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SEC File No. 0-28938
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
AMENDMENT NO. 1
TO
FORM 10/A
GENERAL FORM FOR REGISTRATION OF SECURITIES
PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934
Coast Bancorp
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(Exact name of registrant as specified in its charter)
California 77-0401327
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
740 Front Street 95060
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(Address of principal (Zip Code)
executive offices)
Santa Cruz, California
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(City and State of principal executive offices)
Registrant's telephone number, including area code (408) 458-4500
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Securities to be registered pursuant to Section 12(b) of the Act:
Name of each exchange on
Title of each class which each class is
to be so registered to be registered
None None
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Securities to be registered pursuant to Section 12(g) of the Act:
Common Stock, no par value
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(Title of class)
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I N D E X
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DESCRIPTION PAGE NO.
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ITEM 1. BUSINESS.............................................................1
ITEM 2. SELECTED FINANCIAL DATA.............................................19
ITEM 3. PROPERTIES..........................................................41
ITEM 4. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT......43
ITEM 5. DIRECTORS AND EXECUTIVE OFFICERS ...................................44
ITEM 6. EXECUTIVE COMPENSATION..............................................46
ITEM 7. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS......................50
ITEM 8. LEGAL PROCEEDINGS...................................................50
ITEM 9. MARKET PRICE OF AND DIVIDENDS ON THE REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS.........................................50
ITEM 10. RECENT SALES OF UNREGISTERED SECURITIES.............................51
ITEM 11. DESCRIPTION OF REGISTRANT'S SECURITIES TO BE
REGISTERED..........................................................52
ITEM 12. INDEMNIFICATION OF DIRECTORS AND OFFICERS...........................53
ITEM 13. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.........................54
ITEM 14. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE................................................73
ITEM 15. FINANCIAL STATEMENTS AND EXHIBITS...................................73
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ITEM 1. BUSINESS
GENERAL
Coast Bancorp ("Company") is a California corporation and the bank
holding company for Coast Commercial Bank ("Bank"), located in Santa Cruz,
California. The Bank was incorporated as a California state banking corporation
on April 27, 1981, and commenced operations on February 17, 1982. The Company
was incorporated on January 27, 1995 and became the bank holding company for the
Bank on July 25, 1995, pursuant to the Bank Holding Company Act.
GENERAL BANKING SERVICES
The Bank engages in a broad range of financial services activities
in its primary market of Santa Cruz County, and also serves the adjacent
areas of San Benito, Santa Clara and Monterey counties. The City of Santa
Cruz, situated 80 miles south of San Francisco and 35 miles southwest of San
Jose, is the largest city in Santa Cruz County.
The Bank emphasizes the needs of local business people and serves
individuals, retailers, professionals and small and medium-sized businesses
and operates through its corporate offices located in Santa Cruz, California
and through its branch offices located in Santa Cruz, Aptos, Scotts Valley
and Watsonville, California. Services offered include a full range of
commercial banking services, including the acceptance of demand, savings and
time deposits, overdraft protection for checking accounts, and the making of
commercial, real estate (including residential mortgage), personal, home
improvement, automobile and other installment and term loans. The Bank is
one of the largest Small Businesses Administration ("SBA") lenders
in California and has been granted status as a "preferred lender", allowing
it to make SBA loans without first having the SBA approve the loan, and is a
seller/servicer of Freddie Mac mortgage loans. It also offers travelers'
checks, safe deposit boxes, notary public services, Visa credit cards,
courier service for pick-up of non-cash deposits, ATM cards usable at many
ATM's nationwide and a 24 hour telephone service for deposit and loan account
information. The Bank operates automated teller machines at its branches and
at Seascape Village in Aptos, California. The Bank also has an Investment
Services Department which provides financial planning services, financial
consulting, asset management and the purchase and sale of stock and bonds
through a third party provider.
The total population base in Santa Cruz County is approximately
248,900 people. Santa Cruz County's economic base has several significant
components including education (e.g., the University of California at Santa
Cruz); disk drive and software companies headquartered in the Northern part of
the county due to its proximity to the high tech base of Silicon Valley in
adjacent Santa Clara County; tourism because of the beaches and Santa Cruz
Boardwalk; and agriculture in the Southern part of the county in and around
Watsonville.
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The Bank currently has no applications pending to open additional
branch offices, but the Bank may increase the number of its banking
facilities in the Bank's trade areas when such expansion is appropriate.
Banking facilities that may be considered in any future expansion include
traditional branch offices and mini-branch offices as in-fill strategies and
loan production offices in neighboring counties. No such facilities are
currently under development. The Bank's expansion is, of course, dependent on
obtaining the necessary governmental approvals, a continued earnings pattern
and absence of adverse effects from economic conditions, governmental
monetary policies or competition. No assurance can be given that the Bank's
expansion can be accomplished without the Bank being required to raise
additional capital in the future.
The Bank is a member of the Federal Deposit Insurance Corporation and
each depositor's account is insured up to $100,000. The Bank does not directly
offer trust services or international banking services and does not plan to do
so in the near future.
COMPETITION
The Bank's service area consists of Santa Cruz County and extends into
the adjacent areas of San Benito, Santa Clara and Monterey counties. It is
estimated that Santa Cruz County contains 35 competitive banking offices, of
which 2 offices are owned by other independent banks. However, the Bank is the
only independent bank headquartered in Santa Cruz County. It is estimated that
the primary service area also contains 20 offices of savings and loan
associations, and 5 offices of credit unions. Based upon total bank deposits as
of June 30, 1995 (the last period for which data is available), the Bank is
sixth in market share in Santa Cruz County.
The banking business in California generally, and in the Bank's
primary service area specifically is highly competitive with respect to both
loans and deposits, and is dominated by a relatively small number of major banks
with many offices operating over a wide geographic area. Among the advantages
such major banks have over the Bank are their ability to finance wide ranging
advertising campaigns and to allocate their investment assets to regions of
highest yield and demand. Such institutions offer certain services such as
trust services and international banking which are not offered directly by the
Bank (but are offered indirectly through correspondent institutions) and, by
virtue of their greater total capitalization (legal lending limits to an
individual customer are limited to a percentage of a bank's total capital),
they have substantially higher lending limits than does the Bank. Other
entities, both governmental and in private industry, seeking to raise capital
through the issuance and sale of debt or equity securities also provide
competition for the Bank in the acquisition of deposits. The Bank also
competes with money-market funds for deposits.
In order to compete with major financial institutions and other
competitors in its service areas, the Bank builds and retains its customer
base by drawing upon the experience of its executive and senior officers in
serving business individuals, and upon its specialized services, local
promotional activities and the personal contacts made by its officers,
directors and employees. The officers and employees of the Bank are strongly
encouraged to participate in local civic and charitable organizations and
events, which has also served to promote the Bank's business. For customers
whose loan demand exceeds the Bank's legal lending limit, the
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Bank may arrange for such loans on a participation basis with correspondent
banks. The Bank's lending limit is 15% of its capital and allowance for loan
losses for unsecured loans and 25% of its capital and allowance for loan losses
for secured loans.
DEPOSITS
Most of the Bank's deposits are attracted from individuals, small and
medium-sized businesses and professionals. A material portion of the Bank's
deposits have not been obtained from a single person or a few persons, the loss
of any one or more of which would not have a materially adverse effect on the
business of the Bank.
LENDING ACTIVITIES
The Bank engages in a full complement of lending activities, including
commercial, real estate, SBA and consumer/installment loans.
According to reports from the SBA for the federal fiscal year ended
September 30, 1996, the Bank is one of the largest lenders in Northern
California in the SBA loan program. The Bank makes SBA loans from $20,000 to
$1,500,000. SBA 7(a) loans are for such purposes as working capital,
inventory and other purposes, and are government-guaranteed up to 80% of the
amount of the loan. The Bank also makes SBA loans for the purchase or
construction of owner occupied real estate which are also guaranteed up to
80%. The SBA loan program is subject to political and budgetary uncertainty
which in recent years has resulted in a reduction of the guaranteed portion
of SBA loans and lower maximum loan amounts. For example, during the federal
fiscal year ended September 30, 1995, budgetary constraints required the SBA
to lower the maximum loan amount to $500,000. In October 1995, legislation
restored the maximum loan amount to $1,500,000 and imposed additional fees on
the program's lenders to raise additional revenue for the SBA.
The Bank makes real estate construction loans for the construction
of single and multi-family residential units, commercial and industrial
properties, and SBA approved owner occupied commercial real estate. These
loans typically have pre-qualified take outs for permanent financing or
stand-by commitments and a maximum loan to value ratio of 70%. The Bank also
makes loans for lot or land development with a maximum loan to value ratio of
60%. Construction loans are secured by a first deed of trust. As of
September 30, 1996, the Bank had outstanding real estate construction loans
of $14,726,000 representing 12% of the Bank's loan portfolio.
The Bank also makes commercial real estate loans for other purposes
such as the purchase or refinance of offices, warehouses, professional
buildings, and industrial buildings, including SBA loans. A portion of these
loans are SBA loans which are guaranteed by the U.S. government in an amount
up to 90% of the loan. Commercial real estate loans generally are fully
amortized over 15 years or have a 10 year term with a twenty-five year
amortization, and typically have a maximum loan to value ratio of 70%. SBA
loans
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for this purpose have a term of up to 25 years and a maximum loan to value
ratio of 90%. The Bank had outstanding real estate term loans of $62,332,000
or 52% of the Bank's loan portfolio at September 30, 1996.
The Bank makes residential mortgage loans which are typically 30
year loans with either adjustable or fixed interest rates. These loans are
sold to Freddie Mac on a "servicing retained" basis, i.e., the Bank continues
to be paid a fee for collecting payments on the loan and performing other
services, or to other investors on a "servicing released" basis, i.e. the
Bank has no further involvement in the loan.
The Bank makes commercial loans to small-to-medium sized businesses
for working capital, lines of credit, loans secured by inventory and
receivables, and term loans for equipment and for working capital.
Typically, the Bank obtains a security interest in the collateral being
financed or in other available assets of the customer. Loan to value ratios
vary but generally do not exceed 80%. As of September 30, 1996, the Bank had
$34,354,000 in loans for these purposes representing 29% of the Bank's loan
portfolio.
Consumer and installment loans are made for household, family and
other personal expenditures on both a secured and unsecured basis. As of
September 30, 1996 the Bank had a total of $7,839,000 in consumer and
installment loans representing 7% of the Bank's loan portfolio.
The Bank sells the guaranteed portion of SBA loans which it
originates into the secondary market as a source of liquidity and earnings.
Additionally, the Bank sells residential mortgage loans it originates into
the secondary market in order to divest itself of the interest rate risk
associated with these mostly fixed interest rate products. Through 1995, the
Bank accounted for these loans in accordance with the Emerging Issues Task
Force Issues No. 88-11, "Allocation of Recorded Investment when a Loan is
Sold", No. 86-38, "Implication of Mortgage Prepayments on Amortization of
Servicing Rights", and No. 84-21, "Sale of a Loan with a Partial
Participation Retained". No recourse is available to buyers of these loans
after 90 days from the sale. Total loans serviced by the Bank for other
investors were $132,773,000 as of September 30, 1996 and $117,853,000 as of
December 31, 1995. For the years ended December 31, 1995, 1994 and 1993,
total loans sold by the Bank were $20,093,000, $34,673,000 and $45,405,000
respectively, and were $34,942,000 for the nine months ended September 30, 1996.
In May of 1995, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 122, "Accounting for Mortgage
Servicing Rights". This statement eliminates the accounting distinction
between rights to service mortgage loans for others that are acquired through
loan origination activities and those acquired through purchase transactions.
Under this statement, if the Company sells or securities loans and retains
the mortgage servicing rights, the Company should allocate the total cost of
the mortgage loan to the loan and the mortgage servicing rights based on
their relative fair values. Any cost allocated to the mortgage servicing
rights should be recognized as a separate asset and amortized over the period
of estimated net service income. The Company adopted this statement on
January 1, 1996.
See "ACCOUNTING PRONOUNCEMENTS" for a discussion of the Financial
Accounting Standards Board's recently issued Statement of Financial
Accounting Standards No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities," which supercedes
Statement No. 122 effective January 1, 1997.
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Credit risk relates to the ability of a borrower to repay the
principal and interest on their loan and is managed by adherence to credit
standards and the taking of collateral to secure most of the Bank's loans.
These risks are inherent in commercial lending generally. Certain risks are
specific to particular types of lending in which the Bank engages such as
real estate lending. The major risk inherent in real estate lending is the
potential decline in the value of the property for market reasons or due to
the condition of the property.
OTHER SERVICES
The Bank has established its own Investment Services Department which
employs 2 investment professionals. The Investment Services Department offers
financial planning services; asset management services through the use of two
unaffiliated investment managers; retirement plans such as 401(k) plans, IRAs
and SEPs; mutual funds; and the purchase and sale of stocks and bonds on an
unsolicited basis.
The Investment Services Department also offers trust services through
Enterprise Trust and Investment Company of Los Gatos, California, an
unaffiliated independent trust company.
SUPERVISION AND REGULATION
The Bank is chartered under the banking laws of the State of California
and is subject to the supervision of, and is regularly examined by, the
Superintendent and the FDIC.
The Company is a bank holding company within the meaning of the Bank
Holding Company Act, "BHC Act", is registered as such with and is subject to
the supervision of the Federal Reserve Board ("FRB").
Certain legislation and regulations affecting the businesses of the Company
and the Bank are discussed below.
GENERAL
As a bank holding company, the Company is subject to the BHC Act. The
Company reports to, registers with, and is examined by the FRB. The FRB also
has the authority to examine the Company's subsidiaries which includes the Bank.
The FRB requires the Company to maintain certain levels of capital.
See" Capital Standards" herein. The FRB also has the authority to take
enforcement action against any bank holding company that commits any unsafe or
unsound practice, or violates certain laws, regulations, or conditions imposed
in writing by the FRB. See "Prompt Corrective Action and Other Enforcement
Mechanisms" herein.
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Under the BHC Act, a company generally must obtain the prior approval
of the FRB before it exercises a controlling influence over, or acquires
directly or indirectly, more than 5% of the voting shares or substantially all
of the assets of any bank or bank holding company. Thus, the Company is
required to obtain the prior approval of the FRB before it acquires, merges or
consolidates with any bank, or bank holding company; any company seeking to
acquire, merge or consolidate with the Company also would be required to obtain
the FRB's approval.
The Company is generally prohibited under the BHC Act from acquiring
ownership or control of more than 5% of the voting shares of any company that is
not a bank or bank holding company and from engaging directly or indirectly in
activities other than banking, managing banks, or providing services to
affiliates of the holding company. A bank holding company, with the approval of
the FRB, may engage, or acquire the voting shares of companies engaged, in
activities that the FRB has determined to be so closely related to banking or
managing or controlling banks as to be a proper incident thereto. A bank
holding company must demonstrate that the benefits to the public of the proposed
activity will outweigh the possible adverse effects associated with such
activity.
The FRB generally prohibits a bank holding company from declaring or
paying a cash dividend which would impose undue pressure on the capital of
subsidiary banks or would be funded only through borrowing or other arrangements
that might adversely affect a bank holding company's financial position. The
FRB's policy is that a bank holding company should not continue its existing
rate of cash dividends on its common stock unless its net income is sufficient
to fully fund each dividend and its prospective rate of earnings retention
appears consistent with its capital needs, asset quality and overall financial
condition.
Transactions between the Company, the Bank and any future subsidiaries
of the Company are subject to a number of other restrictions. FRB policies
forbid the payment by bank subsidiaries of management fees which are
unreasonable in amount or exceed the fair market value of the services rendered
(or, if no market exists, actual costs plus a reasonable profit). Additionally,
a bank holding company and its subsidiaries are prohibited from engaging in
certain tie-in arrangements in connection with the extension of credit, sale or
lease of property, or furnishing of services. Subject to certain limitations,
depository institution subsidiaries of bank holding companies may extend credit
to, invest in the securities of, purchase assets from, or issue a guarantee,
acceptance, or letter of credit on behalf of, an affiliate, provided that the
aggregate of such transactions with affiliates may not exceed 10% of the capital
stock and surplus of the institution, and the aggregate of such transactions
with all affiliates may not exceed 20% of the capital stock and surplus of such
institution. The Company may only borrow from depository institution
subsidiaries if the loan is secured by marketable obligations with a value of a
designated amount in excess of the loan. Further, the Company may not sell a
low-quality asset to a depository institution subsidiary.
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CAPITAL STANDARDS
The FRB, FDIC and other federal banking agencies have risk based
capital adequacy guidelines intended to provide a measure of capital adequacy
that reflects the degree of risk associated with a banking organization's
operations for both transactions reported on the balance sheet as assets, and
transactions, such as letters of credit and recourse arrangements, which are
reported as off balance sheet items. Under these guidelines, nominal dollar
amounts of assets and credit equivalent amounts of off balance sheet items are
multiplied by one of several risk adjustment percentages, which range from 0%
for assets with low credit risk, such as certain U.S. government securities, to
100% for assets with relatively higher credit risk, such as business loans.
A banking organization's risk based capital ratios are obtained by
dividing its qualifying capital by its total risk-adjusted assets and off
balance sheet items. The regulators measure risk-adjusted assets and off
balance sheet items against both total qualifying capital (the sum of Tier 1
capital and limited amounts of Tier 2 capital) and Tier 1 capital. Tier 1
capital consists of common stock, retained earnings, noncumulative perpetual
preferred stock and minority interests in certain subsidiaries, less most other
intangible assets. Tier 2 capital may consist of a limited amount of the
allowance for possible loan and lease losses and certain other instruments with
some characteristics of equity. The inclusion of elements of Tier 2 capital are
subject to certain other requirements and limitations of the federal banking
agencies. Since December 31, 1992, the federal banking agencies have required a
minimum ratio of qualifying total capital to risk-adjusted assets and off
balance sheet items of 8%, and a minimum ratio of Tier 1 capital to risk-
adjusted assets and off balance sheet items of 4%.
In addition to the risk-based guidelines, federal banking regulators
require banking organizations to maintain a minimum amount of Tier 1 capital to
total assets, referred to as the leverage ratio. For a banking organization
rated in the highest of the five categories used by regulators to rate banking
organizations, the minimum leverage ratio of Tier 1 capital to total assets is
3%. It is improbable, however, that an institution with a 3% leverage ratio
would receive the highest rating by the regulators since a strong capital
position is a significant part of the regulators' rating. For all banking
organizations not rated in the highest category, the minimum leverage ratio is
at least 100 to 200 basis points above the 3% minimum. Thus, the effective
minimum leverage ratio, for all practical purposes, is at least 4% or 5%. In
addition to these uniform risk-based capital guidelines and leverage ratios that
apply across the industry, the regulators have the discretion to set individual
minimum capital requirements for specific institutions at rates significantly
above the minimum guidelines and ratios.
The following table presents the capital ratios for the Company and
the Bank as of September 30, 1996.
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Minimum
The Company The Bank Requirement
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Ratio Ratio
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RISK-BASED CAPITAL RATIO:
Tier 1 Capital . . . . 15.7% 13.8% 4.0%
Total Capital. . . . . 16.9% 15.1% 8.0%
TIER 1 CAPITAL LEVERAGE RATIO: 9.9% 8.7% 4.0%
As required by Federal Deposit Insurance Corporation Improvement Act
of 1991 ("FDICIA"), the federal financial institution agencies solicited
comments in September 1993 on a proposed rule and method of incorporating an
interest rate risk component into the current risk-based capital guidelines,
with the goal of ensuring that institutions with high levels of interest rate
risk have sufficient capital to cover their exposures. Interest rate risk is
the risk that changes in market interest rates might adversely affect a bank's
financial condition. Under the proposal, interest rate risk exposures would be
quantified by weighting assets, liabilities and off-balance sheet items by risk
factors which approximate sensitivity to interest rate fluctuations.
As proposed, institutions identified as having an interest rate risk exposure
greater than a defined threshold would be required to allocate additional
capital to support this higher risk. Higher individual capital allocations
could be required by the bank regulators based upon supervisory concerns. The
agencies adopted a final rule effective September 1, 1995 which is substantially
similar to the proposed rule, except that the final rule does not establish (1)
a measurement framework for assessing the level of a bank's interest rate
exposure; nor (2) a minimum level of exposure above which a bank will be
required to hold additional capital for interest rate risk if it has a
significant exposure or a weak interest rate risk
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management process. The agencies also solicited comments on and are continuing
their analysis of a proposed policy statement which would establish a framework
to measure and monitor interest rate exposure.
PROMPT CORRECTIVE ACTION AND OTHER ENFORCEMENT MECHANISMS
FDICIA requires each federal banking agency to take prompt corrective
action to resolve the problems of insured depository institutions, including but
not limited to those that fall below one or more prescribed minimum capital
ratios. The law requires each federal banking agency to promulgate regulations
defining the following five categories in which an insured depository
institution will be placed, based on the level of its capital ratios: well
capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized and critically undercapitalized.
In September 1992, the federal banking agencies issued uniform final
regulations implementing the prompt corrective action provisions of FDICIA. An
insured depository institution generally will be classified in the following
categories based on capital measures indicated below:
"WELL-CAPITALIZED"
TOTAL RISK-BASED CAPITAL OF 10% OR MORE;
TIER 1 RISK-BASED RATIO CAPITAL OF 6% OR MORE; AND
LEVERAGE RATIO OF 5% OR MORE.
"ADEQUATELY CAPITALIZED"
TOTAL RISK-BASED CAPITAL OF AT LEAST 8%;
TIER 1 RISK-BASED CAPITAL OF AT LEAST 4%; AND
LEVERAGE RATIO OF AT LEAST 4%.
"UNDERCAPITALIZED"
TOTAL RISK-BASED CAPITAL LESS THAN 8%;
TIER 1 RISK-BASED CAPITAL LESS THAN 4%; OR
LEVERAGE RATIO LESS THAN 4%.
"SIGNIFICANTLY UNDERCAPITALIZED"
TOTAL RISK-BASED CAPITAL LESS THAN 6%;
TIER 1 RISK-BASED CAPITAL LESS THAN 3%; OR
LEVERAGE RATIO LESS THAN 3%.
"CRITICALLY UNDERCAPITALIZED"
TANGIBLE EQUITY TO TOTAL ASSETS LESS THAN 2%.
An institution that, based upon its capital levels, is classified as
well-capitalized, adequately capitalized or undercapitalized may be treated as
though it were in the next
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lower capital category if the appropriate federal banking agency, after notice
and opportunity for hearing, determines that an unsafe or unsound condition or
an unsafe or unsound practice warrants such treatment. At each successive lower
capital category, an insured depository institution is subject to more
restrictions. The federal banking agencies, however, may not treat an
institution as "critically undercapitalized" unless its capital ratio actually
warrants such treatment.
If an insured depository institution is undercapitalized, it will be
closely monitored by the appropriate federal banking agency. Undercapitalized
institutions must submit an acceptable capital restoration plan with a guarantee
of performance issued by the holding company. Further restrictions and
sanctions are required to be imposed on insured depository institutions that are
critically undercapitalized. The most important additional measure is that the
appropriate federal banking agency is required to either appoint a receiver for
the institution within 90 days or obtain the concurrence of the FDIC in another
form of action.
In addition to measures taken under the prompt corrective action
provisions, commercial banking organizations may be subject to potential
enforcement actions by the federal regulators for unsafe or unsound practices in
conducting their businesses or for violations of any law, rule, regulation or
any condition imposed in writing by the agency or any written agreement with the
agency. Enforcement actions may include the imposition of a conservator or
receiver, the issuance of a cease-and-desist order that can be judicially
enforced, the termination of insurance of deposits (in the case of a depository
institution), the imposition of civil money penalties, the issuance of
directives to increase capital, the issuance of formal and informal agreements,
the issuance of removal and prohibition orders against institution-affiliated
parties and the enforcement of such actions through injunctions or restraining
orders based upon a prima facie showing by the agency that such relief is
appropriate. Additionally, a holding company's inability to serve as a source
of strength to its subsidiary banking organizations could serve as an additional
basis for a regulatory action against the holding company. The Company is
classified as "well-capitalized" under the above guidelines.
SAFETY AND SOUNDNESS STANDARDS
FDICIA also implemented certain specific restrictions on transactions
and required the regulators to adopt overall safety and soundness standards for
depository institutions related to internal control, loan underwriting and
documentation, and asset growth. Among other things, FDICIA limits the interest
rates paid on deposits by undercapitalized institutions, the use of brokered
deposits and the aggregate extension of credit by a depository institution to an
executive officer, director, principal stockholder or related interest, and
reduces deposit insurance coverage for deposits offered by undercapitalized
institutions for deposits by certain employee benefits accounts.
The federal financial institution agencies published a final rule
effective on August 9, 1995, implementing safety and soundness standards. The
FDICIA added a new
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Section 39 to the Federal Deposit Insurance Act which required the agencies to
establish safety and soundness standards for insured financial institutions
covering (1) internal controls, information systems and internal audit systems;
(2) loan documentation; (3) credit underwriting; (4) interest rate exposure; (5)
asset growth; (6) compensation, fees and benefits; (7) asset quality, earnings
and stock valuation; and (8) excessive compensation for executive officers,
directors or principal shareholders which could lead to material financial loss.
The agencies issued the final rule in the form of guidelines only for
operational, managerial and compensation standards and reissued for comment
proposed standards related to asset quality and earnings which are less
restrictive than the earlier proposal in November 1993. Unlike the earlier
proposal, the guidelines under the final rule do not apply to depository
institution holding companies and the stock valuation standard was eliminated.
If an agency determines that an institution fails to meet any standard
established by the guidelines, the agency may require the financial institution
to submit to the agency an acceptable plan to achieve compliance with the
standard. If the agency requires submission of a compliance plan and the
institution fails to timely submit an acceptable plan or to implement an
accepted plan, the agency must require the institution to correct the
deficiency. Under the final rule, an institution must file a compliance plan
within 30 days of a request to do so from the institution's primary federal
regulatory agency. The agencies may elect to initiate enforcement action in
certain cases rather than rely on an existing plan particularly where failure to
meet one or more of the standards could threaten the safe and sound operation of
the institution.
RESTRICTIONS ON DIVIDENDS AND OTHER DISTRIBUTIONS
The power of the board of directors of an insured depository
institution to declare a cash dividend or other distribution with respect to
capital is subject to statutory and regulatory restrictions which limit the
amount available for such distribution depending upon the earnings, financial
condition and cash needs of the institution, as well as general business
conditions. FDICIA prohibits insured depository institutions from paying
management fees to any controlling persons or, with certain limited exceptions,
making capital distributions, including dividends, if, after such transaction,
the institution would be undercapitalized.
The FRB has issued a policy statement that a bank holding company
should not declare or pay a cash dividend to its stockholders if the dividend
would place undue pressure on the capital of its subsidiary banks or if the
dividend could be funded only through additional borrowings or other
arrangements that might adversely affect the financial position of the bank
holding company. Specifically, a bank holding company should not continue its
existing rate of cash dividends on its common stock unless its net income is
sufficient to fully fund each consistent with its capital needs, asset quality,
and overall financial condition. Further, the Company is expected to act as a
source of financial strength for each of its subsidiary banks and to commit
resources to support each subsidiary bank in circumstances when it might not do
so absent such policy.
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The Company's ability to pay dividends depends in large part on the
ability of the Bank to pay management fees and dividends to the Company. The
ability of its subsidiary banks to pay dividends will be subject to restrictions
set forth in the California Banking Law and regulations of the FDIC.
The payment of dividends by a state bank is further restricted by
additional provisions of state law. Under Section 642 of the California
Financial Code, funds available for cash dividend payments by a bank are
restricted to the lesser of: (i) retained earnings; or (ii) the bank's net
income for its three fiscal years (less any distributions to stockholders made
during such period). However, under Section 643 of the California Financial
Code, with the prior approval of the Superintendent, a bank may pay cash
dividends in an amount not to exceed the greater of the: (1) retained earnings
of the bank; (2) net income of the bank for its last fiscal year; or (3) net
income of the bank for its current fiscal year. However, if the Superintendent
finds that the stockholders' equity of the bank is not adequate or that the
payment of a dividend would be unsafe or unsound, the Superintendent may order
such bank not to pay a dividend to stockholders. Currently, it is permissible
for the Bank to pay cash dividends without the Superintendent's prior approval.
Additionally, under FDICIA, a bank may not make any capital
distribution, including the payment of dividends, if after making such
distribution the bank would be in any of the "under-capitalized" categories
under the FDIC's Prompt Corrective Action regulations.
Also, under the Financial Institution's Supervisory Act, the FDIC also
has the authority to prohibit a bank from engaging in business practices which
the FDIC considers to be unsafe or unsound. It is possible, depending upon the
financial condition of a bank and other factors, that the FDIC could assert that
the payment of dividends or other payments in some circumstances might be such
an unsafe or unsound practice and thereby prohibit such payment.
FDIC INSURANCE ASSESSMENTS
The FDIC has established several mechanisms to increase funds to
protect deposits insured by the Bank Insurance Fund ("BIF") administered by the
FDIC. The FDIC is authorized to borrow up to $30 billion from the U.S.
Treasury; borrow from the Federal Financing Bank up to 90% of the fair market
value of assets of institutions acquired by the FDIC as receiver; and borrow
from depository institutions that are members of the BIF. Any borrowings not
repaid by asset sales are to be repaid through insurance premiums assessed to
member institutions. Such premiums must be sufficient to repay any borrowed
funds within 15 years and provide insurance fund reserves of $1.25 for each $100
of insured deposits. The BIF now has reserves of $1.25 for each $100 of insured
deposits. FDICIA also provides authority for special assessments against
insured deposits.
12
<PAGE>
As required by FDICIA, the FDIC has adopted a risk-based assessment
system for deposit insurance premiums. Under this system, depository
institutions are charged anywhere from 0 cents to 27 cents for every $100 in
insured domestic deposits, based on such institutions' capital levels and
supervisory subgroup assignment subject to a minimum $2,000 annual assessment
for all institutions regardless of their supervisory subgroup classification.
The FDIC's rules set forth which supervisory subgroup assignments are made by
the FDIC, the assessment classification review procedure, provide for the
assignment of new institutions to the "well-capitalized" assessment group,
set forth an institution is to make timely adjustments as appropriate, and
set forth the basis, and report data, on which capital group assignments are
made for insured branches of foreign banks, and expressly address the
treatment of certain lifeline accounts for which special assessment treatment
is given. FDICIA prohibits assessment rates from falling below the current
annual assessment rate of 23 cents per $100 of eligible deposits if the FDIC
has outstanding borrowings from the United States Treasury Department or the
1.25% designated reserve ratio has not been met. The BIF has reached the
1.25% reserve ratio.
INTERSTATE BANKING AND BRANCHING
On September 29, 1994, the Reigle/Neal Interstate Banking and
Branching Efficiency Act of 1994 (the "Interstate Act") was signed into law.
This Interstate Act effectively permits nationwide banking. The Interstate Act
provides that one year after enactment, adequately capitalized and adequately
managed bank holding companies may acquire banks in any state, even in those
jurisdictions that currently bar acquisition by out-of-state institutions,
subject to deposit concentration limits. The deposit concentration limits
provide that regulatory approval by the Federal Reserve Board may not be granted
for a proposed interstate acquisition if after the acquisition, the acquiror on
a consolidated basis would control more than 10% of the total deposits
nationwide or would control more than 30% of deposits in the state where the
acquiring institution is located. The deposit concentration state limit does
not apply for initial acquisitions in a state and in every case, may be waived
by the state regulatory authority. Interstate acquisitions are subject to
compliance with the Community Reinvestment Act ("CRA"). States are permitted to
impose age requirements not to exceed five years on target banks for interstate
acquisitions.
Branching between states may be accomplished either by merging
separate banks located in different states into one legal entity, or by
establishing de novo branches in another state. Consolidation of banks is not
permitted until June 1, 1997 provided that the state has not passed legislation
"opting-out" of interstate branching. If a state opts-out prior to June 1,
1997, then banks located in that state may not participate in interstate
branching. A state may opt-in to interstate branching by bank consolidation or
by de novo branching by passing appropriate legislation earlier than June 1,
1997. California has passed legislation to opt-in to this legislation.
Interstate branching is also subject to a 30% statewide deposit concentration
limit on a
13
<PAGE>
consolidated basis, and a 10% nationwide deposit concentration limit. The laws
of the host state regarding community reinvestment, fair lending, consumer
protection (including usury limits) and establishment of branches shall apply to
the interstate branches.
De novo branching by an out-of-state bank is not permitted unless the
host state expressly permits de novo branching by banks from out-of-state. The
establishment of an initial de novo branch in a state is subject to the same
conditions as apply to initial acquisition of a bank in the host state other
than the deposit concentration limits.
Effective one year after enactment, the Interstate Act permits bank
subsidiaries of a bank holding company to act as agents for affiliated
depository institutions in receiving deposits, renewing time deposits, closing
loans, servicing loans and receiving payments on loans and other obligations. A
bank acting as agent for an affiliate shall not be considered a branch of the
affiliate. Any agency relationship between affiliates must be on terms that are
consistent with safe and sound banking practices. The authority for an agency
relationship for receiving deposits includes the taking of deposits for an
existing account but is not meant to include the opening or origination of new
deposit accounts. Subject to certain conditions, insured saving associations
which were affiliated with banks as of June 1, 1994, may act as agents for such
banks. An affiliate bank or saving association may not conduct any activity as
an agent which such institution is prohibited from conducting as principal.
If an interstate bank decides to close a branch located in a low-or
moderate-income area, it must comply with additional branch closing notice
requirements. The appropriate regulatory agency is authorized to consult with
community organizations to explore options to maintain banking services in the
affected community where the branch is to be closed.
To ensure that interstate branching does not result in taking deposits
without regard to a community's credit needs, the regulatory agencies are
directed to implement regulations prohibiting interstate branches from being
used as "deposit production offices." The regulations to implement this
provision are due by June 1, 1997. The regulations must include a provision to
the effect that if loans made by an interstate branch are less than fifty
percent of the average of all depository institutions in the state, then the
regulator must review the loan portfolio of the branch. If the regulator
determines that the branch is not meeting the credit needs of the community, it
has the authority to close the branch and to prohibit the bank from opening new
branches in the state.
The Caldera, Weggeland and Killea California Interstate Banking and
Branching Act of 1995, effective October 2, 1995, (the "Caldera Act") amends the
California Financial Code to, among other matters, regulate the operations of
state banks to eliminate conflicts with and to implement the Riegle-Neal
Interstate Banking and Branching
14
<PAGE>
Efficiency Act of 1994 discussed above. The Caldera Act includes (1) an
election to permit early interstate merger transactions; (2) a prohibition
against interstate branching through the acquisition of a branch business unit
located in California without acquisition of the whole business unit of the
California bank; and (3) a prohibition against interstate branching through de
novo establishment of California branch offices. The Caldera Act mandates that
initial entry into California by an out-of-state institution be accomplished by
acquisition of or merger with an existing whole bank which has been in existence
for at least five years.
COMMUNITY REINVESTMENT ACT
In October 1994, the federal financial institution regulatory agencies
proposed a comprehensive revision of their regulations implementing the
Community Reinvestment Act ("CRA"), enacted in 1977 to promote lending by
financial institutions to individuals and businesses located in low and moderate
income areas. In May 1995, the proposed CRA regulations were published in final
form effective as of July 1, 1995. The revised regulations included
transitional phase-in provisions which generally require mandatory compliance
not later than July 1, 1997, although earlier voluntary compliance is
permissible. Under the former CRA regulations, compliance was evaluated by an
assessment of the institution's methods for determining, and efforts to meet,
the credit needs of such borrowers. This system was highly criticized by
depository institutions and their trade groups as subjective, inconsistent and
burdensome, and by consumer representatives for its alleged failure to
aggressively penalize poor CRA performance by financial institutions. The
revised CRA regulations emphasize an assessment of actual performance rather
than of the procedures followed by a bank, to evaluate compliance with the CRA.
Overall CRA compliance continues to be rated across a four-point scale from
"outstanding" to "substantial noncompliance," and continues to be a factor in
review of applications to merge, establish new branches or form bank holding
companies. In addition, any bank rated in "substantial noncompliance" with the
revised CRA regulations may be subject to enforcement proceedings.
The regulations provide that "small banks", which are defined to
include any independent bank with total assets of less than $50 million, are to
be evaluated by means of a so-called "streamlined assessment method" unless such
a bank elects to be evaluated by one of the other methods provided in the
regulations. The differences between the evaluation methods may be summarized
as follows:
(1) The "streamlined assessment method" presumptively applicable to
small banks requires that a bank's CRA compliance be evaluated pursuant to five
"assessment criteria," including its (i) loan-to-deposit ratio (as adjusted for
seasonal variations and other lending-related activities, such as sales to the
secondary market or community development lending); (ii) percentage of loans and
other lending-related activities in the bank's service area(s); (iii)
distribution of loans and other lending-related activities among borrowers of
different income levels, given the demographic characteristics of its service
15
<PAGE>
area(s); (iv) geographic distribution of loans and other lending-related
activities within its service area(s); and (v) record of response to written
complaints, if any, about its CRA performance.
(2) The "lending, investments and service tests method" is applicable
to all banks larger than $250 million which are not wholesale or limited purpose
banks and do not elect to be evaluated by the "strategic plan assessment
method." Central to this method is the requirement that such banks collect and
report to their primary federal banking regulators detailed information
regarding home mortgage, small business and farm and community development loans
which is then used to evaluate CRA compliance. At the bank's option, data
regarding consumer loans and any other loan distribution it may choose to
provide also may be collected and reported.
Using such data, a bank will be evaluated regarding its (i) lending
performance according to the geographic distribution of its loans, the
characteristics of its borrowers, the number and complexity of its community
development loans, the innovativeness or flexibility of its lending practices to
meet low and moderate income credit needs and, at the bank's election, lending
by affiliates or through consortia or third-parties in which the bank has an
investment interest; (ii) investment performance by measure of the bank's
"qualified investments," that is, the extent to which the bank's investments,
deposits, membership shares in a credit union, or grants primarily to benefit
low or moderate income individuals and small businesses and farms, address
affordable housing or other needs not met by the private market, or assist any
minority or women-owned depository institution by donating, selling on favorable
terms or provisioning on a rent-free basis any branch of the bank located in a
predominately minority neighborhood; and (iii) service performance by evaluating
the demographic distribution of the bank's branches and ATMs, its record of
opening and closing them, the availability of alternative retail delivery
systems (such as telephone banking, banking by mail or at work, and mobile
facilities) in low and moderate income geographies and to low and moderate
income individuals, and (given the characteristics of the bank's service area(s)
and its capacity and constraints) the extent to which the bank provides
"community development services" (services which primarily benefit low and
moderate income individuals or small farms and businesses or address affordable
housing needs not met by the private market) and their innovativeness and
responsiveness.
(3) Wholesale or limited purpose banks which do not make home
mortgage, small farm or business or consumer loans to retail customers may
elect, subject to agency approval of their status, to be evaluated by the
"community development test method," which assesses the number and amount of the
bank's community development loans, qualified investments and community
development services and their innovativeness and complexity.
(4) Any bank may request to be evaluated by the "strategic plan
assessment method" by submitting a strategic plan for review and approval. Such
a plan must
16
<PAGE>
involve public participation in its preparation, and contain measurable goals
for meeting low and moderate income credit needs through lending, investments
and provision of services. Such plans generally will be evaluated by measuring
strategic plan goals against standards similar to those which will be applied in
evaluating a bank according to the "lending, investments and service test
method."
The federal financial institution regulatory agencies issued a final
rule effective as of January 1, 1996 to make certain technical corrections to
the revised CRA regulations. Among other matters, the rule clarifies the
transition from the former CRA regulations to the revised CRA regulations by
confirming that when an institution either voluntarily or mandatorily becomes
subject to the performance tests and standards of the revised regulations, the
institution must comply with all of the requirements of the revised regulations
and is no longer subject to the provisions of the former CRA regulations.
INTER-COMPANY BORROWINGS
Bank holding companies are also restricted as to the extent to which
they and their subsidiaries can borrow or otherwise obtain credit from one
another, or engage in certain other transactions. The "covered transactions"
that an insured depository institution and its subsidiaries are permitted to
engage in with their nondepository affiliates are limited to the following
amounts: (1) in the case of any one such affiliate, the aggregate amount of
covered transactions of the insured depository institution and its subsidiaries
cannot exceed 10% of the capital stock and the surplus of the insured depository
institution; and (ii) in the case of all affiliates, the aggregate amount of
covered transactions of the insured depository institution and its subsidiaries
cannot exceed 20% of the capital stock and surplus of the insured depository
institution. In addition, extensions of credit that constitute covered
transactions must be collateralized in prescribed amounts.
"Covered transactions" are defined by statute to include a loan or
extension of credit to the affiliate, a purchase of securities issued by an
affiliate, a purchase of assets from the affiliate (unless otherwise exempted by
the Federal Reserve Board), the acceptance of securities issued by the affiliate
as collateral for a loan and the issuance of a guarantee, acceptance, or letter
of credit for the benefit of an affiliate. Further, a bank holding company and
its subsidiaries are prohibited from engaging in certain tie-in arrangements in
connection with any extension of credit, lease or sale of property or furnishing
of services.
IMPACT OF MONETARY POLICIES
Banking is a business which depends on interest rate differentials. In
general, the difference between the interest paid by a bank on its deposits and
other borrowings, and the interest rate earned by banks on loans, securities and
other interest-earning assets comprises the major source of banks' earnings.
Thus, the earnings and growth of banks
17
<PAGE>
are subject to the influence of economic conditions generally, both domestic and
foreign, and also to the monetary and fiscal policies of the United States and
its agencies, particularly the FRB. The FRB implements national monetary
policy, such an seeking to curb inflation and combat recession, by its
open-market dealings in United States government securities, by adjusting the
required level of reserves for financial institutions subject to reserve
requirements and through adjustments to the discount rate applicable to
borrowings by banks which are members of the FRB. The actions of the FRB in
these areas influence the growth of bank loans, investments and deposits and
also affect interest rates. The nature and timing of any future changes in such
policies and their impact on Coast cannot be predicted. In addition, adverse
economic conditions could make a higher provision for loan losses a prudent
course and could cause higher loan loss charge-offs, thus adversely affecting a
bank's net earnings.
ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board has recently issued SFAS
No. 125, "Accounting for Tranfers and Servicing of Financial Assets and
Extinguishments of Liabilities" effective for transactions occurring after
December 31, 1996. SFAS No. 125 requires that an asset seller
must meet defined conditions to demonstrate that it has surrendered control
over the assets. The failure to meet these conditions usually results in
on-balance sheet treatment for the assets and a liability for the sale
proceeds received. SFAS No. 125 also requires that contracts to service are
recorded as an asset or a liability based on fair value or on an allocation of
the carrying amount of the financial asset. SFAS 125 covers subsequent
accounting, including impairments, and eliminates the distinction between
excess and normal servicing. The Company does not believe that adoption of
this standard will have a significant impact on its financial position or
results of operations.
18
<PAGE>
GENERAL
The Company is not involved in any administrative or judicial
proceedings pursuant to federal, state or local laws or regulations regarding
the discharge of materials into the environment or whose purpose is to
protect the environment.
At September 30, 1996, the Company employed one hundred twenty (120)
persons including forty-five (45) part-time employees, four (4) executive
officers and twenty-six (26) other Vice Presidents and Assistant Vice
Presidents. None of the Company's employees is presently represented by a
union or covered under a collective bargaining agreement. Management of the
Bank believes that its employee relations are excellent.
ITEM 2. SELECTED FINANCIAL DATA
Presented below is selected financial data for the Company for the
last five years and the periods ended September 30, 1996 and 1995. The Company
became the bank holding company for the Bank on July 25, 1995.
The selected consolidated financial data presented below for, and as
of the end of, each of the years in the five-year period ended December 31,
1995 is derived from the audited consolidated financial statements of the
Company. The selected consolidated financial data presented below as of and
for the nine month periods ended September 30, 1995 and 1996 have been
derived from unaudited interim consolidated financial statements and the
accounting records of the Company. In the opinion of management, such
unaudited interim consolidated financial statements include all adjustments
necessary to fairly state the information set forth therein. The following
data should be read in conjunction with the consolidated financial
statements, related notes and other financial information included herein and
management's discussion and analysis of financial condition and results of
operations.
<TABLE>
<CAPTION>
September 30, December 31,
-------------------------- ---------------------------------------------------------------------
1996 1995 1995 1994 1993 1992 1991
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
(Dollars in thousands, except per share information)
INCOME STATEMENT
SUMMARY:
Net interest income $ 9,875 $ 9,068 $ 12,366 $ 9,936 $ 8,953 $ 7,770 $ 7,183
Provision for credit
losses 675 675 900 600 850 528 540
Noninterest income 3,664 2,651 3,558 4,044 5,184 3,892 3,207
Noninterest expense 7,744 7,299 9,855 9,463 8,895 7,591 6,423
Income before taxes 5,120 3,745 5,169 3,917 4,392 3,543 3,427
Income tax expense 2,033 1,461 2,020 1,479 1,731 1,371 1,343
Net income 3,087 2,284 3,149 2,438 2,661 2,172 2,084
- ----------------------------------------------------------------------------------------------------------------------------------
PERIOD END:
Total loans, gross $ 119,251 $ 104,620 $ 106,840 $ 97,648 $ 92,488 $ 100,731 $ 88,073
Assets 230,292 198,354 207,668 175,861 153,129 148,244 129,620
Deposits 181,087 161,366 164,046 152,130 135,573 132,785 116,163
Stockholders' equity 22,078 20,359 20,984 17,710 16,280 13,776 12,002
- ----------------------------------------------------------------------------------------------------------------------------------
AVERAGES FOR PERIOD:
Total loans, gross $114,572 $ 98,321 99,842 94,273 99,319 95,826 87,114
Earning assets 196,414 162,281 167,089 144,093 138,945 120,560 105,872
Assets 213,826 180,298 184,977 161,686 155,490 137,281 120,224
Deposits 167,404 149,918 151,888 143,195 138,738 123,306 108,306
Stockholders' equity 21,427 20,010 19,538 17,113 15,165 12,711 10,418
- ----------------------------------------------------------------------------------------------------------------------------------
SELECTED RATIOS:
Net interest margin* 6.7% 7.6% 7.4% 6.9% 6.4% 6.4% 6.8%
Efficiency ratio* 57.2% 62.3% 61.9% 67.7% 62.9% 65.1% 61.8%
Allowance for credit
losses to total loans 2.6% 2.3% 2.3% 1.9% 1.9% 1.6% 1.5%
Return on average
assets * 1.9% 1.7% 1.7% 1.5% 1.7% 1.6% 1.7%
Return on beginning
stockholders' equity * 19.6% 17.2% 17.8% 15.0% 19.3% 18.1% 22.7%
Dividend payout ratio 21.6% 26.9% 26.0% 28.0% -- -- --
- ----------------------------------------------------------------------------------------------------------------------------------
CAPITAL RATIOS:
Average equity to
average assets 10.6% 10.1% 10.6% 10.6% 9.8% 9.3% 8.7%
Total risk-based capital
ratio 16.9% 17.1% 17.0% 15.4% 16.1% 13.0%
Tier 1 risk-based
capital ratio 15.7% 15.8% 15.8% 14.2% 14.9% 11.8%
Tier 1 leverage ratio 9.9% 10.7% 10.2% 10.9% 11.1% 9.4%
- ----------------------------------------------------------------------------------------------------------------------------------
PER SHARE DATA:
Net income $ 1.38 $ 1.00 $ 1.38 $ 1.07 $ 1.17 $ 0.95 $ 0.92
Book value $ 9.99 $ 9.21 $ 9.29 $ 7.78 $ 7.15 $ 6.05 $ 5.36
Cash dividends
declared $ .30 $ .27 $ 0.36 $ 0.30 $ 0.15 - -
Weighted average
common shares
outstanding 2,232,336 2,278,393 2,280,285 2,277,999 2,277,999 2,277,999 2,277,999
- ----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
* Annualized
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
BUSINESS ORGANIZATION
Coast Bancorp (the Company) is a California corporation organized in 1995 to act
as the holding company for Coast Commercial Bank (the Bank), a
California-chartered, FDIC-insured commercial bank opened in 1982 with
headquarters in Santa Cruz and branch offices in Aptos, Santa Cruz, Scotts
Valley and Watsonville. During 1995 the Company acquired through merger all the
outstanding common stock of the Bank. The merger was accounted for similar to a
pooling of interests in that the historical cost basis of Coast Commercial Bank
has been carried forward. The Company currently conducts no significant
business activities other than its investment in the Bank. Consequently,
substantially all of the Company's net income, assets and equity are derived
from its investment in the Bank.
The Bank engages in commercial and consumer banking, offering a range of
traditional banking products and services to individuals, retailers, small and
medium-sized businesses and professionals, primarily within the Santa Cruz
County area.
The following analysis is designed to enhance the reader's understanding of the
Company's financial condition and the results of its operations as reported in
the consolidated financial statements included in this Form. This discussion
should be read in conjunction with those financial statements and notes.
OVERVIEW
Net income for the nine months ended September 30, 1996 was $3,087,000
compared to $2,284,000 in the first nine months of 1995, an increase of 35%.
The increase in net income was primarily due to increases of $807,000 in net
interest income and $1,013,000 in noninterest income partially offset by an
increase of $445,000 in noninterest expenses and a related increase in income
tax expense of $572,000.
The Company earned net income of $3,149,000 for the year ended December 31,
1995 representing an increase of 29% from 1994 net income of $2,438,000. Net
income reported for 1994 represented a decrease of 8% from 1993 net income of
$2,661,000. On a per share basis, net income for 1995 was $1.38 compared
with $1.07 and $1.17 for the preceding two years. The improvement of net
income in 1995 over 1994 was due to an increase in net interest income
partially offset by increases in the provision for credit losses and
noninterest expenses and a decrease in noninterest income. The decrease in
1994 was due to the decline in noninterest income and increases in
noninterest expenses exceeding the increase in net interest income and
decrease in the provisions for credit losses.
EARNINGS SUMMARY
NET INTEREST INCOME
Net interest income refers to the difference between interest and fees earned on
loans and investments and the interest paid on deposits and other borrowed
funds. It is the largest component of the net earnings of a financial
institution. The primary factors to consider in analyzing net interest income
are the composition and volume of earning assets and interest-bearing
liabilities, the amount of noninterest bearing liabilities and nonaccrual loans,
and changes in market interest rates.
-19-
<PAGE>
Table I sets forth average balance sheet information , interest income and
expense, average yields and rates, and net interest income and net interest
margin for the nine months ended September 30, 1996 and 1995 and for the
years ended December 31, 1995, 1994 and 1993.
<TABLE>
<CAPTION>
Table 1 Components of Net Interest Income
Nine Months Ended September 30, 1996 1995
--------------------------------------- ------------------------------------------
($ in thousands) Average Average Average Average
Balance Interest Rate(4) Balance Interest Rate(4)
--------------------------------------- ------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Assets:
Loans (2) (3) $ 114,572 $ 9,474 11.0% $ 98,321 $ 8,754 11.9%
Investment Securities:
Taxable 61,179 3,112 6.8% 45,505 2,243 6.6%
Nontaxable (1) 6,062 383 8.4% 6,527 416 8.5%
Federal funds sold 14,601 576 5.3% 11,928 519 5.8%
------------------------- ----------------------------
Total earning assets 196,414 13,545 9.2% 162,281 11,932 9.8%
Cash and due from banks 13,431 13,206
Allowance for credit losses (2,806) (2,043)
Unearned income (1,642) (1,592)
Bank premises and equipment, net 2,231 2,659
Other assets 6,198 5,787
----------- ---------
Total assets $ 213,826 $180,298
----------- ---------
----------- ---------
Interest-bearing liabilities:
Deposits:
Demand $ 71,632 1,034 1.9% $ 73,757 1,186 2.1%
Savings 26,586 590 3.0% 16,845 334 2.7%
Time 23,335 901 5.2% 18,132 681 5.0%
------------------------- ---------------------------
Total deposits 121,553 2,525 2.8% 108,734 2,201 2.7%
Borrowed funds 23,197 1,015 5.8% 9,990 521 7.0%
------------------------- ---------------------------
Total interest-bearing liabilities 144,750 3,540 3.2% 118,724 2,722 3.1%
Demand deposits 45,851 41,184
Other liabilities 1,798 380
Stockholders' equity 21,427 20,010
----------- -----------
Total liabilities and stockholders'
equity $ 213,826 $ 180,298
----------- -----------
----------- -----------
Net interest income and margin $10,005 6.8% $ 9,210 7.6%
------------------------ --------------------------
------------------------ --------------------------
</TABLE>
(1) Tax exempt income includes $130,000 and $142,000 in 1996 and 1995,
respectively, to adjust to a fully taxable equivalent basis using the Federal
statutory rate of 34%.
(2) Loan fees totaling $712,000 and $746,000 are included in loan interest
income for the nine months ended September 30, 1996 and 1995, respectively.
(3) Average nonaccrual loans totaling $575,000 and $719,000 are included in
average loans for the nine months ended September 30, 1996 and 1995,
respectively.
(4) Annualized.
<PAGE>
<TABLE>
<CAPTION>
Years ended December 31, 1995 1994 1993
-------------------------------- ---------------------------- ----------------------------
Average Average Average Average Average Average
(Dollars in thousands) Balance Interest Rate Balance Interest Rate Balance Interest Rate
---------- -------- ------- ------- -------- ------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Assets:
Loans (2) (3) $ 99,842 $ 11,804 11.8% $ 94,273 $ 9,961 10.6% $ 99,319 $ 9,901 10.0%
Investment Securities:
Taxable 49,026 3,284 6.7% 33,830 1,666 4.9% 26,315 1,206 4.6%
Nontaxable (1) 6,453 546 8.5% 6,872 580 8.4% 5,083 465 9.1%
Federal funds sold 11,768 671 5.7% 9,118 368 4.0% 8,228 238 2.9%
--------------------------------- ---------------------------- ----------------------------
Total earning assets 167,089 16,305 9.8% 144,093 12,575 8.7% 138,945 11,810 8.5%
Cash and due from banks 13,107 12,626 10,772
Allowance for credit losses (2,135) (1,835) (1,851)
Unearned income (1,606) (1,387) (817)
Bank premises and equipment, 2,691 3,152 3,697
net
Other assets 5,831 5,037 4,744
---------- --------- ---------
Total assets $ 184,977 $ 161,686 $ 155,490
---------- --------- ---------
---------- --------- ---------
Interest-bearing liabilities:
Deposits:
Demand $ 74,907 1,577 2.1% $ 73,122 1,450 2.0% $ 71,163 1,537 2.2%
Savings 16,854 431 2.6% 18,327 446 2.4% 14,261 383 2.7%
Time 19,019 962 5.1% 16,590 546 3.3% 23,209 779 3.4%
-------------------------------- ----------------------------- -----------------------------
Total deposits 110,780 2,970 2.7% 108,039 2,442 2.3% 108,633 2,699 2.5%
Borrowed funds 11,537 783 6.8% 22 - - - - -
-------------------------------- ----------------------------- -----------------------------
Total interest-bearing liabilities 122,317 3,753 3.1% 108,061 2,442 2.3% 108,633 2,699 2.5%
Demand deposits 41,180 35,156 30,147
Other liabilities 1,942 1,356 1,545
Stockholders' equity 19,538 17,113 15,165
----------- --------- ---------
Total liabilities and stockholders'
equity $ 184,977 $ 161,686 $ 155,490
----------- --------- ---------
----------- --------- ---------
Net interest income and margin $ 12,552 7.5% $ 10,133 7.0% $ 9,111 6.6%
--------------------- ------------------ -----------------
--------------------- ------------------ -----------------
</TABLE>
(1) Tax exempt income includes $186,000, $197,000 and $158,000 in 1995, 1994
and 1993, respectively, to adjust to a fully taxable equivalent basis using the
Federal statutory rate of 34%.
(2) Loan fees totaling $991,000, $1,031,000 and $1,083,000 are included in loan
interest income for the years 1995, 1994 and 1993, respectively.
(3) Average nonaccrual loans totaling $883,000, $1,085,000 and $713,000 are
included in average loans for the years 1995, 1994 and 1993, respectively.
-20-
<PAGE>
Net interest income is affected by changes in the amount and mix of
interest-earning assets and interest-bearing liabilities, referred to as "volume
change." Net interest income is also affected by changes in yields earned on
interest-earning assets and rates paid on interest-bearing liabilities, referred
to as "rate change." Table 2 presents changes in interest income and interest
expense for each major category of interest-earning assets and interest-bearing
liabilities. The table also reflects the amount of change attributable to
volume and rate changes for the years indicated.
<TABLE>
<CAPTION>
Table 2 Rate/Volume Analysis
(Dollars in thousands) 1995 Compared to 1994 1994 Compared to 1993
Increase(Decrease) Due To Increase(Decrease) Due To
Change In Change In
-------------------------- --------------------------
Net Net
Volume Rate Change Volume Rate Change
------ ------ ------ ------ ---- ------
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans $ 588 $ 1,255 $ 1,843 $(503) $ 563 $ 60
Investment securities 815 769 1,584 495 80 575
Federal funds sold 107 196 303 26 104 130
--------------------------- ---------------------------
Total interest income 1,510 2,220 3,730 18 747 765
Interest bearing deposits:
Demand 36 91 127 42 (129) (87)
Savings (36) 21 (15) 109 (46) 63
Time 84 332 416 (225) (8) (233)
--------------------------- ---------------------------
Interest expense on deposits 84 444 528 (74) (183) (257)
Interest expense on borrowings 783 783
--------------------------- ---------------------------
Total interest expense 867 444 1,311 (74) (183) (257)
--------------------------- ---------------------------
Increase in
net interest income $ 643 $ 1,776 $ 2,419 $ 92 $ 930 $ 1,022
-------------------------- ----------------------------
-------------------------- ----------------------------
</TABLE>
For the nine months ended September 30, 1996, net interest income, on a fully
taxable-equivalent basis, was $10,005,000 or 6.8% of average earning assets,
an increase of 9% over $9,210,000 or 7.6% of average earning assets in the
comparable period in 1995. The increase in 1996 reflects higher levels of
earning assets partially offset by lower yields on loans corresponding
generally with declining market rates since the beginning of 1995. Net
interest income, on a fully taxable-equivalent basis, totaled $12,552,000 in
1995 or 7.5% of average earning assets, an increase of 24% over $10,133,000
or 7.0% of average earning assets in 1994. The increase in 1995 is primarily
attributable to increased average earning assets and increased yields on
loans corresponding generally with rising market interest rates over 1994.
Net interest income reported in 1994 represented an increase of $1,022,000 or
11% from $9,111,000 in 1993 reflecting increased yields on loans
corresponding generally with rising market interest rates over 1994 and
increased average earning assets.
-21-
<PAGE>
Interest income, on a fully taxable-equivalent basis, was $13,545,000 and
$11,933,000 for the nine months ended September 30, 1996 and 1995,
respectively, and $16,305,000, $12,575,000 and $11,810,000 for 1995, 1994 and
1993, respectively. The increase in the 1996 nine month period resulted from
the growth in average earning assets while the significant increase in 1995
is due primarily to the increased yields and growth in average earning
assets. Loan yields averaged 11.0% and 11.9% for the first nine months of
1996 and 1995, respectively, and 11.8% in 1995, 10.6% in 1994 and 10.0% in
1993 and generally reflect the increase in market rates from the cyclical
lows in 1993 and the pull back of interest rates in 1995. Approximately 89%
of the Bank's loans have variable interest rates indexed to the prime rate.
The Bank's average prime rate was 8.28% and 8.86% for the nine months ended
September 30, 1996 and 1995 and 8.83%, 7.36% and 6.50% in 1995, 1994 and
1993, respectively. Average earning assets were $196,414 for the first nine
months of 1996, an increase of 21% over $162,281 in the same period in 1995,
and $167,089,000 in 1995, an increase of 16% over $144,093,000 in 1994. The
growth in average earning assets resulted from increased levels of deposits
and borrowings which were invested primarily in investment securities and
loans.
The increases in interest income during 1996 and 1995, on a fully
taxable-equivalent basis, were partially offset by increases in interest
expense. The increases were primarily due to increases in borrowed funds and
higher rates paid on time deposit accounts, in response to competition from
other financial institutions and money market mutual funds. The decrease in
interest expense in 1994 to $2,442,000 from $2,699,000 in 1993 reflects
declining rates paid and a shifting of funds from time deposits to lower
yielding savings and interest-bearing demand. Declining market rates during
1993 compressed the interest rate spread between time deposits and savings
rates resulting in customers moving into the more liquid savings and
interest-bearing demand accounts. The average rate paid on interest bearing
deposits was 2.8% and 2.7% for the nine months ended September 30, 1996 and
1995, respectively, and 2.7% in 1995, 2.3% in 1994 and 2.5% in 1993.
NONINTEREST INCOME
Table 3 summarizes the sources of noninterest income for
the periods indicated:
Nine months ended September 30,
-------------------------------
Table 3 - Noninterest Income 1996 1995
(Dollars in thousands) ---------- ---------
Customer service fees $ 1,313 $ 1,148
Gain on sale of loans 1,174 515
Loan servicing fees 706 655
Gain on sale of other real estate owned - 42
Gain on sale of bank premises and equipment - 13
Gains (losses) on securities transactions 66 (48)
Other 405 326
---------- ----------
Total noninterest income $3,664 $2,651
---------- ----------
<TABLE>
<CAPTION>
Years ended December 31,
------------------------------------------
1995 1994 1993
---------- --------- ---------
<S> <C> <C> <C>
Customer service fees $1,527 $1,501 $1,440
Gain on sale of loans 678 1,174 2,418
Loan servicing fees 875 793 664
Gain on sale of other real estate owned 65 163 50
Gain on sale of bank premises and equipment 13 7 208
Gains (losses) on securities transactions (48) 1 59
Other 448 405 345
---------- ---------- ----------
Total noninterest income $3,558 $4,044 $5,184
---------- ---------- ----------
</TABLE>
The increase in customer service fees in 1996 relates primarily to higher
merchant credit card processing fees. Gains on sale of loans increased as a
result of increased SBA loan originations during 1996. The decreases in 1995
and 1994 resulted from a decline in premiums on the sale of SBA loans,
related to changes in guarantee programs of the SBA. Customer service fees,
loan servicing fees and other noninterest income increased consistent with
the growth of deposits and loans serviced for others.
-22-
<PAGE>
NONINTEREST EXPENSE
The major components of noninterest expense stated in dollars and as a
percentage of average earning assets are set forth in Table 4 for the periods
indicated.
<TABLE>
<CAPTION>
Table 4 - Noninterest Expense
(Dollars in thousands)
Nine months ended September 30,
---------------------------------------------
1996 1995
--------------------- ---------------------
Salaries and Benefits $3,910 2.65% $3,684 3.03%
Equipment 857 0.58% 765 0.63%
Occupancy 687 0.47% 672 0.55%
Insurance 91 0.06% 230 0.19%
Stationery and Postage 297 0.20% 216 0.18%
Legal Fees 45 0.03% 174 0.14%
Other 1,857 1.26% 1,558 1.28%
--------------------- ---------------------
Total Noninterest Expense $7,744 5.25% $7,299 6.00%
--------------------- ---------------------
--------------------- ---------------------
Years ended December 31,
---------------------------------------------------------
1995 1994 1993
----------------- ------------------ ------------------
<S> <C> <C> <C> <C> <C> <C>
Salaries and Benefits $5,009 3.00% $4,658 3.23% $4,403 3.17%
Equipment 1,043 0.62% 1,072 0.74% 965 0.69%
Occupancy 904 0.54% 903 0.63% 931 0.67%
Insurance 280 0.17% 463 0.32% 388 0.28%
Stationery and Postage 278 0.17% 290 0.20% 312 0.22%
Legal Fees 200 0.12% 148 0.10% 97 0.07%
Other 2,141 1.28% 1,929 1.34% 1,799 1.30%
----------------- ----------------- -------------------
Total Noninterest Expense $9,855 5.90% $9,463 6.56% $8,895 6.40%
----------------- ----------------- -------------------
----------------- ----------------- -------------------
</TABLE>
Total noninterest expense increased $445,000 or 6% to $7,744,000 in the first
nine months of 1996 over the same period in 1995, increased $392,000 or 4% to
$9,855,000 in 1995 over 1994 and increased $568,000 or 6% to $9,463,000 in
1994 over 1993.
The increases in 1996 and 1995 were primarily related to higher staff costs
and increases in other noninterest expenses partially offset by reductions in
FDIC insurance premiums. The FDIC reduced insurance premiums as the Bank
Insurance Fund reached full funding during 1995. The increase in noninterest
expenses reflects the growth in total loans, deposits and assets. The
decrease in noninterest expense as a percentage of average earning assets is
the result of the rate of growth in average earning assets in 1996 and 1995
exceeding the rate of increase in noninterest expenses. The $568,000 increase
in 1994 was due to increases in compensation, equipment, insurance, legal
fees, OREO and other noninterest expenses offset by decreases in the
remaining categories of noninterest expense.
INCOME TAXES
The Company's effective tax rate was 39.7% and 39.0% for the nine months
ended September 30, 1996 and 1995 and 39.1% for 1995 compared to 37.8% for 1994
and 39.4 % for 1993. Changes in the effective tax rate for the Company are
primarily due to fluctuations in the proportion of tax exempt income generated
from investment securities to pre-tax income.
BALANCE SHEET ANALYSIS
Total assets increased to $230.3 million at September 30,
1996, an 11% increase from the end of 1995. Total assets increased to $207.7
million in 1995, an 18% increase from the $175.9 million a year earlier
compared to an increase of 15% from $153.1 million in 1993. Based on average
balances, nine month 1996 average total assets of $213.8 million represent an
increase of 19% over nine month 1995, 1995 average total assets of $185.0
million represent an increase of 14% over 1994 and 1994 average total assets
of $161.7 million increased 4% over 1993 average total assets of $155.5
million.
-23-
<PAGE>
EARNING ASSETS
LOANS
Total gross loans at September 30, 1996 were $119.3 million, a 12% increase
from $106.8 million at December 31, 1995 which was a 9% increase from $97.6
million at December 31, 1994, which was 6% above $92.5 million at December
31, 1993.
Table 5 summarizes the composition of the loan portfolio at December 31, for the
past five years.
<TABLE>
<CAPTION>
Table 5 Loans By Type 1995 1994 1993 1992 1991
(Dollars in thousands) ------------- -------------- ------------ -------------- -----------
<S> <C> <C> <C> <C> <C>
Commercial, financial and agricultural $ 34,263 $ 32,294 $ 36,047 $ 49,288 $ 38,553
Installment and other 7,989 8,437 7,661 8,711 9,482
Real estate mortgage 50,580 41,200 33,221 29,047 21,533
Real estate construction 14,008 15,717 15,559 13,685 18,505
------------- -------------- ------------ -------------- -----------
Total loans $106,840 $ 97,648 $ 92,488 $100,731 $ 88,073
------------- -------------- ------------ -------------- -----------
------------- -------------- ------------ -------------- -----------
</TABLE>
Average loans in the first nine months of 1996 were $114,572,000 representing
an increase of $16,251,000 or 17% over the same period of 1995 and in
1995 were $99,842,000 representing an increase of $5,569,000, or 6% over
1994. The 1996 and 1995 increases reflected growth in average real
estate loans which in the opinion of the Company is due to improved local
economic conditions. Average loans of $94,273,000 in 1994 decreased
$5,046,000, or 5% from $99,319,000 in 1993. The decrease in average loans
outstanding in 1994 was due to a decrease in commercial loan demand by
qualified borrowers in the Bank's service area.
Real estate mortgage loans were $50,580,000 at December 31,1995 compared to
$41,200,000 and $33,221,000 at the end of 1994 and 1993, respectively. The
increases of $9,380,000 in 1995 and $7,979,000 in 1994 resulted from the
retained portion of SBA loans and additional loan demand for nonresidential real
estate financing in the Bank's market area. Extensions of credit are based on
an analysis of the borrower's ability to generate debt service, obtain other
financing or sell the property. Advances on nonresidential properties are
limited in general to approximately 70% of the lower of cost or appraised
value.
The Bank's construction loan portfolio was $14,008,000 at December 31, 1995,
compared to $15,717,000 and $15,559,000 at the end of 1994 and 1993,
respectively. Construction loans represented 13% of total loans at December 31,
1995 compared to 16% and 17% in 1994 and 1993. The Bank finances the
construction of commercial and residential properties. These loans are at
variable rates, generally have maturities of less than 12 months, and are
secured by first deeds of trust on the underlying properties. Repayment is
based on an analysis of the borrower's ability to obtain take-out financing or
sell the property. Advances on residential and commercial projects are limited
in general to the lower of approximately 80% and 70%, respectively, of cost or
appraised value of the collateral.
Real estate mortgage and construction lending entail potential risks which
are not inherent in other types of loans. These potential risks include
declines in market values of underlying real property collateral and, with
respect to construction lending, delays or cost overruns which could expose
the Company to loss. In addition, risks in commercial real estate lending
include declines in commercial real estate values, general economic
conditions surrounding the commercial real estate properties, and vacancy
rates. A decline in the general economic conditions or real estate values
within the Company's market area could have a negative impact on the
performance of the loan portfolio or value of the collateral. Because the
Company lends primarily within its market area, the real property collateral
for its loans is similarly concentrated, rather than diversified over a broader
geographic area. The Company could therefore be adversely affected by a decline
in real estate values in the Company's target market, even if real estate
values elsewhere in California generally remained stable or increased. Risks
also include those outlined in the Risk Elements section below.
-24-
<PAGE>
Commercial loans were $34,263,000 at the end of 1995 compared to $32,294,000
and $36,047,000 at the end of 1994 and 1993, respecitvely. The Bank makes
commercial loans available to serve the credit demands of small-to-medium
sized businesses for lines of credit, single payment and term debt
obligations. Typically, loans are collateralized by the working capital,
inventory, receivables, or equipment being financed or other assets available
to the borrower. The Bank's commercial loan portfolio consists primarily of
short- to medium-term financing for small- to medium-sized businesses and
professionals located in Santa Cruz County. The Bank's commercial loan
portfolio is diversified as to industries and types of businesses with no
material industry concentrations and a profile which the Company believes
generally reflects the economy of Santa Cruz County. Risks include those
outlined in the Risk Elements section below.
Installment loans were $7,989,000 compared to $8,437,000 and $7,661,000 at the
end of 1995, 1994, and 1993, respectively. The installment loan portfolio
finances customers' household, family and other personal expenditures on both a
secured and unsecured basis. Risks include those outlined in the Risk Elements
section below.
Risk Elements
Lending money involves an inherent risk of nonpayment. Through the
administration of loan policies and monitoring of the portfolio, management
seeks to reduce such risks. The allowance for credit losses is an estimate to
provide a financial buffer for losses, both identified and unidentified, in the
loan portfolio.
Management strives to achieve a low level of credit losses by continuing
emphasis on credit quality in the loan approval process, active credit
administration and regular monitoring. An important tool in achieving a high
level of credit quality is the loan grading system to assess the risk inherent
in each loan. Additionally, management believes its ability to manage portfolio
credit risk is enhanced by lending personnel's knowledge of the Bank's service
area. Lending personnel live in the communities served by the Bank and senior
management and directors of the Company and Bank are active members of the
communities served by the Bank. Further, senior management of the Bank has
experienced minimal turnover since the inception of the Bank in 1982.
Ultimately, credit quality may be influenced by underlying trends in the
economic and business cycles. Management believes that its lending policies and
underwriting standards will tend to minimize losses in an economic downturn,
however, there is no assurance that losses will be limited under such
circumstances. The Bank's loan policies and underwriting standards include, but
are not limited to, the following: 1) maintaining a thorough understanding of
the Bank's service area and limiting investments outside of this area, 2)
maintaining a thorough understanding of the borrowers' knowledge and capacity in
their field of expertise, 3) basing real estate construction loan approval not
only on marketability of the project, but also on the borrowers' capacity to
support the project financially in the event it does not sell within the
original projected time period, and 4) maintaining conforming and prudent loan
to value and loan to cost ratios based on independent outside appraisals and
ongoing inspection and analysis by the Bank's construction lending officers. In
addition, the Bank strives to diversify the risk inherent in the construction
portfolio by avoiding concentrations to individual borrowers and on any one
project.
-25-
<PAGE>
Management regularly reviews and monitors the loan portfolio to determine the
risk profile of each credit, and to identify credits whose risk profiles have
changed. This review includes, but is not limited to, such factors as
payment status, the financial condition of the borrower, borrower compliance
with loan convenants, underlying collateral values, potential loan
concentrations, and general economic conditions. When potential problem
credits are identified by management, action plans for each credit are
developed for bank personnel to mitigate the credit risk through measures
such as increased monitoring, debt reduction goals, addition collateral and
possible credit restructuring opportunities.
Nonaccrual Loans, Loans Past Due and OREO
The accrual of interest is discontinued and any accrued and unpaid interest is
reversed when the payment of principal or interest is 90 days past due unless
the amount is well secured and in the process of collection. Income on such
loans is then recognized only to the extent that cash is received and where the
future collection of principal is probable. At December 31, 1995 nonaccrual
loans totaled $824,000 or .8% of total loans compared to $848,000 or .9% at
December 31, 1994 and $1,427,000 or 1.5% at December 31, 1993. If the nonaccrual
loans at December 31, 1995 had not been on nonaccrual, $124,000 of interest
income would have been realized during the year ended December 31, 1995. The
Company realized $50,000 on these nonaccrual loans during 1995.
Table 6 presents the composition of nonperforming assets at September 30,
1996 and December 31 for the last 5 years.
<TABLE>
<CAPTION>
Table 6 Nonperforming Assets
(dollars in thousands)
September 30, 1996
------
Nonperforming Assets:
Loans Past Due 90 Days or More $ 783
Nonaccrual Loans 340
------
Total Nonperforming Loans 1,123
OREO 903
------
Total Nonperforming Assets $2,026
------
------
Nonperforming loans as a Percent of Total Loans 0.94%
OREO as a Percent of Total Assets 0.39%
Nonperforming Assets as a Percent of Total Assets 0.88%
Allowance for Loan Losses $3,099
As a Percent of Total Loans 2.60%
As a Percent of Nonaccrual Loans 911%
As a Percent of Nonperforming Loans 276%
December 31, 1995 1994 1993 1992 1991
Nonperforming Assets:
<S> <C> <C> <C> <C> <C>
Loans Past Due 90 Days or More $ 3 -- $ 871 $ 700 $ 78
Nonaccrual Loans 824 $ 848 1,427 -- 95
------------ ----------- ----------- ------------ -----------
Total Nonperforming Loans 827 848 2,298 700 173
OREO 830 1,419 364 875 582
------------ ----------- ----------- ------------ -----------
Total Nonperforming Assets $ 1,657 $ 2,267 $ 2,662 $ 1,575 $ 755
------------ ----------- ----------- ------------ -----------
------------- ----------- ----------- ------------ -----------
Nonperforming Loans as a Percent of Total Loans 0.77% 0.87% 2.48% 0.69% 0.20%
OREO as a Percent of Total Assets 0.40% 0.81% 0.24% 0.59% 0.45%
Nonperforming Assets as a Percent of Total
Assets 0.80% 1.29% 1.74% 1.06% 0.58%
Allowance for Loan Losses $2,478 $1,859 $1,723 $1,572 $1,338
As a Percent of Total Loans 2.32% 1.90% 1.86% 1.56% 1.52%
As a Percent of Nonaccrual Loans 301% 219% 121% -- 1408%
As a Percent of Nonperforming Loans 300% 219% 75% 225% 773%
</TABLE>
-26-
<PAGE>
There were no loans at December 31, 1995 where management had serious doubts
about the borrower's ability to comply with loan repayment terms and which may
result in disclosure as a nonaccrual, past due or restructured loan, except as
disclosed in Table 6.
For a discussion of concentrations in the Company's loan portfolio, see Note 8
of Notes to Consolidated Financial Statements.
PROVISION AND ALLOWANCE FOR CREDIT LOSSES
Management has established an evaluation process designed to determine the
adequacy of the allowance for credit losses. This process attempts to assess
the risk of loss inherent in the portfolio by segregating the allowance for
credit losses into three components: " historical losses;" "specific;" and
"margin for imprecision." The "historical losses" component is calculated as a
function of the prior four years loss experience for commercial, real estate and
consumer loan types. The four years are assigned weightings of 35%, 30%, 20%
and 15% beginning with the most recent year. The "specific" component is
established by allocating a portion of the allowance to individual classified
credits on the basis of specific circumstances and assessments. The "margin for
imprecision" component is an unallocated portion that supplements the first two
components as a conservative margin to guard against unforeseen factors. The
"historical losses" and "specific" components include management's judgment of
the effect of current and forecasted economic conditions on the ability of the
Company's borrowers' to repay; an evaluation of the allowance for credit losses
in relation to the size of the overall loan portfolio; an evaluation of the
composition of, and growth trends within, the loan portfolio; consideration of
the relationship of the allowance for credit losses to nonperforming loans; net
charge-off trends; and other factors. While this evaluation process utilizes
historical and other objective information, the classification of loans and the
establishment of the allowance for credit losses, relies, to a great extent, on
the judgment and experience of management. The Company evaluates the adequacy
of its allowance for credit losses quarterly.
The Financial Accounting Standards Board issued SFAS No. 114, "Accounting by
Creditors for Impairment of a Loan" in 1993 and SFAS No. 118, "Accounting by
Creditors for Impairment of a Loan - Income Recognition and Disclosure" in
1994, both of which were implemented in the first quarter of 1995. SFAS No.
114 requires the Bank to measure impaired loans based upon the present value
of expected future cash flows discounted at the loan's effective interest
rate, except that as a practical expedient, a creditor may measure impairment
based on a loan's observable market price or the fair value of the collateral
if the loan is collateral dependent. A loan is impaired when, based upon
current information and events, it is probable that a creditor will be unable
to collect all amounts due according to the contractual terms of the loan
agreement. SFAS No. 118 amends SFAS No. 114 to allow a creditor to use
existing methods for recognizing interest income on impaired loans and
requires certain information to be disclosed. The recorded investment in
impaired loans at December 31, 1995 was comprised of one loan of $343,000,
which had a related allowance of $69,000. Such allowance is a portion of the
allowance for credit losses. For 1995, the average recorded investment in
impaired loans was $369,000. No interest income was recognized during the
period of impairment.
The allowance for credit losses totaled $3,099,000 or 2.6% of total loans as
of September 30, 1996 compared to $2,478,000 or 2.3% as of December 31, 1995,
$1,859,000 or 1.9% as of December 31, 1994 and $1,723,000 or 1.9% as of
December 31, 1993. It is the policy of management to maintain the allowance
for possible credit losses at a level adequate for known and future risks
inherent in the loan portfolio. Based on information currently available to
analyze loan loss potential, including economic factors, overall credit
quality, historical delinquency and a history of actual charge-offs,
management believes that the loan loss provision and allowance are adequate;
however, no assurance of the ultimate level of credit losses can be given
with any certainty. Loans are charged against the allowance when management
believes that the collectibility of the principal is unlikely. An analysis
of activity in the allowance for credit losses is presented in Table 7.
-27-
<PAGE>
<TABLE>
<CAPTION>
TABLE 7 Allowance for Credit Losses
(Dollars in thousands)
September 30, 1996
------------
Total Loans Outstanding $ 119,251
Average Total Loans 114,572
Balance, January 1 $ 2,478
Charge-offs by Loan Category:
Commercial 131
Installment and other 43
Real Estate construction -
Real Estate-other -
--------
Total Charge-Offs 174
Recoveries by Loan Category:
Commercial 68
Installment and other 9
Real Estate construction 43
Real Estate-other -
--------
Total Recoveries 120
Net Charge-offs (Recoveries) 54
Provision Charged to Expense 675
--------
Balance, September 30 $ 3,099
--------
--------
Ratios:
Net Charge-offs (Recoveries) to Average Loans 0.05%
Reserve to Total Loans 2.60%
1995 1994 1993 1992 1991
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Total Loans Outstanding $ 106,840 $ 97,648 $ 92,488 $100,731 $ 88,073
Average Total Loans 99,842 94,273 99,319 95,826 87,114
Balance, January 1 $ 1,859 $ 1,723 $ 1,572 $ 1,338 $ 1,196
Charge-offs by Loan Category:
Commercial 293 304 295 262 379
Installment and other 108 32 73 60 37
Real Estate construction - 120 400 - -
Real Estate-other - 30 - - -
----------- ----------- ------------ ----------- -----------
Total Charge-Offs 401 486 768 322 416
Recoveries by Loan Category:
Commercial 79 17 67 24 18
Installment and other 25 3 2 4 -
Real Estate construction 16 - - - -
Real Estate-other - 2 - - -
---------- ----------- ----------- ------------ -----------
Total Recoveries 120 22 69 28 18
Net Charge-Offs 281 464 699 294 398
Provision Charged to Expense 900 600 850 528 540
---------- ------------ ----------- ------------ -----------
Balance, December 31 $ 2,478 $ 1,859 $ 1,723 $ 1,572 $ 1,338
---------- ------------ ----------- ------------ -----------
---------- ------------ ----------- ------------ -----------
Ratios:
Net Charge-offs to Average Loans 0.28% 0.49% 0.70% 0.31% 0.46%
Reserve to Total Loans 2.32% 1.90% 1.86% 1.56% 1.52%
</TABLE>
The allowance for credit losses is allocated based upon management's review of
credit quality and is presented in Table 8. This allocation should not be
interpreted as an indication of expected amounts or categories where losses will
occur.
Table 8 Allocation of the Allowance for Credit Losses
(Dollars in thousands)
<TABLE>
<CAPTION>
1995 1994 1993
------------------------- ------------------------- -------------------------
Percent of Percent of Percent of
Amount Total Loans Amount Total Loans Amount Total Loans
---------- ----------- ---------- ----------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Commercial $1,338 32.1% $1,051 33.1% $1,328 39.0%
Real estate 991 60.4% 705 58.3% 378 52.7%
Installment and other 148 7.5% 104 8.6% 17 8.3%
--------- ------------ ---------- ----------- ---------- ----------
$2,478 100.0% $1,859 100.0% $1,723 100.0%
--------- ------------ ---------- ----------- ---------- ----------
--------- ------------ ---------- ----------- ---------- ----------
<CAPTION>
1992 1991
------------------------- -------------------------
Percent of Percent of
Amount Total Loans Amount Total Loans
---------- ----------- ---------- -----------
<S> <C> <C> <C> <C>
Commercial $1,237 48.9% $1,182 43.8%
Real estate 126 42.4% - 45.4%
Installment and other 209 8.7% 156 10.8%
---------- ------------ ------------ ------------
$1,572 100.0% $1,338 100.0%
---------- ------------ ------------ ------------
---------- ------------ ------------ ------------
</TABLE>
-28-
<PAGE>
The allocation for real estate includes real estate construction and other
real estate loans. Management has historically not allocated the allowance
for credit losses separately for real estate construction and other real
estate loans.
OTHER INTEREST-EARNING ASSETS
For the nine months ended September 30, 1996, the average balance of
investment securities and federal funds sold totaled $81,842,000, an increase
of $17,882,000 from $63,960,000 for the same period in 1995. The average
balance of investment securities and federal funds sold increased $17,427,000
to $67,247,000 in 1995 and $10,195,000 to $49,820,000 in 1994 from
$39,625,000 in 1993. The 1996 and 1995 increases resulted from deploying
additional liquidity in the investment securities portfolio. Sources of the
additional liquidity were borrowed funds and the excess of the increase in
average deposits over the increase in average loans which was invested.
Management uses borrowed funds to increase earning assets and enhance the
Company's interest rate risk profile. In 1994, average loans declined while
average deposits increased resulting in additional liquidity which was
invested in the investment securities portfolio.
FUNDING
Deposits represent the Bank's principal source of funds for investment.
Deposits are primarily core deposits in that they are demand, savings, and time
deposits under $100,000 generated from local businesses and individuals. These
sources represent relatively stable, long term deposit relationships which
minimize fluctuations in overall deposit balances. The Bank has never used
brokered deposits. Table 9 presents the composition of deposits for the five
years ended December 31, 1995.
-29-
<PAGE>
Table 9 Composition of Deposits
(Dollars in thousands)
1995 1994 1993 1992 1991
--------- --------- --------- --------- ---------
Demand, non-interest $ 49,575 $ 43,112 $ 31,278 $ 30,156 $ 28,299
Demand, interest 74,944 77,380 70,060 65,447 52,771
Savings 17,385 17,254 16,637 12,198 4,441
Time 22,142 14,384 17,598 24,984 30,652
--------- --------- --------- --------- ---------
Total $164,046 $152,130 $135,573 $132,785 $116,163
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
Deposits increased $17,041,000 from year-end or 10% to $181,087,000 as of
September 30, 1996 and increased $11,916,000 or 8% to $164,046,000 as of
December 31, 1995 over 1994 and increased $16,557,000 or 12% as of December
31, 1994 over 1993. Average total deposits in the first nine months of 1996
of $167,404,000 showed an increase of $17,486,000 or 12% over the same period
in 1995 and in 1995 of $151,960,000 showed an increase of $8,765,000 or 6%
over 1994. During 1996, average interest-bearing deposits increased
$12,819,000 and non-interest bearing deposits increased $4,667,000 over the
same period in 1995. The 1995 growth in average deposits resulted from an
increase in non-interest bearing demand deposits of $6,024,000 and an
increase of $2,741,000 in interest-bearing deposits from 1994.
Another source of funding for the Company is borrowed funds. Typically,
these funds result from the use of agreements to sell investment securities
with a repurchase at a designated future date, also known as repurchase
agreements. Repurchase agreements are conducted with major banks and
investment brokerage firms. The maturity of these arrangements for the Bank
is typically 30 days, although the Bank has $4,000,000 maturing in December,
1996. The average balance of borrowed funds was $11,537,000 and $22,000
during 1995 and 1994, respectively. The weighted average interest rate for
1995 was 6.79%. The weighted average interest rate for 1994 was not
meaningful as the only borrowing occurred on December 31, 1994. The maximum
amount of borrowings at any month-end during 1995 was $20,000,000. The
weighted average interest rate on borrowed funds at December 31, 1995 and
1994 was 6.3% and 8.05%, respectively.
LIQUIDITY AND INTEREST RATE SENSITIVITY
Liquidity management refers to the Bank's ability to provide funds on an ongoing
basis to meet fluctuations in deposit levels as well as the credit needs and
requirements of its clients. Both assets and liabilities contribute to the
Bank's liquidity position. Federal funds lines, short-term investments and
securities, and loan repayments contribute to liquidity, along with deposit
increases, while loan funding and deposit withdrawals decrease liquidity. The
Bank assesses the likelihood of projected funding requirements by reviewing
historical funding patterns, current and forecasted economic conditions and
individual client funding needs. The Bank maintains informal lines of credit
with its correspondent banks for short-term liquidity needs. These informal
lines of credit are not committed facilities by the correspondent banks and no
fees are paid by the Bank to maintain them.
The Bank manages its liquidity by maintaining a majority of its investment
portfolio in liquid investments in addition to its federal funds sold.
Liquidity is measured by various ratios, including the liquidity ratio of net
liquid assets compared to total assets. As of December 31, 1995, this ratio
was 18.3%. Other key liquidity ratios are the ratios of loans to deposits
and federal funds sold to deposits, which were 65.1% and 4.3%, respectively,
as of December 31, 1995.
-30-
<PAGE>
INTEREST RATE SENSITIVITY
Interest rate sensitivity is a measure of the exposure of the Company's future
earnings due to changes in interest rates. If assets and liabilities do not
reprice simultaneously and in equal volumes, the potential for such exposure
exists. It is management's objective to achieve a modestly asset-sensitive
position, such that the net interest margin of the Company increases as market
interest rates rise and decreases when rates decline.
One quantitative measure of the "mismatch" between asset and liability
repricing is the interest rate sensitivity "gap" analysis. All
interest-earning assets and funding sources are classified as to their
expected repricing or maturity date, whichever is sooner. Within each time
period, the difference between asset and liability balances, or "gap," is
calculated. Positive cumulative gaps in early time periods suggest that
earnings will increase if interest rates rise. Negative gaps suggest that
earnings will decline when interest rates rise. Table 10 presents the gap
analyses for the Company at September 30, 1996 and December 31, 1995.
Mortgage backed securities are reported in the period of their expected
repricing based upon estimated prepayments developed from recent experience.
-31-
<PAGE>
<TABLE>
<CAPTION>
Table 10 Interest Rate Sensitivity
(Dollars in thousands)
Next day Over three Over one
and within months and and within Over
As of September 30, 1996 Immediately three months within one year five years five years Total
------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Rate Sensitive Assets:
Federal Funds Sold $ 21,000 $ - $ - $ - $ - $ 21,000
Investment Securities:
Treasury and Agency Obligations - - 4,548 1,404 - 5,952
Mortgage-Backed Securities - 2,376 8,816 21,611 21,273 54,076
Municipal Securities - - 160 1,486 4,271 5,917
Other - - - - 898 898
------------------------------------------------------------------------------------------
Total Investment Securities - 2,376 13,524 24,501 26,442 66,843
Loans Excluding Nonaccrual Loans 105,647 476 2,640 4,661 6,073 118,911
------------------------------------------------------------------------------------------
Total Rate Sensitive Assets $ 126,061 $ 2,852 $ 16,164 $ 29,162 $ 32,515 $ 206,754
------------------------------------------------------------------------------------------
Rate Sensitive Liabilities:
Deposits:
Money Market, NOW, and Savings $ 104,066 - - - - $ 104,066
Time Certificates - $ 11,711 $ 11,821 $ 927 - 24,459
------------------------------------------------------------------------------------------
Total Interest-bearing Deposits 104,066 11,711 11,821 927 - 128,525
Borrowings - 24,525 - - - 24,525
------------------------------------------------------------------------------------------
Total Rate Sensitive Liabilities $ 104,066 $ 36,236 $ 11,821 $ 927 - $ 153,050
------------------------------------------------------------------------------------------
Gap $ 21,995 $ (33,384) $ 4,343 $ 28,235 $ 32,515 $ 53,704
Cumulative Gap $ 21,995 $ (11,389) $ (7,046) $ 21,189 $ 53,704
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Next day Over three Over one
and within months and and within Over
As of December 31, 1995 Immediately three months within one year five years five years Total
------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Rate Sensitive Assets:
Federal Funds Sold $ 7,000 - - - - $ 7,000
Investment Securities:
Treasury and Agency Obligations - $ 5,002 $ 992 $ 5,028 - 11,022
Mortgage-Backed Securities - 2,501 6,801 23,144 $ 20,702 53,148
Municipal Securities - - 175 941 4,983 6,099
Other - - - - 718 718
--------------------------------------------------------------------------------------
Total Investment Securities - 7,503 7,968 29,113 26,403 70,987
Loans Excluding Nonaccrual Loans 94,196 625 2,618 3,402 5,175 106,016
--------------------------------------------------------------------------------------
Total Rate Sensitive Assets $ 101,196 $ 8,128 $ 10,586 $ 32,515 $ 31,578 $ 184.003
--------------------------------------------------------------------------------------
Rate Sensitive Liabilities:
Deposits:
Money Market, NOW, and Savings $ 92,329 - - - - $ 92,329
Time Certificates - $ 8,738 $ 11,990 $ 1,414 - 22,142
--------------------------------------------------------------------------------------
Total Interest-bearing Deposits 92,329 8,738 11,990 1,414 - 114,471
Borrowings - 16,000 4,000 - - 20,000
--------------------------------------------------------------------------------------
Total Rate Sensitive Liabilities $ 92,329 $ 24,738 $ 15,990 $ 1,414 - $ 134,471
--------------------------------------------------------------------------------------
Gap $ 8,867 $ (16,610) $ (5,404) $ 31,101 $ 31,578 $ 49,532
Cumulative Gap $ 8,867 $ (7,743) $ (13,147) $ 17,954 $ 49,532
</TABLE>
The Company's positive cumulative total gap results from the exclusion from
the above table of noninterest-bearing demand deposits, which represent a
significant portion of the Company's funding sources. The Company maintains
a minor negative cumulative gap in the next day and within three months and
the over three months and within one year time periods and a positive
cumulative gap in all other time periods. The Company's experience indicates
money market deposit rates tend to lag changes in the prime rate which
immediately impact the prime-based loan portfolio. Even in the Company's
negative gap time periods, rising rates result in an increase in net interest
income. Should interest rates stabilize or decline in future periods, it is
reasonable to assume that the Company's net interest margin, as well as net
interest income, may decline correspondingly.
-32-
<PAGE>
<TABLE>
<CAPTION>
TABLE 11 Investment Maturity Distribution
December 31, 1995
WEIGHTED WEIGHTED WEIGHTED WEIGHTED
CARRYING 1 YEAR AVERAGE 1 YEAR TO AVERAGE 5 YEARS TO AVERAGE MORE THAN AVERAGE
VALUE OR LESS YIELD 5 YEARS YIELD 10 YEARS YIELD 10 YEARS YIELD
-------- --------- ------- ---------- ------ ----------- ------- ----------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. TREASURY $ 6,020 $ 992 4.52% $ 5,028 5.24% - -- -
U.S. AGENCIES 5,002 5,002 5.62% - - - -- -
MORTGAGE BACKED
SECURITIES 53,148 -- -- 1,550 6.45% $ 3,172 6.58% $48,426 7.04%
OBLIGATIONS OF STATES
AND POLITICAL
SUBDIVISIONS 6,099 175 3.40% 941 6.87% 2,251 5.48% 2,732 5.29%
OTHER SECURITIES 169 - - - - - - 169 -
FEDERAL HOME LOAN BANK 549 - - - - - - 549 -
-------- --------- ---------- ---------- ----------
$70,987 $6,169 $ 7,519 $ 5,423 $51,876
-------- --------- ---------- ---------- ----------
------------------- ---------- ---------- ----------
</TABLE>
Yields are presented on an actual basis.
Table 12 presents the time remaining until maturity for certificates of
deposits in denominations of $100,000 or more as of September 30, 1996, which
the Company believes is not significantly different than the time remaining
until maturity at December 31, 1995.
Table 12 Certificates of Deposit
Denominations of $100,000 or more
(in thousands) September 30, 1996
------------------
Time remaining until maturity:
Less than 3 months $ 5,316
3 months to 6 months 2,379
6 months to 12 months 2,232
More than 12 months -
-----------------
Total $ 9,927
-----------------
-----------------
Loan maturities for commercial, financial and agricultural and real estate
construction loans at September 30, 1996, which the Company believes are not
materially different from December 31, 1995, are presented in Table 13.
Table 13 Loan Maturities
(Dollars in thousands)
After One
but Within After
Within One Five Five
Year Years Years Total
- ----------------------------------------------------------------------------
Commercial, financial and
agricultural $ 21,270 $ 8,557 $ 4,527 $ 34,354
Real estate construction 14,726 - - 14,726
--------------------------------------------
Total $ 35,996 $ 8,557 $ 4,527 $ 99,080
--------------------------------------------
Commercial, financial and agricultural loans at September 30, 1996 maturing
after one year are comprised of fixed rate and variable rate loans as shown
below:
(Dollars in thousands) After One
but Within After Five
Five Years Years Total
Fixed rate $ 360 $ - $ 360
Variable rate 8,197 4,527 12,724
---------------------------------------
$ 8,557 $ 4,527 $ 13,084
---------------------------------------
The Company believes the distribution of fixed rate and variable rate
commercial, financial and agricultural loans at December 31, 1995 was not
significantly different than as shown above.
CAPITAL RESOURCES
Management seeks to maintain adequate capital to support anticipated asset
growth and credit risks, and to ensure that the Company and the Bank are in
compliance with all regulatory capital guidelines. The primary source of new
capital for the Company has been the retention of earnings. Shareholders'
equity was $20,984,000 at December 31, 1995, an increase of $3,274,000, or
18.5% from the $17,710,000 balance at December 31, 1994. This increase was
due to 1995 earnings of $3,149,000, repayment of the ESOP loan of $191,000
and an increase in the net after-tax unrealized gain on available-for-sale
investments of $1,016,000 from the prior year-end less cash dividends of
$820,000 and the repurchase of common stock of $262,000. The Company does
not have any material commitments for capital expenditures as of December 31,
1995.
The Company pays a quarterly cash dividend on its common stock as part of
efforts to enhance shareholder value. The Company's goal is to maintain a
strong capital position that will permit payment of a consistent cash dividend
which may grow commensurately with earnings growth.
During 1995, the Board of Directors approved a stock repurchase program
authorizing open market purchases of up to 3% of the shares outstanding, or
approximately 68,300 shares, in order to enhance long term shareholder value. As
of September 30, 1996, 68,340 shares had been purchased for a total purchase
price of $952,000.
The Company and the Bank are subject to capital adequacy guidelines issued by
the federal bank regulatory authorities. Under these guidelines, the minimum
total risk-based capital requirement is 10.0% of risk-weighted assets and
certain off-balance sheet items for a "well capitalized" depository institution.
At least 6.0% of the 10.0% total risk-based capital ratio must consist of Tier 1
capital, defined as tangible common equity, and the remainder may consist of
-33-
<PAGE>
subordinated debt, cumulative preferred stock and a limited amount of the
allowance for loan losses.
The federal regulatory authorities have established minimum capital leverage
ratio guidelines for state member banks. The ratio is determined using Tier 1
capital divided by quarterly average total assets. The guidelines require a
minimum of 5.0% for a "well capitalized" depository institution.
The Company's risk-based capital ratios were in excess of regulatory
guidelines for a "well capitalized" depository institution as of September 30,
1996, and December 31, 1995, 1994 and 1993. Capital ratios for the
Company are set forth in Table 12:
Table 14 Capital Ratios December 31,
September 30, -----------------------
1996 1995 1994 1993
------------- ---- ---- ----
Total risk-based capital ratio 16.9% 17.0% 15.4% 16.1%
Tier 1 risk-based capital ratio 15.7% 15.8% 14.2% 14.9%
Tier 1 leverage ratio 9.9% 10.2% 10.9% 11.1%
Capital ratios for the Bank at September 30, 1996 and December 31, 1995 were
15.1% and 14.3% total risk-based capital, 13.8% and 13.1% Tier 1 risk-based
capital ratio and 8.7% and 8.8% Tier 1 leverage ratio. Prior to July 25,
1995, the Bank's ratios are the same as the Company's ratios.
EFFECTS OF INFLATION
The impact of inflation on a financial institution differs significantly from
that exerted on manufacturing, or other commercial concerns, primarily because
its assets and liabilities are largely monetary. In general, inflation
primarily affects the Company indirectly through its effect of increasing market
rates of interest. However, the Company's earnings are affected by the spread
between the yield on earning assets and rates paid on interest-bearing
liabilities rather than the absolute level of interest rates. Additionally,
there may be some upward pressure on the Company's operating expenses, such as
adjustments in salaries and benefits and occupancy expense, based upon consumer
price indices. In the opinion of management, inflation has not had a material
effect on the consolidated financial statements for the years ended December 31,
1995, 1994 and 1993. Changes in interest rates are highly sensitive to many
factors which are beyond the control of management. Changes in interest rates
will influence the growth of loans, investments and deposits, as well as the
rates charged on loans and paid on deposits. The nature, timing and impact of
future changes in interest rates or monetary and fiscal policies are not
predictable.
-34-
<PAGE>
ITEM 3. PROPERTIES
The Bank's main branch is located at 720 Front Street, Santa Cruz,
California in a free standing building consisting of approximately 5,760
square feet. The lease is for a period of ten (10) years ending on May 31,
1997. The current rent is $12,060 per month. An option to renew the lease
for four (4) additional sixty month periods is provided. The monthly rental
at the commencement of each renewal period shall be the greater of $11,000
per month or an amount determined by using a formula based upon increases in
the CPI.
The Company's and the Bank's administrative offices and Investment Services
Department are located in a mixed use building at 740 Front Street, Santa Cruz,
California, adjacent to the Bank's main branch. The lease is for a ten (10)
year term commencing on November 1, 1988 and contains three (3) options to renew
for five (5) years each. The Bank has leased additional space in the same
building several times under addendum to the lease, and such addendum run
concurrently with the lease. The present rent is $11,954 per month and is
increased annually in October of each year in accordance with increases in the
CPI.
35
<PAGE>
The Bank's Soquel Drive branch is located at 1975 Soquel Drive, Santa Cruz,
California and consists of approximately 4,935 square feet plus parking. The
lease is for a ten (10) year term commencing on October 1, 1990 with two (2)
options to renew for five (5) years each. The present rent is $6,909 per square
foot ($1.40 per month) and increases by $.05 per square feet per year until it
reaches $1.50 per square foot in years 8, 9 and 10 of the lease. The rent
during the option periods is to be at a market rate determined at the beginning
of each option period and will be adjusted during the option period in
accordance with increases in the CPI. The Bank also has a right of first
refusal to purchase the building.
The Bank's Aptos branch is located at 7775 Soquel Drive, Aptos, California
and contains approximately 1,450 square feet of space. The lease is for a five
(5) year term commencing on July 3, 1996, with an option to renew for five (5)
years. The initial rent is adjusted annually in accordance with increases in
the CPI and at present the rent is $4,142 per month.
The Bank's Scotts Valley branch is located at 203A Mt. Hermon Road, Scotts
Valley, California in a 3,420 square foot area. The lease is for a five (5)
year term beginning on April 1, 1992 with three (3) options to renew for five
(5) years each. The current rent is $4,455 per month and is increased annually
in accordance with increases in the CPI. During the initial options period,
annual increases in rent shall continue to be in accordance with increases in
the CPI. The rent for the first year of the second and third options shall be
based upon market rents in Scotts Valley, and will be adjusted annually during
the remaining four years of each option period in accordance with the CPI.
The Bank's Watsonville branch is located at 1055 S. Green Valley Road,
Watsonville, California and consists of approximately 2,975 square feet. The
lease is for a ten (10) year term commencing on February 1, 1990 with two (2)
options to renew for five (5) years each. The current rent is $6,075 per month
and is adjusted annually in accordance with increases in the CPI.
The Bank's computer and operations center is located at 140 Dubois Street,
Santa Cruz, California and contains approximately 5,250 square feet. The lease
commenced on January 22, 1996 for a one (1) year term and provides an option to
renew the lease for one year. The rent is currently $6,139 per month.
36
<PAGE>
ITEM 4. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
--------------------------------------------------------------
The following sets forth information as of November 29, 1996, pertaining to
securities ownership by persons known to the Company to own 5% or more of any
class of the Company's voting securities. The information contained herein has
been obtained from the Company's records, and from information furnished
directly by the individual or entity to the Company.
Amount and Nature
of Beneficial
Name and Address Relationship Ownership as of Percentage
of Beneficial Owner With Company November 29, 1996 of Class
- ------------------- ------------ --------------- ----------
Richard E. Alderson Director 174,103 7.78%
740 Front Street
Santa Cruz, CA 95060
Ronald M. Israel Director 175,833 7.86%
740 Front Street
Santa Cruz, CA 95060
The following information is supplied with respect to each executive
officer and director and is based upon the records of the Company and
information furnished to it by the named individuals.
Amount and Nature of Beneficial Percentage
Name of Director or Officer Ownership as of November 29, 1996 1/ of Class
- --------------------------- --------------------------------- ----------
Richard E. Alderson 174,103 2/ 3/ 7.78%
Douglas D. Austin 22,048 2/ .99%
John C. Burroughs 26,523 5/ 1.19%
Bud W. Cummings 48,436 2/ 2.16%
David V. Heald 15,886 5/ .71%
37
<PAGE>
Ownership as of
Name of Director or Officer November 29, 1996 1/ Percentage of Class
- --------------------------- ----------------- -------------------
Richard G. Hofstetter 24,295 4/5/ 1.08%
Ronald M. Israel, M. D. 175,833 2/6/ 7.86%
Bruce H. Kendall 1,226 5/ 0.05%
Malcolm D. Moore 104,095 2/ 4.65%
Harvey J. Nickelson 66,381 5/ 2.97%
Gus J.F. Norton 56,743 2/7/ 2.54%
James C. Thompson 84,090 2/ 3.76%
All Executive Officers and Directors
of the Company as a Group
(12 in number) 799,659 8/ 35.74%
__________________________
1/ Unless otherwise indicated, the beneficial owner of these securities has
sole voting and investment power.
2/ Includes an option for 4,000 shares which is exercisable within sixty days
of the Record Date.
3/ Mr. Alderson disclaims beneficial ownership of 4,177 shares held in trust
for his children. Includes 165,302 shares held in trust over which Mr.
Alderson has sole investment and disposition power.
4/ Includes 10,600 shares in trusts over which Mr. Hofstetter has sole voting
and investment power.
5/ Mssrs. Burroughs, Heald, Hofstetter, Kendall and Nickelson are
participants in the Bank's Employee Stock Ownership Plan with 401(k)
provisions. Included above are 1,323 shares, 2,817 shares, 982 shares, 226
shares and 3,923 shares, respectively, owned through the 401(k) provisions.
Also included above are 200 shares, 1,952 shares, 1,637 shares, zero shares
and 2,458 shares, respectively, allocated to the named individuals from
Bank contributions to the employee stock ownership plan for which the
participants hold voting power.
6/ Includes 61,714 shares in a trust over which Dr. Israel has sole voting
and investment power.
7/ Includes 52,743 shares in a trust over which Mr. Norton has sole voting
and investment power.
8/ Includes options for 28,000 shares which are exercisable within sixty days
of the Record Date.
ITEM 5. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
-----------------------------------------------
Relationship Director Since
Name of Director Age With Company (Company/Bank)
- ---------------- --- ------------ --------------
Richard E. Alderson 57 Director 1995/1993
Douglas D. Austin 55 Director 1995/1982
John C. Burroughs 51 Director and Vice President 1995/1982
Bud W. Cummings 64 Director 1995/1982
Ronald M. Israel, M. D. 59 Director 1995/1982
Malcolm D. Moore 59 Director 1995/1982
Harvey J. Nickelson 52 President, Chief Executive 1995/1982
Officer and Director
Gus J.F. Norton 55 Director 1995/1982
James C. Thompson 56 Chairman of the Board 1995/1982
38
<PAGE>
There are no family relationships between any two or more of the
directors or executive officers. No officer or director of the Company
serves as a director of any company required to report under the Securities
Exchange Act of 1934 or any investment company registered under the
Investment Company Act of 1940.
Set forth below are brief summaries of the background and business
experience of all the directors of the Company. Unless otherwise indicated,
each person has been engaged in the noted occupation with the same entity for
more than 5 years.
RICHARD E. ALDERSON is engaged in personal investments.
DOUGLAS D. AUSTIN is President of Austin Insurance Agency, Inc.
JOHN C. BURROUGHS, is a Vice President of the Bank and Manager of the
Bank's Investment Services Department. Prior to that he was a Certified
Financial Planner with Burroughs Financial Management from 1989 to 1992 and
with Burroughs, Costa Associates prior to 1989.
BUD W. CUMMINGS retired in 1986 from serving as the proprietor of the
Santa Cruz Coin Exchange.
RONALD M. ISRAEL, M.D. is a private investor. Previously, he was a
self-employed physician and an Assistant Professor of Clinical Medicine at
the University of California Medical Center, San Francisco from 1971 to 1994.
MALCOLM D. MOORE is President of P & M Plumbing, Inc. He is also a
partner in two property management and real estate development firms -- P & M
Enterprises and Triad Associates.
HARVEY J. NICKELSON is President, Chief Executive Officer and a director
of the Company and Bank.
GUS J. F. NORTON is the broker of record and a partner in Sun
Properties, a real estate sales and development association.
JAMES C. THOMPSON is currently a partner with the law firm of Comstock,
Thompson, Kontz and Brenner since August 1, 1994. Prior to that he was with
the law firms of Comstock, Shannon and Thompson from June 1, 1992 to August
1, 1994 and Comstock, Shanle, Shannon & Thompson from August 1, 1989 to June
1992.
On November 2, 1993, MPC/PCI Steinhardt Limited, a California limited
partnership which owned a multi-unit apartment building located in San
Francisco, filed a Chapter 11 bankruptcy petition in the U.S. Bankruptcy
Court in San Francisco. John C.
39
<PAGE>
Burroughs, a Vice President of the Bank and a Director of the Company, was a
general partner of this partnership until July 30, 1993.
EXECUTIVE OFFICERS
Set forth below is certain information as of June 30, 1996, with respect
to each executive officer of the Company or Bank, not previously discussed.
Positions and Offices Officer
With the Company Since
Name Age and the Bank (Company/Bank)
- ---- --- --------------------- -------------
David V. Heald 47 Executive Vice President 1995/1982
of the Company; Executive
Vice President and Chief
Banking Officer of the Bank
Richard G. Hofstetter 41 Senior Vice President and Senior ---/1987
Lending Officer of the Bank
Bruce H. Kendall 38 Senior Vice President and Chief 1995/1995
Financial Officer of the Company
and the Bank
DAVID V. HEALD is Executive Vice President of the Company and Executive
Vice President and Chief Banking Officer of the Bank. Prior to 1992, Mr. Heald
was the Senior Loan Officer of the Bank.
RICHARD G. HOFSTETTER is Senior Vice President and Senior Lending Officer
of the Bank. Prior to 1992, Mr. Hofstetter was Manager of the Bank's Real
Estate Department.
BRUCE H. KENDALL become Senior Vice President and Chief Financial Officer
of the Company and the Bank in 1995. From October 1990 to August 1994, Mr.
Kendall was employed by Silicon Valley Bank, most recently as Senior Vice
President of Finance.
ITEM 6. EXECUTIVE COMPENSATION
The following table sets forth a summary of the compensation paid (for
services rendered in all capacities) during the past three fiscal years to the
executive officers of the Company whose annual compensation for 1995 exceeded
$100,000. All compensation is presently paid by the Bank.
40
<PAGE>
<TABLE>
<CAPTION>
Long-Term
Compensation
Other Annual Awards All Other
Name Position Year Salary Bonus Compensation Options Compensation
- ---- -------- ---- ------ ----- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Harvey J. President 1995 $148,750 $81,000 -0- -0- $104,156 1/
Nickelson and Chief 1994 $141,222 $81,000 -0- -0- $ 34,030 1/
Executive 1993 $133,580 $76,000 -0- -0- $ 24,428 1/
Officer
David V. Executive 1995 $107,192 $42,500 -0- -0- $ 53,784 1/
Heald Vice 1994 $102,083 $42,500 -0- -0- $ 17,490 1/
President 1993 $ 96,375 $37,000 -0- -0- $ 10,903 1/
and Chief
Banking
Officer
Richard G. Senior 1995 $ 89,942 $35,000 -0- -0- $ 4,936 2/
Hofstetter Vice 1994 $ 85,591 $35,000 -0- -0- $ 4,860 2/
President 1993 $ 80,472 $30,290 -0- -0- $ 2,606 2/
and Senior
Loan Officer
</TABLE>
____________________
1/ Includes amounts allocated to an ESOP account, contributed to a 401(k) Plan
and accrued under a Salary Continuation Agreement
2/ Includes amounts allocated to an ESOP account and contributed to a 401(k)
Plan.
During 1995, non-employee directors of the Company received a retainer of
$4,800 per year and also received $500 for attending Board meetings, $300 for
loan committee meetings and $200 for other committee meetings. Beginning in
October, 1995, the Chairman of the Company receives a retainer of $7,500 per
quarter for his services and receives no other cash compensation. Employee
directors of the Company receive $1,000 for attending Board meetings.
In addition, non-employee directors of the Company receive stock options
for 2,000 shares each year for five years beginning in 1995.
41
<PAGE>
DIRECTORS' DEFERRED COMPENSATION
In November, 1992, the Bank entered into Deferred Compensation Agreements
("Compensation Agreements") with its directors, except Harvey J. Nickelson.
Under the Compensation Agreements, the directors may elect before January 1 of
each year to defer all or a part of their directors' fees, and they will be
credited with interest based upon the deferred amount. The interest rate on the
deferred amount of the directors' compensation is presently 6.6%. The deferred
amount of the directors' compensation is to be paid to each director at the
earlier of termination of their service as a director of the Bank; attainment of
age 65; or upon 180 days advance notice to the director by the Bank. In the
event of a director's death prior to termination of his service with the Bank or
age 65, his beneficiary will be entitled to receive the payments under the
Compensation Agreement. Additionally, the Compensation Agreement provides
certain death benefits. The Bank has purchased an insurance policy on the life
of each of the participating directors to enable the Bank to make payments as
required by the Compensation Agreements.
EXECUTIVE SALARY CONTINUATION PLANS
On September 19, 1992, the Bank entered into Executive Salary
Continuation Agreements ("Salary Continuation Agreements") with Harvey J.
Nickelson and David V. Heald (collectively "Recipient"). Under the Salary
Continuation Agreements upon retirement at age 65, Mr. Nickelson is entitled
to $75,000 per year and Mr. Heald is entitled to $50,000 per year, each for
15 years. If the Recipient elects early retirement after age 55 but prior to
attaining age 65, the annual payments shall be reduced by 2% per year for
each year such retirement precedes age 65 and payments are limited to the
vested portion of the benefit. In the event of the Recipient's death or
disability, their designated beneficiary would be entitled to the benefits.
In the event of a Change of Control of the Company, as defined in the Salary
Continuation Agreements, the Recipient shall immediately become fully vested
and in the event of termination of employment after a Change of Control has
occurred shall be entitled to receive payments pursuant to the terms of the
Salary Continuation Agreements. The Salary Continuation Agreements also
provide certain death benefits. The Bank has purchased insurance policies on
the life of each of these officers to enable the Bank to make payments as
required by the Salary Continuation Agreements.
COAST COMMERCIAL BANK EMPLOYEE STOCK OWNERSHIP PLAN
In November, 1991, the Bank amended and restated the Coast Commercial Bank
Employee Savings Plan and it was renamed the Coast Commercial Bank Employee
Stock Ownership Plan, which contains 401(k) provisions ("KSOP"). The KSOP is
considered by the Board of Directors to be a means of recognizing the
contributions made to the Bank's successful operation by its employees and to
reward such contributions. Under the KSOP, there is both a purchase of the
Company's Common
42
<PAGE>
Stock for the account of employees as part of the employee stock ownership
provisions and a contribution by the Bank and an opportunity for employee
contributions and matching under the 401(k) provisions. During 1994, the Bank
contributed $120,000 to the employee stock ownership portion and $41,885 to the
401(k) portion of the KSOP. Under the 401(k) portion, the Bank's matching funds
are used to purchase the Company's Common Stock.
All employees who are 21 years old and have been credited with 1,000 hours
of service are eligible to participate in the KSOP. When an employee retires or
in the event of death or total disability, an employee will be entitled to their
distribution not later than the end of the year following termination of
employment. An employee who has attained age 55 and has 15 years of service may
elect to receive benefits pursuant to the early retirement provisions of the
KSOP. If employment is terminated for any other reason, an employee is entitled
to the payment of their KSOP account.
COAST BANCORP 1995 STOCK OPTION PLAN
On February 22, 1995, the Company adopted the Coast Bancorp 1995 Stock
Option Plan ("1995 Plan") which sets aside 400,000 shares of no par value Common
Stock of the Company for which options may be granted to key, full-time
salaried employees and officers of the Company, as well as non-employee
directors of the Company.
The exercise price of all options to be granted under the 1995 Plan must be
at least 100% of the fair market value of the Company's Common Stock on the
granting date and be paid in full at the time the option is exercised either in
cash, shares of the Company's Common Stock with a fair market value equal to the
purchase price or a combination thereof. Under the 1995 Plan, all options
expire no more than ten years after the date of grant.
In the case of termination of employment or status as a director, no
additional options become exercisable, and exercise rights cease after three (3)
months unless employment or status as a director is terminated because of death
or disability, in which case the option may be exercised for not more than one
year following termination. In case of termination of employment for cause, or
cessation of status as a director as a result of being removed from office by a
bank regulatory authority or by judicial process, exercise rights cease after
thirty (30) days.
No options had been granted to executive officers of the Company pursuant
to the 1995 Plan as of December 31, 1995.
43
<PAGE>
ITEM 7. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
INDEBTEDNESS OF MANAGEMENT AND OTHER TRANSACTIONS
The Company has had and expects to have in the future, banking transactions
in the ordinary course of its business with its directors, executive officers,
principal shareholders, and their associates, on substantially the same terms,
including interest rates and collateral on loans comparable to transactions with
others, and such transactions did not involve more than the normal risks of
collectibility or present other unfavorable features.
ITEM 8. LEGAL PROCEEDINGS
The Company is a party to routine litigation which is incidental to its
business. As of September 30, 1996, there are no pending legal proceedings to
which the Company is a party which may have a materially adverse effect upon the
Company's business.
ITEM 9. MARKET PRICE OF AND DIVIDENDS ON THE REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS
A. There is limited trading in the shares of Common Stock of the
Company. The Company's Common Stock is not listed on any exchange, but is
listed on the NASDAQ Bulletin Board. There are several market makers handling
trades in the Company's Common Stock.
The prices indicated below may not necessarily represent actual
transactions.
Sale Price of the Company's Common Stock
----------------------------------------
Quarter Ended 1996 Bid Ask
- ------------------ ------ ------
March 31 $13.00 $15.00
June 30 14.00 16.25
September 30 15.00 17.00
Quarter Ended 1995
- ------------------
March 31 $ 9.00 $10.25
June 30 10.62 11.00
September 30 10.25 11.00
December 31 10.25 14.00
44
<PAGE>
Quarter Ended 1994
- ------------------
March 31 $11.50 $12.00
June 30 10.50 12.00
September 30 9.50 11.00
December 31 9.63 10.25
B. As of September 11, 1996, the approximate number of holders of the
Company's Common Stock was 444.
C. The Company paid a cash dividend of $.10 per share in the first,
second and third quarters of 1996; cash dividends of $.09 per share in each
quarter during 1995; and cash dividends of $0.075 per share in each quarter
of 1994.
There can be no assurances that the Company will pay either cash or stock
dividends in the future.
The Company considers the payment of cash dividends in order to return a
portion of its profits to shareholders. In considering the amount of cash
dividends to be paid, if any, the Company considers the maintenance of a
consistent dividend policy as part of its effort to make the Company's stock
attractive to investors; the amount and frequency of dividends; the payout
ratio; the need of the Company to have sufficient funds available to pay its
expenses; and compliance with applicable laws, regulations and other regulatory
requirements.
California law provides that in order to declare dividends: (i) after a
corporation has paid a dividend to its shareholders, it must be likely that the
corporation will be able to meet its liabilities as they mature; and (ii) the
amount of the corporation's retained earnings immediately prior to the payment
of the dividend must be equal to or exceed the amount of the proposed cash
dividend.
The Company's primary source of revenue is dividends from its subsidiary,
the Bank. The payment of dividends by the Bank is subject to various legal and
regulatory requirements. See Item 1 "Restrictions on Dividends and Other
Distributions."
ITEM 10. RECENT SALES OF UNREGISTERED SECURITIES
In connection with the reorganization of the Bank into a bank holding
company structure, the Company issued 2,277,999 shares of its Common Stock to
the shareholders of the Bank in a tax-free exchange pursuant to the exemption
provided under Section 3(a)(12) of the Securities Act of 1933. The
reorganization was completed on July 25, 1995.
45
<PAGE>
ITEM 11. DESCRIPTION OF REGISTRANT'S SECURITIES TO BE REGISTERED
AUTHORIZED CAPITAL. The Company has an authorized capitalization of
20,000,000 shares of no par value Common Stock of which 2,209,659 shares are
outstanding and 10,000,000 shares of Preferred Stock, of which there are no
shares outstanding. The balance of the Company's authorized capital stock
will be available to be issued when and as the Board of Directors of the Company
determines it advisable to do so. The Board of Directors of the Company has the
authority to issue shares of Common Stock or Preferred Stock to the extent of
the number of authorized unissued shares without obtaining the approval of
existing holders of Common Stock. The Board of Directors of the Company also
has the authority, without further action of the existing holders of Common
Stock, to fix the rights, preferences, privileges and restrictions on any
Preferred Stock issued, including dividend rights, conversion rights, voting
rights, terms of redemption, liquidation preferences, sinking fund terms and the
number of shares constituting any series or the designation of any such series.
The issuance of additional shares of the Company's Common Stock or
Preferred Stock could adversely affect the voting power of holders of Common
Stock. The issuance of shares of Preferred Stock could adversely affect the
likelihood that holders of Common Stock will receive dividend payments and
payments upon liquidation. There are no present plans, understandings,
arrangements or agreements to issue any additional shares of the Company's
Common Stock or Preferred Stock.
VOTING RIGHTS. Holders of the Company's Common Stock are entitled to one
vote for each share held, except that in the election of directors each
shareholder has cumulative voting rights. If cumulative voting is utilized,
each shareholder may give one candidate a number of votes equal to the number of
directors to be elected multiplied by the number of votes to which the
shareholder's shares are entitled, or may distribute the same number of votes
among as many candidates as the shareholder desires. In order to utilize
cumulative voting it must be requested by a shareholder at a shareholders'
meeting. After such request, a shareholder intending to cumulate their votes
may strike out the names of the nominees for whom they do not wish to vote. The
Board of Directors of the Company is not a classified Board.
ASSESSMENT OF SHARES. The Common Stock of the Company is not subject to
assessment, as its Articles of Incorporation do not confer upon its Board of
Directors the authority to order such assessment.
REPURCHASE OF SHARES. The Company may repurchase its own capital stock by
action of the Board of Directors, subject to limitations imposed by the rules of
the Federal Reserve Board and limitations on dividends. The Company is required
to give the Federal Reserve Bank of San Francisco prior written notice before
purchasing or redeeming its equity securities, if the gross consideration for
such purchase or redemption, when aggregated with the net consideration paid by
the Company for all
46
<PAGE>
purchases or redemptions of its equity securities during the 12 months preceding
the date of notification, equals or exceeds 10% of the Company's consolidated
net worth as of the date of such notice. The Federal Reserve Bank may permit a
purchase or redemption to be accomplished if it determines that the repurchase
or redemption would not constitute an unsafe or unsound practice and that it
would not violate any applicable law, rule, regulation or order, or any
condition imposed by, or written agreement with, the Federal Reserve Board.
PREEMPTIVE RIGHTS. The holders of the Company's Common Stock will not,
have preemptive rights. The Company's Common Stock does not have any conversion
rights, redemption rights or sinking fund provisions applicable thereto.
LIQUIDATION RIGHTS. The holders of the Company's Common Stock will also be
entitled to receive their pro rata share of the Company's assets distributable
to shareholders upon liquidation.
ITEM 12. INDEMNIFICATION OF DIRECTORS AND OFFICERS
CALIFORNIA LEGISLATION
The Company is subject to the California General Corporation Law ("CGCL"),
which provides a detailed statutory framework covering the limitation of
liability of directors in certain instances and indemnification of any officer,
director or other agent of a corporation who is made or threatened to be made a
party to any legal proceeding by reason of his or her service on behalf of such
corporation.
With respect to limitation of liability, the CGCL permits a California
corporation to adopt a provision in its articles of incorporation reducing or
eliminating the liability of a director to the corporation or its shareholders
for monetary damages for breach of the fiduciary duty of care, provided that
such liability does not arise from certain proscribed conduct (including
intentional misconduct and breach of the duty of loyalty). The CGCL in this
regard relates only to actions brought by shareholders on behalf of the
corporation (i.e., "derivative actions") and does not apply to claims brought by
outside parties.
With respect to indemnification, the CGCL provides that to the extent any
officer, director or other agent of a corporation is successful "on the merits"
in defense of any legal proceeding to which such person is a party or is
threatened to be made a party by reason of his or her service on behalf of such
corporation or in defense of any claim, issue, or matter therein, such agent
shall be indemnified against expenses actually and reasonably incurred by the
agent in connection therewith, but does not require indemnification in any other
circumstance. The CGCL also provides that a corporation may indemnify any agent
of the corporation, including officers and directors, against expenses,
judgments, fines, settlements and other amounts actually and reasonably
47
<PAGE>
incurred in a third party proceeding against such person by reason of his or her
services on behalf of the corporation, provided the person acted in good faith
and in a manner he or she reasonably believed to be in the best Interests of
such corporation. The CGCL further provides that in derivative suits a
corporation may indemnify such a person against expenses incurred in such a
proceeding, provided such person acted in good faith and in a manner he or she
reasonably believed to be in the best interests of the corporation and its
shareholders. Indemnification is not available in derivative actions (1) for
amounts paid or expenses incurred in connection with a matter that is settled or
otherwise disposed of without court approval or (ii) with respect to matters for
which the agent shall have been adjudged to be liable to the corporation unless
the court shall determine that such person is entitled to indemnification.
The CGCL permits the advancing of expenses incurred in defending any
proceeding against a corporate agent by reason of his or her service on behalf
of the corporation upon the giving of a promise to repay any such sums in the
event it is later determined that such person is not entitled to be indemnified.
Finally, the CGCL provides that the Indemnification provided by the statute is
not exclusive of other rights to which those seeking indemnification may be
entitled, by bylaw, agreement or otherwise, to the extent additional rights are
authorized in a corporation's articles of incorporation. The law further
permits a corporation to procure insurance on behalf of its directors, officers
and agents against any liability Incurred by any such individual, even if a
corporation would not otherwise have the power under applicable law to indemnify
the director, officer or agent for such expenses.
The Articles of Incorporation and Bylaws of the Company implement the
applicable statutory framework by limiting the personal liability of directors
for monetary damages for a breach of a directors' fiduciary duty of care and
allowing the Company to expand the scope of its indemnification of directors,
officers and other agents to the fullest extent permitted by California law.
The Articles of the Company, pursuant to the applicable provisions of the CGCL,
also includes a provision allowing the Company to include in its bylaws, and in
agreements between the Company and its directors, officers and other agents,
provisions expanding the scope of indemnification beyond that specifically
provided under California law.
ITEM 13. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
(a) Audited consolidated financial statements of the Company as of
December 31, 1995 and 1994 and for each of the three years in the period
ended December 31, 1995 and unaudited consolidated financial statements as of
September 30, 1996 and for the nine month periods ended September 30, 1996 and
1995 appear on pages 49 thru 66.
48
<PAGE>
COAST BANCORP
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
--------------- ----------------------------------
(unaudited)
<S> <C> <C> <C>
ASSETS 1996 1995 1994
--------------- --------------- --------------
Cash and due from banks $ 18,953,000 $ 18,956,000 $ 19,223,000
Federal funds sold 21,000,000 7,000,000 11,500,000
--------------- --------------- --------------
Total cash and equivalents 39,953,000 25,956,000 30,723,000
Securities:
Available-for-sale, at fair value
(amortized cost - 1996 $61,208,000, 1995 $64,080,000, 60,926,000 64,888,000 29,628,000
1994 $30,559,000)
Held-to-maturity, at amortized cost
(fair value - 1996 $5,974,000, 1995 $6,256,000, 1994 5,917,000 6,099,000 11,861,000
$11,377,000)
Loans:
Commercial 34,354,000 34,263,000 32,294,000
Real estate - construction 14,726,000 14,008,000 15,717,000
Real estate - term 62,332,000 50,580,000 41,200,000
Installment and other 7,839,000 7,989,000 8,437,000
--------------- -------------- --------------
Total loans 119,251,000 106,840,000 97,648,000
Unearned income (1,736,000) (1,631,000) (1,580,000)
Allowance for credit losses (3,099,000) (2,478,000) (1,859,000)
--------------- -------------- --------------
Net loans 114,416,000 102,731,000 94,209,000
Bank premises and equipment - net 2,046,000 2,408,000 2,780,000
Other real estate owned 903,000 830,000 1,419,000
Accrued interest receivable and other assets 6,131,000 4,756,000 5,241,000
--------------- -------------- --------------
TOTAL ASSETS $230,292,000 $207,668,000 $175,861,000
--------------- -------------- --------------
--------------- -------------- --------------
LIABILITIES AND EQUITY
LIABILITIES:
Deposits:
Noninterest-bearing demand $ 52,562,000 $ 49,575,000 $ 43,112,000
Interest-bearing demand 71,249,000 74,944,000 77,380,000
Savings 32,817,000 17, 385,000 17,254,000
Time 24,459,000 22,142,000 14,384,000
--------------- -------------- --------------
Total deposits 181,087,000 164,046,000 152,130,000
Securities sold under agreements to repurchase 24,525,000 20,000,000 4,000,000
Accrued expenses and other liabilities 2,602,000 2,638,000 1,830,000
Indebtedness of employee stock ownership plan - - 191,000
--------------- -------------- --------------
Total liabilities 208,214,000 186,684,000 158,151,000
STOCKHOLDERS' EQUITY:
Preferred stock - no par value;
10,000,000 shares authorized; no shares issued - - -
Common stock - no par value; 20,000,000 shares authorized;
shares outstanding: 2,209,659 in 1996, 2,257,899 in 1995
and 2,277,999 in 1994 11,041,000 11,282,000 11,383,000
Indebtedness of employee stock ownership plan - - (191,000)
Retained earnings 11,200,000 9,230,000 7,062,000
Net unrealized gain (loss) on available-for-sale securities (163,000) 472,000 (544,000)
--------------- -------------- --------------
Total stockholders' equity 22,078,000 20,984,000 17,710,000
--------------- -------------- --------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $230,292,000 $207,668,000 $175,861,000
--------------- -------------- --------------
--------------- -------------- --------------
</TABLE>
See notes to consolidated financial statements
49
<PAGE>
COAST BANCORP
CONSOLIDATED INCOME STATEMENTS
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30, YEARS ENDED DECEMBER 31,
------------------------------- -----------------------------------------
(unaudited) (unaudited)
1996 1995 1995 1994 1993
<S> <C> <C> <C> <C> <C>
Interest Income:
Loans, including fees $9,474,000 $8,754,000 $11, 804,000 $ 9,961,000 $ 9,901,000
Federal funds sold 576,000 519,000 671,000 368,000 238,000
Securities:
Taxable 3,112,000 2,243,000 3,284,000 1,666,000 1,206,000
Nontaxable 253,000 274,000 360,000 383,000 307,000
----------- ---------- ------------ ----------- -----------
Total interest income 13,415,000 11,790,000 16,119,000 12,378,000 11,652,000
Interest expense:
Deposits 2,525,000 2,201,000 2,970,000 2,442,000 2,699,000
Other borrowings 1,015,000 521,000 783,000 - -
----------- ---------- ------------ ----------- -----------
Total interest expense 3,540,000 2,722,000 3,753,000 2,442,000 2,699,000
----------- ---------- ------------ ----------- -----------
Net interest income 9,875,000 9,068,000 12,366,000 9,936,000 8,953,000
Provision for credit losses 675,000 675,000 900,000 600,000 850,000
----------- ---------- ------------ ----------- -----------
Net interest income after provision for credit losses 9,200,000 8,393,000 11,466,000 9,336,000 8,103,000
Noninterest income:
Customer service fees 1,313,000 1,148,000 1,527,000 1,501,000 1,440,000
Gain on sale of loans 1,174,000 515,000 678,000 1,174,000 2,418,000
Loan servicing fees 706,000 655,000 875,000 793,000 664,000
Gain on sale of other real estate owned - 42,000 65,000 163,000 50,000
Gain on sale of bank premises and equipment - 13,000 13,000 7,000 208,000
Gains (losses) on securities transactions 66,000 (48,000) (48,000) 1,000 59,000
Other 405,000 326,000 448,000 405,000 345,000
----------- ---------- ------------ ----------- -----------
Total noninterest income 3,664,000 2,651,000 3,558,000 4,044,000 5,184,000
Noninterest expenses:
Salaries and benefits 3,910,000 3,684,000 5,009,000 4,658,000 4,403,000
Equipment 857,000 765,000 1,043,000 1,072,000 965,000
Occupancy 687,000 672,000 904,000 903,000 931,000
Insurance 91,000 230,000 280,000 463,000 388,000
Stationery and postage 297,000 216,000 278,000 290,000 312,000
Legal fees 45,000 174,000 200,000 148,000 97,000
Other 1,857,000 1,558,000 2,141,000 1,929,000 1,799,000
----------- ---------- ------------ ----------- -----------
Total noninterest expenses 7,744,000 7,299,000 9,855,000 9,463,000 8,895,000
----------- ---------- ------------ ----------- -----------
Income before income taxes 5,120,000 3,745,000 5,169,000 3,917,000 4,392,000
Provision for income taxes 2,033,000 1,461,000 2,020,000 1,479,000 1,731,000
----------- ---------- ------------ ----------- -----------
Net income $ 3,087,000 $2,284,000 $ 3,149,000 $ 2,438,000 $ 2,661,000
----------- ---------- ------------ ----------- -----------
-----------------------------------------------------------------------------
NET INCOME PER COMMON AND EQUIVALENT SHARE $ 1.38 $ 1.00 $ 1.38 $ 1.07 $ 1.17
-----------------------------------------------------------------------------
-----------------------------------------------------------------------------
</TABLE>
See notes to consolidated financial statements
50
<PAGE>
COAST BANCORP
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
NINE MONTHS ENDED SEPTEMBER 30, 1996 AND
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
<TABLE>
<CAPTION>
Indebtedness Net
of Employee Unrealized
Common Stock Stock Gain (Loss) on
------------------------ Ownership Available-for - Retained
Shares Amount Plan Sale Securities Earnings Total
---------- ----------- ------------ --------------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Balance, January 1, 1993 2,277,999 $11,383,000 $(595,000) $2,988,000 $13,776,000
Cash dividends paid (342,000) (342,000)
Repayment of employee stock
ownership plan loan 185,000 185,000
Net income 2,661,000 2,661,000
---------- ----------- ------------ --------------- ---------- -----------
Balance, December 31, 1993 2,277,999 11,383,000 (410,000) 5,307,000 16,280,000
Initial recognition of unrealized
gains on available-for-sale
securities $ 46,000 46,000
Cash dividends paid (683,000) (683,000)
Repayment of employee stock
ownership plan loan 219,000 219,000
Net decrease in value of
available-for-sale securities,
net of tax of $387,000 (590,000) (590,000)
Net income 2,438,000 2,438,000
---------- ----------- ------------ --------------- ---------- -----------
Balance, December 31, 1994 2,277,999 11,383,000 (191,000) (544,000) 7,062,000 17,710,000
Cash dividends paid (820,000) (820,000)
Repayment of employee stock
ownership plan loan 191,000 191,000
Net increase in value of
available-for-sale securities,
net of tax of $724,000 1,016,000 1,016,000
Repurchase of common stock (20,100) (101,000) (161,000) (262,000)
Net income 3,149,000 3,149,000
---------- ----------- ------------ --------------- ---------- -----------
Balance, December 31, 1995 2,257,899 11,282,000 - 472,000 9,230,000 20,984,000
Cash dividends paid * (668,000) (668,000)
Net decrease in value of
available-for-sale securities,
net of tax of $455,000 * (635,000) (635,000)
Repurchase of common stock * (48,240) (241,000) (449,000) (690,000)
Net income * 3,087,000 3,087,000
---------- ----------- ------------ --------------- ---------- -----------
Balance, September 30, 1996 * 2,209,659 $11,041,000 - $(163,000) $11,200,000 $22,078,000
---------- ----------- ------------ --------------- ---------- -----------
---------- ----------- ------------ --------------- ---------- -----------
</TABLE>
* Unaudited
See notes to consolidated financial statements
51
<PAGE>
COAST BANCORP
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30, YEARS ENDED DECEMBER 31,
------------------------------- --------------------------------------
1996 1995 1995 1994 1993
----------- ----------- ----------- ----------- -----------
(unaudited) (unaudited)
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATIONS:
Net income $3,087,000 $2,284,000 $3,149,000 $ 2,438,000 $ 2,661,000
Adjustments to reconcile net income to net cash provided by
(used in) operations:
Provision for credit losses 675,000 675,000 900,000 600,000 850,000
Depreciation and amortization 16,000 (216,000) (101,000) 1,074,000 735,000
Gain on sale of property - (13,000) (78,000) (7,000) (208,000)
Losses (gains) on securities transactions (66,000) 48,000 48,000 (1,000) (59,000)
Deferred income taxes (514,000) (435,000) (601,000) 36,000 (206,000)
Proceeds from loan sales 34,942,000 20,310,000 20,835,000 34,673,000 45,405,000
Origination of loans held for sale (34,911,000) (22,647,000) (24,283,000) (31,975,000) (45,902,000)
Accrued interest receivable and other assets (479,000) 1,231,000 363,000 (671,000) (1,408,000)
Accrued expenses and other liabilities (36,000) (220,000) 808,000 964,000 (17,000)
Increase in unearned income 850,000 693,000 875,000 630,000 306,000
Other - net - - 178,000 - 302,000
----------- ----------- ----------- ----------- -----------
Net cash provided by operations 3,564,000 1,710,000 2,093,000 7,761,000 2,459,000
----------- ----------- ----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sales of available-for-sale securities 4,846,000 5,710,000 4,665,000 7,911,000 -
Proceeds from maturities of investment securities 14,468,000 6,320,000 9,723,000 5,727,000 1,500,000
Purchases of investment securities (16,348,000) (33,371,000) (42,140,000) (20,237,000) (15,657,000)
Net (increase) decrease in loans (12,496,000) (4,848,000) (6,025,000) (10,708,000) 8,041,000
Purchases of bank premises and equipment (245,000) (293,000) (418,000) (209,000) (1,208,000)
Proceeds from disposals of bank premises and equipment - 26,000 26,000 19,000 781,000
Proceeds from sales of other real estate owned - - 475,000 1,331,000 624,000
----------- ----------- ----------- ----------- -----------
Net cash used in investing activities (9,775,000) (26,456,000) (33,694,000) (16,166,000) (5,919,000)
----------- ----------- ----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from securities sold under agreements to repurchase 4,525,000 11,000,000 16,000,000 4,000,000 -
Net increase in deposits 17,041,000 9,236,000 11,916,000 16,557,000 2,788,000
Payment of cash dividends (668,000) (616,000) (820,000) (683,000) (342,000)
Repurchase of common stock (690,000) - (262,000) - -
----------- ----------- ----------- ----------- -----------
Net cash provided by financing activities 20,208,000 19,620,000 26,834,000 19,874,000 2,446,000
----------- ----------- ----------- ----------- -----------
Net increase (decrease) in cash and cash equivalents 13,997,000 (5,126,000) (4,767,000) 11,469,000 (1,014,000)
----------- ----------- ----------- ----------- -----------
Cash and equivalents, beginning of period 25,956,000 30,723,000 30,723,000 19,254,000 20,268,000
----------- ----------- ----------- ----------- -----------
Cash and equivalents, end of period $39,953,000 $25,597,000 $25,956,000 $30,723,000 $19,254,000
----------- ----------- ----------- ----------- -----------
----------- ----------- ----------- ----------- -----------
OTHER CASH FLOW INFORMATION - CASH PAID DURING THE YEAR FOR:
Interest $4,403,000 $3,202,000 $ 3,351,000 $ 2,432,000 $ 2,767,000
Income taxes 2,710,000 1,719,000 2,393,000 892,000 2,215,000
NON-CASH INVESTING AND FINANCING TRANSACTIONS:
Additions to other real estate owned $ 98,000 - - $ 2,247,000 $ 364,000
</TABLE>
See notes to consolidated financial statements
52
<PAGE>
COAST BANCORP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NINE MONTHS ENDED SEPTEMBER 30, 1996 (unaudited) and
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION - In May 1995, the shareholders of Coast Commercial Bank
approved a plan which provided for the formation of COAST BANCORP (a bank
holding company) and the conversion of each share of outstanding Coast
Commercial Bank common stock into one share of Coast Bancorp common stock.
Effective July 25, 1995 Coast Bancorp issued 2,277,999 shares of its common
stock for all the outstanding shares of Coast Commercial Bank through a
merger which has been accounted for similar to a pooling of interests in
that the historical cost basis of Coast Commercial Bank has been carried
forward. As a result of the merger, Coast Commercial Bank became a
wholly-owned subsidiary of Coast Bancorp.
NATURE OF OPERATIONS - Coast Bancorp (the Company) and its subsidiary,
Coast Commercial Bank (the Bank), operate 5 branches in Santa Cruz County,
California. The Company's primary source of revenue is loans to customers,
who are predominately small and middle-market businesses and middle-income
individuals.
BASIS OF PRESENTATION - The accounting and reporting policies of the
Company and the Bank conform to generally accepted accounting principles
and to prevailing practices within the banking industry. The methods of
applying those principles which materially affect the consolidated
financial statements are summarized below. In preparing the 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, as of the dates of the balance sheets,
and revenues and expenses for the periods indicated. Actual results could
differ from those estimates.
CONSOLIDATION - The consolidated financial statements include the accounts
of the Company and the Bank. All material intercompany accounts and
transactions have been eliminated.
CASH AND CASH EQUIVALENTS - For purposes of reporting cash flows, cash and
cash equivalents include cash on hand, amounts due from banks and federal
funds sold. Generally, federal funds sold are sold for one-day periods.
SECURITIES - The Company adopted Statement of Financial Accounting
Standards (SFAS) No. 115, "Accounting for Certain Investments in Debt and
Equity Securities", effective January 1, 1994. This Statement requires
entities to classify debt securities into one of three categories:
held-to-maturity, trading or available-for-sale. Investments in debt
securities are classified as held-to-maturity and measured at amortized cost
only if the Company has the positive intent and ability to hold such
securities to maturity. All other investments in debt and equity are
classified as either trading securities, which are bought and held
principally for the purpose of selling them in the near term and are carried
at market value with a corresponding recognition of the unrealized holding
gain or loss in results of operations, or as available-for-sale securities,
which are all other securities and are carried at market value with a
corresponding recognition of the unrealized holding gain or loss as a net
amount in a separate component of stockholders' equity until realized.
53
<PAGE>
Prior to adopting SFAS No. 115, the Company accounted for investment
securities at amortized cost, based on management's intent to hold the
securities for investment purposes.
Amortization of premiums and accretion of discounts arising at acquisition
of securities are included in income using methods that approximate the
interest method. Market values are based on quoted market prices or dealer
quotes. Gains or losses on the sale of securities are computed using the
specific identification method.
LOANS - Loans are stated at the principal amount outstanding. Loans held
for sale are carried at the lower of cost or market. Interest on loans is
credited to income as earned.
The accrual of interest is discontinued and any accrued and unpaid interest
is reversed when the payment of principal or interest is 90 days past due
unless the amount is well secured and in the process of collection. Income
on nonaccrual loans is then recognized only to the extent that cash is
received and where the future collection of principal is probable.
Loan origination fees and costs are deferred and amortized to income by a
method approximating the effective interest method over the estimated lives
of the underlying loans. Fees received by the Company relating to mortgage
loans held for sale are recognized when the loans are sold.
The Company originates loans that are guaranteed in part by the Small
Business Administration (SBA). The guaranteed portion of such loans can be
sold without recourse. The Company retains the servicing for the portion
sold and has credit risk for the remaining unguaranteed portion. Gains or
losses realized on loans sold are determined by allocating the recorded
investment between the portion of the loan sold and the portion retained
based on an estimate of the relative fair values of those portions as of
the date the loan is sold. Sales of SBA loans totaled $6,915,000,
$15,807,000, and $28,075,000 during 1995, 1994 and 1993, respectively. SBA
loans serviced for other investors were $71,216,000 at December 31, 1995.
The Company also originates and sells residential mortgage loans to the
Federal Home Loan Mortgage Corporation and other participants in the
mortgage markets. Sales of residential mortgage loans totaled
$13,920,000, $18,866,000, and $17,330,000 during 1995, 1994, and 1993,
respectively. Residential mortgage loans serviced for other investors were
$46,637,000 at December 31, 1995.
ALLOWANCE FOR CREDIT LOSSES - The allowance for credit losses is
established through a provision charged to expense. Loans are charged
against the allowance when management believes that the collectibility of
the principal is unlikely. The allowance is an amount that management
believes will be adequate to absorb losses inherent in existing loans and
commitments to extend credit, based on evaluations of collectibility and
prior loan loss experience. The evaluations take into consideration such
factors as changes in the composition of the portfolio, overall portfolio
quality, loan concentrations, specific problem loans, and current and
anticipated local economic conditions that may affect the borrowers'
ability to pay.
In evaluating the probability of collection, management is required to make
estimates and assumptions that affect the reported amounts of loans,
allowance for credit losses and the provision for credit losses charged to
operations. Actual results could differ significantly from those
estimates.
BANK PREMISES AND EQUIPMENT - Bank premises and equipment are stated at
cost less accumulated depreciation and amortization. Depreciation and
amortization are computed on a straight-line basis over the estimated
useful lives of three to twenty years. The Company adopted SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets to be Disposed of"
effective January 1, 1995. The adoption of this statement had no effect on
the Company's financial position or results of operations.
54
<PAGE>
OTHER REAL ESTATE OWNED - Other real estate owned consists of property
acquired as a result of a foreclosure proceeding or through receipt of a
deed-in-lieu of foreclosure. Other real estate owned is carried at the
lower of cost or fair value minus estimated costs to sell. Any excess of
the loan balance over the fair value when the property is acquired is
charged to the allowance for credit losses. Subsequent declines in fair
value, if any, and disposition gains and losses are included in noninterest
income and noninterest expense.
ACCRUED INTEREST RECEIVABLE AND OTHER ASSETS - Accrued interest receivable
and other assets includes the cash surrender value of single premium
insurance policies of $1,979,000 and $1,942,000 at December 31, 1995 and
1994, respectively.
INCOME TAXES - Deferred income taxes are provided for temporary differences
between financial statement and income tax reporting, in accordance with
SFAS No. 109.
NET INCOME PER COMMON AND EQUIVALENT SHARE - Net income per common and
equivalent share is computed using the weighted average shares outstanding
plus the dilutive effect of stock options. The number of shares used to
compute net income per share for the nine month periods ended September 30,
1996 and 1995 was 2,232,336 and 2,278,393, respectively, and for the years
ended December 31, 1995, 1994 and 1993 was 2,280,285, 2,277,999 and
2,277,999, respectively. The difference between primary and fully diluted
net income per share is not significant in any period.
RECLASSIFICATIONS - Certain amounts in the 1993 and 1994 consolidated
financial statements have been reclassified to conform to the 1995
presentation. These reclassifications had no impact on stockholders'
equity or net income.
INTERIM FINANCIAL STATEMENTS (UNAUDITED) - The interim financial
statements as of September 30, 1996 and for the nine month periods ended
September 30, 1996 and 1995 are unaudited. In the opinion of
management, these financial statements bave been prepared on the same
basis as the audited financial statements and reflect all adjustments,
consisting solely of adjustments of a normal recurring nature, which are
necessary to present fairly the results as of such date and for such
interim periods. The results of interim periods are not necessarily
indicative of results of operations expected for a full year. The
information disclosed in these notes to the consolidated financial
statements related to these periods is unaudited.
55
<PAGE>
2. RESTRICTED CASH BALANCES
The Company, through its bank subsidiary, is required to maintain reserves
with the Federal Reserve Bank of San Francisco. Reserve requirements are
based on a percentage of certain deposits. At December 31, 1995 the
Company maintained reserves of $3,270,000 in the form of vault cash and
balances at the Federal Reserve which satisfied the regulatory
requirements.
3. INVESTMENT SECURITIES
The amortized cost and estimated market values of investment securities at
are as follows:
<TABLE>
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Estimated
Cost Gain Loss Market Value
----------- ---------- ----------- -----------
<S> <C> <C> <C> <C>
SEPTEMBER 30, 1996
Available-for-sale:
U.S. Treasury and agency securities $ 5,982,000 $ - $ (30,000) $ 5,952,000
Mortgage-backed securities 54,435,000 471,000 (830,000) 54,076,000
Other 791,000 107,000 - 898,000
----------- ---------- ----------- -----------
Total $61,208,000 $ 578,000 $ (860,000) $60,926,000
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
Held-to-maturity - State and municipal obligations $ 5,917,000 $ 114,000 $ (57,000) $ 5,974,000
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
DECEMBER 31, 1995
Available-for-sale:
U.S. Treasury and agency securities 11,029,000 $ 20,000 $ (27,000) $11,022,000
Mortgage-backed securities 52,489,000 824,000 (165,000) 53,148,000
Other 562,000 156,000 - 718,000
----------- ---------- ----------- -----------
Total $64,080,000 $1,000,000 $ (192,000) $64,888,000
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
Held-to-maturity - State and municipal obligations $ 6,099,000 $ 180,000 $ (23,000) $ 6,256,000
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
DECEMBER 31, 1994
Available-for-sale:
U.S. Treasury and agency securities $ 7,606,000 $ 4,000 $ (299,000) $ 7,311,000
Mortgage-backed securities 22,466,000 - (889,000) 21,577,000
Other 487,000 253,000 - 740,000
----------- ---------- ----------- -----------
Total $30,559,000 $ 257,000 $(1,188,000) $29,628,000
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
Held-to-maturity:
Mortgage-backed securities $ 5,265,000 - $ (208,000) $ 5,057,000
State and municipal obligations 6,596,000 $ 101,000 (377,000) 6,320,000
----------- ---------- ----------- -----------
Total $11,861,000 $ 101,000 $ (585,000) $11,377,000
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
</TABLE>
56
<PAGE>
The amortized cost and estimated market value of debt securities at
September 30, 1996 and December 31, 1995, by contractual maturity, are as
follows:
<TABLE>
<CAPTION>
SEPTEMBER 30, 1996 Available-for-sale Held-to-maturity
---------------------------- --------------------------
Amortized Estimated Amortized Estimated
Cost Market Value Cost Market Value
----------- ------------ ---------- ------------
<S> <C> <C> <C> <C>
U.S. Treasury and agency and state and
municipal securities:
Due within one year $ 4,567,000 $ 4,548,000 $ 160,000 $ 164,000
Due after 1 year through 5 years 1,415,000 1,404,000 1,486,000 1,564,000
Due after 5 years through 10 years - - 2,234,000 2,210,000
Due after 10 years - - 2,037,000 2,036,000
----------- ----------- ---------- ----------
5,982,000 5,952,000 5,917,000 5,974,000
Mortgage-backed securities 54,435,000 54,076,000 - -
----------- ----------- ---------- ----------
Total $60,417,000 $60,028,000 $5,917,000 $5,974,000
----------- ----------- ---------- ----------
----------- ----------- ---------- ----------
<CAPTION>
DECEMBER 31, 1995 Available-for-sale Held-to-maturity
---------------------------- --------------------------
Amortized Estimated Amortized Estimated
Cost Market Value Cost Market Value
----------- ------------ ---------- ------------
<S> <C> <C> <C> <C>
U.S. Treasury and agency and state and
municipal securities:
Due within one year $ 5,999,000 $ 5,996,000 $ 175,000 $ 175,000
Due after 1 year through 5 years 5,030,000 5,026,000 941,000 1,009,000
Due after 5 years through 10 years - - 2,251,000 2,309,000
Due after 10 years - - 2,732,000 2,763,000
----------- ----------- ---------- ----------
11,029,000 11,022,000 6,099,000 6,256,000
Mortgage-backed securities 52,489,000 53,148,000 - -
----------- ----------- ---------- ----------
Total $63,518,000 $64,170,000 $6,099,000 $6,256,000
----------- ----------- ---------- ----------
----------- ----------- ---------- ----------
</TABLE>
Proceeds from sales of available-for-sale securities during 1995 and 1994
were $4,665,000 and $7,911,000, respectively, which resulted in gross gains
of $10,000 and gross losses of $58,000 in 1995 and gross gains of $202,000
and gross losses of $201,000 in 1994.
At December 31, 1995, investment securities with a carrying value of
$33,622,000 were pledged to collateralize public deposits and for other
purposes as required by law or contract.
Effective December 1, 1995, mortgage-backed securities totaling $4,667,000
in amortized cost and $4,665,000 in market value were reclassified from
held-to-maturity to available-for-sale, in connection with the adoption of
the Financial Accounting Standards Board Special Report, "A Guide to
Implementation of Statement 115 on Accounting for Certain Investments in
Debt and Equity Securities."
4. ALLOWANCE FOR CREDIT LOSSES
Changes in the allowance for credit losses are as follows:
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30, YEAR ENDED DECEMBER 31,
------------------------------- -----------------------
57
<PAGE>
1996 1995 1995 1994 1993
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Balance, beginning of period $2,478,000 $1,859,000 $1,859,000 $1,723,000 $1,572,000
Provision charged to expense 675,000 450,000 900,000 600,000 850,000
Loans charged off (174,000) (235,000) (401,000) (508,000) (769,000)
Recoveries 120,000 62,000 120,000 44,000 70,000
----------- ----------- ----------- ----------- -----------
Balance, end of period $3,099,000 $2,136,000 $2,478,000 $1,859,000 $1,723,000
----------- ----------- ----------- ----------- -----------
----------- ----------- ----------- ----------- -----------
</TABLE>
Nonaccrual loans were $340,000, $824,000, $848,000 and $1,427,000 at
September 30, 1996, and December 31, 1995, 1994, and 1993, respectively.
The Financial Accounting Standards Board issued SFAS No. 114, "Accounting
by Creditors for Impairment of a Loan" in 1993 and SFAS No. 118, "Accounting
by Creditors for Impairment of a Loan - Income Recognition and Disclosure"
in 1994, both of which were implemented in the first quarter of 1995. SFAS
No. 114 requires the Bank to measure impaired loans based upon the present
value of expected future cash flows discounted at the loan's effective
interest rate, except that as a practical expedient, a creditor may measure
impairment based on a loan's observable market price or the fair value of
the collateral if the loan is collateral dependent. A loan is impaired
when, based upon current information and events, it is probable that a
creditor will be unable to collect all amounts due according to the
contractual terms of the loan agreement. SFAS No. 118 amends SFAS No. 114
to allow a creditor to use existing methods for recognizing interest income
on impaired loans and requires certain information to be disclosed. The
recorded investment in impaired loans at December 31, 1995 was comprised of
one loan of $343,000, which had a related allowance of $69,000. Such
allowance is a portion of the allowance for credit losses. For 1995, the
average recorded investment in impaired loans was $369,000. No interest
income was recognized during the period of impairment.
At December 31, 1995, SBA loans held for sale were $2,206,000 (1994,
$962,000). Mortgage loans held by the Company pending completion of their
sale to the Federal Home Loan Mortgage Corporation (FHLMC) or other
investors were $2,204,000 at December 31, 1995. No mortgage loans were
held pending completion of sale at December 31, 1994. The Company does not
anticipate any loss on the sale of these loans
58
<PAGE>
5. BANK PREMISES AND EQUIPMENT
Premises and equipment at December 31 are comprised of the following:
1995 1994
---------- ----------
Buildings and leasehold improvements $2,332,000 $2,327,000
Furniture and equipment 4,244,000 3,912,000
---------- ----------
Total 6,576,000 6,239,000
Accumulated depreciation and amortization (4,168,000) (3,459,000)
---------- ----------
Net bank premises and equipment $2,408,000 $2,780,000
---------- ----------
---------- ----------
Certain of the Company's premises are leased under noncancelable operating
leases which have, in certain instances, renewal options. Future minimum
lease payments are as follows:
1996 $ 598,000
1997 397,000
1998 322,000
1999 168,000
2000 67,000
----------
Total $1,552,000
----------
----------
Rent expense for operating leases was $602,000, $581,000 and $588,000 in
1995, 1994 and 1993, respectively.
59
<PAGE>
6. INCOME TAXES
The provision for income taxes consists of the following:
1995 1994 1993
---------- ---------- ----------
Current:
Federal $1,895,000 $ 969,000 $1,416,000
State 726,000 474,000 521,000
---------- ---------- ----------
Total current 2,621,000 1,443,000 1,937,000
---------- ---------- ----------
Deferred:
Federal (471,000) 30,000 (173,000)
State (130,000) 6,000 (33,000)
---------- ---------- ----------
Total deferred (601,000) 36,000 (206,000)
---------- ---------- ----------
Total $2,020,000 $1,479,000 $1,731,000
---------- ---------- ----------
---------- ---------- ----------
The effective tax rate differs from the federal statutory rate as follows:
1995 1994 1993
-------- -------- -------
Statutory federal income tax rate 35.0 35.0 35.0
State income taxes, net of federal tax effect 7.6 7.3 7.3
Tax exempt income (2.2) (3.0) (2.4)
Other - net (1.3) (1.5) (0.5)
-------- -------- -------
Total 39.1 % 37.8 % 39.4 %
-------- -------- -------
-------- -------- -------
The Company's net deferred tax assets are comprised of the following:
<TABLE>
<CAPTION>
1995 1994 1993
---------- ---------- --------
<S> <C> <C> <C>
Deferred tax assets:
Provision for credit losses $ 870,000 $ 689,000 $617,000
Accelerated depreciation 291,000 77,000 102,000
State income tax 143,000 108,000 112,000
Unrealized losses on available-for sale-securities - 387,000 -
Other 168,000 - 9,000
---------- ---------- --------
Total deferred tax assets 1,472,000 1,261,000 840,000
Unrealized gains on available-for sale-securities (336,000) - -
Deferred tax liabilities-other (67,000) (70,000) -
---------- ---------- --------
Total $1,069,000 $1,191,000 $840,000
---------- ---------- --------
---------- ---------- --------
</TABLE>
60
<PAGE>
7. COMMITMENTS AND CONTINGENT LIABILITIES
In the normal course of business, there are outstanding various commitments
and contingent liabilities which are not reflected in the consolidated
financial statements. The Company does not anticipate losses as a result
of these commitments. Undisbursed loan commitments total $44,823,000 and
$38,633,000 at September 30, 1996 and December 31, 1995, respectively.
Standby letters of credit were $5,200,000 and $4,802,000, at September 30,
1996 and December 31, 1995, respectively. The Company's exposure to
credit loss is limited to amounts funded or drawn.
Loan commitments are typically contingent upon the borrower meeting certain
financial and other covenants and such commitments typically have fixed
expiration dates and require payment of a fee. As many of these
commitments are expected to expire without being drawn upon, the total
commitments do not necessarily represent future cash requirements. The
Company evaluates each potential borrower and the necessary collateral on
an individual basis. Collateral varies, but may include real property,
bank deposits or business or personal assets.
Standby letters of credit are conditional commitments written by the
Company to guarantee the performance of a customer to a third party. These
guarantees are issued primarily relating to inventory purchases by the
Company's commercial customers and such guarantees are typically short-term.
Credit risk is similar to that involved in extending loan commitments to
customers and the Company, accordingly, uses evaluation and collateral
requirements similar to those for loan commitments. Virtually all of such
commitments are collateralized.
8. LOAN CONCENTRATIONS
The Bank's customers are primarily located in Santa Cruz, Monterey and San
Benito counties, an area on the California coast south of San Francisco.
Commercial loans represent 32% of total loans, with no particular industry
representing a significant portion. Approximately 13% of the Company's
loans are for real estate construction including single family residential
and commercial properties. Other real estate secured loans, primarily for
commercial properties, represent another 48% of loans. Installment and
other loans, primarily automobile and mobile home loans, represent the
remainder of loans. Many of the Company's customers are employed by or are
otherwise dependent on the high technology, tourism, agriculture and real
estate development industries and, accordingly, the ability of any of the
Company's borrowers to repay loans may be affected by the performance of
these sectors of the economy. Virtually all loans are collateralized.
Generally, real estate loans are secured by real property and commercial
and other loans are secured by bank deposits or business or personal
assets. Repayment is generally expected from refinancing or sale of the
related property for real estate construction loans and from cash flows of
the borrower for other loans.
9. RELATED PARTY LOANS
The Bank may make loans to directors and their associates subject to
approval by the Board of Directors. These transactions are at terms and
rates comparable to those granted to other customers of the Company. An
analysis of changes in related party loans for the year ended December 31,
1995 is as follows:
BEGINNING BALANCE ADDITIONS REPAYMENTS ENDING BALANCE
$207,000 $1,000 $38,000 $170,000
61
<PAGE>
10. REGULATORY MATTERS
The Company and Bank are subject to capital guidelines issued by federal
and state regulatory agencies. Currently, the minimum total capital
ratio (defined as stockholder's equity plus the allowance for credit
losses divided by total assets plus the allowance for credit losses) for
California state-chartered banks is 6%. The Company's total capital
ratio was 9.7% and 9.5% September 30, 1996 and December 31, 1995,
respectively. The federal agencies have adopted risk-based capital
guidelines which compare Tier 1 capital, primarily stockholders' equity,
and total capital, Tier 1 capital plus a portion of the allowance for
credit losses, to risk-weighted assets. Minimum required ratios for
Tier 1 and total risk-based capital are 4% and 8%, respectively. The
Company maintained Tier 1 risk-based capital ratios of 15.7% and 15.8%
and total risk-based capital ratios of 16.9% and 17.0% at September 30,
1996 and December 31, 1995, respectively. In addition, regulatory
agencies have adopted a 3% minimum leverage ratio of Tier 1 capital to
total assets. Banks anticipating significant asset growth are expected
to maintain leverage ratios in excess of the minimum, between 4% and 5%.
The Company's leverage ratio was 9.9% and 10.2% at September 30, 1996
and December 31, 1995, respectively.
11. EMPLOYEE BENEFIT PLANS
The Company has a 401(k) tax-deferred savings plan under which eligible
employees may elect to have a portion of their salary deferred and
contributed to the plan. The Company is not obligated to, but may
contribute to the plan. During 1995, the Company matched each employee's
contribution up to $500, aggregating $42,000 ($42,000 in 1994 and $37,000
in 1993). Participants may elect several investment options, including
investment in the Company's common stock.
Substantially all employees with at least 1,000 hours of service are
covered by a discretionary employee stock ownership plan (ESOP). The ESOP
borrowed $698,000 during 1991 and 1992 to purchase 82,985 shares of the
Company's common stock at fair market value from certain directors. During
1995 the loan was fully repaid. The loan had been recorded as a liability
of the Company with a corresponding reduction to stockholders' equity. The
ESOP serviced the loan with contributions from the Company and with
proceeds from sale of stock to 401(k) plan participants. The Company's
contribution to the ESOP was $120,000 in 1995, 1994 and 1993.
The Bank has a salary continuation plan for two officers which provides for
retirement benefits upon reaching age 65. The Bank accrues such
post-retirement benefits over the vesting period of ten years. In the event
of a change in control of the Company, the officers' benefits will fully
vest. The Bank accrued $146,000, $40,000, and $24,000 in 1995, 1994, and
1993, respectively.
The Bank has a deferred compensation plan whereby certain directors defer
their fees until age 65 or 70. Amounts deferred accrue interest at a rate
determined annually by the Board of Directors (8.8% for 1995). Accumulated
benefits are paid over 8 to 13 years. Total deferred director fees at
December 31, 1995 and 1994 were $247,000, and $157,000, respectively.
62
<PAGE>
During 1995, shareholders approved a stock option plan for the granting of
incentive and non-qualified stock options that entitle directors, officers
and key employees to purchase shares of the Company's common stock at a
price not less than the fair market value on the date the option is
granted. Options vest over various periods as set by the Stock Option
Committee and expire five to ten years from the date of grant. During 1995
the only stock option activity was the grant of options on 14,000 shares at
$10.25 per share. As of December 31, 1995, options for 14,000 shares were
exercisable. Options for 386,000 shares were available at December 31,
1995 for future grants. During the first nine months of 1996, stock option
activity consisted of the grant of options on 64,000 shares at $14.25 per
share.
12 DISCLOSURE OF FAIR VALUE OF FINANCIAL INSTRUMENTS
The following disclosure of the estimated fair value of financial
instruments is made in accordance with the requirements of SFAS No. 107,
"Disclosures About Fair Value of Financial Instruments." The estimated
fair value amounts have been determined by using available market
information and appropriate valuation methodologies. However, considerable
judgment is required to interpret market data to develop the estimates of
fair value. Accordingly, the estimates presented are not necessarily
indicative of the amounts that could be realized in a current market
exchange. The use of different market assumptions and/or estimation
techniques may have a material effect on the estimated fair value amounts.
The following table presents the carrying amount and estimated fair value
of certain assets and liabilities held by the Company at December 31, 1995.
The carrying amounts reported in the consolidated balance sheets
approximate fair value for the following financial instruments: cash and
due from banks, federal funds sold, and demand and savings deposits. See
Note 3 for a summary of the estimated fair value of securities.
<TABLE>
<CAPTION>
December 31, 1995
-------------------------------
Carrying Estimated Fair
Amount Value
-------------- ---------------
<S> <C> <C>
Loans, net $102,731,000 $102,413,000
Time deposits $ 22,142,000 $ 22,155,000
Securities sold under agreements to repurchase $ 20,000,000 $ 20,110,000
</TABLE>
The following methods and assumptions were used by the Company in computing
the estimated fair values in the above table:
LOANS, NET - The fair value of variable rate loans is the carrying value as
these loans are regularly adjusted to market rates. The fair value of
fixed rate loans is estimated by discounting the future cash flows using
current rates at which similar loans would be made to borrowers with
similar credit ratings for the same remaining maturities, adjusted by the
allowance for loan losses.
TIME DEPOSITS - The fair value of fixed rate time deposits was estimated by
discounting the cash flows using rates currently offered for deposits of
similar remaining maturities.
63
<PAGE>
SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE - The fair value of fixed
rate securities sold under agreements to repurchase was estimated by
discounting the cash flows using rates currently offered for these types of
borrowings of similar remaining maturities.
UNUSED COMMITMENTS TO EXTEND CREDIT - The fair value of letters of credit
and standby letters of credit is not significant.
13. RECENTLY ISSUED FINANCIAL ACCOUNTING STANDARDS (unaudited)
The Financial Accounting Standards Board has recently issued SFAS No. 122,
"Accounting for Mortgage Servicing Rights" and SFAS No. 123, "Accounting
for Stock-Based Compensation." SFAS No. 122, which was implemented in
the first quarter of 1996, requires entities to recognize as separate
assets rights to service mortgage loans for others without regard to how
those rights were acquired and to assess capitalized mortgage servicing
rights for impairment of value based upon the fair value of those rights.
Adoption of this standard did not have a material impact on the Company
financial position or results of operations.
SFAS No. 123, which also was implemented in the first quarter of 1996,
defines a fair value method of accounting for stock options and other
equity instruments, such as stock purchase plans. The new standard permits
companies to continue to account for equity transactions with employees
under existing accounting rules, but requires disclosure in a note to the
financial statements of the pro-forma net income and earnings per share as
if the company had applied the new method of accounting. The Company
intends to follow these disclosure requirements for its employee stock
plans. As a result, the adoption of the new standard did not impact
reported earnings or earnings per share, and had no impact on the Company's
cash flows.
The Financial Accounting Standards Board has recently issued SFAS
No. 125, "Accounting for Tranfers and Servicing of Financial Assets and
Extinguishments of Liabilities" effective for transactions occurring after
December 31, 1996. SFAS No. 125 requires that an asset seller
must meet defined conditions to demonstrate that it has surrendered control
over the assets. The failure to meet these conditions usually results in
on-balance sheet treatment for the assets and a liability for the sale
proceeds received. SFAS No. 125 also requires that contracts to service are
recorded as an asset or a liability based on fair value or on an allocation
of the carrying amount of the financial asset. SFAS 125 covers subsequent
accounting, including impairments, and eliminates the distinction between
excess and normal servicing. The Company does not believe that adoption of
this standard will have a significant impact on its financial position or
results of operations.
64
<PAGE>
14. PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
As described in Note 1 to the consolidated financial statements, the merger
of Coast Commercial Bank with the Company became effective July, 25, 1995.
The condensed financial statements of Coast Bancorp (parent company only)
as of and for the year ended December 31, 1995 follow:
<TABLE>
<S> <C>
CONDENSED BALANCE SHEET
Cash $ 3,307,000
Investment in Coast Commercial Bank 17,665,000
Other assets 12,000
------------
Total $20,984,000
------------
------------
Liabilities $ -
Stockholders' equity 20,984,000
------------
Total $20,984,000
------------
------------
CONDENSED INCOME STATEMENT
Interest income $ 39,000
General and administrative expenses (53,000)
------------
Loss before equity in net income of Coast Commercial Bank (14,000)
Equity in net income of Coast Commercial Bank:
Dividends received 4,000,000
Excess of dividends received over equity in net income (842,000)
Income tax benefit (expense) 5,000
------------
Net income $ 3,149,000
------------
------------
STATEMENT OF CASH FLOWS
Net income $ 3,149,000
Reconciliation of net income to net cash used by operations:
Excess of dividends received over equity in net income 842,000
Other assets (12,000)
------------
Net cash provided by operations 3,979,000
Financing activities:
Cash dividends paid to shareholders (410,000)
Repurchase of common stock (262,000)
------------
Net cash applied to financing activities (672,000)
------------
Net increase in cash $ 3,307,000
------------
------------
</TABLE>
65
<PAGE>
One of the principal sources of cash for the Company will be dividends from
its subsidiary Bank. Banking regulations limit the amount of dividends
that may be paid without prior approval of the Company's regulatory
agencies to the lesser of retained earnings or the net income of the
Company for its last three fiscal years, less any distributions during such
period, subject to capital adequacy requirements. At December 31, 1995,
the Company has approximately $2,900,000 available for payment of dividends
which would not require the prior approval of the banking regulators under
this limitation.
* * * * *
Independent Auditors' Report
- --------------------------------------------------------------------------------
To the Board of Directors and Stockholders of Coast Bancorp:
We have audited the accompanying consolidated balance sheets of Coast
Bancorp (formerly Coast Commercial Bank) and its subsidiary as of December
31, 1995 and 1994, and the related consolidated statements of income,
stockholders' equity, and cash flows for each of the three years in the
period ended December 31, 1995. These financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of Coast Bancorp and its
subsidiary at December 31, 1995 and 1994, and the results of their operations
and their cash flows for each of the three years in the period ended December
31, 1995 in confomity with generally accepted accounting principles.
/s/ Deloitte & Touche LLP
SAN JOSE, CALIFORNIA
JANUARY 27, 1996
66
<PAGE>
ITEM 14. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
ITEM 15. FINANCIAL STATEMENTS AND EXHIBITS
EXHIBIT INDEX
Exhibit No. DESCRIPTION
- ----------- -----------
* Plan of Reorganization and Merger Agreement
dated March 7, 1995 by and between Coast
Commercial, Coast Merger Corporation and
Coast Bancorp.
* Articles of Incorporation of Coast Bancorp.
* Bylaws of Coast Bancorp.
* Salary Continuation Agreement dated September
19, 1992 by and between Coast Commercial Bank
and Harvey J. Nickelson.
* Salary Continuation Agreement dated September
19, 1992 by and between Coast Commercial Bank
and David V. Heald.
* Lease by and between Friend, Friend and Friend
and Coast Commercial Bank dated November, 1986,
for 720 Front Street, Santa Cruz, California.
* Lease by and between Green Valley Corporation
and Coast Commercial Bank dated July 12, 1988,
for 740 Front Street, Santa Cruz, California.
* Lease by and between Heffernan Family Trust and
Coast Commercial Bank dated June 21, 1989, for
1975 Soquel Drive, Santa Cruz,California.
* Lease by and between Martin N. Boone and Robin
Sherman and Coast Commercial Bank dated July
16, 1986, for 7775 Soquel Drive, Aptos, California.
67
<PAGE>
* Lease by and between Scott Valley Partners and
Coast Commercial Bank dated November 6, 1991,
for 203A Mt. Hermon Road, Scotts Valley.
* Lease by and between Jay Paul and Coast Commercial
Bank dated December 1, 1989, for 1055 S. Green
Valley Road,. Watsonville.
* Lease by and between Dubois Office Plaza and Coast
Commercial Bank dated January 23, 1993, for 140
Dubois Street, Santa Cruz.
* Coast Commercial Bank Employee Stock Ownership Plan.
* Coast Bancorp 1995 Stock Option Plan.
* Deferred Compensation Agreement with Richard E.
Alderson dated November 2, 1992.
* Deferred Compensation Agreement with Douglas D.
Austin Dated November 2, 1992.
* Deferred Compensation Agreement with Bud W.
Cummings Dated November 2, 1992.
* Deferred Compensation Agreement with Ronald M.
Israel Dated November 2, 1992.
* Deferred Compensation Agreement with Malcolm D.
Moore Dated November 2, 1992.
* Deferred Compensation Agreement with Gus J.F.
Norton Dated November 2, 1992.
* Deferred Compensation Agreement with James C.
Thompson Dated November 2, 1992.
- ------------------------
* Previously filed.
68
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 12 of the Securities Exchange Act
of 1934, the registrant has duly issued this registration statement to be signed
on its behalf by the undersigned, thereunto duly authorized.
COAST BANCORP
Date: January 10, 1997
By: /s/ Harvey J. Nickelson
--------------------------------------------
Harvey J. Nickelson, President
and Chief Executive Officer
69
<PAGE>
Pursuant to the requirements of the Securities Act of 1934, this
Registration Statement has been signed by the following persons in the
capacities and on the dates indicated.
Signature Title Date
*/s/ Bruce H. Kendall Director January 10, 1997
- ------------------------
DOUGLAS D. AUSTIN
*/s/ Bruce H. Kendall Director January 10, 1997
- ------------------------
JOHN C. BURROUGHS
*/s/ Bruce H. Kendall Director January 10, 1997
- ------------------------
BUD W. CUMMINGS
/s/ Bruce H. Kendall Senior Vice President January 10, 1997
- ------------------------ and Chief Financial
BRUCE H. KENDALL Officer (Principal
Financial and
Accounting Officer)
*/s/ Bruce H. Kendall Director January 10, 1997
- ------------------------
MALCOLM D. MOORE
70
<PAGE>
/s/ Harvey J. Nickleson President, Chief January 10, 1997
- ------------------------ Executive Officer and
HARVEY J. NICKLESON Director
* /s/ Bruce H. Kendall Director January 10, 1997
- ------------------------
GUS J.F. NORTON
* /s/ Bruce H. Kendall Chairman of the Board January 10, 1997
- ------------------------ of Directors
JAMES C. THOMPSON
* /s/ Bruce H. Kendall Director January 10, 1997
- ------------------------
RONALD M. ISRAEL
- -------------------------------
* Pursuant to Power of Attorney
71
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C> <C>
<PERIOD-TYPE> YEAR 9-MOS
<FISCAL-YEAR-END> DEC-31-1995 DEC-31-1996
<PERIOD-START> JAN-01-1995 JAN-01-1996
<PERIOD-END> DEC-31-1995 SEP-30-1996
<CASH> 18,956 18,953
<INT-BEARING-DEPOSITS> 0 0
<FED-FUNDS-SOLD> 7,000 21,000
<TRADING-ASSETS> 0 0
<INVESTMENTS-HELD-FOR-SALE> 64,888 60,926
<INVESTMENTS-CARRYING> 6,099 5,917
<INVESTMENTS-MARKET> 6,256 5,974
<LOANS> 105,209 117,515
<ALLOWANCE> 2,478 3,099
<TOTAL-ASSETS> 207,668 230,292
<DEPOSITS> 164,046 181,087
<SHORT-TERM> 20,000 24,525
<LIABILITIES-OTHER> 2,638 2,602
<LONG-TERM> 0 0
0 0
0 0
<COMMON> 11,282 11,041
<OTHER-SE> 9,702 11,037
<TOTAL-LIABILITIES-AND-EQUITY> 207,668 230,292
<INTEREST-LOAN> 11,804 9,474
<INTEREST-INVEST> 3,644 3,365
<INTEREST-OTHER> 671 576
<INTEREST-TOTAL> 16,119 13,415
<INTEREST-DEPOSIT> 2,970 2,525
<INTEREST-EXPENSE> 3,753 3,540
<INTEREST-INCOME-NET> 12,366 9,875
<LOAN-LOSSES> 900 675
<SECURITIES-GAINS> (48) 66
<EXPENSE-OTHER> 9,855 7,744
<INCOME-PRETAX> 5,169 5,120
<INCOME-PRE-EXTRAORDINARY> 5,169 5,120
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 3,149 3,087
<EPS-PRIMARY> 1.38 1.38
<EPS-DILUTED> 1.38 1.38
<YIELD-ACTUAL> .075 .067
<LOANS-NON> 824 340
<LOANS-PAST> 3 783
<LOANS-TROUBLED> 0 0
<LOANS-PROBLEM> 0 0
<ALLOWANCE-OPEN> 1,859 2,478
<CHARGE-OFFS> 401 174
<RECOVERIES> 120 120
<ALLOWANCE-CLOSE> 2,478 3,099
<ALLOWANCE-DOMESTIC> 2,478 3,099
<ALLOWANCE-FOREIGN> 0 0
<ALLOWANCE-UNALLOCATED> 0 0
</TABLE>
