest impacts projected out as far as twenty-four months. In
addition, a “most likely” scenario is projected based upon expected rate changes
over the 24-month period. The model is based on the actual maturity and
repricing characteristics of the Company's interest-sensitive assets and
liabilities. The model incorporates assumptions regarding the impact of changing
interest rates on the prepayment of certain assets and liabilities. Projected
net interest income is calculated assuming customers will reinvest maturing
deposit accounts and the Company will originate new loans. The balance sheet
growth assumptions utilized correspond closely to the Company's strategic growth
plans and annual budget. Excess cash is invested in overnight funds or other
short-term investments such as U.S. Treasuries. Cash shortfalls are covered
through additional borrowing of overnight or short-term funds. The Board of
Directors has adopted an interest rate risk policy which establishes maximum
decreases in net interest income of 12% and 15% in the event of a 100 BP and 200
BP increase or decrease in market interest rates over a twelve month period.
Based on the information and assumptions utilized in the simulation model at
December 31, 2009 the resultant projected impact on net interest income falls
within policy limits set by the Board of Directors for all rate scenarios
simulated.
The
Company also utilizes the same vendor-purchased simulation model to project the
impact of changes in interest rates on the underlying market value of all the
Company's assets, liabilities, and off-balance sheet accounts under alternative
interest rate scenarios. The resultant net value, as impacted under each
projected interest rate scenario, is referred to as the market value of equity
("MV of Equity"). This technique captures the interest rate risk of the
Company's business mix across all maturities. The market analysis is performed
using an immediate rate shock of 100, 200, and 300 basis points up and down
calculating the present value of expected cash flows under each rate environment
at applicable discount rates. The market value of loans is calculated by
discounting the expected future cash flows over either the term to maturity for
fixed rate loans or scheduled repricing for floating rate loans using the
current rate at which similar loans would be made to borrowers with similar
credit ratings. The market value of investment securities is based on quoted
market prices obtained from reliable independent brokers. The market value of
time deposits is calculated by discounting the expected cash flows using current
rates for similar instruments of comparable maturities. The market value of
deposits with no defined maturities, including interest-bearing checking, money
market and savings accounts is calculated by discounting the expected cash flows
at a rate equal to the difference between the cost of these deposits and the
alternate use of the funds, federal funds in this case. Assumed maturities for
these deposits are estimated using decay analysis and are generally assumed to
have implied maturities of less than five years. For noninterest
sensitive assets and liabilities, the market value is equal to their carrying
value amounts at the reporting date. The Company's interest rate risk policy
establishes maximum decreases in the Company's market value of equity of 12% and
15% in the event of an immediate and sustained 100 BP and 200 BP increase or
decrease in market interest rates. As shown in the table below, the percentage
changes in the net market value of the Company's equity are within policy limits
for both rising and falling rate scenarios.
70
The
following sets forth the analysis of the Company's market value risk inherent in
its interest-sensitive financial instruments as they relate to the entire
balance sheet at December 31, 2009 and December 31, 2008 ($ in thousands). Fair
value estimates are subjective in nature and involve uncertainties and
significant judgment and, therefore, cannot be determined with absolute
precision. Assumptions have been made as to the appropriate discount rates,
prepayment speeds, expected cash flows and other variables. Changes in these
assumptions significantly affect the estimates and as such, the obtained fair
value may not be indicative of the value negotiated in the actual sale or
liquidation of such financial instruments, nor comparable to that reported by
other financial institutions. In addition, fair value estimates are based on
existing financial instruments without attempting to estimate future
business.
|
December
31, 2009
|
December
31, 2008
|
|||||||||||||||||||||||
|
Change in Rates
|
Estimated MV of Equity
|
Change in MV Of Equity $
|
Change in MV Of Equity %
|
Estimated MV of Equity
|
Change in MV of Equity $
|
Change in MV Of Equity %
|
||||||||||||||||||
|
+
200 BP
|
$ | 70,265 | $ | 5,918 | 9.18 | % | $ | 78,206 | $ | 2,935 | 3.90 | % | ||||||||||||
|
+
100 BP
|
69,482 | 5,127 | 7.97 | % | 77,483 | 2,212 | 2.94 | % | ||||||||||||||||
|
0
BP
|
64,355 | 0 | 0.00 | % | 75,270 | 0 | 0.00 | % | ||||||||||||||||
|
-
100 BP
|
64,912 | 557 | 0.87 | % | 76,528 | 1,258 | 1.67 | % | ||||||||||||||||
|
-
200 BP
|
66,195 | 1,840 | 2.86 | % | 78,732 | 3,462 | 4.60 | % | ||||||||||||||||
71
Item
8 - Financial Statements and Supplementary Data
|
Index to Consolidated Financial
Statements:
|
||
|
Reports
of Independent Registered Public Accounting Firm
|
73
|
|
|
Consolidated
Balance Sheets - December 31, 2009 and 2008
|
74
|
|
|
Consolidated
Statements of operations and Comprehensive (loss) income - Years Ended
December 31, 2009, 2008 and 2007
|
75
|
|
|
Consolidated
Statements of Shareholders' Equity - Years Ended December 31, 2009, 2008
and 2007
|
76
|
|
|
Consolidated
Statements of Cash Flows - Years Ended December 31, 2009, 2008 and
2007
|
77
|
|
|
Notes
to Consolidated Financial Statements
|
78
|
72
Report
of Independent Registered Public Accounting Firm
To the
Board of Directors
United
Security Bancshares
We have
audited the accompanying consolidated balance sheets of United Security
Bancshares and Subsidiaries (Company) as of December 31, 2009 and 2008, and the
related consolidated statements of operations and comprehensive
(loss) income, shareholders' equity and cash flows for each of the three
years in the period ended December 31, 2009. These consolidated financial
statements are the responsibility of Company’s management. Our responsibility is
to express an opinion on these financial statements based on our
audits.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require
that we plan and perform the audits to obtain reasonable assurance about whether
the financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the consolidated financial position of United Security
Bancshares and Subsidiaries as of December 31, 2009 and 2008, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended December 31, 2009, in conformity with U.S.
generally accepted accounting principles in the United States of
America.
/s/ Moss
Adams LLP
Stockton, California
March 31,
2010
73
United
Security Bancshares and Subsidiaries
Consolidated
Balance Sheets
December
31, 2009 and 2008
|
December
31,
|
||||||||
|
2009
|
2008
|
|||||||
|
(in
thousands except shares)
|
||||||||
|
Assets
|
||||||||
|
Cash
and due from banks
|
$ | 17,644 | $ | 19,426 | ||||
|
Federal
funds sold
|
11,585 | 0 | ||||||
|
Cash
and cash equivalents
|
29,229 | 19,426 | ||||||
|
Interest-bearing
deposits in other banks
|
3,313 | 20,431 | ||||||
|
Investment
securities available for sale (at fair value)
|
71,411 | 92,749 | ||||||
|
Loans
and leases
|
508,573 | 544,551 | ||||||
|
Unearned
fees
|
(865 | ) | (1,234 | ) | ||||
|
Allowance
for credit losses
|
(15,016 | ) | (11,529 | ) | ||||
|
Net
loans
|
492,692 | 531,788 | ||||||
|
Accrued
interest receivable
|
2,497 | 2,394 | ||||||
|
Premises
and equipment - net
|
13,296 | 14,285 | ||||||
|
Other
real estate owned
|
36,217 | 30,153 | ||||||
|
Intangible
assets
|
2,034 | 3,001 | ||||||
|
Goodwill
|
7,391 | 10,417 | ||||||
|
Cash
surrender value of life insurance
|
14,972 | 14,460 | ||||||
|
Investment
in limited partnerships
|
2,274 | 2,702 | ||||||
|
Deferred
income taxes
|
7,534 | 7,138 | ||||||
|
Other
assets
|
9,708 | 12,133 | ||||||
|
Total
assets
|
$ | 692,568 | $ | 761,077 | ||||
|
Liabilities
& Shareholders' Equity
|
||||||||
|
Liabilities
|
||||||||
|
Deposits
|
||||||||
|
Noninterest
bearing
|
$ | 139,724 | $ | 149,529 | ||||
|
Interest
bearing
|
421,936 | 358,957 | ||||||
|
Total
deposits
|
561,660 | 508,486 | ||||||
|
Federal
funds purchased
|
0 | 66,545 | ||||||
|
Other
borrowings
|
40,000 | 88,500 | ||||||
|
Accrued
interest payable
|
376 | 648 | ||||||
|
Accounts
payable and other liabilities
|
3,995 | 5,362 | ||||||
|
Junior
subordinated debt (at fair value)
|
10,716 | 11,926 | ||||||
|
Total
liabilities
|
616,747 | 681,467 | ||||||
|
Commitments
and Contingencies
|
||||||||
|
Shareholders'
Equity
|
||||||||
|
Common
stock, no par value
|
||||||||
|
20,000,000
shares authorized, 12,496,499 and 12,010,372
|
||||||||
|
issued and outstanding, in 2009 and 2008,
respectively
|
37,575 | 34,811 | ||||||
|
Retained
earnings
|
40,499 | 47,722 | ||||||
|
Accumulated
other comprehensive loss
|
(2,253 | ) | (2,923 | ) | ||||
|
Total
shareholders' equity
|
75,821 | 79,610 | ||||||
|
Total
liabilities and shareholders' equity
|
$ | 692,568 | $ | 761,077 | ||||
|
See
notes to consolidated financial statements
|
||||||||
74
United Security Bancshares and
Subsidiaries
Consolidated
Statements of Operations and Comprehensive (Loss) Income
Years
Ended December 31, 2009, 2008 and 2007
|
(in
thousands except shares and EPS)
|
2009
|
2008
|
2007
|
|||||||||
|
Interest
Income
|
||||||||||||
|
Loans,
including fees
|
$ | 31,197 | $ | 39,669 | $ | 52,690 | ||||||
|
Investment
securities - AFS – taxable
|
4,298 | 5,170 | 3,896 | |||||||||
|
Investment
securities - AFS – nontaxable
|
58 | 68 | 108 | |||||||||
|
Federal
funds sold and securities purchased
|
||||||||||||
|
under
agreements to resell
|
3 | 18 | 191 | |||||||||
|
Interest
on deposits in other banks
|
117 | 222 | 271 | |||||||||
|
Total
interest income
|
35,673 | 45,147 | 57,156 | |||||||||
|
Interest
Expense
|
||||||||||||
|
Interest
on deposits
|
6,192 | 12,088 | 18,414 | |||||||||
|
Interest
on other borrowed funds
|
1,135 | 2,850 | 2,159 | |||||||||
|
Total
interest expense
|
7,327 | 14,938 | 20,573 | |||||||||
|
Net
Interest Income Before
|
||||||||||||
|
Provision
for Credit Losses
|
28,436 | 30,209 | 36,583 | |||||||||
|
Provision
for Credit Losses
|
13,375 | 9,526 | 6,231 | |||||||||
|
Net
Interest Income
|
14,971 | 20,683 | 30,352 | |||||||||
|
Noninterest
Income
|
||||||||||||
|
Customer
service fees
|
3,882 | 4,656 | 4,790 | |||||||||
|
(Loss)
gain on disposition of securities
|
(37 | ) | 24 | 0 | ||||||||
|
(Loss)
gain on sale of other real estate owned
|
(793 | ) | 67 | 209 | ||||||||
|
Gain
on sale of assets
|
863 | 0 | 0 | |||||||||
|
Gains
from life insurance
|
0 | 0 | 483 | |||||||||
|
Gain
on interest swap ineffectiveness
|
0 | 9 | 66 | |||||||||
|
Gain
on fair value option of financial liability
|
1,145 | 1,363 | 2,504 | |||||||||
|
Gain
(loss) on sale of premises and equipment
|
22 | (4 | ) | 2 | ||||||||
|
Shared
appreciation income
|
23 | 265 | 42 | |||||||||
|
Other
|
1,203 | 1,963 | 1,585 | |||||||||
|
Total
noninterest income
|
6,308 | 8,343 | 9,681 | |||||||||
|
Noninterest
Expense
|
||||||||||||
|
Salaries
and employee benefits
|
8,551 | 10,610 | 10,830 | |||||||||
|
Occupancy
expense
|
3,692 | 3,954 | 3,787 | |||||||||
|
Data
processing
|
102 | 279 | 420 | |||||||||
|
Professional
fees
|
2,201 1 | 1,482 1 | 1,811 1 | |||||||||
|
FDIC/DFI
insurance assessments
|
1,203 1 | 535 1 | 186 1 | |||||||||
|
Director
fees
|
253 | 262 | 268 | |||||||||
|
Amortization
of intangibles
|
885 | 972 | 1,021 | |||||||||
|
Correspondent
bank service charges
|
362 | 427 | 476 | |||||||||
|
Impairment
loss on other investments
|
0 | 23 | 34 | |||||||||
|
Impairment
loss on OREO
|
1,324 | 887 | 0 | |||||||||
|
Impairment
loss on intangible assets
|
81 | 648 | 0 | |||||||||
|
Impairment
loss on goodwill
|
3,026 | 0 | 0 | |||||||||
|
Impairment
loss on investment securities (cumulative
|
843 | 0 | 0 | |||||||||
|
total
other-than-temporary loss of $5.4 million
|
||||||||||||
|
net
of $4.6 million recognized in other
|
||||||||||||
|
comprehensive
loss, pre-tax)
|
||||||||||||
|
Loss
on lease assets held for sale
|
0 | 0 | 820 | |||||||||
|
Loss
in equity of limited partnership
|
428 | 432 | 430 | |||||||||
|
Expense
on other real estate owned
|
1,612 | 418 | 209 | |||||||||
|
Other
|
3,403 | 2,422 | 1,923 | |||||||||
|
Total
noninterest expense
|
27,966 | 23,351 | 22,215 | |||||||||
|
(Loss)
Income Before Provision for Taxes on Income
|
(6,687 | ) | 5,675 | 17,818 | ||||||||
|
(Benefit)
Provision for Taxes on Income
|
(2,150 | ) | 1,605 | 6,561 | ||||||||
|
Net
(Loss) Income
|
$ | (4,537 | ) | $ | 4,070 | $ | 11,257 | |||||
|
Other
comprehensive (loss) income, net of tax
|
||||||||||||
|
Unrealized
income (loss) on available for sale securities, interest
rate
|
||||||||||||
|
swaps,
and unrecognized post-retirement costs - net income
|
||||||||||||
|
tax
(benefit) expense of $441, $(1,845), and $758,
respectively
|
670 | (2,770 | ) | 1,137 | ||||||||
|
Comprehensive
(Loss) Income
|
$ | (3,867 | ) | $ | 1,300 | $ | 12,394 | |||||
|
Net
(Loss) Income per common share
|
||||||||||||
|
Basic
|
$ | (0.36 | ) | $ | 0.32 | $ | 0.89 | |||||
|
Diluted
|
$ | (0.36 | ) | $ | 0.32 | $ | 0.89 | |||||
|
Weighted
shares on which net (loss) income per common
|
||||||||||||
|
share
were based
|
||||||||||||
|
Basic
|
12,496,578 | 12,537,955 | 12,659,442 | |||||||||
|
Diluted
|
12,496,578 | 12,541,516 | 12,696,327 | |||||||||
|
See
notes to consolidated financial statements
|
||||||||||||
75
United Security
Bancshares and Subsidiaries
Consolidated
Statements of Changes in Shareholders' Equity
Years
Ended December 31, 2009
|
(in
thousands except shares)
|
Common
stock
Number of
Shares
|
Amount
|
Retained Earnings
|
Accumulated
Other
Comprehensive
Income
(Loss)
|
Total
|
|||||||||||||||
|
Balance
January 1, 2007
|
11,301,113 | $ | 20,448 | $ | 46,884 | $ | (1,290 | ) | $ | 66,042 | ||||||||||
|
Director/Employee
stock options exercised
|
90,000 | 510 | 510 | |||||||||||||||||
|
Net
changes in unrealized gain
|
||||||||||||||||||||
|
on
available for sale securities
|
||||||||||||||||||||
|
(net
of income tax expense of $605)
|
909 | 909 | ||||||||||||||||||
|
Net
changes in unrealized gain
|
||||||||||||||||||||
|
on
interest rate swaps
|
||||||||||||||||||||
|
(net
of income tax expense of $97)
|
145 | 145 | ||||||||||||||||||
|
Net
changes in unrecognized past service
|
||||||||||||||||||||
|
Costs
of employee benefit plans
|
||||||||||||||||||||
|
(net
of income tax expense of $55)
|
83 | 83 | ||||||||||||||||||
|
Dividends
on common stock ($0.50 per share)
|
(6,001 | ) | (6,001 | ) | ||||||||||||||||
|
Repurchase
and retirement of common shares
|
(512,332 | ) | (10,095 | ) | (10,095 | ) | ||||||||||||||
|
Issuance
of shares for business combination
|
976,411 | 21,537 | 21,537 | |||||||||||||||||
|
Stock-based
compensation expense
|
187 | 187 | ||||||||||||||||||
|
Cumulative
effect of adoption of SFAS No. 159
|
||||||||||||||||||||
|
(net
income tax benefit of $613)
|
(845 | ) | (845 | ) | ||||||||||||||||
|
Cumulative
effect of adoption of FIN48
|
(1,298 | ) | (1,298 | ) | ||||||||||||||||
|
Net
Income
|
11,257 | 11,257 | ||||||||||||||||||
|
Balance
December 31, 2007
|
11,855,192 | $ | 32,587 | $ | 49,997 | $ | (153 | ) | $ | 82,431 | ||||||||||
|
Director/Employee
stock options exercised
|
8,000 | 70 | 70 | |||||||||||||||||
|
Net
changes in unrealized gain
|
||||||||||||||||||||
|
on
available for sale securities
|
||||||||||||||||||||
|
(net
of income tax benefit of $1,910)
|
(2,865 | ) | (2,865 | ) | ||||||||||||||||
|
Net
changes in unrealized gain
|
||||||||||||||||||||
|
on
interest rate swaps
|
||||||||||||||||||||
|
(net
of income tax expense of $1)
|
2 | 2 | ||||||||||||||||||
|
Net
changes in unrecognized past service
|
||||||||||||||||||||
|
Costs
of employee benefit plans
|
||||||||||||||||||||
|
(net
of income tax expense of $62)
|
93 | 93 | ||||||||||||||||||
|
Dividends
on common stock ($0.26 per share)
|
(3,081 | ) | (3,081 | ) | ||||||||||||||||
|
Common
stock dividends
|
236,181 | 3,264 | (3,264 | ) | 0 | |||||||||||||||
|
Repurchase
and retirement of common shares
|
(89,001 | ) | (1,220 | ) | (1,220 | ) | ||||||||||||||
|
Stock-based
compensation expense
|
110 | 110 | ||||||||||||||||||
|
Net
Income
|
4,070 | 4,070 | ||||||||||||||||||
|
Balance
December 31, 2008
|
12,010,372 | $ | 34,811 | $ | 47,722 | $ | (2,923 | ) | $ | 79,610 | ||||||||||
|
Net
changes in unrealized gain
|
||||||||||||||||||||
|
on
available for sale securities
|
||||||||||||||||||||
|
(net
of income tax expense of $557)
|
835 | 835 | ||||||||||||||||||
|
Net
changes in unrecognized past service
|
||||||||||||||||||||
|
Costs
of employee benefit plans
|
||||||||||||||||||||
|
(net
of income tax benefit of $116)
|
(165 | ) | (165 | ) | ||||||||||||||||
|
Cash
dividends on common stock
|
||||||||||||||||||||
|
(cash-in-lieu
on stock)
|
(6 | ) | (6 | ) | ||||||||||||||||
|
Common
stock dividends
|
486,615 | 2,680 | (2,680 | ) | 0 | |||||||||||||||
|
Repurchase
and retirement of common shares
|
(488 | ) | (4 | ) | (4 | ) | ||||||||||||||
|
Other
|
35 | 35 | ||||||||||||||||||
|
Stock-based
compensation expense
|
53 | 53 | ||||||||||||||||||
|
Net
Loss
|
(4,537 | ) | (4,537 | ) | ||||||||||||||||
|
Balance
December 31, 2009
|
12,496,499 | $ | 37,575 | $ | 40,499 | $ | (2,253 | ) | $ | 75,821 | ||||||||||
See notes
to consolidated financial statements
76
United Security Bancshares and
Subsidiaries
Consolidated
Statements of Cash Flows
Years December
31, 2009, 2008 and 2007
|
(in
thousands)
|
2009
|
2008
|
2007
|
|||||||||
|
Cash
Flows From Operating Activities:
|
||||||||||||
|
Net
(loss) income
|
$ | (4,537 | ) | $ | 4,070 | $ | 11,257 | |||||
|
Adjustments
to reconcile net income to cash provided
|
||||||||||||
|
by
operating activities:
|
||||||||||||
|
Provision
for credit losses
|
13,375 | 9,598 | 5,697 | |||||||||
|
Depreciation
and amortization
|
2,399 | 2,751 | 2,655 | |||||||||
|
Accretion
of investment securities
|
(73 | ) | (123 | ) | (95 | ) | ||||||
|
Loss
(gain) on disposition of securities
|
37 | (24 | ) | 0 | ||||||||
|
(Increase)
decrease in accrued interest receivable
|
(103 | ) | 1,263 | 930 | ||||||||
|
Decrease
in accrued interest payable
|
(272 | ) | (1,255 | ) | (339 | ) | ||||||
|
(Decrease)
increase in unearned fees
|
(369 | ) | (506 | ) | 509 | |||||||
|
(Decrease)
increase in income taxes payable
|
(1,778 | ) | 413 | 150 | ||||||||
|
Stock-based
compensation expense
|
53 | 110 | 187 | |||||||||
|
Deferred
income taxes
|
(838 | ) | (1,028 | ) | 248 | |||||||
|
Increase
in accounts payable and accrued liabilities
|
(53 | ) | (427 | ) | (130 | ) | ||||||
|
Impairment
loss on other investments
|
0 | 23 | 17 | |||||||||
|
Loss
on lease assets held for sale
|
0 | 0 | 820 | |||||||||
|
Loss
(gain) on sale of other real estate owned
|
793 | (67 | ) | (209 | ) | |||||||
|
Impairment
loss on securities (OTTI)
|
843 | 0 | 0 | |||||||||
|
Impairment
loss on goodwill
|
3,026 | 0 | 0 | |||||||||
|
Impairment
loss on other real estate owned
|
1,324 | 887 | 0 | |||||||||
|
Impairment
loss on intangible assets
|
81 | 648 | 0 | |||||||||
|
Gain
on swap ineffectiveness
|
0 | (9 | ) | (66 | ) | |||||||
|
Gain
on fair value option of financial assets
|
(1,145 | ) | (1,363 | ) | (2,504 | ) | ||||||
|
Income
from life insurance proceeds
|
0 | 0 | (483 | ) | ||||||||
|
(Gain)
loss on sale of premises and equipment
|
(22 | ) | 4 | (2 | ) | |||||||
|
Increase
in surrender value of life insurance
|
(512 | ) | (608 | ) | (184 | ) | ||||||
|
Loss
in limited partnership interest
|
428 | 432 | 430 | |||||||||
|
Net
decrease (increase) in other assets
|
708 | (2,204 | ) | 84 | ||||||||
|
Net
cash provided by operating activities
|
13,365 | 12,585 | 18,972 | |||||||||
|
Cash
Flows From Investing Activities:
|
||||||||||||
|
Net
decrease (increase) in interest-bearing deposits with
banks
|
17,119 | (17,522 | ) | 4,984 | ||||||||
|
Purchases
of available-for-sale securities
|
(1,500 | ) | (44,526 | ) | (33,859 | ) | ||||||
|
Net
(purchase) redemption of FHLB/FRB and other bank stock
|
(3 | ) | (2,118 | ) | 103 | |||||||
|
Maturities,
calls, and principal payments on available-for-sale
securities
|
18,439 | 36,887 | 36,833 | |||||||||
|
Proceeds
from available-for-sale securities
|
4,963 | 0 | 0 | |||||||||
|
Investment
in limited partnership
|
(33 | ) | 38 | 0 | ||||||||
|
Investment
in bank stock
|
0 | (72 | ) | (372 | ) | |||||||
|
Proceeds
from sale of investment in title company
|
99 | 0 | 0 | |||||||||
|
Premiums
paid on life insurance
|
0 | 0 | 0 | |||||||||
|
Net
decrease (increase) in loans
|
10,873 | 16,526 | (43,454 | ) | ||||||||
|
Cash
and equivalents received in bank acquisitions,
|
||||||||||||
|
net
of assets and liabilities acquired
|
0 | 0 | 6,373 | |||||||||
|
Cash
proceeds from settlement of lease asset receivable
|
2,000 | 0 | 0 | |||||||||
|
Cash
proceeds from sales of foreclosed leased assets
|
0 | 56 | 39 | |||||||||
|
Cash
proceeds from sales of other real estate owned
|
6,780 | 1,710 | 72 | |||||||||
|
Capital
expenditures for premises and equipment
|
(413 | ) | (363 | ) | (1,200 | ) | ||||||
|
Cash
proceeds from sales of premises and equipment
|
0 | 0 | 9 | |||||||||
|
Net
cash provided by (used in) investing activities
|
58,324 | (9,384 | ) | (30,472 | ) | |||||||
|
Cash
Flows From Financing Activities:
|
||||||||||||
|
Net
increase (decrease) in demand deposit
|
||||||||||||
|
and
savings accounts
|
8,938 | (9,068 | ) | (99,787 | ) | |||||||
|
Net
increase (decrease) in certificates of deposit
|
44,236 | (117,063 | ) | 77,677 | ||||||||
|
Net
(decrease) increase in federal funds purchased
|
(66,545 | ) | 56,165 | 22,280 | ||||||||
|
Net
(decrease) increase in FHLB borrowings
|
(48,500 | ) | 66,600 | 10,000 | ||||||||
|
Redemption
of junior subordinated debt
|
0 | 0 | (15,923 | ) | ||||||||
|
Proceeds
from issuance of junior subordinated debt
|
0 | 0 | 15,000 | |||||||||
|
Director/Employee
stock options exercised
|
0 | 70 | 510 | |||||||||
|
Excess
tax benefits from stock-based payment arrangements
|
0 | 0 | 0 | |||||||||
|
Repurchase
and retirement of common stock
|
(4 | ) | (1,220 | ) | (10,095 | ) | ||||||
|
Repayment
of ESOP borrowings
|
0 | 0 | 0 | |||||||||
|
Payment
of dividends on common stock
|
(11 | ) | (4,559 | ) | (5,930 | ) | ||||||
|
Net
cash used in financing activities
|
(61,886 | ) | (9,075 | ) | (6,268 | ) | ||||||
|
Net
increase (decrease) in cash and cash equivalents
|
9,803 | (5,874 | ) | (17,768 | ) | |||||||
|
Cash
and cash equivalents at beginning of year
|
19,426 | 25,300 | 43,068 | |||||||||
|
Cash
and cash equivalents at end of year
|
$ | 29,229 | $ | 19,426 | $ | 25,300 | ||||||
See notes
to consolidated statements
77
Notes
to Consolidated Financial Statements
Years
Ended December 31, 2009, 2008, and 2007
1.
Organization and Summary of Significant Accounting and Reporting
Policies
Basis of
Presentation – The consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United States
and with prevailing practices within the banking and securities industries. The
consolidated financial statements include the accounts of United Security
Bancshares, and its wholly owned subsidiary, United Security Bank and subsidiary
(the “Bank”).United Security Bancshares Capital Trust II (the “Trust”) is
deconsolidated pursuant to ASC 810. As a result, the Trust Preferred Securities
are not presented on the Company’s consolidated financial statements as
equity, but instead the Company’s Subordinated Debentures are presented as a
separate liability category. (see Note 8 to the Company’s consolidated financial
statements). Intercompany accounts and transactions have been eliminated in
consolidation. In the following notes, references to the Bank are references to
United Security Bank. References to the Company are references to United
Security Bancshares, (including the Bank and Trust). United Security Bancshares
operates as one business segment providing banking services to commercial
establishments and individuals primarily in the San Joaquin Valley of
California.
Nature of
Operations – United Security Bancshares is a bank holding company,
incorporated in the state of California for the purpose of acquiring all the
capital stock of the Bank through a holding company reorganization (the
“Reorganization”) of the Bank. The Reorganization, which was accounted for in a
manner similar to a pooling of interests, was completed on June 12, 2001.
Management believes the Reorganization has provided the Company greater
operating and financial flexibility and has permitted expansion into a broader
range of financial services and other business activities.
United Security Bancshares
Capital Trust I was formed during June 2001 as a Delaware statutory business trust
for the exclusive purpose of issuing and selling Trust Preferred Securities. The
Trust was deconsolidated in 2004 pursuant to FIN46. During July 2007, the
Trust Preferred Securities were redeemed by USB Capital Trust I, and upon
retirement, the Trust was dissolved. During July 2007 the Company formed United
Security Bancshares Capital Trust II and issued $15.0 million in Trust Preferred
Securities with terms similar to those originally issued under USB Capital Trust
I. (See Note 8. “Junior Subordinated
Debt/Trust Preferred Securities”).
USB
Investment Trust Inc was incorporated effective December 31, 2001 as a special
purpose real estate investment trust (“REIT”) under Maryland law. The REIT is a
subsidiary of the Bank and was funded with $133.0 million in real estate-secured
loans contributed by the Bank. USB Investment Trust was originally formed to
give the Bank flexibility in raising capital, and reduce the expenses associated
with holding the assets contributed to USB Investment Trust.
On
February 16, 2007, the Company completed its merger with Legacy Bank, N.A.,
located in Campbell, California, with the acquisition of 100 percent of Legacy’s
outstanding common shares. At merger, Legacy Bank’s one branch was merged with
and into United Security Bank, a wholly owned subsidiary of the Company. The
total value of the merger transaction was $21.5 million, and the shareholders of
Legacy Bank received merger consideration consisting of 976,411 shares of common
stock of the Company. The merger transaction was accounted for as a purchase
transaction, and resulted in the purchase price being allocated to the assets
acquired and liabilities assumed from Legacy Bank based on the fair value of
those assets and liabilities. The net of assets acquired and liabilities assumed
totaled approximately $8.6 million at the date of the merger,
resulting in goodwill of approximately $8.8 million. As the result of an
impairment analysis conducted during the second quarter of 2009, the Company
recorded an impairment loss of $3.0 million on the Legacy goodwill during the
quarter ended June 30, 2009. (See Note 21 to the Company’s consolidated
financial statements contained herein for details of the merger).
During
November 2007, the Company purchased the contractual revenue stream and certain
fixed assets from ICG Financial, LLC. Additionally, the Company hired all but
one of the former employees of ICG Financial, LLC and its subsidiaries. The
total purchase price was $414,000 including $378,000 for the recurring revenue
stream and $36,000 for the fixed assets. ICG Financial, LLC provided wealth
management, employee benefit, insurance and loan products, as well as consulting
services for a variety of clients. Now operating as a newly formed department of
the Bank, USB Financial Services provides those same services utilizing the
employees hired from ICG Financial LLC. The Company believes the wealth
management and related services provided by USB Financial Services will enhance
the products and services offered by the Company, and increase noninterest
income. The capitalized cost of $378,000 for the recurring revenue stream is
being amortized over a period of approximately three years, and is tested
periodically for impairment. During both the fourth quarter of 2008 and 2009,
the Company reviewed the purchased revenue intangible for impairment and
determined that the intangible asset was impaired during both of those years. As
a result the Company recorded impairment losses of approximately $25,000 and
$24,000 during the years ended December 31, 2009 and December 31, 2008,
respectively, thus reducing carrying value the intangible asset.
78
The Bank
was founded in 1987 and currently operates eleven branches and one construction
lending office in an area from eastern Madera County to western
Fresno County, as well as Taft and Bakersfield in Kern County, and
Campbell in Santa Clara County. The Bank also operates one financial
services department located in Fresno, California. The Bank’s primary source of
revenue is interest income through providing loans to customers, who are
predominantly small and middle-market businesses and individuals. The
Bank engages in a full compliment of lending activities, including real estate
mortgage, commercial and industrial, real estate construction, agricultural and
consumer loans, with particular emphasis on short and medium term
obligations.
The Bank
offers a wide range of deposit instruments. These include personal and business
checking accounts and savings accounts, interest-bearing negotiable order of
withdrawal ("NOW") accounts, money market accounts and time certificates of
deposit. Most of the Bank's deposits are attracted from individuals and from
small and medium-sized business-related sources.
The Bank
also offers a wide range of specialized services designed to attract and service
the needs of commercial customers and account holders. These services include
cashiers checks, travelers checks, money orders, and foreign drafts. In
addition, the Bank offers Internet banking services to its commercial and retail
customers, and offers certain financial and wealth management services through
its financial services department. The Bank does not operate a trust department,
however it makes arrangements with its correspondent bank to offer trust
services to its customers upon request.
Use of Estimates
in the Preparation of Financial Statements - The preparation of financial
statements in conformity with accounting principles generally accepted in the
United States of America requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those
estimates.
Material
estimates that are particularly susceptible to significant change, relate to the
determination of the allowance for loan losses, determination of goodwill, fair
value of junior subordinated debt and certain collateralized mortgage
obligations, and the valuation of real estate acquired in connection with
foreclosures or in satisfaction of loans.
Subsequent
events—The Company has evaluated events and transactions for potential
recognition or disclosure through the day the financial statements were
issued.
Significant
Accounting Policies - The Company follows accounting standards set by the
Financial Accounting Standards Board, commonly referred to as the “FASB”. The
FASB sets generally accepted accounting principles (GAAP) that the Company
follows to ensure the consistent reporting of its consolidated financial
condition, consolidated results of operations, and consolidated cash flows.
References to GAAP issued by the FASB in these footnotes are to the FASB Accounting Standards
Codification, sometimes referred to as the Codification or ASC.
The following is a summary of significant policies:
|
a.
|
Cash and cash
equivalents – Cash and cash equivalents include cash on hand,
amounts due from banks, federal funds sold and repurchase agreements. At
times throughout the year, balances can exceed FDIC insurance limits.
Generally, federal funds sold and repurchase agreements are sold for
one-day periods. Repurchase agreements are with a registered broker-dealer
affiliated with a correspondent bank and work much like federal funds
sold, except that the transaction is collateralized by various investment
securities. The securities collateralizing such transactions generally
consist of U.S. Treasuries, U.S. Government and U.S. Government-sponsored
agencies. The Bank did not have any repurchase agreements during 2009 or
2008, or at December 31, 2009 or 2008. All cash and cash equivalents have
maturities when purchased of three months or
less.
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|
b.
|
Securities - Debt and
equity securities classified as available for sale are reported at fair
value, with unrealized gains and losses excluded from net income and
reported, net of tax, as a separate component of comprehensive income and
shareholders’ equity. Debt securities classified as held to maturity are
carried at amortized cost. Gains and losses on disposition are
reported using the specific identification method for the adjusted basis
of the securities sold.
|
The
Company classifies its securities as available for sale or held to maturity, and
periodically reviews its investment portfolio on an individual security
basis. Securities that are to be held for indefinite periods of time
(including, but not limited to, those that management intends to use as part of
its asset/liability management strategy, those which may be sold in response to
changes in interest rates, changes in prepayments or any such other factors) are
classified as securities available for sale. Securities which the Company has
the ability and intent to hold to maturity are classified as held to
maturity.
Declines
in fair value of individual held-to-maturity and available-for-sale securities
below their cost that are other than temporary are recognized by write-downs of
the individual securities to fair value. Such write-downs would be included in
earnings as realized losses. Premiums and discounts are recognized in interest
income using the interest method over the period to maturity.
79
Investments
with fair values that are less than amortized cost are considered
impaired. Impairment may result from either a decline in the
financial condition of the issuing entity or, in the case of fixed interest rate
investments, from rising interest rates. At each financial statement
date, management assesses each investment to determine if impaired investments
are temporarily impaired or if the impairment is other-than-temporary based upon
the positive and negative evidence available. Evidence evaluated
includes, but is not limited to, industry analyst reports, credit market
conditions, and interest rate trends. If negative evidence outweighs
positive evidence that the carrying amount is recoverable within a reasonable
period of time, the impairment is deemed to be other-than-temporary and the
debt security is written down by the amount related to credit losses in the
period in which such determination is made, or written down to fair value if the
debt security is more than likely to be sold.
|
|
c.
|
Loans - Interest income
on loans is credited to income as earned and is calculated by using the
simple interest method on the daily balance of the principal amounts
outstanding. Loans are placed on non-accrual status when
principal or interest is past due for 90 days and/or when management
believes the collection of amounts due is doubtful. For loans
placed on nonaccrual status, the accrued and unpaid interest receivable
may be reversed at management's discretion based upon management's
assessment of collectibility, and interest is thereafter credited to
principal to the extent necessary to eliminate doubt as to the
collectibility of the net carrying amount of the
loan.
|
Nonrefundable
fees and related direct costs associated with the origination or purchase of
loans are deferred and netted against outstanding loan balances. The
net deferred fees and costs are generally amortized into interest income over
the loan term using the interest method. Other credit-related fees,
such as standby letter of credit fees, loan placement fees and annual credit
card fees are recognized as noninterest income during the period the related
service is performed.
|
d.
|
Allowance for Credit Losses
and Reserve
for Unfunded Loan Commitments -
The allowance for credit losses is maintained to provide for losses that
can reasonably be anticipated. The allowance is based on ongoing quarterly
assessments of the probable losses inherent in the loan portfolio, and to
a lesser extent, unfunded loan commitments. The reserve for unfunded loan
commitments is a liability on the Company’s consolidated financial
statements and is included in other liabilities. The liability is computed
using a methodology similar to that used to determine the allowance for
credit losses, modified to take into account the probability of a drawdown
on the commitment.
|
The
allowance for credit losses is increased by provisions charged to operations
during the current period and reduced by loan charge-offs net of recoveries.
Loans are charged against the allowance when management believes that the
collection of the principal is unlikely. The allowance is an amount
that management believes will be adequate to absorb losses inherent in existing
loans, based on evaluations of the probability of collection. In
evaluating the probability of collection, management is required to make
estimates and assumptions that affect the reported amounts of loans, allowance
for credit losses and the provision for credit losses charged to
operations. Actual results could differ significantly from those
estimates. These evaluations take into consideration such factors as
the composition of the portfolio, overall portfolio quality, loan
concentrations, specific problem loans, and current economic conditions that may
affect the borrowers' ability to pay. The Company’s methodology for assessing
the adequacy of the allowance for credit losses consists of several key
elements, which include the formula allowance, specific allowances, and the
unallocated allowance.
The
formula allowance is calculated by applying loss factors to outstanding loans
and certain unfunded loan commitments. Loss factors are based on the Company’s
historical loss experience and may be adjusted for significant factors that, in
management's judgment, affect the collectibility of the portfolio as of the
evaluation date. The Company determines the loss factors for problem-graded
loans (substandard, doubtful, and loss), special mention loans, and pass graded
loans, based on a loss migration model. The migration analysis incorporates the
Company’s losses over the past twelve quarters (three years) and loss factors
are adjusted to recognize and quantify the loss exposure from changes in market
conditions and trends in the loan portfolio. For purposes of this analysis,
loans are grouped by internal risk classifications, which are “pass”, “special
mention”, “substandard”, “doubtful”, and “loss”. Certain loans are homogenous in
nature and are therefore pooled by risk grade. These homogenous loans include
consumer installment and home equity loans. Special mention loans are currently
performing but are potentially weak, as the borrower has begun to exhibit
deteriorating trends, which if not corrected, could jeopardize repayment of the
loan and result in further downgrade. Substandard loans have well-defined
weaknesses which, if not corrected, could jeopardize the full satisfaction of
the debt. A loan classified as “doubtful” has critical weaknesses that make full
collection of the obligation improbable. Classified loans, as defined by the
Company, include loans categorized as substandard, doubtful, and
loss.
80
Specific
allowances are established based on management’s periodic evaluation of loss
exposure inherent in classified loans, impaired loans, and other loans in which
management believes it is probable that a loss has been incurred in excess of
the amount determined by the application of the formula allowance.
The
unallocated portion of the allowance is based upon management’s evaluation of
various conditions that are not directly measured in the determination of the
formula and specific allowances. The conditions may include, but are not limited
to, general economic and business conditions affecting the key lending areas of
the Company, credit quality trends, collateral values, loan volumes and
concentration, and other business conditions.
The
allowance analysis also incorporates the results of measuring impaired loans as
provided in current accounting standards related to contingencies. A loan is
considered impaired when management determines that it is probable that the
Company will be unable to collect all amounts due according to the original
contractual terms of the loan agreement. Impairment is measured by the
difference between the original recorded investment in the loan and the
estimated present value of the total expected cash flows, discounted at the
loan’s effective rate, or the fair value of the collateral, if the loan is
collateral dependent. Any differences in the specific allowance amounts
calculated in the impaired loan analysis and the migration analysis are
reconciled by management and changes are made to the allowance as deemed
necessary.
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e.
|
Loans held-for-sale -
Loans originated and designated as held-for-sale are carried at the lower
of cost or estimated fair value, as determined by quoted market prices, in
aggregate. Net unrealized losses are recognized in a valuation allowance
by charges to income. Gains or losses on the sale of such loans are based
on the specific identification method. The Company held no loans for sale
at December 31, 2009 or 2008.
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|
f.
|
Premises and Equipment
- Premises and equipment are carried at cost less accumulated
depreciation. Depreciation expense is computed principally on the
straight-line method over the estimated useful lives of the
assets. Estimated useful lives are as
follows:
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Buildings
31
Years
Furniture and
equipment 3-7 Years
|
g.
|
Other Real Estate Owned
- Real estate properties acquired through, or in lieu of, loan foreclosure
are to be sold and are initially recorded at fair value of the property,
less estimated costs to sell. The excess, if any, of the loan amount over
the fair value is charged to the allowance for credit losses. Subsequent
declines in the fair value of other real estate owned, along with related
revenue and expenses from operations, are charged to noninterest
expense.
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|
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h.
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Intangible Assets and
Goodwill - Intangible assets are comprised of core deposit
intangibles, other specific identifiable intangibles, and goodwill
acquired in branch acquisitions where the consideration given exceeded the
fair value of the net assets acquired. Intangible assets and goodwill
are reviewed at least annually for impairment. Core deposit intangibles of
$1,585,000 and $2,278,000 (net of accumulated amortization and impairment
losses of $5,412,000 and accumulated amortization of $4,719,000) at
December 31, 2009 and 2008, respectively, are amortized over the estimated
useful lives of the existing deposit bases (average of 7 years) using a
method which approximates the interest method. Other specific identifiable
intangibles resulting from the purchase of certain bank branches in 1997,
which were non self-sustaining businesses, of $380,000 and $517,000 (net
accumulated amortization of $1.6 million and $1.4 million) at December 31,
2009 and 2008, respectively, are being amortized using a method which
approximates the interest method over a period of 15 years. The
identifiable intangible asset resulting from the purchase of the recurring
income stream from ICG Financial Services totaled $69,000 and $206,000 at
December 31, 2009 and 2008 (net accumulated amortization and impairment
losses of $308,000 and $171,000), respectively, and is being amortized
over a period of three years.
|
During
2009 and 2008, the Company recognized impairment losses of $57,000 and $623,000,
respectively, on the core deposit intangible related to the deposits purchased
in the Legacy merger consummated during February 2007. During 2009 and 2008, the
Company recognized additional impairment losses of $25,000 and $24,000,
respectively, on the identifiable intangible asset related to the purchased
revenue of ICG Financial Services.
The
estimated aggregate amortization expense related to intangible assets for each
of the five succeeding years is as follows (in 000’s):
|
Year
|
Amortization
expense
|
|||
|
2010
|
$ | 632 | ||
|
2011
|
481 | |||
|
2012
|
292 | |||
|
2013
|
187 | |||
|
2014
|
62 | |||
|
Total
|
$ | 1,654 | ||
Goodwill
amounts resulting from the acquisitions of Taft National Bank during April 2004,
and Legacy Bank during February 2007 are considered to have an indefinite life
and are not amortized. At December 31, 2009 goodwill related to Taft National
Bank totaled $1.6 million, and goodwill related to Legacy Bank totaled $5.8
million. Impairment testing of goodwill is performed at the reporting level
during April of each year for Taft, and during March of each year for Legacy.
During 2009, the Company recognized a pre-tax and after-tax impairment
adjustment of $3,026,000 on the goodwill related to the Legacy Bank merger (see
Note 21 to the Company’s consolidated financial statements contained herein for
details of the goodwill impairment.) The Company had no impairment
adjustments related to goodwill during 2008 or 2007.
|
i.
|
Income Taxes - Deferred
income taxes are provided for the temporary differences between the
financial reporting basis and the tax basis of the Company's assets and
liabilities using the liability method, and are reflected at currently
enacted income tax rates applicable to the period in which the deferred
tax assets or liabilities are expected to be realized or
settled.
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|
j.
|
Net (Loss) Income per Share - Basic
(loss) income per common share is computed based on the weighted
average number of common shares outstanding. Diluted (loss) income per
share includes the effect of stock options and other potentially dilutive
securities using the treasury stock method to the extent they have a
dilutive impact. Net (loss) income per share date has been retroactively
adjusted for all stock dividends
declared.
|
|
|
k.
|
Cash Flow Reporting -
For purposes of reporting cash flows, cash and cash equivalents include
cash on hand, noninterest-bearing amounts due from banks, federal funds
sold and securities purchased under agreements to
resell. Federal funds and securities purchased under agreements
to resell are generally sold for one-day
periods.
|
|
l.
|
Transfers of Financial
Assets - Transfers of financial assets are accounted for as sales
when control over the assets has been surrendered. Control over
transferred assets is deemed to be surrendered when (1) the assets have
been isolated from the Company, (2) the transferee obtains the right (free
of conditions that constrain it from taking advantage of that right) to
pledge or exchange the transferred assets, and (3) the Company does not
maintain effective control over the transferred assets through an
agreement to repurchase them before their
maturity.
|
|
m.
|
Advertising
Costs - The Company expenses marketing costs as they are incurred.
Advertising expense was $64,000, $121,000, and $113,000 for the years
ended December 31, 2009, 2008 and 2007,
respectively.
|
|
|
n.
|
Stock Based Compensation -
At December 31, 2009, the Company has a stock-based employee
compensation plan, which is described more fully in Note 10. The Company
accounts for all share-based payments to employees, including grants of
employee stock options, to be recognized in the financial statements based
on the grant-date fair value of the award. The fair value is amortized
over the requisite service period (generally the vesting period). Included
in salaries and employee benefits for the years ended December 31, 2009,
2008 and 2007 is $53,000, $110,000 and $187,000, respectively, of
share-based compensation. The related tax benefit, recorded in the
provision for income taxes, was not
significant.
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|
|
o.
|
Long-Lived Assets - The
Company periodically evaluates the carrying value of long-lived assets to
be held and used, including goodwill, core deposit intangible assets, and
other specific intangible assets. Based on such evaluation, the Company
recognized impairment losses of $3,026,000, $57,000 and $25,000 on
goodwill, core deposits intangible assets, and the identifiable intangible
asset related to the purchased revenue of ICG Financial Services,
respectively, during 2009. The Company recognized impairment losses of
$623,000 and $24,000 on core deposits intangible assets and the
identifiable intangible asset related to the customer revenue
contracts of ICG Financial Services, respectively, during 2008. The
Company determined that there was no impairment of long-lived assets
during 2007.
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|
|
p.
|
Derivative Financial
Instruments - All derivative instruments (including certain
derivative instruments embedded in other contracts) are recognized in the
consolidated balance sheet at fair value. The Company’s accounting
treatment for gains or losses from changes in the derivative instrument’s
fair value is contingent on whether the derivative instrument qualifies as
a hedge. On the date the Company enters into a derivative contract, the
Company designates the derivative instruments as (1) a hedge of the
fair value of a recognized asset or liability or of an unrecognized firm
commitment (fair value hedge), (2) a hedge of a forecasted
transaction or of the variability of cash flows to be received or paid
related to a recognized asset or liability (cash flow hedge) or (3), a
hedge for trading, customer accommodation or not qualifying for hedge
accounting (free-standing derivative instruments). For a fair value hedge,
changes in the fair value of the derivative instrument and changes in the
fair value of the hedged asset or liability or of an unrecognized firm
commitment attributable to the hedged risk are recorded in current period
net income. For a cash flow hedge, changes in the fair value of the
derivative instrument to the extent that it is highly effective are
recorded in other comprehensive income, net of tax, within shareholders’
equity and subsequently reclassified to net income in the same period(s)
that the hedged transaction impacts net income. For freestanding
derivative instruments, changes in the fair values are reported in current
period net income. The Company formally documents the relationship between
hedging instruments and hedged items, as well as the risk management
objective and strategy for undertaking any hedge transaction. This process
includes relating all derivative instruments that are designated as fair
value or cash flow hedges to specific assets and liabilities on the
balance sheet or to specific forecasted transactions. The Company also
formally assesses both at the inception of the hedge and on an ongoing
basis, whether the derivative instruments used are highly effective in
offsetting changes in fair values or cash flows of hedged items. If it is
determined that the derivative instrument is not, and will not be, highly
effective as a hedge, hedge accounting is discontinued. At December 31,
2009 and 2008, the Company had no derivative financial instruments that
qualify for hedging treatment.
|
81
|
|
q.
|
Federal Home Loan Bank stock
and Federal Reserve Stock - As a member of the
Federal Home Loan Bank (FHLB), the Company is required to maintain an
investment in capital stock of the FHLB. In addition, as a member of the
Federal Reserve Bank (FRB), the Company is required to maintain an
investment in capital stock of the FRB. The investments in both the FHLB
and the FRB are carried at cost, which approximates their fair value, in
the accompanying consolidated balance sheets under other assets and are
subject to certain redemption requirements by the FHLB and FRB. Stock
redemptions are at the discretion of the FHLB and FRB.
|
While
technically these are considered equity securities, there is no market for the
FHLB or FRB stock. Therefore, the shares are considered as restricted investment
securities. Management periodically evaluates the stock for
other-than-temporary impairment. Management’s determination of
whether these investments are impaired is based on its assessment of the
ultimate recoverability of cost rather than by recognizing temporary declines in
value. The determination of whether a decline affects the ultimate
recoverability of cost is influenced by criteria such as (1) the
significance of any decline in net assets of the FHLB or FRB as compared to the
capital stock amount of the FHLB or FRB and the length of time this situation
has persisted, (2) commitments by the FHLB or FRB to make payments required
by law or regulation and the level of such payments in relation to the operating
performance of the FHLB or FRB, (3) the impact of legislative and
regulatory changes on institutions and, accordingly, the customer base of the
FHLB or FRB, and (4) the liquidity position of the FHLB or FRB.
|
r.
|
Comprehensive (Loss)
Income -Comprehensive (loss) income is comprised of net income and
other comprehensive (loss) income. Other comprehensive (loss) income
includes items previously recorded directly to equity, such as unrealized
gains and losses on securities available-for-sale, unrecognized costs of
salary continuation defined benefit plans, and certain derivative
instruments used as a cash flow hedge. Comprehensive (loss) income is
presented in the consolidated statement of Operations and Comprehensive
(Loss) Income.
|
|
s.
|
Segment Reporting - The
Company's operations are solely in the financial services industry and
include providing to its customers traditional banking and other financial
services. The Company operates primarily in the San Joaquin Valley
region of California. Management makes operating decisions and assesses
performance based on an ongoing review of the Company's consolidated
financial results. Therefore, the Company has a single operating segment
for financial reporting
purposes.
|
|
|
t.
|
New
Accounting Standards:
|
In
December 2008, the FASB amended ASC Topic 715 “Compensation-Retirement
Benefits” to provide additional guidance on an employer’s disclosures in
an employer’s financial statements about plan assets of a defined benefit
pension or other postretirement plan. Upon initial application, the new guidance
is not required for earlier periods that are presented for comparative purposes.
The disclosures about plan assets required by this standard must be provided for
fiscal years ending after December 15, 2009 and are not expected to have a
material impact on the Company’s consolidated financial condition or results of
operations.
In
April 2009, the FASB revised ASC Topic 320, “Investments – Debt and Equity
Instruments” to expand disclosures about other-than-temporary impairment
for debt securities. If an entity determines that it has other-than-temporary
impairment on its debt securities that it does not intend to sell or would be
compelled to sell, it must recognize the credit loss on the securities in the
income statement. The credit loss is defined as the difference between the
present value of the cash flows expected to be collected and the amortized cost
basis. The revised guidance requires that the annual disclosures in ASC Topic
320 be made for interim reporting periods. This new guidance became effective
for interim reporting periods ending after June 15, 2009, with early
adoption permitted for periods ending after March 15, 2009. The Company
adopted this new guidance for the interim reporting period ending March 31,
2009. See Note 2 to the consolidated financial statements for the impact on the
Company of adopting the revised guidance under ASC Topic 320.
82
In
April 2009, the FASB revised ASC Topic 820, “Fair Value Measurements and
Disclosures” to provide additional information on determining fair value
when the volume and level of activity for the asset or liability have
significantly decreased when compared with normal market activity for the asset
or liability. A significant decrease in the volume or level of activity for the
asset of liability is an indication that transactions or quoted prices may not
be determinative of fair value because transactions may not be orderly. In that
circumstance, further analysis of transactions or quoted prices is needed, and
an adjustment to the transactions or quoted prices may be necessary to estimate
fair value. This revised guidance became effective for interim reporting periods
ending after June 15, 2009, with early adoption permitted for periods
ending after March 15, 2009. The Company adopted this new guidance for the
interim reporting period ending March 31, 2009 and it did not have a
material impact on the Company’s consolidated financial position or results of
operations.
In
April 2009, the Securities and Exchange Commission issued Staff Accounting
Bulletin No. 111 (“SAB 111”). SAB 111 amends Topic 5.M. in the Staff
Accounting Bulletin series entitled “Other Than Temporary Impairment of
Certain Investments Debt and Equity Securities.” During April 2009,
the FASB issued new guidance (formerly Staff Position No. FAS 115-2 and FAS
124-2, “Recognition and
Presentation of Other-Than-Temporary Impairments.”) impacting ASC Topic
320, “Investments – Debt and
Equity Instruments”. SAB 111 maintains the previous views related to
equity securities and amends Topic 5.M. to exclude debt securities from its
scope. SAB 111 was effective for the Company as of March 31, 2009. There
was no material impact to the Company’s consolidated financial position or
results of operations upon adoption.
In April
of 2009, the FASB revised ASC Topic 825, “Financial Instruments” to
require fair value disclosures in the notes of an entity’s interim financial
statements for all financial instruments, whether or not recognized in the
statement of financial position. The revised guidance was effective for interim
periods ending after June 15, 2009 with early adoption permitted for periods
ending after March 15, 2009. The provisions of the guidance, adopted by the
Company at June 30, 2009, did not impact the Company’s financial
statements.
In May
2009, the FASB amended ASC Topic 855, “Subsequent Events”. The
updated guidance sets forth the period after the balance sheet date during which
management of a reporting entity shall evaluate events or transactions that may
occur for potential recognition or disclosure in the financial statements, the
circumstances under which an entity shall recognize events or transactions
occurring after the balance sheet date in its financial statements and the
disclosures that an entity shall make about events or transactions that occurred
after the balance sheet date. The provisions of the guidance became
effective for the Company at June 30, 2009 (see Note 24) and had no impact on
the Company’s financial condition or results of operation.
In June
2009, the Financial Accounting Standards Board (FASB) codified FASB ASC Topic
105, “Generally Accepted
Accounting Principles”, to establish the FASB ASC (the “Codification”).
The Codification is not expected to change U.S. GAAP, but combines all
authoritative standards into a comprehensive, topically organized online
database. Following this guidance, the Financial Accounting Standards Board will
not issue new standards in the form of Statements, FASB Staff Positions, or
Emerging Issues Task Force Abstracts. Instead, it will issue Accounting
Standards Updates (“ASU”) to update the Codification. After the launch of the
Codification on July 1, 2009 only one level of authoritative U.S. GAAP for
non governmental entities will exist, other than guidance issued by the
Securities and Exchange Commission. This statement is effective for interim and
annual reporting periods ending after September 15, 2009. The adoption of
the FASB ASC 105 did not have any impact on the Company’s consolidated financial
statements, and only affects how the Company’s references authoritative
accounting guidance going forward.
In June
2009, the FASB revised ACS Topic 860 “Transfers and Servicing” to
amend existing guidance by eliminating the concept of a qualifying
special-purpose entity (QSPE), creating more stringent conditions for reporting
a transfer of a portion of a financial asset as a sale, clarifying other
sale-accounting criteria and changing the initial measurement of a transferor’s
interest in transferred financial assets. The new guidance is effective as of
the beginning of a company’s first fiscal year that begins after November 15,
2009 and for subsequent interim and annual periods. The adoption of this
standard as of January 1, 2010 is not expected to have a material impact on the
Company’s consolidated financial condition or results of
operations.
In August
2009, the FASB issued Accounting Standards Update (ASU) 2009-05, “Measuring Liabilities at Fair
Value”. The standard provides guidance for valuing liabilities within the
FASB Codification’s fair value hierarchy. ASU 2009-05 reiterates that the
definition of fair value for a liability is the price that would be paid to
transfer it in an orderly transaction between market participants at the
measurement date. It also reiterates that a company must reflect its own
nonperformance risk, including its own credit risk, in fair value measurements
of liabilities and that the liability’s nonperformance risk would be the same
both before and after the hypothetical transfer on which the fair value
measurement is based. ASU 2009-05 is effective for interim and annual periods
beginning after August 27, 2009, and applies to all fair value measurements of
liabilities required by GAAP. The adoption of this standard on October 1, 2009
did not have a material impact on the Company’s consolidated financial condition
or results of operations.
83
In
January 2010, the FASB issued ASU No. 2010-06, Fair Value Measurements and
Disclosures (Topic 820)—Improving Disclosures about Fair Value
Measurements. FASB ASU No. 2009-06 requires (i) fair value
disclosures by each class of assets and liabilities (generally a subset within a
line item as presented in the statement of financial position) rather than major
category, (ii) for items measured at fair value on a recurring basis, the
amounts of significant transfers between Levels 1 and 2, and transfers into and
out of Level 3, and the reasons for those transfers, including separate
discussion related to the transfers into each level apart from transfers out of
each level, and (iii) gross presentation of the amounts of purchases,
sales, issuances, and settlements in the Level 3 recurring measurement
reconciliation. Additionally, the ASU clarifies that a description of the
valuation techniques(s) and inputs used to measure fair values is required for
both recurring and nonrecurring fair value measurements. Also, if a valuation
technique has changed, entities should disclose that change and the reason for
the change. Disclosures other than the gross presentation changes in the Level 3
reconciliation are effective for the first reporting period beginning after
December 15, 2009. The requirement to present the Level 3 activity of
purchases, sales, issuances, and settlements on a gross basis will be effective
for fiscal years beginning after December 15, 2010. The Bank is currently
evaluating the impact of adoption of FASB ASU No. 2010-06. We do not expect
the adoption of this ASU will have a material impact on the Bank’s financial
position or results of operations, but will have an effect on disclosure in the
financial statements.
|
|
u.
|
Reclassifications -
Certain reclassifications have been made to the 2008 and 2007 financial
statements to conform to the classifications used in 2009. None of
the reclassifications had an impact on equity or net (loss)
income.
|
Effective
January 1, 2009, the Company reclassified a contingent asset that represents a
claim from an insurance company related to a charged-off lease portfolio,
including specific reserves, from loans to other assets. Management believes the
asset is better reflected, given its nature, as an asset other than loans. In
periods prior to March 31, 2009, the contingent asset had been included in
impaired and nonaccrual loan balances. All periods presented have been
retroactively adjusted for the reclassification to other assets and therefore
amounts have been excluded from loans and reserves for credit losses, including
impaired and nonaccrual balances for periods prior to March 31, 2009. The
amounts reclassified for reporting purposes for the various periods presented in
the consolidated financial statements are shown below.
|
Reclassification Amount (in
000's)
|
12/31/2008
|
12/31/2007
|
||||||
|
Lease
principal claim included in gross loans
|
$ | 5,425 | $ | 5,425 | ||||
|
Allowance
for credit losses
|
(3,542 | ) | (3,470 | ) | ||||
|
Net
balance transferred to other assets
|
$ | 1,883 | $ | 1,955 | ||||
At
December 31, 2009, the Company reclassified certain loans in its portfolio for
reporting purposes. In particular, over the past several years, certain
construction and land development loans that had reached maturity or for which
the completion or sale of completed properties had been delayed, were renewed as
short-term "mini-perms" generally for a period of two to five years. At the time
of their renewal, these loans were classified as commercial and industrial loans
because either the construction and development portion of the project had been
delayed, or the project had been completed and the borrower opted to delay the
sale of the completed project until market conditions improved. Some of the
completed projects are currently providing rental income to the borrower. Upon
more detailed review, it was determined that these loans were more properly
classified as something other than commercial and industrial loans. At December
31, 2009, the Company retrospectively reclassified for reporting purposes 47
loans from commercial and industrial loans to either construction & land
development, or commercial real estate loans, depending on whether they are
partially completed, or are generating rental income. The total balance of
reclassified loans at December 31, 2009 and 2008 was $74.0 million and $37.3
million, respectively. The following summarizes the reclassification amounts for
the periods presented (in 000’s). These reclassifications did not
have a significant impact on the results of operations or financial position in
the consolidated financial statements.
|
12/31/2008
|
||||
|
Commercial
and industrial
|
$ | (35,373 | ) | |
|
Real
estate - mortgage
|
4,167 | |||
|
RE
construction & development
|
31,206 | |||
|
Agricultural
|
0 | |||
|
Net
change - total loans
|
$ | 0 | ||
84
2.
Investment Securities
Following
is a comparison of the amortized cost and approximate fair value of investment
securities at December 31, 2009 and December 31, 2008:
|
(In
thousands)
|
Gross
|
Gross
|
Fair
Value
|
|||||||||||||
|
December
31, 2009:
|
Amortized
|
Unrealized
|
Unrealized
|
(Carrying
|
||||||||||||
|
Securities available
for sale:
|
Cost
|
Gains
|
Losses
|
Amount)
|
||||||||||||
|
U.S.
Government agencies
|
$ | 35,119 | $ | 1,469 | $ | (2 | ) | $ | 36,586 | |||||||
|
U.S.
Government collateralized mortgage obligations
|
14,954 | 376 | (10 | ) | 15,320 | |||||||||||
|
Residential
mortgage obligations
|
14,273 | 0 | (4,559 | ) | 9,714 | |||||||||||
|
Obligations
of state and political subdivisions
|
1,252 | 33 | 0 | 1,285 | ||||||||||||
|
Other
investment securities
|
9,004 | 0 | (498 | ) | 8,506 | |||||||||||
|
Total
securities available for sale
|
$ | 74,602 | $ | 1,878 | $ | (5,069 | ) | $ | 71,411 | |||||||
|
December
31, 2008:
|
||||||||||||||||
|
Securities available
for sale:
|
||||||||||||||||
|
U.S.
Government agencies
|
$ | 43,110 | $ | 1,280 | $ | (204 | ) | $ | 44,186 | |||||||
|
U.S.
Government collateralized mortgage obligations
|
21,317 | 189 | (40 | ) | 21,466 | |||||||||||
|
Residential
mortgage obligations
|
17,751 | 0 | (4,951 | ) | 12,800 | |||||||||||
|
Obligations
of state and political subdivisions
|
1,252 | 28 | 0 | 1,280 | ||||||||||||
|
Other
investment securities
|
13,880 | 0 | (863 | ) | 13,017 | |||||||||||
|
Total
securities available for sale
|
$ | 97,310 | $ | 1,497 | $ | (6,058 | ) | $ | 92,749 | |||||||
Included
in other investment securities at December 31, 2009, is a short-term government
securities mutual fund totaling $7.5 million, and an overnight money-market
mutual fund totaling $1.0 million. Included in other investment securities
at December 31, 2008, is a short-term government securities mutual fund totaling
$7.2 million, a CRA-qualified mortgage fund totaling $4.9 million, and an
overnight money-market mutual fund totaling $880,000. The commercial
asset-backed trust consists of fixed and floating rate commercial and
multifamily mortgage loans. The short-term government securities mutual fund
invests in debt securities issued or guaranteed by the U.S. Government, its
agencies or instrumentalities, with a maximum duration equal to that of a 3-year
U.S. Treasury Note.
There
were no gross realized gains, but there were gross realized losses on
available-for-sale securities totaling $37,000 during the year ended December
31, 2009.There were gross realized gains on sales of available-for-sale
securities totaling $24,000 during the year ended December 31, 2008. There
were no gross realized losses on available-for-sale securities during the year
ended December 31, 2008. There were no gross realized gains or losses on
available-for-sale securities during the year ended December 31,
2007.
The
amortized cost and fair value of securities available for sale at December 31,
2009, by contractual maturity, are shown below. Actual maturities may differ
from contractual maturities because issuers have the right to call or prepay
obligations with or without call or prepayment penalties. Contractual maturities
on collateralized mortgage obligations cannot be anticipated due to allowed
paydowns.
|
December
31, 2009
|
||||||||
|
Amortized
|
Fair
Value
|
|||||||
|
(In
thousands)
|
Cost
|
(Carrying
Amount)
|
||||||
|
Due
in one year or less
|
$ | 9,004 | $ | 8,506 | ||||
|
Due
after one year through five years
|
4,725 | 4,833 | ||||||
|
Due
after five years through ten years
|
11,400 | 11,944 | ||||||
|
Due
after ten years
|
20,246 | 21,094 | ||||||
|
Collateralized
mortgage obligations
|
29,227 | 25,034 | ||||||
| $ | 74,602 | $ | 71,411 | |||||
85
At
December 31, 2009 and 2008, available-for-sale securities with an amortized cost
of approximately $66.5 million and $81.4 million (fair value of $65.4 million
and $79.6 million) were pledged as collateral for public funds, treasury tax and
loan balances, and repurchase agreements.
The
Company had no held-to-maturity or trading securities at December 31, 2009 or
2008.
Management
periodically evaluates each available-for-sale investment security in an
unrealized loss position to determine if the impairment is temporary or
other-than-temporary.
The
following summarizes temporarily impaired investment securities at December 31,
2009 and 2008:
|
Less
than 12 Months
|
12
Months or More
|
Total
|
||||||||||||||||||||||
|
(In
thousands)
|
Fair
Value
|
Fair
Value
|
Fair
Value
|
|||||||||||||||||||||
|
December
31, 2009:
|
(Carrying
|
Unrealized
|
(Carrying
|
Unrealized
|
(Carrying
|
Unrealized
|
||||||||||||||||||
|
Securities available
for sale:
|
Amount)
|
Losses
|
Amount)
|
Losses
|
Amount)
|
Losses
|
||||||||||||||||||
|
U.S.
Government agencies
|
$ | 1,498 | $ | (2 | ) | $ | 0 | $ | 0 | $ | 1,498 | $ | (2 | ) | ||||||||||
|
U.S.
Government agency collateral mortgage obligations
|
2,236 | (10 | ) | 0 | 0 | 2,236 | (10 | ) | ||||||||||||||||
|
Residential
mortgage obligations
|
0 | 0 | 9,714 | (4,559 | ) | 9,714 | (4,559 | ) | ||||||||||||||||
|
Obligations
of state and political subdivisions
|
0 | 0 | 0 | 0 | 0 | 0 | ||||||||||||||||||
|
Other
investment securities
|
0 | 0 | 7,502 | (498 | ) | 7,502 | (498 | ) | ||||||||||||||||
|
Total
impaired securities
|
$ | 3,734 | $ | (12 | ) | $ | 17,216 | $ | (5,057 | ) | $ | 20,950 | $ | (5,069 | ) | |||||||||
|
December
31, 2008:
|
||||||||||||||||||||||||
|
Securities available
for sale:
|
||||||||||||||||||||||||
|
U.S.
Government agencies
|
$ | 6,471 | $ | (204 | ) | $ | 0 | $ | 0 | $ | 6,471 | $ | (204 | ) | ||||||||||
|
U.S.
Government agency collateral mortgage obligations
|
4,768 | (40 | ) | 0 | 0 | 4,768 | (40 | ) | ||||||||||||||||
|
Residential
mortgage obligations
|
12,800 | (4,951 | ) | 0 | 0 | 12,800 | (4,951 | ) | ||||||||||||||||
|
Obligations
of state and political subdivisions
|
0 | 0 | 0 | 0 | 0 | 0 | ||||||||||||||||||
|
Other
investment securities
|
0 | 0 | 12,137 | (863 | ) | 12,137 | (863 | ) | ||||||||||||||||
|
Total
impaired securities
|
$ | 24,039 | $ | (5,195 | ) | $ | 12,137 | $ | (863 | ) | $ | 36,176 | $ | (6,058 | ) | |||||||||
Temporarily
impaired securities at December 31, 2009 are comprised of one (1) collateralized
mortgage obligation, three (3) residential mortgage obligations, two (2) U.S.
government agency securities, and one (1) other investment securities, with a
total weighted average life of 1.8 years. Temporarily impaired securities at
December 31, 2008 are comprised of one (1) collateralized mortgage obligation,
three (3) residential mortgage obligation, seven (7) U.S. government agency
securities, and two (2) other investment securities, with a total weighted
average life of 3.1 years.
The
Company evaluates investment securities for other-than-temporary impairment
(“OTTI”) at least quarterly, and more frequently when economic or market
conditions warrant such an evaluation. The investment securities portfolio is
evaluated for OTTI by segregating the portfolio into two general segments and
applying the appropriate OTTI model. Investment securities of high credit
quality are generally evaluated for OTTI under ASC Topic 320, “Investments – Debt and Equity
Instruments.” Certain purchased beneficial interests not of high credit
quality, including non-agency mortgage-backed securities, asset-backed
securities, and collateralized debt obligations, are evaluated using the model
outlined in ASC Topic 320 (formerly EITF Issue No. 99-20, “Recognition of Interest Income and
Impairment on Purchased Beneficial Interests and Beneficial Interests that
Continue to be Held by a Transfer in Securitized Financial
Assets.”)
The first
segment of the portfolio in determining OTTI, the Company considers many
factors, including: (1) the length of time and the extent to which the fair
value has been less than cost, (2) the financial condition and near-term
prospects of the issuer, (3) whether the market decline was affected by
macroeconomic conditions, and (4) whether the entity has the intent to sell
the debt security or more likely than not will be required to sell the debt
security before its anticipated recovery. The assessment of whether an
other-than-temporary decline exists involves a high degree of subjectivity and
judgment and is based on the information available to the Company at the time of
the evaluation.
86
The
second segment of the portfolio uses the OTTI guidance that is specific to
purchased beneficial interests including non-agency collateralized mortgage
obligations. Under this model, the Company compares the present value of the
remaining cash flows as estimated at the preceding evaluation date to the
current expected remaining cash flows. An OTTI is deemed to have occurred if
there has been an adverse change in the remaining expected future cash
flows.
Effective
the first quarter 2009, the Company adopted an amendment to existing guidance on
other-than-temporary impairments for debt securities, which establishes a
new model for measuring and disclosing OTTI for all debt securities.
Other-than-temporary-impairment occurs under the new guidance when the Company
intends to sell the security or more likely than not will be required to sell
the security before recovery of its amortized cost basis less any current-period
credit loss. If an entity intends to sell or more likely than not will be
required to sell the security before recovery of its amortized cost basis less
any current-period credit loss, the other-than-temporary-impairment shall be
recognized in earnings equal to the entire difference between the investment’s
amortized cost basis and its fair value at the balance sheet date. If an entity
does not intend to sell the security and it is not more likely than not that the
entity will be required to sell the security before recovery of its amortized
cost basis less any current-period loss, the other-than-temporary-impairment
shall be separated into the amount representing the credit loss and the amount
related to all other factors. The amount of the total
other-than-temporary-impairment related to the credit loss is recognized in
earnings, and is determined based on the difference between the present value of
cash flows expected to be collected and the current amortized cost of the
security. The amount of the total other-than-temporary-impairment related to
other factors shall be recognized in other comprehensive (loss) income, net of
applicable taxes. The previous amortized cost basis less the
other-than-temporary-impairment recognized in earnings shall become the new
amortized cost basis of the investment.
At
December 31, 2009, the decline in fair value for all but three (see below)
of the impaired securities is attributable to changes in interest rates and
illiquidity, and not credit quality. Because the Company does not have the
intent to sell these impaired securities and it is likely that it will not be
required to sell the securities before their anticipated recovery, the Company
does not consider these securities to be other-than-temporarily impaired at
December 31, 2009.
At
December 31, 2009, the Company had three non-agency collateralized mortgage
obligations which have been impaired more than twelve months. The three
non-agency collateralized mortgage obligations had a fair value of
$9.7 million and unrealized losses of approximately $4.6 million at
December 31, 2009. All three non-agency mortgage-backed securities were
rated less than high credit quality at December 31, 2009. The Company
evaluated these three non-agency collateralized mortgage obligations
for OTTI by comparing the present value of expected cash flows to previous
estimates to determine whether there had been adverse changes in cash flows
during the year.
The OTTI evaluation was conducted utilizing the services of a third party
specialist and consultant in MBS and CMO products. The cash flow assumptions
used in the evaluation included a number of factors including changes in
delinquency rates, anticipated prepayment speeds, loan-to-value ratios, changes
in agency ratings, and market prices. As a result of the impairment evaluation,
the Company determined that there had been adverse changes in cash flows during
the year for all three of the non-agency collateralized mortgage obligations
reviewed, and concluded that these three non-agency collateralized mortgage
obligations were other-than-temporarily impaired. During the fourth quarter of
2009, the three CMO securities had other-than-temporary-impairment losses of
$4.7 million, of which $123,000 was recorded as expense and
$4.6 million was recorded in other comprehensive loss. For the year ended
December 31, 2009, the three CMO securities had other-than-temporary-impairment
losses of $5.4 million, of which $843,000 was recorded as a charge to
earnings and $4.6 million was recorded in other comprehensive loss. These
three non-agency collateralized mortgage obligations remained classified as
available for sale at December 31, 2009.
The
following table details the three non-agency collateralized mortgage obligations
with other-than-temporary-impairment, their credit rating at December 31, 2009,
the related credit losses recognized in earnings for the year ended, and
impairment losses included in other comprehensive loss.
|
RALI
2006-QS1G A10
|
RALI
2006 QS8 A1
|
CWALT
2007-8CB A9
|
||||||||||||||
|
Rated
CCC
|
Rated
CCC
|
Rated
CCC
|
Total
|
|||||||||||||
|
Amortized
cost – before OTTI
|
$ | 5,511,793 | $ | 1,676,559 | $ | 7,927,275 | $ | 15,115,627 | ||||||||
|
Credit
loss – year ended December 31, 2009
|
(554,973 | ) | (199,975 | ) | (87,714 | ) | (842,662 | ) | ||||||||
|
Other
impairment (OCI)
|
(1,650,394 | ) | (480,978 | ) | (2,427,413 | ) | (4,558,785 | ) | ||||||||
|
Carrying
amount – December 31, 2009
|
3,306,426 | 995,606 | 5,412,148 | 9,714,180 | ||||||||||||
|
Total
impairment - YTD December 31, 2009
|
$ | (2,205,367 | ) | $ | (680,953 | ) | $ | (2,515,127 | ) | $ | (5,401,447 | ) | ||||
87
The total
other comprehensive loss (OCI) balance of $4.6 million in the above table is
included in unrealized losses of 12 months or more at December 31,
2009.
3.
Loans
Loans
are comprised of the following:
|
December
31,
|
December
31,
|
|||||||
|
(In
thousands)
|
2009
|
2008
|
||||||
|
Commercial
and industrial
|
$ | 167,930 | $ | 188,207 | ||||
|
Real
estate – mortgage:
|
||||||||
|
Commercial
real estate
|
117,010 | 86,007 | ||||||
|
Residential
mortgages
|
45,828 | 41,608 | ||||||
|
Home
Equity loans
|
2,791 | 3,241 | ||||||
|
Total
real estate mortgage
|
165,629 | 130,856 | ||||||
|
RE
construction and development
|
105,220 | 151,091 | ||||||
|
Agricultural
|
50,897 | 52,020 | ||||||
|
Installment
|
18,191 | 20,782 | ||||||
|
Lease
financing
|
706 | 1,595 | ||||||
|
Total
Loans
|
$ | 508,573 | $ | 544,551 | ||||
The
Company's loans are predominantly in the San Joaquin Valley, and the
greater Oakhurst/East Madera County area, as well as the Campbell area of Santa
Clara County, although the Company does participate in loans with other
financial institutions, primarily in the state of California.
Commercial
and industrial loans represent 33.0% of total loans at December 31, 2009 and are
generally made to support the ongoing operations of small-to-medium sized
commercial businesses. Commercial and industrial loans and have a high degree of
industry diversification and provide, working capital, financing for the
purchase of manufacturing plants and equipment, or funding for growth and
general expansion of businesses. A substantial portion of commercial and
industrial loans are secured by accounts receivable, inventory, leases or other
collateral including real estate. The remainder are unsecured; however,
extensions of credit are predicated upon the financial capacity of the borrower.
Repayment of commercial loans is generally from the cash flow of the
borrower.
Real
estate mortgage loans, representing 32.6% of total loans at December 31, 2009,
are secured by trust deeds on primarily commercial property, but are also
secured by trust deeds on single family residences. Repayment of real estate
mortgage loans is generally from the cash flow of the borrower.
|
·
|
Commercial
real estate mortgage loans comprise the largest segment of this loan
category and are available on all types of income producing and commercial
properties, including: office buildings, shopping centers; apartments and
motels; owner occupied buildings; manufacturing facilities and more.
Commercial real estate mortgage loans can also be used to refinance
existing debt. Although real estate associated with the business is the
primary collateral for commercial real estate mortgage loans, the
underlying real estate is not the source of repayment. Commercial real
estate loans are made under the premise that the loan will be repaid from
the borrower's business operations, rental income associated with the real
property, or personal assets.
|
|
·
|
Residential
mortgage loans are provided to individuals to finance or refinance
single-family residences. Residential mortgages are not a primary business
line offered by the Company, and are generally of a shorter term than
conventional mortgages, with maturities ranging from three to fifteen
years on average. Included in this category are two purchased fifteen-year
jumbo mortgage pools acquired by the Company during 2005, with $18.4
million remaining at December 31,
2009.
|
|
·
|
Home
Equity loans comprise a relatively small portion of total real estate
mortgage loans, and are offered to borrowers for the purpose of home
improvements, although the proceeds may be used for other purposes. Home
equity loans are generally secured by junior trust deeds, but may be
secured by 1st
trust deeds.
|
Real
estate construction and development loans, representing 20.7% of total loans at
December 31, 2009, consist of loans for residential and commercial construction
projects, as well as land acquisition and development, or land held for future
development. Loans in this category are secured by real estate including
improved and unimproved land, as well as single-family residential, multi-family
residential, and commercial properties in various stages of completion. All real
estate loans have established equity requirements. Repayment on construction
loans is generally from long-term mortgages with other lending institutions
obtained at completion of the project.
Agricultural
loans represent 10.0% of total loans at December 31, 2009 and are generally
secured by land, equipment, inventory and receivables. Repayment is from the
cash flow of the borrower.
Lease
financing loans, representing 0.1% of total loans at December 31, 2009, consist
of loans to small businesses, which are secured by commercial equipment.
Repayment of the lease obligation is from the cash flow of the
borrower.
Occasionally,
shared appreciation agreements are made between the Company and the borrower on
certain construction loans where the Company agrees to receive interest on the
loan at maturity rather than monthly and the borrower agrees to share in the
profits of the project. Due to the difficulty in calculating future values,
shared appreciation income is recognized when received. The Company does not
participate in a significant number of shared appreciation projects. Shared
appreciation income totaled $23,000, $265,000, and $42,000 for the years ended
December 31, 2009, 2008, and 2007, respectively.
Loans
over 90 days past due and still accruing totaled $486,000 and $680,000 at
December 31, 2009 and December 31, 2008, respectively. Nonaccrual loans totaled
$34.8 million and $45.7 million at December 31, 2009 and 2008, respectively.
There were remaining undisbursed commitments to extend credit on nonaccrual
loans of $1.4 million and $1.6 million at December 31, 2009 and December 31,
2008, respectively. The interest income that would have been earned on
nonaccrual loans outstanding at December 31, 2009 in accordance with their
original terms is approximately $3.2 million. There was no interest income
recorded on such loans during the year ended December 31, 2009, 2008, or
2007.
The
Company has, and expects to have, lending transactions in the ordinary course of
its business with directors, officers, principal shareholders and their
affiliates. These loans are granted on substantially the same terms,
including interest rates and collateral, as those prevailing on comparable
transactions with unrelated parties, and do not involve more than the normal
risk of collectibility or present unfavorable features.
Loans
to directors, officers, principal shareholders and their affiliates are
summarized below:
|
December
31,
|
||||||||
|
(In
thousands)
|
2009
|
2008
|
||||||
|
Aggregate
amount outstanding, beginning of year
|
17,861 | $ | 7,436 | |||||
|
New
loans or advances during year
|
6,386 | 13,667 | ||||||
|
Repayments
during year
|
(2,151 | ) | (3,242 | ) | ||||
|
Other
(1)
|
(12,950 | ) | 0 | |||||
|
Aggregate
amount outstanding, end of year
|
$ | 9,146 | $ | 17,861 | ||||
|
Loan
commitments
|
$ | 5,709 | $ | 8,380 | ||||
|
(1)
|
Represents
loans of Director that resigned during
2009
|
An
analysis of changes in the allowance for credit losses is as
follows:
|
Years
Ended December 31,
|
||||||||||||
|
(In
thousands)
|
2009
|
2008
|
2007
|
|||||||||
|
Balance,
beginning of year
|
$ | 11,529 | $ | 7,431 | $ | 4,361 | ||||||
|
Provision
charged to operations
|
13,375 | 9,526 | 6,231 | |||||||||
|
Losses
charged to allowance
|
(10,145 | ) | (5,545 | ) | (4,493 | ) | ||||||
|
Recoveries
on loans previously charged off
|
257 | 117 | 64 | |||||||||
|
Reserve
acquired in merger
|
0 | 0 | 1,268 | |||||||||
|
Balance
at end-of-period
|
$ | 15,016 | $ | 11,529 | $ | 7,431 | ||||||
88
The
allowance for credit losses represents management's estimate of the risk
inherent in the loan portfolio based on the current economic conditions,
collateral values and economic prospects of the borrowers. Significant changes
in these estimates might be required in the event of a downturn in the economy
and/or the real estate markets in the San Joaquin Valley, the greater
Oakhurst and East Madera County area, and in Santa
Clara County.
At
December 31, 2009 and 2008, the Company's recorded investment in loans for which
impairment has been recognized totaled $53.8 million and $48.9 million,
respectively. Included in total impaired loans at December 31, 2009 are $26.3
million of impaired loans for which the related specific allowance is $8.0
million, as well as $27.5 million of impaired loans that as a result of
write-downs or the fair value of the collateral, did not have a specific
allowance. At December 31, 2008, total impaired loans included $25.5 million for
which the related specific allowance is $5.0 million, as well as $23.4 million
of impaired loans that as a result of write-downs to the fair value of the
collateral did not have a specific allowance. The average recorded investment in
impaired loans was $59.6 million, $31.7 million, and $10.4 million for the years
ended December 31, 2009, 2008, and 2007, respectively. In most cases, the
Company uses the cash basis method of income recognition for impaired loans. In
the case of certain troubled debt restructuring for which the loan is performing
under the current contractual terms for a reasonable period of time, income is
recognized under the accrual method. For the year ended December 31, 2009,
the Company recognized $326,000 in income on impaired loans. For the years ended
December 31, 2008 and 2007, the Company recognized no income on impaired
loans.
In the
normal course of business, the Company is party to financial instruments with
off-balance sheet risk to meet the financing needs of its customers. At December
31, 2009 and 2008 these financial instruments include commitments to extend
credit of $84.0 million and $112.3 million, respectively, and standby letters of
credit of $4.0 million and $7.1 million, respectively. These instruments involve
elements of credit risk in excess of the amount recognized on the balance sheet.
The contract amounts of these instruments reflect the extent of the involvement
the Company has in off-balance sheet financial instruments.
The
Company’s exposure to credit loss in the event of nonperformance by the
counterparty to the financial instrument for commitments to extend credit and
standby letters of credit is represented by the contractual amounts of those
instruments. The Company uses the same credit policies as it does for on-balance
sheet instruments.
Commitments
to extend credit are agreements to lend to a customer, as long as there is no
violation of any condition established in the contract. Substantially all of
these commitments are at floating interest rates based on the Prime rate.
Commitments generally have fixed expiration dates. The Company evaluates each
customer's creditworthiness on a case-by-case basis. The amount of collateral
obtained, if deemed necessary, is based on management's credit evaluation.
Collateral held varies but includes accounts receivable, inventory, leases,
property, plant and equipment, residential real estate and income-producing
properties.
Standby
letters of credit are generally unsecured and are issued by the Company to
guarantee the performance of a customer to a third party. The credit risk
involved in issuing letters of credit is essentially the same as that involved
in extending loans to customers.
4.
Premises and Equipment
The
components of premises and equipment are as follows:
|
December
31,
|
||||||||
|
(In
thousands)
|
2009
|
2008
|
||||||
|
Land
|
$ | 968 | $ | 968 | ||||
|
Buildings
and improvements
|
14,487 | 14,212 | ||||||
|
Furniture
and equipment
|
8,843 | 9,045 | ||||||
| 24,298 | 24,225 | |||||||
|
Less
accumulated depreciation and amortization
|
(11,002 | ) | (9,940 | ) | ||||
|
Total
premises and equipment
|
$ | 13,296 | $ | 14,285 | ||||
Total
depreciation expense on Company premises and equipment totaled $1.4 million,
$1.7 million, and $1.6 million for the years ended December 31, 2009, 2008 and
2007, respectively, and is included in occupancy expense in the accompanying
consolidated statements of operations.
89
5.
Investment in Limited Partnership
The Bank
owns limited interests in private limited partnerships that acquire affordable
housing properties in California that generate Low Income Housing Tax Credits
under Section 42 of the Internal Revenue Code of 1986, as amended. The Bank's
limited partnership investment is accounted for under the equity method. The
Bank's noninterest expense associated with the utilization and expiration of
these tax credits for the year ended December 31, 2009, 2008 and 2007 was
$428,000, $432,000, and $430,000, respectively. The limited partnership
investments are expected to generate remaining tax credits of approximately $2.1
million over the life of the investment. The tax credits expire between 2009 and
2014. Tax credits utilized for income tax purposes for the years ended December
31, 2009, 2008, and 2007 totaled $422,000, $519,000, and $545,000,
respectively.
6.
Deposits
Deposits
include the following:
|
December
31,
|
||||||||
|
(In
thousands)
|
2009
|
2008
|
||||||
|
Noninterest-bearing
deposits
|
$ | 139,724 | $ | 149,529 | ||||
|
Interest-bearing
deposits:
|
||||||||
|
NOW
and money market accounts
|
158,795 | 136,612 | ||||||
|
Savings
accounts
|
34,146 | 37,586 | ||||||
|
Time
deposits:
|
||||||||
|
Under
$100,000
|
64,481 | 66,128 | ||||||
|
$100,000
and over
|
164,514 | 118,631 | ||||||
|
Total
interest-bearing deposits
|
421,936 | 358,957 | ||||||
|
Total
deposits
|
$ | 561,660 | $ | 508,486 | ||||
At
December 31, 2009, the scheduled maturities of all certificates of deposit and
other time deposits are as follows:
|
(In
thousands
|
||||
|
One
year or less
|
$ | 218,694 | ||
|
More
than one year, but less than or equal to two years
|
7,947 | |||
|
More
than two years, but less than or equal to three years
|
1,439 | |||
|
More
than three years, but less than or equal to four years
|
831 | |||
|
More
than four years, but less than or equal to five years
|
73 | |||
|
More
than five years
|
11 | |||
| $ | 228,995 | |||
The
Company may utilize brokered deposits as an additional source of funding. At
December 31, 2009 and 2008, the Company held brokered time deposits totaling
$129.4 million and $93.4 million, with average rates of 0.65% and 2.59%,
respectively. Of this balance at December 31, 2009, $106.8 million is included
in time deposits of $100,000 or more, and the remaining $22.6 million is
included in time deposits of less than $100,000. Included in brokered time
deposits at December 31, 2009 are balances totaling $61.8 million maturing
in three months or less, $61.8 million maturing in three to six months, and $5.8
million maturing in 6 to twelve months.
Deposit
balances representing overdrafts reclassified as loan balances totaled $179,000
and $332,000 as of December 31, 2009 and 2008, respectively.
Deposits
of directors, officers and other related parties to the Bank totaled $6.7
million and $5.0 million at December 31, 2009 and 2008, respectively. The rates
paid on these deposits were those customarily paid to the Bank's customers in
the normal course of business.
7.
Short-term Borrowings/Other Borrowings
At
December 31, 2009, the Company had collateralized and uncollateralized lines of
credit with the Federal Reserve Bank of San Francisco and other correspondent
banks aggregating $124.2 million, as well as Federal Home Loan Bank (“FHLB”)
lines of credit totaling $40.8 million. At December 31, 2009, the Company had
total outstanding balances of $40.0 million in borrowings drawn against its
FHLB lines of credit at an average rate of 0.86%. Of the $40.0 million in FHLB
borrowings outstanding at December 31, 2009, all will mature in three months or
less. The weighted average cost of borrowings for the year ended December 31,
2009 was 0.80%. These lines of credit generally have interest rates tied to the
Federal Funds rate or are indexed to short-term U.S. Treasury rates or LIBOR.
FHLB advances are collateralized by all of the Company’s stock in the FHLB and
certain qualifying mortgage loans. As of December 31, 2009, $14.2 million in
real estate-secured loans, and $42.6 million in investment securities at FHLB,
were pledged as collateral for FHLB advances. Additionally, $256.7 million in
real estate-secured loans were pledged at December 31, 2009 as collateral for
used and unused borrowing lines with the Federal Reserve Bank totaling $120.7
million. All lines of credit are on an “as available” basis and can be revoked
by the grantor at any time.
90
The
Company had collateralized and uncollateralized lines of credit with the Federal
Reserve Bank of San Francisco and other correspondent banks aggregating $242.7
million, as well as Federal Home Loan Bank (“FHLB”) lines of credit totaling
$97.1 million at December 31, 2008. At December 31, 2008, the Company had total
outstanding balances of $155.0 million in borrowings, including $66.5 million in
federal funds purchased from the Federal Reserve Discount Window at a rate of
0.50%, and $88.5 million drawn against its FHLB lines of credit.
8.
Junior Subordinated Debt/Trust Preferred Securities
During
July 2007, the Company formed USB Capital Trust II, a wholly-owned special
purpose entity, for the purpose of issuing Trust Preferred Securities. USB
Capital Trust II is a Variable Interest Entity (VIE) and a deconsolidated entity
pursuant to ASC 810. On July 23, 2007 USB Capital Trust II issued $15 million in
Trust Preferred securities. The securities have a thirty-year maturity and bear
a floating rate of interest (repricing quarterly) of 1.29% over the three-month
LIBOR rate (initial coupon rate of 6.65%). Interest will be paid quarterly.
Concurrent with the issuance of the Trust Preferred securities, USB Capital
Trust II used the proceeds of the Trust Preferred securities offering to
purchase a like amount of junior subordinated debentures of the Company. The
Company will pay interest on the junior subordinated debentures to USB Capital
Trust II, which represents the sole source of dividend distributions to the
holders of the Trust Preferred securities. The Company may redeem the junior
subordinated debentures October as follows: 2010 at 101.32, 2011 at 100.66, and
at par anytime after October 2012.
The
Company elected the fair value measurement option for all the Company’s new
junior subordinated debentures issued under USB Capital Trust II. During the
year ended December 31, 2007, the Company recorded pre-tax gains of $2.5 million
pursuant to fair value measurement guidelines. The gain of $2.4 million realized
on USB Capital Trust II during 2007 resulted from an overall deterioration of
the credit markets during the third quarter of 2007 which increased pricing
spreads from base rates on similar debt instruments. During 2008, fair value
calculations performed by the Company resulted in an unrealized gain of $1.4
million.
Effective
September 30, 2009 and beginning with the quarterly interest payment due October
1, 2009, the Company elected to defer interest payments on the Company's $15.0
million of junior subordinated debentures relating to its trust preferred
securities. The terms of the debentures and trust indentures allow for the
Company to defer interest payments for up to 20 consecutive quarters without
default or penalty. During the period that the interest deferrals are elected,
the Company will continue to record interest expense associated with the
debentures. Upon the expiration of the deferral period, all accrued and unpaid
interest will be due and payable. During the deferral period, the Company is
precluded from paying cash dividends to shareholders or repurchasing its
stock.
At
December 31, 2009 the Company performed a fair value measurement analysis on its
junior subordinated debt using a cash flow valuation model approach to determine
the present value of those cash flows. The cash flow model utilizes the forward
3-month Libor curve to estimate future quarterly interest payments due over the
thirty-year life of the debt instrument, adjusted for deferrals of interest
payments per the Company’s election at September 30, 2009. These cash flows were
discounted at a rate which incorporates a current market rate for similar-term
debt instruments, adjusted for additional credit and liquidity risks associated
with the junior subordinated debt. Although there is little market data in the
current relatively illiquid credit markets, we believe the 8.7% discount rate
used represents what a market participant would consider under the
circumstances.
The fair
value calculation performed at December 31, 2009 resulted in an unrealized gain
of $1.2 million for the year ended December 31, 2009. Fair value gains and
losses are reflected as a component of noninterest income.
9.
Taxes on Income
The
tax effects of significant items comprising the Company’s net deferred tax
assets (liabilities) are as follows:
|
December
31,
|
||||||||
|
(In
thousands)
|
2009
|
2008
|
||||||
|
Deferred
tax assets:
|
||||||||
|
Credit
losses not currently deductible
|
$ | 7,661 | $ | 6,088 | ||||
|
State
franchise tax
|
0 | 355 | ||||||
|
Deferred
compensation
|
1,558 | 1,430 | ||||||
|
Net
operating losses
|
764 | 1,147 | ||||||
|
Depreciation
|
290 | 103 | ||||||
|
Accrued
reserves
|
76 | 93 | ||||||
|
Write-down
on other real estate owned
|
784 | 379 | ||||||
|
Capitalized
OREO expenses
|
739 | 349 | ||||||
|
Unrealized
loss on AFS securities
|
1,397 | 1,954 | ||||||
|
Other
|
257 | 104 | ||||||
|
Total
deferred tax assets
|
13,526 | 12,002 | ||||||
|
Deferred
tax liabilities:
|
||||||||
|
Depreciation
|
-- | -- | ||||||
|
FHLB
dividend
|
(243 | ) | (243 | ) | ||||
|
Loss
on limited partnership investment
|
(1,951 | ) | (1,814 | ) | ||||
|
Amortization
of core deposit intangible
|
(508 | ) | (734 | ) | ||||
|
Deferred
gain SFAS No. 159 – fair value option
|
(2,009 | ) | (1,538 | ) | ||||
|
Fair
value adjustments for purchase accounting
|
(120 | ) | (120 | ) | ||||
|
Interest
on nonaccrual loans
|
(417 | ) | 0 | |||||
|
Deferred
loan costs
|
(225 | ) | 0 | |||||
|
Prepaid
expenses
|
(519 | ) | (415 | ) | ||||
|
Total
deferred tax liabilities
|
(5,992 | ) | (4,864 | ) | ||||
|
Net
deferred tax assets
|
$ | 7,534 | $ | 7,138 | ||||
91
The
Company periodically evaluates its deferred tax assets to determine whether a
valuation allowance is required based upon a determination that some or all of
the deferred assets may not be ultimately realized. The Company has concluded
that it is more likely than not that the deferred tax assets will be recognized
in the normal course of business, therefore no valuation allowance is considered
necessary at December 31, 2009 and 2008.
Taxes
on income for the years ended December 31, consist of the
following:
|
(In
thousands)
|
||||||||||||
|
2009:
|
Federal
|
State
|
Total
|
|||||||||
|
Current
|
$ | (1,174 | ) | $ | (138 | ) | $ | (1,312 | ) | |||
|
Deferred
|
(441 | ) | (397 | ) | (838 | ) | ||||||
| $ | (1,615 | ) | $ | (535 | ) | $ | (2,150 | ) | ||||
|
2008:
|
||||||||||||
|
Current
|
$ | 1,461 | $ | 1,172 | $ | 2,633 | ||||||
|
Deferred
|
(400 | ) | (628 | ) | (1,028 | ) | ||||||
| $ | 1,061 | $ | 544 | $ | 1,605 | |||||||
|
2007:
|
||||||||||||
|
Current
|
$ | 3,640 | $ | 1,507 | $ | 5,147 | ||||||
|
Deferred
|
1,091 | 323 | 1,414 | |||||||||
| $ | 4,731 | $ | 1,830 | $ | 6,561 | |||||||
A
reconciliation of the statutory federal income tax rate to the effective income
tax rate is as follows:
|
Years
Ended December 31,
|
||||||||||||
|
2009
|
2008
|
2007
|
||||||||||
|
Statutory
federal income tax rate
|
34.0 | % | 34.0 | % | 35.0 | % | ||||||
|
State
franchise tax, net of federal income tax benefit
|
7.0 | 7.1 | 7.0 | |||||||||
|
Tax
exempt interest income
|
(0.3 | ) | (0.4 | ) | (0.2 | ) | ||||||
|
Low
Income Housing – federal credits
|
(6.3 | ) | (9.3 | ) | (3.1 | ) | ||||||
|
Other
|
(2.4 | ) | (3.1 | ) | (1.9 | ) | ||||||
| 32.0 | % | 28.3 | % | 36.8 | % | |||||||
92
At
December 31, 2009 the Company has remaining federal net operating loss
carry-forwards totaling $627,000 which expire between 2023 and 2027, and
remaining state net operating loss carry-forwards totaling $5.3 million which
expire between 2015 and 2019.
The
Company periodically reviews its tax positions under the accounting standards
related to uncertainty in income taxes, which defines the criteria that
an individual tax position would have to meet for some or all of the income tax
benefit to be recognized in a taxable entity’s financial statements. Under the
guidelines, an entity should recognize the financial statement benefit of a tax
position if it determines that it is more likely than not that the
position will be sustained on examination. The term, “more likely than not”,
means a likelihood of more than 50 percent. In assessing whether the
more-likely-than-not criterion is met, the entity should assume that the tax
position will be reviewed by the applicable taxing authority and all available
information is known to the taxing authority.
The
Company and a subsidiary file income tax returns in the U.S federal
jurisdiction, and several states within the U.S. There are no filings in foreign
jurisdictions. The Company is not currently aware of any tax jurisdictions where
the Company or any subsidiary is subject examination by federal, state, or local
taxing authorities before 2001. The Internal Revenue Service (IRS) has not
examined the Company’s or any subsidiaries federal tax returns since before
2001, and the Company currently is not aware of any examination planned or
contemplated by the IRS.
During
the second quarter of 2006, the FTB issued the Company a letter of proposed
adjustments to, and assessments for, (as a result of examination of the tax
years 2001 and 2002) certain tax benefits taken by the Bank’s subsidiary REIT
during 2002. The Company continues to review the information available from the
FTB and its financial advisors and believes that the Company's position has
merit. The Company is pursing its tax claims and will defend its use
of these entities and transactions. The Company will continue to assert its
administrative protest and appeal rights pending the outcome of litigation by
another taxpayer presently in process on the REIT issue in the Los Angeles
Superior Court (City National v. Franchise Tax Board).
The
Company again reviewed its REIT tax position as of December 31, 2009. There have
been no changes to the Company’s tax position with regard to the REIT during the
year ended December 31, 2009. The Company had approximately $653,000 and
$566,000 accrued for the payment of interest and penalties at December 31, 2009
and December 31, 2008, respectively. It is the Company’s policy to recognize
interest expense related to unrecognized tax benefits, and penalties, as a
component tax expense. A reconciliation of the beginning and ending amount of
unrecognized tax benefits is as follows (in 000’s):
|
Balance at
January 1, 2009
|
$ | 1,473 | ||
|
Additions
for tax provisions of prior years
|
87 | |||
|
Balance
at December 31, 2009
|
$ | 1,560 |
10.
Stock Based Compensation
Options
have been granted to officers and key employees at an exercise price equal to
estimated fair value at the date of grant as determined by the Board of
Directors. All options granted are service awards, and as such are based solely
upon fulfilling a requisite service period (the vesting period). In May 2005,
the Company’s shareholders approved the adoption of the United Security
Bancshares 2005 Stock Option Plan (2005 Plan). At the same time, all previous
plans, including the 1995 Plan, were terminated. The 2005 Plan provides for the
granting of up to 500,000 shares (adjusted for the 2-for-1 stock split effective
May 2006) of authorized and unissued shares of common stock at option prices per
share which must not be less than 100% of the fair market value per share at the
time each option is granted. The 2005 Plan further provides that the maximum
aggregate number of shares that may be issued as incentive stock options under
the 2005 Plan is 500,000 (as adjusted for stock split).
The
options granted (incentive stock options for employees and non-qualified stock
options for Directors) have an exercise price at the prevailing market price on
the date of grant. All options granted are exercisable 20% each year commencing
one year after the date of grant and expire ten years after the date of
grant.
93
The
number of shares granted remaining under the 1995 Plan was 16,984 shares (16,984
exercisable) as of December 31, 2009. Under the 2005 Plan, 160,820 shares
granted shares remain (152,328 incentive stock options and 8,492 nonqualified
stock options) as of December 31, 2009, of which 110,504 are
vested.
Options
outstanding, exercisable, exercised and forfeited are as follows:
|
Weighted
|
Weighted
|
|||||||||||||||
|
2005
|
Average
|
1995
|
Average
|
|||||||||||||
|
Plan
|
Exercise
Price
|
Plan
|
Exercise
Price
|
|||||||||||||
|
Options
outstanding January 1, 2007
|
171,500 | $ | 17.05 | 126,000 | $ | 7.25 | ||||||||||
|
Granted
during the year
|
5,000 | $ | 20.24 | -- | -- | |||||||||||
|
Exercised
during the year
|
-- | -- | (90,000 | ) | $ | 5.67 | ||||||||||
|
Options
outstanding December 31, 2007
|
176,500 | $ | 17.14 | 36,000 | $ | 11.21 | ||||||||||
|
Granted
during the year
|
-- | -- | -- | -- | ||||||||||||
|
Exercised
during the year
|
-- | -- | (8,000 | ) | $ | 8.75 | ||||||||||
|
Forfeited
during the year
|
(20,000 | ) | $ | 22.54 | (12,000 | ) | $ | 11.53 | ||||||||
|
Effects
of common stock dividend
|
3,145 | $ | (0.31 | ) | 322 | $ | (0.25 | ) | ||||||||
|
Options
outstanding December 31, 2008
|
159,645 | $ | 16.13 | 16,322 | $ | 11.96 | ||||||||||
|
Granted
during the year
|
-- | -- | -- | -- | ||||||||||||
|
Exercised
during the year
|
-- | -- | -- | -- | ||||||||||||
|
Forfeited
during the year
|
(5,308 | ) | $ | 19.07 | -- | -- | ||||||||||
|
Effects
of common stock dividend
|
6,483 | $ | (0.63 | ) | 662 | $ | (0.47 | ) | ||||||||
|
Options
outstanding December 31, 2009
|
160,820 | $ | 15.38 | 16,984 | $ | 11.50 | ||||||||||
Included
in total outstanding options at December 31, 2009, are 16,984 exercisable shares
under the 1995 plan, at a weighted average price of $11.50, and 110,504
exercisable shares under the 2005 plan, at a weighted average price of $15.14.
Included in total outstanding options at December 31, 2008, are 14,282
exercisable shares under the 1995 plan, at a weighted average price of $11.96,
and 75,895 exercisable shares under the 2005 plan, at a weighted average price
of $15.72. Included in total outstanding options at December 31, 2007, are
24,000 exercisable shares under the 1995 plan, at a weighted average price of
$10.74, and 46,700 exercisable shares under the 2005 plan, at a weighted average
price of $16.34.
Additional
information regarding options as of December 31, 2009 is as
follows:
|
Options Outstanding
|
Options Exercisable
|
|||||||||||||||||||||
|
Weighted
Avg
|
||||||||||||||||||||||
|
Range
of
|
Number
|
Remaining
|
Weighted
Avg
|
Number
|
Weighted
Avg
|
|||||||||||||||||
|
Exercise
Prices
|
Outstanding
|
Contract
Life (yrs)
|
Exercise
Price
|
Exercisable
|
Exercise
Price
|
|||||||||||||||||
| $ | 11.50 to $11.92 | 25,476 | 5.3 | $ | 11.64 | 23,353 | $ | 11.61 | ||||||||||||||
| $ | 13.60 to $17.05 | 125,260 | 5.8 | $ | 14.81 | 87,894 | $ | 14.63 | ||||||||||||||
| $ | 18.25 to $21.23 | 27,068 | 6.2 | $ | 19.13 | 16,241 | $ | 19.13 | ||||||||||||||
|
Total
|
177,804 | 127,488 | ||||||||||||||||||||
Included
in salaries and employee benefits for the years ended December 31, 2009, 2008
and 2007 is $53,000, $110,000 and $187,000 of share-based compensation,
respectively. The related tax benefit on share-based compensation recorded in
the provision for income taxes was not material to either year.
As of
December 31, 2008, 2007 and 2006, there was $24,000, $81,000 and $223,500,
respectively, of total unrecognized compensation expense related to non-vested
stock options. This cost is expected to be recognized over a weighted average
period of approximately 1.0 years. No options were exercised during 2009. The
Company received $70,000 and $510,000 in cash proceeds on options exercised
during the years ended December 31, 2008 and 2007. No tax benefits were realized
on stock options exercised during the years ended December 31, 2008 and 2007,
because all options exercised during the period were incentive stock
options.
94
|
Year
Ended
|
Year
Ended
|
|||||||
|
December
31, 2009
|
December
31, 2008
|
|||||||
|
Weighted
average grant-date fair value of stock options granted
|
n/a | n/a | ||||||
|
Total
fair value of stock options vested
|
$ | 147,297 | $ | 173,393 | ||||
|
Total
intrinsic value of stock options exercised
|
n/a | $ | 55,000 | |||||
The Bank
determines fair value at grant date using the Black-Scholes-Merton pricing model
that takes into account the stock price at the grant date, the exercise price,
the expected life of the option, the volatility of the underlying stock and the
expected dividend yield and the risk-free interest rate over the expected life
of the option.
The
weighted average assumptions used in the pricing model are noted in the table
below. The expected term of options granted is derived using the simplified
method, which is based upon the average period between vesting term and
expiration term of the options. The risk free rate for periods within the
contractual life of the option is based on the U.S. Treasury yield curve in
effect at the time of the grant. Expected volatility is based on the historical
volatility of the Bank's stock over a period commensurate with the expected term
of the options. The Company believes that historical volatility is indicative of
expectations about its future volatility over the expected term of the
options.
For
options valued in accordance with current accounting standards, the Bank
expenses the fair value of the option on a straight-line basis over the vesting
period for each separately vesting portion of the award. The Bank estimates
forfeitures and only recognizes expense for those shares expected to vest. Based
upon historical evidence, the Company has determined that because options are
granted to a limited number of key employees rather than a broad segment of the
employee base, expected forfeitures, if any, are not material. No options were
granted during the years ended December 31, 2009 or December 31,
2008.
The
Black-Scholes-Merton option valuation model requires the input of highly
subjective assumptions, including the expected life of the stock based award and
stock price volatility. The assumptions listed above represent management's best
estimates, but these estimates involve inherent uncertainties and the
application of management judgment. As a result, if other assumptions had been
used, the Bank's recorded stock-based compensation expense could have been
materially different from that previously reported in proforma disclosures. In
addition, the Bank is required to estimate the expected forfeiture rate and only
recognize expense for those shares expected to vest. If the Bank's actual
forfeiture rate is materially different from the estimate, the share-based
compensation expense could be materially different.
11.
Employee Benefit Plans
Employee Stock Ownership
Plan
The
Company has an Employee Stock Ownership Plan and Trust, (the “ESOP”), designed
to enable eligible employees to acquire shares of common stock. ESOP
eligibility is based upon length of service requirements. The Bank
contributes cash to the ESOP in an amount determined at the discretion of the
Board of Directors. The trustee of the ESOP uses such contribution to
purchase shares of common stock currently outstanding, or to repay debt on the
leveraged portion of the ESOP, if applicable. The shares of stock
purchased by the trustee are then allocated to the accounts of the employees
participating in the ESOP on the basis of total relative compensation. Employer
contributions vest over a period of six years.
The
Company did not make a contribution to the ESOP during 2009 and therefore had no
ESOP compensation expense during the year ended December 31, 2009. ESOP
compensation expense totaled $264,000 and $501,000 for the years ended
December 31, 2008 and 2007.
Allocated,
committed-to-be-released, and unallocated ESOP shares as of December 31, 2009,
2008 and 2007 were as follows (shares adjusted for 2-for-1 stock split of May
2006):
|
2009
|
2008
|
2007
|
||||||||||
|
Allocated
|
580,430 | 548,369 | 552,692 | |||||||||
|
Committed-to-be-released
|
0 | 0 | 0 | |||||||||
|
Unallocated
|
0 | 0 | 0 | |||||||||
|
Total
ESOP shares
|
580,430 | 548,369 | 552,692 | |||||||||
|
Fair
value of unreleased shares
|
N/A | N/A | N/A | |||||||||
95
401K
Plan
The
Company has a Cash or Deferred 401(k) Stock Ownership Plan (the “401(k) Plan”)
organized under Section 401(k) of the Code. All employees of the
Company are initially eligible to participate in the 401(k) Plan upon the first
day of the month after date of hire. Under the terms of the plan, the
participants may elect to make contributions to the 401(k) Plan as determined by
the Board of Directors. Participants are automatically vested 100% in
all employee contributions. Participants may direct the investment of their
contributions to the 401(k) Plan in any of several authorized investment
vehicles. The Company contributes funds to the Plan up to 5% of the employees’
eligible annual compensation. Company contributions are subject to certain
vesting requirements over a period of six years. Contributions made by the
Company are invested in Company stock. During 2009, the Company made
no matching contribution to the Deferral Plan. During 2008 and 2007, the Company
contributed a total of $137,000 and $286,000 to the Deferral
Plan.
Salary Continuation
Plan
The
Company has an unfunded, non-qualified Salary Continuation Plan for senior
executive officers and certain other key officers of the Company, which provides
additional compensation benefits upon retirement for a period of 15 years.
Future compensation under the Plan is earned by the employees for services
rendered through retirement and vests over a period of 12 to 15 years. The
Company accrues for the salary continuation liability based on anticipated years
of service and vesting schedules provided under the Plan. The Company’s current
benefit liability is determined based upon vesting and the present value of the
benefits at a corresponding discount rate. The discount rate used is an
equivalent rate for high-quality investment-grade bonds with lives matching
those of the service periods remaining for the salary continuation contracts,
which averages approximately 20 years. At December 31, 2009 and 2008, $3.6
million and $3.3 million, respectively, had been accrued to date, based on a
discounted cash flow using an average discount rate of 4.72% and 6.10%,
respectively, and is included in other liabilities. In connection with the
implementation of the Salary Continuation Plans, the Company purchased single
premium universal life insurance policies on the life of each of the key
employees covered under the Plan. The Company is the owner and beneficiary of
these insurance policies. The cash surrender value of the policies was $4.0
million and $3.8 million December 31, 2009 and 2008, respectively. Although the
Plan is unfunded, the Company intends to utilize the proceeds of such policies
to settle the Plan obligations. Under Internal Revenue Service regulations, the
life insurance policies are the property of the Company and are available to
satisfy the Company's general creditors.
Pursuant
to the guidance contained in ASC Topic 715 “Compensation,” the Company is required to
recognize in accumulated other comprehensive (loss) income, the amounts
that have not yet been recognized as components of net periodic benefit costs.
These unrecognized costs arise from of changes in estimated interest rates used
in the calculation of net liabilities under the plan.
As of
December 31, 2009 and 2008, the Company had approximately $158,000 in
unrecognized net periodic benefit costs, and $13,000 in excess net periodic
benefit costs, respectively, arising from changes in interest rates used in
calculating the current post-retirement liability required under the plan. This
amount represents the difference between the plan liabilities calculated under
net present value calculations, and the net plan liabilities actually recorded
on the Company’s books at December 31, 2009 and 2008. Pursuant to the adoption
of the guidance contained in ASC Topic 715, the Company recorded $169,000 (net
of tax of $112,000), as a component of other comprehensive (loss) income at
December 31, 2006. The average remaining life of the service terms of the Salary
Continuation contracts to which the unrecognized service costs related at the
time of adoption, was approximately two years. During the year ended December
31, 2008, approximately $142,000 of the unrecognized prior service cost was
recognized in earnings as additional salary expense, and is reflected as an
adjustment to accumulated other comprehensive income.
Salary
continuation expense is included in salaries and benefits expense, and totaled
$78,000, $551,000, and $504,000 for the years ended December 31, 2009, 2008, and
2007, respectively.
Officer Supplemental Life
Insurance Plan
The
Company owns single premium Bank-owned life insurance policies (BOLI) on certain
officers with a portion of the death benefits available to the officers’
beneficiaries. The single premium paid in previous years at policy
commencement of the BOLI totaled $9.0 million. Additional BOLI policies totaling
$227,000 and $579,000 were purchased during 2006 and 2005, respectively. The
BOLI’s initial net cash surrender value is equivalent to the premium paid, and
it adds income through non-taxable increases in its cash surrender value, net of
the cost of insurance, plus any death benefits ultimately received by the
Company. The cash surrender value of these insurance policies totaled $11.0
million and $10.6 million at December 31, 2009 and December 31, 2008, and
is included on the consolidated balance sheet in cash surrender value of life
insurance. Income on these policies, net of expense, totaled approximately
$398,000, $249,000, and $408,000 for the years ended December 31, 2009,
2008 and 2007, respectively.
96
12.
Commitments and Contingent Liabilities
Lease Commitments: The
Company leases land and premises for its branch banking offices and
administration facilities. The initial terms of these leases expire at various
dates through 2019. Under the provisions of most of these leases, the Company
has the option to extend the leases beyond their original terms at rental rates
adjusted for changes reported in certain economic indices or as reflected by
market conditions. The total expense on land and premises leased under operating
leases was $852,000, $864,000, and $877,000 during 2009, 2008, and 2007,
respectively. Total rent expense for the years ended December 31, 2009 and 2008
included approximately $8,000 in reductions, and $27,000 in increases,
respectively, related to adjustments made pursuant to ASC Topic 840, “Leases”.
During
the fourth quarter of 2007 the Company reviewed accounting methods for recording
rent expense under operating leases pursuant to current accounting guidance. The
Company had previously recognized periodic rent expense as those contractual
rent payments became payable to the lessor, rather than on a straight-line basis
throughout the life of the lease. The difference in methodology was not
previously considered material, but as the Company has grown, it was determined
that adjustments should be made to properly comply with current accounting
guidance. The expense adjustment to record the difference between the
contractual rental payment amounts and straight-line expense over the lease
terms as applicable totaled $165,000 ($95,000 net of tax, and less than $0.01
per share) and was recorded as a liability as of December 31, 2007. Adjustments
made during 2008 increased the liability to $191,000 at December 31, 2008, and
then adjustments made during 2009 decreased the liability to $184,000 at
December 31, 2009. This timing difference will continue to decline over the
remaining term of the Company’s leases through 2019.
Future
minimum rental commitments under existing non-cancelable leases as of December
31, 2009 are as follows:
|
(In
thousands):
|
||||
|
2010
|
$ | 713 | ||
|
2011
|
389 | |||
|
2012
|
392 | |||
|
2013
|
396 | |||
|
2014
|
347 | |||
|
Thereafter
|
661 | |||
| $ | 2,898 | |||
Financial Instruments with
Off-Balance Sheet Risk: The Company is party to financial instruments
with off-balance sheet risk which arise in the normal course of business. These
instruments may contain elements of credit risk, interest rate risk and
liquidity risk, and include commitments to extend credit and standby letters of
credit. The credit risk associated with these instruments is essentially the
same as that involved in extending credit to customers and is represented by the
contractual amount indicated in the table below:
|
Contractual
amount – December 31,
|
||||||||
|
(in
thousands)
|
2009
|
2008
|
||||||
|
Commitments
to extend credit
|
$ | 84,017 | $ | 112,278 | ||||
|
Standby
letters of credit
|
3,975 | 7,119 | ||||||
Commitments
to extend credit are agreements to lend to a customer, as long as there is no
violation of any condition established in the contract. Substantially all of
these commitments are at floating interest rates based on the Prime rate, and
most have fixed expiration dates. The Company evaluates each customer's
creditworthiness on a case-by-case basis, and the amount of collateral obtained,
if deemed necessary, is based on management's credit evaluation. Collateral held
varies but includes accounts receivable, inventory, leases, property, plant and
equipment, residential real estate and income-producing properties. Many of the
commitments are expected to expire without being drawn upon and, as a result,
the total commitment amounts do not necessarily represent future cash
requirements of the Company.
97
Standby
letters of credit are generally unsecured and are issued by the Company to
guarantee the performance of a customer to a third party. The credit risk
involved in issuing letters of credit is essentially the same as that involved
in extending loans to customers. The Company’s letters of credit are short-term
guarantees and have terms from less than one month to approximately 2.5 years.
At December 31, 2009, the maximum potential amount of future undiscounted
payments the Company could be required to make under outstanding standby letters
of credit totaled $4.0 million.
13.
Fair Value Measurements and Disclosure
The
following summary disclosures are made in accordance with the accounting
standards related to fair value measurements and disclosure, which requires the
disclosure of fair value information about both on- and off- balance sheet
financial instruments where it is practicable to estimate that
value.
|
December
31, 2009
|
December
31, 2008
|
|||||||||||||||
|
Estimated
|
Estimated
|
|||||||||||||||
|
Carrying
|
Fair
|
Carrying
|
Fair
|
|||||||||||||
|
(In
thousands)
|
Amount
|
Value
|
Amount
|
Value
|
||||||||||||
|
Financial
Assets:
|
||||||||||||||||
|
Cash
and cash equivalents
|
$ | 17,644 | $ | 17,644 | $ | 19,426 | $ | 19,426 | ||||||||
|
Interest-bearing
deposits
|
3,313 | 3,449 | 20,431 | 20,490 | ||||||||||||
|
Investment
securities
|
71,411 | 71,411 | 92,749 | 92,749 | ||||||||||||
|
Loans,
net
|
507,708 | 496,543 | 548,742 | 539,540 | ||||||||||||
|
Cash
surrender value of life insurance
|
14,972 | 14,972 | 14,460 | 14,460 | ||||||||||||
|
Investment
in bank stock
|
143 | 143 | 121 | 121 | ||||||||||||
|
Financial
Liabilities:
|
||||||||||||||||
|
Deposits
|
561,660 | 561,150 | 508,486 | 507,847 | ||||||||||||
|
Borrowings
|
40,000 | 39,970 | 155,045 | 154,689 | ||||||||||||
|
Junior
Subordinated Debt
|
10,716 | 10,716 | 11,926 | 11,926 | ||||||||||||
|
Commitments
to extend credit
|
-- | -- | -- | -- | ||||||||||||
|
Standby
letters of credit
|
-- | -- | -- | -- | ||||||||||||
Current
accounting standards clarify the definition of fair value, describe methods
generally used to appropriately measure fair value in accordance with generally
accepted accounting principles and expand fair value disclosure requirements.
Fair value is defined as the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between market
participants at the measurement date. The statement applies whenever other
accounting pronouncements require or permit fair value
measurements.
The fair
value hierarchy under current accounting guidance prioritizes the inputs to
valuation techniques used to measure fair value into three broad levels (Level
1, Level 2, and Level 3). Level 1 inputs are unadjusted quoted p*rices in active
markets (as defined) for identical assets or liabilities that the Company has
the ability to access at the measurement date. Level 2 inputs are inputs other
than quoted prices included within Level 1 that are observable for the asset or
liability, either directly or indirectly. Level 3 inputs are unobservable inputs
for the asset or liability, and reflect the Company’s own assumptions about the
assumptions that market participants would use in pricing the asset or liability
(including assumptions about risk) in a principal market.
The
Company performs fair value measurements on certain assets and liabilities as
the result of the application of accounting guidelines and pronouncements that
were relevant prior to the adoption of accounting standards related to fair
value measurements. Some fair value measurements, such as for available-for-sale
securities, junior subordinated debt, impaired loans that are collateral
dependent, and interest rate swaps, are performed on a recurring basis, while
others, such as impairment of goodwill and other intangibles, are performed on a
nonrecurring basis.
The
following tables summarize the Company’s assets and liabilities that were
measured at fair value on a recurring and non-recurring basis as of December 31,
2009 (in 000’s):
|
December 31,
|
Quoted
Prices in Active Markets for Identical Assets
|
Significant
Other Observable Inputs
|
Significant
Unobservable Inputs
|
|||||||||||||
|
Description
of Assets
|
2009
|
(Level
1)
|
(Level
2)
|
(Level
3)
|
||||||||||||
|
AFS
securities (1)
|
$ | 71,554 | $ | 8,648 | $ | 53,192 | $ | 9,714 | ||||||||
|
Impaired
loans
|
18,347 | 1,976 | 16,371 | |||||||||||||
|
Goodwill
|
5,764 | 5,764 | ||||||||||||||
|
Core
deposit intangible (2)
|
777 | 777 | ||||||||||||||
|
Total
|
$ | 96,442 | $ | 8,648 | $ | 55,168 | $ | 32,626 | ||||||||
|
(1)
|
Includes
$143 in equity securities reported in other
assets
|
|
(2)
|
Nonrecurring
items
|
|
December 31,
|
Quoted
Prices in Active Markets for Identical Assets
|
Significant
Other Observable Inputs
|
Significant
Unobservable Inputs
|
|||||||||||||
|
Description
of Liabilities
|
2009
|
(Level
1)
|
(Level
2)
|
(Level
3)
|
||||||||||||
|
Junior
subordinated debt
|
$ | 10,716 | $ | 10,716 | ||||||||||||
|
Total
|
$ | 10,716 | $ | 0 | $ | 0 | $ | 10,716 | ||||||||
The
following tables summarize the Company’s assets and liabilities that were
measured at fair value on a recurring and non-recurring basis as of December 31,
2008 (in 000’s):
|
December 31,
|
Quoted
Prices in Active Markets for Identical Assets
|
Significant
Other Observable Inputs
|
Significant
Unobservable Inputs
|
|||||||||||||
|
Description
of Assets
|
2008
|
(Level
1)
|
(Level
2)
|
(Level
3)
|
||||||||||||
|
AFS
securities
|
$ | 92,749 | $ | 13,017 | $ | 66,932 | $ | 12,800 | ||||||||
|
Investment
in bank stock
|
121 | 121 | ||||||||||||||
|
Purchased
intangible asset (1)
|
206 | $ | 206 | |||||||||||||
|
Impaired
loans
|
22,452 | 4,602 | $ | 17,850 | ||||||||||||
|
Core
deposit intangible (1)
|
1,283 | $ | 1,283 | |||||||||||||
|
Total
|
$ | 116,811 | $ | 13,138 | $ | 71,534 | $ | 32,139 | ||||||||
|
(1)
|
Nonrecurring
items
|
|
December 31,
|
Quoted
Prices in Active Markets for Identical Assets
|
Significant
Other Observable Inputs
|
Significant
Unobservable Inputs
|
|||||||||||||
|
Description
of Liabilities
|
2008
|
(Level
1)
|
(Level
2)
|
(Level
3)
|
||||||||||||
|
Junior
subordinated debt
|
$ | 11,926 | $ | 11,926 | ||||||||||||
|
Total
|
$ | 11,926 | $ | 0 | $ | 0 | $ | 11,926 | ||||||||
Upon
adoption of the fair value option on January 1, 2007, the Company elected the
fair value measurement option for all the Company’s pre-existing junior
subordinated debentures, and subsequently for new junior subordinated debentures
issued during July 2007 under USB Capital Trust II. The fair value of the
debentures was determined based upon discounted cash flows utilizing observable
market rates and credit characteristics for similar instruments. In its
analysis, the Company used characteristics that distinguish market participants
generally use, and considered factors specific to (a) the liability, (b) the
principal (or most advantageous) market for the liability, and (c) market
participants with whom the reporting entity would transact in that market. The
adjustment for fair value at adoption was recorded as a cumulative-effect
adjustment to the opening balance of retained earnings at January 1, 2007. Fair
value adjustments subsequent to adoption were recorded in current
earnings.
98
The
Company completed its merger with Legacy Bank in February 2007. The merger
transaction was accounted for using the purchase accounting method, and resulted
in the purchase price being allocated to the assets acquired and liabilities
assumed from Legacy Bank based on the fair value of those assets and
liabilities. The allocations of purchase price based upon the fair value of
assets acquired and liabilities assumed were finalized during the fourth quarter
of 2007. The fair value measurements for Legacy’s loan portfolio included
certain market rate assumptions on segmented portions of the loan portfolio with
similar credit characteristics, and credit risk assumptions specific to the
individual loans within that portfolio. Available-for sale securities were
valued based upon open-market quotes obtained from third-party sources. Legacy’s
deposits were valued based upon anticipated net present cash flows related to
Legacy’s deposit base, and resulted in a core deposit intangible (CDI)
adjustment of $3.0 million that is carried as an asset on the Company’s balance
sheet. Assumptions used to determine the CDI included anticipated costs of, and
revenues generated by, those deposits, as well as the estimated life of the
deposit base. Other assets and liabilities generally consist of short-term items
including cash, overnight investments, and accrued interest receivable or
payable, and as such, it was determined that carrying value approximated fair
value.
The
following tables provide a reconciliation of assets and liabilities at fair
value using significant unobservable inputs (Level 3) on both a recurring and
nonrecurring basis during the period (in 000’s):
|
12/31/09
|
12/31/09
|
12/31/09
|
12/31/09
|
12/31/08
|
12/31/08
|
12/31/08
|
||||||||||||||||||||||
|
Reconciliation of Assets:
|
Impaired
loans
|
CMO’s
|
Goodwill
|
Intangible
assets
|
Impaired
loans
|
CMO’s
|
Intangible
assets
|
|||||||||||||||||||||
|
Beginning
balance
|
$ | 15,967 | $ | 12,800 | $ | 8790 | $ | 1,283 | $ | 2,211 | $ | 0 | $ | 0 | ||||||||||||||
|
Total
gains or (losses) included in earnings (or changes in net
assets)
|
(8,092 | ) | (3,086 | ) | (3,026 | ) | (506 | ) | (386 | ) | (4,951 | ) | (624 | ) | ||||||||||||||
|
Transfers
in and/or out of Level 3
|
8,946 | 0 | 0 | 0 | 14,142 | 17,751 | 1,907 | |||||||||||||||||||||
|
Ending
balance
|
$ | 16,371 | $ | 9,714 | $ | 5,764 | $ | 777 | $ | 15,967 | $ | 12,800 | $ | 1,283 | ||||||||||||||
|
The
amount of total gains or (losses) for the period included in earnings (or
changes in net assets) attributable to the change in unrealized gains or
losses relating to assets still held at the reporting date
|
$ | (2,589 | ) | $ | (3,086 | ) | $ | (3,026 | ) | $ | (506 | ) | $ | (3,168 | ) | $ | (4,951 | ) | $ | (624 | ) | |||||||
|
12/31/2009
|
12/31/2008
|
|||||||
|
Reconciliation of
Liabilities:
|
Junior
Subordinated Debt
|
Junior
Subordinated Debt
|
||||||
|
Beginning
balance
|
$ | 11,926 | $ | 0 | ||||
|
Total
gains included in earnings (or changes in net assets)
|
(1,210 | ) | (1,363 | ) | ||||
|
Transfers
in and/or out of Level 3
|
0 | 13,289 | ||||||
|
Ending
balance
|
$ | 10,716 | $ | 11,926 | ||||
|
The
amount of total gains for the period included in earnings (or changes in
net assets) attributable to the change in unrealized gains or losses
relating to liabilities still held at the reporting date
|
$ |
(1,210
|
$ |
(1,363)
|
||||
The
following methods and assumptions were used in estimating the fair values of
financial instruments:
Cash and Cash
Equivalents - The carrying amounts reported in the balance sheets for
cash and cash equivalents approximate their estimated fair values.
99
Interest-bearing
Deposits – Interest bearing deposits in other banks consist of fixed-rate
certificates of deposits. Accordingly, fair value has been estimated based upon
interest rates currently being offered on deposits with similar characteristics
and maturities.
Investments
– Available for sale securities are valued based upon open-market price
quotes obtained from reputable third-party brokers that actively make a market
in those securities. Market pricing is based upon specific CUSIP identification
for each individual security. To the extent there are observable prices in the
market, the mid-point of the bid/ask price is used to determine fair value of
individual securities. If that data are not available for the last 30 days, a
Level 2-type matrix pricing approach based on comparable securities in the
market is utilized. Level-2 pricing may include using a spread forward from the
last observable trade or may use a proxy bond like a TBA mortgage to come up
with a price for the security being valued. Changes in fair market value are
recorded in other comprehensive loss as the securities are available for sale.
At December 31, 2009 and December 31, 2008, the Company held three
non-agency (private-label) collateralized mortgage obligations (CMO’s). Fair
value of these securities (as well as review for other-than-temporary
impairment) was performed by a third-party securities broker specializing in
CMO’s. Fair value was based upon estimated cash flows which included assumptions
about future prepayments, default rates, and the impact of credit risk on this
type of investment security. Although the pricing of the CMO’s has certain
aspects of Level 2 pricing, many of the pricing inputs are based upon
unobservable assumptions of future economic trends and as a result the Company
considers this to be Level 3 pricing.
Loans -
Fair values of variable rate loans, which reprice frequently and with no
significant change in credit risk, are based on carrying values. Fair
values for all other loans, except impaired loans, are estimated using
discounted cash flows over their remaining maturities, using interest rates at
which similar loans would currently be offered to borrowers with similar credit
ratings and for the same remaining maturities.
Impaired
Loans - Fair value measurements for impaired loans are performed pursuant
to the criteria defined in the Receivables Topic of the FASB ASC, which was
originally issued /under SFAS No. 114, and are based upon either collateral
values supported by appraisals, or observed market prices when reasonable. In
severe economic downturns and distressed markets where appraisals or observed
market prices are not reasonable, management must use judgment and unobservable
inputs to aid in the valuations of impaired loans. Changes are not recorded
directly as an adjustment to current earnings or comprehensive income, but
rather as an adjustment component in determining the overall adequacy of the
loan loss reserve. Such adjustments to the estimated fair value of impaired
loans may result in increases or decreases to the provision for credit losses
recorded in current earnings.
Bank-owned Life
Insurance – Fair values of life insurance policies owned by the Company
approximate the insurance contract’s cash surrender value.
Investment in
limited partnerships – Investment in limited partnerships which invest in
qualified low-income housing projects generate tax credits to the Company. The
investment is amortized using the effective yield method based upon the
estimated remaining utilization of low-income housing tax credits. The Company’s
carrying value approximates fair value.
Investments
in Bank Stock – Investment in
Bank equity securities is classified as available for sale and is valued based
upon open-market price quotes obtained from an active stock exchange. Changes in
fair market value are recorded in other comprehensive income.
Deposits –
In accordance with ASC Topic 820 (formerly SFAS No. 107), fair values for
transaction and savings accounts are equal to the respective amounts payable on
demand at December 31, 2009 and December 31, 2008 (i.e., carrying amounts). The
Company believes that the fair value of these deposits is clearly greater than
that prescribed by ASC Topic 820. Fair values of fixed-maturity certificates of
deposit were estimated using the rates currently offered for deposits with
similar remaining maturities.
Borrowings
- Borrowings consist of federal funds sold, securities sold under agreements to
repurchase, and other short-term borrowings. Fair values of borrowings were
estimated using the rates currently offered for borrowings with similar
remaining maturities.
Junior
Subordinated Debt – The fair value of the junior subordinated debt was
determined based upon a valuation discounted cash flows model utilizing
observable market rates and credit characteristics for similar instruments. In
its analysis, the Company used characteristics that distinguish market
participants generally use, and considered factors specific to (a) the
liability, (b) the principal (or most advantageous) market for the liability,
and (c) market participants with whom the reporting entity would transact in
that market. For the periods presented, cash flows were discounted
at a rate which incorporates a current market rate for similar-term debt
instruments, adjusted for additional credit and liquidity risks associated with
the junior subordinated debt. The Company believes the inputs to the
model are subjective enough to the fair value determination of the junior
subordinated debt to make them Level 3 inputs.
100
Off-balance sheet
Instruments - Off-balance sheet instruments consist of commitments to
extend credit, standby letters of credit and derivative contracts. The contract
amounts of commitments to extend credit and standby letters of credit are
disclosed in Note 12. Fair values of commitments to extend credit are estimated
using the interest rate currently charged to enter into similar agreements,
taking into account the remaining terms of the agreements and the present
counterparties’ credit standing. There was no material difference between the
contractual amount and the estimated value of commitments to extend credit at
December 31, 2009 and 2008.
Fair
values of standby letters of credit are based on fees currently charged for
similar agreements. The fair value of commitments generally approximates the
fees received from the customer for issuing such commitments. These fees are
deferred and recognized over the term of the commitment, and are not material to
the Company’s consolidated balance sheet and results of operations.
14.
Regulatory Matters
Capital
Guidelines - The
Company (on a consolidated basis) and the Bank are subject to various regulatory
capital requirements adopted by the Board of Governors of the Federal Reserve
System (“Board of Governors”). Failure to meet minimum capital
requirements can initiate certain mandates and possible additional discretionary
actions by regulators that, if undertaken, could have a direct material effect
on the Company’s consolidated financial statements. Under capital
adequacy guidelines and the regulatory framework for prompt corrective action,
the consolidated Company and the Bank must meet specific capital guidelines that
involve quantitative measures of their assets, liabilities, and certain
off-balance sheet items as calculated under regulatory accounting practices. The
capital amounts and classification are also subject to qualitative judgments by
the regulators about components, risk weightings, and other factors. Prompt
corrective action provisions are not applicable to bank holding companies. On
March 23, 2010, the Company and the Bank entered into a regulatory agreement
with the Federal Reserve Bank, which includes, among other things, a requirement
to submit to the Federal Reserve, a written plan to maintain sufficient capital
at both the Company and the Bank. Management fully expects to comply with this
requirement of the agreement.
Quantitative
measures established by regulation to ensure capital adequacy require insured
institutions to maintain a minimum leverage ratio of Tier 1 capital (the sum of
common stockholders' equity, noncumulative perpetual preferred stock and
minority interests in consolidated subsidiaries, minus intangible assets,
identified losses and investments in certain subsidiaries, plus unrealized
losses or minus unrealized gains on available for sale securities) to total
assets. Institutions which have received the highest composite regulatory rating
and which are not experiencing or anticipating significant growth are required
to maintain a minimum leverage capital ratio of 3% of Tier 1 capital to total
assets. All other institutions are required to maintain a minimum leverage
capital ratio of at least 100 to 200 basis points above the 3% minimum
requirement.
|
To
Be Well Capitalized Under
|
||||||||||||||||||||||||
|
For
Capital
|
Prompt
Corrective
|
|||||||||||||||||||||||
|
Actual
|
Adequacy
Purposes
|
Action
Provisions
|
||||||||||||||||||||||
|
(In
thousands)
|
Amount
|
Ratio
|
Amount
|
Ratio
|
Amount
|
Ratio
|
||||||||||||||||||
|
As of
December 31, 2009 (Company):
|
||||||||||||||||||||||||
|
Total
Capital (to Risk Weighted Assets)
|
$ | 91,213 | 14.30 | % | $ | 51,037 | 8.00 | % | N/A | N/A | ||||||||||||||
|
Tier
1 Capital (to Risk Weighted Assets)
|
83,149 | 13.03 | % | 25,519 | 4.00 | % | N/A | N/A | ||||||||||||||||
|
Tier
1 Capital ( to Average Assets)
|
83,149 | 11.68 | % | 28,471 | 4.00 | % | N/A | N/A | ||||||||||||||||
|
As of
December 31, 2009 (Bank):
|
||||||||||||||||||||||||
|
Total
Capital (to Risk Weighted Assets)
|
$ | 87,456 | 13.70 | % | $ | 51,082 | 8.00 | % | $ | 63,852 | 10.00 | % | ||||||||||||
|
Tier
1 Capital (to Risk Weighted Assets)
|
79,649 | 12.47 | % | 25,541 | 4.00 | % | 38,311 | 6.00 | % | |||||||||||||||
|
Tier
1 Capital ( to Average Assets)
|
79,649 | 11.19 | % | 28,471 | 4.00 | % | 35,588 | 5.00 | % | |||||||||||||||
|
As of
December 31, 2008 -
(Company):
|
||||||||||||||||||||||||
|
Total
Capital (to Risk Weighted Assets)
|
$ | 89,769 | 13.23 | % | $ | 54,293 | 8.00 | % | N/A | N/A | ||||||||||||||
|
Tier
1 Capital (to Risk Weighted Assets)
|
81,225 | 11.97 | % | 27,146 | 4.00 | % | N/A | N/A | ||||||||||||||||
|
Tier
1 Capital ( to Average Assets)
|
81,225 | 10.58 | % | 23,022 | 3.00 | % | N/A | N/A | ||||||||||||||||
|
As of
December 31, 2008 –
(Bank):
|
||||||||||||||||||||||||
|
Total
Capital (to Risk Weighted Assets)
|
$ | 86,161 | 12.61 | % | $ | 54,680 | 8.00 | % | $ | 68,351 | 10.00 | % | ||||||||||||
|
Tier
1 Capital (to Risk Weighted Assets)
|
78,234 | 11.45 | % | 27,340 | 4.00 | % | 41,010 | 6.00 | % | |||||||||||||||
|
Tier
1 Capital ( to Average Assets)
|
78,234 | 10.44 | % | 22,479 | 3.00 | % | 37,466 | 5.00 | % | |||||||||||||||
101
The Board
of Governors has also adopted a statement of policy, supplementing its leverage
capital ratio requirements, which provides definitions of qualifying total
capital (consisting of Tier 1 capital and supplementary capital, including the
allowance for loan losses up to a maximum of 1.25% of risk-weighted assets) and
sets forth minimum risk-based capital ratios of capital to risk-weighted assets.
Insured institutions are required to maintain a ratio of qualifying total
capital to risk weighted assets of 8%, at least one-half of which must be in the
form of Tier 1 capital.
The Bank
has agreed with the California Department of Financial Institutions, to maintain
Tier I capital and leverage ratios that are at or in excess of 9.00%. In
addition, the Bank has agreed to maintain total risk-based capital ratios at or
in excess of 10.00% (at or above “Well Capitalized” levels as defined.) The
Company is not subject to “Well Capitalized” guidelines under regulatory Prompt
Corrective Action Provisions. Management believes, as of December 31, 2009, that
the Company and the Bank meet all capital adequacy requirements to which they
are subject.
As of
December 31, 2009 and 2008, the most recent notifications from the Bank’s
regulators categorized the Bank as well-capitalized under the regulatory
framework for prompt corrective action. To be categorized as
well-capitalized, the Bank must maintain minimum total capital and Tier 1
capital (as defined) to risk-based assets (as defined), and a minimum leverage
ratio of Tier 1 capital to average assets (as defined) as set forth in the
proceeding discussion. There are no conditions or events since the
notification that management believes have changed the institution’s
category.
Under
regulatory guidelines, the $15 million in Trust Preferred Securities issued by
USB Capital Trust II in July of 2008 qualifies as Tier 1 capital up to 25% of
Tier 1 capital. Any additional portion of Trust Preferred Securities qualifies
as Tier 2 capital.
Dividends – Cash
dividends, if any, paid to shareholders are paid by the bank holding company,
subject to restrictions set forth in the California General Corporation Law. All
dividends declared during 2009 were in the form of stock dividends rather than
cash dividends.
The
primary source of funds with which cash dividends are paid to shareholders comes
from cash dividends received by the Company from the Bank. For the year ended
December 31, 2009, the Company received $200,000 in cash dividends from the
Bank, from which the Company paid $11,000 in cash dividends to shareholders as a
result of cash-in-lieu payments on stock dividends declared. Because the
distributions made by the Bank to the Company over the past three fiscal years
equal the amount of the Bank’s net income for the last three years, at December
31, 2008, the Bank had been required during 2009 to gain approval of the
California State Department of Financial Institutions before paying dividends to
the holding company. During the last three quarters of 2009, the Bank
had been precluded from paying cash dividends to the Company. Pursuant to
an agreement with the Federal Reserve Bank, the Bank may not pay dividends to
the Company without prior approval.
Under
California state banking law, the Bank may not pay cash dividends in an amount
which exceeds the lesser of the retained earnings of the Bank or the Bank’s net
income for the last three fiscal years (less the amount of distributions to
shareholders during that period of time). If the above test is not met, cash
dividends may only be paid with the prior approval of the California State
Department of Financial Institutions, in an amount not exceeding the greater of:
(i) the Bank’s retained earnings; (ii) its net income for the last fiscal year;
or (iii) its net income for the current fiscal year.
Cash Restrictions -
The Bank is required to maintain average reserve balances with the Federal
Reserve Bank. In prior years, the Company implemented a deposit reclassification
program, which allows the Company to reclassify a portion of transaction
accounts to non-transaction accounts for reserve purposes. The deposit
reclassification program was provided by a third-party vendor, and has been
approved by the Federal Reserve Bank. At both December 31, 2009 and 2008, the
Bank’s qualifying balance with the Federal Reserve Bank was $25,000 consisting
of vault cash and balances.
102
15.
Supplemental Cash Flow Disclosures
|
Years
Ended December 31,
|
||||||||||||
|
(In
thousands)
|
2009
|
2008
|
2007
|
|||||||||
|
Cash
paid during the period for:
|
||||||||||||
|
Interest
|
$ | 7,599 | $ | 16,193 | $ | 21,147 | ||||||
|
Income
Taxes
|
465 | 2,219 | 6,411 | |||||||||
|
Noncash
investing activities:
|
||||||||||||
|
Loans
transferred to foreclosed property
|
19,986 | 28,543 | 7,837 | |||||||||
|
Dividends
declared not paid
|
0 | 5 | 1,483 | |||||||||
|
Supplemental
disclosures related to acquisitions:
|
||||||||||||
|
Deposits
|
-- | -- | 69,600 | |||||||||
|
Other
liabilities
|
-- | -- | 286 | |||||||||
|
Securities
available for sale
|
-- | -- | (7,414 | ) | ||||||||
|
Loans,
net of allowance for loan loss
|
-- | -- | (62,426 | ) | ||||||||
|
Premises
and equipment
|
-- | -- | (728 | ) | ||||||||
|
Intangibles
|
-- | -- | (11,085 | ) | ||||||||
|
Accrued
interest and other assets
|
-- | -- | (3,396 | ) | ||||||||
|
Stock
issued
|
-- | -- | 21,536 | |||||||||
|
Net
cash and equivalents acquired
|
-- | -- | 6,373 | |||||||||
16.
Common Stock Dividend
The
Company declared one-percent (1%) common stock dividends during each of the four
quarters ended December 31, 2009, September 30, 2009, June 30, 2009, and March
31, 2009. All 1% stock dividends were considered “small stock dividends”
resulting in a transfer between retained earnings and common stock an amount
equal to the number of shares issued in the stock dividend multiplied by the
stock’s closing price at the date of declaration. Other than for
earnings-per-share calculations, shares issued for the stock dividend have been
treated prospectively for financial reporting purposes. For purposes of earnings
per share calculations, the Company’s weighted average shares outstanding and
potentially dilutive shares used in the computation of earnings per share have
been restated after giving retroactive effect to a 1% stock dividend to
shareholders for all periods presented.
On
December 15, 2009, the Company’s Board of Directors declared a one-percent (1%)
stock dividend on the Company’s outstanding common stock. Based upon the number
of outstanding common shares on the record date of January 8, 2010, an
additional 123,716 shares were issued to shareholders on January 20, 2010.
Approximately $574,000 was transferred from retained earnings to common stock
based upon the $4.64 closing price of the Company’s common stock on the
declaration date of December 15, 2009. There were no fractional shares
paid.
On
September 22, 2009, the Company’s Board of Directors declared a one-percent (1%)
stock dividend on the Company’s outstanding common stock. Based upon the number
of outstanding common shares on the record date of October 9, 2009, an
additional 122,476 shares were issued to shareholders on October 21, 2009.
Approximately $613,000 was transferred from retained earnings to common stock
based upon the $5.00 closing price of the Company’s common stock on the
declaration date of September 22, 2009. There were no fractional shares
paid.
On June
23, 2009, the Company’s Board of Directors declared a one-percent (1%) stock
dividend on the Company’s outstanding common stock. Based upon the number of
outstanding common shares on the record date of July 10, 2009, an additional
121,103 shares were issued to shareholders on July 22, 2009. Approximately
$576,000 was transferred from retained earnings to common stock based upon the
$4.75 closing price of the Company’s common stock on the declaration date of
June 23, 2009. Fractional shares were paid in cash, with a cash-in-lieu of
payment of approximately $2,000.
103
On March
24, 2009, the Company’s Board of Directors declared a one-percent (1%) stock
dividend on the Company’s outstanding common stock. Based upon the number of
outstanding common shares on the record date of April 10, 2009, an additional
118,726 shares were issued to shareholders on April 22, 2008. Approximately
$919,000 was transferred from retained earnings to common stock based upon the
$7.69 closing price of the Company’s common stock on the declaration date of
March 24, 2009. Fractional shares were paid in cash, with a cash-in-lieu of
payment of approximately $4,000.
The
Company declared two one-percent (1%) stock dividends during 2008; one during
the fourth quarter on December 16, 2008, and one during the third quarter on
September 23, 2008. As with those declared in 2009, these were considered “small
stock dividends.” Prior to the third quarter of 2008, the Company had declared
quarterly cash dividends on its common stock.
17.
Net (Loss)
Income Per Share
The
following table provides a reconciliation of the numerator and the denominator
of the basic EPS computation with the numerator and the denominator of the
diluted EPS computation. (Weighted average shares have been adjusted to give
retroactive recognition for 2-for-1 stock split during May 2006 and 1% stock
dividend for each of the quarters since the third quarter ended September
30, 2008):
|
Years
Ended December 31,
|
||||||||||||
|
(In thousands, except earnings
per share data)
|
2009
|
2008
|
2007
|
|||||||||
|
Net
(loss) income available to common shareholders
|
$ | (4,537 | ) | $ | 4,070 | $ | 11,257 | |||||
|
Weighted
average shares outstanding
|
12,497 | 12,538 | 12,659 | |||||||||
|
Add:
dilutive effect of stock options
|
0 | 4 | 37 | |||||||||
|
Weighted average shares
outstanding adjusted
for potential dilution
|
12,497 | 12,542 | 12,696 | |||||||||
|
Basic
(loss) earnings per share
|
$ | (0.36 | ) | $ | 0.32 | $ | 0.89 | |||||
|
Diluted
(loss) earnings per share
|
$ | (0.36 | ) | $ | 0.32 | $ | 0.89 | |||||
|
Anti-dilutive
shares excluded from
earnings per share calculation
|
183 | 113 | 60 | |||||||||
18.
Other Comprehensive (Loss) Income
The
following table provides a reconciliation of the
amounts included in comprehensive income:
|
Years
Ended December 31
|
||||||||||||
|
(In
thousands)
|
2009
|
2008
|
2007
|
|||||||||
|
Unrealized
(loss) gain on available-for-sale securities:
|
||||||||||||
|
Unrealized
(loss) gain on sale securities – net of income tax (benefit) of 542, ($1,900), and $605
|
$ | 813 | $ | (2,850 | ) | $ | 909 | |||||
|
Less:
Reclassification adjustment for loss (gain) on sale of available-for-sale securities
included in net income - net of income tax (benefit) of
$15, $10, and $0
|
22 | (15 | ) | 0 | ||||||||
|
|
||||||||||||
|
Net unrealized
(loss) gain on available-for-sale securities - net income tax (benefit) of
$557, ($1,910), and $605
|
$ | 835 | $ | (2,865 | ) | $ | 909 | |||||
|
Unrealized
loss on interest rate swaps:
|
||||||||||||
|
Unrealized
losses arising during period – net of income tax benefit of $0, $1,
and $110
|
$ | (0 | ) | $ | (3 | ) | $ | (165 | ) | |||
|
Less:
reclassification adjustments to interest income
|
0 | 5 | 310 | |||||||||
|
Net
change in unrealized loss on interest rate swaps - net of income tax
$0, $1, and $97
|
$ | 0 | $ | 2 | $ | 145 | ||||||
|
Previously
unrecognized past service costs of employee benefit
plans - net tax (benefit) of ($116), $62, and $55
|
$ | (165 | ) | $ | 93 | $ | 83 | |||||
|
Total
other comprehensive income (loss)
|
$ | 670 | $ | (2,770 | ) | $ | 1,137 | |||||
104
19.
Investment in Bank Stock
During
December 2007, the Company purchased 33,854 common shares of Northern California
Bancorp, Inc. (NRLB) in a privately negotiated transaction for a price of $11.50
per share or approximately $389,000. This purchase equals approximately 1.9% of
NRLB’s outstanding stock and is accounted for as a marketable equity investment
by the Company with changes in fair value recorded through other comprehensive
(loss) income. NRLB is the holding company of Monterey County Bank.
At
December 31, 2007, the Company recorded a loss in its equity investment in NRLB
of $17,000 based on a quoted market price of $11.00 per share at that date. The
Company may purchase additional common shares of NRLB as shares become
available.
During
the first quarter of 2008, the Company more thoroughly reviewed its equity
position in NRLB stock and determined that the stock should more properly be
accounted for as available-for-sale-securities (“AFS”) under the guidelines of
ASC Topic 320, “Investments –
Debt and Equity Instruments.”. Management’s decision was based upon the
fact that these were clearly not trading securities. For this reason, the
Company reclassified the NRLB stock holdings as available-for-sale securities
effective January 1, 2008.
During
the first quarter of 2008, the Company purchased an additional 6,517 shares at
average price of $11.00 per share bringing the total shares owned to 40,371 at a
total carrying value of $444,000. No further purchases we made during the
remainder of 2008.
As with
other debt and equity securities, the investment in NRLB stock is reviewed for
other-than-temporary impairment. Although the Company has recorded an unrealized
AFS loss of $301,000 ($180,000 net of tax) through other comprehensive
(loss) income at December 31, 2009 pursuant to accounting guidelines,
management has determined that the equity investment is not
other-than-temporarily impaired at December 31, 2009. The AFS valuation was
based upon a market price of $3.55 per share for NRLB’s stock at December 31,
2009. The Company believes this price is reflective of general market and
economic conditions which have severely impacted financial stocks. The Company
will continue to review its investment in NRLB stock on an ongoing basis as the
economy recovers to determine whether the investment in NRLB stock is
other-than-temporarily impaired.
20.
Common Stock Repurchase Plan
During
August 2001, the Company’s Board of Directors approved a plan to repurchase, as
conditions warrant, up to 280,000 shares (effectively 580,000 shares adjusted
for 2-for-1 stock split in May 2006) of the Company’s common stock on the open
market or in privately negotiated transactions. The duration of the program is
open-ended and the timing of the purchases will depend on market
conditions.
On
February 25, 2004, the Company announced another stock repurchase plan under
which the Board of Directors approved a plan to repurchase, as conditions
warrant, up to 276,500 shares (effectively 553,000 shares adjusted for 2-for-1
stock split in May 2006) of the Company's common stock on the open market or in
privately negotiated transactions. As with the first plan, the duration of the
new program is open-ended and the timing of purchases will depend on market
conditions. Concurrent with the approval of the new repurchase plan, the Board
terminated the 2001 repurchase plan. During the year ended December 31, 2005,
13,081 shares (26,162 shares effected for 2006 2-for-1 stock split) were
repurchased at a total cost of $377,000 and an average price per share of $28.92
($14.46 effected for 2006 2-for-1 stock split). During the year ended December
31, 2006, 108,005 shares were repurchased at a total cost of $2.4 million and an
average price per share of $22.55.
On May
16, 2007, the Company announced a third stock repurchase plan to repurchase, as
conditions warrant, up to 610,000 shares of the Company's common stock on the
open market or in privately negotiated transactions. The repurchase plan
represents approximately 5.00% of the Company's currently outstanding common
stock. The duration of the program is open-ended and the timing of purchases
will depend on market conditions. Concurrent with the approval of the new
repurchase plan, the Company canceled the remaining 75,733 shares available
under the 2004 repurchase plan.
During
the year ended December 31, 2007, 512,332 shares were repurchased at a total
cost of $10.1 million and an average per share price of $19.71. Of the shares
repurchased during 2007, 166,660 shares were repurchased under the 2004 plan at
an average cost of $20.46 per shares, and 345,672 shares were repurchased under
the 2007 plan at an average cost of $19.35 per shares.
105
During
the year ended December 31, 2008, 89,001 shares were repurchased at a total cost
of $1.2 million and an average per share price of $13.70.
During
the year ended December 31, 2009, 488 shares were repurchased at a total cost of
$3,700 and an average per share price of $7.50.
21.
Goodwill and Intangible Assets
At
December 31, 2009 the Company had $7.3 million of goodwill, $2.0 million of core
deposit intangibles, and $69,000 of other identified intangible assets which
were recorded in connection with various business combinations and purchases.
The following table summarizes the carrying value of those assets at December
31, 2009 and 2008.
|
(in
000’s)
|
December
31, 2009
|
December
31, 2008
|
||||||
|
Goodwill
|
$ | 7,391 | $ | 10,417 | ||||
|
Core
deposit intangible assets
|
1,585 | 2,278 | ||||||
|
Other
intangible assets
|
449 | 723 | ||||||
|
Total
goodwill and intangible assets
|
$ | 9,425 | $ | 13,418 | ||||
Core
deposit intangibles and other identified intangible assets are amortized over
their useful lives, while goodwill is not amortized. The Company conducts
periodic impairment analysis on goodwill and intangible assets and goodwill at
least annually or more often as conditions require. The following table
summarizes the amortization expense and impairment losses recorded on the
Company’s intangible assets and goodwill for the years ended December 2009,
2008, and 2007.
|
(in
000’s)
|
2009
|
2008
|
2007
|
|||||||||
|
Amortization
expense - core deposit intangibles
|
$ | 636 | $ | 710 | $ | 864 | ||||||
|
Amortization
expense - other intangibles
|
249 | 262 | 157 | |||||||||
|
Total
amortization expense
|
$ | 885 | $ | 972 | $ | 1,021 | ||||||
|
Impairment
losses - core deposit intangibles
|
$ | 56 | $ | 624 | $ | 0 | ||||||
|
Impairment
losses - other intangible assets
|
25 | 24 | 0 | |||||||||
|
Impairment
losses - goodwill
|
3,026 | 0 | 0 | |||||||||
|
Total
impairment losses
|
$ | 3,107 | $ | 648 | $ | 0 | ||||||
Goodwill:
The largest component of goodwill is related to the Legacy merger (Campbell
reporting unit) completed during February 2007. The Company conducted its annual
impairment testing of the goodwill related to the Campbell reporting unit
effective March 31, 2009 at which time the balance of the Campbell goodwill was
$8.8 million. Impairment testing for goodwill is a two-step
process.
The first
step in impairment testing is to identify potential impairment, which involves
determining and comparing the fair value of the operating unit with its carrying
value. If the fair value of the operating unit exceeds its carrying value,
goodwill is not impaired. If the carrying value exceeds fair value, there is an
indication of possible impairment and the second step is performed to determine
the amount of the impairment, if any. The fair value determined in the step one
testing was determined based on a discounted cash flow methodology using
estimated market discount rates and projections of future cash flows for the
Campbell operating unit. In addition to projected cash flows, the
Company also utilized other market metrics including industry multiples of
earnings and price-to-book ratios to estimate what a market participant would
pay for the operating unit in the current business environment. Determining the
fair value involves a significant amount of judgment, including estimates of
changes in revenue growth, changes is discount rates, competitive forces within
the industry, and other specific industry and market valuation conditions. The
2009 impairment analysis was impacted by to a large degree by the current
economic environment, including significant declines in interest rates, and
depressed valuations within the financial industry. Based on the results of step
one of the impairment analysis conducted during the first quarter of 2009, the
Company concluded that the potential for goodwill impairment existed and,
therefore, step-two testing was required to determine if there was goodwill
impairment and the amount of goodwill that might be impaired, if
any.
106
During
the second quarter of 2009, the Company utilized the services of an independent
valuation firm to assist in determining the fair value of the Campbell operating
unit under step-two guidelines and whether there was goodwill impairment. The
second step in impairment analysis compares the fair value of the Campbell
operating unit to the aggregate fair values of its individual assets,
liabilities and identified intangibles. As a result of step-two impairment
testing, the Company concluded that the goodwill related to the Campbell
operating unit was impaired, and recognized a pre-tax and after-tax impairment
loss of $3,026,000 at June 30, 2009. Because the Legacy merger was a tax-free
transaction, the Bank receives no benefit for the loss recorded during
2009.
Core
Deposit Intangibles: During the first quarter of 2009, the Company
performed an annual impairment analysis of the core deposit intangible assets
associated with the Legacy Bank merger completed during February 2007 (Campbell
operating unit). The core deposit intangible asset, which totaled $3.0 million
at the time of merger, is being amortized over an estimated life of
approximately seven years. The Company recognized $450,000 and $523,000 in
amortization expense related to the Legacy operating unit during the nine months
ended December 31, 2009 and 2008, respectively. At December 31, 2009, the
carrying value of the core deposit intangible related to the Legacy Bank merger
was $777,000.
During
the impairment analysis performed as of March 31, 2009, it was determined that
the original deposits purchased from Legacy Bank during February 2007 continue
to decline faster than originally anticipated. As a result of increased deposit
runoff, particularly in noninterest-bearing checking accounts and savings
accounts, the estimated value of the Campbell core deposit intangible was
determined to be $1,107,000 at March 31, 2009 rather than the pre-adjustment
carrying value of $1,164,000. As a result of the impairment analysis, the
Company recorded a pre-tax impairment loss of $57,000 ($33,000, net of tax)
reflected as a component of noninterest expense for the year ended December 31,
2009.
As a
result of impairment testing of core deposit intangible assets related to the
Campbell operating unit conducted during the first quarter of 2008, the Company
recorded a pre-tax impairment loss of $624,000 ($364,000, net of tax) reflected
as a component of noninterest expense for the year ended December 31,
2008.
Other
Intangible Assets: During November 2007, the Company purchased the
recurring contractual revenue stream and certain fixed assets from ICG
Financial, LLC. Additionally, the Company hired all but one of the former
employees of ICG Financial, LLC and its subsidiaries. The total purchase price
was $414,000 including $378,000 for the recurring revenue stream and $36,000 for
the fixed assets. As a department of the Bank, USB Financial Services provides
wealth management, employee benefit, insurance and loan products, as well as
consulting services for a variety of clients, utilizing employees hired from ICG
Financial LLC. The original capitalized cost of $378,000 for the recurring
revenue stream is being amortized over a period of approximately three years.
During the fourth quarter of 2008, the Company determined that the purchased
intangible asset associated with recurring contractual revenue stream was
impaired. As a result the Company recognized a $24,000 impairment loss on the
purchased intangible asset, reducing the carrying value of the intangible asset
to $206,000 at December 31, 2008. The Company performed an impairment analysis
during the fourth quarter of 2009, and determined that the recurring contractual
revenue stream was further impaired, resulting in an impairment loss of $25,000
bringing the carrying value of the intangible asset to $69,000 at December 31,
2009.
22.
Parent Company Only Financial Statements
The
following are the condensed financial statements of United Security Bancshares
and should be read in conjunction with the consolidated financial
statements:
|
United
Security Bancshares – (parent only)
|
||||||||
|
Balance
Sheets - December 31, 2009 and 2008
|
||||||||
|
(In
thousands)
|
2009
|
2008
|
||||||
|
Assets
|
||||||||
|
Cash
and equivalents
|
$ | 20 | $ | 357 | ||||
|
Investment
in bank subsidiary
|
87,500 | 91,814 | ||||||
|
Investment
in nonbank entity
|
0 | 99 | ||||||
|
Investment
in bank stock
|
143 | 121 | ||||||
|
Other
assets
|
477 | 476 | ||||||
|
Total
assets
|
$ | 88,140 | $ | 92,867 | ||||
|
Liabilities
& Shareholders' Equity
|
||||||||
|
Liabilities:
|
||||||||
|
Junior
subordinated debt securities (at fair value) 12/31/07)
|
$ | 10,716 | $ | 11,926 | ||||
|
Accrued
interest payable
|
0 | 0 | ||||||
|
Deferred
taxes
|
1,916 | 1,436 | ||||||
|
Other
liabilities
|
(313 | ) | (105 | ) | ||||
|
Total
liabilities
|
12,319 | 13,257 | ||||||
|
Shareholders'
Equity:
|
||||||||
|
Common
stock, no par value 20,000,000 shares authorized, 12,496,499 and
12,010,372 issued and outstanding, in 2009 and 2008
|
37,575 | 34,811 | ||||||
|
Retained
earnings
|
40,499 | 47,722 | ||||||
|
Accumulated
other comprehensive loss
|
(2,253 | ) | (2,923 | ) | ||||
|
Total
shareholders' equity
|
75,821 | 79,610 | ||||||
|
Total
liabilities and shareholders' equity
|
$ | 88,140 | $ | 92,867 | ||||
107
|
United
Security Bancshares – (parent only)
|
Years
Ended December 31,
|
|||||||||||
|
Income
Statements
|
||||||||||||
|
(In
thousands)
|
2009
|
2008
|
2007
|
|||||||||
|
Income
|
||||||||||||
|
Dividends
from subsidiaries
|
$ | 200 | $ | 4,250 | $ | 17,600 | ||||||
|
Gain
on fair value option of financial assets
|
1,145 | 1,363 | 2,504 | |||||||||
|
Other
income
|
0 | 10 | 0 | |||||||||
|
Total
income
|
1,345 | 5,623 | 20,104 | |||||||||
|
Expense
|
||||||||||||
|
Interest
expense
|
331 | 734 | 1,234 | |||||||||
|
Other
expense
|
340 | 401 | 469 | |||||||||
|
Total
expense
|
671 | 1,135 | 1,703 | |||||||||
|
Income
before taxes and equity in undistributed income of
subsidiary
|
674 | 4,488 | 18,401 | |||||||||
|
Income
tax expense
|
188 | 108 | 337 | |||||||||
|
Deficit
in undistributed income of subsidiary
|
(5,023 | ) | (310 | ) | (6,807 | ) | ||||||
|
Net
(Loss) Income
|
$ | (4,537 | ) | $ | 4,070 | $ | 11,257 | |||||
|
United
Security Bancshares – (parent only)
|
Years Ended December 31,
|
|||||||||||
|
Statement
of Cash Flows
|
||||||||||||
|
(In
thousands)
|
2009
|
2008
|
2007
|
|||||||||
|
Cash
Flows From Operating Activities
|
||||||||||||
|
Net
(loss) income
|
$ | (4,537 | ) | $ | 4,070 | $ | 11,257 | |||||
|
Adjustments
to reconcile net (loss) income to cash provided by operating
activities:
|
||||||||||||
|
Deficit
(equity) in undistributed income of subsidiary
|
5.023 | 310 | 6,807 | |||||||||
|
Deferred
taxes
|
471 | 567 | 998 | |||||||||
|
Write-down
of other investments
|
0 | 23 | 17 | |||||||||
|
Gain
on fair value option of financial liability
|
(1,145 | ) | (1,363 | ) | (2,504 | ) | ||||||
|
Amortization
of issuance costs
|
0 | 0 | 0 | |||||||||
|
Net
change in other liabilities
|
(268 | ) | (15 | ) | 381 | |||||||
|
Net
cash (used in) provided by operating activities
|
(456 | ) | 3,592 | 16,956 | ||||||||
|
|
||||||||||||
|
Cash
Flows From Investing Activities
|
||||||||||||
|
Investment
in bank stock
|
0 | (72 | ) | (389 | ) | |||||||
|
Proceeds
from sale of investment in title company
|
99 | 0 | 0 | |||||||||
|
Net
cash provided by (used in) investing activities
|
99 | (72 | ) | (389 | ) | |||||||
|
Cash
Flows From Financing Activities
|
||||||||||||
|
Proceeds
from stock options exercised
|
0 | 70 | 510 | |||||||||
|
Net
proceeds from issuance of junior subordinated debt
|
0 | 0 | (923 | ) | ||||||||
|
Repurchase
and retirement of common stock
|
31 | (1,220 | ) | (10,095 | ) | |||||||
|
Payment
of dividends on common stock
|
(11 | ) | (4,559 | ) | (5,930 | ) | ||||||
|
Net
cash provided by (used in) financing activities
|
20 | (5,709 | ) | (16,438 | ) | |||||||
|
Net
(decrease) increase in cash and cash equivalents
|
(337 | ) | (2,189 | ) | 129 | |||||||
|
Cash
and cash equivalents at beginning of year
|
357 | 2,546 | 2,417 | |||||||||
|
Cash
and cash equivalents at end of year
|
$ | 20 | $ | 357 | $ | 2,546 | ||||||
|
Supplemental
cash flow disclosures
|
||||||||||||
|
Noncash
financing activities:
|
||||||||||||
|
Dividends
declared not paid
|
$ | 0 | $ | 5 | $ | 1,483 | ||||||
108
23.
Quarterly Financial Data (unaudited)
Selected
quarterly financial data for the years ended December 31, 2009 and 2008 are
presented below:
|
2009
|
2008
|
|||||||||||||||||||||||||||||||
|
(In
thousands except per share data)
|
4th
|
3rd
|
2nd
|
1st
|
4th
|
3rd
|
2nd
|
1st
|
||||||||||||||||||||||||
|
Interest
income
|
$ | 8,850 | $ | 8,870 | $ | 8,642 | $ | 9,312 | $ | 10,036 | $ | 10,936 | $ | 11,431 | $ | 12,744 | ||||||||||||||||
|
Interest
expense
|
1,605 | 1,711 | 1,847 | 2,164 | 2,967 | 3,509 | 3,702 | 4,759 | ||||||||||||||||||||||||
|
Net
interest income
|
7,245 | 7,159 | 6,795 | 7,148 | 7,069 | 7,427 | 7,729 | 7,985 | ||||||||||||||||||||||||
|
Provision
for credit losses
|
4,781 | 436 | 6,806 | 1,351 | 2,367 | 6,444 | 506 | 209 | ||||||||||||||||||||||||
|
Gain
(loss) on sale of securities
|
(37 | ) | 0 | 0 | 0 | 0 | 0 | 0 | 24 | |||||||||||||||||||||||
|
Other
noninterest income
|
2,906 | 1,019 | 1,277 | 1,142 | 2,698 | 1,591 | 1,721 | 2,309 | ||||||||||||||||||||||||
|
Noninterest
expense
|
6,354 | 6,849 | 9,095 | 5,669 | 6,270 | 5,223 | 5,686 | 6,172 | ||||||||||||||||||||||||
|
Income
before income tax expense
|
(1,021 | ) | 893 | (7,829 | ) | 1,270 | 1,130 | (2,649 | ) | 3,258 | 3,937 | |||||||||||||||||||||
|
Income
tax (benefit) expense
|
(595 | ) | 200 | (2,103 | ) | 348 | 289 | (1,308 | ) | 1,188 | 1,437 | |||||||||||||||||||||
|
Net
(loss) income
|
$ | (426 | ) | $ | 693 | $ | (5,726 | ) | $ | 922 | $ | 841 | $ | (1,341 | ) | $ | 2,070 | $ | 2,500 | |||||||||||||
|
Net
(loss) income per share:
|
||||||||||||||||||||||||||||||||
|
Basic
|
$ | (0.03 | ) | $ | 0.06 | $ | (0.46 | ) | $ | 0.07 | $ | 0.07 | $ | (0.11 | ) | $ | 0.16 | $ | 0.20 | |||||||||||||
|
Diluted
|
$ | (0.03 | ) | $ | 0.06 | $ | (0.46 | ) | $ | 0.07 | $ | 0.07 | $ | (0.11 | ) | $ | 0.16 | $ | 0.20 | |||||||||||||
|
Dividends
declared per share
|
-- | -- | -- | -- | -- | -- | $ | 0.13 | $ | 0.13 | ||||||||||||||||||||||
|
Average
shares outstanding
|
||||||||||||||||||||||||||||||||
|
For
net income per share:
|
||||||||||||||||||||||||||||||||
|
Basic
|
12,497 | 12,497 | 12,497 | 12,497 | 12,513 | 12,523 | 12,546 | 12,575 | ||||||||||||||||||||||||
|
Diluted
|
12,497 | 12,497 | 12,497 | 12,497 | 12,513 | 12,530 | 12,549 | 12,585 | ||||||||||||||||||||||||
24. Subsequent
Events
Subsequent
events are events
or transactions that occur after the consolidated balance sheet date but before
financial statements are issued. Recognized subsequent events are events or
transactions that provide additional evidence about conditions that existed at
the date of the balance sheet, including the estimates inherent in the process
of preparing financial statements. Nonrecognized subsequent events
are events that provide evidence about conditions that did not exist at the date
of the consolidated balance sheet but arose after that date. Management
has reviewed events occurring through the date the financial statements were
issued and, other than the item discussed below, no subsequent events occurred
requiring accrual or disclosure.
Effective
March 23, 2010, United Security Bancshares (the "Company") and its wholly owned
subsidiary, United Security Bank (the "Bank"), entered into a written agreement
with the Federal Reserve Bank of San Francisco. Under the terms of the
agreement, the Company and the Bank agreed, among other things, to strengthen
board oversight of management and the Bank's operations; submit an enhanced
written plan to strengthen credit risk management practices and improve the
Bank’s position on the past due loans, classified loans, and other real estate
owned; maintain a sound process for determining, documenting, and recording an
adequate allowance for loan and lease losses; improve the management of the
Bank's liquidity position and funds management policies; maintain sufficient
capital at the Company and Bank level; and improve the Bank’s earnings and
overall condition. The Company and Bank have also agreed not to increase or
guarantee any debt, purchase or redeem any shares of stock, declare or pay any
cash dividends, or pay interest on the Company's junior subordinated debt or
trust preferred securities, without prior written approval from the Federal
Reserve Bank.
109
This
agreement was a result of a regulatory examination that was conducted by the
Federal Reserve and the California Department of Financial Institutions in
June 2009, and relates primarily to the Bank’s asset quality. Progress on
these items has been made since the completion of the examination and management
and the Board are committed to resolving all of the items addressed by the
Federal Reserve in the agreement. Both the Company and the Bank will submit
quarterly written progress reports to the Federal Reserve Bank.
110
Item
9 - Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure
None.
Item
9A(T). Controls and Procedures
Evaluation of Disclosure
Controls and Procedures:
a)
As of the end of the period covered by this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company’s
management, including the Chief Executive Officer, and the Chief Financial
Officer, of the effectiveness of the design and operation of the Company’s
disclosure controls and procedures, as defined in the Securities and Exchange
Act Rule 13(a)-15(e). Based on that evaluation, the Chief Executive Officer and
the Chief Financial Officer concluded that the Company’s disclosure controls and
procedures are effective on a timely manner to alert them to material
information relating to the Company which is required to be included in the
Company’s periodic Securities and Exchange Commission filings.
(b)
Changes in Internal Controls over Financial Reporting: During the quarter ended
December 31, 2009, the Company did not make any significant changes in, nor take
any corrective actions regarding, its internal controls over financial reporting
or other factors that could significantly affect these controls.
The
Company does not expect that its disclosure controls and procedures and internal
control over financial reporting will prevent all error and fraud. A
control procedure, no matter how well conceived and operated, can provide only
reasonable, not absolute, assurance that the objectives of the control procedure
are met. Because of the inherent limitations in all control procedures, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, within the Company have been detected.
These inherent limitations include the realities that judgments in
decision-making can be faulty, and that breakdowns in controls or procedures can
occur because of simple error or mistake. Additionally, controls can be
circumvented by the individual acts of some persons, by collusion of two or more
people, or by management override of the control. The design of any
control procedure is based in part upon certain assumptions about the likelihood
of future events, and there can be no assurance that any design will succeed in
achieving its stated goals under all potential future conditions; over time,
controls become inadequate because of changes in conditions, or the degree of
compliance with the policies or procedures may deteriorate. Because of the
inherent limitations in a cost-effective control procedure, misstatements due to
error or fraud may occur and not be detected.
111
Management Report on Internal Control over Financial Reporting:
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL
REPORTING
Management
of United Security Bancshares and Subsidiaries (the “Company”) is responsible
for establishing and maintaining adequate internal control over financial
reporting, and for performing an assessment of the effectiveness of internal
control over financial reporting as of December 31, 2009. The Company’s
internal control over financial reporting is a process designed under the
supervision of the Company’s management, including the Chief Executive Officer
and Chief Financial Officer, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements
for external purposes in accordance with accounting principles generally
accepted in the United States.
The
Company’s system of internal control over financial reporting includes policies
and procedures that (i) pertain to the maintenance of records that, in
reasonable detail, accurately and fairly reflect transactions and dispositions
of assets of the Company; (ii) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial
statements in accordance with in the
Company's definitive Proxy Statement for its 2010 Annual Meeting of Shareholders
("Proxy Statement").
Item
14. Principal Accounting Fees and Services
Pursuant
to Instruction G, the information required by this item is hereby incorporated
herein by reference from the caption entitled "Independent Accountant Fees and
Services" set forth in the Company's definitive Proxy Statement for its 2010
Annual Meeting of Shareholders ("Proxy Statement").
113
PART
IV
Item
15 – Exhibits and Financial Statement Schedules
(a)(1) Financial
Statements
The
Consolidated Financial Statements and related documents set forth in “Item 8.
Financial Statements and Supplementary Data” of this report are filed as part of
this report.
(a)(2) Financial
Statement Schedules
All
financial statement schedules are omitted because they are not applicable or not
required or because the information is included in the financial statements or
notes thereto or is not material.
(a)(3) Exhibits
|
3.1
|
Articles
of Incorporation of Registrant (1)
|
|
3.2
|
Bylaws
of Registrant (1)
|
|
4.1
|
Specimen
common stock certificate of United Security Bancshares
(1)
|
|
10.1
|
Amended
and Restated Executive Salary Continuation Agreement for Dennis Woods
(4)
|
|
10.2
|
Amended
and Restated Employment Agreement for Dennis R. Woods
(4)
|
|
10.3
|
Amended
and Restated Executive Salary Continuation Agreement for Kenneth Donahue
(4)
|
|
10.4
|
Amended
and Restated Change in Control Agreement for Kenneth Donahue
(4)
|
|
10.5
|
Amended
and Restated Executive Salary Continuation Agreement for David Eytcheson
(4)
|
|
10.6
|
Amended
and Restated Change in Control Agreement for David Eytcheson
(4)
|
|
10.7
|
Amended
and Restated Executive Salary Continuation Agreement for Rhodlee Braa
(4)
|
|
10.8
|
Amended
and Restated Change in Control Agreement for Rhodlee Braa
(4)
|
|
10.9
|
Amended
and Restated Executive Salary Continuation Agreement for William F.
Scarborough (4)
|
|
10.10
|
Amended
and Restated Change in Control Agreement for William F. Scarborough
(4)
|
|
10.11
|
USB
2005 Stock Option Plan. Filed as Exhibit B to the Company's 2005 Schedule
14A Definitive Proxy filed April 18, 2005 and incorporated herein by
reference.
|
|
10.12
|
Stock
Option Agreement for William F. Scarborough dated August 1, 2005
(2)
|
|
10.13
|
Stock
Option Agreement for Dennis R. Woods dated February 6, 2006
(3)
|
|
10.14
|
Written
Agreement between United Security Bancshares, United Security Bank, and
the Federal Reserve Bank of San Francisco dated March 23, 2010
(5)
|
|
11.1
|
Computation
of earnings per share.
|
114
|
|
See
Note 19 to Consolidated Financial Statements and related documents set
forth in “Item 8. Financial Statements and Supplementary Data” of this
report are filed as part of this
report.
|
|
21
|
Subsidiaries
of the Company
|
|
23.1
|
Consent
of Moss Adams LLP, Independent Registered Public Accounting
Firm
|
|
31.1
|
Certification
of the Chief Executive Officer of United Security Bancshares pursuant to
Section 302 of the Sarbanes-Oxley Act of
2002.
|
|
31.2
|
Certification
of the Chief Financial Officer of United Security Bancshares pursuant to
Section 302 of the Sarbanes-Oxley Act of
2002.
|
|
32.1
|
Certification
of the Chief Executive Officer of United Security Bancshares pursuant to
Section 906 of the Sarbanes-Oxley Act of
2002
|
|
32.2
|
Certification
of the Chief Financial Officer of United Security Bancshares pursuant to
Section 906 of the Sarbanes-Oxley Act of
2002
|
|
(1)
|
Previously
filed on April 4, 2001 as an exhibit to the Company’s filing on Form S-4
(file number 333-58256).
|
|
(2)
|
Previously
filed on March 15, 2006 as an exhibit to the Company’s filing on Form 10-K
for the year ended December 31, 2006 (file number
000-32987).
|
|
(3)
|
Previously
filed on November 7, 2006 as an exhibit to the Company’s filing on Form
10-Q/A for the period ended March 31, 2006 (file number
000-32987).
|
|
(4)
|
Previously
filed on March 17, 2007 as an exhibit to the Company’s filing on Form 10-K
for the year ended December 31, 2007 (file number
000-32987).
|
|
(5)
|
Previously
filed on March 25, 2010 as an exhibit to the Company’s filing on Form 8-K
(file number 000-32987).
|
(b) Exhibits
filed:
See
Exhibit Index under Item 15(a)(3) above for the list of exhibits required to be
filed by Item 601 of regulation S-K with this report.
(c) Financial statement schedules
filed:
See Item
15(a)(2) above.
115
Signatures
Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, the Registrant has duly caused this report on Form 10-K for the year ended
December 31, 2009 to be signed on its behalf by the undersigned thereunto duly
authorized, in Fresno, California, on the 31st day of March,
2010
|
United
Security Bancshares
|
|||
|
March
31, 2010
|
|
/S/ Dennis R. Woods | |
| Dennis R. Woods | |||
| President and Chief Executive Officer | |||
|
March
31, 2010
|
|
/S/ Richard B. Shupe | |
| Richard B. Shupe | |||
| Senior Vice President and Chief Financial Officer | |||
116
Signatures
Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the registrant and in the
capacities on the date indicated:
|
Date:
3/31/2010
|
|
/s/
Robert G. Bitter
|
|
|
Director
|
|||
|
Date:
3/31/2010
|
|
/s/
Stanley J. Cavalla
|
|
|
Director
|
|||
|
Date:
3/31/2010
|
|
/s/
Tom Ellithorpe
|
|
|
Director
|
|||
|
Date:
3/31/2010
|
|
/s/
R. Todd Henry
|
|
|
Director
|
|||
|
Date:
3/31/2010
|
|
/s/
Ronnie D. Miller
|
|
|
Director
|
|||
|
Date:
3/31/2010
|
|
/s/
Robert M. Mochizuki
|
|
|
Director
|
|||
|
Date:
3/31/2010
|
|
/s/
Walter Reinhard
|
|
|
Director
|
|||
|
Date:
3/31/2010
|
|
/s/
John Terzian
|
|
|
Director
|
|||
|
Date:
3/31/2010
|
|
/s/
Mike Woolf
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|
|
Director
|
|||
117