boch20170630_10q.htm Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

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

 

For the quarterly period ended June 30, 2017

 

 

Commission file number 0-25135

 

Bank of Commerce Holdings

 

 

California

94-2823865

(State or jurisdiction of incorporation or organization)

(I.R.S. Employer Identification Number)

   

1901 Churn Creek Road Redding, California

96002

(Address of principal executive offices)

(Zip Code)

   

 

Registrant’s telephone number, including area code: (530) 722-3952

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

 Yes ☒ No ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 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☒ No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

         

Large accelerated

filer ☐

Accelerated

filer ☒

Non-accelerated filer (Do not check

if a smaller reporting company)☐

Smaller reporting

company ☐

Emerging growth 

company ☐

         

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)

 

Yes ☐ No ☒

 

Outstanding shares of Common Stock, no par value, as of July 21, 2017: 16,260,161

 

 
1

Table of Contents
 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Index to Form 10-Q

 

 

Part I. FINANCIAL INFORMATION

 
 

Item 1. Financial Statements

  3
 

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

  39
 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

  65
 

Item 4. Controls and Procedures

  65
     

Part II. OTHER INFORMATION

 
 

Item 1. Legal Proceedings

  66
 

Item 1a. Risk Factors

  66
 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

  66
 

Item 3. Defaults Upon Senior Securities

  66
 

Item 4. Mine Safety Disclosures

  66
 

Item 5. Other Information

  66
 

Item 6. Exhibits

  66
     

SIGNATURES

  67

 

 
2

Table of Contents
 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

 

PART I. FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

Consolidated Balance Sheets (Unaudited)

June 30, 2017 and December 31, 2016

 

   

June 30,

   

December 31,

 

(Amounts in thousands, except share information)

 

2017

   

2016

 

Assets:

               

Cash and due from banks

  $ 23,420     $ 16,419  

Interest-bearing deposits in other banks

    73,434       51,988  

Total cash and cash equivalents

    96,854       68,407  
                 

Securities available-for-sale, at fair value

    209,609       175,174  

Securities held-to-maturity, at amortized cost

    31,329       31,187  
                 

Loans, net of deferred fees and costs

    816,929       805,535  

Allowance for loan and lease losses

    (11,688 )     (11,544 )

Net loans

    805,241       793,991  
                 

Premises and equipment, net

    15,417       16,226  

Other real estate owned

    1,517       759  

Life insurance

    21,629       23,098  

Deferred tax asset, net

    8,723       9,542  

Goodwill and core deposit intangible, net

    2,141       2,252  

Other assets

    19,634       20,356  

Total assets

  $ 1,212,094     $ 1,140,992  
                 

Liabilities and shareholders' equity:

               

Liabilities:

               

Demand - noninterest-bearing

  $ 303,560     $ 270,398  

Demand - interest-bearing

    426,798       405,569  

Savings

    109,472       113,309  

Certificates of deposit

    206,395       215,390  

Total deposits

    1,046,225       1,004,666  
                 

Term debt:

               

Principal

    18,300       18,917  

Less unamortized debt issuance costs

    (161 )     (184 )

Net term debt

    18,139       18,733  
                 

Junior subordinated debentures

    10,310       10,310  

Other liabilities

    11,468       13,177  

Total liabilities

    1,086,142       1,046,886  
                 

Commitments and contingencies (Note 9)

               

Shareholders' equity:

               

Common stock, no par value, 50,000,000 shares authorized: issued and outstanding - 16,260,161 as of June 30, 2017 and 13,440,422 as of December 31, 2016

    51,651       24,547  

Retained earnings

    73,789       70,218  

Accumulated other comprehensive income (loss)

    512       (659 )

Total shareholders' equity

    125,952       94,106  

Total liabilities and shareholders' equity

  $ 1,212,094     $ 1,140,992  

 

See accompanying notes to consolidated financial statements.

 

 
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BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Consolidated Statements of Income (Unaudited)

For the three and six months ended June 30, 2017 and 2016

 

   

For the Three Months Ended

   

For the Six Months Ended

 
   

June 30,

   

June 30,

 

(Amounts in thousands, except per share information)

 

2017

   

2016

   

2017

   

2016

 

Interest income:

                               

Interest and fees on loans

  $ 9,758     $ 8,796     $ 19,142     $ 17,247  

Interest on taxable securities

    872       808       1,661       1,592  

Interest on tax-exempt securities

    534       588       1,064       1,182  

Interest on interest-bearing deposits in other banks

    156       65       270       140  

Total interest income

    11,320       10,257       22,137       20,161  

Interest expense:

                               

Interest on demand deposits

    184       130       332       252  

Interest on savings deposits

    47       41       94       86  

Interest on certificates of deposit

    545       515       1,074       1,112  

Interest on term debt

    298       295       591       1,077  

Interest on junior subordinated debentures

    71       59       137       113  

Total interest expense

    1,145       1,040       2,228       2,640  

Net interest income

    10,175       9,217       19,909       17,521  

Provision for loan and lease losses

    300             500        

Net interest income after provision for loan and lease losses

    9,875       9,217       19,409       17,521  

Noninterest income:

                               

Service charges on deposit accounts

    142       88       269       160  

ATM and point of sale fees

    288       335       554       427  

Fees on payroll and benefit processing

    147       139       338       299  

Life insurance

    135       153       781       309  

Gain on sale of investment securities, net

    35       28       101       122  

Impairment losses on investment securities

          (546 )           (546 )

Federal Home Loan Bank of San Francisco dividends

    54       99       157       189  

Other income

    182       141       325       426  

Total noninterest income

    983       437       2,525       1,386  

Noninterest expense:

                               

Salaries and related benefits

    4,147       4,086       9,005       8,315  

Premises and equipment

    1,054       987       2,102       1,776  

Federal Deposit Insurance Corporation insurance premium

    104       181       152       337  

Data processing fees

    450       373       857       678  

Professional service fees

    501       470       894       906  

Telecommunications

    223       199       434       346  

Branch acquisition costs

          168             580  

Loss on cancellation of interest rate swap

                      2,325  

Other expenses

    1,235       1,204       2,331       2,406  

Total noninterest expense

    7,714       7,668       15,775       17,669  

Income before provision for income taxes

    3,144       1,986       6,159       1,238  

Provision for income taxes

    935       430       1,698       642  

Net income

  $ 2,209     $ 1,556     $ 4,461     $ 596  
                                 

Earnings per share - basic

  $ 0.15     $ 0.11     $ 0.31     $ 0.04  

Weighted average shares - basic

    15,014       13,367       14,220       13,364  

Earnings per share - diluted

  $ 0.15     $ 0.11     $ 0.31     $ 0.04  

Weighted average shares - diluted

    15,113       13,425       14,321       13,408  

 

See accompanying notes to consolidated financial statements.

 

 
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BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Consolidated Statements of Comprehensive Income (Unaudited)

For the three and six months ended June 30, 2017 and 2016

 

                         
                         
   

For the Three Months Ended

 

For the Six Months Ended

   

June 30,

 

June 30,

(Amounts in thousands)

 

2017

 

2016

 

2017

 

2016

Net income

 

$

2,209

 

$

1,556

 

$

4,461

 

$

596

                         

Available-for-sale securities:

                       

Unrealized gains arising during the period

   

1,609

   

391

   

2,127

   

600

Income taxes

   

(662)

   

(161)

   

(875)

   

(247)

Change in unrealized gains, net of tax

   

947

   

230

   

1,252

   

353

                         

Reclassification adjustment for realized gains included in net income

   

(35)

   

(28)

   

(101)

   

(122)

Income taxes

   

14

   

12

   

41

   

51

Realized gains, net of tax

   

(21)

   

(16)

   

(60)

   

(71)

                         

Reclassification adjustment for other than temporary impairment included in net income

   

 —

   

546

   

 —

   

546

Income taxes

   

 —

   

(225)

   

 —

   

(225)

Realized impairment, net of tax

   

 —

   

321

   

 —

   

321

Net increase in unrealized gains on available-for-sale securities

   

926

   

535

   

1,192

   

603

                         

Held-to-maturity securities:

                       

Amortization of held-to-maturity fair value adjustment

   

(19)

   

(28)

 

 

(36)

   

(57)

Income taxes

   

8

   

12

   

15

   

23

Net change in fair value adjustment on held-to-maturity securities

   

(11)

   

(16)

   

(21)

   

(34)

                         

Derivatives:

                       

Unrealized losses arising during the period

   

 —

   

 —

   

 —

   

(348)

Income taxes

   

 —

   

 —

   

 —

   

143

Change in unrealized losses, net of tax

   

 —

   

 —

   

 —

   

(205)

                         

Reclassification adjustments for net losses on derivatives included in net income

   

 —

   

 —

   

 —

   

2,721

Income taxes

   

 —

   

 —

   

 —

   

(1,120)

Reclassification adjustments for net losses included in net income, net of tax

   

 —

   

 —

   

 —

   

1,601

Net change in unrealized losses on derivatives

   

 —

   

 —

   

 —

   

1,396

Other comprehensive income

   

915

   

519

   

1,171

   

1,965

Comprehensive income – Bank of Commerce Holdings

 

$

3,124

 

$

2,075

 

$

5,632

 

$

2,561

 

See accompanying notes to consolidated financial statements.

 

 
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BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Consolidated Statements of Shareholders’ Equity

For the twelve months ended December 31, 2016 and six months ended June 30, 2017 (Unaudited)

 

                           

Accumulated

         
           

Common

           

Other Comp-

         
   

Common

   

Stock

   

Retained

   

Income (Loss)

         

(Amounts in thousands except per share information)

 

Shares

   

Amount

   

Earnings

   

Net of Tax

   

Total

 

Balance at January 1, 2016

    13,342     $ 24,214     $ 66,562     $ (254 )   $ 90,522  

Net income

                5,259             5,259  

Other comprehensive loss, net of tax

                      (405 )     (405 )

Comprehensive income

                            4,854  

Dividend on common stock ($0.12 per share)

                (1,603 )           (1,603 )

Common stock issued under employee plans

    29       84                   84  

Stock options exercised

    2       10                   10  

Compensation expense associated with stock options

          24                   24  

Compensation expense associated with restricted stock

          215                   215  

Balance at December 31, 2016 (1)

    13,373     $ 24,547     $ 70,218     $ (659 )   $ 94,106  

(1) Excludes 67 unvested restricted shares

 

 

 

                           

Accumulated

         
           

Common

           

Other Comp-

         
   

Common

   

Stock

   

Retained

   

Income

         

(Amounts in thousands except per share information)

 

Shares

   

Amount

   

Earnings

   

Net of Tax

   

Total

 

Balance at January 1, 2017

    13,373     $ 24,547     $ 70,218     $ (659 )   $ 94,106  

Net income

                4,461             4,461  

Other comprehensive income, net of tax

                      1,171       1,171  

Comprehensive income

                            5,632  

Dividend on common stock ($0.06 per share)

                (890 )           (890 )

Stock issued pursuant to public offering, net of underwriting discounts and expenses of $1.7 million

    2,738       26,778                   26,778  

Common stock issued under employee plans

    29       41                   41  

Stock options exercised

    48       220                   220  

Compensation expense associated with stock options

          10                   10  

Compensation expense associated with restricted stock

          55                   55  

Balance at June 30, 2017 (1)

    16,188     $ 51,651     $ 73,789     $ 512     $ 125,952  

(1) Excludes 72 unvested restricted shares

 

See accompanying notes to consolidated financial statements.

 

 
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BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Consolidated Statements of Cash Flows (Unaudited)

For the six months ended June 30, 2017 and June 30, 2016

 

   

For the Six Months Ended

 
   

June 30,

 

(Amounts in thousands)

 

2017

   

2016

 

Cash flows from operating activities:

               

Net income

  $ 4,461     $ 596  

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

               

Provision for loan and lease losses

    500        

Provision for depreciation and amortization

    1,049       913  

Amortization of core deposit intangible

    111       75  

Amortization of debt issuance costs

    23       22  

Compensation expense associated with stock options

    10       13  

Compensation expense associated with restricted stock

    55       106  

Excess tax benefits from restricted stock vesting

    (45 )      

Net gain on sale or call of securities

    (101 )     (122 )

Other than temporary impairment on investment securities

          546  

Amortization of investment premiums and accretion of discounts, net

    934       865  

Amortization of held-to-maturity fair value adjustments

    (36 )     (57 )

Loss on cancellation of interest rate swap

          2,325  

Gain on disposal of fixed assets

          2  

Write-down of other real estate owned

    52       76  

Loss on sale of other real estate owned

    59       149  

Decrease in deferred income taxes

          363  

Increase in cash surrender value of life insurance

    (279 )     (309 )

Gain on life insurance

    (502 )      

Increase (decrease) in deferred compensation and salary continuation plans

    23       (32 )

Increase in deferred loan fees and costs

    (217 )     (158 )

Decrease in other assets

    828       456  

Decrease in other liabilities

    (1,664 )     (2,396 )

Net cash provided by operating activities

    5,261       3,433  
                 

Cash flows from investing activities:

               

Proceeds from maturities and payments of available-for-sale securities

    9,793       11,430  

Proceeds from sale of available-for-sale securities

    27,252       34,389  

Purchases of available-for-sale securities

    (70,487 )     (45,075 )

Proceeds from maturities and payments of held-to-maturity securities

          600  

Investment in qualified affordable housing partnerships

    (18 )     (659 )

Net redemption of Federal Home Loan Bank of San Francisco stock

    72        

Loan originations, net of principal repayments

    (15,913 )     (43,211 )

Net repayment on loan pools

    3,456       6,442  

Purchase of premises and equipment

    (323 )     (1,313 )

Proceeds from the sale of other real estate owned

    55       514  

Proceeds from life insurance policy

    2,249        

Payments to derivative counterparties for the termination of interest rate swaps

          (2,578 )

Acquisition of branches, net of cash paid

          142,411  

Net cash (used) provided by investing activities

    (43,864 )     102,950  

 

See accompanying notes to consolidated financial statements.

 

 
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BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Consolidated Statements of Cash Flows (Unaudited) (Continued)

 

   

For the Six Months Ended

 
   

June 30,

 

(Amounts in thousands)

 

2017

   

2016

 

Cash flows from financing activities:

               

Net increase in demand deposits and savings accounts

  $ 50,554     $ 10,750  

Net decrease in certificates of deposit

    (8,995 )     (25,976 )

Advances on term debt

    30,000       30,000  

Repayment of term debt

    (30,617 )     (105,512 )

Proceeds from stock options exercised

    220       4  

Net proceeds from issuance of common stock

    26,778        

Cash paid when directly withholding shares for tax-withholding purposes

    (85 )      

Cash dividends paid on common stock

    (805 )     (801 )

Net cash provided by (used) in financing activities

    67,050       (91,535 )

Net increase in cash and cash equivalents

    28,447       14,848  

Cash and cash equivalents at beginning of year

    68,407       51,192  

Cash and cash equivalents at end of period

  $ 96,854     $ 66,040  

 

See accompanying notes to consolidated financial statements.

 

 
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BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Consolidated Statements of Cash Flows (Unaudited) (Continued)

For the six months ended June 30, 2017 and June 30, 2016

 

   

For the Six Months Ended

 
   

June 30,

 

(Amounts in thousands)

 

2017

   

2016

 

Supplemental disclosures of cash flow activity:

               

Cash paid during the period for:

               

Income taxes

  $ 1,933     $ 2,130  

Interest

  $ 2,238     $ 2,970  

Supplemental disclosures of non cash investing activities:

               

Transfer of loans to other real estate owned

  $ 924     $ 81  
                 

Urealized gain on investment securities available-for-sale

  $ 2,026     $ 1,024  

Changes in net deferred tax asset related to changes in unrealized gain on investment securities available-for-sale

    (834 )     (421 )

Changes in accumulated other comprehensive income due to changes in unrealized gain on investment securities available-for-sale

  $ 1,192     $ 603  
                 

Accretion of held-to-maturity investment securities from other comprehensive income to interest income

  $ (36 )   $ (57 )

Changes in deferred tax related to accretion of held-to-maturity investment securities

    15       23  

Changes in accumulated other comprehensive income due to accretion of held-to-maturity investment securities

  $ (21 )   $ (34 )
                 

Changes in unrealized loss on derivatives

  $     $ (348 )

Changes in net deferred tax asset related to changes in unrealized loss on derivatives

          143  

Changes in accumulated other comprehensive income due to changes in unrealized loss on derivatives

  $     $ (205 )
                 

Reclassification of losses on derivatives

  $     $ 2,721  

Changes in net deferred tax asset related to reclassification of losses on derivatives

          (1,120 )

Changes in accumulated other comprehensive income due to reclassification of losses on derivatives

  $     $ 1,601  

Supplemental disclosures of non cash financing activities:

               

Vested restricted stock issued under employee plans

  $ 41     $ 84  

Cash dividend declared on common shares and payable after period-end

  $ 486     $ 401  

Transactions Related to Acquisition:

               

Assets acquired - fair value

  $     $ 155,230  

Goodwill

  $     $ 665  

Liabilities assumed - fair value

  $     $ 149,239  

 

See accompanying notes to consolidated financial statements.

 

 
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BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Bank of Commerce Holdings (“Company,” “Holding Company,” “we,” or “us”), is a bank holding company (“BHC”) with its principal offices in Sacramento, California. The Holding Company’s principal business is to serve as a holding company for Redding Bank of Commerce (the “Bank” and together with the Holding Company, the “Company”) which operates under two separate names (Redding Bank of Commerce and Sacramento Bank of Commerce, a division of Redding Bank of Commerce). The Company has an unconsolidated subsidiary in Bank of Commerce Holdings Trust II. The consolidated Balance Sheets as of June 30, 2017 and December 31, 2016 are derived from the unaudited interim consolidated financial statements and audited consolidated financial statements and have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and note disclosures normally included in annual consolidated financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to those rules and regulations. The Company believes that all adjustments (all of which are normal and recurring in nature) considered necessary for a fair presentation have been included and the disclosures made are adequate to make the information not misleading.

 

The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) and with prevailing practices within the banking and securities industries. In preparing such consolidated financial statements, management is required to make certain estimates and judgments that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the dates of the Balance Sheets and the reported amounts of revenues and expenses for the reporting periods. Actual results could differ significantly from those estimates. Material estimates that are particularly susceptible to significant change relate to the valuation of investments and impairments of securities, the determination of the allowance for loan and lease losses (“ALLL”), income taxes, the valuation of goodwill and Other Real Estate Owned (“OREO”), and fair value measurements. Certain amounts for prior periods have been reclassified to conform to the current financial statement presentation. The results of reclassifications are not considered material and have no effect on previously reported net income or shareholders' equity. The accompanying unaudited consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes contained in Bank of Commerce Holdings 2016 Annual Report on Form 10-K. The consolidated results of operations and cash flows for the 2017 interim periods shown in this report are not necessarily indicative of the results for any future interim period or the entire fiscal year.

 

Principles of Consolidation

 

The accompanying consolidated financial statements include the accounts of the Holding Company and its subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation. As of June 30, 2017 and December 31, 2016, the Company had one wholly-owned trust (“Trust”) formed in 2005 to issue trust-preferred securities and related common securities. The Company has not consolidated the accounts of the Trust in its Consolidated Financial Statements in accordance with Financial Accounting Standards Board Accounting Standards Codification (“FASB”) ASC 810, Consolidation (“ASC 810”). As a result, the junior subordinated debentures issued by the Company to the Trust are reflected in our Consolidated Balance Sheets.

 

NOTE 2. RECENT ACCOUNTING PRONOUNCEMENTS

 

Application of new accounting guidance

 

In January of 2017, the Company adopted the Financial Accounting Standards Board's (“FASB”) Accounting Standard Update ("ASU") No. 2016-09, Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. ASU 2016-09, seeks to simplify several aspects of the accounting for employee share-based payment transactions, including income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. As required by ASU 2016-09, all adjustments are reflected as of the beginning of the fiscal year, January 1, 2016. By applying this ASU, the Company no longer adjusts common stock for the tax impact of shares released, instead the tax impact is recognized as tax expense in the period the shares are released. This simplifies the tracking of the excess tax benefits and deficiencies, but could cause volatility in tax expense for the periods presented. The statement of cash flows has been adjusted to reflect the provisions of this ASU. The application of this ASU did not have a material impact on the financial statements.

 

Accounting pronouncements not yet applied

 

 

In January of 2017, the FASB issued ASU No. 2017-04, Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. The amendments are intended to simplify the subsequent measurement of goodwill. The annual, or interim, goodwill impairment test is performed by comparing the fair value of a reporting unit with its carrying amount. An impairment charge should be recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. In addition, income tax effects from any tax-deductible goodwill on the carrying amount of the reporting unit should be considered when measuring the goodwill impairment loss, if applicable.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

The amendments also eliminate the requirements for any reporting unit with a zero or negative carrying amount to perform a qualitative assessment and, if it fails that qualitative test, to perform Step 2 of the goodwill impairment test. An entity still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary.

 

The amendments should be applied on a prospective basis. The nature of and reason for the change in accounting principle should be disclosed upon transition. The amendment is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company does not expect this ASU to have a material impact on the Company's consolidated financial statements.

 

In June of 2016, the FASB issued ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The amendments are intended to improve financial reporting by requiring timelier recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. The ASU requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates.

 

Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. Organizations will continue to use judgment to determine which loss estimation method is appropriate for their circumstances.

 

The ASU requires enhanced disclosures to help investors and other financial statement users to better understand significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. These disclosures include qualitative and quantitative requirements that provide additional information about the amounts recorded in the financial statements. In addition, the ASU amends the accounting guidance for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration.

 

The amendment is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. Early application will be permitted for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. We are currently evaluating the provisions of the ASU and have formed a committee for the purpose of developing a model that is compliant with the requirements under the ASU. An estimate of the impact of this standard has not yet been determined; however, the impact may be significant.

 

In February of 2016, the FASB issued ASU No. 2016-02, Leases (Topic 812). This Update was issued to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. The core principle of Topic 842 is that a lessee should recognize the assets and liabilities that arise from leases. All leases create an asset and a liability for the lessee in accordance with FASB Concepts Statement No. 6, Elements of Financial Statements, and, therefore, recognition of those lease assets and lease liabilities represents an improvement over previous GAAP, which did not require lease assets and lease liabilities to be recognized for most leases. For public companies, the amendments in this update are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Although an estimate of the impact of the new leasing standard has not yet been determined, the Company expects a significant new lease asset and related lease liability on the balance sheet due to the number of leased properties the Company currently has that are accounted for under current operating lease guidance.

 

In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. The new guidance is intended to improve the recognition and measurement of financial instruments. This ASU requires equity investments (except those accounted for under the equity method of accounting, or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. In addition, the amendment requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes and requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (i.e., securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements. This ASU also eliminates the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet. The amendment also requires a reporting organization to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument specific credit risk (also referred to as "own credit") when the organization has elected to measure the liability at fair value in accordance with the fair value option for financial instruments. ASU No. 2016-01 is effective for financial statements issued for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted for certain provisions. The Company is currently evaluating the impact of this ASU on the Company's consolidated financial statements.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

In May of 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers, which creates Topic 606 and supersedes Topic 605, Revenue Recognition. The core principle of Topic 606 is that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In general, the new guidance requires companies to use more judgment and make more estimates than under current guidance, including identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation.

 

The standard is effective for public entities for interim and annual periods beginning after December 15, 2017 as deferred by ASU No. 2015-14; early adoption is not permitted. For financial reporting purposes, the standard allows for either full retrospective adoption, , or modified retrospective adoption.. As a bank, key revenue sources, such as interest income have been identified as out of scope of this new guidance. The Company has not yet determined the financial statement impact this guidance will have.

 

 

NOTE 3. COMMON STOCK OUTSTANDING AND EARNINGS PER SHARE

 

On May 10, 2017, the Company announced the closing of its underwritten public offering, at the public offering price of $10.50 per share. The total number of shares of common stock sold by the Company was 2,738,096 shares. Net proceeds raised in the offering, after underwriting discounts and expenses of the offering, were $26.8 million.

 

Basic earnings per share excludes dilution and is computed by dividing net income by the weighted average number of common shares outstanding for the period, excluding unvested restricted stock awards which do not have voting rights or share in dividends. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that subsequently shared in the earnings of the Holding Company. The computation of diluted earnings per share does not assume conversion, exercise, or contingent issuance of securities that would have an anti-dilutive effect on earnings per share.

 

The following is a computation of basic and diluted earnings per share for the three and six months ended June 30, 2017 and 2016.

 

 

   

For the Three Months Ended

   

For the Six Months Ended

 

(Amounts in thousands, except per share information)

 

June 30,

   

June 30,

 

Earnings Per Share

 

2017

   

2016

   

2017

   

2016

 

Numerators:

                               

Net income

  $ 2,209     $ 1,556     $ 4,461     $ 596  

Denominators:

                               

Weighted average number of common shares outstanding - basic

    15,014       13,367       14,220       13,364  

Effect of potentially dilutive common shares (1)

    99       58       101       44  

Weighted average number of common shares outstanding - diluted

    15,113       13,425       14,321       13,408  

Earnings per common share:

                               

Basic

  $ 0.15     $ 0.11     $ 0.31     $ 0.04  

Diluted

  $ 0.15     $ 0.11     $ 0.31     $ 0.04  

Anti-dilutive options not included in diluted earnings per share calculation

    68       116       77       116  

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

    45             44       41  

(1) Represents the effects of the assumed exercise of stock options and vesting of non-participating restricted shares.

 

 
12

Table of Contents
 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

NOTE 4. SECURITIES

 

The following table presents the amortized costs, unrealized gains, unrealized losses and approximate fair values of our investment securities as of June 30, 2017, and December 31, 2016.

 

   

As of June 30, 2017

 
           

Gross

   

Gross

         
   

Amortized

   

Unrealized

   

Unrealized

   

Estimated

 

(Amounts in thousands)

 

Cost

   

Gain

   

Loss

   

Fair Value

 

Available-for-sale securities:

                               

U.S. government & agencies

  $ 24,220     $ 70     $ (59 )   $ 24,231  

Obligations of state and political subdivisions

    57,076       1,430       (106 )     58,400  

Residential mortgage-backed securities and collateralized mortgage obligations

    91,842       244       (711 )     91,375  

Corporate securities

    8,268       132       (88 )     8,312  

Commercial mortgage-backed securities

    23,584       22       (185 )     23,421  

Other asset-backed securities

    3,937       8       (75 )     3,870  

Total

  $ 208,927     $ 1,906     $ (1,224 )   $ 209,609  

Held-to-maturity securities:

                               

Obligations of state and political subdivisions

  $ 31,329     $ 1,287     $ (67 )   $ 32,549  

 

 

 

   

As of December 31, 2016

 
           

Gross

   

Gross

         
   

Amortized

   

Unrealized

   

Unrealized

   

Estimated

 

(Amounts in thousands)

 

Cost

   

Gain

   

Loss

   

Fair Value

 

Available-for-sale securities:

                               

U.S. government & agencies

  $ 10,427     $ 10     $ (83 )   $ 10,354  

Obligations of state and political subdivisions

    58,847       1,001       (420 )     59,428  

Residential mortgage-backed securities and collateralized mortgage obligations

    71,068       33       (1,497 )     69,604  

Corporate securities

    16,153       103       (140 )     16,116  

Commercial mortgage-backed securities

    15,786       9       (281 )     15,514  

Other asset-backed securities

    4,237       8       (87 )     4,158  

Total

  $ 176,518     $ 1,164     $ (2,508 )   $ 175,174  

Held-to-maturity securities:

                               

Obligations of state and political subdivisions

  $ 31,187     $ 710     $ (523 )   $ 31,374  

 

 

The following table presents the expected maturities of investment securities at June 30, 2017.

 

   

Available-For-Sale

   

Held-To-Maturity

 

(Amounts in thousands)

 

Amortized Cost

   

Fair Value

   

Amortized Cost

   

Fair Value

 

Amounts maturing in:

                               

One year or less

  $ 1,426     $ 1,430     $     $  

After one year through five years

    58,755       58,692       6,750       7,048  

After five years through ten years

    72,341       72,954       11,448       11,889  

After ten years

    76,405       76,533       13,131       13,612  

Total

  $ 208,927     $ 209,609     $ 31,329     $ 32,549  

 

The amortized cost and fair value of residential mortgage-backed securities, collateralized mortgage obligations and commercial mortgage securities are presented by their expected average life, rather than contractual maturity, because the underlying loans may be repaid without prepayment penalties.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

The following table presents the fair value of the securities held for pledging, segregated by purpose, as of June 30, 2017.

 

(Amounts in thousands)

 

Pledged

   

Available To Be

Pledged

   

Total Held For

Pledging Purposes

 

Public funds collateral

  $ 18,799     $ 15,344     $ 34,143  

Federal Home Loan Bank of San Francisco borrowings

          24,250       24,250  

Total

  $ 18,799     $ 39,594     $ 58,393  

 

 

 

The following table presents the cash proceeds from sales of securities and the associated gross realized gains and gross realized losses that have been included in earnings for the three and six months ended June 30, 2017 and 2016.

 

   

Three Months Ended June 30,

   

Six Months Ended June 30,

 

(Amounts in thousands)

 

2017

   

2016

   

2017

   

2016

 

Proceeds from sales of securities

  $ 13,326     $ 14,455     $ 27,252     $ 34,389  
                                 

Gross realized gains on sales of securities:

                               

U.S. government & agencies

  $     $ 8     $     $ 8  

Obligations of state and political subdivisions

    30       40       81       111  

Residential mortgage-backed securities and collateralized mortgage obligations

    19       2       37       2  

Corporate securities

    9       33       10       76  

Commercial mortgage-backed securities

                      4  

Other asset-backed securities

          13             14  

Total gross realized gains on sales of securities

    58       96       128       215  

Gross realized losses on sales of securities:

                               

U.S. government & agencies

          (4 )           (4 )

Residential mortgage-backed securities and collateralized mortgage obligations

    (23 )     (64 )     (24 )     (64 )

Corporate securities

                (3 )     (25 )

Total gross realized losses on sales of securities

    (23 )     (68 )     (27 )     (93 )

Gain on investment securities, net

  $ 35     $ 28     $ 101     $ 122  

 

 

Investment securities that were in an unrealized loss position as of June 30, 2017 and December 31, 2016 are presented in the following tables, based on the length of time individual securities have been in an unrealized loss position. In the opinion of management, these securities are considered only temporarily impaired due to changes in market interest rates or widening of market spreads subsequent to the initial purchase of the securities, and not due to concerns regarding the underlying credit of the issuers or underlying collateral.

 

   

As of June 30, 2017

 
   

Less Than 12 Months

   

12 Months or More

   

Total

 
   

Fair

   

Unrealized

   

Fair

   

Unrealized

   

Fair

   

Unrealized

 

(Amounts in thousands)

 

Value

   

Losses

   

Value

   

Losses

   

Value

   

Losses

 

Available-for-sale securities:

                                               

U.S. government & agencies

  $ 8,259     $ (59 )   $     $     $ 8,259     $ (59 )

Obligations of states and political subdivisions

    10,757       (106 )                 10,757       (106 )

Residential mortgage-backed securities and collateralized mortgage obligations

    45,078       (529 )     8,244       (182 )     53,322       (711 )

Corporate securities

    2,959       (88 )                 2,959       (88 )

Commercial mortgage-backed securities

    15,996       (94 )     4,291       (91 )     20,287       (185 )

Other asset-backed securities

    2,150       (21 )     1,267       (54 )     3,417       (75 )

Total temporarily impaired securities

  $ 85,199     $ (897 )   $ 13,802     $ (327 )   $ 99,001     $ (1,224 )

Held-to-maturity securities:

                                               

Obligations of states and political subdivisions

  $ 2,037     $ (25 )   $ 989     $ (42 )   $ 3,026     $ (67 )

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

   

As of December 31, 2016

 
   

Less Than 12 Months

   

12 Months or More

   

Total

 
   

Fair

   

Unrealized

   

Fair

   

Unrealized

   

Fair

   

Unrealized

 

(Amounts in thousands)

 

Value

   

Loss

   

Value

   

Loss

   

Value

   

Loss

 

Available-for-sale securities:

                                               

U.S. government & agencies

  $ 9,139     $ (83 )   $     $     $ 9,139     $ (83 )

Obligations of states and political subdivisions

    20,329       (420 )                 20,329       (420 )

Residential mortgage-backed securities and collateralized mortgage obligations

    52,345       (1,396 )     4,108       (101 )     56,453       (1,497 )

Corporate securities

    8,908       (140 )                 8,908       (140 )

Commercial mortgage-backed securities

    12,041       (191 )     2,849       (90 )     14,890       (281 )

Other asset-backed securities

    2,280       (28 )     1,346       (59 )     3,626       (87 )

Total temporarily impaired securities

  $ 105,042     $ (2,258 )   $ 8,303     $ (250 )   $ 113,345     $ (2,508 )

Held-to-maturity securities:

                                               

Obligations of states and political subdivisions

  $ 11,639     $ (425 )   $ 933     $ (98 )   $ 12,572     $ (523 )

 

 

At June 30, 2017, 83 securities were in unrealized loss positions and at December 31, 2016, 119 securities were in unrealized loss positions.

 

Other-Than-Temporary Impairment

For the six months ended June 30, 2017, we did not recognize any other-than-temporary impairment losses. We recognized one impairment loss of $546 thousand during the second quarter of 2016 related to our investment in AgriBank and there were no other impairment losses recognized during the year ended December 31, 2016.

 

 

NOTE 5. LOANS

 

Outstanding loan balances consisted of the following at June 30, 2017, and December 31, 2016.

 

(Amounts in thousands)

 

June 30,

   

December 31,

 

Loan Portfolio

 

2017

   

2016

 

Commercial

  $ 152,204     $ 153,844  

Commercial real estate:

               

Real estate - construction and land development

    22,275       36,792  

Real estate - commercial non-owner occupied

    310,995       292,615  

Real estate - commercial owner occupied

    184,868       167,335  

Residential real estate:

               

Real estate - residential - Individual Tax Identification Number (“ITIN”)

    43,229       45,566  

Real estate - residential - 1-4 family mortgage

    18,904       20,425  

Real estate - residential - equity lines

    32,133       35,953  

Consumer and other

    50,780       51,681  

Gross loans

    815,388       804,211  

Deferred fees and costs

    1,541       1,324  

Loans, net of deferred fees and costs

    816,929       805,535  

Allowance for loan and lease losses

    (11,688 )     (11,544 )

Net loans

  $ 805,241     $ 793,991  

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

Gross loan balances in the table above include net purchase discounts of $2.8 million and $2.9 million as of June 30, 2017, and December 31, 2016, respectively.

 

Age analysis of gross loan balances for past due loans, segregated by class of loans, as June 30, 2017, and December 31, 2016, was as follows.

 

                   

Greater

                           

Recorded

 

(Amounts in thousands)

  30-59     60-89    

Than 90

                           

Investment >

 

Past Due Loans at

 

Days Past

   

Days Past

   

Days Past

   

Total Past

                   

90 Days and

 

June 30, 2017

 

Due

   

Due

   

Due

   

Due

   

Current

   

Total

   

Accruing

 

Commercial

  $     $     $     $     $ 152,204     $ 152,204     $  

Commercial real estate:

                                                       

Real estate - construction and land development

                            22,275       22,275        

Real estate - commercial non-owner occupied

                1,196       1,196       309,799       310,995        

Real estate - commercial owner occupied

    145                   145       184,723       184,868        

Residential real estate:

                                                       

Real estate - residential - ITIN

    489       144       760       1,393       41,836       43,229        

Real estate - residential - 1-4 family mortgage

    132             185       317       18,587       18,904        

Real estate - residential - equity lines

    165       55             220       31,913       32,133        

Consumer and other

    136       25             161       50,619       50,780        

Total

  $ 1,067     $ 224     $ 2,141     $ 3,432     $ 811,956     $ 815,388     $  

 

 

                   

Greater

                           

Recorded

 

(Amounts in thousands)

  30-59     60-89    

Than 90

                           

Investment >

 

Past Due Loans at

 

Days Past

   

Days Past

   

Days Past

   

Total Past

                   

90 Days and

 

December 31, 2016

 

Due

   

Due

   

Due

   

Due

   

Current

   

Total

   

Accruing

 

Commercial

  $ 51     $     $     $ 51     $ 153,793     $ 153,844     $  

Commercial real estate:

                                                       

Real estate - construction and land development

                            36,792       36,792        

Real estate - commercial non-owner occupied

                1,196       1,196       291,419       292,615        

Real estate - commercial owner occupied

                114       114       167,221       167,335        

Residential real estate:

                                                       

Real estate - residential - ITIN

    567       80       1,149       1,796       43,770       45,566        

Real estate - residential - 1-4 family mortgage

    147             856       1,003       19,422       20,425        

Real estate - residential - equity lines

    68       36       48       152       35,801       35,953        

Consumer and other

    166       70       11       247       51,434       51,681        

Total

  $ 999     $ 186     $ 3,374     $ 4,559     $ 799,652     $ 804,211     $  

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

The following tables summarize impaired loans by loan class as of June 30, 2017, and December 31, 2016.

 

   

As of June 30, 2017

 
           

Unpaid

         

(Amounts in thousands)

 

Recorded

   

Principal

   

Related

 

Impaired Loans

 

Investment

   

Balance

   

Allowance

 

With no related allowance recorded:

                       

Commercial

  $ 1,351     $ 2,282     $  

Commercial real estate:

                       

Real estate - commercial non-owner occupied

    1,196       1,196        

Real estate - commercial owner occupied

    639       679        

Residential real estate:

                       

Real estate - residential - ITIN

    6,496       8,231        

Real estate - residential - 1-4 family mortgage

    653       1,137        

Real estate - residential - equity lines

    872       1,317        

Total with no related allowance recorded

  $ 11,207     $ 14,842     $  
                         

With an allowance recorded:

                       

Commercial

  $ 1,762     $ 1,789     $ 602  

Commercial real estate:

                       

Real estate - commercial non-owner occupied

    806       806       80  

Residential real estate:

                       

Real estate - residential - ITIN

    1,562       1,601       172  

Real estate - residential - equity lines

    445       445       223  

Consumer and other

    38       38       13  

Total with an allowance recorded

  $ 4,613     $ 4,679     $ 1,090  
                         

By loan class:

                       

Commercial

  $ 3,113     $ 4,071     $ 602  

Commercial real estate

    2,641       2,681       80  

Residential real estate

    10,028       12,731       395  

Consumer and other

    38       38       13  

Total impaired loans

  $ 15,820     $ 19,521     $ 1,090  

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

   

As of December 31, 2016

 

(Amounts in thousands)

 

Recorded

   

Principal

   

Related

 

Impaired Loans

 

Investment

   

Balance

   

Allowance

 

With no related allowance recorded:

                       

Commercial

  $ 1,573     $ 2,438     $  

Commercial real estate:

                       

Real estate - commercial non-owner occupied

    1,196       1,196        

Real estate - commercial owner occupied

    784       841        

Residential real estate:

                       

Real estate - residential - ITIN

    6,047       7,685        

Real estate - residential - 1-4 family mortgage

    1,914       2,722        

Real estate - residential - equity lines

    917       1,342        

Consumer and other

    210       216        

Total with no related allowance recorded

  $ 12,641     $ 16,440     $  
                         

With an allowance recorded:

                       

Commercial

  $ 1,952     $ 1,957     $ 641  

Commercial real estate:

                       

Real estate - commercial non-owner occupied

    808       808       21  

Real estate - commercial owner occupied

    337       337       64  

Residential real estate:

                       

Real estate - residential - ITIN

    2,562       2,617       494  

Real estate - residential - equity lines

    454       454       227  

Consumer and other

    40       40       14  

Total with an allowance recorded

  $ 6,153     $ 6,213     $ 1,461  
                         

By loan class:

                       

Commercial

  $ 3,525     $ 4,395     $ 641  

Commercial real estate

    3,125       3,182       85  

Residential real estate

    11,894       14,820       721  

Consumer and other

    250       256       14  

Total impaired loans

  $ 18,794     $ 22,653     $ 1,461  

 

 

Nonaccrual loans, segregated by loan class, were as follows as of June 30, 2017 and December 31, 2016.

 

(Amounts in thousands)

 

June 30,

   

December 31,

 

Nonaccrual Loans

 

2017

   

2016

 

Commercial

  $ 2,410     $ 2,749  

Commercial real estate:

               

Real estate - commercial non-owner occupied

    1,196       1,196  

Real estate - commercial owner occupied

    639       784  

Residential real estate:

               

Real estate - residential - ITIN

    3,346       3,576  

Real estate - residential - 1-4 family mortgage

    653       1,914  

Real estate - residential - equity lines

    872       917  

Consumer and other

    38       250  

Total

  $ 9,154     $ 11,386  

 

Had nonaccrual loans performed in accordance with their contractual terms, we would have recognized additional interest income, net of tax, of approximately $76 thousand and $165 thousand for the three months ended June 30, 2017 and 2016, respectively. We would have recognized additional interest income, net of tax, of approximately $174 thousand and $175 thousand for the six months ended June 30, 2017 and 2016, respectively.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

The following table summarizes average recorded investment and interest income recognized on impaired loans by loan class for the three and six months ended June 30, 2017 and 2016.

 

 

   

Three Months Ended

   

Three Months Ended

 
   

June 30, 2017

   

June 30, 2016

 
   

Average

   

Interest

   

Average

   

Interest

 

(Amounts in thousands)

 

Recorded

   

Income

   

Recorded

   

Income

 

Average Recorded Investment and Interest Income

 

Investment

   

Recognized

   

Investment

   

Recognized

 

Commercial

  $ 3,210     $ 9     $ 2,835     $ 4  

Commercial real estate:

                               

Real estate - commercial non-owner occupied

    2,003       12       2,016       12  

Real estate - commercial owner occupied

    642             1,401       6  

Residential real estate:

                               

Real estate - residential - ITIN

    8,061       40       9,123       41  

Real estate - residential - 1-4 family mortgage

    1,102             1,761        

Real estate - residential - equity lines

    1,338       5       1,895       7  

Consumer and other

    38             109        

Total

  $ 16,394     $ 66     $ 19,140     $ 70  

 

 

 

   

Six Months Ended

   

Six Months Ended

 
   

June 30, 2017

   

June 30, 2016

 
   

Average

   

Interest

   

Average

   

Interest

 

(Amounts in thousands)

 

Recorded

   

Income

   

Recorded

   

Income

 

Average Recorded Investment and Interest Income

 

Investment

   

Recognized

   

Investment

   

Recognized

 

Commercial

  $ 3,303     $ 20     $ 2,525     $ 4  

Commercial real estate:

                               

Real estate - commercial non-owner occupied

    2,003       23       2,018       24  

Real estate - commercial owner occupied

    726       2       1,425       12  

Residential real estate:

                               

Real estate - residential - ITIN

    8,166       79       9,141       82  

Real estate - residential - 1-4 family mortgage

    1,415             1,757        

Real estate - residential - equity lines

    1,349       9       1,507       13  

Consumer and other

    107             71        

Total

  $ 17,069     $ 133     $ 18,444     $ 135  

 

 

The impaired loans for which these interest income amounts were recognized primarily relate to accruing troubled debt restructured loans. Loans are reported as troubled debt restructurings when we grant a concession(s) to a borrower experiencing financial difficulties that we would not otherwise consider. Examples of such concessions include a reduction in the loan rate, forgiveness of principal or accrued interest, extending the maturity date(s) significantly, or providing a lower interest rate than would be normally available for a transaction of similar risk. As a result of these concessions, restructured loans are impaired as we will not collect all amounts due, either principal or interest, in accordance with the terms of the original loan agreement.

 

At June 30, 2017 and December 31, 2016, impaired loans of $6.7 million and $7.1 million, respectively, were classified as performing restructured loans.

 

In order for a restructured loan to be on accrual status, the loan’s collateral coverage must generally be greater than or equal to 100% of the loan balance, the loan payments must be current, and the borrower must demonstrate the ability to make payments from a verified source of cash flow. As of June 30, 2017, we had one restructured commercial line of credit in nonaccrual status that had $107 thousand in available credit. We had no other obligations to lend additional funds on any other restructured loans as of June 30, 2017 or December 31, 2016.

 

As of June 30, 2017, we had $11.3 million in troubled debt restructurings compared to $12.1 million as of December 31, 2016. As of June 30, 2017, we had 118 loans that qualified as troubled debt restructurings, of which 111 loans were performing according to their restructured terms. Troubled debt restructurings represented 1.39% of gross loans as of June 30, 2017, compared to 1.50% at December 31, 2016.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

The types of modifications offered can generally be described in the following categories:

 

Rate – A modification in which the interest rate is changed.

 

Maturity – A modification in which the maturity date, timing of payments or frequency of payments are changed.

 

Payment deferral – A modification in which a portion of the principal is deferred.

 

Principal reduction – A modification in which a portion of the owing principal is decreased.

 

The following tables present the period end balances of newly restructured loans and the types of modifications that occurred during the three and six months ended June 30, 2017 and 2016.

 

 

   

For the Three Months Ended
June 30, 2017

   

For the Three Months Ended
June 30, 2016

 

(Amounts in thousands)

         

Rate &

                           

Rate &

                 

Troubled Debt Restructuring
Modification Types

 

Rate &

Maturity

   

Payment

Deferral

   

Payment

Deferral

   

Total

   

Rate &

Maturity

   

Payment

Deferral

   

Payment

Deferral

   

Total

 

Commercial

  $     $     $     $     $ 1,058     $     $     $ 1,058  

Residential real estate:

                                                               

Real estate - residential - ITIN

          61             61                          

Total

  $     $ 61     $     $ 61     $ 1,058     $     $     $ 1,058  

 

 

 

 

   

For the Six Months Ended
June 30, 2017

   

For the Six Months Ended
June 30, 2016

 

(Amounts in thousands)

         

Rate &

                           

Rate &

                 

Troubled Debt Restructuring
Modification Types

 

Rate &

Maturity

   

Payment

Deferral

   

Payment

Deferral

   

Total

   

Rate &

Maturity

   

Payment

Deferral

   

Payment

Deferral

   

Total

 

Commercial

  $     $     $     $     $ 1,058     $     $     $ 1,058  

Residential real estate:

                                                               

Real estate - residential - ITIN

          61             61                   120       120  

Total

  $     $ 61     $     $ 61     $ 1,058     $     $ 120     $ 1,178  

 

 

For the three and six months ended June 30, 2017 and 2016, the tables below provide information regarding the number of loans where the contractual terms have been restructured in a manner, which grants a concession to a borrower experiencing financial difficulties.

 

 

   

For the Three Months Ended June 30, 2017

   

For the Three Months Ended June 30, 2016

 
           

Pre-

   

Post-

           

Pre-

   

Post-

 
           

Modification

   

Modification

           

Modification

   

Modification

 
           

Outstanding

   

Outstanding

           

Outstanding

   

Outstanding

 

(Amounts in thousands)

 

Number of

   

Recorded

   

Recorded

   

Number of

   

Recorded

   

Recorded

 

Troubled Debt Restructurings

 

Contracts

   

Investment

   

Investment

   

Contracts

   

Investment

   

Investment

 

Commercial

        $     $       1     $ 1,127     $ 1,127  

Residential real estate:

                                               

Real estate - residential - ITIN

    1       81       61                    

Total

    1     $ 81     $ 61       1     $ 1,127     $ 1,127  

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

 

   

For the Six Months Ended June 30, 2017

   

For the Six Months Ended June 30, 2016

 
           

Pre-

   

Post-

           

Pre-

   

Post-

 
           

Modification

   

Modification

           

Modification

   

Modification

 
           

Outstanding

   

Outstanding

           

Outstanding

   

Outstanding

 

(Amounts in thousands)

 

Number of

   

Recorded

   

Recorded

   

Number of

   

Recorded

   

Recorded

 

Troubled Debt Restructurings

 

Contracts

   

Investment

   

Investment

   

Contracts

   

Investment

   

Investment

 

Commercial

        $     $       1     $ 1,127     $ 1,127  

Residential real estate:

                                               

Real estate - residential - ITIN

    1       81       61       1       171       170  

Total

    1     $ 81     $ 61       2     $ 1,298     $ 1,297  

 

 

There were no loans modified as troubled debt restructuring during the 12-month periods preceding June 30, 2017 and 2016, for which there was a payment default during the three and six months ended June 30, 2017 and 2016.

 

The recorded investment in consumer mortgage loans collateralized by residential real estate property that are in the process of foreclosure is $368 thousand.

 

We define a performing loan as a loan where any installment of principal or interest is not 90 days or more past due, and management believes the ultimate collection of original contractual principal and interest is likely. We define a nonperforming loan as an impaired loan, which may be on nonaccrual, 90 days past due and still accruing, or has been restructured and does not comply with its modified terms, and our ultimate collection of original contractual principal and interest is uncertain.

 

Performing and nonperforming loans, segregated by class of loans, were as follows at June 30, 2017 and December 31, 2016.

 

(Amounts in thousands)

 

June 30, 2017

 

Performing and Nonperforming Loans

 

Performing

   

Nonperforming

   

Total

 

Commercial

  $ 149,794     $ 2,410     $ 152,204  

Commercial real estate:

                       

Real estate - construction and land development

    22,275             22,275  

Real estate - commercial non-owner occupied

    309,799       1,196       310,995  

Real estate - commercial owner occupied

    184,229       639       184,868  

Residential real estate:

                       

Real estate - residential - ITIN

    39,883       3,346       43,229  

Real estate - residential - 1-4 family mortgage

    18,251       653       18,904  

Real estate - residential - equity lines

    31,261       872       32,133  

Consumer and other

    50,742       38       50,780  

Total

  $ 806,234     $ 9,154     $ 815,388  

 

 

 

(Amounts in thousands)

 

December 31, 2016

 

Performing and Nonperforming Loans

 

Performing

   

Nonperforming

   

Total

 

Commercial

  $ 151,095     $ 2,749     $ 153,844  

Commercial real estate:

                       

Real estate - construction and land development

    36,792             36,792  

Real estate - commercial non-owner occupied

    291,419       1,196       292,615  

Real estate - commercial owner occupied

    166,551       784       167,335  

Residential real estate:

                       

Real estate - residential - ITIN

    41,990       3,576       45,566  

Real estate - residential - 1-4 family mortgage

    18,511       1,914       20,425  

Real estate - residential - equity lines

    35,036       917       35,953  

Consumer and other

    51,431       250       51,681  

Total

  $ 792,825     $ 11,386     $ 804,211  

 

The foundation or primary factor in determining the appropriate credit quality indicators is the degree of a debtor’s willingness and ability to perform as agreed. In conjunction with evaluating the performing versus nonperforming nature of our loan portfolio, management evaluates the following credit risk and other relevant factors in determining the appropriate credit quality indicator (rating) for each loan class:

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

Pass Grade: A Pass loan is a strong credit with no existing or known weaknesses that may require management’s close attention. Some pass loans require short-term enhanced monitoring to determine when the credit relationship would merit either an upgrade or a downgrade. Loans classified as Pass Grade specifically demonstrate:

 

 

Strong Cash Flows – borrower’s cash flows must meet or exceed our minimum debt service coverage ratio.

 

Collateral Margin – generally, the borrower must have pledged an acceptable collateral class with an adequate collateral margin.

 

Qualitative Factors – in addition to meeting our minimum cash flow and collateral requirements, a number of other qualitative factors are also factored into assigning a Pass Grade including the borrower’s level of leverage (debt to equity), prospects, history and experience in their industry, credit history, and any other relevant factors including a borrower’s character.

 

Those borrowers who qualify for unsecured loans must fully demonstrate above average cash flows and strong secondary sources of repayment to mitigate the lack of unpledged collateral.

 

Watch Grade: The credit is acceptable but the borrower has experienced a temporary setback or adverse information has been received, and may exhibit one or more of the characteristics shown in the list below. This risk grade could apply to credits on a temporary basis pending a full review. Credits with this risk grade will require more handling time and increased management. The list below contains characteristics of this risk grade, but individually do not automatically cause the loan to be assigned a Watch Grade.

 

 

The primary source of repayment may be weakening causing greater reliance on the secondary source of repayment or

 

The primary source of repayment is adequate, but the secondary source of repayment is insufficient

 

In-depth financial analysis would compare to the lower quartile in two or more of the major components of the Risk Management Association Annual Statement Studies

 

Volatile or deteriorating collateral

 

Management decisions may be called into question

 

Delinquencies in bank credits or other financial/trade creditors

 

Frequent overdrafts

 

Significant change in management/ownership

 

Special Mention Grade: Credits in this grade are potentially weak and deserve management's close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects of the credit. Special Mention credits are not adversely classified and do not expose the Bank to sufficient risk to warrant adverse classification. The list below exhibits the characteristics of this grade, but individually do not automatically cause the borrower to be assigned a grade of Special Mention:

 

 

Inadequate or incomplete loan documentation or perfection of collateral, or any other deviation from prudent lending practices

 

Credit is structured in a manner in which the timing of the repayment source does not match the payment schedule or maturity, materially jeopardizing repayment

 

Current economic or market conditions exist which may affect the borrower's ability to perform or affect the Bank's collateral position

 

Adverse trends in the borrower's operations or continued deterioration in the borrower’s financial condition that has not yet reached a point where the retirement of debt is jeopardized. A credit in this grade should have favorable prospects of the deteriorating financial trends reversing within a reasonable timeframe.

 

The borrower is less than cooperative or unable to produce current and adequate financial information

 

Substandard Grade: A Substandard credit is inadequately protected by the current net worth and paying capacity of the borrower or of the collateral pledged, if any. Substandard credits have a well-defined weakness or weaknesses that jeopardize the liquidation or timely collection of the debt. Substandard credits are characterized by the distinct possibility that we will sustain some loss if the deficiencies are not corrected. However, a potential loss does not have to be recognizable in an individual credit for it to be considered a substandard credit. As such, substandard credits may or may not be graded as impaired.

 

The following represents, but is not limited to, the potential characteristics of a Substandard Grade and do not necessarily generate automatic reclassification into this loan grade:

 

 

Sustained or substantial deteriorating financial trends,

 

Unresolved management problems,

 

Collateral is insufficient to repay debt; collateral is not sufficiently supported by independent sources, such as asset-based financial audits, appraisals, or equipment evaluations,

 

Improper perfection of lien position, which is not readily correctable,

 

Unanticipated and severe decline in market values,

 

High reliance on secondary source of repayment,

 

Legal proceedings, such as bankruptcy or a divorce, which has substantially decreased the borrower’s capacity to repay the debt,

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

 

Fraud committed by the borrower,

 

IRS liens that take precedence,

 

Forfeiture statutes for assets involved in criminal activities,

 

Protracted repayment terms outside of policy that are for longer than the same type of credit in our portfolio,

 

Any other relevant quantitative or qualitative factor that negatively affects the current net worth and paying capacity of the borrower or of the collateral pledged, if any.

 

 

Doubtful Grade: A Doubtful loan has all the weaknesses inherent in one classified Substandard with the added characteristic that the weaknesses make collection or liquidation in full, based on currently existing facts, conditions and values, highly questionable and improbable. The possibility of loss is extremely high, but because of certain pending factors that may work to the advantage and strengthening of the credit, its classification as an estimated loss is deferred until its more exact status may be determined. Pending factors may include, but are not limited to:

 

 

Proposed merger(s),

 

Acquisition or liquidation procedures,

 

Capital injection,

 

Perfecting liens on additional collateral,

 

Refinancing plans.

 

Generally, a Doubtful Grade does not remain outstanding for a period greater than six months. After six months, the pending events should have either occurred or not occurred. The credit grade should have improved or the principal balance charged against the ALLL.

 

The following table summarizes internal risk grades by loan class as of June 30, 2017 and December 31, 2016.

 

   

As of June 30, 2017

 
                   

Special

                         

(Amounts in thousands)

 

Pass

   

Watch

   

Mention

   

Substandard

   

Doubtful

   

Total

 

Commercial

  $ 109,725     $ 36,319     $ 3,144     $ 3,016     $     $ 152,204  

Commercial real estate:

                                               

Real estate - construction and land development

    22,274       1                         22,275  

Real estate - commercial non-owner occupied

    298,596       9,413       398       2,588             310,995  

Real estate - commercial owner occupied

    172,614       10,282             1,972             184,868  

Residential real estate:

                                               

Real estate - residential - ITIN

    36,467                   6,762             43,229  

Real estate - residential - 1-4 family mortgage

    17,448       803             653             18,904  

Real estate - residential - equity lines

    28,833       2,017       67       1,216             32,133  

Consumer and other

    50,715       2             63             50,780  

Total

  $ 736,672     $ 58,837     $ 3,609     $ 16,270     $     $ 815,388  

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

   

As of December 31, 2016

 
                   

Special

                         

(Amounts in thousands)

 

Pass

   

Watch

   

Mention

   

Substandard

   

Doubtful

   

Total

 

Commercial

  $ 124,089     $ 21,684     $ 4,570     $ 3,501     $     $ 153,844  

Commercial real estate:

                                               

Real estate - construction and land development

    36,782       10                         36,792  

Real estate - commercial non-owner occupied

    284,099       5,398       1,321       1,797             292,615  

Real estate - commercial owner occupied

    157,064       7,301       496       2,474             167,335  

Residential real estate:

                                               

Real estate - residential - ITIN

    38,279                   7,287             45,566  

Real estate - residential - 1-4 family mortgage

    17,696       815             1,914             20,425  

Real estate - residential - equity lines

    33,828       858             1,267             35,953  

Consumer and other

    51,398       2             281             51,681  

Total

  $ 743,235     $ 36,068     $ 6,387     $ 18,521     $     $ 804,211  

 

 

The following tables summarize the ALLL by portfolio for the three and six months ended June 30, 2017 and 2016.

 

   

For the Three Months Ended June 30, 2017

 

(Amounts in thousands)

         

Commercial

   

Residential

                         

ALLL by Loan Class

 

Commercial

   

Real Estate

   

Real Estate

   

Consumer

   

Unallocated

   

Total

 

Beginning balance

  $ 2,649     $ 5,963     $ 1,490     $ 1,074     $ 465     $ 11,641  

Charge-offs

                (115 )     (244 )           (359 )

Recoveries

    36             19       51             106  

Provision

    165       109       (197 )     256       (33 )     300  

Ending balance

  $ 2,850     $ 6,072     $ 1,197     $ 1,137     $ 432     $ 11,688  

 

 

 

 

   

For the Three Months Ended June 30, 2016

 

(Amounts in thousands)

         

Commercial

   

Residential

                         

ALLL by Loan Class

 

Commercial

   

Real Estate

   

Real Estate

   

Consumer

   

Unallocated

   

Total

 

Beginning balance

  $ 2,466     $ 5,892     $ 1,961     $ 814     $ 362     $ 11,495  

Charge-offs

    (1,020 )     (31 )     (478 )     (205 )           (1,734 )

Recoveries

    1,496       475       105       27             2,103  

Provision

    (351 )     (307 )     283       127       248        

Ending balance

  $ 2,591     $ 6,029     $ 1,871     $ 763     $ 610     $ 11,864  

 

 

 

 

   

For the Six Months Ended June 30, 2017

 

(Amounts in thousands)

         

Commercial

   

Residential

                         

ALLL by Loan Class

 

Commercial

   

Real Estate

   

Real Estate

   

Consumer

   

Unallocated

   

Total

 

Beginning balance

  $ 2,849     $ 5,578     $ 1,716     $ 955     $ 446     $ 11,544  

Charge-offs

    (51 )           (284 )     (471 )           (806 )

Recoveries

    235       27       94       94             450  

Provision

    (183 )     467       (329 )     559       (14 )     500  

Ending balance

  $ 2,850     $ 6,072     $ 1,197     $ 1,137     $ 432     $ 11,688  

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

 

   

For the Six Months Ended June 30, 2016

 

(Amounts in thousands)

         

Commercial

   

Residential

                         

ALLL by Loan Class

 

Commercial

   

Real Estate

   

Real Estate

   

Consumer

   

Unallocated

   

Total

 

Beginning balance

  $ 2,493     $ 5,784     $ 1,577     $ 770     $ 556     $ 11,180  

Charge-offs

    (1,106 )     (37 )     (550 )     (348 )           (2,041 )

Recoveries

    78       2,480       86       81             2,725  

Provision

    1,126       (2,198 )     758       260       54        

Ending balance

  $ 2,591     $ 6,029     $ 1,871     $ 763     $ 610     $ 11,864  

 

 

The following tables summarize the ALLL and the recorded investment in loans and leases as of June 30, 2017 and December 31, 2016.

 

   

As of June 30, 2017

 
           

Commercial

   

Residential

                         

(Amounts in thousands)

 

Commercial

   

Real Estate

   

Real Estate

   

Consumer

   

Unallocated

   

Total

 

ALLL:

                                               

Individually evaluated for impairment

  $ 602     $ 80     $ 395     $ 13     $     $ 1,090  

Collectively evaluated for impairment

    2,248       5,992       802       1,124       432       10,598  

Total

  $ 2,850     $ 6,072     $ 1,197     $ 1,137     $ 432     $ 11,688  

Gross loans:

                                               

Individually evaluated for impairment

  $ 3,113     $ 2,641     $ 10,028     $ 38     $     $ 15,820  

Collectively evaluated for impairment

    149,091       515,497       84,238       50,742             799,568  

Total gross loans

  $ 152,204     $ 518,138     $ 94,266     $ 50,780     $     $ 815,388  

 

 

 

   

As of December 31, 2016

 
           

Commercial

   

Residential

                         

(Amounts in thousands)

 

Commercial

   

Real Estate

   

Real Estate

   

Consumer

   

Unallocated

   

Total

 

ALLL:

                                               

Individually evaluated for impairment

  $ 641     $ 85     $ 721     $ 14     $     $ 1,461  

Collectively evaluated for impairment

    2,208       5,493       995       941       446       10,083  

Total

  $ 2,849     $ 5,578     $ 1,716     $ 955     $ 446     $ 11,544  

Gross loans:

                                               

Individually evaluated for impairment

  $ 3,525     $ 3,125     $ 11,894     $ 250     $     $ 18,794  

Collectively evaluated for impairment

    150,319       493,617       90,050       51,431             785,417  

Total gross loans

  $ 153,844     $ 496,742     $ 101,944     $ 51,681     $     $ 804,211  

 

 

The ALLL totaled $11.7 million or 1.43% of total gross loans at June 30, 2017 and $11.5 million or 1.44% at December 31, 2016. As of June 30, 2017 and December 31, 2016, we had commitments to extend credit of $213.4 million and $229.4 million, respectively. The reserve for unfunded commitments recorded in Other Liabilities in the Consolidated Balance Sheets at June 30, 2017 and December 31, 2016 was $695 thousand.

 

The ALLL is based upon estimates of loan and lease losses and is maintained at a level considered adequate to provide for probable losses inherent in the outstanding loan portfolio. Our ALLL methodology significantly incorporates management’s current judgments, and reflects the reserve amount that is necessary for estimated loan and lease losses and risks inherent in the loan portfolio in accordance with ASC Topic 450 Contingencies and ASC Topic 310 Receivables.

 

The allowance is increased by provisions charged to expense and reduced by net charge-offs. In periodic evaluations of the adequacy of the allowance balance, management considers past loan and lease loss experience by type of credit, known and inherent risks in the portfolio, adverse situations that may affect a borrower’s ability to repay, the estimated value of any underlying collateral, current economic conditions and other factors. We formally assess the adequacy of the ALLL on a monthly basis. These assessments include the periodic re-grading of classified loans based on changes in their individual credit characteristics including delinquency, seasoning, recent financial performance of the borrower, economic factors, changes in the interest rate environment and other factors as warranted. Loans are initially rated when originated. They are reviewed as they are renewed, when there is a new loan to the same borrower and/or when identified facts demonstrate heightened risk of default. Confirmation of the quality of our grading process is obtained by independent reviews conducted by outside consultants specifically hired for this purpose and by periodic examination by various bank regulatory agencies.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

Management monitors delinquent loans continuously and identifies problem loans to be evaluated individually for impairment testing. For loans that are determined impaired, a formal impairment measurement is performed at least quarterly on a loan-by-loan basis.

 

Our method for assessing the appropriateness of the allowance includes specific allowances for identified problem loans, an allowance factor for categories of credits and allowances for changing environmental factors (e.g., portfolio trends, concentration of credit, growth, economic factors). Allowances for identified problem loans are based on specific analysis of individual credits. Loss estimation factors for loan categories are based on analysis of local economic factors applicable to each loan category. Allowances for changing environmental factors are management’s best estimate of the probable impact these changes have had on the loan portfolio as a whole.

 

We believe that the ALLL was adequate as of June 30, 2017. There is, however, no assurance that future loan and lease losses will not exceed the levels provided for in the ALLL and could possibly result in additional charges to the provision for loan and lease losses. In addition, bank regulatory authorities, as part of their periodic examination of the Company, may require additional charges to the provision for loan and lease losses in future periods if warranted as a result of their review.

 

As of June 30, 2017, approximately 75% of our gross loan portfolio is secured by real estate, and a significant decline in real estate market values may require an increase in the ALLL. Deterioration in our markets may adversely affect our loan portfolio and may lead to additional charges to the provision for loan and lease losses.

 

All impaired loans are individually evaluated for impairment. If the measurement of each impaired loans’ value is less than the recorded investment in the loan, we recognize this impairment and adjust the carrying value of the loan to fair value through the ALLL. For collateral dependent loans, this can be accomplished by charging off the impaired portion of the loan based on the underlying value of the collateral. For non-collateral dependent loans, we establish a specific component within the ALLL based on the present value of the future cash flows. If we determine the sources of repayment will not result in a reasonable probability that the carrying value of a loan can be recovered, the amount of a loan’s specific impairment is charged off against the ALLL. Impairment reserves on non-collateral dependent restructured loans are measured by comparing the present value of expected future cash flows on the restructured loans discounted at the interest rate of the original loan agreement to the loan’s carrying value. These impairment reserves are recognized as a specific component to be provided for in the ALLL.

 

The unallocated portion of ALLL provides for coverage of credit losses inherent in the loan portfolio but not captured in the credit loss factors that are utilized in the risk rating-based component, or in the specific impairment reserve component of the ALLL, and acknowledges the inherent imprecision of all loss prediction models. As of June 30, 2017 and December 31, 2016, the unallocated allowance amount represented 4% of the ALLL. While the ALLL composition is an indication of specific amounts or loan categories in which future charge-offs may occur, actual amounts may differ.

 

We have lending policies and procedures in place with the objective of optimizing loan income within an accepted risk tolerance level. We review and approve these policies and procedures annually. Monitoring and reporting systems supplement the review process with regular frequency as related to loan production, loan quality, concentrations of credit, potential problem loans, loan delinquencies, and nonperforming loans.

 

The following is a brief summary, by loan type, of management’s evaluation of the general risk characteristics and underwriting standards:

 

Commercial Loans – Commercial loans are underwritten after evaluating the borrower’s financial ability to maintain profitability including future expansion objectives. In addition, the borrower’s qualitative qualities are evaluated, such as management skills and experience, ethical traits, and overall business acumen. Commercial loans are primarily extended based on the cash flows of the borrower and secondarily on the underlying collateral provided by the borrower. The borrower’s cash flow may deviate from initial projections, and the value of collateral securing these loans may vary.

 

Most commercial loans are generally secured by the assets being financed and other business assets such as accounts receivable or inventory. Management may also incorporate a personal guarantee; however, some short-term loans may be extended on an unsecured basis. Repayment of commercial loans secured by accounts receivable may be substantially dependent on the ability of the borrower to collect amounts due from its customers.

 

Commercial Real Estate (“CRE”) Loans – CRE loans are subject to similar underwriting standards and processes as commercial loans. CRE loans are viewed predominantly as cash flow loans and secondarily as loans collateralized by real estate. Generally, CRE lending involves larger principal amounts with repayment largely dependent on the successful operation of the property securing the loan or the business conducted on the collateralized property. CRE loans tend to be more adversely affected by conditions in the real estate markets or by general economic conditions.

 

The properties securing the CRE portfolio are diverse in terms of type and primary source of repayment. This diversity helps reduce our exposure to adverse economic events that affect any single industry. We monitor and evaluate CRE loans based on occupancy status (investor versus owner occupied), collateral, geography, and risk grade criteria.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

Generally, CRE loans to developers and builders that are secured by non-owner occupied properties require the borrower to have had an existing relationship with the Company and a proven record of success. Construction loans are underwritten utilizing feasibility studies, sensitivity analysis of absorption and lease rates, and financial analysis of the developers and property owners. Construction loans are generally based upon estimates of cost and value associated with the complete project (as-is value). These estimates may be inaccurate. Construction loans often involve the disbursement of substantial funds with repayment largely dependent on the success of the ultimate project. Sources of repayment for these types of loans may be pre-committed permanent loans from approved long-term lenders, sales of developed property, or an interim loan commitment from the Company until permanent financing is secured. These loans are closely monitored by on-site inspections, and are considered to have higher inherent risks than other CRE loans due to their ultimate repayment sensitivity to interest rate changes, governmental regulation of real property, general economic conditions, and the availability of long-term financing.

 

Consumer Loans – Our consumer loan originations are generally limited to home equity loans with nominal originations in unsecured personal loans. The portfolio also includes unsecured consumer home improvement loans and residential solar panel loans secured by UCC filings. We are highly dependent on third party credit scoring analysis to supplement the internal underwriting process. To monitor and manage consumer loan risk, policies and procedures are developed and modified, as needed, jointly by management and staff personnel. This activity, coupled with relatively small loan amounts that are spread across many individual borrowers, minimizes risk. Additionally, trend and outlook reports are reviewed by management on a regular basis. Underwriting standards for home equity loans are heavily influenced by statutory requirements, which include, but are not limited to, a maximum loan-to-value percentage of 80%, collection remedies, the number of such loans a borrower can have at one time, and documentation requirements.

 

We maintain an independent loan review program that reviews and validates the credit risk program on a periodic basis. Results of these reviews are presented to the Board of Directors and Audit Committee. The loan review process complements and reinforces the risk identification and assessment decisions made by lenders and credit personnel, as well as our policies and procedures.

 

Management’s continuing evaluation of all known relevant quantitative and qualitative internal and external risk factors provides the foundation for the three major components of the ALLL: (1) historical valuation allowances established in accordance with ASC 450, Contingencies (“ASC 450”) for groups of similarly situated loan pools; (2) general valuation allowances established in accordance with ASC 450 and based on qualitative credit risk factors; and (3) specific valuation allowances established in accordance with ASC 310, Receivables (“ASC 310”) and based on estimated probable losses on specific impaired loans. All three components are aggregated and constitute the ALLL; while portions of the allowance may be allocated to specific credits, the allowance net of specific reserves is available for the remaining credits that management deems as “loss.” It is our policy to classify a credit as loss with a concurrent charge-off when management considers the credit uncollectible and of such little value that its continuance as a bankable asset is not warranted. A loss classification does not mean that the loan has absolutely no recovery or salvage value, but rather it is not practical or desirable to defer recognizing the likely credit loss of a valueless asset even though partial recovery may occur in the future.

 

Our loan portfolio is evaluated by general loan class including commercial, commercial real estate (which includes construction and other real estate), residential real estate (which includes 1-4 family and home equity loans), consumer and other loans. In accordance with ASC 450, historical valuation allowances are established for loan pools with similar risk characteristics common to each loan grouping. These loan pools are similarly risk-graded and each portfolio is evaluated by identifying all relevant risk characteristics that are common to these segmented groups of loans. These characteristics include a significant emphasis on historical losses within each loan group, inherent risks for each, and specific loan class characteristics such as trends related to nonaccrual loans, past due loans, criticized loans, net charge-offs or recoveries, among other relevant credit risk factors. We periodically review and update our historical loss ratios based on net charge-off experience for each loan and lease class. Other credit risk factors are also reviewed periodically and adjusted as necessary to account for any changes in potential loss exposure.

 

General valuation allowances, as prescribed by ASC 450, are based on qualitative factors such as changes in asset quality trends, concentrations of credit or changes in concentrations of credit, changes in underwriting standards, changes in experience or depth of lending staff or management, the effectiveness of loan grading and the internal loan review function, and any other relevant factors. Management evaluates each qualitative component quarterly to determine the associated risks to the quality of our loan portfolio.

 

 

NOTE 6. QUALIFIED AFFORDABLE HOUSING PARTNERSHIP INVESTMENTS

 

Our investments in Qualified Affordable Housing Partnerships that generate Low Income Housing Tax Credits (“LIHTC”) and deductible operating losses totaled $3.9 million at June 30, 2017. These investments are recorded in Other Assets with a corresponding funding obligation of $467 thousand recorded in Other Liabilities in our Consolidated Balance Sheets. We have invested in four separate LIHTC partnerships, which provide the Company with CRA credit. Additionally, the investments in LIHTC partnerships provide us with tax credits and with operating loss tax benefits over an approximately 18-year period. None of the original investments will be repaid. The tax credits and the operating loss tax benefits that are generated by each of the properties are expected to exceed the total value of the investments we made and provide returns on the investments of between 5% and 8%. The investments in LIHTC partnerships are being accounted for using the proportional amortization method, under which we amortize the initial cost of an investment in proportion to the amount of the tax credits and other tax benefits received, and recognize the net investment performance in the Consolidated Statements of Income as a component of income tax expense.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

The following table presents our original investment in LIHTC partnerships, the current recorded investment balance, and the unfunded liability balance of each investment at June 30, 2017 and December 31, 2016. In addition, the table reflects the tax credits and tax benefits, amortization of the investment and the net impact to our income tax provision for the six months ended June 30, 2017 and the year ended December 31, 2016.

 

   

At June 30, 2017

   

For the Six Months Ended June 30, 2017

 
   

Original

   

Current

   

Unfunded

   

Tax Credits

   

Amortization

   

Net

 

(Amounts in thousands)

 

Investment

   

Recorded

   

Liability

   

and

   

of

   

Income Tax

 

Qualified Affordable Housing Partnerships

 

Value

   

Investment

   

Obligation

   

Benefits

   

Investments

   

Benefit

 

Raymond James California Housing Opportunities Fund II

  $ 2,000     $ 1,267     $ 45     $ 112     $ 94     $ 18  

WNC Institutional Tax Credit Fund 38, L.P.

    1,000       644       55       70       53       17  

Merritt Community Capital Corporation Fund XV, L.P.

    2,500       1,614       367       136       100       36  

California Affordable Housing Fund

    2,454       357             87       88       (1 )

Total

  $ 7,954     $ 3,882     $ 467     $ 405     $ 335     $ 70  

 

 

 

   

At December 31, 2016

   

For the Year Ended December 31, 2016

 
   

Original

   

Current

   

Unfunded

   

Tax Credits

   

Amortization

   

Net

 

(Amounts in thousands)

 

Investment

   

Recorded

   

Liability

   

and

   

of

   

Income Tax

 

Qualified Affordable Housing Partnerships

 

Value

   

Investment

   

Obligation

   

Benefits

   

Investments

   

Benefit

 

Raymond James California Housing Opportunities Fund II

  $ 2,000     $ 1,361     $ 45     $ 238     $ 192     $ 46  

WNC Institutional Tax Credit Fund 38, L.P.

    1,000       698       73       143       100       43  

Merritt Community Capital Corporation Fund XV, L.P.

    2,500       1,713       367       266       106       160  

California Affordable Housing Fund

    2,454       445             201       200       1  

Total

  $ 7,954     $ 4,217     $ 485     $ 848     $ 598     $ 250  

 

 

The following table presents our generated tax credits and tax benefits from investments in qualified affordable housing partnerships for the three and six months ended June 30, 2017 and 2016.

 

   

For the Three Months Ended June 30, 2017

   

For the Three Months Ended June 30, 2016

 

(Amounts in thousands)

 

Generated

   

Tax Benefits From

   

Generated

   

Tax Benefits from

 

Qualified Affordable Housing Partnerships

 

Tax Credits

   

Taxable Losses

   

Tax Credits

   

Taxable Losses

 

Raymond James California Housing Opportunities Fund II

  $ 44     $ 12     $ 46     $ 13  

WNC Institutional Tax Credit Fund 38, L.P.

    28       7       27       9  

Merritt Community Capital Corporation Fund XV, L.P.

    54       14       51       15  

California Affordable Housing Fund

    32       12       40       11  

Total

  $ 158     $ 45     $ 164     $ 48  

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

 

   

For the Six Months Ended June 30, 2017

   

For the Six Months Ended June 30, 2016

 

(Amounts in thousands)

 

Generated

   

Tax Benefits From

   

Generated

   

Tax Benefits from

 

Qualified Affordable Housing Partnerships

 

Tax Credits

   

Taxable Losses

   

Tax Credits

   

Taxable Losses

 

Raymond James California Housing Opportunities Fund II

  $ 88     $ 24     $ 92     $ 27  

WNC Institutional Tax Credit Fund 38, L.P.

    57       13       53       18  

Merritt Community Capital Corporation Fund XV, L.P.

    108       28       103       30  

California Affordable Housing Fund

    63       24       79       21  

Total

  $ 316     $ 89     $ 327     $ 96  

 

 

The tax credits and benefits were partially offset by the amortization of the principal investment balances of $164 thousand and $335 thousand for the three and six months ended June 30, 2017 respectively, compared to $180 thousand and $360 thousand for the comparable periods of 2016.

 

The following table reflects the anticipated net income tax benefit at June 30, 2017 that is expected to be recognized over the remaining life of the investments.

 

 

 

(Amounts in thousands)

 

Raymond James

California

Housing

   

WNC

Institutional

   

Merritt

Community

Capital

   

California

Affordable

   

Total Net

Income

 
Qualified Affordable Housing    Opportunities     Tax Credit     Corporation     Housing     Tax  

Partnerships

 

Fund II

   

Fund 38, L.P.

   

Fund XV, L.P

   

Fund

   

Benefit

 

Anticipated net income tax benefit less amortization of investments:

                                       

2017

  $ 23     $ 18     $ 23     $ (1 )   $ 63  

2018

    46       35       44       (1 )     124  

2019

    46       30       43             119  

2020

    45       29       44             118  

2021 and thereafter

    173       103       176       (2 )     450  

Total

  $ 333     $ 215     $ 330     $ (4 )   $ 874  

 

 

 

 

 

 

 

 

 

 

 

 

NOTE 7. FEDERAL FUNDS PURCHASED AND LINES OF CREDIT

 

At June 30, 2017 and December 31, 2016, we had no outstanding federal funds purchased balances and no outstanding advances on any of the Bank’s lines of credit.

 

The Bank had the following lines of credit:

 

Federal Funds

 

Nonbinding federal funds line of credit agreements with three financial institutions totaling $35.0 million at June 30, 2017. The lines of credit had interest rates ranging from 1.39% to 2.04% at June 30, 2017. Availability of the lines is subject to federal funds balances available for loan, continued borrower eligibility and are reviewed and renewed periodically throughout the year. These lines are intended to support short-term liquidity needs, and the agreements may restrict consecutive day usage.

 

Federal Reserve Bank

 

Available lines of credit with the Federal Reserve Bank totaling $25.2 million subject to collateral requirements, namely the amount of certain pledged loans.

 

Federal Home Loan Bank of San Francisco

 

Available lines of credit with the Federal Home Loan Bank of San Francisco totaling $332.4 million subject to certain collateral requirements, namely the amount of pledged loans and investment securities. The line of credit is secured by an investment in Federal Home Loan Bank of San Francisco stock, certain real estate mortgage loans that have been specifically pledged to the Federal Home Loan Bank of San Francisco pursuant to collateral requirements, and pledged securities held in the Bank’s investment securities portfolio.

 

As of June 30, 2017, the Bank was required to hold an investment in Federal Home Loan Bank of San Francisco stock of $4.5 million recorded in Other Assets in the Consolidated Balance Sheets. Our investments in Federal Home Loan Bank of San Francisco stock are restricted investment securities, carried at cost, evaluated for impairment, and excluded from securities accounted for under ASC Topic 320 and ASC Topic 321.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

We have $389.9 million of our commercial and real estate mortgage loans held for the line of credit with the Federal Home Loan Bank of San Francisco for pledging purposes. As of June 30, 2017, we held $24.2 million in securities with the Federal Home Loan Bank of San Francisco for pledging purposes. All of the securities and loans held for pledging purposes with the Federal Home Loan Bank of San Francisco were unused as collateral as of June 30, 2017.

 

 

NOTE 8. TERM DEBT

 

Term debt at June 30, 2017 and December 31, 2016 consisted of the following.

 

(Amounts in thousands)

 

June 30, 2017

   

December 31, 2016

 

Senior debt

  $ 8,300     $ 8,917  

Unamortized debt issuance costs

    (9 )     (12 )

Subordinated debt

    10,000       10,000  

Unamortized debt issuance costs

    (152 )     (172 )

Net term debt

  $ 18,139     $ 18,733  

 

 

 

Future contractual maturities of term debt at June 30, 2017 are as follows.

 

(Amounts in thousands)

 

2017

   

2018

   

2019

   

2020

   

2021

   

Thereafter

   

Total

 

Senior debt

  $ 417     $ 1,000     $ 1,000     $ 5,883     $     $     $ 8,300  

Subordinated debt

                                  10,000       10,000  

Total future maturities

  $ 417     $ 1,000     $ 1,000     $ 5,883     $     $ 10,000     $ 18,300  

 

Federal Home Loan Bank of San Francisco Borrowings

 

The average balance outstanding on Federal Home Loan Bank of San Francisco term advances during the six months ended June 30, 2017 and the year ended December 31, 2016 was $608 thousand and $18.0 million, respectively. The maximum amount outstanding from the Federal Home Loan Bank of San Francisco under term advances at any month end during the six months ended June 30, 2017 and the year ended December 31, 2016 was $10.0 million and $80.0 million, respectively. There were no outstanding Federal Home Loan Bank of San Francisco advances at June 30, 2017 or December 31, 2016.

 

Senior Debt

 

In December of 2015, the Holding Company, entered into a senior debt loan agreement to borrow $10.0 million from another financial institution. The loan is payable in monthly installments of $83 thousand principal, plus accrued and unpaid interest, commencing on January 1, 2016, continuing to, and including December 10, 2020. A final scheduled payment of $5.0 million is due on the maturity date of December 10, 2020. The loan may be prepaid in whole or in part at any time without any prepayment penalty. The principal amount of the loan bears interest at a variable rate, resetting monthly that is equal to the sum of the current three-month LIBOR plus 400 basis points. In December of 2015, the Holding Company incurred senior debt issuance costs of $15 thousand, which are being amortized over the life of the loan as additional interest expense. The loan is secured by a pledge from the Holding Company of all of the outstanding stock of Redding Bank of Commerce.

 

Subordinated Debt

 

In December of 2015, the Holding Company issued $10.0 million in aggregate principal amount of fixed to floating rate subordinated notes due in 2025. The subordinated debt initially bears interest at 6.88% per annum for a five-year term, payable semi-annually. Thereafter, interest on the subordinated debt will be paid at a variable rate equal to three month LIBOR plus 526 basis points, payable quarterly until the maturity date. In December of 2015, the Holding Company incurred subordinated debt issuance costs of $210 thousand, which are being amortized over the initial five-year-term as additional interest expense.

 

The subordinated debt is subordinate and junior in right of payment to the prior payment in full of all existing and future claims of creditors and depositors of the Holding Company and its subsidiaries, whether now outstanding or subsequently created. The subordinated debt ranks equally with all other unsecured subordinated debt, except any which by its terms is expressly stated to be subordinated to the subordinated debt. The subordinated debt ranks senior to all future junior subordinated debt obligations, preferred stock and common stock of the Holding Company. The subordinated debt is recorded as term debt on the Holding Company’s balance sheet; however, for regulatory purposes, it is treated as Tier 2 capital by the Holding Company.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

The subordinated debt will mature on December 10, 2025 but may be prepaid at the Holding Company’s option and with regulatory approval at any time on or after five years after the Closing Date or at any time upon certain events, such as a change in the regulatory capital treatment of the subordinated debt or the interest on the subordinated debt is no longer deductible by the Holding Company for United States federal income tax purposes.

 

 

NOTE 9. COMMITMENTS AND CONTINGENCIES

 

Lease Commitments

We lease nine sites under non-cancelable operating leases. The leases contain various provisions for increases in rental rates, based on predetermined escalation schedules. Substantially all of the leases include the option to extend the lease term one or more times following expiration of the initial term.

 

The following table sets forth rent expense and rent income for the three and six months ended June 30, 2017 and 2016.

 

   

Three Months Ended June 30,

   

Six Months Ended June 30,

 

(Amounts in thousands)

 

2017

   

2016

   

2017

   

2016

 

Rent income

  $ 9     $ 10     $ 31     $ 20  

Rent expense

    211       151       394       296  

Net rent expense

  $ 202     $ 141     $ 363     $ 276  

 

 

The following table sets forth, as of June 30, 2017, the future minimum lease payments under non-cancelable operating leases.

 

(Amounts in thousands)

       

Amounts due in:

       

2017

  $ 409  

2018

    850  

2019

    866  

2020

    883  

2021

    899  

Thereafter

    2,297  

Total

  $ 6,204  

 

 

Financial Instruments with Off-Balance Sheet Risk

 

Our consolidated financial statements do not reflect various commitments and contingent liabilities that arise in the normal course of our business and involve elements of credit, liquidity, and interest rate risk. In the normal course of business, we are party to financial instruments with off-balance sheet credit risk to meet the financing needs of our customers. These financial instruments include commitments to extend credit, standby letters of credit and financial guarantees. These instruments involve elements of credit and interest rate risk similar to the amounts recognized in the Consolidated Balance Sheets. The contract or notional amounts of these instruments reflect the extent of our involvement in particular classes of financial instruments.

 

The following table presents a summary of our commitments and contingent liabilities at June 30, 2017 and December 31, 2016.

 

(Amounts in thousands)

 

June 30, 2017

   

December 31, 2016

 

Commitments to extend credit

  $ 202,900     $ 224,082  

Standby letters of credit

    7,127       1,967  

Affordable housing grants

    3,338       3,338  

Total commitments

  $ 213,365     $ 229,387  

 

 

We were not required to perform on any financial guarantees for the six months ended June 30, 2017, and the year ended December 31, 2016. At June 30, 2017, approximately $6.2 million of standby letters of credit expire within one year, and $966 thousand expire thereafter.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

Affordable Housing Grants

 

As part of satisfying our CRA responsibilities, we are a sponsor for various nonprofit organizations that receive cash grants from the Federal Home Loan Bank of San Francisco. Those grants require the nonprofit organization to comply with stipulated conditions of the grant over specified periods of time which typically vary from 10 to 15 years. If the nonprofit organization fails to comply, Federal Home Loan Bank of San Francisco can require us to refund the amount of the grant to Federal Home Loan Bank of San Francisco. To mitigate this contingent credit risk, Credit Administration underwrites the financial strength of the nonprofit organization and reviews their systems of internal control to determine, as best as is possible, that they will not fail to comply with the conditions of the grant.

 

Reserve For Unfunded Commitments

 

The reserve for unfunded commitments, which is included in Other Liabilities on the Consolidated Balance Sheets, was $695 thousand at June 30, 2017 and December 31, 2016. The adequacy of the reserve for unfunded commitments is reviewed on a quarterly basis, based upon changes in the amount of commitments, loss experience, and economic conditions. When necessary, the provision expense is recorded in other noninterest expense in the Consolidated Statements of Income.

 

Death Benefit Agreement

 

The Company has entered into contracts with certain employees to pay a cash benefit to designated beneficiaries following the death of the employee. The payment will be made only if, at the time of death, the deceased employee was employed by the Bank and the Bank owned a life insurance policy on the employee’s life. Depending on specific facts and circumstances, the payment can vary up to a maximum of $225,000 per employee. Neither the employees nor the designated beneficiaries have a claim against the life insurance policy on the employee’s life.

 

Legal Proceedings

 

We are involved in various pending and threatened legal actions arising in the ordinary course of business. We maintain reserves for losses from legal actions, which are both probable and estimable. In our opinion, the disposition of claims currently pending will not have a material adverse effect on our financial position or results of operations.

 

Concentrations of Credit Risk

 

We grant real estate construction, commercial, and installment loans to customers throughout northern California. In our judgment, a concentration exists in real estate related loans, which represented approximately 75% of our gross loan portfolio at June 30, 2017 and December 31, 2016.

 

Commercial real estate concentrations are managed to assure wide geographic and business diversity. Although management believes such concentrations have no more than the normal risk of collectability, a substantial decline in the economy in general, material increases in interest rates, changes in tax policies, tightening credit or refinancing markets, or a decline in real estate values in our principal market areas in particular, could have an adverse impact on the repayment of these loans. Personal and business incomes, proceeds from the sale of real property, or proceeds from refinancing, represent the primary sources of repayment for a majority of these loans.

 

We recognize the credit risks inherent in dealing with other depository institutions. Accordingly, to prevent excessive exposure to other depository institutions in aggregate or to any single correspondent, we have established general standards for selecting correspondent banks as well as internal limits for allowable exposure to other depository institutions in aggregate or to any single correspondent. In addition, we have an investment policy that sets forth limitations that apply to all investments with respect to credit rating and concentrations with an issuer.

 

 

NOTE 10. ACCUMULATED OTHER COMPREHENSIVE LOSS

 

The following table presents activity in accumulated other comprehensive loss for the six months ended June 30, 2017.

 

 

   

Unrealized

   

Accumulated Other

 
   

(Losses) Gains on

   

Comprehensive

 

(Amounts in thousands)

 

Securities

   

(Loss) Income

 

Accumulated other comprehensive loss as of December 31, 2016

  $ (659 )   $ (659 )

Comprehensive income three months ended March 31, 2017

    256       256  

Comprehensive income three months ended June 30, 2017

    915       915  

Accumulated other comprehensive income as of June 30, 2017

  $ 512     $ 512  

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

The following table presents activity in accumulated other comprehensive income for the six months ended June 30, 2016.

 

   

Unrealized

   

Unrealized

   

Accumulated Other

 
   

Gains on

   

Losses on

   

Comprehensive

 

(Amounts in thousands)

 

Securities

   

Derivatives

   

(Loss) Income

 

Accumulated other comprehensive income (loss) as of December 31, 2015

  $ 1,142     $ (1,396 )   $ (254 )

Comprehensive income three months ended March 31, 2016

    50       1,396       1,446  

Comprehensive income three months ended June 30, 2016

    519             519  

Accumulated other comprehensive income as of June 30, 2016

  $ 1,711     $     $ 1,711  

 

 

Accumulated other comprehensive income is reported net of related tax effects. Detailed information on the tax effects of the individual components of comprehensive income are presented in the Consolidated Statements of Comprehensive Income.

 

 

NOTE 11. DERIVATIVES

 

During March of 2016, we paid off the $75.0 million Federal Home Loan Bank of San Francisco borrowing (the “hedged instrument”) and terminated all of our interest rate swaps (active and forward starting). Prior to the time of termination, a $2.3 million unrealized pretax loss on swaps was carried in Other Liabilities in our Consolidated Balance Sheets. At termination, we immediately reclassified the loss to noninterest expense.

 

For derivative financial instruments accounted for as hedging instruments, we formally designate and document, at inception, the financial instrument as a hedge of a specific underlying exposure, the risk management objective, and the manner in which the effectiveness of the hedge will be assessed. We formally assess both at inception and at each reporting period thereafter, whether the derivative financial instruments used in hedging transactions are effective in offsetting changes in cash flows of the related underlying exposures. Any ineffective portion of the changes in cash flow of the instruments is recognized immediately into earnings.

 

ASC 815-10, Derivatives and Hedging (“ASC 815”) requires companies to recognize all derivative instruments as assets or liabilities at fair value in the Consolidated Balance Sheets. In accordance with ASC 815, we designated our interest rate swaps as cash flow hedges of certain active and forecasted variable rate Federal Home Loan Bank of San Francisco advances. Changes in the fair value of the hedging instrument, except any ineffective portion, are recorded in accumulated other comprehensive income until earnings are impacted by the hedged instrument. No components of our hedging instruments are excluded from the assessment of hedge effectiveness in hedging exposure to variability in cash flows.

 

Classification of the gain or loss in the Consolidated Statements of Income upon release from accumulated other comprehensive income is the same as that of the underlying exposure. We discontinue the use of hedge accounting prospectively when (1) the derivative instrument is no longer effective in offsetting changes in fair value or cash flows of the underlying hedged item; (2) the derivative instrument expires, is sold, terminated, or exercised; or (3) designating the derivative instrument as a hedge is no longer appropriate. When we discontinue hedge accounting because it is no longer probable that an anticipated transaction will occur in the originally expected period, or within an additional two-month period thereafter, changes to fair value that were recorded in accumulated other comprehensive income are recognized immediately in earnings.

 

The following table summarizes the losses recorded during the six months ended June 30, 2016, and their locations within the Consolidated Statements of Income.

 

 

(Amounts in thousands)

           

Description

 

Consolidated Statement of Income Location

 

Six Months Ended June 30, 2016

 

Interest rate swap (1)

 

Interest on term debt

  $ 396  

Forward starting interest rate swap - terminated(2)

 

Other noninterest expense

    2,325  

Total

      $ 2,721  

(1) Losses represent tax effected amounts reclassified from accumulated other comprehensive income pertaining to net settlements recorded during the period on active interest rate swaps.

(2) Losses represent tax effected amounts reclassified from accumulated other comprehensive income pertaining to the terminated active and forward starting interest rate swaps.

 

 

During the six months ended June 30, 2016, $1.6 million in losses on derivative instruments designated as cash flow hedges recorded in accumulated other comprehensive income were reclassified into earnings.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

Derivative financial instruments contain an element of credit risk if counterparties are unable to meet the terms of the contract. Credit risk associated with derivative financial instruments is measured as the net replacement cost should the counterparties fail to perform under the terms of those contracts. Assuming no recoveries of underlying collateral, credit risk is measured by the market value of the derivative financial instrument.

 

The contracts with the derivative counterparties contain a provision where if we fail to maintain our status as a well/adequately capitalized institution, then the counterparty could terminate the derivative positions and we would be required to settle our obligations under the agreements. Similarly, we could be required to settle our obligations under certain of our agreements if specific regulatory events occur, such as if we were issued a prompt corrective action directive or a cease and desist order, or if certain regulatory ratios fall below specified levels.

 

 

NOTE 12. FAIR VALUES

 

The following table presents estimated fair values of our financial instruments as of June 30, 2017 and December 31, 2016, whether or not recognized or recorded at fair value in the Consolidated Balance Sheets. The table indicates the fair value hierarchy of the valuation techniques we utilized to determine such fair value.

 

Non-financial assets and non-financial liabilities defined by the FASB ASC 820, Fair Value Measurement, such as Bank premises and equipment, deferred taxes and other liabilities are excluded from the table. In addition, we have not disclosed the fair value of financial instruments specifically excluded from disclosure requirements of FASB ASC 825, Financial Instruments, such as bank-owned life insurance policies.

 

(Amounts in thousands)

 

Carrying

   

Fair Value Measurements Using

 

June 30, 2017

 

Amounts

   

Level 1

   

Level 2

   

Level 3

 

Financial assets

                               

Cash and cash equivalents

  $ 96,854     $ 96,854     $     $  

Securities available-for-sale

  $ 209,609     $     $ 209,609     $  

Securities held-to-maturity

  $ 31,329     $     $ 32,549     $  

Net loans

  $ 805,241     $     $     $ 815,194  

Federal Home Loan Bank of San Francisco stock

  $ 4,537     $ 4,537     $     $  

Financial liabilities

                               

Deposits

  $ 1,046,225     $     $ 1,046,028     $  

Term debt

  $ 18,139     $     $ 18,537     $  

Junior subordinated debenture

  $ 10,310     $     $ 9,414     $  

 

 

 

(Amounts in thousands)

 

Carrying

   

Fair Value Measurements Using

 

December 31, 2016

 

Amounts

   

Level 1

   

Level 2

   

Level 3

 

Financial assets

                               

Cash and cash equivalents

  $ 68,407     $ 68,407     $     $  

Securities available-for-sale

  $ 175,174     $     $ 175,174     $  

Securities held-to-maturity

  $ 31,187     $     $ 31,374     $  

Net loans

  $ 793,991     $     $     $ 797,114  

Federal Home Loan Bank of San Francisco stock

  $ 4,465     $ 4,465     $     $  

Financial liabilities

                               

Deposits

  $ 1,004,666     $     $ 1,004,729     $  

Term debt

  $ 18,733     $     $ 18,726     $  

Junior subordinated debenture

  $ 10,310     $     $ 9,077     $  

 

 

Fair Value Hierarchy

 

Level 1 valuations utilize quoted prices (unadjusted) in active markets for identical assets or liabilities that we have the ability to access.

 

Level 2 valuations utilize inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 valuations include quoted prices for similar assets and liabilities in active markets, and inputs other than quoted prices that are observable for the asset or liability, such as interest rates and yield curves that are observable at commonly quoted intervals.

 

Level 3 valuations are unobservable inputs for the asset or liability, and include situations where there is little, if any, market activity for the asset or liability. Valuation is generated from model-based techniques that use significant assumptions not observable in the market. These unobservable assumptions reflect estimates of assumptions that market participants would use in pricing the asset or liability. Valuation techniques include the use of option pricing models, discounted cash flow models and similar techniques.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety.

 

We maximize the use of observable inputs and minimize the use of unobservable inputs when developing fair value measurements. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.

 

The following methods and assumptions were used to estimate the fair value of each class of financial instrument for which it is practical to estimate that value:

 

Cash and Cash Equivalents – The carrying amounts reported in the Consolidated Balance Sheets for cash and cash equivalents are a reasonable estimate of fair value. The carrying amount is a reasonable estimate of fair value because of the relatively short term between the origination of the instrument and its expected realization. Therefore, we believe the measurement of fair value of cash and cash equivalents is derived from Level 1 inputs.

 

Securities – Investment securities fair values are based on quoted market prices, where available, and are classified as Level 1. If quoted market prices are not available, fair values are estimated using quoted market prices or matrix pricing, which is a mathematical technique, used widely by the industry that relies on the securities relationship to other benchmark securities, and are classified as Level 2.

 

Net Loans – For variable rate loans that re-price frequently and with no significant change in credit risk, fair values are based on carrying values. For fixed rate loans, projected cash flows are discounted back to their present value based on specific risk adjusted spreads to the U.S. Treasury Yield Curve, with the rate determined based on the timing of the cash flows. The ALLL is considered a reasonable estimate of loan discount for credit quality concerns. Given that there are commercial loans with specific terms that are not readily available; we believe the fair value of loans is derived from Level 3 inputs.

 

Federal Home Loan Bank of San Francisco stock – The carrying value of Federal Home Loan Bank of San Francisco stock approximates fair value as the shares can only be redeemed by the issuing institution at par. We measure the fair value of Federal Home Loan Bank of San Francisco stock using Level 1 inputs.

 

Deposits – We measure fair value of maturing deposits using Level 2 inputs. The fair values of deposits were derived by discounting their expected future cash flows based on the Federal Home Loan Bank of San Francisco yield curves, and maturities. We obtained Federal Home Loan Bank of San Francisco yield curve rates as of the measurement date, and believe these inputs fall under Level 2 of the fair value hierarchy. Deposits with no defined maturities, the fair values are the amounts payable on demand at the respective reporting date.

 

Term Debt – For variable rate term debt, the carrying value approximates fair value. The fair value of fixed rate term debt is estimated by discounting the future cash flows using market rates at the reporting date, of which similar debt would be issued with similar credit ratings as ours and similar remaining maturities. We measure the fair value of term debt using Level 2 inputs.

 

Junior subordinated debenture – The fair value of the subordinated debenture is estimated by discounting the future cash flows using market rates at the reporting date, of which similar debentures would be issued with similar credit ratings as ours and similar remaining maturities. At June 30, 2017, future cash flows were discounted at 3.17%. We measure the fair value of subordinated debentures using Level 2 inputs.

 

Commitments – Loan commitments and standby letters of credit generate ongoing fees, which are recognized over the term of the commitment period. In situations where the borrower’s credit quality has declined, we record a reserve for these unfunded commitments. Given the uncertainty in the likelihood and timing of a commitment being drawn upon, a reasonable estimate of the fair value of these commitments is the carrying value of the related unamortized loan fees plus the reserve, which is not material. As such, no disclosures are made on the fair value of commitments.

 

We use fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. Available-for-sale securities and derivatives are recorded at fair value on a recurring basis. From time to time, we may be required to record at fair value other assets on a nonrecurring basis, such as collateral dependent impaired loans and certain other assets including OREO or goodwill. These nonrecurring fair value adjustments involve the application of lower of cost or fair value accounting or write-downs of individual assets.

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

The following table presents information about our assets and liabilities measured at fair value on a recurring basis, and indicate the fair value hierarchy of the valuation techniques we utilized to determine such fair value, as of June 30, 2017 and December 31, 2016.

 

(Amounts in thousands)

 

Fair Value at June 30, 2017

 

Recurring Basis

 

Total

   

Level 1

   

Level 2

   

Level 3

 

Available-for-sale securities

                               

U.S. government and agencies

  $ 24,231     $     $ 24,231     $  

Obligations of states and political subdivisions

    58,400             58,400        

Residential mortgage-backed securities and collateralized mortgage obligations

    91,375             91,375        

Corporate securities

    8,312             8,312        

Commercial mortgage-backed securities

    23,421             23,421        

Other investment securities (1)

    3,870             3,870        

Total assets measured at fair value

  $ 209,609     $     $ 209,609     $  

(1) Principally consists of residential mortgage-backed securities issued by both by governmental and nongovernmental agencies securities.

 

 

 

(Amounts in thousands)

 

Fair Value at December 31, 2016

 

Recurring Basis

 

Total

   

Level 1

   

Level 2

   

Level 3

 

Available-for-sale securities

                               

U.S. government and agencies

  $ 10,354     $     $ 10,354     $  

Obligations of states and political subdivisions

    59,428     $       59,428        

Residential mortgage-backed securities and collateralized mortgage obligations

    69,604             69,604        

Corporate securities

    16,116             16,116        

Commercial mortgage-backed securities

    15,514             15,514        

Other investment securities (1)

    4,158             4,158        

Total assets measured at fair value

  $ 175,174     $     $ 175,174     $  

(1) Principally consists of residential mortgage-backed securities issued by both by governmental and nongovernmental agencies securities.

 

 

Recurring Items

 

Debt Securities – The available-for-sale securities amount in the recurring fair value table above represents securities that have been adjusted to their fair values. For these securities, we obtain fair value measurements from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions among other things. We have determined that the source of these fair values falls within Level 2 of the fair value hierarchy.

 

Transfers Between Fair Value Hierarchy Levels

 

Transfers between levels of the fair value hierarchy are recognized on the actual date of the event or circumstance that caused the transfer. There were no transfers between levels of the fair value hierarchy during the six months ended June 30, 2017 or the year ended December 31, 2016.

 

Assets and Liabilities Recorded at Fair Value on a Nonrecurring Basis

 

We may be required, from time to time, to measure certain assets at fair value on a nonrecurring basis. These adjustments to fair value generally result from the application of lower of cost or fair value accounting or write-downs of individual assets due to impairment. The following three tables present information about our assets and liabilities at June 30, 2017 and December 31, 2016 measured at fair value on a nonrecurring basis for which a nonrecurring change in fair value has been recorded during the reporting period.

 

The amounts disclosed below present the fair values at the time the nonrecurring fair value measurements were made, and not necessarily the fair values as of the date reported upon.

 

(Amounts in thousands)

 

Fair Value at June 30, 2017

 

Nonrecurring basis

 

Total

   

Level 1

   

Level 2

   

Level 3

 

Collateral dependent impaired loans

  $ 61     $     $     $ 61  

Other real estate owned

    931                   931  

Total assets measured at fair value

  $ 992     $     $     $ 992  

 

 

BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

Notes to Consolidated Financial Statements (Unaudited)

 

(Amounts in thousands)

 

Fair Value at December 31, 2016

 

Nonrecurring basis

 

Total

   

Level 1

   

Level 2

   

Level 3

 

Collateral dependent impaired loans

  $ 1,587     $     $     $ 1,587  

Other real estate owned

    219                   219  

Total assets measured at fair value

  $ 1,806     $     $     $ 1,806  

 

 

The following table presents the losses resulting from nonrecurring fair value adjustments for the three and six months ended June 30, 2017 and 2016 related to assets outstanding at June 30, 2017 and 2016.

 

(Amounts in thousands)

 

Three Months Ended June 30,

   

Six Months Ended June 30,

 

Fair value adjustments

 

2017

   

2016

   

2017

   

2016

 

Collateral dependent impaired loans

  $ 20     $ 1,359     $ 20     $ 1,523  

Other real estate owned

    56       48       133       71  

Total

  $ 76     $ 1,407     $ 153     $ 1,594  

 

 

During the six months ended June 30, 2017, collateral dependent impaired loans with a carrying amount of $81 thousand were written down to their fair value of $61 thousand resulting in a $20 thousand adjustment to the ALLL.

 

During the six months ended June 30, 2017, four OREO properties with an aggregate carrying value of $1.1 million outstanding at period end were written down to their fair value of $931 thousand, resulting in a $81 thousand adjustment to the ALLL and a $52 thousand write-down of other real estate owned.

 

The loan amounts above represent impaired, collateral dependent loans that have been adjusted to fair value during the respective reporting period. When we identify a collateral dependent loan as impaired, we measure the impairment using the current fair value of the collateral, less selling costs. Depending on the characteristics of a loan, the fair value of collateral is generally estimated by obtaining external appraisals. If we determine that the value of the impaired loan is less than the recorded investment in the loan, we recognize this impairment and adjust the carrying value of the loan to fair value through the ALLL.

 

The loss represents charge-offs or impairments on collateral dependent loans for fair value adjustments based on the fair value of collateral less estimated selling costs. The carrying value of loans fully charged off is zero. When the fair value of the collateral is based on a current appraised value, or management determines the fair value of the collateral is further impaired below the appraised value and there is no observable market price, we record the impaired loan as nonrecurring Level 3.

 

The OREO amount above represents impaired real estate that has been adjusted to fair value during the respective reporting period. The loss represents impairments on OREO for fair value adjustments based on the fair value of the real estate. The determination of fair value is based on recent appraisals of the foreclosed properties, which take into account recent sales prices adjusted for unobservable inputs, such as opinions provided by local real estate brokers and other real estate experts. OREO fair values are adjusted for estimated selling costs between 8% and 34%. We record OREO as a nonrecurring Level 3.

 

Limitations – Fair value estimates are made at a specific point in time, based on relevant market information and other information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time our entire holdings of a particular financial instrument. Because no market exists for a significant portion of our financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature, involve uncertainties and matters of significant judgment, and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

 

Fair value estimates are based on current on and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in any of the estimates.

 

 

NOTE 13. PURCHASE OF FINANCIAL ASSETS

 

We have agreed to purchase a maximum par value of $50.0 million in unsecured consumer home improvement loans. The loans were purchased without recourse or servicing rights. For the period from May 12, 2014 through June 30, 2017, we have paid aggregate cash totaling $108.6 million, and received aggregate cash repayments of $61.5 million for $47.1 million in net loans outstanding. We initially measured the acquired loan portfolio at a fair value.

 

 
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Notes to Consolidated Financial Statements (Unaudited)

 

NOTE 14. BRANCH ACQUISITION

 

On March 11, 2016, we completed the purchase of five Bank of America branches in northern California. The acquired branches are located in Colusa, Willows, Orland, Corning, and Yreka. The Bank also acquired three offsite ATM locations in Williams, Orland and Corning. The Bank paid cash consideration of $6.7 million and acquired $155.2 million in assets, primarily cash and premises. The Bank assumed $149.2 million in liabilities, primarily deposits.

 

The transaction provided a new source of low cost core deposits and allowed us to execute our plan to reconfigure our balance sheet. On March 14, 2016, we utilized a portion of that new liquidity to reduce our reliance on wholesale funding sources repaying $75.0 million of Federal Home Loan Bank of San Francisco hedged term debt and redeeming $17.5 million of brokered time deposits.

 

The transaction was accounted for using the acquisition method of accounting and, accordingly, assets acquired, liabilities assumed, and consideration exchanged were recorded at estimated fair values on the acquisition date. The Bank engaged third party specialists to assist in valuing certain assets, including the real estate and the core deposit intangible that resulted from the acquisition.

 

The contribution of the acquired operations of the five former Bank of America offices was immaterial. Therefore, disclosure of supplemental pro forma financial information and prior period comparisons were deemed neither practical nor meaningful. Additionally, the acquired operation was not considered a “significant business combination” as defined by the Securities and Exchange Commission.

 

Branch acquisition costs recorded during the year ended December 31, 2016 were $580 thousand. The following table provides an assessment of the consideration transferred, assets purchased, and the liabilities assumed.

 

 

           

Fair Value and

         
   

As Recorded by

   

Other Merger

         
   

Bank of

   

Related

   

As Recorded by

 

(Amounts in thousands)

 

America

   

Adjustments

   

the Company

 

Consideration paid:

                       

Cash paid

                  $ 6,656  

Total consideration

                  $ 6,656  
                         

Assets acquired:

                       

Cash and cash equivalents

  $ 149,067     $     $ 149,067  
                         

Premises and equipment, net

    1,835       2,355       4,190  
                         

Other assets

    201             201  

Core deposit intangible

          1,772       1,772  

Total assets acquired

  $ 151,103     $ 4,127     $ 155,230  
                         

Liabilities assumed:

                       

Deposits

  $ 149,047     $     $ 149,047  
                         

Other liabilities

    20       172       192  

Total liabilities assumed

  $ 149,067     $ 172     $ 149,239  

Net identifiable assets acquired over liabilities assumed

  $ 2,036     $ 3,955     $ 5,991  

Goodwill

                  $ 665  

 

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

 

Forward Looking Statements and Risk Factors

 

This report includes forward-looking statements within the meaning of the Securities Exchange Act of 1934 (“Exchange Act”) and the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current beliefs and assumptions, and on information available to management as of the date of this document. Forward-looking statements include the information concerning possible or assumed future results of operations of the Company set forth under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

Forward-looking statements may also include statements in which words such as “expects,” “anticipates,” “intends,” “plans,” “believes,” “estimates,” “considers” or similar expressions or conditional verbs such as “will,” “should,” “would” and “could” and other comparable words or phrases of a future- or forward-looking nature, are intended to identify such forward-looking statements. Forward-looking statements are not guarantees of future performance. They involve risks, uncertainties and assumptions. The Company’s actual future results and shareholder values may differ materially from those anticipated and expressed in these forward-looking statements. Many of the factors that will determine these results and values are beyond the Company’s ability to control or predict. Except as specifically noted herein all references to the “Company” refer to Bank of Commerce Holdings, a California corporation, and its consolidated subsidiaries.

 

The following factors, among others, could cause our actual results to differ materially from those expressed in such forward-looking statements:

 

The strength of the United States economy in general and the strength of the local economies in California in which we conduct operations;

Our inability to successfully manage our growth or implement our growth strategy;

The effects of, and changes in, trade, monetary and fiscal policies and laws, including interest rate policies of the Board of Governors of the Federal Reserve System, or the Federal Reserve Board;

Continued volatility in the capital or credit markets;

The value of deferred tax assets could be significantly reduced if corporate tax rates in the U.S. decline resulting in decreased net income in the period in which the change is enacted and a reduction of regulatory capital;

Changes in the financial performance and/or condition of our borrowers;

Our concentration in real estate lending;

Developments and changes in laws and regulations, including increased regulation of the banking industry through legislative action and revised rules and standards applied by the Federal Reserve Board, the Federal Deposit Insurance Corporation, and the California Department of Business Oversight;

Changes in the cost and scope of insurance from the Federal Deposit Insurance Corporation and other third parties;

Changes in consumer spending, borrowing and savings habits;

The reputation of banks and the financial services industry could deteriorate, which could adversely affect the Company's ability to obtain and maintain customers;

Changes in the level of our nonperforming assets and charge-offs;

Deterioration in values of real estate in California and the United States generally, both residential and commercial;

Possible other-than-temporary impairment of securities held by us;

The timely development of competitive new products and services and the acceptance of these products and services by new and existing customers;

The willingness of customers to substitute competitors’ products and services for our products and services;

Technological changes could expose us to new risks, including potential systems failures or fraud;

The effect of changes in accounting policies and practices, as may be adopted from time-to-time by bank regulatory agencies, the Securities and Exchange Commission (“SEC”), the Public Company Accounting Oversight Board, the Financial Accounting Standards Board (“FASB”) or other accounting standards setters;

The risks presented by continued public stock market volatility, which could adversely affect the market price of the Company's common stock and the ability to raise additional capital;

Inability to attract deposits and other sources of liquidity at acceptable costs;

Changes in the competitive environment among financial and bank holding companies and other financial service providers;

Consolidation in the financial services industry in the Company's markets resulting in the creation of larger financial institutions that may have greater resources could change the competitive landscape;

The loss of critical personnel and the challenge of hiring qualified personnel at reasonable compensation levels;

 

 
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Natural disaster or recurring energy shortage, especially in California, such as earthquakes, wildfires, droughts, floods and mudslides;

Unauthorized computer access, computer hacking, cyber-attacks, electronic fraudulent activity, attempted theft of financial assets, computer viruses, phishing schemes and other security problems;

Geopolitical conditions, including acts or threats of war or terrorism, actions taken by the United States or other governments in response to acts or threats of war or terrorism and/or military conflicts, which could impact business and economic conditions in the United States and abroad;

Our inability to manage the risks involved in the foregoing; and

The effects of any reputational damage to the Company resulting from any of the foregoing.

 

If our assumptions regarding one or more of the factors affecting our forward-looking information and statements proves incorrect, then our actual results, performance or achievements could differ materially from those expressed in, or implied by, forward-looking information and statements contained in this document and in the information incorporated by reference in this document. Therefore, we caution you not to place undue reliance on our forward-looking information and statements. We do not undertake any obligation to publicly correct, revise, or update any forward-looking statement if we later become aware that actual results are likely to differ materially from those expressed in such forward-looking statement, except as required under federal securities laws.

 

Forward-looking statements should not be viewed as predictions, and should not be the primary basis upon which investors evaluate us. Any investor in our common stock should consider all risks and uncertainties discussed in “RISK FACTORS” and in “MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS”.

 

For additional information concerning risks and uncertainties related to the Company and its operations please refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2016 under the heading “Risk factors”. The Company undertakes no obligation to revise or publicly release the results of any revision to these forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.

 

The following sections discuss significant changes and trends in the financial condition, capital resources and liquidity of the Company from December 31, 2016 to June 30, 2017. Also discussed are significant trends and changes in the Company’s results of operations for the six months ended June 30, 2017, compared to the same period in 2016. The consolidated financial statements and related notes appearing elsewhere in this report are unaudited. The following discussion and analysis is intended to provide greater detail of the Company's financial condition and results.

 

 

GENERAL

 

Bank of Commerce Holdings (“Holding Company,” “we,” or “us”) is a corporation organized under the laws of California and a bank holding company (“BHC”) registered under the Bank Holding Company Act of 1956, as amended (“BHC Act”). The Holding Company’s principal business is to serve as a holding company for Redding Bank of Commerce (the “Bank” and together with the Holding Company, the “Company”) which operates under two separate names (Redding Bank of Commerce and Sacramento Bank of Commerce, a division of Redding Bank of Commerce). We have an unconsolidated subsidiary in Bank of Commerce Holdings Trust II, which was organized in connection with our prior issuance of trust-preferred securities. Our common stock is traded on the NASDAQ Global Market under the symbol “BOCH.”

 

We commenced banking operations in 1982 and with the completion of the purchase of five Bank of America branches during the first quarter of 2016, we now operate nine full service facilities in northern California. We also operate a full service “cyber office” as identified in our summary of deposits reporting filed with the FDIC. We provide a wide range of financial services and products for business and retail customers which are competitive with those traditionally offered by banks of similar size in California.

 

Our principal executive office is located at 555 Capitol Mall, Sacramento, California 95814 and the telephone number is (530) 722-3939.

 

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

EXECUTIVE OVERVIEW

Financial highlights for the second quarter of 2017 compared to the same quarter a year ago:

 

Performance

 

Net income of $2.2 million or $0.15 per share - diluted for the three months ended June 30, 2017 was an increase of $653 thousand (42%) from $1.6 million or $0.11 per share - diluted earned during the same period in the prior year.

Return on average assets improved to 0.76% for the second quarter of 2017 compared to 0.59% for the same period in the prior year.

Return on average equity improved to 7.85% for the second quarter of 2017 compared to 6.85% for the same period in the prior year.

Net interest income increased $958 thousand (10%) to $10.2 million for the second quarter of 2017 compared to $9.2 million for the same period in the prior year.

Average deposits for the three months ended June 30, 2017 totaled $1.0 billion, an increase of $84.4 million (9%) compared to the average deposits for the same period in the prior year.

Average loans for the three months ended June 30, 2017 totaled $821.3 million, an increase of $78.6 million (11%) compared to the average loans for the same period in the prior year.

Average earning assets for the three months ended June 30, 2017 totaled $1.1 billion, an increase of $107.5 million (11%) compared to the average earning assets for the same period in the prior year.

Tangible book value per common share was $7.61 at June 30, 2017 compared to $6.71 at June 30, 2016.

Efficiency ratio was 69.13% during the second quarter of 2017 compared to 79.43% during the same period in 2016.

 

Credit Quality

 

Nonperforming assets at June 30, 2017 totaled $10.7 million or 0.88% of total assets, a decrease of $1.0 million (9%) from $11.7 million or 1.09% of total assets at June 30, 2016.

Net loan charge-offs were $253 thousand in the second quarter of 2017 compared with net recoveries of $369 thousand for the same period in 2016.

 

Financial highlights for the first six months of 2017 compared to the same period a year ago:

 

Performance

 

Net income of $4.5 million or $0.31 per share – diluted for the six months ended June 30, 2017 was an increase of $3.9 million (648%) from $596 thousand or $0.04 per share – diluted earned during the same period in the prior year. Net income for 2016 was negatively impacted by $3.0 million of branch acquisition and balance sheet restructuring costs, a $546 thousand other-than-temporary-impairment of an investment security and the write-off of a $363 thousand deferred tax asset.

Return on average assets improved to 0.78% for the six months ended June 30, 2017 compared to 0.11% for the same period in the prior year.

Return on average equity improved to 8.66% for the six months ended June 30, 2017 compared to 1.31% for the same period in the prior year.

Net interest income increased $2.4 million (14%) to $19.9 million for the six months ended June 30, 2017 compared to $17.5 million for the same period in the prior year.

Average deposits for the six months ended June 30, 2017 totaled $1.0 billion, an increase of $136.2 million (16%) compared to average deposits for the same period in the prior year.

Average loans for the six months ended June 30, 2017 totaled $814.1 million, an increase of $82.4 million (11%) compared to average loans for the same period in the prior year.

Average earning assets for the six months ended June 30, 2017 totaled $1.1 billion, an increase of $106.6 million (11%) compared to average earning assets for the same period in the prior year.

Tangible book value per common share was $7.61 at June 30, 2017 compared to $6.97 at March 31, 2017.

Efficiency ratio was 70.32% for the first six months of 2017 compared to 93.45% during the same period in the prior year.

 

Credit Quality

 

Nonperforming assets at June 30, 2017 totaled $10.7 million or 0.88% of total assets, a decrease of $1.5 million (24% annualized) compared to December 31, 2016.

Net loan charge-offs were $356 thousand for the first six months of 2017 compared with net recoveries of $684 thousand during the same period in the prior year.

 

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

SUMMARY OF CRITICAL ACCOUNTING POLICIES

 

Our significant accounting policies are described in Note 2 of the Notes to the Consolidated Financial Statements included in the Form 10-K for the year ended December 31, 2016 filed with the SEC on March 15, 2017. Some of these significant accounting policies are considered critical and require management to make difficult, subjective or complex judgments or estimates. Management believes that the following policies would be considered critical under the SEC’s definition.

 

Valuation of Investments and Impairment of Securities

 

At the time of purchase, we designate a security as held-to-maturity or available-for-sale, based on our investment objectives, operational needs and intent to hold. We do not engage in trading activity. Securities designated as held-to-maturity are carried at amortized cost. We have the ability and intent to hold these securities to maturity. Securities designated as available-for-sale may be sold to implement our asset/liability management strategies and in response to changes in interest rates, prepayment rates and similar factors. Securities designated as available-for-sale are recorded at fair value and unrealized gains or losses, net of income taxes, are reported as part of accumulated other comprehensive income (loss), a separate component of shareholders’ equity. Gains or losses on sale of securities are based on the specific identification method. The market value and underlying rating of the security is monitored for quality.

 

Securities may be adjusted to reflect changes in valuation as a result of other-than-temporary declines in value. 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 rate investments, from changes in 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.

 

When an investment is other-than-temporarily impaired, we assess whether we intend to sell the security, or it is more likely than not that we will be required to sell the security before recovery of its amortized cost basis less any current-period credit losses. If we intend to sell the security or if it is more likely than not that we will be required to sell security before recovery of the amortized cost basis, the entire amount of other-than-temporary impairment is recognized in earnings.

 

For debt securities that are considered other-than-temporarily impaired and that we do not intend to sell and will not be required to sell prior to recovery of our amortized cost basis, we separate the amount of the impairment into the amount that is credit related (credit loss component) and the amount due to all other factors. The credit loss component is recognized in earnings and is calculated as the difference between the investment’s amortized cost basis and the present value of its expected future cash flows.

 

The remaining differences between the investment’s fair value and the present value of future expected cash flows is deemed to be due to factors that are not credit related and is recognized in other comprehensive income. Significant judgment is required in the determination of whether other-than-temporary impairment has occurred for an investment. We follow a consistent and systematic process for determining other-than-temporary impairment loss. We have designated the ALCO responsible for the other-than-temporary evaluation process.

 

The ALCO’s assessment of whether other-than-temporary impairment loss should be recognized incorporates both quantitative and qualitative information including, but not limited to: (1) the length of time and the extent of which the fair value has been less than amortized cost, (2) the financial condition and near term prospects of the issuer, (3) our intent and ability to retain the investment for a period of time sufficient to allow for an anticipated recovery in value, (4) whether the debtor is current on interest and principal payments, and (5) general market conditions and industry or sector specific outlook. See Note 4 Securities in the Notes to Consolidated Financial Statements in this document for further detail on other-than-temporary impairment and the securities portfolio.

 

Allowance for Loan and Lease Losses

 

The ALLL is based upon estimates of loan and lease losses and is maintained at a level considered adequate to provide for probable losses inherent in the outstanding loan portfolio. The allowance is increased by provisions charged to expense and reduced by net charge-offs. In periodic evaluations of the adequacy of the allowance balance, management considers our past loan and lease loss experience by type of credit, known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay, the estimated value of any underlying collateral, current economic conditions and other factors.

 

Management reviews the ALLL on a monthly basis and conducts a formal assessment of the adequacy of the ALLL on a quarterly basis. These assessments include the periodic re-grading of classified loans based on changes in their individual credit characteristics including delinquency, seasoning, recent financial performance of the borrower, economic factors, changes in the interest rate environment and other factors as warranted. Loans are initially graded when originated. They are reviewed as they are renewed, when there is a new loan to the same borrower and/or when identified facts demonstrate heightened risk of default. Confirmation of the quality of our grading process is obtained by independent reviews conducted by outside consultants specifically hired for this purpose and by periodic examination by various bank regulatory agencies. Management monitors delinquent loans continuously and identifies problem loans to be evaluated individually for impairment testing. For loans that are determined impaired, formal impairment measurement is performed at least quarterly on a loan-by-loan basis.

 

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Our method for assessing the appropriateness of the allowance includes specific allowances for identified problem loans, an allowance factor for categories of credits and allowances for changing environmental factors (e.g., portfolio trends, concentration of credit, growth, economic factors). Allowances for identified problem loans are based on specific analysis of individual credits. Loss estimation factors for unimpaired loan categories are based on analysis of historical losses adjusted for changing environmental factors applicable to each loan category. Allowances for changing environmental factors are management's best estimate of the probable impact these changes would have on the loan portfolio as a whole. See Note 5 Loans in the Notes to Consolidated Financial Statements in this document for further detail on the ALLL and the loan portfolio.

 

Income Taxes

 

Income taxes reported in the consolidated financial statements are computed based on an asset and liability approach. We recognize the amount of taxes payable or refundable for the current year, and deferred tax assets and liabilities for the expected future tax consequences that have been recognized in the consolidated financial statements. Under this method, deferred tax assets and liabilities are determined based on the differences between the consolidated financial statements and the tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. We record net deferred tax assets to the extent it is more likely than not that they will be realized. In evaluating our ability to recover the deferred tax assets, management considers all available positive and negative evidence, including projected future taxable income, tax planning strategies and recent financial operations.

 

In projecting future taxable income, management develops assumptions including the amount of future state and federal pre-tax operating income, the reversal of temporary differences and the implementation of feasible and prudent tax planning strategies. These assumptions require significant judgment about the forecasts of future taxable income and are consistent with the plans and estimates being used to manage the underlying business. We file consolidated federal and combined state income tax returns.

 

ASC 740-10-55 Income Taxes requires a two-step process that separates recognition from measurement of tax positions. We recognize the financial statement effect of a tax position when it is more likely than not, based on the technical merits, that the position will be sustained upon examination by a taxing authority. The measurement process is applied only after satisfying the recognition requirement and determines what amount of a tax position will be sustainable upon a potential examination or settlement. If upon measuring, the tax position produces a range of potential tax benefits, we may claim the highest tax benefit from that range as long as it is over 50% likely to be realized using a probability analysis.

 

We believe that all of the tax positions we have taken, meet the more likely than not recognition threshold. To the extent tax authorities disagree with these tax positions, our effective tax rates could be materially affected in the period of settlement with the taxing authorities.

 

Derivative Financial Instruments and Hedging Activities

 

During March of 2016, we terminated all of our interest rate swaps (active and forward starting the “hedging instrument”) and simultaneously paid off the $75.0 million Federal Home Loan Bank of San Francisco borrowing (the “hedged instrument”). At the time of termination, the interest rate swaps were carried at a $2.3 million loss in our Consolidated Balance Sheets. Accordingly, we immediately reclassified $1.4 million in unrealized losses from other comprehensive income into earnings resulting in a pre-tax loss of $2.3 million recorded in noninterest expense.

 

We used derivatives to hedge the risk of changes in market interest rates to limit the impact on earnings and cash flows relating to specific groups of assets and liabilities. During 2015 and the first quarter of 2016, we utilized interest rate swaps (the “hedging instrument”) with other major financial institutions (counterparties) to hedge interest expenses associated with certain Federal Home Loan Bank of San Francisco borrowings (the “hedged instrument”). We do not use derivative instruments for trading or speculative purposes.

 

For derivative financial instruments accounted for as hedging instruments, we formally designate and document, at inception, the financial instrument as a hedge of a specific underlying exposure, the risk management objective, and the manner in which effectiveness of the hedge will be assessed. We formally assess both at inception and at each reporting period thereafter, whether the derivative financial instruments used in hedging transactions are effective in offsetting changes in fair value or cash flows of the related underlying exposures. Any ineffective portion of the change in cash flows of the instruments is recognized immediately into earnings.

 

ASC 815-10, Derivatives and Hedging (“ASC 815”) requires companies to recognize all derivative instruments as assets or liabilities at fair value in the Consolidated Balance Sheets. In accordance with ASC 815, we designated our interest rate swaps as cash flow hedges of certain active and forecasted variable rate Federal Home Loan Bank of San Francisco advances. Changes in the fair value of the hedging instrument in cash flow hedges were recorded in accumulated other comprehensive income until earnings were impacted by the hedged instrument. No components of our hedging instruments were excluded from the assessment of hedge effectiveness in hedging exposure to variability in cash flows.

 

 
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Classification of the gain or loss in the Consolidated Statements of Income upon release from accumulated other comprehensive income is the same as that of the underlying exposure. We discontinue the use of hedge accounting prospectively when (1) the derivative instrument is no longer effective in offsetting changes in fair value or cash flows of the underlying hedged item; (2) the derivative instrument expires, is sold, terminated, or exercised; or (3) designating the derivative instrument as a hedge is no longer appropriate. When we discontinue hedge accounting because it is no longer probable that an anticipated transaction will occur in the originally expected period, or within an additional two-month period thereafter, changes to fair value that were in accumulated other comprehensive income are recognized immediately in earnings.

 

Fair Value Measurements

 

We use fair value measurements to record fair value adjustments to certain assets and liabilities, and to determine fair value disclosures. We base our fair values on 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. Securities available-for-sale and derivatives are recorded at fair value on a recurring basis. Additionally, from time to time, we may be required to record certain assets at fair value on a nonrecurring basis, such as certain impaired loans held for investment, (“OREO”) and goodwill. These nonrecurring fair value adjustments typically involve write-downs of individual assets due to application of lower of cost or market accounting.

 

We have established and documented a process for determining fair value. We maximize the use of observable inputs and minimize the use of unobservable inputs when developing fair value measurements. Whenever there is no readily available market data, we use our best estimate and assumptions in determining fair value, but these estimates involve inherent uncertainties and the application of management’s judgment. As a result, if other assumptions had been used, our recorded earnings or disclosures could have been materially different from those reflected in these consolidated financial statements. Additional information on our use of fair value measurements and our related valuation methodologies is provided in Note 12 Fair Values in the Notes to Consolidated Financial Statements incorporated in this document.

 

SOURCES OF INCOME

 

We derive our income primarily from net interest income, which is the difference between the interest income we receive on interest-earning assets and the interest expense we pay on interest-bearing liabilities. Sources of noninterest income include fees earned on deposit related services, ATM and point of sale fees, payroll processing, gain on sale of available-for-sale securities, earnings on bank-owned life insurance and dividends on Federal Home Loan Bank of San Francisco stock.

 

Net interest income is impacted by many factors that are beyond our control, including general economic conditions, inflation, recession, and the policies of various governmental and regulatory agencies, the Federal Reserve Board in particular. In recent years, we originated higher volumes of longer term fixed rate loans. These loans, combined with the structure of our investment portfolio, the use of floors in the pricing of our variable rate loans and funding mix caused the Company to become slightly liability sensitive, which could negatively impact earnings in a rising interest rate environment.

 

Net interest income reflects both the amount of earning assets we hold and our net interest margin, which is the difference between the yield we on our earning assets and the interest rate we pay to fund those assets. As a result, changes in either our net interest margin or the amount of earning assets we hold will affect our net interest income and earnings.

 

Increases or decreases in interest rates could adversely affect our net interest margin. Although our asset yields and funding costs tend to move in the same direction in response to changes in interest rates, one can rise or fall faster than the other, and cause our net interest margin to expand or contract. Many of our assets are tied to prime rate, so they may adjust faster in response to changes in interest rates. As a result, when interest rates fall, the yield we earn on our assets may fall faster than our ability to reprice a large portion of our liabilities, causing our net interest margin to contract.

 

Changes in the slope of the yield curve, the spread between short-term and long-term interest rates, could also reduce our net interest margin. Normally, the yield curve is upward sloping, which means that short-term rates are lower than long-term rates. Because our liabilities tend to be shorter in duration than our assets, when the yield curve flattens or even inverts, we could experience pressure on our net interest margin as our cost of funds increases relative to the yield we can earn on our assets.

 

We assess our interest rate risk by estimating the effect on our earnings under various simulated scenarios that differ based on assumptions including the direction, magnitude and speed of interest rate changes, and the slope of the yield curve.

 

There is always the risk that changes in interest rates could reduce our net interest income and earnings in material amounts, especially if actual conditions turn out to be materially different than simulated scenarios. For example, if interest rates rise or fall faster than we assumed or the slope of the yield curve changes, we may incur significant losses on debt securities we hold as investments. To reduce our interest rate risk, we may rebalance our investment and loan portfolios, refinance our debt and take other strategic actions, which may result in losses or expenses.

 

 
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BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

RESULTS OF OPERATIONS

 

OVERVIEW

 

Second Quarter of 2017 Compared With Second Quarter of 2016

 

Net income for the second quarter of 2017 increased $653 thousand compared to the second quarter of 2016. In the current quarter, net interest income was $958 thousand higher and noninterest income was $546 thousand higher. These positive changes were offset by an increase in the provision for loan and lease losses of $300 thousand, noninterest expense that was $46 thousand higher and a provision for income taxes that was $505 thousand higher.

 

First Six Months of 2017 Compared With First Six Months of 2016

 

Net income for the first six months of 2017 increased $3.9 million compared to the same period a year ago. Net income for the current year included life insurance death benefit proceeds of $502 thousand that were not subject to income tax. Net income for 2016 was negatively impacted by $3.0 million of branch acquisition and balance sheet restructuring costs, a $546 thousand other-than-temporary-impairment of an investment security and the write-off of a $363 thousand deferred tax asset. In the current year, net interest income was $2.4 million higher, noninterest income was $1.1 million higher and noninterest expenses were $1.9 million lower. These positive changes were offset by an increase in the provision for loan and lease losses of $500 thousand, and a provision for income taxes that was $1.1 million higher.

 

We continued our quarterly cash dividends of $0.03 per share during the six months ended June 30, 2017. In determining the amount of dividend to be paid, management considers capital preservation objectives, expected asset growth, projected earnings, the overall dividend pay-out ratio, and the dividend yield.

 

Return on Average Assets, Average Total Equity and Common Shareholders' Equity

 

The following table presents the returns on average assets and average total equity for the six months ended June 30, 2017 and 2016. For each of the periods presented, the table includes the calculated ratios based on reported net income as shown in the Consolidated Statements of Income incorporated in this document.

 

   

For the Six Months Ended

 
   

June 30, 2017

   

June 30, 2016

 

Return on average assets

    0.78

%

    0.11

%

Return on average total equity

    8.66

%

    1.31

%

 

 

NET INTEREST INCOME AND NET INTEREST MARGIN

 

For the three months ended June 30, 2017 compared to the same period a year ago:

 

Net interest income increased $958 thousand compared to the same period a year ago.

 

Interest income for the three months ended June 30, 2017 increased $1.1 million or 10% to $11.3 million. Interest and fees on loans increased $962 thousand primarily due to increased average loan balances. Interest on securities increased $10 thousand and interest on interest-bearing deposits due from banks increased $91 thousand.

 

Interest expense for the second quarter of 2017 increased $105 thousand or 10% to $1.1 million. The increase was primarily caused by an increase in the average rate paid on interest-bearing deposits.

 

For the six months ended June 30, 2017 compared to the same period a year ago:

 

Net interest income increased $2.4 million compared to the same period a year ago.

 

Interest income for the six months ended June 30, 2017 increased $2.0 million or 10% to $22.1 million. Interest and fees on loans increased $1.9 million due to increased average loan balances. Interest on securities decreased $49 thousand due to decreased yields partially offset by increased average balances. Interest on interest bearing deposits due from banks increased $130 thousand due to increased average balances and increases in the rate we receive on interest bearing deposits.

 

 
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Interest expense for the first six months of 2017 decreased $412 thousand or 16% to $2.2 million. The net decrease was primarily caused by a $482 thousand decrease in interest on FHLB term debt. Late in the first quarter of 2016 all FHLB term debt was repaid and an interest rate hedge associated with $75.0 million of that debt was terminated.

 

Average Balances, Interest Income/Expense and Yields/Rates Paid

 

The following tables present condensed average balance sheet information, together with interest income and yields earned on average interest-earning assets, and interest expense and rates paid on average interest-bearing liabilities for the three and six months ended June 30, 2017 and 2016.

 

 

   

Three Months Ended June 30, 2017

   

Three Months Ended June 30, 2016

 
   

Average

                   

Average

                 

(Amounts in thousands)

 

Balance

   

Interest(1)

   

Yield/ Rate(5)

   

Balance

   

Interest(1)

   

Yield/ Rate(5)

 

Interest-earning assets:

                                               

Net loans (2)

  $ 821,321     $ 9,758       4.77

%

  $ 742,684     $ 8,796       4.76

%

Taxable securities

    143,705       872       2.43

%

    124,183       808       2.62

%

Tax-exempt securities

    73,927       534       2.90

%

    77,168       588       3.06

%

Interest-bearing deposits in other banks

    58,691       156       1.07

%

    46,097       65       0.57

%

Average interest-earning assets

    1,097,644       11,320       4.14

%

    990,132       10,257       4.17

%

Cash and due from banks

    17,364                       17,028                  

Premises and equipment, net

    15,809                       15,632                  

Other assets

    39,630                       41,394                  

Average total assets

  $ 1,170,447                     $ 1,064,186                  
                                                 

Interest-bearing liabilities:

                                               

Interest-bearing demand

  $ 421,888       184       0.17

%

  $ 382,811       130       0.14

%

Savings deposits

    109,857       47       0.17

%

    103,990       41       0.16

%

Certificates of deposit

    208,703       545       1.05

%

    223,958       515       0.92

%

Net term debt

    19,539       298       6.12

%

    19,510       295       6.08

%

Junior subordinated debentures

    10,310       71       2.76

%

    10,310       59       2.30

%

Average interest-bearing liabilities

    770,297       1,145       0.60

%

    740,579       1,040       0.56

%

Noninterest-bearing demand

    275,039                       220,377                  

Other liabilities

    12,256                       11,913                  

Shareholders’ equity

    112,855                       91,317                  

Average liabilities and shareholders’ equity

  $ 1,170,447                     $ 1,064,186                  

Net interest income and net interest margin (4)

          $ 10,175       3.72

%

          $ 9,217       3.74

%

Tax equivalent net interest margin (3)

                    3.82

%

                    3.87

%

(1) Interest income on loans is net of deferred fees and costs of approximately $131 thousand and $352 thousand for the three months ended June 30, 2017 and 2016, respectively.

(2)  Net loans includes average nonaccrual loans of $9.8 million and $11.4 million for the three months ended June 30, 2017 and 2016, respectively.

(3)  Tax-exempt income has been adjusted to a tax equivalent basis at a 34% tax rate. The amount of such adjustments was an addition to recorded income of approximately $275 thousand and $303 thousand for the three months ended June 30, 2017 and 2016, respectively.

(4) Net interest margin is net interest income expressed as a percentage of average interest-earning assets.

(5) Yields and rates are calculated by dividing the income or expense by the average balance of the assets or liabilities, respectively, and annualizing the result.

 

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

   

Six Months Ended June 30, 2017

   

Six Months Ended June 30, 2016

 
   

Average

                   

Average

                 

(Amounts in thousands)

 

Balance

   

Interest(1)

   

Yield/ Rate(5)

   

Balance

   

Interest(1)

   

Yield/ Rate(5)

 

Interest-earning assets:

                                               

Net loans (2)

  $ 814,098     $ 19,142       4.74

%

  $ 731,740     $ 17,247       4.74

%

Taxable securities

    140,660       1,661       2.38

%

    122,050       1,592       2.62

%

Tax-exempt securities

    73,726       1,064       2.91

%

    77,510       1,182       3.07

%

Interest-bearing deposits in other banks

    57,920       270       0.94

%

    48,676       140       0.58

%

Average interest-earning assets

    1,086,404       22,137       4.11

%

    979,976       20,161       4.14

%

Cash and due from banks

    17,120                       14,665                  

Premises and equipment, net

    15,986                       14,008                  

Other assets

    39,928                       40,543                  

Average total assets

  $ 1,159,438                     $ 1,049,192                  
                                                 

Interest-bearing liabilities:

                                               

Interest-bearing demand

  $ 421,156       332       0.16

%

  $ 353,291       252       0.14

%

Savings deposits

    111,742       94       0.17

%

    100,008       86       0.17

%

Certificates of deposit

    211,934       1,074       1.02

%

    222,897       1,112       1.00

%

Net term debt

    19,071       591       6.25

%

    55,478       1,077       3.90

%

Junior subordinated debentures

    10,310       137       2.68

%

    10,310       113       2.20

%

Average interest-bearing liabilities

    774,213       2,228       0.58

%

    741,984       2,640       0.72

%

Noninterest-bearing demand

    268,994                       201,457                  

Other liabilities

    12,343                       14,439                  

Shareholders’ equity

    103,888                       91,312                  

Average liabilities and shareholders’ equity

  $ 1,159,438                     $ 1,049,192                  

Net interest income and net interest margin (4)

          $ 19,909       3.70

%

          $ 17,521       3.60

%

Tax equivalent net interest margin (3)

                    3.80

%

                    3.72

%

(1) Interest income on loans is net of deferred fees and costs of approximately $328 thousand and $667 thousand for the six months ended June 30, 2017 and 2016, respectively.

(2) Net loans includes average nonaccrual loans of $10.3 million and $10.9 million for the six months ended June 30, 2017 and 2016, respectively.

(3) Tax-exempt income has been adjusted to a tax equivalent basis at a 34% tax rate. The amount of such adjustments was an addition to recorded income of approximately $548 thousand and $609 thousand for the six months ended June 30, 2017 and 2016, respectively.

(4) Net interest margin is net interest income expressed as a percentage of average interest-earning assets.

(5) Yields and rates are calculated by dividing the income or expense by the average balance of the assets or liabilities, respectively, and annualizing the result.

 

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Analysis of Changes in Net Interest Income

 

The following table sets forth a summary of the changes in tax equivalent net interest income due to changes in average asset and liability balances (volume variance) and changes in average rates (rate variance) for the three and six months ended June 30, 2017 and 2016. Changes in tax equivalent interest income and expense, which are not attributable specifically to either volume or rate, are allocated proportionately between both variances.

 

   

Three Months Ended June 30, 2017 Over
Three Months Ended June 30, 2016

 

(Amounts in thousands)

 

Volume

   

Rate

   

Total

 

Increase in interest income:

                       

Net loans

  $ 934     $ 28     $ 962  

Taxable securities

    112       (48 )     64  

Tax-exempt securities (1)

    (37 )     (45 )     (82 )

Interest-bearing deposits in other banks

    22       69       91  

Total increase

    1,031       4       1,035  
                         

Increase (decrease) in interest expense:

                       

Interest-bearing demand

    14       40       54  

Savings deposits

    2       4       6  

Certificates of deposit

    (30 )     60       30  

Net term debt

          3       3  

Junior subordinated debentures

          12       12  

Total (decrease) increase

    (14 )     119       105  

Net increase (decrease)

  $ 1,045     $ (115 )   $ 930  

(1) Tax-exempt income has been adjusted to tax equivalent basis at a 34% tax rate.

 

 

 

   

Six Months Ended June 30, 2017 Over
Six Months Ended June 30, 2016

 

(Amounts in thousands)

 

Volume

   

Rate

   

Total

 

Increase (decrease) in interest income:

                       

Net loans

  $ 1,936     $ (41 )   $ 1,895  

Taxable securities

    182       (113 )     69  

Tax-exempt securities (1)

    (85 )     (94 )     (179 )

Interest-bearing deposits in other banks

    30       100       130  

Total increase (decrease)

    2,063       (148 )     1,915  
                         

Increase (decrease) in interest expense:

                       

Interest-bearing demand

    52       28       80  

Savings deposits

    10       (2 )     8  

Certificates of deposit

    (56 )     18       (38 )

Net term debt

    (711 )     225       (486 )

Junior subordinated debentures

          24       24  

Total (decrease) increase

    (705 )     293       (412 )

Net increase (decrease)

  $ 2,768     $ (441 )   $ 2,327  

(1) Tax-exempt income has been adjusted to tax equivalent basis at a 34% tax rate.

 

 

PROVISION FOR LOAN AND LEASE LOSSES

 

Due to a combination of net loan losses and loan portfolio growth, we recorded a $300 thousand and $500 thousand provision for loan and lease losses during the three and six months ended June 30, 2017, respectively. We made no provision for loan and lease losses during the year ended December 31, 2016. See Note 5 - Loans in the Notes to Consolidated Financial Statements for further discussion.

 

 
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

NONINTEREST INCOME

 

The following table presents the key components of noninterest income for the three and six months ended June 30, 2017 and 2016.

 

   

Three Months Ended June 30,

   

Six Months Ended June 30,

 
                   

Change

   

Change

                   

Change

   

Change

 

(Amounts in thousands)

 

2017

   

2016

   

Amount

   

Percent

   

2017

   

2016

   

Amount

   

Percent

 

Noninterest income:

                                                               

Service charges on deposit accounts

  $ 142     $ 88     $ 54       61

%

  $ 269     $ 160     $ 109       68

%

ATM and point of sale

    288       335       (47 )     (14

)%

    554       427       127       30

%

Payroll and benefit processing fees

    147       139       8       6

%

    338       299       39       13

%

Life insurance

    135       153       (18 )     (12

)%

    781       309       472       153

%

Gain on investment securities, net

    35       28       7       25

%

    101       122       (21 )     (17

)%

Other than temporary impairment on investment securities

          (546 )     546       100

%

          (546 )     546       100

%

Federal Home Loan Bank of San Francisco dividends

    54       99       (45 )     (45

)%

    157       189       (32 )     (17

)%

Other

    182       141       41       29

%

    325       426       (101 )     (24

)%

Total noninterest income

  $ 983     $ 437     $ 546       125

%

  $ 2,525     $ 1,386     $ 1,139       82

%

 

 

For the three months ended June 30, 2017 compared to the same period a year ago:

 

 

Noninterest income for 2016 was negatively impacted by the $546 thousand impairment of a bond investment.

 

For the six months ended June 30, 2017 compared to the same period a year ago:

 

 

During the current year we recognized life insurance death benefit proceeds of $502 thousand.

 

Our branch and offsite ATM acquisition completed late in the first quarter of 2016, enhanced 2017 point of sale and ATM fees by $127 thousand and enhanced service charges on deposit accounts by $109 thousand.

 

NONINTEREST EXPENSE

 

The following table presents the key elements of noninterest expense for the three and six months ended June 30, 2017 and 2016.

 

   

Three Months Ended June 30,

   

Six Months Ended June 30,

 
                   

Change

   

Change

                   

Change

   

Change

 

(Amounts in thousands)

 

2017

   

2016

   

Amount

   

Percent

   

2017

   

2016

   

Amount

   

Percent

 

Noninterest expense:

                                                               

Salaries & related benefits

  $ 4,147     $ 4,086     $ 61       1

%

  $ 9,005     $ 8,315     $ 690       8

%

Premises & equipment

    1,054       987       67       7

%

    2,102       1,776       326       18

%

Federal Deposit Insurance Corporation insurance premium

    104       181       (77 )     (43

)%

    152       337       (185 )     (55

)%

Data processing fees

    450       374       76       20

%

    857       678       179       26

%

Professional service fees

    501       470       31       7

%

    894       906       (12 )     (1

)%

Telecommunications

    223       199       24       12

%

    434       346       88       25

%

Branch acquisition costs

          168       (168 )     (100

)%

          580       (580 )     (100

)%

Loss on cancellation of interest rate swap

                     

%

          2,325       (2,325 )     (100

)%

Other

    1,235       1,203       32       3

%

    2,331       2,406       (75 )     (3

)%

Total noninterest expense

  $ 7,714     $ 7,668     $ 46       1

%

  $ 15,775     $ 17,669     $ (1,894 )     (11

)%

 

 

For the three months ended June 30, 2017 compared to the same period a year ago:

 

Noninterest expense for the three months ended June 30, 2017 increased $46 thousand compared to the same period a year previous. The increase was primarily due to termination and write-off of a $137 thousand software development project and data processing fees that increased $76 thousand. In 2017, branch acquisition and balance sheet reconfiguration costs of $168 thousand recorded in the same period a year previous did not recur.

 

 
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For the six months ended June 30, 2017 compared to the same period a year ago:

 

Noninterest expense for the six months ended June 30, 2017 decreased $1.9 million compared to the same period a year ago. The decrease in noninterest expense was primarily due to the $3.0 million of branch acquisition and balance sheet restructuring costs recorded in the prior year that did not recur. The decrease was partially offset by the following items.

 

 

Salaries and related benefits costs increased $286 thousand directly related to the branch locations acquired late in the first quarter of 2016.

 

Premises and equipment expense increased $202 thousand directly related to the branch and offsite ATM locations acquired in the first quarter of 2016.

 

Termination and write-off of a $137 thousand software development project during the second quarter of 2017.

 

INCOME TAXES

 

Our provision for income taxes includes both federal and state income taxes and reflects the application of federal and state statutory rates to our income before taxes. The following table reflects our tax provision and the related effective tax rate for the periods indicated.

 

   

For the Three Months Ended June 30,

   

For the Six Months Ended June 30,

 

(Amounts in thousands)

 

2017

   

2016

   

2017

   

2016

 

Income before provision for income taxes

  $ 3,144     $ 1,986     $ 6,159     $ 1,238  

Provision for income taxes

  $ 935     $ 430     $ 1,698     $ 642  

Effective tax rate

    29.74

%

    21.65

%

    27.57

%

    51.86

%

Provision for income taxes - excluding DTA write-off

  $ 935     $ 430     $ 1,698     $ 279  

Effective tax rate - excluding DTA write-off

    29.74

%

    21.65

%

    27.57

%

    22.54

%

 

During the three months ended June 30, 2017, the Company recorded a provision for income taxes of $935 thousand (29.74% effective tax rate) compared with a provision for income taxes of $430 thousand (21.65% effective tax rate) for the same period a year ago.

 

During the six months ended June 30, 2017, the Company recorded a provision for income taxes of $1.7 million (27.57% effective tax rate) compared with a provision for income taxes of $642 thousand (51.86% effective tax rate) for the same period a year previous.

 

 

Life insurance death benefits of $502 thousand recorded during the current year are not subject to income tax, and if excluded from pretax income, the effective tax rate would have been 30.0% for the six months ended June 30, 2017.

 

During the six months ended June 30, 2016, the Company recorded an income tax expense of $642 thousand which was comprised of a $279 thousand tax provision on operating income (22.5% of pretax income of $1.2 million) and the write-off of a $363 thousand deferred tax asset.

 

Excluding the unique items described above, the company’s effective tax rate on operating income has increased from 21.7% and 22.5% (three and six month periods ended June 30, 2016, respectively) to 29.7% and 30.0% (three and six month periods ended June 30, 2017, respectively). The increase has occurred as the items which lower the company’s effective tax rate (muni income, tax credits and permanent deductions arising from investments in low income housing partnerships) remain essentially unchanged in amount from year to year, but comprise a significantly smaller percentage of pre-tax income.

 

 
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BANK OF COMMERCE HOLDINGS & SUBSIDIARIES

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

FINANCIAL CONDITION

 

CONSOLIDATED BALANCE SHEETS

 

As of June 30, 2017, we had total consolidated assets of $1.2 billion, gross loans of $815.4 million, allowance for loan and lease losses (“ALLL”) of $11.7 million, total deposits of $1.0 billion, and shareholders’ equity of $126.0 million.

 

We continued to maintain a strong liquidity position during the reporting period. As of June 30, 2017, we maintained noninterest-bearing cash positions at the Federal Reserve Bank and correspondent banks in the amount of $23.4 million. We also held interest-bearing deposits in the amount of $73.4 million.

 

Available-for-sale investment securities totaled $209.6 million at June 30, 2017, compared to $175.2 million at December 31, 2016. Our available-for-sale investment portfolio provides a secondary source of liquidity to fund other higher yielding asset opportunities, such as loan originations.

 

During the first six months of 2017, we purchased 49 securities with a par value of $67.4 million and weighted average yield of 2.51% and sold 22 securities with a par value of $26.1 million and weighted average yield of 2.00%. The sales activity on available-for-sale securities resulted in $101 thousand in net realized gains for the six months ended June 30, 2017. During the six months ended June 30, 2017, we also received $9.8 million in proceeds from principal payments, calls and maturities within the available-for-sale securities portfolio.

 

At June 30, 2017, our net unrealized gains on available-for-sale investment securities were $682 thousand compared to net unrealized losses of $1.3 million at December 31, 2016. The unrealized gains arising during the six months ended June 30, 2017 were primarily driven by a narrowing of market spreads and changes in interest rates.

 

We recorded gross loan balances of $815.4 million at June 30, 2017, compared to $804.2 million at December 31, 2016; an increase of $11.2 million. The increase in gross loans occurred primarily in the Bank’s Sacramento marketplace and is the result of investments in our SBA division and in our expanded Sacramento commercial banking group.

 

The ALLL at June 30, 2017 increased $144 thousand to $11.7 million compared to $11.5 million at December 31, 2016. A combination of net loan losses and loan portfolio growth supported management’s decision to record a $500 thousand provision for loan and lease losses during the six months ended June 30, 2017. During the year ended December 31, 2016, there were no provisions for loan and lease losses. Net loan charge-offs were $356 thousand during the six months ended June 30, 2017, compared to net loan loss recoveries of $684 thousand during the same period a year previous. At June 30, 2017, relying on our ALLL methodology, which uses criteria such as risk weighting and historical loss rates, and given the ongoing improvements in asset quality, we believe the ALLL is adequate. There is, however, no assurance that future loan and lease losses will not exceed the levels provided for in the ALLL and could possibly result in additional charges to the provision for loan and lease losses.

 

Nonperforming loans, which include nonaccrual loans and accruing loans past due over 90 days, decreased by $2.2 million to $9.2 million, or 1.12% of gross loans, as of June 30, 2017, compared to $11.4 million, or 1.42% of gross loans as of December 31, 2016. Past due loans as of June 30, 2017 decreased $ 1.1 million to $3.4 million, compared to $4.6 million as of December 31, 2016. We believe that risk grading for past due loans appropriately reflects the risk associated with the past due loans. See Note 5 Loans in the Notes to Consolidated Financial Statements in this document for further detail on the ALLL and the loan portfolio.

 

Premises and equipment totaled $15.4 million at June 30, 2017 a decrease of $809 thousand compared to $16.2 million at December 31, 2016.

 

Our OREO balance at June 30, 2017 was $1.5 million compared to $759 thousand at December 31, 2016. For the six months ended June 30, 2017, we transferred five foreclosed properties in the amount of $924 thousand to OREO and we sold four properties with balances of $113 thousand for a net loss of $59 thousand. During the six months ended June 30, 2017, we recognized a write-down of $52 thousand on one OREO property.

 

Bank-owned life insurance decreased $1.5 million during the six months ended June 30, 2017 to $21.6 million compared to $23.1 million at December 31, 2016. During the first quarter of 2017, we received $2.2 million from life insurance death benefit proceeds, of which $502 thousand was recorded in income. Our net deferred tax assets were $8.7 million at June 30, 2017 compared to $9.5 million at December 31, 2016.

 

Other assets which include the Bank’s investment in low income housing tax credit partnerships and investment in Federal Home Loan Bank of San Francisco stock totaled $19.6 million at June 30, 2017 compared to $20.4 million at December 31, 2016.

 

Total deposits at June 30, 2017 increased $108.7 million or 12% to $1.0 billion compared to the same date a year ago and increased $41.6 million or 8% annualized compared to December 31, 2016.

 

 

Total non-maturing deposits increased $124.5 million or 17% compared to the same date a year ago and increased $50.6 million or 13% annualized compared to December 31, 2016.

 

Certificates of deposit decreased $15.9 million or 7% compared to the same date a year ago and decreased $9.0 million or 8% annualized compared to December 31, 2016.

 

 
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Other liabilities which include the Bank’s income tax liabilities, supplemental executive retirement plan and funding obligation for investments in qualified affordable housing partnerships decreased $1.7 million to $11.5 million as of June 30, 2017 compared to $13.2 million at December 31, 2016.

 

Investment Securities

 

The composition of our investment securities portfolio reflects management’s investment strategy of maintaining an appropriate level of liquidity while providing a relatively stable source of interest income.

 

The investment securities portfolio also:

 

 

Mitigates interest rate risk;

 

 

Mitigates a portion of credit risk inherent in the loan portfolio;

 

 

Provides a vehicle for the investment of excess liquidity;

 

 

Provides a source of liquidity when pledged as collateral for lines of credit;

 

 

Can be used as collateral for certain public funds.

 

Available-for-sale investment securities totaled $209.6 million at June 30, 2017, compared to $175.2 million at December 31, 2016. During the first six months of 2017, we continued to deploy liquidity provided by the March 2016 branch acquisition, strong organic deposit growth and the sale of common stock into loan originations, interest bearing deposits at other banks and available for sale securities.

 

Our held-to-maturity investment portfolio is generally utilized to hold longer term securities that may have greater price risk, many of which are pledged as collateral for our local agency deposit program. This portfolio includes securities with longer durations and higher coupons than securities held in the available-for-sale securities portfolio. Held-to-maturity investment securities had amortized costs of $31.3 million at June 30, 2017, compared to $31.2 million at December 31, 2016. There were no held-to-maturity securities purchased during the six months ended June 30, 2017.

 

The following table presents the carrying value of the investment securities portfolio by classification and major type as of June 30, 2017 and December 31, 2016.

 

   

June 30,

   

December 31,

 

(Amounts in thousands)

 

2017

   

2016

 

Available-for-sale securities: (1)

               

U.S. government & agencies

  $ 24,231     $ 10,354  

Obligations of state and political subdivisions

    58,400       59,428  

mortgage-backed securities and collateralized mortgage obligations

    91,375       69,604  

Corporate securities

    8,312       16,116  

Commercial mortgage-backed securities

    23,421       15,514  

Other asset-backed securities

    3,870       4,158  

Total

  $ 209,609     $ 175,174  

Held-to-maturity securities: (1)

               

Obligations of state and political subdivisions

  $ 31,329     $ 31,187  

(1) Available-for-sale securities are reported at fair value, and held-to-maturity securities are reported at amortized cost.

 

 
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The following table presents information regarding the amortized cost, maturity structure and average yield of the investment portfolio at June 30, 2017.

 

                   

Over One Through

   

Over Five Through

                                 
   

Within One Year

   

Five Years

   

Ten Years

   

Over Ten Years

   

Total

 

(Amounts in thousands)

 

Amount

   

Yield

   

Amount

   

Yield

   

Amount

   

Yield

   

Amount

   

Yield

   

Amount

   

Yield

 
Available-for-sale securities: (1)                                                                                

U.S. government & agencies

  $      

%

  $      

%

  $ 1,782       2.30

%

  $ 22,438       2.57

%

  $ 24,220       2.55

%

Obligations of state and political subdivisions

    189       2.73

%

    5,807       2.66

%

    24,615       2.81

%

    26,465       2.53

%

    57,076       2.66

%

Mortgage-backed securities and collateralized mortgage obligations

    214       4.70

%

    45,764       2.25

%

    39,704       2.77

%

    6,160       2.89

%

    91,842       2.52

%

Corporate securities

    1,023       1.74

%

    6,245       3.32

%

    1,000       2.00

%

         

%

    8,268       2.97

%

Commercial mortgage-backed securities

         

%

    939       1.28

%

    5,240       2.09

%

    17,405       2.39

%

    23,584       2.28

%

Other asset-backed securities

         

%

         

%

         

%

    3,937       2.26

%

    3,937       2.26

%

Total

  $ 1,426       2.31

%

  $ 58,755       2.39

%

  $ 72,341       2.71

%

  $ 76,405       2.53

%

  $ 208,927       2.55

%

Held-to-maturity securities: (1)                                                                                

Obligations of state and political subdivisions

  $      

%

  $ 6,750       3.32

%

  $ 11,448       2.83

%

  $ 13,131       3.39

%

  $ 31,329       3.17

%

(1) The maturities for the collateralized mortgage obligations and mortgage-backed securities are presented by expected average life, rather than contractual maturity. The yield on tax-exempt securities has not been adjusted to a tax-equivalent yield basis.

 

 

Loan Portfolio

Loan Concentrations

 

Historically, we have concentrated our loan origination activities primarily within El Dorado, Placer, Sacramento, and Shasta counties in California. In recent years our loan origination activity has expanded to include other portions of California and northern Nevada. We manage our credit risk through various diversifications of our loan portfolio, the application of sound underwriting policies and procedures, and ongoing credit monitoring practices. Generally, the loans are secured by real estate or other assets located in California. Repayment is expected from the borrower’s cash flows or cash flows from real estate investments.

  

 
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The following table presents the composition of the loan portfolio as of June 30, 2017 and December 31, 2016.

 

(Amounts in thousands)

 

June 30,

           

December 31,

         

Loan Portfolio

 

2017

   

%

   

2016

   

%

 

Commercial

  $ 152,204       19

%

  $ 153,844       19

%

Commercial real estate:

                               

Real estate - construction and land development

    22,275       3       36,792       5  

Real estate - commercial non-owner occupied

    310,995       38       292,615       36  

Real estate - commercial owner occupied

    184,868       23       167,335       21  

Residential real estate:

                               

Real estate - residential - ITIN

    43,229       5       45,566       6  

Real estate - residential - 1-4 family mortgage

    18,904       2       20,425       3  

Real estate - residential - equity lines

    32,133       4       35,953       4  

Consumer and other

    50,780       6       51,681       6  

Gross loans

    815,388       100

%

    804,211       100

%

Deferred loan fees

    1,541               1,324          

Loans, net of deferred fees and costs

    816,929               805,535          

Allowance for loan and lease losses

    (11,688 )             (11,544 )        

Net loans

  $ 805,241             $ 793,991          

 

 

The following table sets forth the maturity and re-pricing distribution of our gross loans outstanding as of June 30, 2017, which, based on remaining scheduled repayments of principal, are due within the periods indicated.

 

           

After One

                 
   

Within One

   

Through

   

After Five

         

(Amounts in thousands)

 

Year

   

Five Years

   

Years

   

Total

 

Commercial

  $ 41,972     $ 57,220     $ 53,012     $ 152,204  

Commercial real estate:

                               

Real estate - construction and land development

    4,930       3,952       13,393       22,275  

Real estate - commercial non-owner occupied

    4,538       56,585       249,872       310,995  

Real estate - commercial owner occupied

    5,113       20,353       159,402       184,868  

Residential real estate:

                               

Real estate - residential - ITIN

                43,229       43,229  

Real estate - residential - 1-4 family mortgage

    295       3,133       15,476       18,904  

Real estate - residential - equity lines

    22       4,595       27,516       32,133  

Consumer and other

    47,922       607       2,251       50,780  

Gross loans

  $ 104,792     $ 146,445     $ 564,151     $ 815,388  

Loans due after one year with:

                               

Fixed rates

          $ 62,446     $ 176,045     $ 238,491  

Variable rates

            83,999       388,106       472,105  

Total

          $ 146,445     $ 564,151     $ 710,596  

 

 

Loans with unique credit characteristics

 

In April of 2009, we completed a loan ‘swap’ transaction, which included a pool of Individual Tax Identification Number (“ITIN”) residential mortgage loans. The ITIN loans are geographically disbursed throughout the United States and are made to legal United States residents who do not possess a social security number. The ITIN loan portfolio is serviced through a third party. The majority of the ITIN loans are variable rate loans and may have an increased default risk in a rising rate environment. Worsening economic conditions in the United States may cause us to suffer higher default rates on our ITIN loans and reduce the value of the assets that we hold as collateral. In addition, if we become responsible for servicing of these ITIN loans, then we may realize additional monitoring, servicing and appraisal costs due to the geographic disbursement of the portfolio which will adversely affect our noninterest expense.

 

Purchased Loans

 

In addition to loans we have originated, the loan portfolio includes purchased loan pools and purchased participations. Purchased loans are recorded at their fair value at the acquisition date. Credit discounts are included in the determination of fair value; therefore, an ALLL is not recorded at the acquisition date. Additional information regarding the individual purchased loan pools can be found in Note 13 Purchase of Financial Assets in the Notes to Consolidated Financial Statements in this document.

 

 
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The following table presents the recorded investment in purchased loans at June 30, 2017 and December 31, 2016.

 

(Amounts in thousands)

 

June 30, 2017

   

December 31, 2016

 

Purchased Loans

 

Balance

   

% of Gross Loan Portfolio

   

Balance

   

% of Gross Loan Portfolio

 

Commercial

  $ 108      

%

  $ 109      

%

Commercial real estate

    31,405       4       31,662       4  

Residential real estate

    50,061       6       52,888       7  

Consumer and other

    48,686       6       49,057       6  

Total purchased loans

  $ 130,260       16

%

  $ 133,716       17

%

 

 

Asset Quality

Nonperforming Assets

 

Our loan portfolio is heavily concentrated in real estate, and a significant portion of our borrowers’ ability to repay their loans is dependent upon the professional services, commercial real estate market and the residential real estate development industry sectors. Loans secured by real estate or other assets primarily located in California are expected to be repaid from cash flows of the borrower or proceeds from the sale of collateral. As such, our dependence on real estate secured loans could increase the risk of loss in our loan portfolio in a market of declining real estate values. Furthermore, declining real estate values negatively impact holdings of OREO.

 

We manage asset quality and mitigate credit risk through the application of policies designed to promote sound underwriting and loan monitoring practices. Our Loan Committee is charged with monitoring asset quality, establishing credit policies and procedures and enforcing the consistent application of these policies and procedures across the Bank. The provision for loan and lease losses charged to earnings is based upon management’s judgment of the amount necessary to maintain the allowance at a level adequate to absorb probable incurred losses. The amount of provision charge is dependent upon many factors, including loan growth, net charge-offs, changes in the composition of the loan portfolio, delinquencies, management’s assessment of loan portfolio quality, general economic conditions that can impact the value of collateral, and other trends. The evaluation of these factors is performed through an analysis of the adequacy of the ALLL. Reviews of nonperforming, past due loans and larger credits, designed to identify potential charges to the ALLL, and to determine the adequacy of the allowance, are conducted on a monthly basis. These reviews consider such factors as the financial strength of borrowers, the value of the applicable collateral, loan and lease loss experience, estimated loan and lease losses, growth in the loan portfolio, prevailing economic conditions and other factors.

 

A loan is considered impaired when, based on current information and events, we determine it is probable that we will not be able to collect all amounts due according to the loan contract, including scheduled interest payments. Generally, when we identify a loan as impaired, we measure the loan for potential impairment using discount cash flows, except when the sole remaining source of the repayment for the loan is the liquidation of the collateral. In these cases, we use the current fair value of collateral, less selling costs. The starting point for determining the fair value of collateral is through obtaining external appraisals. Generally, external appraisals are updated every twelve months. We obtain appraisals from a pre-approved list of independent, third party, local appraisal firms. Approval and addition to the list is based on experience, reputation, character, consistency and knowledge of the respective real estate market. At a minimum, it is ascertained that the appraiser is: (1) currently licensed in the state in which the property is located, (2) is experienced in the appraisal of properties similar to the property being appraised, (3) is actively engaged in the appraisal work, (4) has knowledge of current real estate market conditions and financing trends, (5) is reputable, and (6) is not on Freddie Mac’s nor our Exclusionary List of appraisers and brokers. In most cases, appraisals will be reviewed by another independent third party to ensure the quality of the appraisal and the expertise and independence of the appraiser. Upon receipt and review, an external appraisal is utilized to measure a loan for potential impairment.

 

Our impairment analysis documents the date of the appraisal used in the analysis, whether the officer preparing the report deems it current, and, if not, allows for internal valuation adjustments with justification. Typical justified adjustments might include discounts for continued market deterioration subsequent to appraisal date, adjustments for the release of collateral contemplated in the appraisal, or the value of other collateral or consideration not contemplated in the appraisal. An appraisal over one year old in most cases will be considered stale dated and an updated or new appraisal will be required. Any adjustments from appraised value to net realizable value are detailed and justified in the impairment analysis, which is reviewed and approved by our Chief Credit Officer. Although an external appraisal is the primary source to value collateral dependent loans, we may also utilize values obtained through purchase and sale agreements, negotiated short sales, broker price opinions, or the sales price of the note. These alternative sources of value are used only if deemed to be more representative of value based on updated information regarding collateral resolution. Impairment analyses are updated, reviewed and approved on a quarterly basis at or near the end of each reporting period. Based on these processes, we do not believe there are significant time lapses for the recognition of additional provision for loan and lease loss or charge-offs from the date they become known.

 

 
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Loans are classified as nonaccrual when collection of principal or interest is doubtful; generally these are loans that are past due as to maturity or payment of principal or interest by 90 days or more, unless such loans are well-secured and in the process of collection. Additionally, all loans that are impaired are considered for nonaccrual status. Loans placed on nonaccrual will typically remain on nonaccrual status until all principal and interest payments are brought current and the prospects for future payments in accordance with the loan agreement appear certain.

 

Upon acquisition of real estate collateral, typically through the foreclosure process, we promptly begin to market the property for sale. If we do not begin to receive offers or indications of interest, we will analyze the price and review market conditions to assess the pricing level that would enable us to sell the property. At the time of foreclosure, OREO is recorded at fair value less costs to sell (“cost”), which becomes the property’s new basis. Any write-downs based on the asset’s fair value at the date of acquisition are charged to the ALLL. After foreclosure, management periodically performs valuations and the property is carried at the lower of the cost or fair value less expected selling costs. We obtain updated appraisals on OREO property every six to twelve months. Increases in valuation adjustments recorded in a period are primarily based on (1) updated appraisals received during the period, or (2) management’s authorization to reduce the selling price of the property during the period. Unless a current appraisal is available, an appraisal will be ordered prior to a loan migrating to OREO.

 

The following table summarizes our nonperforming assets as of June 30, 2017 and December 31, 2016.

 

(Amounts in thousands)

 

June 30,

   

December 31,

 

Nonperforming Assets

 

2017

   

2016

 

Commercial

  $ 2,410     $ 2,749  

Commercial real estate:

               

Real estate - commercial non-owner occupied

    1,196       1,196  

Real estate - commercial owner occupied

    639       784  

Total commercial real estate

    1,835       1,980  

Residential real estate:

               

Real estate - residential - ITIN

    3,346       3,576  

Real estate - residential - 1-4 family mortgage

    653       1,914  

Real estate - residential - equity lines

    872       917  

Total residential real estate

    4,871       6,407  

Consumer and other

    38       250  

Total nonaccrual loans

    9,154       11,386  

90 days past due and still accruing

           

Total nonperforming loans

    9,154       11,386  

Other real estate owned

    1,517       759  

Total nonperforming assets

  $ 10,671     $ 12,145  

Nonperforming loans to loans, net of deferred fees and costs

    1.12

%

    1.41

%

Nonperforming assets to total assets

    0.88

%

    1.06

%

 

 

We are continually performing extensive reviews of the commercial real estate portfolio, including stress testing. These reviews are performed on both our non-owner and owner occupied credits. These reviews are completed to verify leasing status, to ensure the accuracy of risk ratings, and to develop proactive action plans with borrowers on projects. Stress testing is performed to determine the effect of rising cap rates, interest rates, and vacancy rates on the portfolio. Based on our analysis, we believe our lending teams are effectively managing the risks in this portfolio. There can be no assurance that any further declines in economic conditions, such as potential increases in retail or office vacancy rates, will not exceed the projected assumptions utilized in stress testing resulting in additional nonperforming loans in the future.

 

Loans are reported as troubled debt restructurings when we grant a concession(s) to a borrower experiencing financial difficulties that we would not otherwise consider. Examples of such concessions include a reduction in the loan rate, forgiveness of principal or accrued interest, extending the maturity date(s) significantly, or providing a lower interest rate than would be normally available for a transaction of similar risk. As a result of these concessions, restructured loans are impaired as we will not collect all amounts due, either principal or interest, in accordance with the terms of the original loan agreement. Impairment reserves on non-collateral dependent troubled debt restructured loans are measured by comparing the present value of expected future cash flows of the restructured loans, discounted at the effective interest rate of the original loan agreement to the loans carrying value. These impairment reserves are recognized as a specific component to be provided for in the ALLL.

 

As of June 30, 2017, we had $11.3 million in troubled debt restructurings compared to $12.1 million as of December 31, 2016. As of June 30, 2017, we had 118 restructured loans that qualified as troubled debt restructurings, of which 111 loans were performing according to their restructured terms. Troubled debt restructurings represented 1.39% of gross loans as of June 30, 2017, compared to 1.50% at December 31, 2016.

 

 
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Impaired loans of $6.7 million and $7.1 million were classified as accruing troubled debt restructurings at June 30, 2017 and December 31, 2016, respectively. The restructured loans on accrual status represent the majority of impaired loans accruing interest at each respective date. For a restructured loan to be on accrual status, the loan’s collateral coverage generally will be greater than or equal to 100% of the loan balance, the loan is current on payments, and the borrower must either prefund an interest reserve or demonstrate the ability to make payments from a verified source of cash flow. As of June 30, 2017, we had one restructured commercial line of credit in nonaccrual status that had $107 thousand in available credit. We had no other obligations to lend additional funds on any other restructured loans as of June 30, 2017 or December 31, 2016.

 

The following table sets forth a summary of our restructured loans that qualify as troubled debt restructurings as of June 30, 2017 and December 31, 2016.

 

(Amounts in thousands)

 

June 30,

   

December 31,

 

Troubled Debt Restructurings

 

2017

   

2016

 

Accruing troubled debt restructurings

               

Commercial

  $ 703     $ 776  

Commercial real estate:

               

Real estate - commercial non-owner occupied

    806       808  

Residential real estate:

               

Real estate - residential - ITIN

    4,712       5,033  

Real estate - residential - equity lines

    445       454  

Total accruing troubled debt restructurings

  $ 6,666     $ 7,071  
                 

Nonaccruing troubled debt restructurings

               

Commercial

  $ 1,757     $ 1,940  

Residential real estate:

               

Real estate - residential - ITIN

    2,524       2,691  

Real estate - residential - 1-4 family mortgage

    321       335  

Consumer and other

    28       29  

Total nonaccruing troubled debt restructurings

  $ 4,630     $ 4,995  

Total troubled debt restructurings

               
                 

Commercial

  $ 2,460     $ 2,716  

Commercial real estate:

               

Real estate - commercial non-owner occupied

    806       808  

Residential real estate:

               

Real estate - residential - ITIN

    7,236       7,724  

Real estate - residential - 1-4 family mortgage

    321       335  

Real estate - residential - equity lines

    445       454  

Consumer and other

    28       29  

Total troubled debt restructurings

  $ 11,296     $ 12,066  
                 

Total troubled debt restructurings to gross loans outstanding at period end

    1.39

%

    1.50

%

 

 

Allowance for Loan and Lease Losses and Reserve for Unfunded Commitments

 

The ALLL at June 30, 2017 increased $144 thousand to $11.7 million compared to $11.5 million at December 31, 2016. A combination of net loan losses and loan portfolio growth supported management’s decision to record a $300 thousand and $500 thousand provision for loan and lease losses during the three and six months ended June 30, 2017, respectively. During the year ended December 31, 2016 there were no provisions for loan and lease losses.

 

We recorded net loan charge-offs of $356 thousand for the six months ended June 30, 2017 compared to net loan loss recoveries of $364 thousand for the year ended December 31, 2016. Charge-offs of $466 thousand during the six months ended June 30, 2017 occurred primary from purchased consumer loans and were partially offset by recoveries of $235 thousand from five commercial loan relationships. Our ALLL as a percentage of gross loans was 1.43% as of June 30, 2017 and 1.44% as of December 31, 2016.

 

 
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The following table summarizes the ALLL roll forward for the six months ended June 30, 2017, twelve months ended December 31, 2016 and the six months ended June 30, 2016. This table also includes impaired loan information at June 30, 2017, December 31, 2016 and June 30, 2016.

 

   

For The Six

Months Ended

   

For The Twelve

Months Ended

   

For The Six

Months Ended

 

(Amounts in thousands)

 

June 30,

2017

   

December 31,

2016

   

June 30,

2016

 

Beginning balance ALLL

  $ 11,544     $ 11,180     $ 11,180  

Provision for loan and lease loss charged to expense

    500              

Loans charged off

    (806 )     (2,784 )     (2,041 )

Loan and lease loss recoveries

    450       3,148       2,725  

Ending balance ALLL

  $ 11,688     $ 11,544     $ 11,864  

 

   

At June 30,

2017

   

At December 31,

2016

   

At June 30,

2016

 

Nonaccrual loans:

                       

Commercial

  $ 2,410     $ 2,749     $ 2,149  

Real estate - commercial non-owner occupied

    1,196       1,196       1,197  

Real estate - commercial owner occupied

    639       784       816  

Real estate - residential - ITIN

    3,346       3,576       3,664  

Real estate - residential - 1-4 family mortgage

    653       1,914       1,824  

Real estate - residential - equity lines

    872       917       995  

Consumer and other

    38       250       266  

Total nonaccrual loans

    9,154       11,386       10,911  

Accruing troubled-debt restructured loans:

                       

Commercial

    703       776       760  

Real estate - commercial non-owner occupied

    806       808       816  

Real estate - residential - ITIN

    4,712       5,033       5,336  

Real estate - residential - equity lines

    445       454       548  

Total accruing restructured loans

    6,666       7,071       7,460  
                         

All other accruing impaired loans

          337       550  

Total impaired loans

  $ 15,820     $ 18,794     $ 18,921  
                         

Gross loans outstanding

  $ 815,388     $ 804,211     $ 754,140  
                         

Ratio of ALLL to gross loans outstanding

    1.43

%

    1.44

%

    1.57

%

Nonaccrual loans to gross loans outstanding

    1.12

%

    1.42

%

    1.45

%

 

 

As of June 30, 2017, impaired loans totaled $15.8 million, of which $9.2 million were in nonaccrual status. Of the total impaired loans, $8.1 million or 116 were ITIN loans with an average balance of approximately $69 thousand. The remaining impaired loans consist of nine commercial loans, three commercial real estate loans, four residential mortgages, ten home equity loans and two consumer loans.

 

At June 30, 2017, impaired loans had a corresponding specific allowance of $1.1 million. The specific allowance on impaired loans represents the impairment reserves on performing restructured loans, other accruing loans, and nonaccrual loans.

 

 
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The following table sets forth the allocation of the ALLL and percent of loans in each category to gross loans as of June 30, 2017 and December 31, 2016.

 

(Amounts in thousands)

 

June 30, 2017

   

December 31, 2016

 

ALLL

 

Amount

   

% Loan Category

   

Amount

   

% Loan Category

 

Commercial

  $ 2,850       24

%

  $ 2,849       25

%

Commercial real estate:

                               

Real estate - construction and land development

    104       1       177       2  

Real estate - commercial non-owner occupied

    4,106       34       3,637       32  

Real estate - commercial owner occupied

    1,862       16       1,764       15  

Residential real estate:

                               

Real estate - residential - ITIN

    545       5       973       8  

Real estate - residential - 1-4 family mortgage

    92       1       106       1  

Real estate - residential - equity lines

    560       5       637       5  

Consumer and other

    1,137       10       955       8  

Unallocated

    432       4       446       4  

Total ALLL

  $ 11,688       100

%

  $ 11,544       100

%

 

 

The unallocated portion of ALLL provides for coverage of credit losses inherent in the loan portfolio but not captured in the credit loss factors that are utilized in the risk grading-based component, or in the specific reserve component of the ALLL, and acknowledges the inherent imprecision of all loss prediction models. As of June 30, 2017 and December 31, 2016, the unallocated allowance amount represented 4% of the ALLL. While the ALLL composition is an indication of specific amounts or loan categories in which future charge-offs may occur, actual amounts may differ.

 

Deposits

Total deposits as of June 30, 2017 were $1.0 billion compared to $1.0 billion at December 31, 2016, an increase of $41.6 million or 8% annualized. The following table presents the deposit balances by major category as of June 30, 2017, and December 31, 2016.

 

(Amounts in thousands)

 

June 30, 2017

   

December 31, 2016

 

Deposits

 

Amount

   

Percentage

   

Amount

   

Percentage

 

Noninterest-bearing demand

  $ 303,560       30

%

  $ 270,398       27

%

Interest-bearing demand

    197,753       19       198,328       20  

Money market accounts

    229,045       22       207,241       20  

Savings

    109,472       10       113,309       11  

Certificates of deposit, $100,000 or greater

    161,907       15       167,962       17  

Certificates of deposit, less than $100,000

    44,488       4       47,428       5  

Total

  $ 1,046,225       100

%

  $ 1,004,666       100

%

 

 

The following table sets forth the distribution of our year-to-date average daily balances and their respective average rates for the six months ended June 30, 2017, and the year ended December 31, 2016.

 

   

For the Six Months Ended June 30, 2017

   

For the Year Ended December 31, 2016

 

(Amounts in thousands)

 

Average Balance

   

Rate

   

Average Balance

   

Rate

 

Interest-bearing demand

  $ 205,488       0.13

%

  $ 172,011       0.12

%

Money market accounts

    215,668       0.19

%

    202,159       0.16

%

Savings

    111,742       0.17

%

    104,771       0.17

%

Certificates of deposit

    211,934       1.02

%

    221,074       0.99

%

Interest-bearing deposits

    744,832       0.41

%

    700,015       0.41

%

Noninterest-bearing demand

    268,994               226,368          

Average total deposits

  $ 1,013,826             $ 926,383          
                                 

Term debt

  $ 19,071       6.25

%

  $ 37,286       4.47

%

Junior subordinated debentures

    10,310       2.68

%

    10,310       2.28

%

Average total borrowings

  $ 29,381       5.00

%

  $ 47,596       4.00

%

 

 
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Deposit Maturity Schedule

 

The following table sets forth the remaining maturities of certificates of deposit in amounts of $100,000 or more as of June 30, 2017.

 

 

(Amounts in thousands)

 

June 30,

 

Maturing in:

 

2017

 

Three months or less

  $ 22,964  

Three through six months

    24,764  

Six through twelve months

    39,577  

Over twelve months

    74,602  

Total

  $ 161,907  

 

 

We have an agreement with Promontory Interfinancial Network LLC (“Promontory”) allowing provision of FDIC deposit insurance to balances in excess of current FDIC deposit insurance limits. Promontory’s Certificate of Deposit Account Registry Service (“CDARS”) and Insured Cash Sweep (“ICS”) use a deposit-matching program to exchange Bank deposits in excess of the current deposit insurance limits for excess balances at other participating banks, on a dollar-for-dollar basis, that would be fully insured at the Bank. These products are designed to enhance our ability to attract and retain customers and increase deposits, by providing additional FDIC coverage to customers. CDARS and ICS deposits can be reciprocal or one-way; and are considered brokered deposits by the FDIC.

 

In accordance with regulatory Call Report instructions, we filed quarterly Call Reports, which listed brokered deposits of $56.8 million, and $65.2 million at June 30, 2017 and December 31, 2016, respectively. These amounts were obtained through the CDARS and ICS programs.

 

Borrowings

Term Debt

 

At June 30, 2017, we had term debt outstanding with a carrying value of $18.1 million compared to $18.7 million at December 31, 2016. Term debt consisted of the following:

 

Federal Home Loan Bank of San Francisco Borrowings

 

As of June 30, 2017 and December 31, 2016 the Bank had no Federal Home Loan Bank of San Francisco advances outstanding. The average balance outstanding on Federal Home Loan Bank of San Francisco term advances during the six months ended June 30, 2017 and the year ended December 31, 2016 was $608 thousand and $18.0 million, respectively. See Note 7 Federal Funds Purchased and Lines of Credit in the Notes to Consolidated Financial Statements for information on our Federal Home Loan Bank of San Francisco borrowings and our remaining line of credits.

 

Senior Debt

 

In December of 2015, the Holding Company, entered into a senior debt loan agreement to borrow $10.0 million. The debt is secured by a pledge from the Holding Company of all of the outstanding stock of Redding Bank of Commerce. At June 30, 2017, the Senior Debt had a balance of $8.3 million net of unamortized debt issuance costs at a variable rate of three month LIBOR plus 400 basis points and matures in 2020. The effective interest rate at June 30, 2017, was 5.30%

 

Subordinated Debt

 

In December of 2015, the Holding Company issued $10.0 million of fixed to floating rate subordinated notes. The subordinated debt initially bears interest at 6.88% per annum for a five-year term. Thereafter, interest on the subordinated debt will be paid at a variable rate equal to three month LIBOR plus 526 basis points. At June 30, 2017, the Subordinated Debt had a balance of $9.8 million net of unamortized debt issuance costs due in 2025.

 

Junior Subordinated Debentures

Bank of Commerce Holdings Trust II

 

During July 2005, the Holding Company participated in a $10.0 million private placement of fixed rate trust-preferred securities (the "Trust-Preferred Securities") through a wholly owned Delaware trust affiliate, Bank of Commerce Holdings Trust II (the "Trust II"). Trust II simultaneously issued $310 thousand common securities to the Holding Company. Rates paid on the Trust-Preferred Securities have transitioned from fixed to floating and are now paid on a quarterly basis at three month LIBOR plus 158 basis points. The effective interest rate at June 30, 2017 was 2.83%.

 

 
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The final maturity on the Trust-Preferred Securities is September 15, 2035, and the covenants allow for redemption at the Holding Company’s option during any quarter until maturity.

 

The proceeds from the sale of the Trust-Preferred Securities were used by the Trust II to purchase from the Holding Company the aggregate principal amount of $10.3 million of the Holding Company’s junior subordinate debentures (the "Notes"). The net proceeds to the Holding Company from the sale of the Notes to the Trust II were partially distributed to the Bank for general corporate purposes, including funding the growth of the Bank’s various financial services. The proceeds from the Notes qualify as Tier 1 capital under Federal Reserve Board guidelines.

 

LIQUIDITY AND CASH FLOW

 

Redding Bank of Commerce

 

On March 11, 2016, we completed the purchase of five Bank of America branches located in northern California. The transaction was attractive to us because it provided a new source of low cost core deposits and allowed us to execute our plan to reconfigure our Balance Sheet. The acquisition provided approximately $142.3 million of new liquidity ($149.0 million of new deposits less payments of $6.7 million made to Bank of America). We utilized a portion of that new liquidity to reduce our reliance on wholesale funding sources, repaying $75.0 million of Federal Home Loan Bank of San Francisco hedged term debt and redeeming $17.5 million of brokered time deposits. We utilized the remaining liquidity to fund loan growth.

 

The principal objective of our liquidity management program is to maintain our ability to meet the day-to-day cash flow requirements of our customers who either wish to withdraw funds on deposit or to draw upon their credit facilities.

 

We monitor the sources and uses of funds on a daily basis to maintain an acceptable liquidity position. One source of funds includes public deposits. We may be required to collateralize a portion of public deposits that exceed FDIC insurance limitations based on the state of California’s risk assessment of the Bank. Public deposits represent 2% of total deposits at June 30, 2017 and December 31, 2016.

 

In addition to liquidity from core deposits, loan repayments and maturities of securities, the Bank can utilize established uncommitted federal funds lines of credit, sell securities, borrow on a secured basis from the Federal Home Loan Bank of San Francisco, borrow on a secured basis from the Federal Reserve Bank, or issue brokered certificates of deposit.

 

The Bank had the following lines of credit:

 

 

Line of credit with the Federal Home Loan Bank of San Francisco totaling $332.4 million as of June 30, 2017; credit availability is subject to certain collateral requirements, namely the amount of pledged loans and investment securities.

 

Line of credit with the Federal Reserve Bank totaling $25.2 million subject to collateral requirements, namely the amount of certain pledged loans.

 

Uncommitted federal funds line of credit agreements with additional financial institutions totaling $35.0 million at June 30, 2017. Availability of lines is subject to federal funds balances available for loan and continued borrower eligibility. These lines are intended to support short-term liquidity needs, and the agreements may restrict consecutive day usage.

 

Bank of Commerce Holdings

 

The Holding Company is a separate entity from the Bank and must provide for its own liquidity. Substantially all of the Holding Company's cash flows are obtained from dividends declared and paid by the Bank. There are statutory and regulatory provisions that could limit the ability of the Bank to pay dividends to the Holding Company. As described in the paragraph below, the Holding Company has received $26.8 million in proceeds from the sale of common stock and there are no plans to pay dividends from the Bank to the Holding Company.

 

On May 10, 2017, the Company completed the sale of 2,738,096 shares of its common stock at a public offering price of $10.50 and received net proceeds of $26.8 million. These proceeds will support lending and investment activities, support or fund acquisitions of other institutions or branches as and if opportunities for such transactions become available, or repay certain borrowings. During the second quarter of 2017, we deployed liquidity provided by the sale of common stock into available-for-sale securities and interest-bearing deposits at other banks.

 

Consolidated Statements of Cash Flows

 

As disclosed in the Consolidated Statements of Cash Flows, net cash of $5.3 million was provided by operating activities for the six months ended June 30, 2017. The material differences between cash provided by operating activities and net income was due to a $278 thousand increase in cash surrender value of BOLI and non-cash items including depreciation, amortization of $2.1 million and a provision for loan and lease loss of $500 thousand.

 

 
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Net cash of $43.9 million used by investing activities consisted principally of $43.2 million in net purchases of available-for-sale investment securities and $12.5 million in net loan purchases and originations. Partially offset by $9.8 million in proceeds from maturities and payments of available-for-sale securities and $2.2 million of life insurance proceeds.

 

Net cash of $67.1 million provided by financing activities consisted principally of a $50.6 million increase in demand deposits and savings accounts and $26.8 million in proceeds from issuance of common stock partially offset by a decrease in certificates of deposit accounts of $9.0 million.

 

CAPITAL RESOURCES

 

We use capital to support organic growth and pay dividends. The objective of effective capital management is to produce above market long-term returns by using capital when investment returns are perceived to be high and issuing capital when costs are perceived to be low. Our sources of capital include retained earnings, common and preferred stock issuance, and issuance of subordinated debt or trust notes.

 

 REGULATORY CAPITAL GUIDELINES

 

Federal bank regulatory agencies use capital adequacy guidelines in the examination and regulation of bank holding companies and banks. The guidelines are “risk-based,” meaning that they are designed to make capital requirements more sensitive to differences in risk profiles among banks and bank holding companies. On July 2, 2013, the federal banking agencies approved the final rules (the “Final Rules”) implementing the Basel Committee's December 2010 final capital framework (commonly known as Basel III). The Final Rules substantially amended the regulatory risk-based capital rules applicable to the Holding Company and the Bank. The phase-in period for the Final Rules began for the Company on January 1, 2015 with full compliance with the Final Rules phased in by January 1, 2019.

 

Generally speaking, effective January 1, 2015, the Final Rules did the following:

 

Created “Common equity tier 1 ratio,” which is a new measure of regulatory capital closer to pure tangible common equity than the previous Tier 1 definition;

Established a required minimum risk-based capital ratio for Common equity tier 1 at 4.5%;

Increased the required risk-based Tier 1 capital ratio to 6.0% and the required risk-based Total capital ratio to 8.0%;

Increased the required minimum Tier 1 leverage ratio at 4.0%;

Added a 2.5% capital conversation buffer to the minimum Common equity tier 1, Tier 1 capital and Total capital ratios; and

Allowed for permanent grandfathering of non-qualifying instruments, such as our trust-preferred securities, subject to a limit of 25% of Tier 1 capital.

 

The Final Rules require the Bank to meet the capital conservation buffer requirement in order to avoid constraints on capital distributions, such as dividends and equity repurchases, and certain bonus compensation for executive officers. The capital conservation buffer of 2.5% was added to the minimum capital ratios will be phased in between 2016 and 2019.

 

When the new capital rule is fully phased in, the minimum capital requirements plus the conservation buffer will exceed the well-capitalized thresholds. This 0.5-percentage-point cushion allows institutions to dip into a portion of their capital conservation buffer before reaching a status that is considered less than well capitalized for prompt corrective action purposes.

 

These new capital rules also change the risk-weights of certain assets for purposes of the risk-based capital ratios and phase out certain instruments as qualifying capital. The Final Rules also contain revisions to the prompt corrective action framework, which is designed to place restrictions on insured depository institutions, if their capital levels begin to show signs of weakness.

 

Under the prompt corrective action requirements, which are designed to complement the capital conservation buffer, insured depository institutions are required to meet the following increased capital level requirements in order to qualify as “well-capitalized:”

 

 

(i)

a new Common equity tier 1 capital ratio of at least 6.5%;

 

 

(ii)

a Tier 1 capital ratio of at least 8%;

 

 

(iii)

a Total capital ratio of at least 10%;

 

 

(iv)

a Tier 1 leverage ratio of at least 5%; and

 

 

(v)

not be subject to any order or written directive requiring a specific capital level.

 

The FDIC's rules (as amended by the Final Rules) also contain other capital classification categories, such as "adequately capitalized," "undercapitalized," "significantly undercapitalized," and "critically undercapitalized," which are based on an institution's specific capital ratios.

 

 
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CAPITAL ADEQUACY

 

Overall capital adequacy is monitored on a day-to-day basis by management and reported to our Board of Directors on a monthly basis. Our regulators measure capital adequacy by using a risk-based capital framework and by monitoring compliance with minimum leverage ratio guidelines. Based on management’s review and analysis of Basel III, management believes that the Holding Company and the Bank will exceed the standards under these new rules.

 

As of June 30, 2017, the most recent notification from the FDIC categorized the Bank as “well capitalized” under the regulatory framework for prompt corrective action. There are no conditions or events since the notification that management believes have changed the Bank’s risk category. The Holding Company and the Bank’s capital amounts and ratios as of June 30, 2017, are presented in the following table.

 

 

   

June 30, 2017

 

(Amounts in thousands)

 

Capital

   

Actual

Ratio

   

Well Capitalized

Requirement

   

Minimum Capital

Ratio plus Capital

Conservation Buffer

   

Minimum Capital Requirement

 

Holding Company:

                                       

Common equity tier 1 capital ratio

  $ 123,053       12.55

%

    n/a       n/a       4.50

%

Tier 1 capital ratio

  $ 132,922       13.56

%

    n/a       n/a       6.00

%

Total capital ratio

  $ 155,181       15.83

%

    n/a       n/a       8.00

%

Tier 1 leverage ratio

  $ 132,922       11.38

%

    n/a       n/a       4.00

%

                                         

Bank:

                                       

Common equity tier 1 capital ratio

  $ 124,302       12.66

%

    6.50

%

    5.750

%

    4.50

%

Tier 1 capital ratio

  $ 124,302       12.66

%

    8.00

%

    7.250

%

    6.00

%

Total capital ratio

  $ 136,574       13.91

%

    10.00

%

    9.250

%

    8.00

%

Tier 1 leverage ratio

  $ 124,302       10.64

%

    5.00

%

    n/a       4.00

%

 

 

On December 10, 2015, the Holding Company issued $10.0 million in aggregate principal amount of Subordinated Notes to certain institutional investors. The Subordinated Notes qualify as Tier 2 Capital under the Final Rules. See Item 1a - Risk Factors, in our Annual Report on Form 10-K for the year ended December 31, 2016 for further detail on potential risks relating to the Subordinated Notes.

 

As part of the branch acquisition, we recorded a core deposit intangible of $1.8 million and goodwill of $665 thousand. When calculating capital ratios, goodwill and a portion of the core deposit intangibles are subtracted from Tier 1 capital. The deduction for core deposit intangibles is subject to a phase in period under the Basel III risk based capital rules. During 2016, 60% of the core deposit intangible was deducted from Tier 1 capital, 80% for 2017 and 100% thereafter. Both of these intangible assets are subtracted from tangible equity as part of the calculation of tangible book value per share.

 

Capital Ratios for the Holding Company include the benefit of $26.8 million net proceeds from the sale of 2,738,096 shares of common stock in the second quarter of 2017.

 

 

 

Cash Dividends and Payout Ratios per Common Share

 

During the six months ended June 30, 2017 and the year ended December 31, 2016, we declared quarterly cash dividends of $0.03 per common share.

 

These dividends were made pursuant to our existing dividend policy and in consideration of, among other things, earnings, regulatory capital levels, capital preservation and expected growth. The dividend rate will be reassessed periodically by the Board of Directors in accordance with the dividend policy. There is no assurance that future cash dividends on common shares will be declared or increased.

 

The following table presents cash dividends declared and dividend payout ratios (dividends declared per common share divided by basic earnings per common share) for the three and six months ended June 30, 2017 and 2016.

 

   

Three Months Ended June 30,

   

Six Months Ended June 30,

 
   

2017

   

2016

   

2017

   

2016

 

Dividends declared per common share

  $ 0.03     $ 0.03     $ 0.06     $ 0.06  

Dividend payout ratio

    20

%

    27

%

    19

%

    150

%

 

 
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OFF-BALANCE SHEET ARRANGEMENTS

Information regarding Off-Balance Sheet Arrangements is included in Note 9, Commitments and Contingencies, in the Notes to Consolidated Financial Statements incorporated in this document.

 

CONCENTRATION OF CREDIT RISK

Information regarding Concentration of Credit Risk is included in Note 9, Commitments and Contingencies, in the Notes to Consolidated Financial Statements incorporated in this document.

 

 
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Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

Our assessment of market risk as of June 30, 2017 indicates there are no material changes in the quantitative and qualitative disclosures from those in our Annual Report on Form 10-K for the year ended December 31, 2016.

 

Item 4. Controls and Procedures

 

Disclosure Controls and Procedures

 

As of the end of the period covered by this report, an evaluation was carried out under the supervision and with the participation of the Company’s management, including its President and Chief Executive Officer and its Chief Financial Officer, of the effectiveness of its disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934). Based on that evaluation, the President and Chief Executive Officer and the Chief Financial Officer concluded that these disclosure controls and procedures were effective.

 

Disclosure controls and procedures, no matter how well designed and implemented, can provide only reasonable assurance of achieving an entity’s disclosure objectives. The likelihood of achieving such objectives is affected by limitations inherent in disclosure controls and procedures. These include the fact that human judgment in decision-making can be faulty and that breakdowns in internal controls can occur because of human failures such as simple errors, mistakes or intentional circumvention of the established processes.

 

Report on Internal Control over Financial Reporting

 

Management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed by, or under the supervision of, the Company’s Chief Executive Officer and the Chief Financial Officer and implemented by the Company’s Board of Directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of consolidated financial statements for external purposes in accordance with generally accepted accounting principles in the United States of America.

 

The Company’s internal control over financial reporting includes those policies and procedures that: (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of consolidated financial statements in accordance with generally accepted accounting principles in the United States of America, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the consolidated financial statements.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

On a quarterly basis, we carry out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Principal Financial Officer (whom is also our Principal Accounting Officer) of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 13a-15(b) under the Securities Exchange Act of 1934. As of June 30, 2017, our management, including our Chief Executive Officer, and Principal Financial Officer, concluded that our disclosure controls and procedures are effective in timely alerting them to material information relating to us that is required to be included in our periodic SEC filings.

 

Although we change and improve our internal controls over financial reporting on an ongoing basis, we do not believe that any such changes occurred in the first six months of 2017 that materially affected or are reasonably likely to materially affect our internal control over financial reporting.

 

 
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PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings

 

We are subject to various pending and threatened legal actions arising in the ordinary course of business and maintains reserves for losses from legal actions that are both probable and estimable. There are no legal proceedings adverse to the Company that will have a material effect on our consolidated financial position or results of operations.

 

Item 1a. Risk Factors

 

There have been no significant changes in the risk factors previously disclosed in the Company’s Form 10-K for the period ended December 31, 2016, filed with the SEC on March 15, 2017.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

 

a)

Not Applicable

 

b)

Not Applicable

 

c)

Not Applicable

 

Item 3. Defaults Upon Senior Securities

 

Not Applicable

 

Item 4. Mine Safety Disclosures

 

Not Applicable

 

Item 5. Other Information

 

Not Applicable

 

Item 6. Exhibits

 

31.1

Certification of Chief Executive Officer pursuant to Sarbanes-Oxley Act of 2002

31.2

Certification of Chief Financial Officer pursuant to Sarbanes-Oxley Act of 2002

32.0

Certification of Chief Executive Officer and Chief Financial Officer pursuant to Sarbanes-Oxley Act of 2002

101.INS

XBRL Instance Document

101.SCH

XBRL Taxonomy Extension Schema Document

101.CAL

XBRL Taxonomy Calculation Linkbase Document

101.DEF

XBRL Taxonomy Definition Linkbase Document

101.LAB

XBRL Taxonomy Label Linkbase Document

101.PRE

XBRL Taxonomy Extension Presentation Linkbase Document

 

 
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SIGNATURES

 

 

Following the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

 

 

BANK OF COMMERCE HOLDINGS

 

(Registrant)

 

 

 

 

Date: August 4, 2017

   

/s/ James A. Sundquist

     

James A. Sundquist

     

Executive Vice President and Chief Financial Officer

     

(Principal Financial and Accounting Officer)

 

 

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