UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
(Mark One)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the fiscal year ended December 31, 1999
|_| TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from __________ to __________
Commission file number: 333-68207
FIRST COASTAL BANCSHARES
(Name of small business issuer in its charter)
California 95-4693574
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
275 Main Street, El Segundo, California 90245
(Address of principal executive offices) (Zip Code)
Issuer's telephone number (310) 322-2222
Securities registered under Section 12(b) of Exchange Act: None
Securities registered under Section 12(g) of Exchange Act:
Common Stock, No par value
(Title of Class)
Check whether the issuer (1) filed all reports to be filed by Section 13 or
15(d) of the Securities Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
Yes |X| No |_|
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form and no disclosure will be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB.
|X|
The issuer's net revenues for its most recent fiscal year was $9.1 million.
The aggregate market value of voting stock held by non-affiliates of the issuer
as of March 15, 2000 was $2,493,324.
Number of registrant's shares of Common Stock outstanding as of March 15, 2000
was 1,232,428.
Documents incorporated by reference: None.
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FIRST COASTAL BANCSHARES
Table of Contents
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Part I
Item 1. Business............................................................................................... 1
Item 2. Properties............................................................................................ 28
Item 3. Legal Proceedings..................................................................................... 28
Item 4. Submission of Matters to a Vote of Security Holders................................................... 28
Part II
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters............................. 29
Item 6. Selected Financial Data............................................................................... 30
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations................. 31
Item 8. Financial Statements and Supplementary Data........................................................... 46
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.................. 74
Part III
Item 10. Directors and Executive Officers of the Registrant.................................................... 74
Item 11. Executive Compensation................................................................................ 74
Item 12. Security Ownership of Certain Beneficial Owners and Management........................................ 74
Item 13. Certain Relationships and Related Transaction......................................................... 74
Part IV
Item 14. Exhibits and Reports on Form 8-K...................................................................... 75
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PART I
ITEM 1. BUSINESS
General
We are the parent of First Coastal Bank, National Association (the "Bank"), a
national bank headquartered at 275 Main Street, El Segundo, California, which
commenced operations as a nationally chartered bank on November 29, 1984, and
First Coastal Capital Trust (the "Trust") which was formed in 1999 to issue 11
7/8% Cumulative Preferred Stock. We were incorporated under the laws of the
State of California on October 17, 1996, and we conduct the majority of our
business activities through the Bank. The Bank is a member of the Federal
Reserve System and its deposits are insured by the FDIC up to the maximum limits
prescribed by law.
In this section, the terms "Company", "we" and "our" refers to First Coastal
Bancshares, the Bank and the Trust.
Our Business Strategy
Our business strategy is to:
o Cater to small businesses, executives and professionals by offering
quality, personalized financial services which have become less
available due to consolidation in the banking industry.
o Build our deposit base and loan portfolio through relationship banking
that is attentive to the needs of our customers.
o Selectively acquire or merge with other banks to decrease costs as a
percentage of revenues and expand our geographical presence, initially
in the South Bay, West Los Angeles and San Fernando Valley areas of
Southern California.
We See Opportunities Created by Mergers in the Banking Industry
We believe that the rapid consolidation of banks and the formation of large,
impersonal financial institutions has caused, and will continue to cause, small
business, executive and professional customers to seek the service-oriented,
customized and quality services which we offer. According to the FDIC, the five
largest financial institutions in Los Angeles County hold more than half of all
deposits in the region. The Bank has a market share of less than 0.1% of the
large, growing and diverse Los Angeles County market, which in 1997 had over
$100 billion in total banking deposits, population of over 9.5 million and a per
capita income of over $25,000. We believe our strategy, if successfully
executed, will allow us to grow faster than the overall market. In addition, a
very small shift in our market share represents large potential growth from our
small base.
Internal Growth
Our internal growth strategy is primarily focused on "total relationship
banking", which means developing a personalized package of financial services
and providing superior service to customers with high transactional needs. By
focusing on customer relationships, we believe that we fill a niche neglected by
the larger banks.
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Our target market consists of small businesses, executives and professionals in
the South Bay, West Los Angeles and San Fernando Valley areas of Southern
California. We have hired, and will continue to hire, highly motivated and
well-compensated business development officers to generate significant deposit
relationships. Our objective is to retain the most effective business
development team of any community bank in Southern California and to support
them with quality financial products and exceptional customer service. In
addition, we have focused on selling financial products that bear a logical
relationship to each other, such as money market and time deposits, to our
relationship customers. We introduced cash management services such as courier
"sweeps", electronic banking and "third party deposit processing" through Wells
Fargo Bank. In addition, we began developing "internet" banking through our
website "e-businessbank" which we will have operative in Year 2000. We believe
that our internal growth strategy sets us apart from other community banks in
the region.
We recognize that relationship banking may result in slower loan growth than
"loan production" banking, which places a premium on maximizing the number of
outstanding loans. Therefore, we supplement local relationship lending with
loans, generally consisting of well-secured commercial and real estate loans,
originated by a select group of loan production agents. We seek to maximize the
quality of these loans and will accept a lower fixed-rate nominal loan yield for
higher credit worthiness and security. In addition, we may purchase out-of-state
loan pools consisting of well-seasoned single family residential loans in order
to create geographical diversification and to generate a higher yield than our
securities portfolio. We do not lend to hedge funds or invest in foreign
securities, which we believe minimizes our exposure to international economic
problems.
Growth through Acquisitions
Acquisitions will continue to play a key role in augmenting internal growth and
lowering our unit costs. Due to our small size and focus, we believe that we
have the opportunity to significantly improve our customer service as well as
our operations. Our acquisition objectives are to:
o Increase our return on capital by trimming redundant operations
and thereby lower operating expenses as a percentage of revenues.
o Increase our low-cost deposit base and geographic coverage.
o Leverage opportunities to sell related products and offer
improved services to the customers of the banks we acquire.
To date we have completed two acquisitions. On June 26, 1997, we acquired Marina
Bank, with total assets of $21 million. On March 8, 1999, we acquired American
Independent Bank with total assets of $38 million. See Note T to the
consolidated financial statements, included in Item 8, for additional
information on these acquisitions.
Employees
As of December 31, 1999, we employed 40 full-time equivalent employees.
Part-time employees are converted to full-time equivalent employees based on the
percentage of their weekly hours worked compared to 40 hours. We believe that we
enjoy satisfactory relations with our employees.
Competition
The banking business in California generally, and our market area specifically,
is highly competitive. A number of major banks have offices in our market area
and currently dominate loan and deposit origination. We compete for deposits and
loans principally with these major banks, as well as with savings and loan
associations, finance companies, credit unions and numerous other financial
institutions located in our market area.
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We consider our primary service to range from the South Bay to the San Fernando
Valley in western Los Angeles County. Our service area includes numerous
branches of larger banks and savings institutions.
Among the advantages which the major banks have over us are their ability to
finance extensive advertising campaigns and to offer the convenience of many
retail outlets. Many of the major banks operating in our service area offer
services, such as trust and international banking services, which we do not
offer directly. In addition, these larger banks usually have substantially
higher limits than we do.
Supervision and Regulation
Introduction
Banking is a complex, highly regulated industry. The primary goals of the
regulatory scheme are to maintain a safe and sound banking system, protect
depositors and the Federal Deposit Insurance Corporation's insurance fund, and
facilitate the conduct of sound monetary policy. In furtherance of these goals,
Congress and the states have created several largely autonomous regulatory
agencies and enacted numerous laws that govern banks, bank holding companies and
the banking industry. Consequently, the growth and earnings performance of the
Company and the Bank can be affected not only by management decisions and
general economic conditions, but also by the requirements of applicable state
and federal statutes, regulations and the policies of various governmental
regulatory authorities, including:
o the Board of Governors of the Federal Reserve System (the "FRB");
o the office of the Comptroller of the Currency (the "OCC"); and
o the Federal Deposit Insurance Corporation (the "FDIC").
The system of supervision and regulation applicable to the Company and the Bank
establishes a comprehensive framework for their respective operations. Federal
and state laws and regulations generally applicable to financial institutions,
such as the Company and the Bank, regulate, among other things:
o the scope of business that they may conduct;
o investments that they can make;
o reserves that must be maintained against deposits;
o capital levels that must be maintained relative to the amount and
risks associated with assets;
o the nature and amount of collateral that may be taken to secure loans;
o the establishment of new branches;
o mergers and consolidations with other financial institutions; and
o the amount of dividends that the Company and the Bank may pay.
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The following summarizes the material elements of the regulatory framework that
applies to the Company and any subsidiaries, including the Bank. It does not
describe all of the statutes, regulations and regulatory policies that are
applicable. Also, it does not restate all of the requirements of the statutes,
regulations and regulatory policies that are described. Consequently, the
following summary is qualified in its entirety by reference to the applicable
statutes, regulations and regulatory policies. Any change in applicable laws,
regulations or regulatory policies may have a material effect on the business of
the Company and the Bank.
Supervision and Regulation - The Company
General. The Company, as a bank holding company registered under the BHCA, is
subject to regulation by the FRB. According to FRB policy, the Company is
expected to act as a source of financial strength for the Bank and to commit
resources to support it in circumstances where the Company might not otherwise
do so. Under the BHCA, the Company and its subsidiaries are subject to periodic
examination by the FRB. The Company is also required to file periodic reports of
its operations and any additional information regarding its activities and those
of its subsidiaries with the FRB, as may be required.
The Company is also a bank holding company within the meaning of Section 3700 of
the California Financial Code. As such, the Company and its subsidiaries are
subject to examination by, and may be required to file reports with, the
Commissioner of the California Department of Financial Institutions (the
"Commissioner"). Regulations have not yet been proposed or adopted or steps
otherwise taken to implement the Commissioner's powers under this statute.
Bank Holding Company Liquidity. The Company is a legal entity, separate and
distinct from the Bank. Although there exists the ability to raise capital on
its own behalf or borrow from external sources, it may also obtain additional
funds through dividends paid by, and fees for services provided to, the Bank.
However, regulatory constraints may restrict or totally preclude the Bank from
paying dividends to the Company.
The Company is entitled to receive dividends, when and as declared by the Bank's
Board of Directors, out of funds legally available therefor, as specified and
limited by the OCC's Regulations. Pursuant to the OCC's Regulations, funds
available for a national bank's cash dividends are restricted to the lesser of
the bank's: (i) retained earnings; or (ii) net income for the current and past
two fiscal years (less any dividends already paid during such period), unless
approved in advance by the OCC. Furthermore, if the OCC determines that a
dividend would cause a bank's capital to be impaired or that payment would cause
it to be undercapitalized, the OCC can prohibit payment of a dividend if it is
an unsafe and unsound banking practice.
Since the Bank is an FDIC insured institution, it is therefore possible,
depending upon its financial condition and other factors, that the FDIC could
assert that the payment of dividends or other payments might, under some
circumstances, constitute an unsafe or unsound practice and thereby prohibit
such payments.
Transactions With Affiliates. The Company and any subsidiaries it may purchase
or organize are deemed to be affiliates of the Bank within the meaning of
Sections 23A and 23B of the Federal Reserve Act. Pursuant thereto, loans by the
Bank to affiliates, investments by the Bank in affiliates' stock, and taking
affiliates' stock by the Bank as collateral for loans to any borrower will be
limited to 10% of the Bank's capital, in the case of any one affiliate, and will
be limited to 20% of the Bank's capital in the case of all affiliates. In
addition, such transactions must be on terms and conditions that are consistent
with safe and sound banking practices; in particular, a bank and its
subsidiaries generally may not purchase from an affiliate a low-quality asset,
as defined in the Federal Reserve Act. Such restrictions also prevent a bank
holding company and its other affiliates from borrowing from a banking
subsidiary of the bank holding company unless the loans are secured by
marketable collateral of designated amounts. The Company and the Bank are also
subject to certain restrictions with respect to engaging in the underwriting,
public sale and distribution of securities. (See "Supervision and Regulation -
The Bank - Recent Legislation and Regulatory Developments - 1.
Gramm-Leach-Bliley Act - Facilitating Affiliations and Expansion of Financial
Activities" herein.)
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Limitations on Businesses and Investment Activities. Under the BHCA, a bank
holding company must obtain the FRB's approval before:
o directly or indirectly acquiring more than 5% ownership or control of
any voting shares of another bank or bank holding company;
o acquiring all or substantially all of the assets of another bank; or
o merging or consolidating with another bank holding company.
The FRB may allow a bank holding company to acquire banks located in any state
of the United States without regard to whether the acquisition is prohibited by
the law of the state in which the target bank is located. In approving
interstate acquisitions, however, the FRB must give effect to applicable state
laws limiting the aggregate amount of deposits that may be held by the acquiring
bank holding company and its insured depository institutions in the state in
which the target bank is located, provided that those limits do not discriminate
against out-of-state depository institutions or their holding companies, and
state laws which require that the target bank have been in existence for a
minimum period of time, not to exceed five years, before being acquired by an
out-of-state bank holding company.
In addition to owning or managing banks, bank holding companies may own
subsidiaries engaged in certain businesses that the FRB has determined to be "so
closely related to banking as to be a proper incident thereto." The Company
therefore is permitted to engage in a variety of banking-related businesses.
Some of the activities that the FRB has determined, pursuant to its Regulation
Y, to be related to banking are:
o making or acquiring loans or other extensions of credit for its own
account or for the account of others;
o servicing loans and other extensions of credit;
o operating a trust company in the manner authorized by federal or state
law under certain circumstances;
o leasing personal and real property or acting as agent, broker, or
adviser in leasing such property in accordance with various
restrictions imposed by FRB regulations;
o providing financial, banking, or economic data processing and data
transmission services;
o owning, controlling, or operating a savings association under certain
circumstances;
o selling money orders, travelers' checks and U.S. Savings Bonds;
o providing securities brokerage services, related securities credit
activities pursuant to Regulation T, and other incidental activities;
and
o underwriting and dealing in obligations of the U.S., general
obligations of states and their political subdivisions, and other
obligations authorized for state member banks under federal law.
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Federal law prohibits a bank holding company and any subsidiary banks from
engaging in certain tie-in arrangements in connection with the extension of
credit. Thus, for example, the Bank may not extend credit, lease or sell
property, or furnish any services, or fix or vary the consideration for any of
the foregoing on the condition that:
o the customer must obtain or provide some additional credit, property
or services from or to the Bank other than a loan, discount, deposit
or trust service;
o the customer must obtain or provide some additional credit, property
or service from or to the Company the Bank; or
o the customer may not obtain some other credit, property or services
from competitors, except reasonable requirements to assure soundness
of credit extended.
Generally, the BHCA does not place territorial restrictions on the domestic
activities of non-bank subsidiaries of bank holding companies.
On November 12, 1999, the President signed into law the Gramm-Leach-Bliley Act
(the "GLB Act" or the "Financial Modernization Act"). The GLB Act significantly
changed the regulatory structure and oversight of the financial services
industry. The GLB Act permits banks and bank holding companies to engage in
previously prohibited activities under certain conditions. Also, banks and bank
holding companies may affiliate with other financial service providers such as
insurance companies and securities firms under certain conditions. Consequently,
a qualifying bank holding company, called a financial holding company ("FHC"),
can engage in a full range of financial activities, including banking,
insurance, and securities activities, as well as merchant banking and additional
activities that are beyond those permitted for traditional bank holding
companies. Moreover, various non-bank financial service providers which were
previously prohibited from engaging in banking can now acquire banks while also
offering services such as securities underwriting and underwriting and brokering
insurance products. The GLB Act also expands passive investment activities by
FHCs, permitting them to indirectly invest in any type of company, financial or
nonfinancial, through merchant banking activities and insurance company
affiliations. (See "Supervision and Regulation - The Bank - Recent Legislation
and Regulatory Developments - 1. Gramm-Leach-Bliley Act" herein.)
Capital Adequacy. Bank holding companies must maintain minimum levels of capital
under the FRB's risk based capital adequacy guidelines. If capital falls below
minimum guideline levels, a bank holding company, among other things, may be
denied approval to acquire or establish additional banks or non-bank businesses.
The FRB's risk-based capital adequacy guidelines for bank holding companies and
state member banks, discussed in more detail below (see "Supervision and
Regulation - The Bank - Recent Legislation and Regulatory Developments - 4.
Risk-Based Capital Guidelines" herein), assign various risk percentages to
different categories of assets, and capital is measured as a percentage of risk
assets. Under the terms of the guidelines, bank holding companies are expected
to meet capital adequacy guidelines based both on total risk assets and on total
assets, without regard to risk weights.
The risk-based guidelines are minimum requirements. Higher capital levels will
be required if warranted by the particular circumstances or risk profiles of
individual organizations. For example, the FRB's capital guidelines contemplate
that additional capital may be required to take adequate account of, among other
things, interest rate risk, or the risks posed by concentrations of credit,
nontraditional activities or securities trading activities. Moreover, any
banking organization experiencing or anticipating significant growth or
expansion into new activities, particularly under the expanded powers under the
GLB Act, would be expected to maintain capital ratios, including tangible
capital positions, well above the minimum levels.
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Limitations on Dividend Payments. California Corporations Code Section 500
allows the Company to pay a dividend to its shareholders only to the extent that
the Company has retained earnings and, after the dividend, the Companys assets
(exclusive of goodwill and other intangible assets) would be 1.25 times its
liabilities (exclusive of deferred taxes, deferred income and other deferred
credits), and the Companys current assets would be at least equal to its current
liabilities.
Additionally, the FRB's policy regarding dividends provides that a bank holding
company should not pay cash dividends exceeding its net income or which can only
be funded in ways that weaken the bank holding company's financial health, such
as by borrowing. The FRB also possesses enforcement powers over bank holding
companies and their non-bank subsidiaries to prevent or remedy actions that
represent unsafe or unsound practices or violations of applicable statutes and
regulations.
Supervision and Regulation - The Bank
General. As a national banking association which is a member of the Federal
Reserve System and whose deposits are insured by the FDIC up to the maximum
extent provided by law, the Bank is subject to regulation, supervision and
regular examination by the OCC, the FDIC and the FRB. California law exempts all
banks from usury limitations on interest rates. Supervision, regulation and
examination of the Bank by regulatory agencies are generally intended to protect
depositors and the FDIC's insurance fund and not the Bank's shareholder.
Recent Legislation and Regulatory Developments. From time to time legislation is
proposed or enacted which has the effect of increasing the cost of doing
business and changing the competitive balance between banks and other financial
and non-financial institutions. Various federal laws enacted over the past
several years have provided, among other things, for the maintenance of
mandatory reserves with the FRB on deposits by depository institutions (state
reserve requirements have been eliminated); the phasing-out of the restrictions
on the amount of interest which financial institutions may pay on certain of
their customers' accounts. Federal regulators have been given increased
authority and means for providing financial assistance to insured depository
institutions and for effecting interstate and cross-industry mergers and
acquisitions of failing institutions. These laws have generally had the effect
of altering competitive relationships existing among financial institutions,
reducing the historical distinctions between the services offered by banks,
savings and loan associations and other financial service providers, and
increasing the cost of funds to banks and other depository institutions.
1. Gramm-Leach-Bliley Act
General. The Gramm-Leach-Bliley Act was signed into law on November 12, 1999.
The GLB Act represents the most significant revision of the banking and
financial services industry laws since the Depression Era by revising the BHCA
and permitting full affiliations with other financial service providers. The GLB
Act permits a qualified bank holding company, called a financial holding
company, to engage in a full range of financial activities including banking,
insurance, securities activities, as well as merchant banking and other
activities that are financial in nature. The following discusses the more
significant elements of the GLB Act.
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Facilitating Affiliations and Expansion of Financial Activities. The GLB Act:
o eliminates many federal and state barriers to affiliations among banks
and securities firms, insurance companies, and other financial service
providers;
o establishes a statutory framework for permitting full affiliations to
occur;
o provides financial organizations with flexibility in structuring new
financial affiliations through the FHC structure or through a bank
financial subsidiary, with certain safeguards and limitations;
o preserves the role of the FRB as the umbrella supervisory authority
for those FHCs, while incorporating a system of functional regulation
designed to utilize the strengths of various federal and state
regulatory authorities; and
o establishes a mechanism for coordination between the FRB and the
Secretary of the Treasury (the "Secretary") regarding the approval of
new financial activities for both holding companies and financial
subsidiaries of national banks.
Safety and soundness is also emphasized by requiring that banks and holding
companies be "well capitalized" and "well managed" in order to engage in the new
activities and affiliations contemplated by the GLB Act, with the appropriate
regulators given authority to address any failure to maintain safety and
soundness standards in a prompt manner.
Financial Affiliations and Activities. The GLB Act repeals previous statutory
prohibitions by permitting bank holding companies and FRB member banks to engage
in previously prohibited activities and affiliations. Specifically, the GLB Act
adds Section 6 to the BHCA, designating qualifying bank holding companies
engaging in the new, permissible financial activities and affiliations as FHCs.
In order for a bank holding company to qualify as an FHC, its subsidiary
depository institutions must be "well managed," "well capitalized," and have at
least a "satisfactory" Community Reinvestment Act ("CRA") rating as of their
last examination.
On January 19, 2000, the FRB adopted interim regulations under Subpart I of
Regulation Y implementing the FHC provisions of the GLB Act. The interim
regulations, subject to revision, became effective March 11, 2000. Under the
interim regulations, a bank holding company must submit a declaration to the FRB
stating that the company elects to become an FHC and a certification that all
depository institutions controlled by the company are "well capitalized" and
"well managed." Providing that those requirements are met and that the
depository institutions have at least a "satisfactory" CRA rating, the election
to become an FHC is effective on the 31st day after the FRB receives the
election.
If any of an FHC's subsidiary depository institutions fails to retain a "well
managed" or "well capitalized" status, the FHC must execute an agreement with
the FRB within 45 days after notice of the deficiency, agreeing to implement
specific corrective measures to return the FHC to compliance. After the
agreement is executed, the FHC will have 180 days to correct any management or
capital deficiencies. Until the FRB has determined that the deficiencies have
been corrected, the FRB may impose any conditions or limitations on the conduct
or activities of an FHC or on any of its affiliates that the FRB deems
appropriate and consistent with the BHCA and the FHC and its affiliates may not
engage in any additional activities permitted by the GLB Act without the FRB's
prior approval.
If the FHC fails to correct the capital and management deficiencies within 180
days, the FRB may require the FHC to divest itself of any insured depository
institutions or the FRB may require the FHC to cease engaging (both directly and
through any subsidiary that is not a depository institution or a subsidiary of a
depository institution) in all activities that are not otherwise permissible for
a traditional bank holding company pursuant to the FRB's Regulation Y.
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If any one of an FHC's depository institution falls out of compliance with the
"satisfactory" CRA rating requirement, the FHC may continue existing activities
permitted by the GLB Act. However, the FHC may not commence any additional GLB
Act activities, or acquire direct or indirect control of any entity engaged in
such activities.
The GLB Act permits FHCs to engage in non-banking activities beyond those
permitted for traditional bank holding companies. Rather than requiring that the
non-banking activities be "closely related to banking," FHCs may engage in those
that the FRB determines to be financial in nature, incidental to activities that
are financial in nature, or complimentary to financial activities. The GLB Act
enumerates certain permissible activities that the FRB considers financial in
nature. FHCs, however, may only engage in complimentary financial activities if
the FRB determines that the complimentary activities do not pose a substantial
risk to the safety and soundness of the FHC's depository institutions or the
financial system in general.
For those expanded financial activities that are not specifically enumerated in
the GLB Act, the FRB has the primary authority to determine which activities are
financial in nature, incidental or complimentary, and may act by regulation or
order. However, the FRB may not act unilaterally. Pursuant to the GLB Act, a
consultive process between the FRB and the Secretary is required. The Secretary
may also make similar proposals to the FRB with respect to determining whether
proposed activities are financial in nature or incidental to financial
activities regarding financial subsidiaries of national banks. Such a process is
intended to bring a balance to the determinations regarding the type of
activities that are financial and limit so-called "regulatory shopping" by
financial service providers.
A qualifying FHC may engage in any new activity enumerated in the GLB Act
without receiving prior approval from the FRB. Rather, the FHC is only required
to file a notice with the FRB within 30 days after the activity is commenced or
a company is acquired. The new activities enumerated in the GLB Act which are
specifically considered financial in nature include:
o underwriting insurance or annuities, or acting as an insurance or
annuity principal, agent or broker;
o providing financial or investment advice;
o issuing or selling interests in pools of assets that a bank could
hold;
o all underwriting, dealing in or making markets in securities without
any revenue limitation;
o engaging within the United States in any activity that a bank holding
company could engage in outside of the country, if the FRB determined,
before the GLB Act, that the activity was usual in connection with
banking or other financial operations internationally;
o sponsoring and distributing all types of mutual funds;
o investment company activities;
o merchant banking equity investment activities;
o insurance company equity investments; and
o engaging in any activity that the FRB determined before the GLB Act to
be permitted for a bank holding company that is not an FHC.
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The most significant of the new activities authorized by the GLB Act are
merchant banking and insurance company portfolio investment powers. Before
enactment of the GLB Act, bank holding companies were limited in their ability
to make equity investments, including controlling equity investments, to
entities that were engaged in activities that were closely related to the
business of banking. At the same time securities and insurance companies were
free to make merchant banking and insurance company portfolio investments in
virtually any kind of financial or non-financial company. Recognizing that such
investments are financial in nature, the GLB Act substantially expands the
authority of an FHC to make controlling equity investments in any kind of
entity, including those engaged in non-financial activities.
Merchant Banking. The GLB Act permits FHC's to make controlling equity
investments in virtually any business entity (including those that engage in
non-financial activities) by permitting the FHC to engage in merchant banking
activities. In order to engage in merchant banking activities:
o the investment must not be made by a depository institution subsidiary
of the FHC, or by a subsidiary of a depository institution;
o the FHC must own a securities affiliate;
o the investment must be made as part of a bona fide underwriting or
merchant or investment banking activity, including investment
activities engaged in for the purpose of appreciation and ultimate
resale or disposition of the investment;
o the investment must be held for a period of time to enable the sale or
disposition thereof on a reasonable basis consistent with the
financial viability of the bona fide underwriting or merchant or
investment banking activity; and
o the FHC must not routinely manage or operate the entity in which the
investment is made, except as may be required to obtain a reasonable
return on investment upon sale or disposition.
Insurance Company Portfolio Investments. The GLB Act permits FHCs to affiliate
with insurance companies. The GLB Act recognizes that, as part of their ordinary
business, insurance companies frequently invest funds received from
policyholders in most or all of the shares of stock of a company that may not be
engaged in a financial activity. New Section 4(k)(4)(I) of the BHCA permits an
insurance company that is affiliated with a depository institution to continue
insurance company portfolio investment activities, provided that certain
requirements are met. Specifically, the investments held by an insurance company
affiliate of a depository institution must:
o be acquired and held by an insurance company that is predominantly
engaged in underwriting life, accident and health, or property and
casualty insurance, or in providing and issuing annuities;
o represent investments made in the ordinary course of the insurance
company's business, according to relevant state insurance laws
governing such investments; and
o not be routinely managed or operated by the FHC, except as may be
necessary or required to obtain a reasonable return.
To the extent that an FHC does participate in management of the portfolio,
participation would be limited to safeguarding the investments under the
applicable requirements of state insurance laws.
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The GLB Act imposes other restrictions on equity investment activities of FHCs.
First, a depository institution controlled by an FHC may not cross market the
products or services of a company in which the FHC has made a merchant banking
or insurance company portfolio investment (a "portfolio company"), and vice
versa. However, the GLB Act does not prevent a nonbank affiliate of an FHC and a
portfolio company from cross marketing each other's products.
Second, a controlling investment made pursuant to the GLB Act's merchant banking
or insurance company portfolio investment authority would make the portfolio
company an "affiliate" of the FHC's depository institution for purposes of
Sections 23A and 23B of the Federal Reserve Act. Moreover, the GLB Act
establishes a presumption that an investment of 15% or more in the equity of a
portfolio company will make the portfolio company an affiliate. Thus, an
affiliated depository institution's credit and asset purchase transactions will
be subject to the "covered transaction" restrictions of Sections 23A and 23B of
the Federal Reserve Act, including quantitative limits, collateral requirements,
and the "arms'-length" transaction standard.
The Riegle-Neal Act was amended to apply its prohibitions against establishment
of deposit production offices to interstate branches acquired or established
under the GLB Act, including all branches of a bank owned by an out-of-state
bank holding company.
Preemption of State Law. The GLB Act affirms that the states are the primary
legal authority to regulate the insurance business and related activities.
However, in their regulation of insurance activities, state laws are pre-empted
to the extent that they prohibit the affiliations permitted under the GLB Act.
States may not prevent or restrict depository institutions or their affiliates
from engaging in any activity permitted under the GLB Act, such as insurance
sales, solicitations and cross-marketing. States, however are allowed to
continue regulating other insurance activities such as licensing and requiring
that insurance companies maintain certain levels of capital.
Additionally, state regulation of other activities is not pre-empted, even if
they do prevent or restrict an activity permitted under the GLB Act, so long as
they do not discriminate. Consequently, state securities regulations are not
pre-empted with respect to a state's ability to investigate and enforce certain
unlawful transactions or require licensing. Similarly, state corporation and
antitrust laws are not pre-empted so long as such laws are consistent with the
intent of the Financial Modernization Act permitting affiliations.
Streamlining Supervision of Bank Holding Companies. The GLB Act authorizes the
FRB to examine each holding company and its subsidiaries. The legislation
provides that the FRB may require a bank holding company or any subsidiary to
submit reports regarding: financial condition; monitoring of financial and
operating risks; transactions with depository institutions; and compliance with
the BHCA and other laws that the FRB has jurisdiction to enforce. The FRB,
however, is directed to use existing examination reports prepared by functional
regulators of the particular activity, publicly reported information and reports
filed with other agencies to the fullest extent possible.
The FRB may only directly examine subsidiaries that are functionally regulated
by other federal or state agencies if it:
o has a reasonable basis to believe that the subsidiary is engaged in
activities that pose a material risk to an affiliated depository
institution;
o reasonably believes, after reviewing the relevant reports, that
examining the subsidiary is necessary to adequately provide
information regarding its risk monitoring systems; or
o has a reasonable basis to believe that the subsidiary is not in
compliance with the BHCA or other federal law that the FRB has
specific authority to enforce, and the FRB cannot make the
determination through an examination of an affiliated depository
institution or the holding company.
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The FRB is not authorized to mandate capital requirements for any subsidiary
that is functionally regulated by another agency and which is in compliance with
the capital requirements prescribed by another federal or state regulatory
authority. Insurance and securities activities conducted in regulated entities
are subject to functional regulation by relevant state insurance authorities and
the Securities and Exchange Commission (the "SEC"), respectively.
Also, the FRB cannot force a broker-dealer or insurance company that is a bank
holding company to contribute additional capital to a depository institution, if
the company's functional regulator determines, in writing, that the contribution
would have a material adverse effect on the broker-dealer or insurance holding
company. If a functional regulator, however, makes such a determination, the FRB
has authority to require the bank holding company to divest its interests in the
depository institution. The limitations on the FRB also apply to all federal
banking agencies. Thus, the OCC which regulates national banks, the OTS, which
regulates federal savings banks, and the FDIC will not be able to assume and
duplicate the function of being the general supervisory authority over
functionally regulated subsidiaries of banks. However, the GLB Act specifically
preserves the FDIC's authority to examine a functionally regulated affiliate of
an insured depository institution, if it is necessary to protect the deposit
insurance fund.
The GLB Act also specifically limits the FRB's ability to take indirect action
against functionally regulated affiliates. Consequently, the FRB may not
promulgate rules, adopt restrictions, safeguards or any other requirement
affecting a functionally regulated affiliate unless:
o the action is necessary to address a "material risk" to the safety and
soundness of a depository institution affiliate or to the domestic or
international payments system; and
o it is not possible to guard against that material risk through
requirements imposed upon the depository institution directly.
Financial Subsidiaries of National Banks. In addition to the permissible
statutory subsidiaries (agricultural credit corporations, bank service companies
and community development corporations, etc.) and operating subsidiaries
(subsidiaries engaged in activities that a national bank itself can perform),
the GLB Act permits national banks to establish and operate a third class of
subsidiary known as a financial subsidiary. A financial subsidiary is a
subsidiary that performs financial activities that a national bank either cannot
otherwise perform itself, or that a national bank cannot otherwise own if not
for the enabling provisions of GLB Act.
Financial activities for national banks are essentially the same as those for
FHCs. Thus, national banks, through financial subsidiaries, are permitted to
engage in the enumerated financial activities authorized by the GLB Act.
However, the following activities, although permissible for FHCs, are prohibited
for financial subsidiaries of national banks and can only be performed in
nonbank subsidiaries of FHCs. These prohibited activities are:
o insurance or annuity underwriting, except that underwriting title
insurance is permitted for national banks in those states where
state-chartered banks may do so;
o insurance company portfolio investments;
o merchant banking; and
o real estate investment and development activities beyond those
directly authorized by law.
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The Secretary, in concert with the FRB, may jointly adopt rules lifting the
insurance underwriting, insurance company portfolio investment, and merchant
banking prohibitions beginning November 12, 2004. Additionally, the Secretary,
in conjunction with the FRB, has the authority to determine whether additional
activities are financial in nature and must follow the same evaluation criteria
that the FRB uses in determining additional financial activities for FHC
purposes.
On January 19, 2000, the OCC issued a proposal to amend Part 5 of its
regulations to provide that a national bank may establish a financial subsidiary
if:
o the national bank and its depository institution affiliates meet the
same "well capitalized," "well managed" and "satisfactory" CRA rating
standards for bank subsidiaries of FHCs;
o the aggregate consolidated financial assets of all of the national
bank's financial subsidiaries does not exceed the lesser of 45% of the
consolidated net assets of the parent bank or $50 billion; and
o a national bank that is one of the nation's 100 largest insured banks,
determined on the basis of consolidated total assets, has at least one
issue of outstanding eligible debt that is rated in one of the three
highest investment grade categories.
The proposed regulations provide for a filing and notification process. Once
expanded activities have commenced in a financial subsidiary, the proposed
regulations require a national bank to comply with certain conditions in order
to ensure that proper safeguards are implemented. These conditions include, but
are not limited to:
o requiring the national bank to deduct the total amount of its
investment in the financial subsidiary from its assets and equity for
purposes of determining regulatory capital, and presenting the
information separately in any published financial statements for the
bank;
o prohibiting the consolidation of the financial subsidiary's assets and
liabilities with those of the bank;
o requiring the national bank to establish adequate policies and
procedures to maintain the separate corporate identities of the bank
and its financial subsidiaries; and
o requiring adoption and implementation of policies and procedures to
identify and manage financial and operational risks associated with
the financial subsidiary.
Subsidiaries of State-Chartered Nonmember Banks. The GLB Act added Section 46 to
the Federal Deposit Insurance Act (the "FDI Act") which permits state nonmember
banks to hold interests in a subsidiary that are essentially equivalent to a
national bank's financial subsidiary. Additionally, the state nonmember bank
must comply with substantially all of the requirements and conditions imposed on
national banks in order to qualify and maintain their investments in financial
subsidiaries established under the GLB Act, except that there is no requirement
that the state nonmember bank be "well managed." However, the FDI Act requires
the FDIC's consent to an investment in any financial subsidiary of a
state-chartered institution.
Broker-Dealer Activities. The GLB Act provides for the functional regulation of
bank securities activities by the SEC. The GLB Act replaces the broad bank
exemption from broker-dealer regulation under the Securities Exchange Act of
1934 (the "'34 Act"). The amendments include certain previously excluded
activities within the definition of "broker" and "dealer," thereby subjecting
those activities to the registration requirements and regulation of the '34 Act,
with an exception for certain activities in which banks have traditionally
engaged.
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These exemptions relate to:
o third-party networking arrangements;
o trustee and fiduciary activities if the bank: (i) is chiefly
compensated by means of administration and certain other fees; and
(ii) does not publicly solicit brokerage deposits; and
o identified banking products such as commercial paper, bankers'
acceptances, employee and shareholder benefit plans, sweep accounts,
affiliate transactions, private placements, safekeeping and custody
services, asset-backed securities, derivatives and other identified
banking products.
The GLB Act also amends the Investment Company Act and the Investment Advisers
Act, subjecting banks that advise mutual funds to the same regulatory scheme as
other advisers to mutual funds. It also requires banks to make additional
disclosures when a fund is sold or advised by a bank.
Insurance Activities. In addition to affirming that states are the functional
regulators of insurance activities, the GLB Act prohibits federally-chartered
banks from engaging in any activity involving the underwriting and sale of title
insurance. National banks may, however, sell title insurance products in any
state in which state-chartered banks are permitted to do so, so long as those
activities are undertaken in the same manner, to the same extent, and under the
same restrictions that apply to state-chartered banks.
The GLB Act requires the federal bank regulatory agencies and state insurance
regulators to coordinate efforts to supervise companies that control both
depository institutions and entities engaged in the insurance business, and to
share supervisory information including financial condition and affiliate
transactions on a confidential basis. Federal agencies are further directed to
provide notice to and consult with state regulators before taking actions which
affect any affiliates engaging in insurance activities.
Unitary Savings and Loan Holding Company Provisions. The GLB Act amends the Home
Owners' Loan Act (the "HOLA") to prohibit unitary savings and loan holding
companies from engaging in non-financial activities or affiliations with
non-financial organizations. The prohibition applies to applications to form
unitary savings and loan holding companies filed with the OTS after May 4, 1999.
Unitary savings and loan holding companies existing or whose applications were
pending on or before May 4, 1999, retain their authority to engage in
nonfinancial activities and affiliations.
The prohibition on non-financial affiliations, however, does not prevent
transactions that involve corporate reorganizations. Specifically, it does not
prohibit transactions that solely involve an acquisition, merger, consolidation
or other type of business combination of a savings and loan holding company (or
any savings association subsidiary) with another company, where both are under
common control.
Consumer Privacy Protection. The GLB Act enhances financial privacy laws by
imposing an affirmative and continuing obligation to respect the privacy and
protect the confidentiality of nonpublic personal customer information provided
by a consumer to a financial institution, or otherwise obtained by the financial
institution. For purposes of the privacy provisions of the GLB Act, a financial
institution means any entity engaging in the financial activities that are
listed in the new Section 4(k) of the of the BHCA. Thus, the privacy protections
extend to all entities engaged in financial activities defined in the GLB Act,
whether or not they are affiliated with banks or bank holding companies, FHCs or
banks.
The GLB Act also makes it a federal crime to obtain, attempt to obtain,
disclose, cause to be disclosed or attempt to cause to be disclosed customer
information of a financial institution through fraudulent or deceptive means.
These include misrepresenting the identity of the person requesting the
information and misleading an institution or customer into making unwitting
disclosures of confidential information. In addition to criminal sanctions, the
legislation provides for a private right of action and enforcement by state
attorneys general.
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Federal Home Loan Bank System Modernization. The Federal Home Loan Bank System
Modernization Act of 1999 (the "FHLBSMA") was enacted as part of the GLB Act.
The FHLBSMA reforms the Federal Home Loan Bank System (the "FHLBS") in several
ways. The more significant changes include:
o voluntary rather than mandatory membership of federal savings
associations in the FHLBS;
o permitting all community financial institutions (i.e. institutions
whose deposits are insured by the FDIC and have less than $500 million
in average total assets) to obtain advances from Federal Home Loan
Banks; and
o permitting any community financial institution greater access to FHLBS
credit facilities by expanding the types of assets that may be pledged
as collateral, including small business, agricultural, rural
development, or low-income community development loans.
In addition, a number of restrictions that had applied to FHLBS member
institutions which did not comply with the Qualified Thrift Lender ("QTL")
requirements under the HOLA were abolished, including: the Federal Home Loan
Bank stock purchase requirements; the requirement that advances only be given
for housing related purposes; the 30% limit on total advances for non-QTL
members; and certain restrictions that applied to non-QTL thrift institutions.
Community Reinvestment Act Provisions. In addition to the maintenance of at
least a "satisfactory" CRA rating in order to qualify for expanded activities,
the GLB Act amends the FDIA to require full disclosure of agreements entered
into between an insured depository institution or its affiliates and
non-governmental entities or persons made under or in connection with
fulfillment of the CRA. These agreements are to be made available to the public
and federal regulatory agencies. Annually, the parties to each CRA agreement are
required to report the use of resources provided to the participating bank's
primary federal regulator.
Other provisions affecting the CRA include:
o reducing the frequency of CRA examinations for banks with less than
$250 million in assets to once every five years if they have
"outstanding" CRA ratings, and once every four years if they have
"satisfactory" ratings;
o requiring an FRB study of the default rates, delinquency rates and
profitability of CRA loans; and
o requiring a Treasury study of whether adequate services are being
provided under the CRA.
Other Provisions. Other provisions of the GLB Act include, but are not limited
to:
o requiring ATM operators who impose a fee for use of an ATM by a
non-customer to post notice on the ATM and on the screen that a fee
will be charged, the amount of the fee and that no fee will be imposed
unless such notices are made and the customer elects to proceed with
the transaction;
o requiring a General Accounting Office study of possible revisions to
the Internal Revenue Code's Subchapter S corporation rules to permit
greater access by community banks to Subchapter S tax treatment; and
o requiring a General Accounting Office study analyzing the conflict of
interest faced by the FRB between its role as a primary regulator of
the banking industry and its role as a vendor of services to the
banking and financial services industry.
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Conclusion. The provisions of the GLB Act are numerous and become effective at
various times between the date of enactment and the middle of 2001 and beyond.
Additionally, various federal regulatory authorities including the FRB, OCC,
FDIC, OTS and SEC have only started to promulgate the regulations and
interpretations required by the GLB Act. Furthermore, procedures for the
coordination of information among regulators, both state and federal, have yet
to be formulated. Management of the Company and the Bank, therefore, cannot
estimate with any degree of certainty the effect that the GLB Act, future
regulations and future regulatory information sharing will have on the financial
condition, results of operations or future prospects of the Company or the Bank.
Finally, the provisions of the GLB Act, particularly those permitting
affiliations and expansion of activities, may prompt mergers, joint ventures,
partnerships and other affiliations among providers of banking, insurance and
securities services, both domestically and internationally. The extent and
magnitude of these affiliations and their impact on the Company, the Bank or on
the banking industry in general cannot be predicted.
2. Interstate Banking
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the
"Riegle-Neal Act") allows banks to open branches across state lines and also
amended the BHCA to make it possible for bank holding companies to buy
out-of-state banks in any state and convert them into interstate branches.
The amendment to the Bank Holding Company Act permits bank holding companies to
acquire banks in other states provided that the acquisition does not result in
the bank holding company controlling more than 10 percent of the deposits in the
United States, or 30 percent of the deposits in the state in which the bank to
be acquired is located. However, the Riegle-Neal Act also provides that states
have the authority to waive the state concentration limit. Individual states may
also require that the bank being acquired be in existence for up to five years
before an out-of-state bank or bank holding company may acquire it.
The Riegle-Neal Act permits interstate branching through merging of existing
banks, provided that the banks are at least adequately capitalized and
demonstrate good management. The states were also authorized to enact laws to
permit interstate banks to branch de novo. All banks, however, are prohibited
from using the interstate branching authority of the Riegle-Neal Act for the
primary purpose of deposit production or the establishment of deposit production
offices. (See "- 1. Gramm-Leach-Bliley Act - Facilitating Affiliations and
Expansion of Financial Activities" herein.)
The California Interstate Banking and Branching Act of 1995 ("CIBBA") authorized
out-of-state banks to enter California by the acquisition of or merger with a
California bank that has been in existence for at least five years, unless the
California bank is in danger of failing or in certain other emergency
situations, but limits interstate branching into California to branching by
acquisition of an existing bank. CIBBA allows a California state bank to have
agency relationships with affiliated and unaffiliated insured depository
institutions and allows a bank subsidiary of a bank holding company to act as an
agent to receive deposits, renew time deposits, service loans and receive
payments for a depository institution affiliate.
3. Federal Deposit Insurance
General. The Financial Institutions Reform, Recovery, and Enforcement Act of
1989 ("FIRREA") has resulted in major changes in the regulation of insured
financial institutions, including significant changes in the authority of
government agencies to regulate insured financial institutions.
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Under FIRREA, virtually all federal deposit insurance activities were
consolidated under the FDIC, including insuring deposits of federal savings
associations, state chartered savings and loans and other depository
institutions determined to be operated in substantially the same manner as a
savings association. FIRREA established two deposit insurance funds to be
administered by the FDIC. The money in these two funds is separately maintained
and not commingled. The Bank Insurance Fund (the "BIF") insures deposits of
commercial banking institutions and the Savings Association Insurance Fund (the
"SAIF") replaced the deposit insurance fund administered by the Federal Savings
and Loan Insurance Corporation. Insurance of deposits may be terminated by the
FDIC upon a finding that the institution has engaged in unsafe or unsound
practices, is in an unsafe or unsound condition to continue operations or has
violated any applicable law, regulation, rule, order or condition imposed by the
FDIC or the institution's primary regulator.
Deposit Insurance Assessments. Under FIRREA, the premium assessments made on
banks and savings associations for deposit insurance were initially increased,
with rates set separately for banks and savings associations, subject to
statutory restrictions.
Since 1994, the FDIC has assessed deposit insurance premiums pursuant to a
risk-based assessment system, under which an institution's premium assessment is
based on the probability that the deposit insurance fund will incur a loss with
respect to the institution, the likely amount of such loss, and the revenue
needs of the deposit insurance fund. Under the risk-based assessment system, BIF
member institutions such as the Bank are categorized into one of three capital
categories (well capitalized, adequately capitalized, and undercapitalized) and
one of three categories based on supervisory evaluations by its primary federal
regulator (in the Bank's case, the OCC). The three supervisory categories are:
financially sound with only a few minor weaknesses (Group A), demonstrates
weaknesses that could result in significant deterioration (Group B), and poses a
substantial probability of loss (Group C). The capital and supervisory group
ratings for SAIF institutions are the same as for BIF institutions. The capital
ratios used by the FRB, the FDIC and in the OCC, to define well-capitalized,
adequately capitalized and undercapitalized are the same as in the prompt
corrective action regulations (discussed below). The BIF and SAIF assessment
rates since January 1, 1997 are summarized below; assessment figures are
expressed in terms of cents per $100 in insured deposits.
Assessment Rates Effective January 1, 1997
------------------------------------------
Supervisory Group
-----------------
Capital Group Group A Group B Group C
------------- ------- ------- -------
Well Capitalized................. 0 3 17
Adequately Capitalized........... 3 10 24
Undercapitalized................. 10 24 27
Commencing the first quarter of 1997, banks were required to share in the
payment of interest on the Financing Corporation Bonds ("FICO Bonds") issued in
the 1980s to assist in the recovery of the savings and loan industry.
Previously, the FICO debt was paid solely out of the SAIF assessment base. Prior
to January 1, 2000, the FICO assessments imposed on BIF insured institutions
were assessed at a rate equal to 1/5 of the rate of the assessments imposed on
SAIF insured depository institutions. Between the first quarter of 1997 and the
fourth quarter of 1999, the quarterly FICO assessment rates for SAIF insured
institutions ranged from a high of $.0650 to a low of $.0582 per $100 in insured
deposits. The BIF assessment rate for the same period ranged from a high of
$.0130 to a low of $.01164 per $100 in insured deposits. The rates equalized
effective January 1, 2000 at $.0212 per $100 in insured deposits. Although the
FICO assessment rates are annual rates, they are subject to change quarterly.
Since the FICO bonds do not mature until the year 2019, it is conceivable that
banks and savings associations will continue to share in the payment of the
interest on the bonds until then.
With certain limited exceptions, FIRREA prohibits a bank from changing its
status as an insured depository institution with the BIF to the SAIF and
prohibits a savings association from changing its status as an insured
depository institution with the SAIF to the BIF, without the prior approval of
the FDIC.
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FDIC Receiverships. Pursuant to FIRREA, the FDIC may be appointed conservator or
receiver of any insured bank or savings association. In addition, FIRREA
authorized the FDIC to appoint itself as sole conservator or receiver of any
insured state bank or savings association for any, among others, of the
following reasons:
o insolvency of such institution;
o substantial dissipation of assets or earnings due to any violation of
law or regulation or any unsafe or unsound practice;
o an unsafe or unsound condition to transact business, including
substantially insufficient capital or otherwise;
o any willful violation of a cease and desist order which has become
final;
o any concealment of books, papers, records or assets of the
institution;
o the likelihood that the institution will not be able to meet the
demands of its depositors or pay its obligations in the normal course
of business;
o the incurrence or likely incurrence of losses by the institution that
will deplete all or substantially all of its capital with no
reasonable prospect for the replenishment of the capital without
federal assistance; or
o any violation of any law or regulation, or an unsafe or unsound
practice or condition which is likely to cause insolvency or
substantial dissipation of assets or earnings, or is likely to weaken
the condition of the institution or otherwise seriously prejudice the
interest of its depositors.
As a receiver of any insured depository institution, the FDIC may liquidate such
institution. The liquidation must be done in an orderly manner. The FDIC may
also dispose of any matter concerning the institution that the FDIC determines
to be in the institution's, its depositors' and the FDIC's best interests.
Additionally, the FDIC, as the conservator or receiver, succeeds to all rights,
titles, powers and privileges of the insured institution. Consequently, the FDIC
may take over the assets of and operate an institution with all the powers of
its members, shareholders, directors or officers, and conduct all business of
the institution, collect all obligations and money due to the institution, and
preserve and conserve the assets and property of the institution.
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Enforcement Powers. Some of the most significant provisions of FIRREA were the
expansion of regulatory enforcement powers. FIRREA has given the federal
regulatory agencies broader and stronger enforcement authorities reaching a
wider range of persons and entities. Some of those provisions included those
which:
o expanded the category of persons subject to enforcement under the
Federal Deposit Insurance Act;
o expanded the scope of cease and desist orders and provided for the
issuance of temporary cease and desist orders;
o provided for the suspension and removal of wrongdoers on an expanded
basis and on an industry-wide basis;
o prohibited the participation of persons suspended or removed or
convicted of a crime involving dishonesty or breach of trust from
serving in another insured institution;
o required the regulators to publicize all final enforcement orders; and
o provided for extensive increases in the amounts and circumstances for
assessment of civil money penalties, civil and criminal forfeiture and
other civil and criminal fines and penalties.
Crime Control Act of 1990. The Crime Control Act of 1990 further strengthened
the authority of federal regulators to enforce capital requirements, increased
civil and criminal penalties for financial fraud, and enacted provisions
allowing the FDIC to regulate or prohibit certain forms of golden parachute
benefits and indemnification payments to officers and directors of financial
institutions.
4. Risk-Based Capital Guidelines
General. The federal banking agencies have established minimum capital standards
known as risk-based capital guidelines. The risk-based capital guidelines
include both a new definition of capital and a framework for calculating the
amount of capital that must be maintained against a bank's assets and off
balance sheet items. The amount of capital required to be maintained is based
upon the credit risks associated with a bank's types of assets and off-balance
sheet items. A bank's assets and off balance sheet items are classified under
several risk categories, with each category assigned a particular risk weighting
from 0% to 100%. A bank's risk-based capital ratio is calculated by dividing its
qualifying capital which is the numerator of the ratio, by the combined risk
weights of its assets and off balance sheet items which is the denominator of
the ratio.
Qualifying Capital. A bank's qualifying total capital consists of two types of
capital components: "core capital elements," known as Tier 1 capital and
"supplementary capital elements," known as Tier 2 capital. The Tier 1 component
of a bank's qualifying capital must represent at least 50% of qualifying total
capital and may consist of the following items that are defined as core capital
elements:
o common stockholders' equity;
o qualifying noncumulative perpetual preferred stock (including related
surplus); and
o minority interests in the equity accounts of consolidated
subsidiaries.
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The Tier 2 component of a bank's qualifying total capital may consist of the
following items:
o a portion of allowance for loan and lease losses;
o certain types of perpetual preferred stock and related surplus;
o certain types of hybrid capital instruments and mandatory convertible
debt securities; and
o a portion of term subordinated debt and intermediate-term preferred
stock, including related surplus.
Risk Weighted Assets and Off Balance Sheet Items. Assets and credit equivalent
amounts of off-balance sheet items are assigned to one of several broad risk
classifications, according to the obligor or, if relevant, the guarantor or the
nature of collateral. The aggregate dollar value of the amount in each risk
classification is then multiplied by the risk weight associated with that
classification. The resulting weighted values from each of the risk
classification are added together. This total is the bank's total risk weighted
assets comprising the denominator of the risk-based capital ratio.
Risk weights for off-balance sheet items, such as unfunded loan commitments,
letters of credit and recourse arrangements, are determined by a two-step
process. First, the "credit equivalent amount" of the off-balance sheet items is
determined, in most cases by multiplying the off-balance sheet item by a credit
conversion factor. Second, the credit equivalent amount is treated like any
balance sheet asset and is assigned to the appropriate risk category according
to the obligor or, if relevant, the guarantor or the nature of the collateral.
Minimum Capital Standards. The supervisory standards set forth below specify
minimum capital ratios based primarily on broad risk considerations. The
risk-based ratios do not take explicit account of the quality of individual
asset portfolios or the range of other types of risks to which banks may be
exposed, such as interest rate, liquidity, market or operational risks. For this
reason, banks are generally expected to operate with capital positions above the
minimum ratios.
All banks are required to meet a minimum ratio of qualifying total capital to
risk weighted assets of 8%. At least 4% must be in the form of Tier 1 capital,
net of goodwill, and a minimum ratio of Tier 1 capital to risk weighted assets
of 4%. The maximum amount of supplementary capital elements that qualifies as
Tier 2 capital is limited to 100% of Tier 1 capital net of goodwill. In
addition, the combined maximum amount of subordinated debt and intermediate-term
preferred stock that qualifies as Tier 2 capital is limited to 50% of Tier 1
capital. The maximum amount of the allowance for loan and lease losses that
qualifies as Tier 2 capital is limited to 1.25% of gross risk weighted assets.
The allowance for loan and lease losses in excess of this limit may, of course,
be maintained, but would not be included in a bank's risk-based capital
calculation.
Federal banking agencies also require all banks to maintain a minimum amount of
Tier 1 capital to total assets, referred to as the leverage ratio. For a bank
rated in the highest of the five categories used by regulators to rate banks,
the minimum leverage ratio of Tier 1 capital to total assets is 3%. For all
banks not rated in the highest category, the minimum leverage ratio must be at
least 4% to 5%. These uniform risk-based capital guidelines and leverage ratios
apply across the industry. Regulators, however, have the discretion to set
minimum capital requirements for individual institutions which may be
significantly above the minimum guidelines and ratios.
20
<PAGE>
Other Factors Affecting Minimum Capital Standards. The federal banking agencies
have established certain benchmark ratios of loan loss reserves to be held
against classified assets. The benchmark set forth by the policy statement is
the sum of:
o 100% of assets classified loss;
o 50% of assets classified doubtful;
o 15% of assets classified substandard; and
o estimated credit losses on other assets over the upcoming twelve
months.
The federal banking agencies have recently revised their risk-based capital
rules to take account of concentrations of credit and the risks of
non-traditional activities. Concentrations of credit refers to situations where
a lender has a relatively large proportion of loans involving a single borrower,
industry, geographic location, collateral or loan type. Non-traditional
activities are considered those that have not customarily been part of the
banking business, but are conducted by a bank as a result of developments in,
for example, technology, financial markets or other additional activities
permitted by law or regulation. The regulations require institutions with high
or inordinate levels of risk to operate with higher minimum capital standards.
The federal banking agencies also are authorized to review an institution's
management of concentrations of credit risk for adequacy and consistency with
safety and soundness standards regarding internal controls, credit underwriting
or other operational and managerial areas.
Further, the banking agencies recently have adopted modifications to the
risk-based capital rules to include standards for interest rate risk exposure.
Interest rate risk is the exposure of a bank's current and future earnings and
equity capital to adverse movements in interest rates. While interest rate risk
is inherent in a bank's role as financial intermediary, it introduces volatility
to bank earnings and to the economic value of the bank. The banking agencies
have addressed this problem by implementing changes to the capital standards to
include a bank's exposure to declines in the economic value of its capital due
to changes in interest rates as a factor that they will consider in evaluating
an institution's capital adequacy. A bank's interest rate risk exposure is
assessed by its primary federal regulator on an individualized basis, and it may
be required by the regulator to hold additional capital if it has a significant
exposure to interest rate risk or a weak interest rate risk management process.
The federal banking agencies also limit the amount of deferred tax assets that
are allowable in computing a bank's regulatory capital. Deferred tax assets that
can be realized for taxes paid in prior carryback years and from future
reversals of existing taxable temporary differences are generally not limited.
However, deferred tax assets that can only be realized through future taxable
earnings are limited for regulatory capital purposes to the lesser of:
o the amount that can be realized within one year of the quarter-end
report date; or
o 10% of Tier 1 capital.
The amount of any deferred tax in excess of this limit would be excluded from
Tier 1 capital, total assets and regulatory capital calculations.
21
<PAGE>
5. Expanded Regulatory Enforcement Powers
General. The Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA") recapitalized the FDIC's Bank Insurance Fund, granted broad
authorization to the FDIC to increase deposit insurance premium assessments and
to borrow from other sources, and continued the expansion of regulatory
enforcement powers, along with many other significant changes.
Prompt Corrective Action. FDICIA established five categories of bank
capitalization: "well capitalized," "adequately capitalized,"
"undercapitalized," "significantly undercapitalized," and "critically
undercapitalized" and mandated the establishment of a system of "prompt
corrective action" for institutions falling into the lower capital categories.
Under the regulations, a bank shall be deemed to be:
o "well capitalized" if it has a total risk-based capital ratio of 10.0%
or more, has a Tier 1 risk-based capital ratio of 6.0% or more, has a
leverage capital ratio of 5.0% or more and is not subject to specified
requirements to meet and maintain a specific capital level for any
capital measure;
o "adequately capitalized" if it has a total risk-based capital ratio of
8.0% or more, a Tier 1 risk-based capital ratio of 4.0% or more and a
leverage capital ratio of 4.0% or more (3.0% under certain
circumstances) and does not meet the definition of "well capitalized";
o "undercapitalized" if it has a total risk-based capital ratio that is
less than 8.0%, a Tier 1 risk-based capital ratio that is less than
4.0%, or a leverage capital ratio that is less than 4.0% (3.0% under
certain circumstances);
o "significantly undercapitalized" if it has a total risk-based capital
ratio that is less than 6.0%, a Tier 1 risk-based capital ratio that
is less than 3.0% or a leverage capital ratio that is less than 3.0%;
and
o "critically undercapitalized" if it has a ratio of tangible equity to
total assets that is equal to or less than 2.0%.
Banks are prohibited from paying dividends or management fees to controlling
persons or entities if, after making the payment the bank would be
undercapitalized, that is, the bank fails to meet the required minimum level for
any relevant capital measure. Asset growth and branching restrictions apply to
undercapitalized banks, which are required to submit acceptable capital plans
guaranteed by its holding company, if any. Broad regulatory authority was
granted with respect to significantly undercapitalized banks, including forced
mergers, growth restrictions, ordering new elections for directors, forcing
divestiture by its holding company, if any, requiring management changes, and
prohibiting the payment of bonuses to senior management. Even more severe
restrictions are applicable to critically undercapitalized banks, those with
capital at or less than 2%, including the appointment of a receiver or
conservator after 90 days, even if the bank is still solvent. All of the federal
banking agencies have promulgated substantially similar regulations to implement
this system of prompt corrective action.
22
<PAGE>
FDICIA and the implementing regulations also provide that a federal banking
agency may, after notice and an opportunity for a hearing, reclassify a well
capitalized institution as adequately capitalized and may require an adequately
capitalized institution or an undercapitalized institution to comply with
supervisory actions as if it were in the next lower category if the institution
is in an unsafe or unsound condition or engaging in an unsafe or unsound
practice. The FDIC may not, however, reclassify a significantly undercapitalized
institution as critically undercapitalized.
See Note R to the consolidated financial statements, included in Item 8, for
additional information on capital ratios.
Operational Standards. FDICIA also granted the regulatory agencies authority to
prescribe standards relating to internal controls, credit underwriting, asset
growth and compensation, among others, and required the regulatory agencies to
promulgate regulations prohibiting excessive compensation or fees. Many
regulations have been adopted by the regulatory agencies to implement these
provisions and subsequent legislation (see -"6. Riegle Community Development and
Regulatory Improvement Act of 1994" herein) gave the regulatory agencies the
option of prescribing the safety and soundness standards as guidelines rather
than regulations.
Brokered Deposits. Effective June 16, 1992, FDICIA placed restrictions on the
ability of banks to obtain brokered deposits or to solicit and pay interest
rates on deposits that are significantly higher than prevailing rates. FDICIA
provides that a bank may not accept, renew or roll over brokered deposits
unless: (i) it is "well capitalized"; or (ii) it is adequately capitalized and
receives a waiver from the FDIC permitting it to accept brokered deposits paying
an interest rate not in excess of 75 basis points over certain prevailing market
rates. FDIC regulations define brokered deposits to include any deposit
obtained, directly or indirectly, from any person engaged in the business of
placing deposits with, or selling interests in deposits of, an insured
depository institution, as well as any deposit obtained by a depository
institution that is not "well capitalized" for regulatory purposes by offering
rates significantly higher (generally more than 75 basis points) than the
prevailing interest rates offered by depository institutions in such
institution's normal market area. In addition to these restrictions on
acceptance of brokered deposits, FDICIA provides that no pass-through deposit
insurance will be provided to employee benefit plan deposits accepted by an
institution which is ineligible to accept brokered deposits under applicable law
and regulations.
Lending. New regulations were issued in the area of real estate lending,
prescribing standards for extensions of credit that are secured by real property
or made for the purpose of the construction of a building or other improvement
to real estate. In addition, the aggregate of all loans to executive officers,
directors and principal shareholders and related interests may now not exceed
100% (200% in some circumstances) of the depository institution's capital.
Activities of Operating Subsidiaries. A national banking association may
establish or acquire an operating subsidiary (as opposed to a financial
subsidiary established or acquired pursuant to the GLB Act) to conduct, or may
conduct in an existing operating subsidiary, activities that are part of or
incidental to the business of banking, as determined by the OCC. Such national
banking associations must submit an application to and receive OCC approval
before acquiring or establishing the operating subsidiary, or commencing the new
activity contemplated. National banking associations which are "adequately
capitalized" or "well capitalized" and have not been notified that they are in
"troubled condition" may acquire or establish an operating subsidiary by
providing the OCC with ten (10) days written notice after acquiring or
establishing the operating subsidiary.
After commencing operations, each operating subsidiary is subject to examination
and supervision by the OCC and applicable provisions of federal banking laws and
regulations pertaining to the operations of the parent bank, shall apply to the
operating subsidiary. The OCC has the power to require a national banking
association to divest itself of any operating subsidiary or terminate any
activity conducted by an operating subsidiary that the OCC determines to pose a
threat to the parent bank's financial safety, soundness or stability.
23
<PAGE>
6. Riegle Community Development and Regulatory Improvement Act of 1994
The Riegle Community Development and Regulatory Improvement Act of 1994 (the
"1994 Act") provides for funding for the establishment of a Community
Development Financial Institutions Fund (the "Fund"), which provides assistance
to new and existing community development lenders to help to meet the needs of
low- and moderate-income communities and groups. The 1994 Act also mandated
changes to a wide range of banking regulations. These changes included:
o less frequent regulatory examination schedules for small institutions;
o amendments to the money laundering and currency transaction reporting
requirements of the Bank Secrecy Act; and
o amendments to the Truth in Lending Act to provide greater protection
for consumers by reducing discrimination against the disadvantaged.
The "Paperwork Reduction and Regulatory Improvement Act," Title III of the 1994
Act, required the federal banking agencies to consider the administrative
burdens that new regulations will impose before their adoption and required a
transition period in order to provide adequate time for compliance. This Act
also required the federal banking agencies to work together to establish uniform
regulations and guidelines as well as to work together to eliminate duplicative
or unnecessary requests for information in connection with applications or
notices. The Paperwork Reduction and Regulatory Improvement Act also amended the
BHCA and Securities Act of 1933 to simplify the formation of bank holding
companies.
7. Safety and Soundness Standards
In July, 1995, the federal banking agencies adopted uniform guidelines
establishing standards for safety and soundness. The guidelines set forth
operational and managerial standards relating to internal controls, information
systems and internal audit systems, loan documentation, credit underwriting,
interest rate exposure, asset growth and compensation, fees and benefits and
asset quality and earnings. The guidelines establish the safety and soundness
standards that the agencies will use to identify and address problems at insured
depository institutions before capital becomes impaired. If an institution fails
to comply with a safety and soundness standard, the appropriate federal banking
agency may require the institution to submit a compliance plan. Failure to
submit a compliance plan or to implement an accepted plan may result in
enforcement action.
The federal banking agencies issued regulations prescribing uniform guidelines
for real estate lending. The regulations require insured depository institutions
to adopt written policies establishing standards, consistent with such
guidelines, for extensions of credit secured by real estate. The policies must
address loan portfolio management, underwriting standards and loan to value
limits that do not exceed the supervisory limits prescribed by the regulations.
Appraisals for "real estate related financial transactions" must be conducted by
either state certified or state licensed appraisers for transactions in excess
of certain amounts. State certified appraisers are required for all transactions
with a transaction value of $1,000,000 or more; for all nonresidential
transactions valued at $250,000 or more; and for "complex" 1-4 family
residential properties of $250,000 or more. A state licensed appraiser is
required for all other appraisals. However, appraisals performed in connection
with "federally related transactions" must now comply with the agencies'
appraisal standards. Federally related transactions include the sale, lease,
purchase, investment in, or exchange of, real property or interests in real
property, the financing or refinancing of real property, and the use of real
property or interests in real property as security for a loan or investment,
including mortgage-backed securities.
24
<PAGE>
8. Consumer Protection Laws and Regulations
The bank regulatory agencies are focusing greater attention on compliance with
consumer protection laws and their implementing regulations. Examination and
enforcement have become more intense in nature, and insured institutions have
been advised to monitor carefully compliance with various consumer protection
laws and their implementing regulations. In addition to the consumer privacy
protections enacted pursuant to the GLB Act, banks are subject to many other
federal consumer protection laws and their regulations including, but not
limited to, the Community Reinvestment Act, the Truth in Lending Act (the
"TILA"), the Fair Housing Act (the "FH Act"), the Equal Credit Opportunity Act
(the "ECOA"), the Home Mortgage Disclosure Act ("HMDA"), and the Real Estate
Settlement Procedures Act ("RESPA").
The CRA is intended to encourage insured depository institutions, while
operating safely and soundly, to help meet the credit needs of their
communities. The CRA specifically directs the federal bank regulatory agencies,
in examining insured depository institutions, to assess their record of helping
to meet the credit needs of their entire community, including low- and
moderate-income neighborhoods, consistent with safe and sound banking practices.
The CRA further requires the agencies to take a financial institution's record
of meeting its community credit needs into account when evaluating applications
for, among other things, domestic branches, consummating mergers or
acquisitions, or holding company formations.
The federal banking agencies have adopted regulations which measure a bank's
compliance with its CRA obligations on a performance-based evaluation system.
This system bases CRA ratings on an institution's actual lending service and
investment performance rather than the extent to which the institution conducts
needs assessments, documents community outreach or complies with other
procedural requirements. The ratings range from a high of "outstanding" to a low
of "substantial noncompliance."
The ECOA prohibits discrimination in any credit transaction, whether for
consumer or business purposes, on the basis of race, color, religion, national
origin, sex, marital status, age (except in limited circumstances), receipt of
income from public assistance programs, or good faith exercise of any rights
under the Consumer Credit Protection Act. In March, 1994, the Federal
Interagency Task Force on Fair Lending issued a policy statement on
discrimination in lending. The policy statement describes the three methods that
federal agencies will use to prove discrimination: overt evidence of
discrimination, evidence of disparate treatment and evidence of disparate
impact. This means that if a creditor's actions have had the effect of
discriminating, the creditor may be held liable -- even when there is no intent
to discriminate.
The FH Act regulates may practices, including making it unlawful for any lender
to discriminate in its housing-related lending activities against any person
because of race, color, religion, national origin, sex, handicap, or familial
status. The FH Act is broadly written and has been broadly interpreted by the
courts. A number of lending practices have been found to be, or may be
considered illegal under the FH Act, including some that are not specifically
mentioned in the FH Act itself. Among those practices that have been found to
be, or may be considered illegal under the FH Act are: declining a loan for the
purposes of racial discrimination; making excessively low appraisals of property
based on racial considerations; pressuring, discouraging, or denying
applications for credit on a prohibited basis; using excessively burdensome
qualifications standards for the purpose or with the effect of denying housing
to minority applicants; imposing on minority loan applicants more onerous
interest rates or other terms, conditions or requirements; and; racial steering,
or deliberately guiding potential purchasers to or away from certain areas
because of race.
The TILA is designed to ensure that credit terms are disclosed in a meaningful
way so that consumers may compare credit terms more readily and knowledgeably.
As a result of the TILA, all creditors must use the same credit terminology and
expressions of rates, the annual percentage rate, the finance charge, the amount
financed, the total payments and the payment schedule.
25
<PAGE>
HMDA grew out of public concern over credit shortages in certain urban
neighborhoods. One purpose of HMDA is to provide public information that will
help show whether financial institutions are serving the housing credit needs of
the neighborhoods and communities in which they are located. HMDA also includes
a "fair lending" aspect that requires the collection and disclosure of data
about applicant and borrower characteristics as a way of identifying possible
discriminatory lending patterns and enforcing anti-discrimination statutes. HMDA
requires institutions to report data regarding applications for one-to-four
family loans, home improvement loans, and multifamily loans, as well as
information concerning originations and purchases of such types of loans.
Federal bank regulators rely, in part, upon data provided under HMDA to
determine whether depository institutions engage in discriminatory lending
practices.
RESPA requires lenders to provide borrowers with disclosures regarding the
nature and costs of real estate settlements. Also, RESPA prohibits certain
abusive practices, such as kickbacks, and places limitations on the amount of
escrow accounts.
Violations of these various consumer protection laws and regulations can result
in civil liability to the aggrieved party, regulatory enforcement including
civil money penalties, and even punitive damages.
11. Conclusion
As a result of the recent federal legislation, including the GLB Act, there has
been a competitive impact on commercial banking in general and the business of
the Company and the Bank in particular. There has been a lessening of the
historical distinction between the services offered by banks, savings and loan
associations, credit unions, securities dealers, insurance companies, and other
financial institutions. Banks have also experienced increased competition for
deposits and loans which may result in increases in their cost of funds, and
banks have experienced increased overall costs. Further, the federal banking
agencies have increased enforcement authority over banks and their directors and
officers.
Future legislation is also likely to impact the Company's business. Consumer
legislation has been proposed in Congress which may require banks to offer
basic, low-cost, financial services to meet minimum consumer needs. Further, the
regulatory agencies have proposed and may propose a wide range of regulatory
changes, including the calculation of capital adequacy and limiting business
dealings with affiliates. These and other legislative and regulatory changes may
have the impact of increasing the cost of business or otherwise impacting the
earnings of financial institutions. However, the degree, timing and full extent
of the impact of these proposals cannot be predicted. Management of the Company
and the Bank cannot predict what other legislation might be enacted or what
other regulations might be adopted or the effects thereof.
The foregoing summary of the relevant laws, rules and regulations governing
banks and bank holding companies do not purport to be a complete summary of all
applicable laws, rules and regulations governing banks and bank holding
companies.
26
<PAGE>
Impact of Monetary Policies
Banking is a business which depends on rate differentials. In general, the
difference between the interest rate paid by the Bank on its deposits and its
other borrowings and the interest rate earned by the Bank on loans, securities
and other interest-earning assets will comprise the major source of the
Company's earnings. These rates are highly sensitive to many factors which are
beyond the Company's and the Bank's control and, accordingly, the earnings and
growth of the Bank are subject to the influence of economic conditions
generally, both domestic and foreign, including inflation, recession, and
unemployment; and also to the influence of monetary and fiscal policies of the
United States and its agencies, particularly the FRB. The FRB implements
national monetary policy, such as 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, by placing limitations upon savings and time deposit
interest rates, and through adjustments to the discount rate applicable to
borrowings by banks which are members of the Federal Reserve System. The actions
of the FRB in these areas influence the growth of bank loans, investments, and
deposits and also affect interest rates. The nature and timing of any future
changes in such policies and their impact on the Company or the Bank cannot be
predicted; however, depending on the degree to which the Bank's interest-earning
assets and interest-bearing liabilities are rate sensitive, increases in rates
would have the temporary effect of decreasing their net interest margin, while
decreases in interest rates would have the opposite effect.
In addition, adverse economic conditions could make a higher provision for loan
losses more prudent and could cause higher loan charge-offs, thus adversely
affecting the Company's net income.
27
<PAGE>
ITEM 2. PROPERTIES
We currently operate out of four full-service branches in El Segundo, Marina del
Rey, Gardena and Burbank. See Note D to the consolidated financial statements
included in Item 8 for additional detail on lease terms and commitments.
ITEM 3. LEGAL PROCEEDINGS
The Bank is, from time to time, subject to various pending and threatened legal
actions which arise out of the normal course of its business. Neither the
Company nor the Bank is a party to any pending legal or administrative
proceedings (other than ordinary routine litigation incidental to the Company's
or the Bank's business) and no such proceedings are known to be contemplated.
There are no material proceedings adverse to the Company or the Bank to which
any director, officer, affiliate of the Company or 5% shareholder of the Company
or the Bank, or any associate of any such director, officer, affiliate or 5%
shareholder of the Company or Bank is a party, and none of the above persons has
a material interest adverse to the Company or the Bank.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
28
<PAGE>
PART II
ITEM 5. MARKET FOR THE BANK'S COMMON STOCK AND RELATED SECURITY HOLDER MATTERS
Since June 1997, our common stock has been traded in unreported private
transactions and on the OTC Bulletin Board under the symbol "FCLA". Although we
are aware of very little trading in our common stock, we believe our common
stock has traded in 1999 at prices ranging from $6.00 to $6.625, in 1998 at
prices ranging from $5.63 to $8.13 and in 1997 at prices ranging from $4.50 to
$6.00 per share. These prices reflect only transactions reported to us by market
makers in our common stock and may not be representative of all trades during
the past year. We have not attempted to verify the accuracy of sales information
reported to us by third parties.
The underwriting agreement from our recent stock offering requires us to apply
to have our units common stock and preferred securities quoted on the Nasdaq
SmallCap Market if in the future we meet its requirements. Even after the
offering, we do not meet the requirements for listing on the Nasdaq SmallCap
Market, primarily because our non-affiliates will not hold at least one million
shares of our common stock. There can be no assurance that we will ever meet
this, or some of the other requirements of the Nasdaq SmallCap Market.
To date, we have not paid any cash dividends on our common stock and it is
unlikely that we will do so in the foreseeable future. In addition, the ability
of the bank to pay dividends to us is limited by law. See "Supervision and
Regulation - Limitation on Dividend Payments".
We pay regular dividends on our 317,625 outstanding shares of series A preferred
stock. Each share of series A preferred stock currently pays dividends at an
annual rate per share of $0.675, or 10% of its stated liquidation preference.
29
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
The following selected consolidated financial data with respect to the Company's
consolidated statement of financial position for the years ended December 31,
1999 and 1998 and its consolidated statements of income for the years ended
December 31, 1999, and 1998 have been derived from the audited consolidated
financial statements included in Item 8 of this Form 10-KSB. This information
should be read in conjunction with such consolidated financial statements and
the notes thereto. The summary consolidated financial data with respect to
Company's consolidated statements of income for the years ended December 31,
1997 have been derived from the audited financial statements of the Company,
which are not presented herein.
<TABLE>
<CAPTION>
(Dollars in thousands, except per share data)
At or For the Year Ended
December 31,
-------------------------------------------
1999 1998 1997
----------- ----------- -----------
<S> <C> <C> <C>
Summary of Operations
Interest Income $ 8,161 $ 5,365 $ 3,172
Interest Expense 3,653 2,262 887
----------- ----------- -----------
Net Interest Income 4,508 3,103 2,285
Provision for Loan Losses 147 10 25
----------- ----------- -----------
Net Interest Income after Provision for Loan Losses 4,361 3,093 2,260
Noninterest Income 892 566 245
Noninterest Expense 5,643 3,116 2,350
----------- ----------- -----------
Income before Income Taxes (390) 543 155
Income Taxes 1 284 95
----------- ----------- -----------
Net Income $ (391) $ 259 $ 60
=========== =========== ===========
Per Share Data
Net Income - Basic $ (0.60) $ (0.04) $ (0.15)
Book Value, net of preferred stock at liquidation value 3.61 4.76 4.65
Cash Dividends - Preferred Stock 233 286 155
Actual Number of Shares Outstanding 1,232,428 714,551 677,052
Weighted Average Number of Shares Outstanding 1,141,214 669,829 638,990
Balance Sheet Data - At Period End
Total Assets $ 130,264 $ 76,491 $ 56,129
Total Loans 73,455 55,154 39,992
Allowance for Loan Losses (ALLL) 871 549 615
Investment Securities 38,508 14,003 10,183
Other Real Estate Owned 70 116 200
Total Deposits 89,620 58,591 45,265
Total Shareholders' Equity 6,589 6,260 6,010
Operating Ratios and Other Selected Data
Return on Average Assets (3.18%) 0.35% 0.15%
Return on Average Equity (5.31%) 4.37% 1.33%
Operating Efficiency Ratio 104.50% 84.93% 92.89%
Net Interest Yield 4.38% 4.65% 6.44%
Dividend Payout Ratio - Common Shares -- -- --
Average Equity to Average Assets 5.99% 8.03% 11.28%
Selected Asset Quality Ratios - At Period End
Nonperforming Loans to Total Loans 1.31% 3.14% 3.13%
Nonperforming Assets to Total Assets 0.79% 2.41% 2.58%
ALLL as a Percentage of Nonperforming Loans 90.63% 31.73% 49.24%
ALLL as a Percentage of Total Loans 1.19% 1.00% 1.54%
</TABLE>
30
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
History
We specialize in developing personalized banking relationships with small
businesses, executives and professionals in the local community. Over the past
three years, with the arrival of a new management group headed by Don M.
Griffith, we have grown our assets from $25.9 million as of December 31, 1996 to
$130.3 million as of December 31, 1999, approximately 44% of which was accounted
for by internal growth and 56% by bank acquisitions.
During 1997, we reorganized into a holding company ownership structure by
exchanging the shares of the Bank's capital stock for the capital stock of First
Coastal Bancshares, and the shareholders of the Bank became shareholders of
First Coastal Bancshares. There was no cash involved in this transaction, which
was accounted for as a pooling of interest , and our consolidated financial
statements have been restated to give full effect to this transaction.
In June, 1997, we acquired Marina Bank for approximately $4.1 million in cash
(including transaction costs). Marina Bank had total assets of approximately
$20.9 million when we acquired it. The acquisition was accounted for using the
purchase method of accounting. Goodwill arising from the transaction totaled
approximately $2.1 million and is being amortized over fifteen years on a
straight-line basis. This acquisition was funded in part by a public offering of
common and series A preferred stock totaling $3.1 million, net of all costs.
As of July 1, 1997, we adjusted out capital accounts through a
quasi-reorganization and thereby eliminated our accumulated deficit and
unrecognized loss on available for sale securities through a reduction of our
capital account by the same amount.
In March, 1999, we acquired American Independent Bank for approximately $6.5
million in cash. American Independent Bank had total assets of approximately $38
million when we acquired it. This acquisition was also accounted for using the
purchase method of accounting. Goodwill arising from the transaction totaled
approximately $4.0 million and is being amortized over 15 years on a
straight-line basis. This acquisition was funded in part by a public offering of
common stock totaling $1.9 million, net of costs and the issuance of $6.6
million in 11 7/8% Cumulative Preferred Securities by the Trust.
Basis of Presentation
The following discussion and analysis is intended to assist in an understanding
of the significant factors that influenced our financial condition at December
31, 1999 as compared to December 31, 1998. The following discussion and analysis
should be read in conjunction with our financial statements and corresponding
notes.
Assets
During 1999, our total assets increased $53.8 million from $76.5 million at
December 31, 1998 to 130.3 million at December 31, 1999. This increase in assets
was primarily the result of the acquisition of American Independent Bank.
31
<PAGE>
The following table presents, for the periods indicated, the distribution of
average assets, liabilities and shareholders' equity, as well as the total
dollar amounts of interest income from average interest-earning assets and the
resultant yields, and the dollar amounts of interest expense and average
interest-bearing liabilities, expressed both in dollars and in rates. Nonaccrual
loans are included in the calculation of the average balances of loans, and
interest not accrued is excluded.
<TABLE>
<CAPTION>
For the Year Ended December 31,
-----------------------------------------------------------------------------
1999 1998
-------------------------------------- -------------------------------------
(dollars in thousands)
Interest Average Interest Average
Average Earned Yield or Average Earned Yield or
Balance or Paid Rate Balance or Paid Rate
(000's) (000's) Paid (000's) (000's) Paid
------------ ----------- ----------- ------------ ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Assets
Interest-Earning Assets:
Investment Securities $ 28,334 $ 1,871 6.60% $ 10,893 $ 676 6.21%
Federal Funds Sold 3,342 159 4.76% 5,474 292 5.33%
Other Earning Assets 1,290 25 1.94% -- -- --
Loans 69,979 6,106 8.73% 50,429 4,397 8.72%
--------- ------- -------- -------
Total Interest-Earning Assets 102,945 8,161 7.93% 66,796 5,365 8.03%
Cash and Due From Bank 10,970 3,536
Premises and Equipment 544 432
OREO 81 251
Other Assets 9,315 3,399
Allowance for Loan Losses (908) (568)
--------- --------
Total Assets $ 122,947 $ 73,846
========= ========
Liabilities and Shareholders' Equity
Interest-Bearing Liabilities:
NOW and Money Market $ 24,669 $ 624 2.53% $ 13,274 $ 354 2.67%
Savings 6,186 126 2.04% 4,037 94 2.33%
Time Deposits under $100,000 22,317 1,053 4.72% 10,983 599 5.45%
Time Deposits of $100,000 or More 10,838 479 4.42% 18,418 1,029 5.59%
Borrowed Funds 19,058 1,371 7.19% 3,028 186 6.14%
--------- ------- -------- -------
Total Interest-Bearing Liabilities 83,068 3,653 4.40% 49,740 2,262 4.55%
------- -------
Demand Deposits 31,119 17,365
Other Liabilities 1,394 810
Shareholders' Equity 7,366 5,931
--------- --------
Total Liabilities and
Shareholders' Equity $ 122,947 $ 73,846
========= ========
Net Interest Income $ 4,508 $ 3,103
======= =======
Net Yield on Interest-Earning Assets 4.38% 4.65%
==== ====
</TABLE>
Net Interest Income
The principal component of our earnings is net interest income. Net interest
income is the difference between the interest we earn on our loans and
investments and the interest we pay on deposits and other interest-bearing
liabilities.
32
<PAGE>
Our net interest income is affected by changes in the amount and mix of our
interest-earning assets and interest-bearing liabilities, referred to as a
"volume change". It is also affected by changes in the yields we earn on
interest-earning assets and rates we pay on interest-bearing deposits and other
borrowed funds, referred to as a "rate change".
The following table sets forth changes in interest income and interest expense
for each major category of interest-earning asset and interest-bearing
liability, and the amount of change attributable to volume and rate changes for
the years indicated. Changes not solely attributable to rate or volume have been
allocated to volume and rate changes in proportion to the relationship of the
absolute dollar amounts of the changes in each.
<TABLE>
<CAPTION>
Year Ended December 31, 1999
over
Year Ended December 31, 1998
-----------------------------------
Increase (Decrease)
Due to Change
(dollars in thousands)
-----------------------------------
Volume Rate Change
-------- ------- --------
<S> <C> <C> <C>
Interest-Earning Assets:
Investment Securities $ 1,149 $ 46 $ 1,195
Federal Funds Sold (104) (29) (133)
Other Earning Assets 13 12 25
Loans 1,706 3 1,709
------- ------- -------
Total Interest Income 2,764 32 2,796
Interest-Bearing Liabilities:
Interest-Bearing Demand 289 (19) 270
Savings 45 (13) 32
Time Deposits under $100,000 545 (91) 454
Time Deposits $100,000 or More (365) (185) (550)
Borrowed Funds 1,148 37 1,185
------- ------- -------
Total Interest Expense 1,662 (271) 1,391
------- ------- -------
Interest Differential or Net
Interest Income $ 1,102 $ 303 $ 1,405
======= ======= =======
</TABLE>
Year Ended December 31, 1999 Compared to December 31, 1998
For the year ended 1999, our net interest income was $4.5 million, an increase
of $1.4 or 45% compared to $3.1 million for the year ended 1998. This increase
was primarily due to the acquisition of American Independent Bank in March of
1999.
The increase in interest income was generated primarily by the significant
increase in the volume of average interest-earning assets, which were $102.9
million as of December 31, 1999 compared to $66.8 million as of December 31,
1998. This increase was primarily due to the acquisition of American Independent
Bank. We also experienced a nominal decline in the overall yield on these assets
as the yields decreased from 8.03% as of December 31. 1998 to 7.93% as of
December 31, 1999.
Interest expense increased $1.4 million to $3.7 million compared to $2.3 million
in 1998. This increase was primarily impacted by our acquisition of the
outstanding deposits of American Independent Bank and the issuance of trust
preferred securities used to fund the purchase.
33
<PAGE>
Provision for Loan Losses
We make provisions for loan losses to bring our total allowance for loan losses
to a level we deem appropriate. We base our determination on such factors as our
historical experience, the volume and type of lending we conduct, the amount of
our nonperforming loans, regulatory policies, general economic conditions, and
other factors related to the collectibility of loans in our portfolio. The
amount we provide for loan losses is charged to earnings. Our provision for loan
losses was $147,000 for 1999 compared to $10,000 for 1998
Noninterest Income
Noninterest income for 1999 was $892,000, an increase of $326,000 when compared
to $566,000 for 1998. This increase was the result of additional service charges
and fee income generated by the acquisition of American Independent Bank offset
by a reduction of the gain on loan and investment sales.
Noninterest Expense
Noninterest expense also increased in 1999, up $2.5 million from $3.1 million in
1998 to $5.6 million. This increase was primarily the result of increased
operating costs related with the branches acquired in the American Independent
Bank acquisition and $524,000 in related additional goodwill amortization.
Income Taxes
During 1998 we recorded a $284,000 provision for income taxes. This resulted in
an effective tax rate of approximately 42% on income before income taxes and
non-deductible goodwill amortization. During 1999 we recorded income tax expense
of $1,000. This resulted in an effective tax rate of approximately 34% on income
before income taxes and non-deductible goodwill amortization. See also Note I to
the consolidated financial statements for more information on income taxes.
Liquidity and Asset/Liability Management
The objective of our asset/liability strategy is to manage liquidity and
interest rate risks to ensure the safety and soundness of our and its capital
base, while maintaining adequate net interest margins and spreads to provide an
appropriate return to its shareholders.
The Bank's liquidity, which primarily represents our ability to meet
fluctuations in deposit levels and provide for customers' credit needs, is
managed through various funding strategies that reflect the maturity structures
of the sources of funds being gathered and the assets being funded. The Bank's
liquidity is further augmented by payments of principal and interest on loans
and increases in short-term liabilities such as demand deposits, short-term
certificates of deposit, and overnight purchases of federal funds. Short-term
investments, primarily federal funds sold and reverse repurchase lines of credit
provided by our correspondent banks, are the primary means for providing
immediate liquidity. In order to meet the Bank's liquidity requirements, we
endeavor to maintain an appropriate liquidity ratio. The liquidity ratio is
equivalent to the sum of cash and noninterest-earning deposits, interest-earning
deposits, federal funds sold, and investment securities, divided by deposits. As
of December 31, 1999 and 1998, the Bank's liquidity ratio was 52.8% and 30.9%,
respectively.
We depend on dividends from the Bank for liquidity to pay interest on our debt,
including the junior subordinated debentures and the mandatorily redeemable
preferred securities, and to pay any dividends. We have pledged all of the
Bank's common stock as collateral for this note. We currently do not have any
lines of credit. The ability of the Bank to pay dividends to us is limited by
federal law.
34
<PAGE>
The objectives of interest rate risk management are to control exposure of net
interest income to risks associated with interest rate movements in the market,
to achieve consistent growth in net interest income and to profit from favorable
market opportunities. Even with perfectly matched repricing of assets and
liabilities, risks remain in the form of prepayment of assets, timing lags in
adjusting certain assets and liabilities that have varying sensitivities to
market interest rates and basis risk.
The table below sets forth the interest rate sensitivity of our interest-earning
assets and interest-bearing liabilities as of December 31, 1999, using the
interest rate sensitivity gap ratio. For purposes of the following table, an
asset or liability is considered rate-sensitive within a specified period when
it can be repriced or matures within its contractual terms.
<TABLE>
<CAPTION>
Estimated Maturity or Reporting
----------------------------------------------------------------
Over Three
Months Over
Up to To Less One to Over
Three Than One Five Five
Months Year Year Years Total
--------- ---------- --------- --------- ---------
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
Interest-Earning Assets:
Investment Securities $ 3,525 $ -- $ 12,162 $ 24,418 $ 40,105
Federal Funds Sold 1,800 -- -- -- 1,800
Loans 24,815 6,970 13,849 27,811 73,445
--------- --------- --------- --------- ---------
$ 30,140 $ 6,970 $ 26,011 $ 52,229 $ 115,350
========= ========= ========= ========= =========
Interest-Bearing Liabilities:
Money Market and NOW $ 20,807 $ -- $ -- $ -- $ 20,807
Savings 5,122 -- -- -- 5,122
Time Deposits 19,359 13,094 1,338 -- 33,791
Other Borrowings 25,000 87 848 6,600 32,535
--------- --------- --------- --------- ---------
$ 70,288 $ 13,181 $ 2,186 $ 6,600 $ 92,255
========= ========= ========= ========= =========
Interest Rate Sensitivity Gap $ (40,148) $ (6,211) $ 23,825 $ 45,629 $ 23,095
Cumulative Interest Rate
Sensitivity Gap $ (40,148) $ (46,359) $ (22,534) $ 23,095 $ (2,288)
Cumulative Interest Rate
Sensitivity Gap Ratio
Based on Total Assets (52.32%) (60.41%) (29.37%) 30.10% (2.98%)
</TABLE>
Gap analysis attempts to capture interest rate risk, which is attributable to
the mismatching of interest rate sensitive assets and liabilities. The actual
impact of interest rate movements on our net interest income may differ from
that implied by any gap measurement, depending on the direction and magnitude of
the interest rate movements, the repricing characteristics of various on and
off-balance sheet instruments, as well as competitive pressures. These factors
are not fully reflected in the foregoing gap analysis and, as a result, the gap
report may not provide a complete assessment of our interest rate risk.
35
<PAGE>
A generally negative cumulative gap value means that over the periods indicated
our liabilities will reprice slightly faster than our assets. This means
generally that, in a rising interest rate environment, net interest income can
be expected to decrease and that, in a declining interest rate environment, net
interest income can be expected to increase.
Lending Activities
We originate, purchase and sell loans, or participate interests in loans for our
own portfolio and for possible sale in the secondary market. Our loans include
single family residential loans, commercial business, commercial real estate
loans, Small Business Administration loans, and consumer loans.
The following table sets forth the composition of our loan portfolio by type of
loan at the periods indicated:
December 31,
-----------------------
1999 1998
-------- --------
(dollars in thousands)
Loans:
Commercial $ 13,397 $ 4,303
Consumer 2,764 2,917
Construction Financing 2,477 73
Real Estate - Residential, 1 to 4 Units 21,071 24,790
Real Estate - Other 33,736 23,071
-------- --------
Total Loans 73,445 55,154
Net Deferred Loan (Fees) Costs (125) 9
Allowance for Loan Losses (871) (549)
-------- --------
Net Loans $ 72,449 $ 54,614
======== ========
Commitments:
Standby Letters of Credit $ -- $ --
Undisbursed Loans and Commitments to Grant Loans 7,966 3,500
-------- --------
Total Commitments $ 7,966 $ 3,500
======== ========
We make commercial loans to provide working capital, finance the purchase of
equipment and for other business purposes. These loans can be "short-term", with
maturities ranging from thirty days to one year, or "term loans" with maturities
normally ranging from one to twenty-five years. Short-term loans are generally
intended to finance current transactions and typically provide for periodic
principal payments, with interest payable monthly. Term loans normally provide
for floating interest rates, with monthly payments of both principal and
interest.
We make consumer loans to finance automobiles, various types of consumer goods,
and other personal purposes. Consumer loans generally provide for the monthly
payment of principal and interest. Most consumer loans are secured by the
personal property being purchased. At December 31, 1999, over 50% of our
consumer loans were secured by automobiles, calculated by principal amount.
We make construction financing loans primarily as interim loans made to finance
the construction of commercial and single family residential property. These
loans are typically short term. We do not make loans for speculative or tract
housing construction or for the acquisition of raw land and have made very few
construction loans in general.
36
<PAGE>
Our 1 - 4 unit residential real estate loans consists primarily of single family
residential loans. We make these loans based on the borrower's cash flow and
secure the loan by a first or second deed of trust on the property. Our general
policy is to restrict our residential loans to no more than 80% of the appraised
value of the property. We offer both fixed and variable rate residential loans
with maturities extending up to 30 years. Additionally, in order to supplement
our loan portfolio and to enhance geographical diversity, we purchase single
family residential loans from other financial institutions. In order to minimize
prepayment risk, we have paid little or no premium for loan pools with the
following criteria:
o well-seasoned and well-collaterized conforming mortgages,
o borrowers with sound credit who demonstrate the ability to service the
debt, and
o a stable and consistent cash flow.
We review each loan within the pool and eliminate those individual loans which
do not meet our underwriting standards. As of December 31, 1999, these loans
totaled $14.4 million and were secured by residential properties in Arizona
($7.1 million in loans), Maine ($4.9 million in loans) and Iowa ($2.4 million in
loans). We do not service these loans.
Our other real estate loans consists primarily of commercial and industrial real
estate loans. We make these loans based on the income generating capacity of the
property or the cash flow of the borrower. These loans are secured by the
property. Our general policy is to restrict these loans to no more than 75% of
the lower of the appraised value or the purchase price of the property. We offer
both fixed and variable rate loans with maturities which generally do not exceed
15 years, unless the loans are Small Business Administration ("SBA") loans
secured by real estate or other commercial real estate loans easily sold in the
secondary market.
We also make SBA-guaranteed loans, the guaranteed portion of which may be resold
in the secondary market. We have in the past sold the guaranteed portion of our
SBA loans in the secondary market but retained the servicing rights for such SBA
loans. At December 31, 1999 and 1998, we serviced approximately $7.4 million and
$6.1 million, respectively, in SBA loans. We categorize SBA loans as Commercial
or Real Estate depending on the underlying collateral.
37
<PAGE>
Many of our loans have floating rates tied to our base rate or other market rate
indicator, the majority of which are adjusted at least quarterly. The following
table shows the maturity distribution of the fixed rate portion of the loan
portfolio and the repricing portion of the variable rate portion of the loan
portfolio outstanding as of December 31, 1999:
<TABLE>
<CAPTION>
Over
3 months Due after Due after Due after five
3 months through one year to three years to years through Due after
Or Less 12 months three years five years 15 years 15 years Total
- --------- --------- ----------- -------------- --------------- ---------- --------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
$ 24,323 $ 6,970 $ 7,138 $ 6,711 $ 20,113 $ 7,698 $ 72,953
======== ======= ======= ======= ======== ======= ========
Loans on nonaccrual 492
--------
Total Loans $ 73,445
========
</TABLE>
Asset Quality
The risk of nonpayment of loans is an inherent feature of the banking business.
That risk varies with the type and purpose of the loan, the collateral which is
utilized to secure payment, and ultimately, the credit worthiness of the
borrower. In order to minimize this credit risk, virtually all loans are
approved by the Loan Committee of the board of directors. Our Loan Committee is
comprised of directors and members of our senior management.
We grade our loans from "acceptable" to "loss", depending on credit quality,
with "acceptable" representing loans with an acceptable degree of risk given the
favorable aspects of the credit and with both primary and secondary sources of
repayment. Classified loans or substandard loans are ranked below "acceptable"
loans. As these loans are identified in our review process, we add them to our
internal watchlist and establish loss allowances for them. Additionally, our
loans are examined regularly by the OCC. We do not return a loan to accrual
status until it is brought current with respect to both principal and interest
payments, the loan is performing to current terms and conditions, the interest
rate is commensurate with market interest rates and future principal and
interest payments are no longer in doubt at which time a further review of loans
is conducted.
38
<PAGE>
The following table provides information with respect to the components of our
nonperforming assets at the dates indicated:
<TABLE>
<CAPTION>
For the Year Ended
December 31,
-------------------------
1999 1998
--------- ---------
(dollars in thousands)
<S> <C> <C>
Non-Accrual Loans $ 492 $ 726
Loans 90 Days Past Due and Still Accruing 79 8
Restructured Loans 390 996
--------- ---------
Total Nonperforming Loans 961 1,730
Other Real Estate Owned 70 116
--------- ---------
Total Nonperforming Assets $ 1,031 $ 1,846
========= =========
Non-Accrual Loans as a Percentage of Total Loans 0.67% 1.32%
Loans 90 Days Past Due as a Percentage of Total Loans 0.11% 0.01%
Restructured Loans as a Percentage of Total Loans 0.53% 1.81%
--------- ---------
Nonperforming Loans as a Percentage of Total Loans 1.31% 3.14%
========= =========
Allowance for Loan Losses as a Percentage of
Nonperforming Loans 90.63% 31.73%
Nonperforming Assets as a Percentage of Total Assets 0.79% 2.41%
</TABLE>
Restructured loans are those loans where we have made concessions in interest
rates or repayment terms to assist the borrower. Non-accrual loans are generally
loans which are past due 90 days or are loans that management believes the
interest upon which may not be collectible. At December 31, 1999 and December
31, 1998, the majority of our non-accrual loans were secured by real estate. We
recognized income of $52,000 for 1999 and $68,000 for 1998 for cash interest
payments on restructured loans. Our interest income would have increased
approximately $85,000 for 1999 and $29,000 for 1998 had all of these
nonperforming loans performed in accordance with their original terms and
conditions.
Other real estate owned is acquired in satisfaction of loan receivables through
foreclosure or other means. We record these properties on an individual asset
basis at the estimated fair value less selling expenses.
39
<PAGE>
Allowance for Loan Losses
The following table summarizes, for the periods indicated, changes in the
allowance for loan losses arising from loans charged off, recoveries on loans
previously charged off, additions to the allowance which have been charged to
operating expenses and certain ratios relating to the allowance for loan losses:
For the Year Ended
December 31,
---------------------
1999 1998
------ ------
(dollars in thousands)
Allowance For Loan Losses:
Balance at Beginning of Period $549 $615
Actual Charge-offs:
Commercial 178 51
Consumer 55 106
Real Estate 51 1
---- ----
Total Charge-Offs 284 158
---- ----
Less Recoveries:
Commercial 47 79
Consumer 10 3
Real Estate -- --
---- ----
Total Recoveries 57 82
---- ----
Net Loans Charged Off 227 76
Provision for Loan Losses 147 10
Allowance on Loans Purchased from AIB 402 --
---- ----
Balance at End of Period $871 $549
==== ====
Ratios:
Net Loans Charged Off to Average Loans 0.32% 0.15%
Allowance for Loan Losses to Total Loans 1.19% 1.00%
We perform quarterly detailed reviews to identify the risks inherent in our loan
portfolio, assess the overall quality of our loan portfolio and to determine the
adequacy of our allowance for loan losses and the related provision for loan
losses to be charged to expense. Our systematic reviews follow the methodology
set forth by the OCC in its 1993 policy statement on the allowance for loan
losses.
A key element of our methodology is our previously discussed credit
classification process. Loans identified as less than "acceptable" are reviewed
individually to estimate the amount of probable losses that need to be included
in the allowance. These reviews include analysis of financial information as
well as evaluation of collateral securing the credit. Additionally, we consider
the inherent risk present in the "acceptable" portion of our loan portfolio
taking into consideration historical losses on pools of similar loans, adjusted
for trends, conditions and other relevant factors that may affect repayment of
the loans in these pools. Upon completion, the written analysis is present to
the board of directors for discussion, review and approval.
40
<PAGE>
We consider our allowance for loan losses to be adequate to provide for losses
inherent in our loans. While we use available information to recognize losses on
loans and leases, future additions to our allowance may be necessary based on
changes in economic conditions. In addition, federal regulators, as an integral
part of their examination process, periodically review our allowance for loan
losses and may recommend additions based upon their evaluation of the portfolio
at the time of their examination. Accordingly, there can be no assurance that
our allowance for loan losses will be adequate to cover future loan losses or
that significant additions to the allowance for loan losses will not be required
in the future. Material additions to the allowance for loan losses would
decrease our earnings and capital and would thereby reduce out ability to pay
distributions on the preferred securities and dividends on the common stock,
among other adverse consequences.
Our ratio of allowance for loan losses to total loans has declined significantly
from 1.54% in 1997 to 1.00% in 1998 and then slightly increased to 1.19% in
1999. This decline is primarily the result of our significant increase in
lower-risk residential loans. These loans accounted for 35% of our loans at
December 31, 1997, 45% at December 31, 1998 and 29% of our loans at December 31,
1999.
The following table summarizes the allocation of the allowance for loan losses
by loan type for the periods indicated (dollar amounts in thousands):
<TABLE>
<CAPTION>
December 31,
--------------------------------------------------
1999 1998
----------------------- -----------------------
Percent of Percent of
Loans in Loans in
Category Category
Allowance to Toal Allowance to Toal
Amount Loans Amount Loans
--------- ---------- --------- ----------
<S> <C> <C> <C> <C>
Commercial 327 18.2% $ 129 7.8%
Consumer 23 3.8% 33 5.3%
Construction Financing 2 3.4% -- 0.2%
Real Estate - Residential, 1 to 4 Units 47 28.7% 65 44.9%
Real Estate - Other 90 45.9% 119 41.8%
Unallocated 382 N/A 203 N/A
------ ------ ------ ------
$ 871 100.0% $ 549 100.0%
====== ====== ====== ======
</TABLE>
Investment Activity
We are required under federal regulations to maintain a minimum amount of liquid
assets and are also permitted to make certain other investment securities. We
intend to hold securities in our investment portfolio to balance the overall
interest-rate sensitivities of its assets and liabilities.
41
<PAGE>
Our investment decisions are primarily made by Don M. Griffith, our Chief
Executive Officer. Mr. Griffith acts within policies established by the board of
directors and reports monthly to the Board. Our investments can include
investment grade corporate securities, AAA-rated mortgage-backed securities,
federally insured certificates of deposit, U.S. treasury obligations and U.S.
Government agency-backed securities. Our goals are to obtain the highest yield
consistent with maintaining a stable overall asset and liability position while
limiting economic risks. In accordance with this policy we actively manage our
investment portfolio, the composition of which may shift substantially over
time. For further information concerning our investment securities portfolio,
see Note B of the notes to our consolidated financial statements included in
Item 8.
The following table summarizes the amounts and distribution of our investment
securities held as of the dates indicated, and the weighted average yield as of
December 31, 1999. During 1996, we converted our entire investment portfolio
into the Available-for-Sale category to increase the portfolio's liquidity and
our planning opportunities.
<TABLE>
<CAPTION>
December 31, December 31,
----------------------------------- ---------------------
1999 1998
----------------------------------- ---------------------
Weighted
Book Market Average Book Market
Value Value Yield Value Value
--------- -------- -------- ------- -------
<S> <C> <C> <C> <C> <C>
Available-for-Sale Securities:
U.S. Agencies:
One to Five Years $ 998 $ 974 6.1% $ -- $ --
Five to Ten Years 4,999 4,740 6.6% -- --
Over Ten Years 1,000 1,000 6.0% -- --
------- ------- ------- -------
Total U.S. Agency 6,997 6,714 6.4% -- --
U.S. Treasuries - Over Ten Years 1,972 1,668 5.4% 533 526
Trust Preferred Securities - Over Ten Years 1,412 1,441 7.0% 1,410 1,442
Corporate Notes:
One to Five Years 2,173 2,168 7.8% 230 229
Five to Ten Years 1,727 1,715 7.6% 1,790 1,775
Over Ten Years 1,519 1,422 6.1%
------- ------- ------- -------
Total Corporate Notes 5,419 5,305 7.3% 2,020 2,004
Mortgage-Backed Securities 24,760 23,380 6.3% 10,092 10,031
------- ------- ------- -------
Total Available-for-Sale Securities $40,560 $38,508 6.4% $14,055 $14,003
======= ======= ======= =======
</TABLE>
42
<PAGE>
Deposits
Deposits are the primary source of funding for our lending and investing needs.
Total deposits were $45.3 million at December 31, 1997, increased to $58.6
million at December 31, 1998 and reached $89.6 million at December 31, 1999. Our
total deposits increased in 1999 primarily from the acquisition of American
Independent Bank.
The following table summarizes the distribution of average deposits and the
average rates paid for the periods indicated:
<TABLE>
<CAPTION>
For the Year Ended December 31,
-----------------------------------------------
1999 1998
--------------------- --------------------
Average Average Average Average
Balance Rate Balance Rate
------- ------- ------- -------
(dollars in thousands)
<S> <C> <C> <C> <C>
NOW $ 8,514 1.96% $ 6,732 1.84%
Savings Deposits 6,186 2.04% 4,037 2.33%
Money Market Accounts 16,155 2.83% 6,542 3.52%
TCD Less than $100,000 22,317 4.72% 10,983 5.45%
TCD $100,000 or More 10,838 4.42% 18,418 5.59%
------- -------
Total Interest-Bearing Deposits 64,010 3.24% 46,712 4.44%
Non Interest-Bearing Demand Deposits 31,119 17,365
------- -------
Total Deposits $95,129 2.40% $64,077 3.24%
======= =======
</TABLE>
The scheduled maturity distribution of our time deposits of $100,000 or greater,
as of December 31, 1999, were as follows (dollar amounts in thousands):
Three Months or Less $ 8,212
Over Three Months to One Year 4,532
Over One Year to Three Years 500
Over Three Years --
-------
Total $13,244
=======
43
<PAGE>
Short-Term and Other Borrowings
The following table summarizes short-term borrowings and weighted average rates
(dollar amounts in thousands):
1999
----------------------------------------------
Maximum
Ending Month-End Average Average
Balance Balance Balance Rate
------- --------- ------- -------
Short-Term Borrowings $25,000 $26,850 $13,867 5.17%
Long-Term Borrowings 1,000 1,000 1,000 8.00%
1998
----------------------------------------------
Maximum
Ending Month-End Average Average
Balance Balance Balance Rate
------- --------- ------- -------
Short-Term Borrowings $10,000 $10,000 $ 2,510 5.41%
Long-Term Borrowings 1,000 1,000 518 9.79%
For further information concerning our borrowings, see Notes F and G of the
notes to our consolidated financial statements included in Item 8.
Y2K Disclosures
During the periods leading up to January 1, 2000, the Company addressed the
potential problems associated with the possibility that the computers that
control or operate the Company's information technology system and
infrastructure may not have been programmed to read four-digit date codes and,
upon the arrival of the year 2000, may have recognized the two-digit code "00"
as the year 1900, causing systems to fail to function or generate erroneous
data.
The Company expended approximately $123,000 through the periods ended December
31, 1999 in connection with its Year 2000 compliance program. The Company
experienced no significant problems related to its information technology
systems upon arrival of the Year 2000, nor was there any interruption in service
to its customers.
The Company could incur losses if Year 2000 issues adversely affect its
depositors or borrowers. Such problems could include delayed loan payments due
to Year 2000 problems affecting any significant borrowers or impairing the
payroll systems of large employers in the Company's primary market areas.
Because the Company's loan portfolio is highly diversified with regard to
individual borrowers and types of businesses, the Company does not expect, and
to date has not realized, any significant or prolonged difficulties that will
affect net earning or cash flow.
We have checked with our major customers and as of March 15, 2000, have not been
told of any significant problems that would put us at risk. We will continue to
monitor the critical dates in 2000 to insure that all systems are working
correctly.
44
<PAGE>
Effects of Inflation
The impact of inflation on a financial institution can differ significantly from
that exerted on other companies. Banks, as financial intermediaries, have many
assets and liabilities, which may move in concert with inflation both as to
interest rates and value. This is especially true for banks, such as First
Coastal Bank, with a high percentage of interest rate-sensitive assets and
liabilities. A bank can reduce the impact of inflation if it can manage its
interest rate sensitivity gap. We attempt to structure its mix of financial
instruments and manage our interest rate sensitivity gap in order to minimize
the potential adverse effects of inflation or other market forces on its net
interest income and, therefore, our earnings and capital.
45
<PAGE>
ITEM 8. FINANCIAL STATEMENTS
INDEPENDENT AUDITORS' REPORT
To the Shareholders
and Board of Directors of First Coastal Bancshares
We have audited the accompanying consolidated balance sheets of First Coastal
Bancshares and Subsidiaries (the "Company") as of December 31, 1999 and 1998 and
the related consolidated statements of operations, changes in shareholders'
equity, and cash flows for the years then ended. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated 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, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of First Coastal
Bancshares and Subsidiaries as of December 31, 1999 and 1998, and the results of
their operations and their cash flows for the years then ended, in conformity
with generally accepted accounting principles.
Laguna Hills, California
February 9, 2000
46
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
<TABLE>
<CAPTION>
1999 1998
--------- ---------
<S> <C> <C>
ASSETS
Cash and Due from Banks $ 5,394 $ 2,745
Federal Funds Sold 1,800 700
--------- ---------
CASH AND CASH EQUIVALENTS 7,194 3,445
Investment Securities Available for Sale 38,508 14,003
Federal Reserve and Federal Home Loan Bank Stock, at Cost 1,597 676
Loans:
Commercial 13,397 4,303
Real Estate - Construction 2,477 73
Real Estate - Residential, 1 to 4 Units 21,071 24,790
Real Estate - Other 33,736 23,071
Consumer 2,764 2,917
--------- ---------
TOTAL LOANS 73,445 55,154
Net Deferred Loan (Fees) Costs (125) 9
Allowance for Loan Losses (871) (549)
--------- ---------
NET LOANS 72,449 54,614
Premises and Equipment, Net 607 386
Other Real Estate Owned, Net 70 116
Goodwill, Net 5,453 1,770
Net Deferred Tax Assets 1,908 377
Accrued Interest and Other Assets 2,478 1,104
--------- ---------
TOTAL ASSETS $ 130,264 $ 76,491
========= =========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
47
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
<TABLE>
<CAPTION>
1999 1998
--------- ---------
<S> <C> <C>
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits
Noninterest-Bearing Demand $ 29,900 $ 14,474
Money Market and NOW 20,807 14,169
Savings 5,122 3,722
Time Deposits Under $100,000 20,547 13,489
Time Deposits $100,000 and Over 13,244 12,737
--------- ---------
TOTAL DEPOSITS 89,620 58,591
Short-Term Borrowings 25,000 10,000
Long-Term Debt 935 1,000
Company Obligated Mandatorily Redeemable Preferred Securities
of Subsidiary Trust Holding Solely Junior Subordinated
Debentures 6,600 --
Accrued Interest and Other Liabilities 1,520 640
--------- ---------
TOTAL LIABILITIES 123,675 70,231
Commitments and Contingencies - Notes D and J
Shareholders' Equity:
Preferred Stock - Series A, Authorized 5,000,000 Shares;
Issued and Outstanding 317,625 at December 31, 1999
and 423,500 at December 31, 1998,
Liquidation Value of $2,144 Plus Accumulated Dividends 1,993 2,658
Common Stock - Authorized 10,000,000 Shares; Issued and
Outstanding 1,232,428
at December 31, 1999
and 714,551 at December 31, 1998 6,527 3,673
Accumulated Deficit, Eliminated by Transfer of $2,850 from
Common Stock and Surplus on June 30, 1997 -- --
Accumulated Deficit Since July 1, 1997 (721) (40)
Accumulated Other Comprehensive Income - Net Unrealized
Loss on Investment Securities Available for Sale,
net of Taxes of $842 in 1999 and $21 in 1998 (1,210) (31)
--------- ---------
TOTAL SHAREHOLDERS' EQUITY 6,589 6,260
--------- ---------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 130,264 $ 76,491
========= =========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
48
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31, 1999 and 1998
(Dollar Amounts in Thousands, Except for Per Share Data)
<TABLE>
<CAPTION>
1999 1998
------- -------
<S> <C> <C>
INTEREST INCOME
Interest and Fees on Loans $ 6,106 $ 4,397
Interest on Investment Securities 1,871 676
Other Interest Income 184 292
------- -------
TOTAL INTEREST INCOME 8,161 5,365
INTEREST EXPENSE
Interest on Money Market and NOW 624 354
Interest on Savings 126 94
Interest on Time Deposits 1,532 1,628
Other Interest Expense 1,371 186
------- -------
TOTAL INTEREST EXPENSE 3,653 2,262
------- -------
NET INTEREST INCOME 4,508 3,103
PROVISION FOR LOAN LOSSES 147 10
------- -------
NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES 4,361 3,093
NONINTEREST INCOME
Service Charges and Fees 863 373
Gain on Sale of Loans -- 91
Gain on Sale of Investment Securities Available for Sale 22 77
Other Income 7 25
------- -------
892 566
NONINTEREST EXPENSE
Salaries and Employee Benefits 2,381 1,322
Occupancy 512 301
Furniture and Equipment 255 128
Data Processing 447 255
Promotional 157 61
Legal and Accounting 261 228
Office 252 167
Other Real Estate Owned, Net 32 50
Goodwill Amortization 350 132
Other Expenses 996 472
------- -------
5,643 3,116
------- -------
(LOSS) INCOME BEFORE INCOME TAXES (390) 543
Income Taxes 1 284
------- -------
NET (LOSS) INCOME $ (391) $ 259
======= =======
Per Share Data:
Net Loss - Basic $ (0.60) $ (0.04)
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
49
<PAGE>
The accompanying notes are an integral part of these consolidated financial
statements.
50
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Years Ended December 31, 1999 and 1998
(Dollar Amounts in Thousands)
<TABLE>
<CAPTION>
Accumulated
Common Stock Accumulated Deficit Other
----------------------- ------------------------- Compre-
Preferred Number of Comprehensive Since hensive
Stock Shares Amount Income Prior July 1, 1997 Income
---------- ---------- ---------- ------------- ---------- ------------ ----------
<S> <C> <C> <C> <C> <C> <C> <C>
January 1, 1998 $ 2,658 677,052 $ 3,360 $ -- $ (13) $ 5
Dividends - Preferred Stock (286)
Recognition of Deferred Tax
Assets Generated Prior to
Quasi-Reorganization 141
Common Stock Repurchased (12,501) (78)
Exercise of Warrants 50,000 250
Comprehensive Income
Net Income $ 259 259
Change in Unrecognized Loss
of Securities Available for
Sale, net of Taxes of $7 13 13
Less Reclassification Adjustments
for Gains included in Net Income
net of Taxes of $28 (49) (49)
----------
Total Comprehensive Income $ 223
==========
---------- ---------- ---------- ---------- ---------- ----------
December 31, 1998 2,658 714,551 3,673 -- (40) (31)
Redemption of Preferred Stock (586) (57)
Conversion of Preferred Stock (79) 12,587 79
Exercise of Warrants 175,000 875
Sale of Treasury Shares 18,194 115
Net Proceeds from Stock Offering 330,000 1901
Dividends - Preferred Stock (233)
Common Stock Repurchased (17,904) (116)
Comprehensive Income
Net Loss $ (391) (391)
Change in Unrecognized Loss
of Securities Available for
Sale, net of Taxes of $812 (1,166) (1,166)
Less Reclassification Adjustments
for Gains included in Net Income
net of Taxes of $9 (13) (13)
----------
Total Comprehensive Income $ (1,570)
==========
---------- ---------- ---------- ---------- ---------- ----------
December 31, 1999 $ 1,993 1,232,428 $ 6,527 $ -- $ (721) $ (1,210)
========== ========== ========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
50
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 1999 and 1998
(Dollar Amounts in Thousands)
<TABLE>
<CAPTION>
1999 1998
-------- --------
<S> <C> <C>
OPERATING ACTIVITIES
Net (Loss) Income $ (391) $ 259
Adjustments to Reconcile Net (Loss) Income to
Net Cash Provided by Operating Activities:
Depreciation and Amortization 572 255
Provision for Loan Losses 147 10
Discount and Premium on Investment Securities 49 66
Gain on Sale of Investment Securities (22) (77)
Gain on Loan Sales -- (91)
Loans Originated for Sale -- (1,178)
Proceeds from Loan Sales -- 1,269
Net Loss on Sale and Write Down of Other Real Estate Owned 32 50
Deferred Income Taxes (1) 236
Other Items - Net (128) 29
-------- --------
NET CASH PROVIDED BY OPERATING ACTIVITIES 258 828
INVESTING ACTIVITIES
Net Increase in FRB and FHLB Stock (921) (507)
Purchases of Available-for-Sale Securities (30,346) (22,910)
Proceeds from Sales of Available-for-Sale Securities 3,713 13,124
Proceeds from Maturities of Available-for-Sale Securities 3,398 5,742
Net Change in Loans 454 (15,559)
Proceeds from Sale of Other Real Estate Owned 150 165
Net Cash from Purchase of American Independent Bank 8,325 --
Purchases of Premises and Equipment (78) (54)
-------- --------
NET CASH USED BY INVESTING ACTIVITIES (15,305) (19,999)
FINANCING ACTIVITIES
Net Change in Deposits (3,620) 13,326
Net Increase in Other Borrowings 20,517 6,450
Dividends Paid (233) (286)
Repurchase of Preferred and Common Stock (759) (78)
Proceeds from Warrants and Sale of Treasury Shares 990 250
Proceeds from Stock Offering - Net 1,901 --
-------- --------
NET CASH PROVIDED BY FINANCING ACTIVITIES 18,796 19,662
-------- --------
INCREASE IN CASH AND CASH EQUIVALENTS 3,749 491
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 3,445 2,954
-------- --------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 7,194 $ 3,445
======== ========
Supplemental Disclosures of Cash Flow Information:
Cash Paid During the Year for Interest $ 3,905 $ 1,901
Cash Paid During the Year for Income Taxes $ 214 $ 103
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
51
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
The consolidated financial statements include the accounts of First Coastal
Bancshares (the "Company") and its wholly-owned Subsidiaries, First Coastal
Bank, N.A. (the "Bank") and First Coastal Capital Trust (the "Trust").
Nature of Operations
The Bank has been organized as a single reporting segment and operates four
branches in the West Los Angeles area of Southern California. The Bank's primary
source of revenue is providing loans to clients, who are predominately small and
middle-market businesses and individuals.
The Trust was formed solely to issue and pay dividends on the 11 7/8% Cumulative
Preferred Stock (See also Note H).
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Cash and Cash Equivalents
For purposes of reporting cash flows, cash and cash equivalents include cash,
due from banks and federal funds sold. Generally, federal funds are sold for one
day periods.
Cash and Due From Banks
Banking regulations require that all banks maintain a percentage of their
deposits as reserves in cash or on deposit with the federal reserve bank. The
Bank complied with the reserve requirements as of December 31, 1999.
The Bank maintains amounts due from banks which exceed federally insured limits.
The Bank has not experienced any losses in such accounts.
Investment Securities Available for Sale
Available-for-sale securities consist of bonds and corporate notes not
classified as trading securities nor as held-to-maturity securities.
Unrealized holding gains and losses, net of tax, on available-for-sale
securities are reported as a net amount in a separate component of capital until
realized.
52
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICES - Continued
Investment Securities Available for Sale - Continued
Gains and losses on the sale of available-for-sale securities are determined
using the specific-identification method.
Premiums and discounts are recognized in interest income using the interest
method over the period to maturity.
Loans
Loans receivable that management has the intent and ability to hold for the
foreseeable future or until maturity or payoff are reported at their outstanding
unpaid principal balances reduced by any charge-offs, allowance for loan losses,
and net of any deferred fees or costs on originated loans, or unamortized
premiums or discounts on purchased loans.
Loan origination fees and certain direct origination costs are capitalized and
recognized as an adjustment of the yield of the related loan.
The accrual of interest on impaired loans is discontinued when, in management's
opinion, the borrower may be unable to meet payments as they become due. When
interest accrual is discontinued, all unpaid accrued interest is reversed.
Interest income is subsequently recognized only to the extent cash payments are
received.
For impairment recognized in accordance with Financial Accounting Standards
Board ("FASB") Statement of Financial Accounting Standards ("SFAS") No. 114,
"Accounting by Creditors for Impairment of a Loan", as amended by SFAS No. 118,
the entire change in the present value of expected cash flows is reported as
either provision for loan losses in the same manner in which impairment
initially was recognized, or as a reduction in the amount of provision for loan
losses that otherwise would be reported.
Allowance for Loan Losses
The allowance for possible loan losses is increased by charges to income and
decreased by charge-offs (net of recoveries). Quarterly detailed reviews are
performed to identify the risks inherent in the loan portfolio, assess the
overall quality of the loan portfolio and to determine the adequacy of the
allowance for loan losses and the related provision for loan losses to be
charged to expense. Loans identified as less than "acceptable" are reviewed
individually to estimate the amount of probable losses that need to be included
in the allowance. These reviews include analysis of financial information as
well as evaluation of collateral securing the credit. Additionally, management
considers the inherent risk present in the "acceptable" portion of the loan
portfolio taking into consideration historical losses on pools of similar loans,
adjusted for trends, conditions and other relevant factors that may affect
repayment of the loans in these pools.
53
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICES - Continued
Other Real Estate Owned
Real estate properties acquired through or in lieu of, loan foreclosure are
initially recorded at fair value at the date of foreclosure establishing a new
cost basis. After foreclosure, management periodically performs valuations and
the real estate is carried at the lower of cost, or fair value minus estimated
costs to sell. Revenue and expenses from operations and changes in the valuation
allowance are included in other expenses.
Goodwill
Goodwill represents the excess of the purchase price over the estimated fair
value of net assets associated with acquisition transactions of the Company
accounted for as purchases and is amortized over fifteen years. Goodwill is
evaluated periodically for other than temporary impairment. Should such an
assessment indicate that the undiscounted value of an intangible may be
impaired, the net book value of the intangible would be written down to net
estimated recoverable value.
Premises and Equipment
Bank premises, furniture and equipment, and leasehold improvements are carried
at cost, less accumulated depreciation and amortization. Depreciation and
amortization is computed on the straight-line method over the estimated useful
lives of the assets or life of the lease if shorter for leasehold improvements.
Lives used for this purpose are as follows:
Leasehold Improvements 5-15 Years
Furniture, Fixtures and Equipment 3-10 Years
Income Taxes
Deferred tax assets and liabilities are reflected at currently enacted income
tax rates applicable to the period in which the deferred tax assets or
liabilities are expected to be realized or settled. As changes in tax laws or
rates are enacted, deferred tax assets and liabilities are adjusted through the
provision for income taxes.
Financial Instruments
In the ordinary course of business, the Bank has entered into off-balance sheet
financial instruments consisting of commitments to extend credit. Such financial
instruments are recorded in the financial statements when they are funded or
related fees are incurred or received.
54
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICES - Continued
Earnings Per Shares (EPS)
Basic EPS excludes dilution and is computed by dividing income available to
common stockholders by the weighted-average number of common shares outstanding
for the period. Diluted EPS reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock or resulted in the issuance of common stock that then shared
in the earnings of the Company.
Stock-Based Compensation
SFAS No. 123, "Accounting for Stock-Based Compensation", encourages, but does
not require, companies to record compensation cost for stock-based employee
compensation plans at fair value. The Company has chosen to continue to account
for stock-based compensation using the intrinsic value method prescribed in
Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued
to Employees", and related Interpretations. Accordingly, compensation cost for
stock options is measured as the excess, if any, of the quoted market price of
the Company's stock at the date of the grant over the amount an employee must
pay to acquire the stock. The pro forma effects of adoption are disclosed in
Note K.
Disclosure About Fair Value of Financial Instruments
SFAS No. 107 specifies the disclosure of the estimated fair value of financial
instruments. The Bank's estimated fair value amounts have been determined by the
Bank using available market information and appropriate valuation methodologies.
However, considerable judgment is required to develop the estimates of fair
value. Accordingly, the estimates are not necessarily indicative of the amounts
the Company could have realized in a current market exchange. The use of
different market assumptions and/or estimation methodologies may have a material
effect on the estimated fair value amounts.
Although management is not aware of any factors that would significantly affect
the estimated fair value amounts, such amounts have not been comprehensively
revalued for purposes of these financial statements since the balance sheet date
and, therefore, current estimates of fair value may differ significantly from
the amounts presented in the accompanying Notes.
Reclassifications
Certain reclassifications were made to prior year's presentation to conform to
the current year. These classifications are of a normal recurring nature.
55
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICES - Continued
Current Accounting Pronouncements
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities". This Statement establishes accounting and
reporting standards for derivative instruments and for hedging activities. This
new standard was originally effective for 2000. In June 1999, the FASB issued
SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities -
Deferral of the Effective Date of FASB Statement No. 133". This Statement
establishes the effective date of SFAS No. 133 for 2001 and is not expected to
have a material impact on the Company's financial statements.
NOTE B - INVESTMENT SECURITIES
Investment securities have been classified in the balance sheets according to
management's intent. The carrying amount of securities and their approximate
fair values at December 31 were as follows:
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
-------- -------- -------- --------
Available-for-Sale Securities:
December 31, 1999:
U.S. Treasury $ 1,972 $ -- $ (304) $ 1,668
U.S. Government Agencies 6,997 -- (283) 6,714
Trust Preferred Securities 1,412 29 -- 1,441
Corporate Notes 5,419 4 (118) 5,305
Mortgage-Backed Securities 24,760 -- (1,380) 23,380
-------- -------- -------- --------
$ 40,560 $ 33 $ (2,085) $ 38,508
======== ======== ======== ========
December 31, 1998:
U.S. Treasury $ 533 $ -- $ (7) $ 526
Trust Preferred Securities 1,410 32 -- 1,442
Corporate Notes 2,020 7 (23) 2,004
Mortgage-Backed Securities 10,092 9 (70) 10,031
-------- -------- -------- --------
$ 14,055 $ 48 $ (100) $ 14,003
======== ======== ======== ========
Investment securities carried at $28,428 and $10,557 on December 31, 1999 and
1998, respectively, were pledged to secure short-term borrowings.
56
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE B - INVESTMENT SECURITIES - Continued
The amortized cost and estimated fair value of all debt securities as of
December 31, 1999 by contractual maturity are shown below. Expected maturities
will differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.
Amortized Fair
Cost Value
------- -------
Due in One Year or Less $ 1,998 $ 1,928
Due from One Year to Five Years 12,809 12,162
Over Five Years to Ten Years 9,242 8,844
After Ten Years 16,511 15,574
------- -------
$40,560 $38,508
======= =======
NOTE C - LOANS
The Bank's loan portfolio consists primarily of loans to borrowers within Los
Angeles County. The Bank has also purchased loans outstanding of $14,383, at
December 31, 1999, secured by residential properties in Arizona, Maine and Iowa.
Although the Bank seeks to avoid concentrations of loans to a single industry or
based upon a single class of collateral, real estate and real estate associated
businesses are among the principal industries in the Bank's market area and, as
a result, the Bank's loan and collateral portfolios are, to some degree,
concentrated in those industries.
A summary of the changes in the allowance for loan losses as of December 31
follows:
1999 1998
------- -------
Balance at Beginning of Year $ 549 $ 615
Additions to the Allowance Charged to Expense 147 10
Recoveries on Loans Charged Off 57 82
Allowance on Loans Purchased from American Independent Bank 402 --
------- -------
1,155 707
Less Loans Charged Off (284) (158)
------- -------
$ 871 $ 549
======= =======
57
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE C - LOANS - Continued
The following is a summary of the investment in impaired loans, the related
allowance for loan losses, and income recognized thereon as of December 31:
1999 1998
------ ------
Recorded Investment in Impaired Loans $ 882 $1,725
====== ======
Related Allowance for Loan Losses $ 22 $ 54
====== ======
Average Recorded Investment in Impaired Loans $1,155 $1,346
====== ======
Interest Income Recognized for Cash Payments $ 52 $ 68
====== ======
Loans having carrying values of $109 and $165 were transferred to other real
estate owned in 1999 and 1998.
In the ordinary course of business, the Bank has granted loans to certain
executive officers, directors and employees with which they are associated. In
the Bank's opinion, all loans and loan commitments to such parties are made on
substantially the same terms, including interest rate and collateral, as those
prevailing at the time for comparable transactions with other persons.
The following is a summary of the activity in these loans:
1999 1998
----- -----
Balance at Beginning of Year $ 3 $ 150
Principal Repayments (3) (147)
Advances -- --
----- -----
Balance at End of Year $ -- $ 3
===== =====
58
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE D - PREMISES AND EQUIPMENT
A summary of premises and equipment as of December 31 follows:
1999 1998
------- -------
Leasehold Improvements $ 841 $ 775
Furniture, Fixtures, and Equipment 1,668 1,100
------- -------
2,509 1,875
Less Accumulated Depreciation and Amortization (1,902) (1,489)
------- -------
$ 607 $ 386
======= =======
The Bank leases its branch facilities under operating leases that expire at
various dates through 2007.
At December 31, 1999, approximate future minimum annual rental payments under
noncancellable operating lease agreements are as follows:
<TABLE>
<CAPTION>
El Marina
Segundo del Rey Gardena Burbank Total
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
2000 $ 98 $ 70 $ 119 $ 110 $ 397
2001 98 -- 119 110 327
2002 98 -- 119 110 327
2003 41 -- 119 110 270
2004 -- -- -- 110 110
Thereafter -- -- -- 320 320
----------- ----------- ----------- ----------- -----------
Total Minimum Payments Required $ 335 $ 70 $ 476 $ 870 $1,751
=========== =========== =========== =========== ===========
</TABLE>
Total rent expense included in the statements of operations is approximately
$347 for 1999 and $183 for 1998.
59
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE E - DEPOSITS
At December 31, 1999, the scheduled maturities of time deposits are as follows:
Within One Year $ 32,453
One to Five Years 1,338
--------------
$ 33,791
==============
NOTE F - SHORT-TERM BORROWINGS
Short-term borrowings at December 31, 1999 are comprised of the following
advances from the Federal Home Loan Bank:
Maturity Interest
Date Rate Amount
-------- ---- ---------------
1/5/00 5.70% $ 3,000
1/10/00 5.93% 16,000
1/31/00 5.91% 6,000
---------------
$ 25,000
===============
These advances are secured by investment securities as discussed in Note B.
NOTE G - LONG-TERM DEBT
On June 25, 1998 the Company borrowed $1,000 from a correspondent bank, through
the issuance of a promissory note that matures on July 15, 2005. This loan was
refinanced in 1999 with another correspondent bank and requires monthly payments
of interest between prime plus 1.25% and prime plus 2.0% , depending on the
deposit balance maintained by the Bank at the correspondent bank, and principal
payments of $87, $109, $130 and $609 in 2000, 2001, 2002, and 2003,
respectively. This loan is secured by the common stock of the Bank, which is
wholly owned by the Company.
60
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE H - MANDATORILY REDEEMABLE PREFERRED SECURITIES OF SUBSIDIARIES
On March 3, 1999, the Trust issued $6,600 of 11.875% Cumulative Trust Preferred
Securities. The Trust invested the gross proceeds from the offering in the
junior subordinated debentures issued by the Company concurrently with the
issuance of the Trust Preferred Securities. The Company will pay the interest on
the junior subordinated debentures to the Trust, which represents the sole
revenues and the sole source of dividend distributions by the Trust to the
holders of the Trust Preferred Securities. The Company has guaranteed, on a
subordinated basis, payment of the Trust's obligations. The Company has the
right, assuming no default has occurred, to defer payments of interest on the
junior subordinated debentures at any time for a period not to exceed 20
consecutive quarters. The Trust Preferred Securities will mature on December 31,
2028, but can be redeemed at premiums of 108%, 105% and 102% through December
31, 2002, 2003 and 2004, respectively. After December 31, 2004, the Trust
Preferred Securities can be redeemed at par value.
In connection with the offering of the Trust Preferred Securities by the Trust
and the subordinated debentures by the Company, the Company incurred
underwriting fees, professional fees and other costs of $1,020. These cost are
included in other assets and amortized over the contractual term of the Trust
Preferred Securities, thirty years.
Distributions to holders of the Preferred Securities are recognized through
income statement as interest expense. Total distribution made was $651 for the
year ended December 31, 1999.
NOTE I - INCOME TAXES
The provisions for income taxes included in the consolidated statements of
operations consist of the following:
1999 1998
----- -----
Current:
Federal $ -- $ 36
State 2 12
----- -----
2 48
Deferred (1) 236
----- -----
$ 1 $ 284
===== =====
61
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE I - INCOME TAXES - Continued
A comparison of the federal statutory income tax rates to the Company's
effective income tax rates follow:
1999 1998
------- -------
Deferred Tax Assets:
Allowance for Loan Losses Due to Tax Limitations $ 210 $ 75
Net Loss Carryforwards 568 363
Unrealized Loss on Investment Securities 842 21
Other Assets 316 11
------- -------
1,936 470
Deferred Tax Liabilities:
Cash Basis Reporting for Tax Purposes -- (85)
Premises and Equipment Due to Depreciation Difference (28) (8)
------- -------
(28) (93)
------- -------
Net Deferred Taxes $ 1,908 $ 377
======= =======
Temporary differences between the financial statement carrying amounts and tax
bases of assets and liabilities that give rise to significant portions of the
potential deferred tax asset at December 31 relate to the following:
1999 1998
--------------- -------------
Amount Rate Amount Rate
------ ---- ------ ----
Federal Tax Rate $(133) (34.0)% $ 185 34.0%
California Franchise Taxes,
Net of Federal Tax Benefit 1 0.2 50 9.2
Nondeductible Goodwill Amortization 119 30.5 45 8.3
Other Items - Net 14 3.1 4 0.8
----- ---- ----- ----
Company's Effective Rate $ 1 (0.2)% $ 284 52.3%
===== ==== ===== ====
The Company adjusted the valuation allowance for $56 in 1998 for items related
to Marina Bank (credited to Goodwill) and $141 in 1998 items related to the
Company generated prior to the Quasi-Reorganization (credited to Common Stock).
The Bank has net operating loss carryforwards of approximately $1,589 and $384
for federal income and state franchise tax purposes, respectively. Net operating
loss carryforwards, to the extent not used, will expire in varying amounts
through 2012. Due to ownership changes that have occurred at the Bank, the net
loss carryforwards reported, and the related deferred tax assets, have been
reduced to those allowable under Internal Revenue Code Section 382.
62
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE J - COMMITMENTS AND CONTINGENCIES
In the normal course of business, the Bank enters into financial commitments to
meet the financing needs of its customers. These financial commitments include
commitments to extend credit. Those instruments involve to varying degrees,
elements of credit and interest rate risk not recognized in the statement of
financial position.
The Bank's exposure to credit loss in the event of nonperformance on commitments
to extend credit is represented by the contractual amount of those instruments.
The Bank uses the same credit policies in making commitments as it does for
loans reflected in the financial statements.
As of December 31, 1999, the Bank had commitments to extend credit of $7,966
whose contractual amount represents credit risk.
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Since many
of the commitments are expected to expire without being drawn upon, the total
amounts do not necessarily represent future cash requirements. The Bank
evaluates each customer's credit worthiness on a case-by-case basis. The amount
of collateral obtained if deemed necessary by the Bank is based on management's
credit evaluation of the customer.
The Bank is involved in various litigation, which has arisen in the ordinary
course of its business. In the opinion of management, the disposition of such
pending litigation will not have a material effect on the Bank's financial
statements.
NOTE K - STOCK OPTION PLAN
The Company applies APB Opinion No. 25 and related Interpretations in accounting
for its stock option plan. Accordingly, no compensation cost has been recognized
for its stock option plan. Had compensation costs for this plan been determined
based on the fair value at the grant dates consistent with the method of SFAS
No. 123, the impact would not have materially affected net income.
The Company has a stock option plan under which 185,000 of its common shares may
be issued to directors, officers and key employees at not less than 100% of fair
market value at the date the options are granted.
The fair value of each option granted was estimated on the date of grant using
the Black-Scholes option pricing model with the following assumptions; risk-free
rates of 5.0% in 1999 and 4.5% in 1998, disregarding any volatility and expected
lives of five years in each year. The weighted-average fair value of options
granted during 1999 was $1.41 and $1.23 for 1998.
63
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands, Except Per Share Data)
NOTE K - STOCK OPTION PLAN - Continued
A summary of the status of the Bank's fixed stock option plan, as of December
31, 1999 and 1998:
<TABLE>
<CAPTION>
1999 1998
-------------------------------- -------------------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
Outstanding at Beginning of Year 60,000 $ 6.21 5,000 $ 5.75
Granted 68,000 $ 6.50 55,000 $ 6.25
Exercised -- --
Forfeited (28,000) $ 6.32 --
------------ ------------
Outstanding at End of Year 100,000 $ 6.38 60,000 $ 6.21
============ ============
</TABLE>
The following table summarizes information about fixed options outstanding at
December 31, 1999:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------------------------------------------------ ----------------------------------
Weighted- Weighted- Weighted-
Average Average Average
Exercise Number Remaining Exercise Number Exercise
Price Outstanding Contractual Life Price Exercisable Price
- --------------- -------------- -------------------- ------------- --------------- -------------
<S> <C> <C> <C> <C> <C>
$ 6.25 50,000 8.1 years $ 6.25 20,000 $ 6.25
$ 6.50 50,000 9.1 years $ 6.50 10,000 $ 6.50
-------------- ---------------
$ 6.38 100,000 8.6 years $ 6.38 30,000 $ 6.38
============== ===============
</TABLE>
Had the Bank determined compensation cost based on the fair value at the grant
date for its stock options under SFAS No. 123, the Bank's net income would have
been reduced to the following pro forma amount:
1999 1998
-------- --------
Net (Loss) Income:
As Reported $ (391) $ 259
Pro Forma $ (417) $ 244
Per Share Data:
Net (Loss) Income - Basic
As Reported $ (0.60) $ (0.04)
Pro Forma $ (0.62) $ (0.06)
64
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE L - EARNINGS PER SHARE
The following is a reconciliation of net (loss) income and shares outstanding to
the (loss) income and the weighted-average number of shares used to compute EPS:
<TABLE>
<CAPTION>
1999 1998
-------------------------- --------------------------
Income Shares Income Shares
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net (Loss) Income as Reported $ (391) $ 259
Shares Outstanding at Year End 1,232,428 714,551
Impact of Weighting Shares
Issued and/or Retired During the Year (91,214) (44,722)
Dividends and Redemption Premium
on Preferred Stock (290) (286)
----------- ----------- ----------- -----------
Used in Basic EPS $ (681) 1,141,214 $ (27) 669,829
=========== =========== =========== ===========
</TABLE>
The effect of outstanding options and conversion features of the preferred stock
were not included, as their effect would be antidilutive due to the loss used
for basic EPS.
NOTE M - QUASI-REORGANIZATION AND HOLDING COMPANY FORMATION
With the consent of the Office of the Comptroller of the Currency (the "OCC")
and the Company's shareholders, the Company adjusted its capital accounts
through a quasi-reorganization. As of July 1, 1997, the Company eliminated its
accumulated deficit and unrecognized loss on available for sale securities
through a reduction of its capital account by the same amount.
On June 24, 1997, the shareholders of First Coastal Bank, N.A. exchanged their
outstanding common and preferred stock for preferred stock and common stock of
First Coastal Bancshares, a newly formed bank holding company. There was no
change in ownership and no cash involved in this transaction.
NOTE N - PREFERRED STOCK
During 1997, the Company issued 430,000 shares of Series A 10% Cumulative
Convertible Preferred Stock. The Preferred Stock is perpetual in duration and is
senior to the Common Stock with respect to dividends and upon liquidation,
dissolution or winding-up. The liquidation preference is $6.75 per share, plus
any dividends accrued and unpaid.
Holders of Preferred Stock have the right, at their option, to convert their
shares of Preferred Stock into shares of Common Stock at an exchange ratio of
one share of Common Stock per share of Preferred Stock. The Preferred Stock may
be redeemed by the Company at a per share price of $6.89 until July 14, 2000,
$6.82 until July 14, 2001 and $6.75 thereafter.
65
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE O - REVERSE STOCK SPLIT
The Company's shareholders approved a one-for-five reverse split of its common
stock effective November 24, 1998. All per share data in these financial
statements and notes has been adjusted for this split.
NOTE P - CONDENSED FINANCIAL INFORMATION OF PARENT COMPANY ONLY
First Coastal Bancshares operates First Coastal Bank, N.A. and First Coastal
Capital Trust. The earnings of the subsidiaries are recognized on the equity
method of accounting. Condensed financial statements of the parent company only
are presented below:
CONDENSED BALANCE SHEETS
December 31,
-------------------
1999 1998
------- -------
ASSETS:
Cash $ 714 $ 57
Investment in Subsidiaries 11,481 6,183
Loans 1,125 1,000
Other Assets 1,048 91
------- -------
TOTAL ASSETS $14,368 $ 7,331
======= =======
LIABILITIES:
Long-Term Debt $ 935 $ 1,000
Subordinated Debt - Trust Preferred Securities 6,804 --
Other Liabilities 40 71
------- -------
TOTAL LIABILITIES 7,779 1,071
SHAREHOLDERS' EQUITY 6,589 6,260
------- -------
$14,368 $ 7,331
======= =======
66
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE P - CONDENSED FINANCIAL INFORMATION OF PARENT COMPANY ONLY - Continued
CONDENSED STATEMENTS OF INCOME
Year Ended
December 31,
--------------
1999 1998
----- -----
INCOME:
Dividends from Subsidiary $ 20 $ 274
Other 25 --
----- -----
TOTAL INCOME 45 274
EXPENSES:
Interest 671 --
Other 76 24
----- -----
TOTAL EXPENSES 747 24
----- -----
(LOSS) INCOME BEFORE INCOME TAX BENEFIT AND
EQUITY IN UNDISTRIBUTED INCOME OF SUBSIDIARY (702) 250
INCOME TAX BENEFIT 288 --
EQUITY IN UNDISTRIBUTED INCOME OF SUBSIDIARY 23 9
----- -----
NET (LOSS) INCOME $(391) $ 259
===== =====
67
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE P - CONDENSED FINANCIAL INFORMATION OF PARENT COMPANY ONLY - Continued
CONDENSED STATEMENTS OF CASH FLOWS
Year Ended
December 31,
------------------
1999 1998
------- -------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (Loss) Income $ (391) $ 259
Noncash Items Included in Net (Loss) Income:
Equity in Income of Subsidiary (43) (283)
Change in Other Assets and Liabilities (988) 8
------- -------
NET CASH USED BY
OPERATING ACTIVITIES (1,422) (16)
CASH FLOWS FROM INVESTING ACTIVITY:
Net Increase in Loans (125) (1,000)
Capital Infusion in Subsidiary Bank (6,250) --
Capital Infusion in Subsidiary Trust (204) --
Dividends and Capital Infusion Received from Subsidiary -- 274
------- -------
NET CASH USED BY
INVESTING ACTIVITIES (6,579) (726)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net Increase in Long-Term Debt 6,739 1,000
Net Proceeds from Stock Offering 1,901 --
Exercise of Warrants and Options 990 --
Repurchase of Preferred and Common Stock (759) (78)
Dividends Paid (233) (286)
------- -------
NET CASH PROVIDED
BY FINANCING ACTIVITIES 8,638 636
------- -------
NET INCREASE (DECREASE) IN
CASH AND CASH EQUIVALENTS 637 (106)
CASH AND CASH EQUIVALENTS,
AT BEGINNING OF YEAR 57 163
------- -------
CASH AND CASH EQUIVALENTS
AT ENDING OF YEAR $ 694 $ 57
======= =======
68
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
NOTE Q - FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair value of a financial instrument is the amount at which the asset or
obligation could be exchanged in a current transaction between willing parties,
other than in a forced or liquidation sale. Fair value estimates are made at a
specific point in time based on relevant market information and information
about the financial instrument. These estimates do not reflect any premium or
discount that could result from offering for sale at one time the entire
holdings of a particular financial instrument. Because no market value exists
for a significant portion of the financial instruments, fair value estimates are
based on judgments regarding future expected loss experience, current economic
conditions, risk characteristics of various financial instruments, and other
factors. These estimates are subjective in nature, involve uncertainties and
matters of judgment and, therefore, cannot be determined with precision. Changes
in assumptions could significantly affect the estimates.
Fair value estimates are based on financial instruments both on and off the
balance sheet without attempting to estimate the value of anticipated future
business and the value of assets and liabilities that are not considered
financial instruments. Additionally, tax consequences related to the realization
of the unrealized gains and losses can have a potential effect on fair value
estimates and have not been considered in many of the estimates.
The following methods and assumptions were used to estimate the fair value of
significant financial instruments:
Financial Assets
The carrying amounts of cash and due from banks and federal funds sold, are
considered to approximate fair value due to the short-term nature of these
financial instruments. The fair values of investment securities available for
sale are generally based on quoted market prices. The fair value of loans are
estimated using a combination of techniques, including discounting estimated
future cash flows and quoted market prices of similar instruments where
available.
Financial Liabilities
The carrying amounts of deposit liabilities payable on demand and other borrowed
funds are considered to approximate fair value due to the short-term nature of
these financial instruments. For fixed maturity deposits, fair value is
estimated by discounting estimated future cash flows using rates currently
offered for deposits of similar remaining maturities. The carrying amount of
long-term debt with variable interest rates is considered to approximate fair
value due to the repricing components of the variable rate feature.
Off-Balance Sheet Financial Instruments
The fair value of commitments to extend credit is estimated using the fees
currently charged to enter into similar agreements. The fair value of these
financial instruments is not material.
69
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE Q - FAIR VALUE OF FINANCIAL INSTRUMENTS - Continued
The estimated fair value of financial instruments at December 31 are summarized
as follows:
1999 1998
------------------ ------------------
Carrying Fair Carrying Fair
Value Value Value Value
------- ------- ------- -------
Financial Assets:
Cash and Due From Banks $ 5,398 $ 5,398 $ 2,745 $ 2,745
Federal Funds Sold $ 1,800 $ 1,800 $ 700 $ 700
Investment Securities $38,508 $38,508 $14,003 $14,003
FRB and FHLB Stock $ 1,597 $ 1,597 $ 676 $ 676
Loans $72,449 $70,929 $54,614 $55,382
Financial Liabilities:
Deposits $89,620 $89,614 $58,591 $58,591
Other Borrowings $32,535 $32,535 $11,000 $11,000
NOTE R - REGULATORY MATTERS
The Company and the Bank are subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory - and possibly additional
discretionary - actions by regulators that, if undertaken, could have a direct
material effect on the Company's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the
Company and the Bank must meet specific capital guidelines that involve
quantitative measures of the Company's assets, liabilities, and certain
off-balance-sheet items as calculated under regulatory accounting practices. The
capital amounts and classification are also subject to qualitative judgments by
the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and the Bank to maintain minimum amounts and ratios (set
forth in the table below) of total and Tier 1 capital (as defined in the
regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as
defined) to average assets (as defined). Management believes, as of December 31,
1999, that the Company and the Bank meet all capital adequacy requirements to
which it is subject.
70
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE R - REGULATORY MATTERS - Continued
As of December 31, 1999, the most recent notification from the Office of the
Comptroller of the Currency categorized the Bank as well-capitalized under the
regulatory framework for prompt corrective action (there are no conditions or
events since that notification that management believes have changed the Bank's
category). To be categorized as well-capitalized, the Bank must maintain minimum
ratios as set forth in the table below. The following table also sets forth the
Bank's actual capital amounts and ratios:
<TABLE>
<CAPTION>
Amount of Capital Required
--------------------------------------------
To Be Adequately To Be Well-
Actual Capitalized Capitalized
--------------------- --------------------- ---------------------
Amount Ratio Amount Ratio Amount Ratio
---------- --------- --------- --------- ---------- ---------
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1999:
Total Capital (to Risk-Weighted Assets) $ 8,661 10.6% $ 6,522 8.0% $ 8,153 10.0%
Tier 1 Capital (to Risk-Weighted Assets) $ 6,990 8.6% $ 3,261 4.0% $ 4,892 6.0%
Tier 1 Capital (to Average Assets) $ 6,990 5.8% $ 4,819 4.0% $ 6,023 5.0%
As of December 31, 1998:
Total Capital (to Risk-Weighted Assets) $ 5,736 11.2% $ 4,106 8.0% $ 5,133 10.0%
Tier 1 Capital (to Risk-Weighted Assets) $ 4,247 8.3% $ 2,053 4.0% $ 3,080 6.0%
Tier 1 Capital (to Average Assets) $ 4,247 5.4% $ 3,131 4.0% $ 3,914 5.0%
</TABLE>
The Company is subject to similar requirements administered by its primary
regulator, the Federal Reserve Board. For capital adequacy purposes, the Company
must maintain total capital to risk-weighted assets and Tier 1 capital to
risk-weighted assets of 8.0% and 4.0%, respectively. It's total capital to
risk-weighted assets and Tier 1 capital to risk-weighted assets was 12.0% and
5.3%, respectively, at December 31, 1999 and 9.8% and 5.9%, respectively, at
December 31, 1998.
The Bank is restricted as to the amount of dividends that can be paid. Dividends
declared by national banks that exceed the net income (as defined) for the
current year plus retained net income for the preceding two years must be
approved by the OCC. The Bank may not pay dividends that would result in its
capital levels being reduced below the minimum requirements shown above.
71
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands)
NOTE S - RELATED PARTY TRANSACTIONS
The Company's largest shareholder is California Community LLC that owns
approximately 56% of the outstanding common stock at December 31, 1999. The
President and Chief Executive Officer of the Company is also the Chief Executive
Officer and Manager of California Community LLC. Several of the Company's other
Directors also have ownership interests in California Community LLC.
The Bank has engaged DataTech Management, Inc. to provide loan servicing and
computer hardware and software maintenance services. During 1999 and 1998, the
Bank paid $214 and $137, respectively, for such services. On December 27 1999,
the Company advanced DataTech Management $125,000 under a promissory note that
includes interest at the prime rate plus 1.25%, and is all due and payable in
180 days. Two of the Company's executive officers and directors own DataTech
Management, Inc.
One of the Company's directors owns a 25% interest in the lessor of the
headquarters and main branch of the Bank. Additionally, another director owns
the building of the Gardena branch. See Note D for additional information on the
commitments and payments due pursuant to these leases.
NOTE T - MERGER ACTIVITY
On June 26, 1997, the Company acquired 100% of the outstanding common stock of
Marina Bank (MB) for approximately $4,126 in cash (including transaction costs).
MB had total assets of approximately $20,864. The acquisition was accounted for
using the purchase method of accounting in accordance with APB Opinion No. 16.
"Business Combinations." Under this method of accounting, the purchase price was
allocated to the assets acquired and deposits and liabilities assumed based on
their fair values as of the acquisition date, which were not materially
different from their book values. Goodwill arising from the transaction totaled
approximately $2,083 and is being amortized over fifteen years on a
straight-line basis.
On March 8, 1999, the Bank acquired 100% of the outstanding common stock of
American Independent Bank, N.A. (AIB) for approximately $6,500 in cash. AIB had
total assets of approximately $38,000. This acquisition was also accounted for
using the purchase method of accounting in accordance with APB Opinion No. 16.
"Business Combinations". The financial statements include the operations of AIB
from the date of the acquisition. Goodwill arising from the transaction is
approximately $3,997 and is being amortized over fifteen years on a
straight-line basis.
72
<PAGE>
FIRST COASTAL BANCSHARES AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
(Dollar Amounts in Thousands, Except Per Share Data)
NOTE T - MERGER ACTIVITY - Continued
The following table sets forth selected unaudited pro forma combined financial
information of the Bank and AIB for the years ended December 31, 1999 and 1998.
The pro forma operating data reflects the effect of the acquisition of AIB as if
it was consummated at the beginning of each year presented. The pro forma
results are not necessarily indicative of the results that would have occurred
had the acquisition been in effect for the full years presented, nor are they
necessarily indicative of the results of future operations.
1999 1998
------- -------
Interest and Noninterest Income:
The Company $ 9,042 $ 5,931
AIB before the Merger 637 3,642
------- -------
$ 9,679 $ 9,573
======= =======
Net (Loss) Income:
The Company $ (349) $ 259
AIB before the Merger (505) 121
Interest Costs - Pro Forma, net of Tax (77) (464)
Goodwill Amortization - Pro Forma (42) (255)
------- -------
$ (973) $ (339)
======= =======
Net Loss per Share - Basic $ (1.11) $ (0.55)
These pro forma disclosures include only adjustment to interest expense from the
funds borrowed to fund a portion of the purchase, amortization of the goodwill
recorded in the acquisition and adjustments to the per share data to reflect the
issuance of common stock to fund the balance of the purchase. No adjustments
have been reflected in these amounts for the anticipated cost savings to be
derived from this merger.
NOTE S - WARRANTS
In connection with the supplemental stock offering in 1999, the Company issued
warrants as additional consideration to the investment banking firms who
underwrote the offering. These warrants allow for the purchase of 15,000 shares
of common stock of the Company at a purchase price of $9.00 per share. All
unexercised warrants expire on March 3, 2004. No value was assigned to these
warrants, as their exercise price was substantially in excess of the price per
share of common stock in the 1999 supplemental offering.
73
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS
The following is a list of the directors of First Coastal Bancshares and the
executive officers and significant employees of First Coastal Bancshares and the
Bank. The year first elected or appointed indicates the year such person was
elected or appointed as director of First Coastal Bancshares or, if earlier, the
Bank.
<TABLE>
<CAPTION>
Year First
Elected or
Name Age Title Appointed
- ---- --- ----- ----------
<S> <C> <C> <C>
Don M. Griffith ......56 Chairman, President and Chief Executive 1996
Officer of First Coastal Bancshares and the Bank
Deborah A. Marsten....46 Vice-Chair, Secretary and Chief Financial 1996
Officer of First Coastal Bancshares; Vice-Chair
and Chief Operating Officer of the Bank
Paul M. Deters........59 Director of First Coastal Bancshares and the Bank 1983
Clifford J. Einstein..60 Director of First Coastal Bancshares 1983/1992
Charles R. Fullerton..57 Director of First Coastal Bancshares and the Bank 1996
Carole J. LaCaze......56 Director of First Coastal Bancshares and the Bank 1996
Thomas D. Spears......65 Director of First Coastal Bancshares and the Bank 1983
Joseph H. Wender......55 Director of First Coastal Bancshares 1997
Gordon Fong...........32 Senior Vice President and Chief Financial N/A
Officer of the Bank
C. Edward Myska.......54 Senior Vice President of the Bank N/A
</TABLE>
Don M. Griffith is Chairman, President and Chief Executive Officer of First
Coastal Bancshares and the Bank. Mr. Griffith is also Chief Executive Officer
and Manager of California Community LLC, which bought a majority interest in the
Bank in August, 1996. Mr. Griffith is also the Chairman of DataTech Management,
Inc. and the founder of D.M. Griffith & Co., Inc., an investment firm started
with the financial backing of Kohlberg, Kravis, Roberts & Co. in 1989 to invest
in banks and thrifts. Mr. Griffith was Chairman and Founder of Peninsula
National Bank from 1993 until the sale of his interest in Peninsula in 1995. Mr.
Griffith was previously a director of Palos Verdes National Bank, the
predecessor to Peninsula, which failed in 1993. Mr. Griffith's previous banking
experience also includes work at First Interstate Bancorp from 1979 to 1989,
where he was Executive Vice President and Chief Financial Officer, and Bank of
America from 1974 to 1979, where he was in charge of the energy lending unit in
Los Angeles. A Los Angeles native, Mr. Griffith earned an MBA from the Harvard
Graduate School of Business Administration, a MA in Political Science from the
University of California, Berkeley and a BA in Political Science from Stanford.
Deborah A. Marsten is Vice-Chair, Secretary and Chief Financial Officer of First
Coastal Bancshares and Vice-Chair and Chief Operating Officer of the Bank. Ms.
Marsten has over 28 years of experience in banking and related businesses. Ms.
Marsten is also a Manager of California Community LLC and the President and
Chief Executive Officer of DataTech Management, Inc. From 1993 to 1996,
Ms. Marsten was a consultant specializing in bank operations. She was formerly
both the Senior Vice President and Chief Financial Offier of Western United
National Bank from 1988 to 1993 and Brentwood Square Savings and Loan
Association from 1985 to 1988, and Vice President and Cashier of both Mercantile
National Bank and First Beverly Bank.
<PAGE>
Paul M. Deters, Director of First Coastal Bancshares and the Bank, is the
Chairman of the Board of Bussco, Inc. in Torrance, which manufactures electronic
components for the aerospace and computer industries. He is also Chairman and
CEO of PDP International, a manufacturer of electrical products used in the
telecommunications industry. Mr. Deters served as the founding Chairman of the
Bank for ten years.
Clifford J. Einstein, Director of First Coastal Bancshares, is the Chairman,
CEO, Managing Partner, and Creative Director of Dailey & Associates, a division
of Interpublic Group of Companies, one of the world's largest advertising
companies. He has held these positions since 1994. Mr. Einstein is on the
Advisory Board of the Rape Treatment Center of Santa Monica. He is a member of
the Screen Actors Guild, the Directors Guild of America and of ASCAP, and is a
trustee of the Museum of Contemporary Art.
Charles R. Fullerton, Director of First Coastal Bancshares and the Bank, is
Co-owner and Chief Financial Officer of Parsec Automation Corp., a software and
engineering service company located in Brea, California. In addition, he is the
owner of Fullerton & Co., a financial advisory firm in Long Beach, California,
which places debt and equity for small and medium sized companies. From 1986 to
1990, Mr. Fullerton was Managing Director of First Interstate Venture Capital
Corporation, a capital fund that invested in small businesses. He earned his BA
in economics from Stanford University and his MBA from the University of
Southern California.
Carole J. LaCaze, Director of First Coastal Bancshares and the Bank, is a
Partner of LaCaze Development Company, where she and her husband develop, hold
and manage over two million square feet of retail space in California and
Nevada. Mrs. LaCaze graduated with a BA from UCLA and completed graduate studies
in education at USC. She also serves on the boards of the Little Company of Mary
Hospital Foundation and the Hospice Foundation.
Thomas D. Spears, Director of First Coastal Bancshares and the Bank, is the
President of Spears TV and Appliance, Inc. located in Gardens, California. Mr.
Spears was an original director of American Independent Bank.
Joseph H. Wender, Director of First Coastal, is a Limited Partner of Goldman,
Sachs & Co., a full-service investment banking and financial services firm, and
works in its Financial Institutions Group. Mr. Wender joined Goldman, Sachs &
Co. in 1971 and rose to the position of Vice-President of the Investment
Banking Division in 1975 and Partner in 1982. Mr. Wender is also a director of
ISIS Pharmaceuticals Inc. Mr. Wender is a graduate of Yale Law School and the
Harvard Graduate School of Business.
Gordon Fong is Senior Vice President and Chief Financial Officer of the Bank.
Prior to joining the Bank in September 1997, Mr. Fong was a Manager at Deloitte
& Touche, LLP where he specialized in the audits of community banks in the
Southern California area. Mr. Fong is a Certified Public Accountant and received
his BA from UCLA in Economics/Business.
C. Edwards Myska is Senior Vice President of Business Development/Marketing of
the Bank. Mr. Myska has over 25 years of experience in the banking industry.
From 1987 to 1997, Mr. Myska was employed by Marathon National Bank as Senior
Vice President of Business Development. From 1979 to 1987, Mr. Myska was Vice
President of Banking Operations with the First Federal Bank. Mr. Myska is a
graduate of California State University, Northridge where he received a BA
degree in Business Management and Sociology.
Administrators of the Trust
Gordon Fong and Deborah A. Marsten serve as administrators of the Trust. As the
holder of the common securities of the Trust, we have the right to appoint the
administrators. The rights and duties of the administrators are set forth in the
Trust Agreement, which is included as an exhibit by reference in Item 14, and
generally consist of administrative and ministerial duties associated with the
operation of the Trust. The administrators shall not be trustees or, to the
fullest extent permitted by law, fiduciaries with respect to the trust or the
holders of the preferred securities. The administrators will not receive any
additional compensation for serving as administrators.
Employment Agreements
We have also endtered into a three-year employment agreement with Mr. Myska
commencing on August 1, 1997. The agreement entitles Mr. Myska to annual
compensation of $80,000 and quarterly commissions based on a percentage of new
deposits Mr. Myska generates for us.
<PAGE>
ITEM 11. EXECUTIVE COMPENSATION
Our directors and officers receive no additional compensation for serving as
directors and officers of First Coastal Bancshares. The Bank pays all salary and
compensation. The following table sets forth the aggregate annual remuneration
of our three highest paid officers for the 1999 fiscal year, and for fiscal
years 1998 and 1997. No other officer had annual salary and bonuses totaling
more than $100,000,
<TABLE>
<CAPTION>
Name and Annual
Principal Position Fiscal Year Salary Bonus
------------------ ----------- ------ -----
<S> <C> <C> <C>
Don M. Griffith, Chairman and Chief 1999 $150,000 --
Executive Officer of the Bank 1998 $112,920 --
1997(1) $112,920 --
Deborah A. Marsten, Vice Chair and 1999(2) $150,000 --
Chief Operating Officer of the Bank 1998 $ 50,000 --
1997 $ 30,000 --
1999 $ 80,000 $ 75,882
C. Edwards Myska, Senior Vice President 1998 $ 80,000 $ 72,732
and Business Development Officer of the Bank 1997(3) $ 33,333 $ 4,450
</TABLE>
- --------------------
(1) Mr. Griffith's employment began on August 1, 1996.
(2) Ms. Marsten became the Chief Operating Officer of the Bank in 1999. Prior
to 1999, Ms. Marsten was compensated by the Bank for her services rendered
to the Bank as a director.
(3) Mr. Myska's employment began on August 1, 1997.
Director Compensation
The members of our board of directors do not receive any fees for being a
director or attending meetings.
Stock Option Plan
Our shareholders approved an employee stock option plan in 1996, which provides
for the issuance of up to 185,000 options to directors, officers and key
employees. The exercise price of options issued under our stock option plan must
be at least 100% of the fair market value of the common stock on the date the
options are granted. As of December 31, 1999, options to purchase 100,000 shares
of common stock were outstanding, of which 30,000 are currently exercisable.
Except for our employee stock option plan, we do not have any other long-term
incentive plan.
Options
Outstanding at Weighted Average Weighted Average
Name of Holder December 31, 1999 Exercise Price remaining contractual life
- -------------- ----------------- -------------- --------------------------
Don M. Griffith 50,000 6.38 8.6 years
Deborah A. Marsten 50,000 6.38 8.6 years
C. Edward Myska 0 N/A N/A
See Note K to the consolidated financial statements, including in ITEM 8, for
additional information on stock options.
<PAGE>
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth the shares of series A preferred stock and common
stock beneficially owned as of December 31, 1999 by each of our executive
officers, each of our directors, each person known to us to be the beneficial
owner of more than 5% of the outstanding series A preferred stock or common
stock, and all of our directors and executive officers as a group. Percentage
amounts for the common stock assume the exercise of all officers as a group.
Percentage amounts for the common stock assume the exercise of all stock options
and warrants exercisable by such person within 60 days, the conversion of
all shares of series A preferred stock held by said person, the distribution by
California Community LLC of its shares of our common stock to its members and no
exercise of options or warrants, and no conversion of series A preferred stock,
by any other person.
<TABLE>
<CAPTION>
series A preferred stock Common stock
-------------------------- -------------------------
Amount and Amount and
Nature of Nature of
Name and Address Beneficial Percent of Beneficial Percent of
of Beneficial Owner Ownership Class Ownership Class
- ------------------- --------- ----- --------- -----
<S> <C> <C> <C> <C>
Don M. Griffith(1)........... 3,940(2) *% 707,640(2) 56.5%
Paul M. Deters (1)........... 0 0 5,317 *
Clifford J. Einstein(1)...... 0 0 5,560 *
Charles R. Fullerton(1)...... 0 0 13,499(3) 1.1
Thomas D. Spears(1).......... 0 0 350(4) *
Carole J. LaCaze(1).......... 0 0 13,499(3) 1.1
Deborah A. Marsten(1)........ 0 0 28,699(5) 1.5
Joseph H. Wender(1).......... 4,741 1.1 79,935(6) 6.5
California Community LLC(7).. 0 0 688,700 55.9
355 South Grand Ave.,
Suite 4295
Los Angeles, CA 90071
Charles A. Davis(8).......... 13,333 3.1 75,029(9) 6.1
Stephen Friedman(8).......... 13,333 3.1 75,029(9) 6.1
John Markham Green(8)........ 13,333 3.1 75,029(9) 6.1
All directors and executive
officers as a group........ 8,681 2.1 730,981(10) 59.1
- ---------------------
* Less than 1%.
</TABLE>
(1) The address for each person is c/o First Coastal Bancshares, 275 Main
Street, El Segundo, California 90245.
(2) Mr. Griffith is the Chief Executive Officer of California Community LLC,
which holds 688,700 shares of common stock. Mr. Griffith beneficially owns
12.98% of California Community LLC's capital units. As the CEO of
California Community LLC, Mr. Griffith has the power to vote all of the
common stock held by California Community LLC and is therefore deemed to be
a beneficial owner of all such shares. Mr. Griffith also beneficially owns
15,000 shares of common stock pursuant to stock options exercisable within
60 days and 3,940 shares of series A preferred stock held by his wife.
<PAGE>
Mr. Griffith does not directly hold any shares of common stock. Mr.
Griffith disclaims ownership of all but 104,393 shares.
(3) These individuals do not directly hold any shares of common stock, but
instead each beneficially own 1.95% of the capital units of California
Community LLC, which represents approximately 13,499 shares of common
stock.
(4) Represents 350 units consisting of 350 shares of common stock and 350
shares of 11 7/8% cumulative preferred stock.
(5) Ms. Marsten beneficially owns 1.96% of the capital units of California
Community LLC, which represents approximately 13,499 shares of common
stock, and 200 shares of common stock directly. Ms. Marsten also
beneficially owns 15,000 shares of common stock pursuant to stock options
exercisable within 60 days.
(6) Mr. Wender beneficially owns 7.84% of the capital units of California
Community LLC, which represents approximately 53,994 shares of common
stock, 21,200 shares of common stock held directly and 4,741 shares of
series A preferred stock, which are convertible into 4,741 shares of common
stock.
(7) Controlled by Mr. Griffith and Ms. Marsten.
(8) The address for each is c/o California Community LLC, 355 South Grand Ave.,
Suite 4295, Los Angeles, CA 90071.
(9) Each of these individuals beneficially owns 5.88% of the capital units of
California Community LLC, which represents approximately 40,496 shares of
common stock, 21,200 shares of common stock held directly and 13,333 shares
of series A preferred stock, which are convertible into 13,333 shares of
common stock.
(10) Includes all shares beneficially owned by California Community LLC, all
shares directly owned, all shares obtainable upon conversion of shares of
series A preferred stock and all shares which may be purchased upon
exercise of stock options.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
California Community LLC
California Community LLC is a California limited liability company controlled by
Don M. Griffith and Deborah A. Marsten, who are directors and executive officers
of First Coastal Bancshares. No other investor in Calfornia Community LLC is
permitted to own more than 9.9% of the membership units of California Community
LLC. In August 1996, California Community LLC was approved by the Federal
Reserve to become a bank holding company and acquired a majority interest in the
Bank. At December 31, 1999, California Community LLC owns 688,700 shares of
First Coastal Bancshares common stock representing a majority ownership of 56%.
74
<PAGE>
PART IV
ITEM 14. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits
3.1 Articles of Incorporation of First Coastal Bancshares (A)
3.2 Bylaws of First Coastal Bancshares (A)
3.3 Form of Trust Agreement of First Coastal Capital Trust (A)
4.1 Form of Indenture relating to the Junior Subordinated Debentures (A)
4.2 Form of Specimen of Junior Subordinated Debenture (A)
10.1 Form of Agreement as to Expenses and Liabilities (A)
10.2 Form of Guarantee Agreement (A)
10.3 Stock Option Plan (A)
10.4 Employment Agreement of C. Edward Myska (A)
10.5 Credit Analysis Agreement with DataTech Management, Inc. (A)
10.6 Loan Documentation Agreement with DataTech Management, Inc. (A)
10.7 Loan Servicing Agreement with DataTech Management, Inc. (A)
10.8 Form of Conversion Agreement relating to conversion of Series A
Preferred Stock (A)
10.9 Subscription Agreement relating to California Community LLC's
exercise of its warrants (A)
10.11 Form of Underwriters' Warrant(A)
23.1 Consent of Vavrinek, Trine, Day & Co., LLP - see opinion included
in Item 8.
27 Financial Data Schedule
b) Reports on Form 8-K
None
- ----------
(A) Included on SB-2 filed on December 1, 1998 and amended on February 3, 1999
and February 12, 1999.
75
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
First Coastal Bancshares
Date: March 30, 2000 /s/ Don M. Griffith
Don M. Griffith ----------------------
Chief Executive Officer,
Chairman and Director
Date: March 30, 2000 /s/ Deborah A. Marsten
Deborah A. Marsten ----------------------
Chief Financial Officer,
Secretary and Director
In accordance with the Securities Exchange Act, this report has been signed by
the following persons on behalf of the registrant and in the capacities on the
dates indicated:
Signature Title Date
- --------- ----- ----
/s/ Paul S. Deters Director March 30, 2000
- ------------------------
Paul S. Deters
/s/ Clifford J. Einstein Director March 30, 2000
- ------------------------
Clifford J. Einstein
/s/ Charles R. Fullerton Director March 30, 2000
- ------------------------
Charles R. Fullerton
/s/ Carole J. LaCaze Director March 30, 2000
- ------------------------
Carole J. LaCaze
/s/ Joseph H. Wender Director March 30, 2000
- ------------------------
Joseph H. Wender
76
<TABLE> <S> <C>
<ARTICLE> 9
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> Dec-31-1999
<PERIOD-START> Jan-01-1999
<PERIOD-END> Dec-31-1999
<CASH> 5,394
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 1,800
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 38,508
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 73,445
<ALLOWANCE> 871
<TOTAL-ASSETS> 130,264
<DEPOSITS> 89,620
<SHORT-TERM> 25,000
<LIABILITIES-OTHER> 1,520
<LONG-TERM> 7,535
0
1,993
<COMMON> 6,527
<OTHER-SE> (1,931)
<TOTAL-LIABILITIES-AND-EQUITY> 130,264
<INTEREST-LOAN> 6,106
<INTEREST-INVEST> 1,871
<INTEREST-OTHER> 184
<INTEREST-TOTAL> 8,161
<INTEREST-DEPOSIT> 2,282
<INTEREST-EXPENSE> 3,653
<INTEREST-INCOME-NET> 4,508
<LOAN-LOSSES> 147
<SECURITIES-GAINS> 22
<EXPENSE-OTHER> 5,643
<INCOME-PRETAX> (390)
<INCOME-PRE-EXTRAORDINARY> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (391)
<EPS-BASIC> (0.60)
<EPS-DILUTED> (0.60)
<YIELD-ACTUAL> 4.38
<LOANS-NON> 492
<LOANS-PAST> 79
<LOANS-TROUBLED> 390
<LOANS-PROBLEM> 3,609
<ALLOWANCE-OPEN> 549
<CHARGE-OFFS> 284
<RECOVERIES> 57
<ALLOWANCE-CLOSE> 871
<ALLOWANCE-DOMESTIC> 482
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 382
</TABLE>
