e10vq
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2006
OR
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number 0-25135
Bank of Commerce Holdings
(Exact name of Registrant as specified in its charter)
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California
(State or other jurisdiction of incorporation or organization)
1951 Churn Creek Road Redding, California
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94-2823865
(I.R.S. Employer Identification No.) |
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96002 |
(Address of principal executive offices)
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(Zip code) |
Registrants telephone number, including area code: (530) 224-3333
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value per share
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 þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See
the definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check One)
Large accelerated filer o Accelerated filer o
Non-accelerated filer þ
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act) Yes o No þ
Outstanding shares of Common Stock, no par value, as of September 29, 2006: 8,926,842
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Index to Form 10-Q
2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Condensed Consolidated Balance Sheets
(Unaudited)
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September 30, |
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December 31, |
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September 30, |
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Amounts in thousands, except per share data |
|
2006 |
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2005 |
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2005 |
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ASSETS |
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Cash and due from banks |
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$ |
17,535 |
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$ |
17,436 |
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$ |
14,759 |
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Federal funds sold and securities purchased under agreements to
resell |
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28,010 |
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9,120 |
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8,550 |
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Cash and cash equivalents |
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45,545 |
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|
26,556 |
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23,309 |
|
Securities available-for-sale (including pledged collateral of
$74,022
at September 30, 2006; $50,102 at December 31, 2005 and
$52,988 at September 30, 2005) |
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|
97,614 |
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|
94,014 |
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|
98,107 |
|
Securities held-to-maturity, at cost (estimated fair value of $10,788
at September 30, 2006, $6,881 at December 31, 2005
and $5,834 at September 30, 2005) |
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10,841 |
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|
|
6,933 |
|
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|
5,813 |
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Loans, net of the allowance for loan losses of $4,753 at September
30, 2006, $4,316 at December 31, 2005 and $4,251
at September 30, 2005 |
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403,657 |
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363,305 |
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342,004 |
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Bank premises and equipment, net |
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7,350 |
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|
5,631 |
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5,547 |
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Other assets |
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20,211 |
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15,205 |
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13,228 |
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TOTAL ASSETS |
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$ |
585,218 |
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$ |
511,644 |
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$ |
488,008 |
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LIABILITIES AND STOCKHOLDERS EQUITY |
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Demand noninterest bearing |
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$ |
81,125 |
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$ |
86,219 |
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$ |
80,516 |
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Demand interest bearing |
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111,439 |
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109,101 |
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116,137 |
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Savings |
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22,610 |
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27,540 |
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26,078 |
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Certificates of deposits |
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214,019 |
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149,256 |
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150,260 |
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Total deposits |
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429,193 |
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372,116 |
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372,991 |
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Securities sold under agreements to repurchase |
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35,260 |
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22,886 |
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20,461 |
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Federal Home Loan Bank borrowings |
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55,000 |
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55,000 |
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35,000 |
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Other liabilities |
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6,352 |
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7,194 |
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5,809 |
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Guaranteed Preferred Beneficial Interests in Companys
Junior Subordinated Debt payable to unconsolidated subsidiary
grantor trust |
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15,465 |
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15,310 |
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15,310 |
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Total Liabilities |
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541,270 |
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472,506 |
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449,571 |
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Commitments and contingencies |
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Stockholders Equity: |
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Preferred stock, no par value, 2,000,000 authorized
no shares issued and outstanding in 2006 and 2005 |
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Common stock , no par value, 50,000,000 shares
authorized; 8,926,842 shares issued and outstanding
at September 30, 2006, 8,657,896 at December 31, 2005
and 8,654,896 at September 30, 2005 |
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12,416 |
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11,009 |
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10,998 |
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Retained earnings |
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32,526 |
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29,419 |
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28,240 |
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Accumulated other comprehensive (loss), net of tax |
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(994 |
) |
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(1,290 |
) |
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(801 |
) |
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Total Stockholders equity |
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43,948 |
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39,138 |
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38,437 |
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TOTAL LIABILITIES AND STOCKHOLDERS EQUITY |
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$ |
585,218 |
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$ |
511,644 |
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|
$ |
488,008 |
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|
|
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See accompanying notes to condensed consolidated financial statements.
4
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Condensed Consolidated Statements of Income (Unaudited)
Three and nine months ended September 30, 2006 and 2005
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Three Months Ended |
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Nine Months Ended |
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Amounts in thousands, except for per share data |
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Sept. 30, 2006 |
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Sept. 30, 2005 |
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Sept. 30, 2006 |
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Sept. 30, 2005 |
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Interest income: |
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Interest and fees on loans |
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$ |
8,501 |
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$ |
6,146 |
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$ |
23,881 |
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$ |
17,393 |
|
Interest on tax exempt securities |
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|
231 |
|
|
|
99 |
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|
494 |
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|
230 |
|
Interest on U.S. government securities |
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|
849 |
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|
718 |
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|
2,575 |
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|
2,026 |
|
Interest on federal funds sold and
securities purchased under agreements to
resell |
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|
383 |
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|
220 |
|
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|
658 |
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|
385 |
|
Interest on other securities |
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25 |
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|
16 |
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|
113 |
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16 |
|
|
|
|
|
|
|
|
|
|
|
|
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|
Total interest income |
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|
9,989 |
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|
|
7,199 |
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|
|
27,721 |
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|
20,050 |
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Interest expense: |
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|
|
|
|
|
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|
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|
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|
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Interest on demand deposits |
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|
449 |
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|
276 |
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|
968 |
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|
688 |
|
Interest on savings deposits |
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|
69 |
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|
56 |
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|
209 |
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|
127 |
|
Interest on time deposits |
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|
2,423 |
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|
|
1,190 |
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|
5,844 |
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|
3,051 |
|
Securities sold under agreements to repurchase |
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|
328 |
|
|
|
146 |
|
|
|
794 |
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|
|
264 |
|
Interest on FHLB and other borrowing expense |
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|
918 |
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|
|
235 |
|
|
|
2,492 |
|
|
|
746 |
|
Interest on junior subordinated debt payable to
unconsolidated subsidiary
grantor trust |
|
|
272 |
|
|
|
171 |
|
|
|
796 |
|
|
|
332 |
|
|
|
|
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|
|
|
|
|
|
|
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Total interest expense |
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|
4,459 |
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|
|
2,074 |
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|
|
11,103 |
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|
|
5,208 |
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|
|
|
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|
|
|
|
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|
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Net interest income |
|
|
5,530 |
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|
|
5,125 |
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|
|
16,618 |
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|
|
14,842 |
|
Provision for loan and lease losses |
|
|
72 |
|
|
|
88 |
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|
|
226 |
|
|
|
442 |
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|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income after provision for
loan losses |
|
|
5,458 |
|
|
|
5,037 |
|
|
|
16,392 |
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|
|
14,400 |
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|
|
|
|
|
|
|
|
|
|
|
|
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Noninterest income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service charges on deposit accounts |
|
|
81 |
|
|
|
98 |
|
|
|
255 |
|
|
|
303 |
|
Payroll and benefit processing fees |
|
|
89 |
|
|
|
81 |
|
|
|
287 |
|
|
|
264 |
|
Earnings on cash surrender value -
Bank owned life insurance |
|
|
80 |
|
|
|
52 |
|
|
|
231 |
|
|
|
156 |
|
Net loss on sale of securities available-for-sale |
|
|
(171 |
) |
|
|
0 |
|
|
|
(171 |
) |
|
|
(2 |
) |
Net gain on sale of loans |
|
|
90 |
|
|
|
23 |
|
|
|
90 |
|
|
|
91 |
|
Merchant credit card service income, net |
|
|
110 |
|
|
|
91 |
|
|
|
280 |
|
|
|
268 |
|
Mortgage brokerage fee income |
|
|
32 |
|
|
|
85 |
|
|
|
84 |
|
|
|
242 |
|
Other income |
|
|
117 |
|
|
|
85 |
|
|
|
331 |
|
|
|
283 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total non-interest income |
|
|
428 |
|
|
|
515 |
|
|
|
1,387 |
|
|
|
1,605 |
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|
|
|
|
|
|
|
|
|
|
|
|
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Noninterest expense: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Salaries and related benefits |
|
|
1,996 |
|
|
|
1,750 |
|
|
|
5,870 |
|
|
|
5,088 |
|
Occupancy and equipment expense |
|
|
467 |
|
|
|
437 |
|
|
|
1,350 |
|
|
|
1,173 |
|
FDIC insurance premium |
|
|
12 |
|
|
|
11 |
|
|
|
36 |
|
|
|
36 |
|
Data processing fees |
|
|
53 |
|
|
|
71 |
|
|
|
169 |
|
|
|
209 |
|
Professional service fees |
|
|
149 |
|
|
|
199 |
|
|
|
503 |
|
|
|
577 |
|
Payroll and Benefit fees |
|
|
24 |
|
|
|
24 |
|
|
|
78 |
|
|
|
86 |
|
Deferred compensation expense |
|
|
94 |
|
|
|
85 |
|
|
|
272 |
|
|
|
234 |
|
Stationery and Supplies |
|
|
71 |
|
|
|
40 |
|
|
|
180 |
|
|
|
159 |
|
Postage |
|
|
26 |
|
|
|
45 |
|
|
|
91 |
|
|
|
84 |
|
Directors expense |
|
|
45 |
|
|
|
30 |
|
|
|
170 |
|
|
|
188 |
|
Other expenses |
|
|
362 |
|
|
|
403 |
|
|
|
1,128 |
|
|
|
1,068 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total non-interest expense |
|
|
3,299 |
|
|
|
3,095 |
|
|
|
9,847 |
|
|
|
8,902 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before provision for income taxes |
|
|
2,587 |
|
|
|
2,457 |
|
|
|
7,932 |
|
|
|
7,103 |
|
Provision for income taxes |
|
|
915 |
|
|
|
897 |
|
|
|
2,979 |
|
|
|
2,696 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Income |
|
$ |
1,672 |
|
|
$ |
1,560 |
|
|
$ |
4,953 |
|
|
$ |
4,407 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic earnings per share |
|
$ |
0.19 |
|
|
$ |
0.18 |
|
|
$ |
0.57 |
|
|
$ |
0.51 |
|
Weighted average shares basic |
|
|
8,764 |
|
|
|
8,619 |
|
|
|
8,723 |
|
|
|
8,582 |
|
Diluted earnings per share |
|
$ |
0.19 |
|
|
$ |
0.18 |
|
|
$ |
0.55 |
|
|
$ |
0.50 |
|
Weighted average shares diluted |
|
|
8,937 |
|
|
|
8,874 |
|
|
|
8,945 |
|
|
|
8,911 |
|
See accompanying notes to condensed consolidated financial statements
5
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows (Unaudited)
Nine months ended September 30, 2006 and 2005
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
September 30, |
|
Dollars in thousands |
|
2006 |
|
|
2005 |
|
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
Net Income |
|
$ |
4,953 |
|
|
$ |
4,407 |
|
Adjustments to reconcile net income to net
cash provided by operating activities: |
|
|
|
|
|
|
|
|
Provision for loan and lease losses |
|
|
226 |
|
|
|
442 |
|
Provision for depreciation and amortization |
|
|
516 |
|
|
|
421 |
|
Compensation expense associated with stock options |
|
|
40 |
|
|
|
4 |
|
Tax benefits from the exercise of stock options |
|
|
(560 |
) |
|
|
(304 |
) |
Loss on sale of securities available for sale |
|
|
171 |
|
|
|
2 |
|
Amortization of investment premiums and accretion of
discounts, net |
|
|
8 |
|
|
|
100 |
|
Gain on sale of loans |
|
|
(90 |
) |
|
|
(91 |
) |
Proceeds from sales of loans |
|
|
2,090 |
|
|
|
2,351 |
|
Loans originated for sale |
|
|
(2,000 |
) |
|
|
(2,260 |
) |
Effect of changes in: |
|
|
|
|
|
|
|
|
Other assets |
|
|
(5,119 |
) |
|
|
(231 |
) |
Deferred loan fees |
|
|
(43 |
) |
|
|
(302 |
) |
Other liabilities |
|
|
(842 |
) |
|
|
(2,266 |
) |
|
|
|
|
|
|
|
Net cash (used in) /provided by operating activities |
|
|
(650 |
) |
|
|
2,273 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
Proceeds from maturities of available-for-sale securities |
|
|
8,100 |
|
|
|
20,005 |
|
Proceeds from sales of available-for-sale securities |
|
|
10,258 |
|
|
|
121 |
|
Proceeds from maturities of held-to-maturity securities |
|
|
518 |
|
|
|
141 |
|
Purchases of available-for-sale securities |
|
|
(26,155 |
) |
|
|
(42,426 |
) |
Loan originations, net of principal repayments |
|
|
(40,535 |
) |
|
|
(23,343 |
) |
Purchases of premises and equipment |
|
|
(2,236 |
) |
|
|
(483 |
) |
|
|
|
|
|
|
|
Net cash used by investing activities |
|
|
(50,050 |
) |
|
|
(45,985 |
) |
|
|
|
|
|
|
|
|
|
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
Net increase in deposits |
|
|
57,077 |
|
|
|
20,112 |
|
Net increase in securities sold under agreement to repurchase |
|
|
12,376 |
|
|
|
18,457 |
|
Proceeds from Federal Home Loan Bank advances |
|
|
70,000 |
|
|
|
38,000 |
|
Repayments of Federal Home Loan Bank advances |
|
|
(70,000 |
) |
|
|
(38,000 |
) |
Dividends paid on common stock |
|
|
(1,846 |
) |
|
|
(1,550 |
) |
Excess tax benefits from the exercise of stock options |
|
|
560 |
|
|
|
0 |
|
Proceeds from stock options exercised |
|
|
840 |
|
|
|
457 |
|
Tax benefits from the exercise of stock options |
|
|
527 |
|
|
|
304 |
|
Net cash from Trust Preferred |
|
|
155 |
|
|
|
10,000 |
|
|
|
|
|
|
|
|
Net cash provided by financing activities |
|
|
69,689 |
|
|
|
47,780 |
|
|
|
|
|
|
|
|
|
|
Net increase in cash and cash equivalents |
|
|
18,989 |
|
|
|
4,068 |
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents, beginning of period |
|
|
26,556 |
|
|
|
19,241 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents, end of period |
|
$ |
45,545 |
|
|
$ |
23,309 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosures: |
|
|
|
|
|
|
|
|
Cash paid during the period for: |
|
|
|
|
|
|
|
|
Income taxes |
|
$ |
2,936 |
|
|
$ |
2,582 |
|
Interest |
|
|
10,851 |
|
|
|
4,979 |
|
See accompanying notes to condensed consolidated financial statements.
6
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Notes to Unaudited Condensed Consolidated Financial Statements
1. Consolidation and Basis of Presentation
The unaudited condensed consolidated financial statements include the accounts of Bank of Commerce
Holdings (the Holding Company) and its subsidiaries Redding Bank of Commerce, Roseville Bank of
Commerce and Sutter Bank of Commerce (RBC or the Bank) and Bank of Commerce Mortgage
(collectively the Company). All significant inter-company balances and transactions have been
eliminated. The financial information contained in this report reflects all adjustments that in the
opinion of management are necessary for a fair presentation of the results of the interim periods.
All such adjustments are of a normal recurring nature. Certain reclassifications have been made to
the prior period condensed consolidated financial statements to conform to the current financial
statement presentation.
The accounting and reporting policies of the Company conform to accounting principles generally
accepted in the United States of America and general practices within the banking industry. In
preparing the consolidated financial statements, management is required to make estimates and
assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the consolidated financial statements and the reported
amounts of revenue and expenses during the reporting period. Actual results could differ from
those estimates. Certain amounts for prior periods have been reclassified to conform to the current
financial statement presentation.
The accompanying unaudited condensed consolidated financial statements should be read in
conjunction with the consolidated financial statements and related notes contained in Bank of
Commerce Holdings 2005 Annual Report on Form 10-K. The results of operations and cash flows for the
2006 interim periods shown in this report are not necessarily indicative of the results for any
future interim period or the entire fiscal year.
For purposes of reporting cash flows, cash and cash equivalents include cash on hand, amounts due
from banks, federal funds sold and repurchase agreements. Generally, federal funds are sold for a
one-day period and securities purchased under agreements to resell are for no more than a 90-day
period.
Recent Accounting pronouncements
On July 13, 2006, the FASB issued the Summary of Interpretation No. 48, Accounting for Uncertainty
in Income Taxes (FIN 48). This interpretation clarifies the accounting for uncertainty in
income taxes recognized in an enterprises financial statements in accordance with FASB Statement
No. 109, Accounting for income taxes(FAS 109). FIN 48 applies to all tax positions related
to income taxes subject to Financial Accounting Standards Board Statement No. 109, Accounting for
Income Taxes, (FAS 109). This includes tax positions considered to be routine as well as those
with a high degree of uncertainty. The guidance contained in FIN 48 also applies to pass-through
entities, nontaxable entities, and entities whose tax liability is subject to 100% credit for
dividends paid (i.e., real estate investment companies and registered investment companies).
FIN 48 utilizes a two-step approach for evaluating tax positions. Recognition (step one) occurs
when an enterprise concludes that a tax position, based solely on its technical merits, is
more-likely-than-not to be sustained upon examination. Measurement (step two) is only addressed if
step one has been satisfied (i.e., the position is more-likely-than-not to be sustained). Under
step two, the tax benefit is measured as the largest amount of benefit, determined on a cumulative
probability basis that is more-likely-than-not to be realized upon ultimate settlement. FIN 48s
use of the term more-likely-than-not in steps one and two is consistent with how that term is
used in FAS 109 (i.e., a likelihood of occurrence greater than 50%).
Those tax positions failing to qualify for initial recognition are recognized in the first
subsequent interim period they meet the more-likely-than-not standard, or are resolved through
negotiation or litigation with the taxing authority, or upon expiration of the statute of
limitations. Derecognition of a tax position that was previously recognized would occur when a
company subsequently determines that a tax position no longer meets the more-likely-than-not
threshold of being sustained. FIN 48 specifically prohibits the use of a valuation allowance as a
substitute for derecognition of tax positions.
7
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Notes to Unaudited Condensed Consolidated Financial Statements
FIN 48 is effective for fiscal years beginning after December 15, 2006. Management is
currently evaluating the effect of the interpretation on the Companys results of operations and
financial condition.
In March 2006, the FASB issued SFAS No. 156, Accounting for Servicing of Financial Assets an
amendment of FASB Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities (SFAS No. 156). SFAS No. 156 requires all separately recognized
servicing assets and liabilities to be initially measured at fair value. In addition, entities are
permitted to choose to either subsequently measure servicing rights at fair value and report
changes in fair value in earnings, or amortize servicing rights in proportion to and over the
estimated net servicing income or loss, and assess the rights for impairment. Beginning with the
fiscal year in which an entity adopts SFAS No. 156, it may elect to subsequently measure a class of
servicing assets and liabilities at fair value. Post adoption, an entity may make this election as
of the beginning of any fiscal year. An entity that elects to subsequently measure a class of
servicing assets and liabilities at fair value should apply that election to all new and existing
recognized servicing assets and liabilities within that class. The effect of re-measuring an
existing class of servicing assets and liabilities at fair value is to be reported as a
cumulative-effect adjustment to retained earnings as of the beginning of the period of adoption.
SFAS No. 156 is effective as of the beginning of an entitys first fiscal year that begins after
September 15, 2006. Management is currently evaluating the impact of the adoption of SFAS No. 156.
On February 16, 2006, the Financial Accounting Standards Board (FASB) issued SFAS No. 155,
Accounting for Certain Hybrid Instruments (SFAS No. 155), which permits, but does not require,
fair value accounting for any hybrid financial instrument that contains an embedded derivative that
would otherwise require bifurcation in accordance with SFAS 133. The statement also subjects
beneficial interests issued by securitization vehicles to the requirements of SFAS 133. The
statement is effective as of January 1, 2007, with earlier adoption permitted. Management is
currently evaluating the effect of the statement on the Companys results of operations and
financial condition.
3. Earnings per Share
Basic earnings per share exclude dilution and is computed by dividing net income by the
weighted-average number of common shares outstanding for the period. 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 entity. The following table displays the
computation of earnings per share for the three and nine months ended September 30, 2006 and 2005.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
(Amounts in thousands, except per share data) |
|
Sept. 30, 2006 |
|
|
Sept. 30, 2005 |
|
|
Sept. 30, 2006 |
|
|
Sept. 30, 2005 |
|
|
Basic EPS Calculation: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator (net income) |
|
$ |
1,672 |
|
|
$ |
1,560 |
|
|
$ |
4,953 |
|
|
$ |
4,407 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator (average common
shares outstanding) |
|
|
8,764 |
|
|
|
8,619 |
|
|
|
8,723 |
|
|
|
8,582 |
|
Basic earnings per Share |
|
$ |
0.19 |
|
|
$ |
0.18 |
|
|
$ |
0.57 |
|
|
$ |
0.51 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted EPS Calculation: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator (net income) |
|
$ |
1,672 |
|
|
$ |
1,560 |
|
|
$ |
4,953 |
|
|
$ |
4,407 |
|
Denominator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average common shares outstanding |
|
|
8,764 |
|
|
|
8,619 |
|
|
|
8,723 |
|
|
|
8,582 |
|
Options |
|
|
173 |
|
|
|
255 |
|
|
|
222 |
|
|
|
329 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8,937 |
|
|
|
8,874 |
|
|
|
8,945 |
|
|
|
8,911 |
|
Diluted earnings per Share |
|
$ |
0.19 |
|
|
$ |
0.18 |
|
|
$ |
0.55 |
|
|
$ |
0.50 |
|
8
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Notes to Unaudited Condensed Consolidated Financial Statements (Continued)
Stock Option Plan
The Company adopted Statement of Financial Accounting Standards No. 123R (FAS 123R), Share-Based
Payment, on January 1, 2006. The scope of FAS 123R includes a wide range of stock-based
compensation arrangements including stock options, restricted stock plans, performance-based
awards, stock appreciation rights, and employee stock purchase plans. FAS 123R requires the Company
to measure the cost of employee services received in exchange for an award of equity instruments.
The cost is determined based on the fair value of the award on the grant date. That cost must be
recognized in the income statement over the service period of the award. Under the modified
prospective transition method, awards that are granted, modified or settled beginning at the date
of adoption will be measured and accounted for in accordance with FAS 123R. In addition, expense
must be recognized in the income statement for unvested awards that were granted prior to the date
of adoption. Prior to the adoption of FAS 123R and as permitted by FAS 123 and FAS 148, Accounting
for Stock-Based Compensation Transition and Disclosure, the Company elected to follow APB 25 and
related interpretations in accounting for our employee stock options. The Company adopted FAS 123R
using the modified prospective method. Under this transition method, stock option expense for the
first quarter of 2006 included the cost for all share-based payments granted prior to, but not yet
vested, as of January 1, 2006, as well as any share-based payments granted subsequent to December
31, 2005. This compensation expense is measured on the date of grant using an option-pricing model.
The option-pricing model is based on certain assumptions, and changes to those assumptions may
result in different fair value estimates. Prior to January 1, 2006, under APB 25, the Company
accounted for stock options using the intrinsic value method and no compensation expense was
recognized, as the grant price was equal to the strike price. In accordance with SFAS 123R, the
Company provides disclosures as if it had adopted the fair value-based method of measuring all
outstanding employee stock options during 2005.
Through the third quarter of 2006, stock option compensation expense charged against income was
$35,948 ($21,152 net of tax), or less than one cent per diluted share. At September 30, 2006, there
was $137,382 of total unrecognized compensation costs related to non-vested share based payments
which is expected to be recognized over a period of five years. One new option was granted through
the third quarter of 2006.
The following table illustrates the effect on net income and earnings per common share had the fair
value-based method been applied to all outstanding and unvested awards for the three months and
nine months ended September 30, 2005.
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September |
|
|
September |
|
|
|
30,2005 |
|
|
30,2005 |
|
Net income |
|
|
|
|
|
|
|
|
As reported |
|
$ |
1,560 |
|
|
$ |
4,407 |
|
Deduct: |
|
|
|
|
|
|
|
|
Total stock-based employee compensation
expense determined under
fair value based
method for all awards, net of related tax
effects |
|
|
(37 |
) |
|
|
(147 |
) |
Pro forma net income |
|
$ |
1,523 |
|
|
$ |
4,260 |
|
|
|
|
|
|
|
|
Earnings per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic as reported |
|
$ |
0.18 |
|
|
$ |
0.51 |
|
|
|
|
|
|
|
|
Basic pro forma |
|
$ |
0.18 |
|
|
$ |
0.50 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted as reported |
|
$ |
0.18 |
|
|
$ |
0.50 |
|
|
|
|
|
|
|
|
Diluted pro forma |
|
$ |
0.17 |
|
|
$ |
0.48 |
|
|
|
|
|
|
|
|
In determining the pro forma disclosures in the previous table, the fair value of options granted
was estimated on the date of grant using an option-pricing model and assumptions appropriate to
each plan. The weighted average grant fair values of the options granted are based on the
assumptions below.
9
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Notes to Unaudited Condensed Consolidated Financial Statements (Continued)
|
|
|
|
|
|
|
|
|
|
|
December 31, 2005 |
|
|
September 19, 2006 |
|
|
Risk-free interest rate |
|
|
3.92 |
% |
|
|
4.75 |
% |
Dividend Yield |
|
|
2.49 |
% |
|
|
2.67 |
% |
Volatility |
|
|
32.36 |
% |
|
|
32.98 |
% |
Expected lives (years) |
|
|
7 |
|
|
|
7 |
|
|
Weighted average grant-date fair
value per share of options
granted |
|
$ |
3.35 |
|
|
$ |
3.33 |
|
Description of stock-based compensation plan
On February 17, 1998, the Board of Directors adopted the 1998 Stock Option Plan (the Plan) which
was approved by the Companys stockholders on April 21, 1998. The Plan provides for awards in the
form of options, which may constitute incentive stock options (Incentive Options) under Section
422(a) of the Internal Revenue Code of 1986, as amended (the Code), or non-statutory stock
options (NSOs) to key personnel of the Company, including directors. The Plan provides that
Incentive Options under the Plan may not be granted at less than 100% of fair market value of the
Companys common stock on the date of the grant. The strike price of NSOs may not be granted at
less than 85% of the fair market value of the common stock on the date of the grant.
The Companys stock option plans provide for awards of incentive and nonqualified stock options.
Incentive options must have an exercise price at or above fair market value of the stock at the
date of the grant and a term of no more than 10 years. Options generally become exercisable over
five years from the date of the grant. Nonqualified stock options must have an exercise price of no
less than 85% of the fair market value of the stock at the date of the grant and for a term of no
more than 10 years. Nonqualified stock options generally become exercisable over five years from
the date of the grant. A total of 1,782,000 shares of the Companys common stock are reserved for
grant under the Plan.
Activity in stock-based compensation plan
The following table presents the changes in outstanding stock options for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
Aggregate |
|
|
|
Number of |
|
|
Average |
|
|
Intrinsic |
|
|
|
Shares |
|
|
Exercise Price |
|
|
Value |
|
|
Options outstanding, January 1, 2006 |
|
|
608,316 |
|
|
$ |
5.20 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted |
|
|
20,000 |
|
|
$ |
10.40 |
|
|
$ |
|
|
Exercised |
|
|
(268,946 |
) |
|
$ |
3.12 |
|
|
$ |
1,933,722 |
|
Forfeited |
|
|
(1,425 |
) |
|
$ |
10.60 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options outstanding, September 30, 2006 |
|
|
357,945 |
|
|
$ |
5.24 |
|
|
$ |
70,461 |
|
|
|
|
|
|
|
|
|
|
|
Exercisable at September 30, 2006 |
|
|
312,831 |
|
|
$ |
6.01 |
|
|
$ |
1,348,301 |
|
At September 30, 2006, 104,740 shares were available for future grants under the Plan. As of
September 30, 2006, 312,831 shares were available to be exercised. The weighted average grant
exercise price at September 30, 2006 was $6.01. The total intrinsic value (which is the amount by
which the stock price exceeded the exercise price on the date of exercise) of options exercised
during the nine months ended September 30, 2006 was $1,933,722.
10
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Notes to Unaudited Condensed Consolidated Financial Statements (Continued)
Additional information regarding options outstanding as of September 30, 2006 is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted Average |
|
|
|
|
|
|
|
Remaining Contractual |
|
|
|
Exercise Price |
|
Options Outstanding |
|
life (Years) |
|
Options Exercisable |
|
$ |
2.75
|
|
43,350
|
|
1.3
|
|
43,350 |
$ |
3.23
|
|
42,160
|
|
1.3
|
|
42,160 |
$ |
5.42
|
|
29,250
|
|
4.4
|
|
29,250 |
$ |
6.67
|
|
59,500
|
|
4.6
|
|
59,500 |
$ |
7.30
|
|
55,130
|
|
5.5
|
|
44,104 |
$ |
6.75
|
|
13,500
|
|
6.0
|
|
8,100 |
$ |
10.72
|
|
7,500
|
|
7.4
|
|
7,500 |
$ |
10.60
|
|
72,075
|
|
7.5
|
|
72,075 |
$ |
10.76
|
|
3,000
|
|
7.9
|
|
3,000 |
$ |
9.11
|
|
6,480
|
|
7.3
|
|
2,592 |
$ |
11.59
|
|
3,500
|
|
8.4
|
|
700 |
$ |
10.20
|
|
2,500
|
|
8.4
|
|
500 |
$ |
10.40
|
|
20,000
|
|
9.7
|
|
0 |
|
|
|
|
357,945
|
|
6.2
|
|
312,831 |
During the nine months ended September 30, 2006 and 2005 the Company realized income tax
benefits of $559,729 and $303,998 respectively, related to the exercise of nonqualified stock
options. The income tax benefit is reflected in net cash used in operating activities in the
consolidated statements of cash flow for the same period.
During the nine months ended September 30, 2006 and 2005 the Company received cash of $839,873
and $457,310 respectively, upon exercise of stock-based compensation arrangements.
5. Comprehensive Income
The Companys total comprehensive income was as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
|
Net Income as reported |
|
$ |
1,672 |
|
|
$ |
1,560 |
|
|
$ |
4,953 |
|
|
$ |
4,407 |
|
Components of other comprehensive income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized gains arising
during the
period on derivative
transactions |
|
|
235 |
|
|
|
0 |
|
|
|
235 |
|
|
|
0 |
|
Unrealized (losses) gains
arising during
the period on investment
securities
available-for-sale |
|
|
1,242 |
|
|
|
(327 |
) |
|
|
(4 |
) |
|
|
(661 |
) |
Less: Income tax benefit
related to
unrealized (losses) gains on
comprehensive income |
|
|
(676 |
) |
|
|
95 |
|
|
|
(106 |
) |
|
|
193 |
|
Reclassification adjustment for
loss on available-for-sale
securities |
|
|
171 |
|
|
|
0 |
|
|
|
171 |
|
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other comprehensive income |
|
|
972 |
|
|
|
(232 |
) |
|
|
296 |
|
|
|
(466 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total comprehensive income |
|
$ |
2,644 |
|
|
$ |
1,328 |
|
|
$ |
5,249 |
|
|
$ |
3,941 |
|
11
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Notes to Unaudited Condensed Consolidated Financial Statements (Continued)
6. Junior Subordinated Debt Payable to Unconsolidated Subsidiary Grantor Trust
During the first quarter 2003, Bank of Commerce Holdings formed a wholly-owned Delaware statutory
business trust, Bank of Commerce Holdings Trust (the grantor trust), which issued $5.0 million of
guaranteed preferred beneficial interests in Bank of Commerce Holdings junior subordinated
debentures (the trust notes) to the public and $155,000 common securities to the Company. These
debentures qualify as Tier 1 capital under Federal Reserve Board guidelines. The proceeds from the
issuance of the trust notes were transferred from the grantor trust to the Holding Company and from
the Holding Company to the Bank as surplus capital. The trust notes accrue and pay distributions on
a quarterly basis at 3 month London Interbank Offered Rate (LIBOR) plus 3.30%. The rate at
September 30, 2006 was 8.81%. The rate increase is capped at 2.75% annually and the lifetime cap is
12.5%. The final maturity on the trust note is March 18, 2033, and the debt allows for prepayment
after five years on the quarterly payment date.
On July 29, 2005, Bank of Commerce Holdings (the Company) participated in a private placement to
an institutional investor of $10 million of fixed rate trust preferred securities (the Trust
Preferred Securities); through a newly formed Delaware trust affiliate, Bank of Commerce Holdings
Trust II (the Trust). The Trust Preferred Securities mature on September 15, 2035, and are
redeemable at the Companys option on any March 15, June 15, September 15 or December 15 on or
after September 15, 2010. In addition, the Trust Preferred Securities require quarterly
distributions by the Trust to the holder of the Trust Preferred Securities at a rate of 6.12%,
until September 10, 2010 after which the rate will reset quarterly to equal LIBOR plus 1.58%. The
Trust simultaneously issued $310,000 of the Trusts common securities of beneficial interest to
the Company.
The proceeds from the sale of the Trust Preferred Securities were used by the Trust to purchase
from the Company the aggregate principal amount of $10,310,000 of the Companys floating rate
junior subordinate notes (the Notes). The net proceeds to the Company from the sale of the
Notes to the Trust will be used by the Company for general corporate purposes, including funding
the growth of the Companys various financial services.
The Notes were issued pursuant to a Junior Subordinated Indenture (the Indenture), dated July
29, 2005, by and between the Company and J.P. Morgan Chase Bank, National Association, as trustee.
Like the Trust Preferred Securities, the Notes bear interest at a floating rate, at 6.12% until
September 10, 2010, after which the rate will reset on a quarterly basis to equal LIBOR plus
1.58%. The interest payments by the Company will be used to pay the quarterly distributions
payable by the Trust to the holder of the Trust Preferred Securities. However, so long as no
event of default, as described below, has occurred under the Notes, the Company may, at any time
and from time to time, defer interest payments on the Notes (in which case the Trust will be
entitled to defer distributions otherwise due on the Trust Preferred Securities) for up to twenty
(20) consecutive quarters.
The Notes are subordinated to the prior payment of other indebtedness of the Company that, by its
terms, is not similarly subordinated. Although the Notes will be recorded as a long term
liability on the Companys balance sheet, for regulatory purposes, the Notes are expected to be
treated as Tier 1 or Tier 2 capital under rulings of the Federal Reserve Board, the Companys
primary federal regulatory agency.
The Notes mature on September 15, 2035, but may be redeemed at the Companys option at any time on
or after September 15, 2010, or at any time upon certain events, such as a change in the
regulatory capital treatment of the Notes, the Trust being deemed to be an investment company, or
the occurrence of certain adverse tax events. In each case, the Company may redeem the Notes for
their aggregate principal amount, plus accrued interest, if any.
12
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Notes to Unaudited Condensed Consolidated Financial Statements (Continued)
7. |
|
Commitments and contingent liabilities |
Lease Commitments The Company leases certain facilities at which it conducts its
operations. Future minimum lease commitments under all non-cancelable operating leases as of
September 30, 2006 are below:
|
|
|
|
|
(Dollars in thousands) |
|
|
|
|
|
2006 |
|
$ |
110 |
|
2007 |
|
$ |
475 |
|
2008 |
|
$ |
500 |
|
2009 |
|
$ |
448 |
|
2010 |
|
$ |
400 |
|
Thereafter |
|
$ |
437 |
|
|
|
|
|
Total |
|
$ |
2,370 |
|
|
|
|
|
Minimum rental due in the future
Under non-cancelable subleases |
|
$ |
28 |
|
|
|
|
|
Legal Proceedings The Company is involved in various pending and threatened legal actions
arising in the ordinary course of business. The Company maintains reserves for losses from
legal actions, which are both probable and estimable. In the opinion of management, the
disposition of claims, currently pending will not have a material adverse affect on the
Companys financial position or results of operations.
FHLB Advances Included in other borrowings are advances from the Federal Home Loan Bank of
San Francisco (FHLB) totaling $55,000,000 as September 30, 2006 and $35,000,000 as of
September 30, 2005. The FHLB advances bear fixed and floating rates of interest ranging from
5.22% to 5.47%. Interest is payable either monthly or quarterly. The following table
illustrates borrowings outstanding at the end of the period:
|
|
|
|
|
|
|
Advance # |
|
Amount |
|
Interest Rate |
|
Maturity |
|
#059277 |
|
$10,000,000 |
|
5.43% |
|
01/24/2008 |
#077115 |
|
$10,000,000 |
|
5.39% |
|
11/27/2006 |
#080890 |
|
$10,000,000 |
|
5.47% |
|
11/24/2011 |
#087416 |
|
$ 5,000,000 |
|
5.23% |
|
04/28/2008 |
#087272 |
|
$ 5,000,000 |
|
5.22% |
|
10/24/2006 |
#077383 |
|
$15,000,000 |
|
5.39% |
|
11/30/2007 |
|
|
|
$55,000,000 |
|
|
|
|
These borrowings are secured by an investment in FHLB stock and certain real estate mortgage
loans which have been specifically pledged to the FHLB pursuant to their collateral
requirements. Based upon the level of FHLB advances, the Company was required to hold a
minimum investment of $3,804,300 in FHLB stock and pledge collateral of $52,190,768 in real
estate mortgage loans as of September 30, 2006. At September 30, 2006, the Bank had available
borrowing lines at the FHLB of $85,068,750 and additional federal fund borrowing lines at two
correspondent banks totaling $15,000,000.
13
BANK OF COMMERCE HOLDINGS & SUBSIDIARIES
Notes to Unaudited Condensed Consolidated Financial Statements (Continued)
Off-Balance Sheet Financial Instruments - In the ordinary course of business, the
Company enters various types of transactions, which involve financial instruments with
off-balance sheet risk. These instruments include commitments to extend credit and standby
letter of credits, which are not reflected in the accompanying consolidated balance sheets.
These transactions may involve, to varying degrees, credit and interest rate risk more than
the amount, if any recognized in the consolidated balance sheets. Commitments to extend
credit are agreements to lend to customers.
These commitments have specified interest rates and generally have fixed expiration
dates but may be terminated by the Company if certain conditions of the contract are
violated. Although currently subject to draw down, many of the commitments do not
necessarily represent future cash requirements. Collateral held relating to these
commitments varies, but generally includes real estate, securities and cash. Standby letters
of credit are conditional commitments issued by the Bank to guarantee the performance of a
customer to a third party. Credit risk arises in these transactions from the possibility that
a customer may not be able to repay the Bank upon default of performance.
Collateral held for standby letters of credit is based on an individual evaluation of
each customers creditworthiness, but may include cash and securities. Commitments to extend
credit and standby letters of credit bear similar credit risk characteristics as outstanding
loans.
The Companys commitments to extend credit are illustrated below:
|
|
|
|
|
|
|
|
|
|
|
September 30, 2006 |
|
September 30, 2005 |
|
Commitment lines of credit |
|
$ |
155,898,477 |
|
|
$ |
125,925,924 |
|
Standby letters of credit |
|
|
14,211,847 |
|
|
|
10,029,239 |
|
Guaranteed commitments outstanding |
|
|
1,248,000 |
|
|
|
0 |
|
|
|
|
$ |
171,358,324 |
|
|
$ |
135,955,163 |
|
|
Derivative Financial Instruments and Hedging Activities - As part of the overall risk management,
the Company pursues various asset and liability management strategies, which may include obtaining
derivative financial instruments to mitigate the impact of interest fluctuations on the Companys
net interest margin. During the third quarter of 2006, the Company entered into an interest rate
swap agreement for the purpose of minimizing interest rate fluctuations on its interest rate margin
and equity.
Under the interest rate swap agreement, the company received a fixed rate and pays a variable rate
based on the Prime Rate (Prime). The swap qualifies as a cash flow hedge under SFAS no. 133,
Accounting for Derivative Instruments and Hedging Activities, as amended, and is designated as a
hedge of the variability of cash flows the Company receives from certain variable-rate loans
indexed to Prime. In accordance with SFAS No. 133, the swap agreement is measured at fair value and
reported as an asset or liability on the consolidated balance sheet. The portion of the change in
the fair value of the swap that is deemed effective in hedging the cash flows of the designated
assets is recorded in other comprehensive income and reclassified into interest income when such
cash flow occurs in the future. Any ineffectiveness resulting from the hedge is recorded as a gain
or loss in the consolidated statement of income as part of noninterest income.
The hedge has a notional value of $100 million, matures in June 2009, and has a duration of
approximately 36 months. As of September 30, 2006, the gain amounts in accumulated other
comprehensive income associated with these cash flows totaled $138,342 (net of tax of $97,000).
14
ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Forward Looking Statements and Risk Factors
This discussion and information in the accompanying financial statements contains certain
forward-looking statements, which are made pursuant to the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995. Such statements are subject to risks and uncertainties
that could cause actual results to differ materially from those stated. These risks and
uncertainties include the Companys ability to maintain or expand its market share and net interest
margins, or to implement its marketing and growth strategies. Further, actual results may be
affected by the Companys ability to compete on price and other factors with other financial
institutions; customer acceptance of new products and services; and general trends in the banking
and the regulatory environment, as they relate to the Companys cost of funds and return on assets.
The reader is advised that this list of risks is not exhaustive and should not be construed as any
prediction by the Company as to which risks would cause actual results to differ materially from
those indicated by the forward-looking statements. Readers are cautioned not to place undue
reliance on these forward-looking statements.
For additional information concerning risks and uncertainties related to the Company and its
operations please refer to the Companys Annual Report on Form 10-K for the year ended December 31,
2005, under the heading Risk factors that may affect results. Readers are cautioned not to place
undue reliance on these forward-looking statements, which speak only as of the date hereof. 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 financial condition, capital
resources and liquidity of the Company from December 31, 2005 to September 30, 2006. Also discussed
are significant trends and changes in the Companys results of operations for the three and nine
months ended September 30, 2006, compared to the same period in 2005. The consolidated financial
statements and related notes appearing elsewhere in this report are condensed and unaudited. The
following discussion and analysis is intended to provide greater detail of the Companys financial
condition and results.
Corporate Overview
Bank of Commerce Holdings (the Holding Company) is a financial holding company (FHC) registered
under the Bank Holding Company Act of 1956, as amended, and was incorporated in California on
January 21, 1982, (under the name Redding Bancorp), for the purpose of organizing, as a wholly
owned subsidiary, Redding Bank of Commerce (the Bank). The Holding Company elected to change to a
FHC in 2000. As a financial holding company, the Holding Company is subject to the Financial
Holding Company Act and to supervision by the Board of Governors of the Federal Reserve System
(FRB). The Holding Companys principal business is to serve as a holding company for Redding
Bank of Commerce, Roseville Bank of Commerce, Sutter Bank of Commerce and Bank of Commerce
Mortgage, a California corporation and for other banking or banking-related subsidiaries which the
Holding Company may establish or acquire (collectively the Company). The Holding Company also has
two unconsolidated subsidiaries, Bank of Commerce Holdings Trust I and II. During the first quarter
2003, Bank of Commerce Holdings formed a wholly-owned Delaware statutory business trust, Bank of
Commerce Holdings Trust (the grantor trust), which issued $5.0 million of guaranteed preferred
beneficial interests in Bank of Commerce Holdings junior subordinated debentures (the Trust
Notes). These debentures qualify as Tier 1 capital under Federal Reserve Board guidelines. The
proceeds from the issuance of the Trust Notes were transferred from the grantor trust to the
Holding Company and from the Holding Company to the Bank as surplus capital. The Trust Notes accrue
and pay distributions on a quarterly basis at 3 month London Interbank Offered Rate (LIBOR) plus
3.30%. The rate at September 30, 2006 was 8.81%. The rate increase is capped at 2.75% annually and
the lifetime cap is 12.5%. The final maturity on the Trust Notes is March 18, 2033, and the debt
allows for prepayment after five years on the quarterly payment date. During the third quarter
2005, Bank of Commerce Holdings formed a wholly-owned Delaware statutory business trust, Bank of
Commerce Holdings Trust II (the grantor trust), which issued $10.0 million of guaranteed
preferred beneficial interests in Bank of Commerce Holdings junior subordinated debentures (the
Trust Notes).
15
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
$10 million of the issuance will qualify as Tier 1 or Tier II capital under Federal Reserve Board
guidelines. $10 million of the proceeds from the issuance of the Trust Notes were transferred from
the grantor trust to the Holding Company and from the Holding Company to the Bank as surplus
capital and $5 million of the issuance is retained at the Holding Company for investment purposes.
The issuance is priced at a fixed rate for the first five years at 6.12%.
The Company will provide free of charge upon request, or through links to publicly available
filings accessed through its Internet website, the Companys annual report on Form 10-K, quarterly
reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports, if any, as soon
as reasonably practical after such reports have been filed with the Securities and Exchange
Commission. The Internet addresses of the Company are www.reddingbankofcommerce.com,
www.rosevillebankofcommerce.com, www.sutterbankofcommerce.com and
www.bankofcommercemortgage.com. Reports may also be obtained through the Securities and Exchange
Commissions website at www.sec.gov.
The Bank was incorporated as a California banking corporation on November 25, 1981, and received
its certificate of authority to begin banking operations on October 22, 1982. The Bank operates
five full service branch facilities. The Bank established its first full service branch at 1177
Placer Street, Redding, California, and opened for business on October 22, 1982. On November 1,
1988, the Bank received a certificate of authority to establish and maintain a loan production
office in Citrus Heights, California. On September 1, 1998, the Bank relocated the loan production
office to 2400 Professional Drive in Roseville, California.
On March 1, 1994, the Bank received a certificate of authority to open a second full-service branch
at 1951 Churn Creek Road in Redding, California. On June 30, 2000, the Bank received a certificate
of authority to convert the loan production office in Roseville to a full service banking facility
under the name Roseville Bank of Commerce, a division of Redding Banking of Commerce.
On June 15, 2001, the Bank acquired the deposit liabilities of First Plus Bank at Citrus Heights,
California and renamed the facility Roseville Bank of Commerce at Sunrise, a division of Redding
Bank of Commerce. On February 22, 2002, the Roseville Bank of Commerce at Eureka Road, a division
of Redding Bank of Commerce, relocated to its permanent location at 1504 Eureka Road, Suite 100,
Roseville, California.
On March 18, 2004, RBC Mortgage Services, an affiliate of Redding Bank of Commerce and a
wholly-owned subsidiary of the Holding Company, changed its name to Bank of Commerce Mortgage (the
Mortgage Company), an affiliate of Redding Bank of Commerce. The subsidiary has an affiliated
business, BWC Mortgage Services. Under the terms of the agreement, BWC Mortgage Services
underwrites or brokers mortgage products. Additionally, BWC Mortgage Services manages the
independent contractors, supporting staff and broker relationships with various secondary market
lenders. Bank of Commerce Mortgage in turn provides office space, equipment and marketing support
for the mortgage brokerage services. Bank of Commerce Mortgage, through this agreement, offers a
full array of single-family and multi-family residential real estate mortgages including equity
lines. Bank of Commerce Mortgage pays ten percent of gross premiums earned to BWC Mortgage
Services. On July 1, 2004, Bank of Commerce Mortgage relocated to its permanent location at 1024
Mistletoe Lane, Redding, California.
On May 18, 2004, by majority shareholder vote, the Holding Company (Redding Bancorp) amended the
Articles of Incorporation to change the Companys name to Bank of Commerce Holdings. The new name
proves to be more reflective of the multiple financial holdings of the Company as well as more
geographically open to expansion opportunities.
On May 24, 2004, the Company was approved to list on the NASDAQ National Market under the trading
symbol BOCH (Bank of Commerce Holdings). The listing became live on June 15, 2004. On July 21,
2004, the Board of Directors declared a three-for-one stock split on the Companys common stock.
The decision to declare the stock split was intended to make it easier for our current and future
investors to enjoy ownership in our Company.
16
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
On August 26, 2005, the Company received approval from the Federal Deposit Insurance Corporation to
open a branch in the Yuba City market. The branch is entitled Sutter Bank of Commerce, a division
of Redding Bank of Commerce. A lease has been secured for 950 Tharp Road, Suite 800, Yuba City,
California. The office opened for business on Monday, April 10, 2006.
The Company is building an Administrative and Information Technology center during 2006. Ground
breaking on the project began in February 2006 and is expected to take ten months to completion.
The building will be approximately 12,000 square feet and will be built on property already owned
by the Company. The budget for the building is approximately $3.7 million.
On March 20, 2006, the Board of Directors declared a $0.07 cent per share quarterly dividend
payable to shareholders of record as of March 31, 2006, payable on April 7, 2006. The annual
shareholder meeting of the Company was held on May 16, 2006. The Companys Articles of
Incorporation were amended to increase the number of shares authorized from 10,000,000 to
50,000,000. On June 20, 2006, the Board of Directors declared a $0.07 cent per share quarterly
dividend payable to shareholders of record as of June 30, 2006, payable on July 7, 2006. On
September 20, 2006, the Board of Directors declared a $0.07 cent per share quarterly dividend
payable to shareholders of record as of September 29, 2006, payable on October 13, 2006. On
September 25, 2006, the board of Directors announced a Stock Repurchase plan of up to 2.2% of the
Companys outstanding shares.
The Holding Companys principal source of income is dividends from its subsidiaries. The Holding
Company conducts its corporate business operations at the administrative office of the Bank located
at 1951 Churn Creek Road, Redding, California 96002. The Company conducts its business operations
in three geographic market areas, Redding, Roseville and Yuba City California. The Company
considers Upstate California to be the major market area of the Bank.
The Bank is principally supervised and regulated by the California Department of Financial
Institutions (DFI) and the Federal Deposit Insurance Corporation (FDIC), and conducts a general
commercial banking business in the counties of El Dorado, Placer, Shasta, Sutter, Sacramento, and
Yuba, California. Through the Bank and mortgage subsidiaries, the Company provides a wide range of
financial services and products. The services offered by the Bank include those traditionally
offered by commercial banks of similar size and character in California. Products such as checking,
interest-bearing checking (NOW) and savings accounts, money market deposit accounts, commercial,
construction, and term loans, travelers checks, safe deposit boxes, collection services and
electronic banking activities.
The primary focus of the Bank is to provide services to the business and professional community of
its major market area, including Small Business Administration loans, payroll accounting packages,
benefit administration and billing services. The Bank currently does not offer trust services or
international banking services. The services offered by the Mortgage Company include single and
multi-family residential residence new financing, refinancing and equity lines of credit and equity
term loans.
Most of the Banks customers are small to medium sized businesses, professionals and other
individuals with medium to high net worth, and most of the Banks deposits are obtained from such
customers. The Bank emphasizes servicing the needs of local businesses and professionals and
individuals requiring specialized services. The primary business strategy of the Bank is to focus
on its lending activities. The Banks principal lines of lending are (i) commercial, (ii) real
estate construction and (iii) commercial and residential real estate. The majority of the loans of
the Bank are direct loans made to individuals and small businesses in the major market area of the
Bank and are secured by real estate. See Risk Factors That May Affect Results-Dependence on Real
Estate in the Companys 2005 Annual Report on Form 10-K. A relatively small portion of the loan
portfolio of the Bank consists of loans to individuals for personal, family or household purposes.
The Bank accepts real estate, listed and unlisted securities, savings and time deposits,
automobiles, machinery and equipment and other general business assets such as accounts receivable
and inventory as collateral for loans. The Companys goal is to be a premier provider of financial
services to the business and professional community of its major market area including Small
Business Administration (SBA) loans, commercial building financing, bank card services, payroll
accounting packages, lock box and billing programs. The Company measures premier performance by
monitoring key operating ratios to high performing peer information on a national level, and models
strategies to meet or exceed such goals.
17
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
Lending Risks Associated with Commercial Banking and Construction Activities
The business strategy of the Company is to focus on commercial, single family and multi-family real
estate loans, construction loans and commercial business loans. Loans secured by commercial real
estate are generally larger and involve a greater degree of credit and transaction risk than
residential mortgage (one-to-four family) loans. Because payments on loans secured by commercial
and multi-family real estate properties are often dependent on successful operation or management
of the underlying properties, repayment of such loans may be subject to a greater extent to the
then prevailing conditions in the real estate market or the economy. Moreover, real estate
construction financing is generally considered to involve a greater degree of credit risk than
long-term financing on improved, owner-occupied real estate. Risk of loss on a construction loan
is dependent largely upon the accuracy of the initial estimate of the propertys value at
completion of construction or development compared to the estimated cost (including interest) of
construction. If the estimate of value proves to be inaccurate, the Company may be confronted with
a project which, when completed, has a value which is insufficient to assure full repayment of the
construction loan. Although the Company manages lending risks through its underwriting and credit
administration policies, no assurance can be given that such risks would not materialize, in which
event the Companys financial condition, results of operations, cash flows and business prospects
could be materially adversely affected.
Dependence on Real Estate
At September 30, 2006, approximately 70% of the loans of the Company were secured by real estate.
The value of the Companys real estate collateral has been, or could be adversely affected by any
future economic recession and any resulting adverse impact on the real estate market in California.
The Companys primary lending focus has historically been commercial real estate, commercial
lending and, to a lesser extent, construction lending. At September 30, 2006, commercial real
estate and construction loans comprised approximately 38% and 28%, respectively, of the total loans
in the portfolio of the Company. At September 30, 2006, all of the Companys real estate mortgage,
real estate construction loans, and commercial real estate loans, were secured fully or in part by
deeds of trust on underlying real estate. The Companys dependence on real estate increases the
risk of loss in the loan portfolio of the Company and its holdings of other real estate owned if
economic conditions in California deteriorate in the future. Deterioration of the real estate
market in California could have a material adverse effect on the Companys business, financial
condition and results of operations.
Risks Specific to Operations in California
Our operations are located entirely in the State of California, which in recent years has
experienced economic disruptions that are unique to the state. The fiscal and political
uncertainty surrounding the state governments financial condition, for example may have a
material adverse effect on our customers businesses or on our business, financial condition and
results of operations.
Interest Rate Risk
The income of the Company is highly dependent on interest rate differentials and the resulting
net interest margins (i.e., the difference between the interest rates earned on the Banks
interest-earning assets such as loans and securities, and the interest rates paid on the Banks
interest-bearing liabilities such as deposits and borrowings). These rates are highly sensitive to
many factors, which are beyond the Companys control, including general economic conditions,
inflation, recession and the policies of various governmental and regulatory agencies, in
particular, the FRB. As a result, the Company is generally adversely affected by declining
interest rates. In addition, changes in monetary policy, including changes in interest rates,
influence the origination of loans, the purchase of investments and the generation of deposits and
affect the rates received on loans and securities and paid on deposits, which could have a material
adverse effect on the Companys business, financial condition and results of operations. See
Quantitative and Qualitative Disclosure about Market Risk.
18
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
Potential Volatility of Deposits
At September 30, 2006, time certificates of deposit in excess of $100,000 represented approximately
30.0% of the dollar value of the total deposits of the Company. As such, these deposits are
considered volatile and could be subject to withdrawal. Withdrawal of a material amount of such
deposits could adversely affect the liquidity of the Company, profitability, business prospects,
results of operations and cash flows. The Company monitors activity of volatile liability deposits
on a quarterly basis. Approximately $55.7 million of the $128.7 million in time certificates of
deposit over $100,000 act as core deposits with over five years history of rollover with the
Company.
Dividends
Because the Company conducts no other significant activity than the management of its investment in
the Bank and Mortgage Company, the Company is dependent on these subsidiaries for income. The
ability of the Bank and Mortgage Company to pay cash dividends in the future depends on the
profitability, growth and capital needs of the Bank and Mortgage Company. In addition, the
California Financial Code restricts the ability of the Bank to pay dividends. No assurance can be
given that the Company or the Bank will pay any dividends in the future or, if paid, such dividends
will not be discontinued.
Government Regulation and Legislation
The Company and the Bank are subject to extensive state and federal regulation, supervision and
legislation, which govern almost all aspects of the operations of the Company and the Bank. The
business of the Company is particularly susceptible to being affected by the enactment of federal
and state legislation which may have the effect of increasing or decreasing the cost of doing
business, modifying permissible activities or enhancing the competitive position of other financial
institutions. Such laws are subject to change from time to time and are primarily intended for the
protection of consumers, depositors and the deposit insurance funds and not for the protection of
shareholders of the Company. The Company cannot predict what effect any presently contemplated or
future changes in the laws or regulations or their interpretations would have on the business and
prospects of the Company, but it could be material and adverse.
Economic Conditions and Geographic Concentration
The Companys operations are located and concentrated in California, particularly the counties of
El Dorado, Placer, Sutter, Shasta, Sacramento and Sutter, and are likely to remain so for the
foreseeable future. At September 30, 2006, approximately 70% of the Banks loan portfolio
consisted of real estate related loans, most of which were related to collateral located in
California. A change in California economic and business conditions may adversely affect the
performance of these loans. Deterioration in economic conditions could have a material adverse
effect on the quality of the loan portfolio of the Bank and the demand for its products and
services. In addition, during periods of economic slowdown or recession, the Bank may experience a
decline in collateral values and an increase in delinquencies and defaults. A decline in
collateral values and an increase in delinquencies and defaults increase the possibility and
severity of losses. California real estate is also subject to certain natural disasters, such as
earthquakes, floods and mudslides, which are typically not covered by the standard hazard insurance
policies maintained by borrowers. Uninsured disasters may make it difficult or impossible for
borrowers to repay loans made by the Company.
Reliance on Key Employees and Others
As of September 30, 2006, the Company employed 125 employees. The Company considers employee
relations to be excellent. A collective bargaining group represents none of the employees of the
Company or its subsidiaries. Failure of the Company to attract and retain qualified personnel could
have an adverse effect on the Companys business, financial condition and results of operations.
The Company does maintain life insurance with respect to five of its officers in conjunction with a
salary continuation plan.
19
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
Adequacy of Allowance for Loan and Lease Losses (ALLL)
The Companys allowance for loan and lease losses was approximately $4.8 million, or 1.16% of total
loans at September 30, 2006. Material future additions to the allowance for loan losses might be
necessary if material adverse changes in economic conditions occur and the performance of the loan
portfolio of the Company deteriorates. In addition, future additions to the Companys allowance
for loan and lease losses on other real estate owned may also be required in order to reflect
changes in the markets for real estate in which the Companys other real estate owned is located
and other factors which may result in adjustments which are necessary to ensure that the Companys
foreclosed assets are carried at the lower of cost or fair value, less estimated costs to dispose
of the properties. Moreover, the FDIC and the DFI, as an integral part of their examination
process, periodically review the Companys allowance for loan and lease losses and the carrying
value of its assets. The Bank was most recently examined by the FDIC in this regard during the
second quarter of 2006. Increases in the provisions for loan losses and foreclosed assets could
adversely affect the Banks financial condition and results of operations.
Certain Ownership Restrictions under California and Federal Law
Federal law prohibits a person or group of persons acting in concert from acquiring control of
a financial holding company unless the FRB has been given 60 days prior written notice of such
proposed acquisition and within that time period the FRB has not issued a notice disapproving the
proposed acquisition or extending for up to another 30 days, the period during which such a
disapproval may be issued. An acquisition may be made before the expiration of the disapproval
period if the FRB issues written notice of its intent not to disapprove the action. Under a
rebuttal presumption established by the FRB, the acquisition of more than 10% of a class of voting
stock of a bank with a class of securities registered under Section 12 of the Exchange Act (such as
the common stock), would, under the circumstances set forth in the presumption, constitute the
acquisition of control. In addition, any company would be required to obtain the approval of the
FRB under the BHCA, before acquiring 25% (5% in the case of an acquirer that is, or is deemed to
be, a bank holding company) or more of the outstanding shares of the Companys common stock, or
such lesser number of shares as constitute control. See Supervision and Regulation and Regulation
and Supervision of Bank Holding Companies in the Companys 2005 Annual Report on Form 10-K.
Under the California Financial Code, no person shall, directly or indirectly, acquire control of a
California licensed bank or a bank holding company unless the Commissioner has approved such
acquisition of control. A person would be deemed to have acquired control of the Company and the
Bank under this state law if such person, directly or indirectly, has the power (i) to vote 25% or
more of the voting power of the Company or (ii) to direct or cause the direction of the management
and policies of the Company. For purposes of this law, a person who directly or indirectly owns or
controls 10% or more of the common stock would be presumed to direct or cause the direction of the
management and policies of the Company and thereby control the Company.
Shares Eligible for Future Sale
As of September 30, 2006, the Company had 8,926,842 shares of Common Stock outstanding, of which
5,975,954 shares are eligible for sale in the public market without restriction and 2,950,888
shares are eligible for sale in the public market pursuant to Rule 144 under the Securities Act of
1933, as amended (the Securities Act). Future sales of substantial amounts of the Companys
common stock, or the perception that such sales could occur, could have a material adverse effect
on the market price of the common stock. In addition, options to acquire 357,945 shares of the
issued and outstanding shares of common stock at exercise prices ranging from $2.75 to $11.59 have
been issued to directors and certain employees of the Company under the Companys 1998 Stock Option
Plan. No prediction can be made as to the effect, if any, that future sales of shares, or the
availability of shares for future sale, will have on the market price of the Companys common
stock.
20
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
Technology and Computer Systems
Advances and changes in technology can significantly affect the business and operations of the
Company. The Company faces many challenges including the increased demand for providing computer
access to bank accounts and the systems to perform banking transactions electronically. The
Companys ability to compete depends on its ability to continue to adapt its technology on a timely
and cost-effective basis to meet these requirements. In addition, the Companys business and
operations are susceptible to negative impacts from computer system failures, communication and
energy disruption and unethical individuals with the technological ability to cause disruptions or
failures of the Companys data processing systems.
During 2006 the Company began construction on an Administrative and Information Technology center
on property already owned adjacent to the Churn Creek office. Ground breaking began in February
2006 and the project is expected to be completed by January 1, 2007. The budget for this project is
approximately $3.7 million.
Environmental Risks
The Company, in its ordinary course of business, acquires real property securing loans that are in
default, and there is a risk that hazardous substance or waste, contaminants or pollutants could
exist on such properties. The Company may be required to remove or remediate such substances from
the affected properties at its expense, and the cost of such removal or remediation may
substantially exceed the value of the affected properties or the loans secured by such properties.
Furthermore, the Company may not have adequate remedies against the prior owners or other
responsible parties to recover its costs. Finally, the Company may find it difficult or impossible
to sell the affected properties either before or following any such removal. In addition, the
Company may be considered liable for environmental liabilities concerning its borrowers
properties, if, among other things, it participates in the management of its borrowers operations.
The occurrence of such an event could have a material adverse effect on the Companys business,
financial condition, results of operations and cash flows.
Dilution
The Company has issued options to purchase shares of the Companys common stock at prices equal
to 85% to 100% of the fair market value of the Companys Common Stock on the date of grant. As
of September 30, 2006, the Company had outstanding options to purchase an aggregate of 357,945
shares of Common Stock at exercise prices ranging from $2.75 to $11.59 per share, or a weighted
average exercise price per share of $5.24. To the extent such options are exercised,
stockholders of the Company will experience dilution.
UNRESOLVED STAFF COMMENTS
No comments to report.
21
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
Executive Overview
Our Company was established to make a profitable return while serving the financial needs of the
business and professional communities of our markets. We are in the financial services business,
and no line of financial services is beyond our charter as long as it serves the needs of
businesses, professionals and consumers in our communities. The mission of our Company is to
provide its stockholders with a safe, profitable return on their investment, over the long term.
Management will attempt to minimize risk to our stockholders by making prudent business decisions,
will maintain adequate levels of capital and reserves, and will maintain effective communications
with stockholders.
Our Companys most valuable asset is its customers. We will consider their needs first when we
design our products. High-quality customer service is an important mission of our Company, and how
well we accomplish this mission will have a direct influence on our profitability.
Our vision is to embrace changes in the industry and develop profitable business strategies that
allow us to maintain our customer relationships and build new ones. Our competitors are no longer
just banks. We must compete with financial powerhouses that want our core business. The flexibility
provided by the Financial Holding Company Act is becoming increasingly important. We have
developed strategic plans that evaluate additional financial services and products that can be
delivered to our customers efficiently and profitably. Producing quality returns is, as always, a
top priority.
The Companys long term success rests on the shoulders of the leadership team to effectively work
to enhance the performance of the Company. As a financial services company, we are in the business
of taking risk. Whether we are successful depends largely upon whether we take the right risks and
get paid appropriately for the risks we take. Our governance structure enables us to manage all
major aspects of the Companys business effectively through an integrated process that includes
financial, strategic, risk and leadership planning.
We define risks to include not only credit, market and liquidity risk the traditional concerns
for financial institutions but also operational risks, including risks related to systems,
processes or external events, as well as legal, regulatory and reputation risks.
Our management processes, structures and policies help to ensure compliance with laws and
regulations and provide clear lines for decision-making and accountability. Results are important,
but equally important is how we achieve those results. Our core values and commitment to high
ethical standards is material to sustaining public trust and confidence in our Company. For
additional information concerning risks and uncertainties related to the Company and its operations
please refer to the Companys Annual Report on Form 10-K for the year ended December 31, 2005 under
the heading of Risk Management.
Sources of Income
The Company derives its income from two principal sources: (i) net interest income, which is the
difference between the interest income it receives on interest-earning assets and the interest
expense it pays on interest-bearing liabilities, and (ii) fee income, which includes fees earned on
deposit services, income from SBA lending, electronic-based cash management services, mortgage
brokerage fee income and merchant credit card processing services. The profitability of the Bank
depends to a great extent on net interest income. Interest rate factors are highly sensitive to
many factors, which are beyond the Companys control, including general economic conditions,
inflation, recession, and the policies of various governmental and regulatory agencies, in
particular, the Federal Reserve Board. Because of the Banks predisposition to variable rate
pricing and non-interest bearing demand deposit accounts, the Bank is considered asset sensitive.
As a result, the Company is adversely affected by declining interest rates.
22
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
Financial Highlights Results of Operations
Net income for the third quarter of 2006 totaled $1,672,000 an increase of 7.2% from the $1,560,000
reported for the same quarterly period of 2005. On the same basis, diluted earnings per common
share for the third quarter of 2006 were $0.19, compared to $0.18 for the same period of 2005, a
5.6% increase. Return on average assets (ROA) and return on average equity (ROE) for the third
quarter of 2006 were 1.17% and 15.11%, respectively, compared with 1.31% and 17.75%, respectively,
for the third quarter of 2005.
Net income for the nine-month period ended September 30, 2006 totaled $4,953,000, an increase of
12.4% over net income of $4,407,000 reported for the same nine-month period ended September 30,
2005. On the same basis, diluted earnings per common share for the nine-months ended September 30,
2006 was $0.55, compared to $0.50 for the same nine-month period in 2005, a 10.0% increase. ROA was
1.22% and ROE was 15.28% for the first nine-months of 2006 compared with 1.28% and 18.50%,
respectively, for the same nine-month period of 2005.
Net Interest Income and Net Interest Margin
Net interest income is the primary source of the Companys income. Net interest income represents
the excess of interest and fees earned on interest-earning assets (loans, securities and Federal
Funds sold) over the interest paid on deposits and borrowed funds. Net interest margin is net
interest income expressed as a percentage of average earning assets. Net interest income for the
quarter ended September 30, 2006 was $5.5 million compared with $5.1 million for the same period in
2005, an increase of 7.9%. Net interest income for the nine-months ended September 30, 2006 was
$16.6 million compared with $14.8 million for the same nine-month period in 2005, an increase of
12.2%.
Average earning assets for the nine-months ended September 30, 2006 increased $79.0 million or
18.3% compared with the same period in the prior year. Average loans, the largest component of
average earning assets, increased $56.4 million or 17.0% on average compared with the prior year
period. Average securities including federal funds sold increased $22.6 million or 23.0% over the
prior period. Overall, the yield on earning assets increased to 7.23% for the nine-month period
ended September 30, 2006 compared to 6.19% for the same period in the prior year. The increase is
primarily due to new loan production priced at higher rates, additional available funds being
invested into the security portfolio while current loan yields continue to rise with the prime
rate.
Average interest-bearing liabilities for the nine-months ended September 30, 2006 increased $77.5
million or 22.6% compared with the prior year period. Average non-interest bearing deposits
decreased by $1.2 million or 1.5% over the prior year nine-month period. Average borrowings
increased $49.9 million compared with the prior year period, partially related to an increase in
repurchase agreements and the second issuance of trust preferred securities. Borrowings are repaid
as core deposit growth increases.
The overall cost of interest-bearing liabilities for the first nine-months 2006 was 3.51% compared
with 2.02% for the first nine-months of 2005. The increase was primarily a result of increases in
the interest paid on interest-bearing liabilities and longer-term fixed rate borrowings. The net
effect of the changes discussed above resulted in an increase of $1.8 million or 12.0% in net
interest income for the nine-month period ended September 30, 2006 from the same period in 2005.
Net interest margin decreased twenty five basis points to 4.33% from 4.58% for the same period a
year ago.
Liquidity
The objective of liquidity management is to ensure that the Company can efficiently meet the
borrowing needs of our customers, withdrawals of our depositors and other cash commitments under
both normal operating conditions and under unforeseen and unpredictable circumstances of industry
or market stress.
23
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
The Asset Liability Management Committee (ALCO) establishes and monitors liquidity guidelines
that require sufficient asset-based liquidity to cover potential funding requirements and to avoid
over-dependence on volatile, less reliable funding markets. In addition to the immediately liquid
resources of cash and due from banks and federal funds sold, asset liquidity is supported by debt
securities in the available for sale security portfolio and wholesale lines of credit with the
Federal Home Loan Bank and borrowing lines with other financial institutions. Customer core
deposits have historically provided the Company with a source of relatively stable and low-cost
funds.
The Companys consolidated liquidity position remains adequate to meet short-term and long-term
future contingencies. At September 30, 2006, the Company had overnight investments of $45.5 million
and available lines of credit of at the Federal Home Loan bank of approximately $85.1 million, and
two federal funds borrowing line with correspondent banks of $15.0 million.
Capital Management
The Company uses capital to fund organic growth, pay dividends and repurchase its shares. The
objective of effective capital management is to produce above market long-term returns by using
capital when returns are perceived to be high and issuing capital when costs are perceived to be
low. The Companys potential sources of capital include retained earnings, common and preferred
stock issuance and issuance of subordinated debt and trust preferred securities.
Total stockholders equity increased from December 31, 2005 by $4.8 million to $43.9 million at
September 30, 2006. The increase was a result of earnings of $5.0 million, $1.4 million from
exercises of stock options, including tax benefits. The increase is partially offset dividends paid
to shareholders of $1.8 million.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Well |
|
|
Minimum |
|
|
|
|
|
|
|
Actual |
|
|
Capitalized |
|
|
Capital |
|
September 30, 2006 |
|
Capital |
|
|
Ratio |
|
|
Requirement |
|
|
Requirement |
|
The Company |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Leverage |
|
$ |
54,942,252 |
|
|
|
9.99 |
% |
|
|
n/a |
|
|
|
4.0 |
% |
Tier 1 Risk-Based |
|
|
54,942,252 |
|
|
|
11.64 |
% |
|
|
n/a |
|
|
|
4.0 |
% |
Total Risk-Based |
|
|
60,092,573 |
|
|
|
12.73 |
% |
|
|
n/a |
|
|
|
8.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Redding Bank of Commerce |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Leverage |
|
$ |
53,132,814 |
|
|
|
9.28 |
% |
|
|
5.0 |
% |
|
|
4.0 |
% |
Tier 1 Risk-Based |
|
|
53,132,814 |
|
|
|
11.25 |
% |
|
|
6.0 |
% |
|
|
4.0 |
% |
Total Risk-Based |
|
|
58,283,135 |
|
|
|
12.34 |
% |
|
|
10.00 |
% |
|
|
8.0 |
% |
Short and Long Term Borrowings
The Company actively uses Federal Home Loan Bank (FHLB) advances as a source of wholesale funding
to support growth strategies as well as to provide liquidity. At September 30, 2006, the Companys
FHLB advances were a combination of fixed term and variable borrowings without call or put option
features.
At September 30, 2006, the Bank had $55 million in FHLB term advances outstanding at an average
rate of 5.14% compared to $35 million at an average rate of 3.25% at September 30, 2005.
24
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
Provision for Loan and Lease Losses
The Companys most significant management accounting estimate is the appropriate level for the
allowance for loan and lease losses. The Company follows a methodology for calculating the
appropriate level for the allowance for loan and lease losses as discussed under Asset Quality
and Allowance for Loan and Lease Losses (ALLL) in this document.
Provision for loan losses were $226,000 for the nine-months ended September 30, 2006 compared with
$442,000 for the same period of 2005. Redding Bank of Commerces allowance for loan losses was
1.16% of total loans at September 30, 2006 and 1.23% at September 30, 2005, while its ratio of
non-performing assets to total assets was 0.00% at September 30, 2006, compared to 0.44% at
September 30, 2005. Year-to-date net recoveries of $210,765 compare favorably to net charge-offs of
$57,000 for the same period last year.
Factors that may affect future results
As a financial services company, our earnings are significantly affected by general business and
economic conditions. These conditions include short-term and long-term interest rates, inflation,
monetary supply, fluctuations in both debt and equity capital markets, and the strength of the
United States economy and local economies in which we operate. For example, an economic downturn,
increase in unemployment, or other events that negatively impact household and/or corporate incomes
could decrease the demand for the Companys loan and non-loan products and services and increase
the number of customers who fail to pay interest or principal on their loans. Geopolitical
conditions can also affect our earnings. Acts or threats of terrorism, actions taken by the United
States or other governments in response to acts or threats of terrorism and our military conflicts
including the aftermath of the war with Iraq, could impact business conditions in the United
States.
The Board of Governors of the Federal Reserve System regulates the supply of money and credit in
the United States. Its policies determine in large part our cost of funds for lending and investing
and the return we earn on those loans and investments, both of which impact our net interest
margin, and can materially affect the value of financial instruments we hold. Its policies can also
affect our borrowers, potentially increasing the risk of failure to repay their loans. Changes in
Federal Reserve Board policies are beyond our control and hard to predict or anticipate.
We operate in a highly competitive industry that could become even more competitive because of
legislative, regulatory and technological changes and continued consolidation. Banks, securities
firms and insurance companies can now merge creating a financial holding company that can offer
virtually any type of financial service, including banking, securities underwriting, insurance
(agency and underwriting) and merchant banking. Technology has lowered barriers to entry and made
it possible for non-banks to offer products and services traditionally provided by banks, such as
automatic transfer and automatic payment systems. Many of our competitors have fewer regulatory
constraints and some have lower cost structures.
The holding company, subsidiary bank and non-bank subsidiary are heavily regulated at the federal
and state levels. This regulation is to protect depositors, federal deposit insurance funds and the
banking system as a whole, not investors. Congress and state legislatures and federal and state
regulatory agencies continually review banking laws, regulations and policies for possible changes.
Changes to statutes, regulations or regulatory policies including changes in interpretation and
implementation could affect us in substantial and unpredictable ways including limiting the types
of financial services and products we may offer. Our failure to comply with the laws, regulations
or policies could result in sanctions by regulatory agencies and damage our reputation. For more
information, refer to the Supervision and Regulation section in the Companys 2005 Annual Report
on Form 10-K. Our success depends, in part, on our ability to adapt our products and services to
evolving industry standards. There is increasing pressure on financial services companies to
provide products and services at lower prices. This can reduce our net interest margin and revenues
from fee-based products and services.
25
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
In addition, the widespread adoption of new technologies, including internet-based services, could
require us to make substantial expenditures to modify or adapt our existing products and services.
Our success depends, in large part, on our ability to attract and retain key people. Competition
for the best people can be intense.
The holding company is a separate and distinct legal entity from its subsidiaries. It receives
substantially all of its revenues from dividends from its subsidiaries. These dividends are the
principal source of funds to pay dividends on the holding companys common stock and interest and
principal on its debt. Various federal and state laws and regulations limit the amount of
dividends that our bank may pay to the holding company. For more information, refer to Dividends
and Other Distributions in the Companys 2005 Annual Report on Form 10-K.
Critical Accounting Policies
The Securities and Exchange Commission (SEC) issued disclosure guidance for critical accounting
policies. The SEC defines critical accounting policies as those that require application of
managements most difficult, subjective or complex judgments, often as a result of the need to make
estimates about the effect of matters that are inherently uncertain and may change in future
periods.
Our accounting policies are integral to understanding the results reported. Accounting policies are
described in detail in Note 2 of the NOTES TO CONSOLIDATED FINANCIAL STATEMENTS in the Companys
2005 Annual report on Form 10-K. Not all of significant accounting policies presented in Note 2 to
the Consolidated Financial Statements contained in the Companys 2005 Annual Report on Form 10-K
require management to make difficult, subjective or complex judgments or estimates.
Preparation of financial statements
The preparation of these financial statements requires management to make estimates and judgments
that affect the reported amount of assets, liabilities, revenues and expenses. On an ongoing basis,
management evaluates the estimates used. Estimates are based upon historical experience, current
economic conditions and other factors that management considers reasonable under the circumstances.
Use of estimates
These estimates result in judgments regarding the carrying values of assets and liabilities when
these values are not readily available from other sources, as well as assessing and identifying the
accounting treatments of contingencies and commitments. Actual results may differ from these
estimates under different assumptions or conditions.
Generally Accepted Accounting Principles in the United States of America
The Companys financial statements are prepared in accordance with accounting principles generally
accepted in the United States of America (GAAP). The Companys significant accounting policies
are presented in Note 2 to the Consolidated Financial Statements contained in the Companys 2005
Annual Report on Form 10-K. The Company follows accounting policies typical to the community
commercial banking industry and in compliance with various regulations and guidelines as
established by the Financial Accounting Standards Board (FASB) and the Banks primary federal
regulator, the Federal Deposit Insurance Corporation (FDIC). The following is a brief description
of our current accounting policies involving significant management judgments. Accounting
principles generally accepted in the United States of America (GAAP), itself may change over time,
having impact over the reporting of the Companys financial activity.
26
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
Although the economic substance of the Companys transactions would not change, alterations in GAAP
could affect the timing or manner of accounting or reporting.
Allowance for Loan and Lease Losses (ALLL)
The allowance for loan and lease losses is managements best estimate of the probable losses that
may be sustained in our loan portfolio. The allowance is based on two basic principles of
accounting. (1) SFAS No.5 which requires that losses be accrued when they are probable of occurring
and estimable and (2) SFAS No. 114, which requires that losses be accrued based on the differences
between that value of collateral, present value of future cash flows or values that are observable
in the secondary market and the loan balance. The Company performs periodic and systematic detailed
evaluations of its lending portfolio to identify and estimate the inherent risks and assess the
overall collectibility. These evaluations include general conditions such as the portfolio
composition, size and maturities of various segmented portions of the portfolio such as secured,
unsecured, construction, and Small Business Administration (SBA).
Additional factors include concentrations of borrowers, industries, geographical sectors, loan
product, loan classes, size and collateral types; volume and trends of loan delinquencies and
non-accrual; criticized and classified assets and trends in the aggregate in significant credits
identified as watch list items. There are several components to the determination of the adequacy
of the ALLL. Each of these components is determined based upon estimates that can and do change
when the actual events occur. The Company estimates the SFAS No. 5 portion of the ALLL based on the
segmentation of its portfolio. For those segments that require an ALLL, the Company estimates loan
losses on a monthly basis based upon its ongoing loan review process and analysis of loan
performance. The Company follows a systematic and consistently applied approach to select the most
appropriate loss measurement methods and support its conclusions and rationale with written
documentation. One method of estimating loan losses for groups of loans is through the application
of loss rates to the groups aggregate loan balances. Such rates typically reflect historical loss
experience for each group of loans, adjusted for relevant economic factors over a defined period of
time. The Company evaluates and modifies its loss estimation model as needed to ensure that the
resulting loss estimate is consistent with GAAP.
For individually impaired loans, SFAS No. 114 provides guidance on the acceptable methods to
measure impairment. Specifically, SFAS No. 114 states that when a loan is impaired, the Company
should measure impairment based on the present value of expected future principal and interest cash
flows discounted at the loans effective interest rate, except that as a practical expedient, a
creditor may measure impairment based on a loans observable market price or the fair value of
collateral, if the loan is collateral dependent. When developing the estimate of future cash flows
for a loan, the Company considers all available information reflecting past events and current
conditions, including the effect of existing environmental factors.
Revenue recognition
The Companys primary sources of revenue are interest income. Interest income is recorded on an
accrual basis. Note 2 to the Consolidated Financial Statements contained in the Companys 2005
Annual Report on Form 10-K offers an explanation of the process for determining when the accrual of
interest income is discontinued on an impaired loan.
Stock-based Compensation
Statement of Financial Accounting Standards No. 123 (revised 2004); Accounting for Stock Based
Compensation was adopted by the Company as of January 1, 2006, using the modified prospective
transition method. Under the modified prospective transition method, compensation cost is
recognized on or after the required effective date for the portion of outstanding awards, for which
the requisite service has not yet been rendered, based on the grant-date fair value of those awards
calculated under Statement No. 123 for either recognition or pro forma disclosures.
27
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
The amount of the reduction for the fiscal years 2003 through 2005 is disclosed in Note 13 to the
Consolidated Financial Statements contained in the Companys 2005 Annual Report on Form 10-K, based
upon the assumptions listed therein. Accounting principles generally accepted in the United States
of America (GAAP), itself may change over time, having impact over the reporting of the Companys
financial activity. Although the economic substance of the Companys transactions would not
change, alterations in GAAP could affect the timing or manner of accounting or reporting.
Income Taxes
The Company accounts for income taxes under the asset liability method. Under the asset and
liability method, deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities
are measured using currently enacted tax rates applied to such taxable income in the years in which
those temporary differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the period that includes
the enactment date. If future income should prove non-existent or less than the amount of deferred
tax assets within the tax years to which they may be applied, the asset may not be realized and our
net income will be reduced. Our deferred tax assets are described further in Note 12 of the NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS in the Companys 2005 Annual Report on Form 10-K.
28
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
The following table presents the Companys daily average balance sheet information together with
interest income and yields earned on average interest-bearing assets and interest expense and rates
paid on average interest-bearing liabilities. Average balances are average daily balances.
Table
1.
Average Balances, Interest Income/Expense and Yields/Rates Paid
(Unaudited, Dollars in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
|
|
Nine Months Ended |
|
|
|
|
September 30, 2006 |
|
|
|
September 30, 2005 |
|
|
|
|
|
|
|
|
|
|
|
|
Yield/ |
|
|
|
Average |
|
|
|
|
|
|
Yield/ |
|
|
|
|
Average Balance |
|
|
Interest |
|
|
Rate |
|
|
|
Balance |
|
|
Interest |
|
|
Rate |
|
|
Earning Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Portfolio Loans |
|
$ |
388,886 |
|
|
$ |
23,881 |
|
|
|
8.19 |
% |
|
|
$ |
332,476 |
|
|
$ |
17,393 |
|
|
|
6.98 |
% |
|
Tax-exempt Securities |
|
|
18,059 |
|
|
|
494 |
|
|
|
3.65 |
% |
|
|
|
9,235 |
|
|
|
230 |
|
|
|
3.32 |
% |
|
US Government Securities |
|
|
83,440 |
|
|
|
2,575 |
|
|
|
4.11 |
% |
|
|
|
73,162 |
|
|
|
2,026 |
|
|
|
3.69 |
% |
|
Federal Funds Sold |
|
|
17,335 |
|
|
|
658 |
|
|
|
5.06 |
% |
|
|
|
16,818 |
|
|
|
385 |
|
|
|
3.05 |
% |
|
Other Securities |
|
|
3,437 |
|
|
|
113 |
|
|
|
4.38 |
% |
|
|
|
488 |
|
|
|
16 |
|
|
|
4.37 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average Earning Assets |
|
$ |
511,157 |
|
|
$ |
27,721 |
|
|
|
7.23 |
% |
|
|
$ |
432,179 |
|
|
$ |
20,050 |
|
|
|
6.19 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash & Due From Banks |
|
$ |
14,161 |
|
|
|
|
|
|
|
|
|
|
|
$ |
15,211 |
|
|
|
|
|
|
|
|
|
|
Bank Premises |
|
|
6,500 |
|
|
|
|
|
|
|
|
|
|
|
|
5,543 |
|
|
|
|
|
|
|
|
|
|
Allowance for Loan and Lease Losses |
|
|
(4,459 |
) |
|
|
|
|
|
|
|
|
|
|
|
(4,091 |
) |
|
|
|
|
|
|
|
|
|
Other Assets |
|
|
14,969 |
|
|
|
|
|
|
|
|
|
|
|
|
11,188 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average Total Assets |
|
$ |
542,328 |
|
|
|
|
|
|
|
|
|
|
|
$ |
460,030 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest Bearing Liabilities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Demand Interest Bearing |
|
$ |
106,002 |
|
|
$ |
968 |
|
|
|
1.22 |
% |
|
|
$ |
112,259 |
|
|
$ |
688 |
|
|
|
0.82 |
% |
|
Savings Deposits |
|
|
25,095 |
|
|
|
209 |
|
|
|
1.11 |
% |
|
|
|
25,884 |
|
|
|
127 |
|
|
|
0.65 |
% |
|
Certificates of Deposit |
|
|
182,478 |
|
|
|
5,844 |
|
|
|
4.27 |
% |
|
|
|
147,834 |
|
|
|
3,051 |
|
|
|
2.75 |
% |
|
Repurchase Agreements |
|
|
28,010 |
|
|
|
794 |
|
|
|
3.78 |
% |
|
|
|
16,345 |
|
|
|
264 |
|
|
|
2.15 |
% |
|
FHLB Borrowings |
|
|
64,597 |
|
|
|
2,492 |
|
|
|
5.14 |
% |
|
|
|
31,337 |
|
|
|
746 |
|
|
|
3.17 |
% |
|
Trust Preferred Borrowings |
|
|
15,000 |
|
|
|
796 |
|
|
|
7.08 |
% |
|
|
|
10,000 |
|
|
|
332 |
|
|
|
4.43 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average Interest Bearing Liabilities |
|
|
421,182 |
|
|
$ |
11,103 |
|
|
|
3.51 |
% |
|
|
|
343,659 |
|
|
$ |
5,208 |
|
|
|
2.02 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non interest Demand |
|
|
78,388 |
|
|
|
|
|
|
|
|
|
|
|
|
79,612 |
|
|
|
|
|
|
|
|
|
|
Other Liabilities |
|
|
4,547 |
|
|
|
|
|
|
|
|
|
|
|
|
5,003 |
|
|
|
|
|
|
|
|
|
|
Shareholder Equity |
|
|
38,211 |
|
|
|
|
|
|
|
|
|
|
|
|
31,756 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average Liabilities and
Stockholders Equity |
|
$ |
542,328 |
|
|
|
|
|
|
|
|
|
|
|
$ |
460,030 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Interest Income and Net
Interest Margin |
|
|
|
|
|
$ |
16,618 |
|
|
|
4.33 |
% |
|
|
|
|
|
|
$ |
14,842 |
|
|
|
4.58 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest income on loans includes fee income of approximately $381,000 and $443,000 for
the period ended September 30, 2006 and 2005 respectively. The Companys average total
assets increased to $542.3 million at September 30, 2006 compared to $460.0 million for the
same period in 2005, a $82.3 million increase or 17.9%.
The Companys practice is to place an asset on nonaccrual status when one of the following
events occurs: (i) Any installment of principal or interest is 90 days or more past due,
(ii) management determines the ultimate collection of principal or interest to be unlikely
or (iii) the terms of the loan have been renegotiated due to a serious weakening of the
borrowers financial condition. Interest income on loans does not reflect accruals on loans
in a nonaccrual status. Accruals are resumed on loans only when they are brought fully
current with respect to interest and principal and when the loan is estimated to be fully
collectible.
29
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Continued)
The following tables set forth changes in interest income and expense for each major category of
earning assets and interest-bearing liabilities, and the amount of change attributable to volume
and rate changes for the periods indicated. Changes attributable to rate/volume have been
allocated to volume changes.
Table
2.
Analysis of Changes in Net Interest Income and Interest Expense
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
(Dollars in thousands) |
|
September 30, 2006 over September 30, 2005 |
|
|
|
Volume |
|
|
Rate |
|
|
Total |
|
Increase(Decrease) In Interest Income |
|
|
|
|
|
|
|
|
|
|
|
|
Portfolio Loans |
|
$ |
4,472 |
|
|
$ |
2,016 |
|
|
$ |
6,488 |
|
Tax-exempt Securities |
|
|
249 |
|
|
|
15 |
|
|
|
264 |
|
US Government Securities |
|
|
394 |
|
|
|
155 |
|
|
|
549 |
|
Federal Funds Sold |
|
|
104 |
|
|
|
169 |
|
|
|
273 |
|
Other Securities |
|
|
97 |
|
|
|
0 |
|
|
|
97 |
|
|
|
|
|
|
|
|
|
|
|
Total Increase |
|
$ |
5,316 |
|
|
$ |
2,355 |
|
|
$ |
7,671 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Increase(Decrease) In |
|
|
|
|
|
|
|
|
|
|
|
|
Interest Expense |
|
|
|
|
|
|
|
|
|
|
|
|
Interest Bearing Demand |
|
$ |
55 |
|
|
$ |
225 |
|
|
$ |
280 |
|
Savings Deposits |
|
|
23 |
|
|
|
59 |
|
|
|
82 |
|
Certificates of Deposit |
|
|
1,671 |
|
|
|
1,122 |
|
|
|
2,793 |
|
Repurchase Agreements |
|
|
397 |
|
|
|
133 |
|
|
|
530 |
|
FHLB Borrowings |
|
|
1,437 |
|
|
|
309 |
|
|
|
1,746 |
|
Trust Preferred
Borrowings |
|
|
332 |
|
|
|
132 |
|
|
|
464 |
|
|
|
|
|
|
|
|
|
|
|
Total Increase |
|
$ |
3,915 |
|
|
$ |
1,980 |
|
|
$ |
5,895 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Increase |
|
$ |
1,401 |
|
|
$ |
375 |
|
|
$ |
1,776 |
|
|
|
|
|
|
|
|
|
|
|
Net interest income for the quarter ended September 30, 2006 was $5.5 million compared with $5.1
million for the same period in 2005, an increase of 7.9%. Net interest income for the nine-months
ended September 30, 2006 was $16.6 million compared with $14.8 million for the same nine-month
period in 2005, an increase of 12.2%.
Average earning assets for the nine-months ended September 30, 2006 increased $79.0 million or
18.3% compared with the same period in the prior year. Average loans, the largest component of
earning assets, increased $56.4 million or 17.0% on average compared with the prior year period.
Average securities including federal funds sold increased $22.6 million or 23.0% over the prior
period. Overall, the yield on earning assets increased to 7.23% for the nine-month period compared
to 6.19% for the same period in the prior year. The increase is primarily due to new loan
production priced at higher rates, additional available funds being invested into the security
portfolio while current loan yields continue to rise with the prime rate index.
The overall cost of interest-bearing liabilities for the first nine-months 2006 was 3.51% compared
with 2.02% for the first nine-months of 2005. The increase was primarily a result of increases in
the interest paid on interest-bearing liabilities and longer-term borrowings. The net effect of the
changes discussed above resulted in an increase of $1.8 million or 12.0% in net interest income for
the nine-month period ended September 30, 2006 from the same period in 2005. Net interest margin
decreased twenty five basis points to 4.33% from 4.58% for the same period a year ago.
30
\
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
Noninterest Income
The Companys non-interest income consists of service charges on deposit accounts, other fee
income, processing fees for credit card payments and gains or losses on security sales. The
following table sets forth a summary of noninterest income for the periods indicated.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Dollars in thousands) |
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
|
Noninterest income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service charges on deposit accounts |
|
$ |
81 |
|
|
$ |
98 |
|
|
$ |
255 |
|
|
$ |
303 |
|
Payroll and benefit processing fees |
|
|
89 |
|
|
|
81 |
|
|
|
287 |
|
|
|
264 |
|
Earnings on cash surrender value - |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Bank owned insurance |
|
|
80 |
|
|
|
52 |
|
|
|
231 |
|
|
|
156 |
|
Net loss on sale of securities available-for-sale |
|
|
(171 |
) |
|
|
0 |
|
|
|
(171 |
) |
|
|
(2 |
) |
Net gain on sale of loans |
|
|
90 |
|
|
|
23 |
|
|
|
90 |
|
|
|
91 |
|
Merchant credit card service income, net |
|
|
110 |
|
|
|
91 |
|
|
|
280 |
|
|
|
268 |
|
Mortgage brokerage fee income |
|
|
32 |
|
|
|
85 |
|
|
|
84 |
|
|
|
242 |
|
Other Income |
|
|
117 |
|
|
|
85 |
|
|
|
331 |
|
|
|
283 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Noninterest income |
|
$ |
428 |
|
|
$ |
515 |
|
|
$ |
1,387 |
|
|
$ |
1,605 |
|
|
Noninterest income decreased $87,000 or 16.9% for the quarter ended September 30, 2006 over
September 30, 2005. The most significant portion of the decline is a loss on the sale of
available-for-sale securities. The ALCO Roundtable restructured the Investment portfolio to improve
yield and protect income on the rate downside by extending maturities in the municipal market.
Management believes that the net loss after tax will be fully recovered through investment earnings
before the end of this year. The second most significant drop in quarterly earnings is the
reduction in mortgage brokerage fee income from $85,000 in 2005 to $32,000 in 2006 reflective of
the slowdown in the single family residential real estate market.
Noninterest income decreased $218,000 or 13.6% for the nine-months ended September 30, 2006 over
September 30, 2005. The decrease for the nine-month period is specifically related to the
investment sale strategy and lower earnings on mortgage brokerage fee income for the period.
Noninterest Expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
(Dollars in thousands) |
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
|
Noninterest Expense |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Salaries and related benefits |
|
$ |
1,996 |
|
|
$ |
1,750 |
|
|
$ |
5,870 |
|
|
$ |
5,088 |
|
Occupancy and equipment expense |
|
|
467 |
|
|
|
437 |
|
|
|
1,350 |
|
|
|
1,173 |
|
FDIC insurance premium |
|
|
12 |
|
|
|
11 |
|
|
|
36 |
|
|
|
36 |
|
Data processing fees |
|
|
53 |
|
|
|
71 |
|
|
|
169 |
|
|
|
209 |
|
Professional service fees |
|
|
149 |
|
|
|
199 |
|
|
|
503 |
|
|
|
577 |
|
Payroll and Benefit fees |
|
|
24 |
|
|
|
24 |
|
|
|
78 |
|
|
|
86 |
|
Deferred compensation expense |
|
|
94 |
|
|
|
85 |
|
|
|
272 |
|
|
|
234 |
|
Stationery and Supplies |
|
|
71 |
|
|
|
40 |
|
|
|
180 |
|
|
|
159 |
|
Postage |
|
|
26 |
|
|
|
45 |
|
|
|
91 |
|
|
|
84 |
|
Directors expense |
|
|
45 |
|
|
|
30 |
|
|
|
170 |
|
|
|
188 |
|
Other expenses |
|
|
362 |
|
|
|
403 |
|
|
|
1,128 |
|
|
|
1,068 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Noninterest expense |
|
$ |
3,299 |
|
|
$ |
3,095 |
|
|
$ |
9,847 |
|
|
$ |
8,902 |
|
|
31
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
Noninterest expense for the quarter ended September 30, 2006 was $3.3 million, an increase of
$204,000 or 6.6% over the same period a year ago. Salaries and employee benefits increased $246,000
or 14.1% over the same period a year ago, representative of increases to staffing in support of the
new Sutter Bank of Commerce and increases in the profit sharing component of the expense item.
Non-interest expense for the nine-months ended September 30, 2006 was $9.8 million compared to $8.9
million in the same period a year ago, an increase of $945,000 or 10.6% over the same nine-month
period a year ago. Salaries and employee benefits increased $782,000 or 15.4% over the same
nine-month period a year for the reasons mentioned above.
Income Taxes
The Companys effective tax rate varies with changes in the relative amounts of its non-taxable
income and non-deductible expenses. The increase in the Companys tax provision is attributable to
decreases in non-taxable income related to a reduction in the municipal security portfolio and
reclassification of enterprise zone qualified credits.
The following table reflects the Companys tax provision and the related effective tax rate for the
periods indicated.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Dollars in thousands) |
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
Income Taxes |
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
|
Tax provision |
|
$ |
915 |
|
|
$ |
897 |
|
|
$ |
2,979 |
|
|
$ |
2,696 |
|
Effective tax rate |
|
|
35.4 |
% |
|
|
36.5 |
% |
|
|
37.6 |
% |
|
|
38.0 |
% |
The Companys provision for income taxes includes both federal and state income taxes and reflects
the application of federal and state statutory rates to the Companys net income before taxes. The
principal difference between statutory tax rates and the Companys effective tax rate is the
benefit derived from investing in tax-exempt securities and enterprise zone qualifying loans.
Increases and decreases in the provision for taxes reflect changes in the Companys net income
before tax.
Provision for income tax for the third quarter 2006 was $915,000 as compared to $897,000 for
the third quarter period in 2005. The increase in tax expense is attributed to increased
production and earnings for the period. Reductions in the effective tax rate are related to
investments in tax deductible municipal securities and increases in holdings of Company key
life products.
32
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
Asset Quality
The Company concentrates its lending activities primarily within in El Dorado, Placer, Sutter,
Sacramento, Shasta and Yuba Counties, California, and the location of the Banks five full service
branches, specifically identified as Upstate California.
The Company manages its credit risk through diversification of its loan portfolio and the
application of underwriting policies and procedures and credit monitoring practices. Although the
Company has a diversified loan portfolio, a significant portion of its borrowers ability to repay
the loans is dependent upon the professional services and commercial real estate development
industry sectors. Generally, the loans are secured by real estate or other assets and are expected
to be repaid from the cash flows of the borrower or proceeds from the sale of collateral.
The following table sets forth the amounts of loans outstanding by category as of the dates
indicated:
|
|
|
|
|
|
|
|
|
(Dollars in thousands) |
|
September 30, 2006 |
|
|
December 31, 2005 |
|
Portfolio Loans |
|
|
|
|
|
|
|
|
Commercial and financial loans |
|
$ |
123,904 |
|
|
$ |
115,401 |
|
Real estate-construction loans |
|
|
111,352 |
|
|
|
100,786 |
|
Real estate-commercial |
|
|
153,020 |
|
|
|
133,510 |
|
Real estate-other |
|
|
14,238 |
|
|
|
13,790 |
|
Real estate-mortgage |
|
|
3,210 |
|
|
|
3,669 |
|
Installment |
|
|
222 |
|
|
|
439 |
|
Other loans |
|
|
2,841 |
|
|
|
446 |
|
Less: |
|
|
|
|
|
|
|
|
Net deferred loan fees |
|
|
(377 |
) |
|
|
(420 |
) |
Allowance for loan losses |
|
|
(4,753 |
) |
|
|
(4,316 |
) |
|
|
|
|
|
|
|
Total net loans |
|
$ |
403,657 |
|
|
$ |
363,305 |
|
|
The Companys practice is to place an asset on nonaccrual status when one of the following events
occur: (i) any installment of principal or interest is 90 days or more past due (unless in
managements opinion the loan is well secured and in the process of collection). (ii) Management
determines the ultimate collection of principal or interest to be unlikely or (iii) the terms of
the loan have been renegotiated due to a serious weakening of the borrowers financial condition.
Nonperforming loans are loans that are on nonaccrual, are 90 days past due and still accruing or
have been restructured.
Net portfolio loans have increased to $403.7 million, up $40.4 million or 11.1% at September 30,
2006 compared to $363.3 million at December 31, 2005. The portfolio mix reflects increases in
production in commercial and financial loans, real estate construction and real estate commercial.
Installment and real estate mortgage loans have declined. The balance of the portfolio remains
relatively consistent with the mix at December 31, 2005, with commercial and financial loans of
approximately 31%, real estate construction of 28% and commercial real estate at 38%. Impaired
loans are loans for which it is probable that the Bank will not be able to collect all amounts due
and payable. The Bank had outstanding balances of $0 and $3.2 million in impaired loans that had
impairment allowances of $0 and $291,723 as of September 30, 2006 and December 31, 2005,
respectively.
33
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
The following table sets forth a summary of the Companys nonperforming assets as of the dates
indicated:
|
|
|
|
|
|
|
|
|
(Dollars in thousands) |
|
|
|
|
|
|
Non performing assets |
|
September 30, 2006 |
|
|
December 31, 2005 |
|
|
Nonaccrual loans |
|
$ |
5 |
|
|
$ |
372 |
|
90 days past due and still
accruing interest |
|
|
0 |
|
|
|
0 |
|
|
|
|
|
|
|
|
Total nonaccrual loans |
|
|
5 |
|
|
|
372 |
|
Other Real Estate Owned |
|
|
0 |
|
|
|
0 |
|
|
|
|
|
|
|
|
Total non performing assets |
|
$ |
5 |
|
|
$ |
372 |
|
|
Allowance for Loan and Lease Losses (ALLL)
The allowance for loan and lease losses is managements estimate of the amount of probable loan
losses in the loan portfolio. The Company determines the allowance for loan losses based on an
ongoing evaluation. The evaluation is inherently subjective because it requires material estimates,
including the amounts and timing of cash flows expected to be received on impaired loans. Those
estimates may be susceptible to significant change. The Company makes provisions to the ALLL on a
regular basis through charges to operations that are reflected in the Companys statements of
income as a provision for loan losses. When a loan is deemed uncollectible, it is charged against
the allowance. Any recoveries of previously charged-off loans are credited back to the allowance.
There is no precise method of predicting specific losses or amounts that ultimately may be
charged-off on particular categories of the loan portfolio.
The Companys allowance for loan and lease losses is the accumulation of various components that
are calculated based upon independent methodologies. All components of the allowance for loan
losses represent an estimation performed pursuant to SFAS No. 5, Accounting for Contingencies or
SFAS No. 114, Accounting by Creditors for Impairment of a Loan. Managements estimate of each SFAS
No. 5 Accounting for Contingencies component is based on certain observable data that management
believes is the most reflective of the underlying loan losses being estimated. Changes in the
amount of each component of the allowance for loan losses are directionally consistent with changes
in the observable data, taking into account the interaction of the SFAS No. 5 components over time.
An essential element of the methodology for determining the allowance for loan and lease losses is
the Companys loan risk evaluation process, which includes loan risk grading individual commercial,
construction, commercial real estate and most consumer loans. Loans are assigned loan risk grades
based on the Companys assessment of conditions that affect the borrowers ability to meet its
contractual obligations under the loan agreement. That process includes reviewing borrowers
current financial information, historical payment experience, loan documentation, public
information, and other information specific to each individual borrower. Loans are reviewed on an
annual or rotational basis or as management become aware of information affecting the borrowers
ability to fulfill its obligations. Loan risk grades carry a dollar weighted risk percentage.
The ALLL is a general reserve available against the total loan portfolio. It is maintained without
any inter-allocation to the categories of the loan portfolio, and the entire allowance is available
to cover loan losses. While management uses available information to recognize losses on loans,
future additions to the allowance may be necessary based on changes in economic conditions. In
addition, various regulatory agencies, as an integral part of the examination process, periodically
review the Companys ALLL. Such agencies may require the Company to provide additions to the
allowance based on their judgment of information available to them at the time of their
examination. Accordingly, it is not possible to predict the effect future economic trends may have
on the level of the provision for loan losses in future periods. In addition to the ALLL, an
allowance for unfunded loan commitments and letters of loan is determined using estimates of the
probability of funding. This reserve is carried as a liability on the condensed consolidated
balance sheet.
The ALLL should not be interpreted as an indication that charge-offs in future periods will occur
in the stated amounts or proportions.
34
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
The following table summarizes the activity in the ALLL reserves for the periods
indicated.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Dollars in thousands) |
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
Allowance for Loan Losses |
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
|
Beginning balance for Loan
Losses |
|
$ |
4,502 |
|
|
$ |
4,148 |
|
|
$ |
4,316 |
|
|
$ |
3,866 |
|
Provision for Loan Losses |
|
|
72 |
|
|
|
88 |
|
|
|
226 |
|
|
|
442 |
|
Charge offs: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial |
|
|
(0 |
) |
|
|
(3 |
) |
|
|
(269 |
) |
|
|
(80 |
) |
Real Estate |
|
|
(0 |
) |
|
|
(0 |
) |
|
|
0 |
|
|
|
0 |
|
Other |
|
|
(1 |
) |
|
|
(0 |
) |
|
|
(1 |
) |
|
|
0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Charge offs |
|
|
(1 |
) |
|
|
(3 |
) |
|
|
(270 |
) |
|
|
(80 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recoveries: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial |
|
|
180 |
|
|
|
18 |
|
|
|
475 |
|
|
|
23 |
|
Real Estate |
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
|
|
0 |
|
Other |
|
|
0 |
|
|
|
0 |
|
|
|
6 |
|
|
|
0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Recoveries |
|
|
180 |
|
|
|
18 |
|
|
|
481 |
|
|
|
23 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ending Balance |
|
$ |
4,753 |
|
|
$ |
4,251 |
|
|
$ |
4,753 |
|
|
$ |
4,251 |
|
ALLL to total loans |
|
|
1.16 |
% |
|
|
1.23 |
% |
|
|
1.16 |
% |
|
|
1.23 |
% |
Net Charge offs to average loans |
|
|
0.00 |
% |
|
|
0.02 |
% |
|
|
0.01 |
% |
|
|
0.02 |
% |
Securities Portfolio
The securities portfolio is comprised of U.S. Treasury securities, U.S. Agency securities,
mortgage-backed securities, and obligations of states and political subdivisions. Securities
classified as available for sale are recorded at fair value, while securities classified as held to
maturity are recorded at cost. Unrealized gains or losses on available for sale securities, net of
the deferred tax effect, are reported as increases or decreases in stockholders equity. Portions
of the securities portfolio are used for pledging requirements for deposits of state and local
subdivisions, securities sold under repurchase agreements, and FHLB advances. The Company does not
include federal funds sold as securities. These investments are included in cash and cash
equivalents.
Total available-for-sale securities increased $3.6 million or 3.8% at September 30, 2006 compared
to December 31, 2005, as maturities were reinvested. As of September 30, 2006, the Company has
pledged $1.0 million of securities for treasury, tax and loan accounts, $14.5 million for deposits
of public funds, approximately $32.5 million for collateralized repurchase agreements and $35.0
million towards Federal Home Loan Bank borrowings.
The following table summarizes the amortized cost and estimated fair value of the Companys
available-for-sale securities held on the dates indicated.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Dollars in thousands) |
as of September 30, 2006 |
|
|
|
Amortized |
|
|
Unrealized |
|
|
Unrealized |
|
|
Estimated |
|
|
|
Costs |
|
|
Gains |
|
|
Losses |
|
|
Fair Value |
|
|
U.S. government & agencies |
|
$ |
35,954 |
|
|
$ |
19 |
|
|
$ |
(785 |
) |
|
$ |
35,188 |
|
Obligations of state and
political subdivisions |
|
|
20,026 |
|
|
|
129 |
|
|
|
(159 |
) |
|
|
19,996 |
|
Mortgage backed securities |
|
|
41,558 |
|
|
|
124 |
|
|
|
(1,224 |
) |
|
|
40,458 |
|
Other securities |
|
|
2,000 |
|
|
|
0 |
|
|
|
(28 |
) |
|
|
1,972 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
99,538 |
|
|
$ |
272 |
|
|
$ |
(2,196 |
) |
|
$ |
97,614 |
|
|
35
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Dollars in thousands) |
as of September 30, 2005 |
|
|
|
Amortized |
|
|
Unrealized |
|
|
Unrealized |
|
|
Estimated |
|
|
|
Costs |
|
|
Gains |
|
|
Losses |
|
|
Fair Value |
|
|
U.S. government & agencies |
|
$ |
44,772 |
|
|
$ |
1 |
|
|
$ |
(583 |
) |
|
$ |
44,190 |
|
Obligations of state and
political subdivisions |
|
|
6,351 |
|
|
|
39 |
|
|
|
(123 |
) |
|
|
6,267 |
|
Mortgage backed securities |
|
|
44,306 |
|
|
|
0 |
|
|
|
(689 |
) |
|
|
43,617 |
|
Corporate bonds |
|
|
4,040 |
|
|
|
0 |
|
|
|
(7 |
) |
|
|
4,033 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
99,469 |
|
|
$ |
40 |
|
|
$ |
(1,402 |
) |
|
$ |
98,107 |
|
|
Economic factors may affect market pricing over the stated maturity of the security. The
unrealized losses associated with securities are not considered to be other-than-temporary because
their unrealized losses are related to changes in interest rates and do not affect the expected
cash flows of the underlying collateral or issuer. Security income is accrued when earned and
included in interest income. The Company requires a credit rating of A or higher on its initial
acquisition of investments and maintains an average rating of AA on the overall securities
portfolio. As of September 30, 2006, seventy-seven securities were in a loss position. Management
has evaluated each security in an unrealized loss position to determine if the impairment is
other-than-temporary. Management has determined that no security is other than temporarily
impaired. The unrealized losses are due to interest rate changes and the Company has the ability
and intent to hold all securities with identified impairments to the earlier of the forecasted
recovery or the maturity of the underlying security.
36
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Market risk is the risk that values of assets and liabilities or revenues will be adversely
affected by changes in market conditions such as market movements. The risk is inherent in the
financial instruments associated with our operations and activities including loans, deposits,
securities, short-term borrowings, long-term debt and derivatives. Market-sensitive assets and
liabilities are generated through loans and deposits associated with our banking business, our
Asset Liability Management (ALM) process, and credit risk mitigation activities. Traditional loan
and deposit products are reported at amortized cost for assets or the amount owed for liabilities.
These positions are subject to changes in economic value based on varying market conditions.
Interest rate risk is the effect of changes in economic value of our loans and deposits, as well as
our other interest rate sensitive instruments and is reflected in the levels of future income and
expense produced by these positions versus levels that would be generated by current levels of
interest rates. We seek to mitigate interest rate risk as part of the ALM process.
Interest rate risk represents the most significant market risk exposure to our financial
instruments. Our overall goal is to manage interest rate sensitivity so that movements in interest
rates do not adversely affect net interest income. Interest rates risk is measured as the potential
volatility in our net interest income caused by changes in market interest rates. Lending and
deposit taking create interest rate sensitive positions on our balance sheet. Interest rate risk
from these activities as well as the impact of ever changing market conditions is mitigated using
the ALM process. The Company does not operate a trading account and does not hold a position with
exposure to foreign currency exchange or commodities. The Company faces market risk through
interest rate volatility.
The Board of Directors has overall responsibility for the Companys interest rate risk management
policies. The Company has an Asset/Liability Management Committee (ALCO) which establishes and
monitors guidelines to control the sensitivity of earnings to changes in interest rates. The
internal ALCO Roundtable group maintains a net interest income forecast using different rate
scenarios utilizing a simulation model. This group updates the net interest income forecast for
changing assumptions and differing outlooks based on economic and market conditions.
The simulation model used includes measures of the expected repricing characteristics of
administered rate (NOW, savings and money market accounts) and non-related products (demand deposit
accounts, other assets and other liabilities). These measures recognize the relative sensitivity of
these accounts to changes in market interest rates, as demonstrated through current and historical
experience, recognizing the timing differences of rate changes. In the simulation of net interest
margin and net income the forecast balance sheet is processed against five rate scenarios. These
five rate scenarios include a flat rate environment, which assumes interest rates are unchanged in
the future and four additional rate ramp scenarios ranging for + 200 to 200 basis points in 100
basis point increments, unless the rate environment cannot move in these basis point increments
before reaching zero.
The formal policies and practices adopted by the Company to monitor and manage interest rate risk
exposure measure risk in two ways: (i) repricing opportunities for earning assets and
interest-bearing liabilities and (ii) changes in net interest income for declining interest rate
shocks of 100 to 200 basis points. Because of the Companys predisposition to variable rate pricing
and noninterest bearing demand deposit accounts, the Company is asset sensitive. As a result,
management anticipates that, in a declining interest rate environment, the Companys net interest
income and margin would be expected to decline, and, in an increasing interest rate environment,
the Companys net interest income and margin would be expected to increase. However, no assurance
can be given that under such circumstances the Company would experience the described relationships
to declining or increasing interest rates. Because the Company is asset sensitive, the Company is
adversely affected by declining rates rather than rising rates.
37
To estimate the effect of interest rate shocks on the Companys net interest income,
management uses a model to prepare an analysis of interest rate risk exposure. Such analysis
calculates the change in net interest income given a change in the federal funds rate of 100 or 200
basis points up or down. All changes are measured in dollars and are compared to projected net
interest income. At September 30, 2006, the estimated annualized reduction in net interest income
attributable to a 50 and 100 basis point decline in the federal funds rate was $579,968 and
$1,091,488, respectively. At December 31, 2005, the estimated annualized reduction in net interest
income attributable to a 100 and 200 basis point decline in the federal funds rate was $1,480,382
and $3,139,893, respectively, with a similar and opposite result attributable to a 100 and 200
basis point increase in the federal funds rate.
The ALCO has established a policy limitation to interest rate risk of -14% of net interest margin
and -12% of the present value of equity.
The securities portfolio is integral to our asset liability management process. The decision to
purchase or sell securities is based upon the current assessment of economic and financial
conditions, including the interest rate environment, liquidity, regulatory requirements and the
relative mix of our cash positions.
The Companys approach to managing interest rate risk may include the use of derivatives. This
helps to minimize significant, unplanned fluctuations in earnings, fair values of assets and
liabilities and cash flows caused by interest rate volatility. This approach involves modifying the
repricing characteristics of certain assets and liabilities so that changes in interest rates do
not have a significant adverse effect on the net interest margin and cash flows. As a result of
interest rate fluctuations, hedged assets and liabilities will gain or lose market value. In a fair
value hedging strategy, the effect of this unrealized gain or loss will generally be offset by
income or loss on the derivatives linked to the hedged assets and liabilities. For a cash flow
hedge, the change in the fair value of the derivative to the extent that it is effective is
recorded through other comprehensive income.
We may use derivatives as part of our interest rate risk management, including interest rate swaps,
caps and floors. At inception, the relationship between hedging instruments and hedged items is
formally documented with our risk management objective, strategy and our evaluation of
effectiveness of the hedge transactions. This includes linking all derivatives designated as fair
value or cash flow hedges to specific assets and liabilities on the balance sheet or to specific
transactions. Periodically, as required, we formally assess whether the derivative we designated
in the hedging relationship is expected to be and has been highly effective in offsetting changes
in fair values or cash flows of the hedged item.
The Companys use of derivatives is monitored by the Directors ALCO committee. At the March 2006
Board of Directors meeting the Board of Directors approved a cash flow hedge up to a notional
amount of $100 million. During the third quarter 2006, The ALCO Roundtable initiated a forward
starting swap transaction with Morgan Keegan as the counterparty. Two transactions, $60 million and
$40 million, aggregating $100 million were executed, both commencing on December 1, 2006 and
maturing on June 1, 2009. Under the $60 million swap transaction, the Company will receive, on a
monthly basis, a fixed rate of 7.90% and pay Morgan Keegan a floating rate payment tied to the Wall
Street Prime Index commencing on January 1, 2007. Under the $40 million swap transaction the
Company will receive, on a monthly basis, a fixed rate of 7.95% and pay Morgan Keegan a floating
rate payment tied to the Wall Street Prime Index commencing on January 1, 2007. The $40 million
swap has a Prime Indexed embedded floor of 6.5%. The purpose of this strategy is to protect or
hedge net interest income in a declining rate environment. Annually, the Company will protect
approximately $388,000 and $640,000 should the Prime Indexed rate decline by 100 to 200 basis
points, respectively.
38
ITEM 4. CONTROLS AND PROCEDURES
As required by SEC rules the Company carried out an evaluation, under the supervision and with the
participation of the Companys management, including the Companys President and Chief Executive
Officer and with the Companys Chief Financial Officer, of the effectiveness of the design and
operation of the Companys disclosure controls and procedures, pursuant to Exchange Act Rule
13a-14.
As part of the disclosure controls and procedures, management has formed the SEC Disclosure
Committee. This committee reviews the quarterly filing to a disclosure checklist to ensure that all
functional areas of the Company have participated in the disclosure review. In addition,
operational and accounting audits are performed ongoing throughout the year by the Companys
internal auditors to support the control structure.
Based upon that evaluation, the Companys President and Chief Executive Officer along with the
Companys Chief Financial Officer concluded that the Companys disclosure controls and procedures
are effective in timely alerting them to material information relating to the Company (including
its consolidated subsidiaries) required to be included in this Form 10-Q.
There have been no significant changes in the Companys internal controls, or in other factors,
which would significantly affect internal controls subsequent to the date the Company carried out
its evaluation.
39
PART II. Other Information
Item 1. Legal proceedings
The Company is involved in various pending and threatened legal actions arising in the ordinary
course of business. The Company maintains reserves for losses from legal actions, which are both
probable and estimable. In the opinion of management, the disposition of claims, currently pending
will not have a material adverse affect on the Companys financial position or results of
operations.
Item 1a. Risk Factors
There have been no material changes from the risk factors previously disclosed in the registrants
Form 10-K.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None
Item 3. Defaults upon Senior Securities
N/A.
Item 4. Submission of Matters to a vote of Security Holders
N/A
Item 5. Other Information
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 |
40
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: November 3, 2006
|
|
|
|
/s/ Linda J. Miles |
|
|
|
|
Linda J. Miles |
|
|
|
|
Executive Vice President & |
|
|
|
|
Chief Financial Officer |
41