<PAGE>
COMPTROLLER OF THE CURRENCY
Washington, D.C. 20549
Form 10-QSB
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarterly period ended September 30, 1999
------------------
[ ] Transition report under Section 13 or 15(d) of the Securities Exchange Act
of 1934 for the transition period from to .
-------- --------------
COMMUNITY BANCORP INC. (1)
------------------------------------------------------
(Exact name of registrant as specified in its charter)
000-26505
-------------
(File Number)
Delaware 33-0859334
--------------------------------- -------------------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
130 West Fallbrook Street, Fallbrook, CA 92028
---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (760) 723-8811
--------------
None
---------------------------------------------------------------
(Former name, former address and former fiscal year, if changed
since last report)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the 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 [ ]
Number of shares of common stock outstanding as of September 30, 1999:
2,416,305 shares.
Transitional Small Business Disclosure Format (check one): Yes [ ] No [X]
___________________________
(1) The Company is the successor registrant to Fallbrook National Bank which
previously filed reports pursuant to the Securities Exchange Act of 1934
with the Comptroller of the Currency.
1
<PAGE>
PART 1: FINANCIAL INFORMATION
Item 1: FINANCIAL STATEMENTS
COMMUNITY BANCORP INC.
CONSOLIDATED BALANCE SHEETS
(dollars in thousands)
(unaudited)
<TABLE>
<CAPTION>
September 30, December 31,
1999 1998
------------- ------------
<S> <C> <C>
ASSETS
Cash and due from banks $ 7,178 $ 6,064
Federal funds sold 6,105 10,250
Interest bearing deposits in financial institutions 800 800
Federal Reserve Bank stock 161 132
Investment securities held-to-maturity, at amortized cost 6,706 1,676
Loans:
Held for investment 116,278 103,101
Less allowance for loan losses (1,357) (992)
Held for sale, at lower of cost or market 11,437 6,600
-------- --------
NET LOANS 126,358 108,709
Bank premises and equipment, net 2,435 2,460
Accrued interest and other assets 3,295 3,182
Servicing asset, net 2,658 2,950
-------- --------
Total Assets $155,696 $136,223
-------- --------
-------- --------
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Interest bearing $114,387 $102,869
Non-interest bearing 25,666 21,286
-------- --------
Total deposits 140,053 124,155
Other borrowings 4,022 1,000
Accrued expenses and other liabilities 1,195 1,522
-------- --------
TOTAL LIABILITIES 145,270 126,677
-------- --------
-------- --------
Shareholders' equity
Common stock, $0.625 par value; authorized 10,000,000 shares,
issued and outstanding, 2,416,305 at September 30, 1999 and
2,407,065 at December 31, 1998 1,510 1,505
Additional paid-in capital 3,883 3,856
Unearned ESOP contribution (847) (1,000)
Retained earnings 5,880 5,185
-------- --------
TOTAL SHAREHOLDERS' EQUITY 10,426 9,546
-------- --------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $155,696 $136,223
-------- --------
-------- --------
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
2
<PAGE>
COMMUNITY BANCORP INC.
CONSOLIDATED STATEMENTS OF INCOME
(dollars in thousands except for per share amounts)
(unaudited)
<TABLE>
<CAPTION>
For the nine months For the three months
ended September 30, ended September 30,
------------------- --------------------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Interest income:
Interest and fees on loans $8,874 $7,139 $3,033 $2,627
Interest on federal funds sold 416 689 183 253
Interest on interest bearing deposits in financial institutions 30 31 10 10
Interest on investment securities 167 38 105 13
------ ------ ------ ------
Total interest income 9,487 7,897 3,331 2,903
------ ------ ------ ------
Interest expense -- deposits 2,875 2,658 1,021 946
Interest expense -- other borrowed money 138 88 95 28
------ ------ ------ ------
Total interest expense 3,013 2,746 1,116 974
------ ------ ------ ------
Net interest income before provision for loan losses 6,474 5,151 2,215 1,929
------ ------ ------ ------
Provision for loan losses 385 410 70 179
------ ------ ------ ------
Net interest income after provision for loan losses 6,089 4,741 2,145 1,750
------ ------ ------ ------
Other operating income:
Customer service charges 282 269 104 90
Other fee income 989 811 324 367
Gain on sale of loans 1,844 1,031 131 438
Servicing fees, net 432 453 162 168
------ ------ ------ ------
Total other operating income 3,547 2,564 721 1,063
------ ------ ------ ------
Other operating expenses:
Salaries and employee benefits 4,555 3,375 1,410 1,270
Occupancy 829 562 275 205
Bank premises and equipment 376 240 133 96
Marketing and promotions 174 248 60 112
Data processing 562 446 200 164
Professional services 403 305 166 132
Non-recurring expense 362 - 258 -
Other 1,192 810 432 318
------ ------ ------ ------
Total other operating expenses 8,453 5,986 2,934 2,297
------ ------ ------ ------
Income before income taxes 1,183 1,319 (68) 516
Income taxes 488 545 (28) 213
------ ------ ------ ------
Net Income $ 695 $ 774 $ (40) $ 303
------ ------ ------ ------
------ ------ ------ ------
Comprehensive Income $ 695 $ 774 $ (40) $ 303
------ ------ ------ ------
------ ------ ------ ------
Basic earnings per share $ 0.30 $ 0.34 $(0.02) $ 0.13
Diluted earnings per share $ 0.30 $ 0.35 $(0.02) $ 0.13
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
3
<PAGE>
COMMUNITY BANCORP INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(dollars in thousands)
(unaudited)
<TABLE>
<CAPTION>
For the nine months
ended September 30,
-------------------
1999 1998
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net income $ 695 $ 774
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization 1,116 511
Provision for loan losses 385 410
Gain on sale of loans (1,844) (1,031)
Proceeds from sale of loans 57,732 24,411
Increase in accrued interest and other assets (113) (1,225)
Decrease in accrued expenses and other liabilities (327) (231)
-------- --------
Net cash provided by operating activities 57,644 23,619
-------- --------
Cash flows from Investing activities:
Net increase in loans outstanding (74,177) (45,662)
Net decrease in Federal funds sold 4,145 1,580
Purchase of Federal Reserve Stock (29) -
Purchase of securities held-to-maturity (5,934) (201)
Maturities of securities held-to-maturity 900 -
Additions to bank premises and equipment (387) (929)
-------- --------
Net cash used in investing activities (75,482) (45,212)
-------- --------
Cash flows from financing activities:
Net increase in deposits:
Interest bearing 11,518 20,230
Non-interest bearing 4,380 3,558
Exercise of stock options 32 40
Cash dividends paid - (228)
Repayment of line of credit (153) (155)
Proceeds from other borrowings 3,175 200
Advances to ESOP - (45)
-------- --------
Net cash provided by financing activities 18,952 23,600
-------- --------
Net increase in cash and due from banks 1,114 2,007
Cash and due from banks at beginning of period 6,064 4,590
-------- --------
Cash and due from banks at end of period $ 7,178 $ 6,597
-------- --------
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest $ 2,943 $ 2,733
-------- --------
Income Taxes $ 1,152 $ 408
-------- --------
Supplemental disclosure of non-cash investing activities:
Loans transferred to other real estate owned $ - $ 719
-------- --------
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
4
<PAGE>
COMMUNITY BANCORP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1999
(unaudited)
NOTE 1 BASIS OF PRESENTATION:
The interim financial statements included herein have been prepared by
Community Bancorp Inc. (the "Company") without audit, pursuant to the rules
and regulations of the Securities and Exchange Commission ("SEC"). These
interim financial statements include the Company and its wholly owned
subsidiary, Fallbrook National Bank (the "Bank"), as consolidated with the
elimination of all inter-company transactions. Certain information and
footnote disclosures, normally included in financial statements prepared in
accordance with generally accepted accounting principles, have been condensed
or omitted pursuant to such SEC rules and regulations. Nevertheless, the
Company believes that the disclosures are adequate to make the information
presented not misleading. These financial statements should be read in
conjunction with the audited financial statements and notes thereto included
in the Bank's latest Annual Report found on Form 10-KSB. In the opinion of
management, all adjustments, including normal recurring adjustments necessary
to present fairly the financial position of the Company with respect to the
interim financial statements and the results of its operations for the
interim period ended September 30, 1999, have been included. Certain
reclassifications may have been made to prior period amounts to conform to
the 1999 presentation. The results of operations for interim periods are not
necessarily indicative of results for the full year.
NOTE 2 LOANS AND RELATED ALLOWANCE FOR LOAN LOSSES:
A summary of loans as of September 30, 1999 and December 31, 1998 is as
follows:
<TABLE>
<CAPTION>
September 30, December 31,
1999 1998
------------- ------------
(dollars in thousands)
<S> <C> <C>
Construction loans $ 21,940 $ 18,461
SBA guaranteed portion held for sale construction (1) 3,764 2,585
Real estate one to four family 17,483 10,072
Real estate held for sale one to four family (1) 1,073 4,015
Real estate commercial and multi family 48,609 55,788
SBA portion held for sale (1) 6,600 -
Consumer home equity lines of credit 2,259 2,033
Consumer other 8,530 6,166
Commercial (2) 19,089 13,517
-------- --------
Total gross loans 129,347 112,637
Deferred loan fees (418) (362)
Discount on unguaranteed portion of loans retained (1,214) (2,574)
Allowance for loan losses (1,357) (992)
-------- --------
Net loans $126,358 $108,709
-------- --------
-------- --------
</TABLE>
The Company's lending activities are concentrated primarily in Southern
California. Although the Company seeks to avoid undue concentrations of
loans to a single industry based upon a single class of collateral, real
estate and real estate associated business areas are among the principal
industries in the Company's market area. As a result, the Company's loan and
collateral portfolios
____________________
(1) Valued at the lower of cost or market
(2) Includes $12.0 million and $6.0 million of loans secured by aircraft at
September 30, 1999 and December 31, 1998, respectively.
5
<PAGE>
are, to some degree, concentrated in those industries. The Company evaluates
each credit on an individual basis and determines collateral requirements
accordingly. When real estate is taken as collateral, advances are generally
limited to a certain percentage of the appraised value of the collateral at
the time the loan is made, depending on the type of loan, the underlying
property and other factors.
NOTE 3 SALES AND SERVICING OF SBA LOANS:
The Company generates revenues from the origination of loans guaranteed by
the Small Business Administration (the "SBA") and the sale of guaranteed and
unguaranteed portions of those loans in the secondary market. The Company
retains the servicing on the sale of SBA loans that creates loan servicing
income. The Company measures the servicing asset by discounting the
respective cash flow for the estimated expected life of the loans. The
Company uses industry prepayment statistics in estimating the expected life.
Servicing assets are initially measured at market rates.
If the fair value of the servicing assets is less than the amortized carrying
value, the asset is considered impaired. A valuation allowance must be
established for the impaired asset by a charge against income for the
difference between the amortized carrying value and the fair value. As of
September 30, 1999 and December 31, 1998, there was no material difference
between the Company's amortized carrying value for the servicing assets and
the fair value and the Company had no valuation allowance established for
these assets.
The activity for the servicing assets for the nine months ended September 30,
1999 and 1998 is summarized as follows:
<TABLE>
<CAPTION>
1999 1998
---- ----
(dollars in thousands)
<S> <C> <C>
Balance at beginning of period $2,950 $2,883
Servicing assets recognized on SBA loans sold 491 567
Amortization (783) (292)
------ ------
Balance at end of period $2,658 $3,158
------ ------
------ ------
</TABLE>
NOTE 4 CONTINGENCIES:
The Company's wholly owned subsidiary, the Bank, has been subject to a
lawsuit by a former employee alleging, amongst other things, breach of
contract and fraud. Trial commenced on July 19, 1999, with the Jury
rendering a verdict on August 2nd, 1999. The Jury awarded compensatory
damages of approximately $65,000, punitive damages of $750,000, court costs
and legal fees. On October 26, 1999, the Riverside County Superior Court
ordered a new trial on punitive damages only unless the plaintiff consented
to a reduction of the punitive damage verdict to $250,000. On November 4,
1999, the plaintiff consented to the punitive damage verdict of $250,000.
The Company now anticipates appealing the judgement even though reduced in
amount. During the nine months ended September 30, 1999, the Company accrued
$298,000 in connection with this verdict. Because of the nature of its
activities, the Company is at all times subject to pending and threatened
legal actions which arise out of the normal course of its business. The
Company is not aware of any pending or threatened legal actions other than
that stated above.
NOTE 5 FORMATION OF HOLDING COMPANY:
The Company was formed through a holding company reorganization of Fallbrook
National Bank, wherein Fallbrook National Bank became the wholly owned
subsidiary of Community Bancorp Inc. as of June 25, 1999. The transaction
was based on a one for one exchange of shares of Fallbrook National Bank
stock for shares of common stock of Community Bancorp Inc., and was
6
<PAGE>
not considered a taxable event for IRS purposes. All references to periods
prior to June 30, 1999 are references to financial statements of the Bank.
NOTE 6 EARNINGS PER SHARE
The following table is a reconciliation of the numerators and denominators of
the basic and diluted EPS computations for the net earnings for the Company
(dollars in thousands, except share data):
<TABLE>
<CAPTION>
For the three months ended September 30,
----------------------------------------
1999 1998
----------------------------------------- ------------------------------------------
Earnings Shares Per Share Earnings Shares Per Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
----------- ------------- --------- ----------- ------------- ----------
<S> <C> <C> <C> <C> <C> <C>
Net Earnings $(40) $303
---- ----
---- ----
Basic EPS Earnings available
to common shareholders $(40) 2,291,878 $(0.02) $303 2,255,802 $0.13
-----
-----
Effect of Dilutive Securities
Options - 55,013 - 59,258
---- --------- ---- ---------
Diluted EPS Earnings
available to common
shareholders plus assumed
conversions $(40) 2,346,891 $(0.02) $303 2,315,060 $0.13
---- --------- ------ ---- --------- -----
---- --------- ------ ---- --------- -----
</TABLE>
<TABLE>
<CAPTION>
For the nine months ended September 30,
---------------------------------------
1999 1998
----------------------------------------- ------------------------------------------
Earnings Shares Per Share Earnings Shares Per Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
----------- ------------- --------- ----------- ------------- ----------
<S> <C> <C> <C> <C> <C> <C>
Net Earnings $695 $774
Basic EPS Earnings available
to common shareholders $695 2,285,053 $0.30 $774 2,259,466 $0.34
-----
-----
Effect of Dilutive Securities
Options - 55,172 - 67,022
---- --------- ---- ---------
Diluted EPS Earnings
available to common
shareholders plus assumed
conversions $695 2,340,225 $0.30 $774 2,326,488 $0.33
---- --------- ------ ---- --------- -----
---- --------- ------ ---- --------- -----
</TABLE>
NOTE 7 RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 133, "Accounting for Derivative Instruments and Hedging Activities"'
which is effective for fiscal years beginning after June 15, 2000. The
statement establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. The adoption of this standard is not
expected to have a material effect on the Company's financial condition,
results of operation and cash flows.
7
<PAGE>
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following is management's discussion and analysis of the major factors
that influenced the financial performance of Community Bancorp Inc. (the
"Company") and its subsidiary Fallbrook National Bank (the "Bank") for the
nine months and three months ended September 30, 1999. This analysis should
be read in conjunction with the Bank's 1998 Annual Report as filed on Form
10-KSB and with the unaudited financial statements and notes as set forth in
this report.
Community Bancorp Inc. was formed through a holding company reorganization of
Fallbrook National Bank, wherein Fallbrook National Bank became the wholly
owned subsidiary of Community Bancorp Inc. as of June 25, 1999. The
transaction was based on a one for one exchange of shares of Fallbrook
National Bank stock for shares of common stock of Community Bancorp Inc., and
was not considered a taxable event for IRS purposes. At the same time,
Community Bancorp Inc. was listed on the NASDAQ national markets under the
symbol CMBC, and Fallbrook National Bank was removed from public trading on
the same date.
Statements concerning future performance, developments or events concerning
expectation for growth and market forecasts, and any other guidance on future
periods, constitute forward-looking statements (within the meaning of the
Private Litigation Reform Act of 1995) which are subject to a number of risks
and uncertainties which might cause actual results to differ materially from
stated expectations. These statements generally appear with words such as
"anticipate," "believe," "estimate," "may," "intend" and "expect."
RESULTS OF OPERATIONS
NET INCOME
Net income decreased 10.2% to $695,000 for the nine months ended September
30, 1999 compared to $774,000 for the nine months ended September 30, 1998.
Basic earnings per share were $0.30 and $0.34 for the nine months ended
September 30, 1999 and 1998, respectively. Diluted earnings per share were
$0.30 and $0.33 for the nine months ended September 30, 1999 and 1998,
respectively. Earnings per share for the nine months ended September 30,
1998 were adjusted for the effects of a stock dividend paid in December 1998.
The decrease in net income was mainly due to the $298,000 one-time accrual
for the lawsuit, reduced loan sales and the $64,000 pre-tax cost of forming a
holding company.
Without these non-recurring expenses net income would have increased 17.2% to
$907,000 for the nine months ended September 30, 1999 compared to $774,000
for the nine months ended September 30, 1998. The increase in recurring
income was mainly due to increases in net interest income after provision for
loan losses and in other operating income, a major portion of which was
offset by an increase in other operating expenses. During the nine months
ended September 30, 1999, interest income increased due to an increase in
average interest earning assets, and other income increased due to the sale
of $10.2 million in the unguaranteed portion of SBA 7A loans which resulted
in a gain of $1.2 million.
The return on average equity was 9.36% for the nine months ended September
30, 1999 compared to 11.91% for the nine months ended September 30, 1998.
The decrease in return on average equity was due to the decrease in net
income combined with an increase in average equity outstanding. Without the
non-recurring expenses, return on average equity would have been 12.25% for
the nine months ended September 30, 1999.
Return on average assets for the nine months ended September 30, 1999 was
0.63% compared to 0.89% for the nine months ended September 30, 1998. The
decrease in the return on average assets from 1998 to 1999 was due to the
decrease in net income, as noted above, combined with an increase in average
assets outstanding. Without the non-recurring expenses, the return on
average assets would have been 0.82% for the nine months ended September 30,
1999.
8
<PAGE>
The Company incurred a loss of $40,000 for the three months ended September
30, 1999 compared to net income of $303,000 for the three months ended
September 30, 1998. The basic loss per share was $0.02 compared to basic
earnings per share of $0.13 for the three months ended September 30, 1999 and
1998, respectively. The diluted loss per share was $0.02 compared to
earnings per share of $0.13 for the three months ended September 30, 1999 and
1998, respectively. Earnings per share for the three months ended September
30, 1998 were adjusted for the effects of a stock dividend paid in December
1998. The decrease in net income was mainly due to non-recurring expenses
associated with the lawsuit, combined with a decrease in gain on sale of
loans. Without the non-recurring expenses net income would have decreased
63.4% to $111,000 for the three months ended September 30, 1999 compared to
$303,000 for the three months ended September 30, 1998.
The Bank has been negatively impacted by the decline in premiums paid on SBA
loans sold in the secondary market due to increased prepayment speeds, along
with a decline in mortgage loan activity due to rising interest rates in
1999. SBA loans originated increased to $13.7 million for the three months
ended September 30, 1999 compared to $10.3 million for the three months ended
September 30, 1998. Total SBA loans sold increased to $4.8 million for the
three months ended September 30, 1999 compared to $4.2 million for the three
months ended September 30, 1998. In order to increase the return on each
individual SBA loan, the Bank chose to increase the holding period of the
loans, thereby obtaining additional interest income, and not sell the loans
in the same period they were originated in. The Bank intends to sell both
guaranteed and un-guaranteed SBA loans during the fourth quarter of 1999.
Mortgage loan production decreased 65.7% to $4.0 million for the three months
ended September 30, 1999 compared to $11.6 million for the three months ended
September 30, 1998. The decrease in mortgage loan sales combined with the
decrease in premiums paid on SBA loan sales resulted in a decrease in gain on
sale of loans of 70.1%, declining from $438,000 for the three months ended
September 30, 1999 to $131,000 for the three months ended September 30, 1998.
Operating expenses increased due to the expansion of the Bank's franchise and
the increase in SBA loan production, which was entirely offset by an increase
in net interest income after provision for loan losses. Interest income
increased due to an increase in average interest earning assets. Provision
for loan losses decreased due to the decrease in charge offs experienced by
the Bank, and the increase in levels of allowances as a percentage of total
loans as of September 30, 1999.
The loss on average equity was 1.56% for the three months ended September 30,
1999 compared to a return on average equity of 13.65% for the three months
ended September 30, 1998. Without the non-recurring expenses, the return on
average equity would have been 4.32% for the three months ended September 30,
1999. The reduction in return on average equity was due to the decrease in
net income, as noted above, combined with an increase in average equity
outstanding. The loss on average assets for the three months ended September
30, 1999 was 0.10% compared to a return on average assets of 0.93% for the
three months ended September 30, 1998. The decrease in the return on average
assets from 1998 to 1999 was due to the decrease in net income, as noted
above, combined with an increase in average assets. Without the
non-recurring expenses, the return on average assets would have been 0.28%
for the three months ended September 30, 1999.
INTEREST INCOME
Net interest income is the most significant component of the Company's income
from operations. Net interest income is the difference (the "interest rate
spread") between the gross interest and fees earned on the loan and
investment portfolios and the interest paid on deposits and other borrowings.
Net interest income depends on the volume of and interest rate earned on
interest
9
<PAGE>
earning assets and the volume of and interest rate paid on interest bearing
liabilities. Factors affecting spread include changes in market rates,
especially the prime rate (which increased 0.50% during the third quarter of
1999), and market competition for both loans and deposits, combined with the
Company's sensitivity to such changes.
The following table sets forth a summary of average balances with
corresponding interest income and interest expense as well as average yield
and cost information for the periods presented. Average balances are derived
from daily balances, and nonaccrual loans are included as interest bearing
loans for the purpose of this table.
<TABLE>
<CAPTION>
For the nine months ended September 30,
-----------------------------------------------------------------------------
1999 1998
-----------------------------------------------------------------------------
Average Interest Average Average Interest Average
Balance Earned/Paid Rate/Yield Balance Earned/Paid Rate/Yield
-----------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Average Assets:
Securities and time deposits at other
Banks $ 4,520 $ 197 5.83% $ 1,709 $ 69 5.40%
Federal funds sold 11,608 416 4.79 16,091 689 5.72
Loans:
Commercial 52,970 3,994 10.08 37,974 3,282 11.56
Real estate 58,865 4,481 10.18 44,210 3,558 10.76
Consumer 5,845 400 9.15 3,812 299 10.49
-------- -------- -------- --------
Total loans 117,680 8,874 10.08 85,996 7,139 11.10
-------- -------- -------- --------
Total earning assets 133,808 9,487 9.48 103,795 7,897 10.18
Non earning assets 14,000 12,657
-------- --------
Total average assets $147,808 $116,453
-------- --------
-------- --------
Average liabilities and shareholders'
Equity:
Interest bearing deposits:
Savings and interest bearing
Accounts $ 64,909 $ 1,184 2.44 $ 64,758 $ 1,590 3.28
Time deposits 45,170 1,691 5.00 23,884 1,068 5.98
-------- -------- -------- --------
Total interest bearing deposits 110,079 2,875 3.49 88,642 2,658 4.01
Demand deposits 24,129 - - 17,152 - -
Other borrowings 2,342 138 7.88 1,153 88 10.20
-------- -------- -------- --------
Total interest bearing liabilities 136,550 3,013 2.95 106,947 2,746 3.43
Accrued expenses and other liabilities 1,361 844
Net shareholders' equity 9,897 8,662
-------- --------
Total average liabilities and shareholders' equity $147,808 $116,453
-------- --------
-------- --------
Net interest rate spread 6.53% 6.75%
---- ----
---- ----
Net interest income $ 6,474 $ 5,151
-------- -------
-------- -------
Net yield on interest-earning assets 6.47% 6.63%
---- ----
---- ----
</TABLE>
Interest income for the nine months ended September 30, 1999 increased to
$9.5 million, compared to $7.9 million for the nine months ended September
30, 1998. This increase was due to an increase in the average balance of
interest earning assets, partially offset by a decrease in the yield on those
assets. Average interest earning assets increased to $133.8 million for the
nine months ended September 30, 1999 compared to $103.8 million for the nine
months ended September 30, 1998. The yield on interest earning assets
decreased to 9.48% for the nine months ended September 30, 1999 compared to
10.18% for the nine months ended September 30, 1998. The largest single
component of interest earning assets was loans receivable, which had an
average balance of $117.7 million with a yield of 10.08% for the nine months
ended September 30, 1999 compared to $86.0 million with a yield of 11.10% for
the nine months ended September 30, 1998. The increase in the average
balance of loans receivable was attributable to the expansion of the Bank as
part of the Bank's strategic plan.
10
<PAGE>
Interest expense for the nine months ended September 30, 1999 increased
to $3.0 million compared to $2.7 million for the nine months ended September
30, 1998. This increase was due to an increase in average deposits and other
borrowings, combined with a change in the composition of those liabilities,
and was partially offset by a decrease in the cost of those liabilities.
Average interest-bearing liabilities increased to $136.6 million for the nine
months ended September 30, 1999 compared to $106.9 million for the nine
months ended September 30, 1998. Average time deposits increased to $45.2
million with a cost of 5.00% for the nine months ended September 30, 1999
compared to $23.9 million with a cost of 5.98% for the nine months ended
September 30, 1998. In addition, the Company obtained a loan from a
correspondent as of June 30, 1999, which increased the average borrowings
outstanding to $2.3 million with a cost of 7.88% for the nine months ended
September 30, 1999 compared to $1.2 million with a cost of 10.20% for the
nine months ended September 30, 1998.
<TABLE>
<CAPTION>
For the nine months ended September 30,
-----------------------------------------------------------------------------
1999 1998
-----------------------------------------------------------------------------
Average Interest Average Average Interest Average
Balance Earned/Paid Rate/Yield Balance Earned/Paid Rate/Yield
-----------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Average Assets:
Securities and time deposits at other
Banks $ 7,667 $ 115 5.95% $ 1,838 $ 23 4.96%
Federal funds sold 10,654 183 6.81 19,117 253 5.25
Loans:
Commercial 53,231 1,282 9.55 42,953 1,207 11.15
Real estate 64,039 1,606 9.95 48,366 1,321 10.84
Consumer 6,424 145 8.96 3,876 99 10.13
-------- -------- -------- --------
Total loans 123,694 3,033 9.73 95,195 2,627 10.95
-------- -------- -------- --------
Total earning assets 142,015 3,331 9.31 116,150 2,903 9.92
Non earning assets 15,194 13,756
-------- --------
Total average assets $157,209 $126,906
-------- --------
-------- --------
Average liabilities and shareholders'
Equity:
Interest bearing deposits:
Savings and interest bearing
Accounts $ 67,081 $ 417 2.47 $ 68,241 $ 537 3.12
Time deposits 48,233 604 4.97 30,130 409 5.39
-------- -------- -------- --------
Total interest bearing deposits 115,314 1,021 3.51 98,371 946 3.82
Demand deposits 26,179 - - 20,716 - -
Other borrowings 4,039 95 9.33 1,102 28 10.08
-------- -------- -------- --------
Total interest bearing liabilities 145,532 1,116 3.04 120,189 974 3.22
Accrued expenses and other liabilities 1,402 840
Net shareholders' equity 10,275 8,877
-------- --------
Total average liabilities and shareholders' equity $157,209 $129,906
-------- --------
-------- --------
Net interest rate spread 6.27% 6.70%
---- ----
---- ----
Net interest income $ 2,215 $ 1,929
-------- -------
-------- -------
Net yield on interest-earning assets 6.19% 6.59%
---- ----
---- ----
</TABLE>
Interest income for the three months ended September 30, 1999 increased
to $3.3 million, compared to $2.9 million for the three months ended
September 30, 1998. This increase was due to an increase in the average
balance of interest earning assets, partially offset by a decrease in the
yield on those assets. Average interest earning assets increased to $142.0
million for the three months ended September 30, 1999 compared to $116.2
million for the three months ended September 30, 1998. The yield on interest
earning assets decreased to 9.31% for the three months ended September 30,
1999 compared to 9.92% for the three months ended September 30, 1998. The
largest single component of interest earning assets was loans receivable,
which had an average balance of $123.7 million with a yield of 9.73% for the
three months ended September 30, 1999 compared to $95.2 million with a yield
of 10.95% for the three months ended September 30, 1998. The increase in the
average balance of loans receivable was attributable to the expansion of the
Bank as part of the Bank's stategic plan.
11
<PAGE>
Interest expense for the three months ended September 30, 1999 increased
to $1.1 million compared to $974,000 for the three months ended September 30,
1998. This increase was due to an increase in average deposits and other
borrowings, combined with a change in the composition of those liabilities,
and was partially offset by a decrease in the cost of those liabilities.
Average interest-bearing liabilities increased to $145.5 million for the
three months ended September 30, 1999 compared to $120.2 million for the
three months ended September 30, 1998. Average time deposits increased to
$48.2 million with a cost of 4.97% for the three months ended September 30,
1999 compared to $30.1 million with a cost of 5.39% for the three months
ended September 30, 1998. In addition, the Company obtained a line of credit
from a correspondent bank as of June 30, 1999, which resulted in the average
borrowings increasing to $4.0 million with a yield of 9.33% for the three
months ended September 30, 1999 compared to $1.1 million with a yield of
10.08% for the three months ended September 30, 1998.
NET INTEREST INCOME BEFORE PROVISION FOR ESTIMATED LOAN LOSSES
Net interest income before provision for estimated loan losses for the nine
months ended September 30, 1999 was $6.5 million compared to $5.2 million for
the nine months ended September 30, 1998. This increase was primarily due to
the increase in average interest earning assets, and was partially offset
with a decrease in the net interest margin. Average interest earning assets
were $133.8 million for the nine months ended September 30, 1999 with a net
interest margin of 6.47% compared to $103.8 million with a net interest
margin of 6.63% for the nine months ended September 30, 1998.
Net interest income before provision for estimated loan losses for the three
months ended September 30, 1999 was $2.2 million, compared to $1.9 million
for the three months ended September 30, 1998. This increase was primarily
due to the increase in average interest earning assets, and was partially
offset by a decrease in the net interest margin. Average interest earning
assets were $142.0 million for the three months ended September 30, 1999 with
a net interest margin of 6.19% compared to $116.2 million with a net interest
margin of 6.59% for the three months ended September 30, 1998.
PROVISION FOR LOAN LOSSES
Net charge offs totaled $21,000 for the nine months ended September 30, 1999
compared to $142,000 for the nine months ended September 30, 1998. Due to
the growth in loans and the historical loss experience associated with the
various loan types, the provision for loan losses totaled $385,000 for the
nine months ended September 30, 1999 compared to $410,000 for the nine months
ended September 30, 1998. Loan balances have increased to $126.4 million as
of September 30, 1999 compared to $108.7 million as of December 31, 1998 and
$90.9 million as of September 30, 1998, a 39.82% increase during the 12 month
period. Additionally, the Bank has entered into two new business lines
during the latter half of 1998; - Aircraft lending and Business Manager (an
accounts receivable financing business). As a result of the increase and
diversification in total loans outstanding, management increased the
allowance for loan losses to $1.4 million as of September 30, 1999 compared
to $995,000 as of September 30, 1998. As of September 30, 1999, the
allowance was 1.05% of total gross loans compared to 0.92% as of September
30, 1998. The allowance for loan losses as a percentage of non-performing
loans was 76.36% as of September 30, 1999 compared to 72.97% as of September
30, 1998.
For the three months ended September 30, 1999, net recoveries totaled $1,000
compared to net charge offs of $2,000 for the three months ended September
30, 1998. Provisions for loan losses totaled $70,000 for the three months
ended September 30, 1999 compared to $179,000 for the three months ended
September 30, 1998.
12
<PAGE>
Nonaccrual loans as of September 30, 1999 increased to $1.8 million, of which
$943,000 is guaranteed by the SBA, compared to $969,000, with $293,000
guaranteed by the SBA as of December 31, 1998 and $538,000, with $293,000
guaranteed by the SBA as of September 30, 1998.
In determining the adequacy of the allowance for loan losses, management
initially considers the allowances specifically allocated to individual
impaired loans, and next considers the level of general loss allowances
deemed appropriate for the balance of the portfolio based on factors
including the levels of classified assets, general portfolio trends relative
to asset and portfolio size, asset categories, potential credit
concentrations, nonaccrual loan levels, historical loss experience, risks
associated with changes in economic and business conditions, and other
factors. In addition, various regulatory agencies, as an integral part of
their examination process, periodically review the Bank's allowance for loan
losses. Such agencies may require the Bank to make additional provisions for
loan losses based upon judgments which differ from those of management.
OTHER OPERATING INCOME
Other operating income represents non-interest types of revenue and is
comprised primarily of gains from the sale of loans, other fee income, loan
servicing fees and service charges on deposit accounts. Other operating
income totaled $3.5 million for the nine months ended September 30, 1999
compared to $2.6 million for the nine months ended September 30, 1998. This
$983,000 increase constituted a 38.3% improvement, when comparing the nine
month period ended September 30, 1999 to the nine month period ended
September 30, 1998. The increase was mainly due to an increase in the gain
on sale of loans, which totaled $1.8 million for the nine month period ended
September 30, 1999 compared to $1.0 million for the nine month period ended
September 30, 1998. The increase in gain on sale of loans was due to the
sale of $22.8 million in mortgage loans and $33.5 million in SBA loans,
including $10.2 million in the unguaranteed portion of SBA 7A loans, during
the nine months ended September 30, 1999 compared to $20.6 million in
mortgage loans and $13.4 million in SBA loans during the nine month period
ended September 30, 1998.
A major portion of other operating income is generated through the sale of
loans consisting of SBA loans and mortgage loans. During the nine months
ended September 30, 1999, the Company originated $44.4 million in SBA
government guaranteed loans compared to $27.6 million during the nine months
ended September 30, 1998. The Company originated $19.6 million in mortgage
loans during the nine months ended September 30, 1999 compared to $21.5
million for the nine months ended September 30, 1998. The Company sold
approximately $33.5 million in SBA loans which resulted in a gain of $1.7
million, including $10.2 million in unguaranteed portions resulting in a gain
of $1.2 million, and sold $22.8 million in mortgage loans during the nine
month period ended September 30, 1999, which resulted in a gain of $149,000.
This is an increase compared to $13.4 million in SBA loans and $20.6 million
in mortgage loans during the nine month period ended September 30, 1998 which
resulted in gains of $851,000 and $180,000, respectively. Prior to 1999, the
Company had not sold any unguaranteed portions of SBA loans. The sale of
unguaranteed portions of SBA loans during the nine months ended September 30,
1999 was for the purpose of liquidity and capital management and reducing
concentrations in hotel lending. In the future, the Company may, from time to
time, sell unguaranteed portions of SBA loans in order to manage its asset
growth, capital and liquidity.
For the three months ended September 30, 1999, the Company originated
$13.7 million in SBA loans and $4.0 million in mortgage loans,
compared to $10.3 million in SBA loans and $11.6 million in mortgage
loans for the three months ended September 30, 1998. The decline in
mortgage loan production was due to the rise in interest rates during
the second and third quarters of 1999 and therefore the decline in
mortgage refinancing during the same period. The Company sold $4.8
million in SBA loans and $4.3 million in mortgage loans during the
three
13
<PAGE>
months ended September 30, 1999, compared to $4.2 million in SBA loans and
$15.9 million in mortgage loans during the three months ended September 30,
1998. The sales generated gains of $131,000 for the three months ended
September 30, 1999 compared to $438,000 for the three months ended September
30, 1998. Premiums on SBA loans as a percentage of loans sold declined to
6.50% for the three months ended September 30, 1999 compared to 9.71% for the
three months ended September 30, 1998. Factors influencing premiums paid
include demand for SBA loans in the secondary market, changes in prepayment
speed assumptions used in valuing SBA loans, as well as collateral used in
making SBA loans. In order to increase the return on each individual SBA
loan, the Bank chose to increase the holding period of the loans, thereby
obtaining additional interest income, and not sell all of the SBA loans in
the same period they were originated in. The Bank intends to sell SBA
guaranteed and un-guaranteed loans during the fourth quarter of 1999.
Other fee income totaled $989,000 for the nine months ended September 30,
1999 compared to $811,000 for the nine months ended September 30, 1998. This
increase is directly related to the increase in SBA loan production,
including fees from the brokering of SBA loans to third party investors, as
well as the additional volume of other types of loans. For the three months
ended September 30, 1999, other fee income totaled $324,000, compared to
$367,000 for the three months ended September 30, 1998. The decrease in the
third quarter was related to the decrease in mortgage loan production
previously noted.
Servicing fees, net, decreased to $432,000 for the nine months ended
September 30, 1999 compared to $453,000 for the nine months ended September
30, 1998. For the three months ended September 30, 1999, servicing fees
decreased to $162,000 compared to $168,000 for the three months ended
September 30, 1998. The decrease in servicing fees was due to the increase
in SBA loan payoffs experienced by the Company during the first three
quarters of 1999. Total SBA servicing for others was $88.0 million at
September 30, 1999 compared to $72.7 million at September 30, 1998.
Customer service charges were approximately the same, totaling $282,000 for
the nine months ended September 30, 1999 compared to $269,000 for the nine
months ended September 30, 1998, and were $104,000 for the three months ended
September 30, 1999 compared to $90,000 for the three months ended September
30, 1998.
OTHER OPERATING EXPENSES
Other operating expenses are non-interest types of expenses and are incurred
by the Bank in its normal course of business. Salaries and employee benefits,
occupancy, bank premises and equipment,marketing and promotions, data
processing, professional services and other expenses are the major categories
of other operating expenses. Other operating expenses increased to $8.5
million for the nine months ended September 30, 1999 compared to $6.0 million
for the nine months ended September 30, 1998. For the three months ended
September 30, 1999, other operating expenses increased to $2.9 million
compared to $2.3 million for the three months ended September 30, 1998.
Subsequent to March 31, 1998, the Bank expanded its operating territories for
both SBA loan production as well as branch operations, and has added two new
product lines, aircraft lending and business manager. A new branch was opened
in Vista, California in August 1998, and two new loan production offices
("LPOs") were opened during the latter half of 1998, one in Sacramento and
the other in Los Angeles, California. In addition, the Bank has added
commercial lenders to each of its three banking branches.
The efficiency ratio is the ratio of operating expenses to net interest
income plus non-interest income. A decline in the efficiency ratio indicates
a more efficient period, while an increase in the efficiency indicates a less
efficient period. The Company's efficiency ratio increased to 80.74% for the
nine months ended September 30, 1999 compared to 77.59% for the nine months
ended September 30, 1998, and was 91.14% for the three months ended September
30, 1999 compared to 75.53% for the three months ended September 30, 1998.
The increase in efficiency ratio is
14
<PAGE>
directly related to the costs incurred due to the addition of the new retail
banking branch in Vista, CA, the addition of two new business lines during
1998 and increased SBA lending activity, combined with decrease in premiums
paid on SBA loans sold.
Salary and benefit expenses increased to $4.6 million for the nine months
ended September 30, 1999 compared to $3.4 million for the nine months ended
September 30, 1998 and totaled $1.4 million for the three months ended
September 30, 1999 compared to $1.3 million for the three months ended
September 30, 1998. Commissions paid on SBA production increased to $385,000
for the nine months ended September 30, 1999 compared to $150,000 for the
nine months ended September 30, 1998, and totaled $103,000 for the three
months ended September 30, 1999 compared to $63,000 for the three months
ended September 30, 1998. The majority of the remaining increase can be
attributable to the Company's expansion during 1998, discussed previously.
Occupancy, premises and equipment, data processing, professional services and
other expenses increased to $829,000, $376,000, $562,000, $403,000 and
$1,192,000, respectively, for the nine months ended September 30, 1999
compared to $562,000, $240,000, $446,000, $305,000, and $810,000 for the nine
months ended September 30, 1998. Marketing and promotions expense declined
to $174,000 for the nine months ended September 30, 1999 compared to $248,000
for the nine months ended September 30, 1998. In addition, the Company
incurred non-recurring expenses of $362,000 during the nine months ended
September 30, 1999, primarily as a result of an accrual for a lawsuit by a
terminated former employee, combined with the cost of the formation of the
holding company.
For the three months ended September 30, 1999, occupancy, premises and
equipment, data processing, professional services and other expenses
increased to $275,000, $133,000, $200,000, $166,000 and $432,000,
respectively, compared to $205,000, $96,000, $164,000, $132,000 and $318,000
for the three months ended September 30, 1998. Marketing and promotions
expense declined to $60,000 for the three months ended September 30, 1999
compared to $112,000 for the three months ended September 30, 1998. These
increases in operating expenses are a direct result of the implementation of
the Bank's strategic plan, including the addition of the new branch, two new
LPOs and the new product lines. In addition, the Company incurred
non-recurring expenses of $258,000 during the three months ended September
30, 1999 as a result of an accrual for a lawsuit by a terminated former
employee.
PROVISION FOR INCOME TAXES
The effective income tax rate was 41.3% for the nine months ended
September 30, 1999 and 1998, and was 41.2% for the three months ended
September 30, 1999 compared to 41.3% for the three months ended
September 30, 1998. Provisions for income taxes totaled $488,000 and
$545,000 for the nine months ended September 30, 1999 and 1998,
respectively, and were ($28,000) and $213,000 for the three months
ended September 30, 1999 and 1998, respectively.
FINANCIAL CONDITION
SUMMARY OF CHANGES IN CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 1999 COMPARED TO DECEMBER 31, 1998
Total assets of the Company increased to $155.7 million as of September 30,
1999 compared to $136.2 million as of December 31, 1998. This increase was
due to the growth in net loans to $126.4 million as of September 30, 1999,
compared to $108.7 million as of December 31, 1998.
Deposits grew to $140.1 million as of September 30, 1999 compared to $124.2
million as of December 31, 1998. The Bank opened a third branch in Vista,
California in August 1998, and the Bank's main office in Fallbrook,
California obtained the largest market share (percentage of FDIC
15
<PAGE>
insured deposits) in deposits as of September 30, 1998 for its geographic
territory. Federal funds sold decreased to $6.1 million as of September 30,
1999 compared to $10.3 million as of December 31, 1998. The balance of Fed
Funds varies with changes in loan demand, origination volume and loan payoffs.
Shareholders' equity increased to $10.4 million as of September 30, 1999
compared to $9.5 million as of December 31, 1998. Please refer to the
capital section of this discussion for further information.
INVESTMENTS
The Bank's investment portfolio consists primarily of certificates of deposit
with other financial institutions, US Treasury and agency securities and
overnight investments in the Federal Funds market. As of September 30, 1999
and December 31, 1998 certificates of deposit with other financial
institutions were $800,000, of which $500,000 are securing the Employee Stock
Ownership Plan ("ESOP") loan from another California bank which is funding
the Bank's ESOP.
As of September 30, 1999, the Bank held $6.7 million in US Government and
other securities compared to $1.7 million as of December 31, 1998. The
additional $5.0 million investment in U.S. Government and other securities
have maturities ranging from 3 months to 5 years. Portions of these
securities are held as collateral for public funds and treasury, tax and loan
deposits. Average Federal Funds sold for the three months ended September
30, 1999 was $10.7 million compared to $19.1 million for the three months
ended September 30, 1998.
LOANS
Loan balances, net of the allowance for loan losses, increased to $126.4
million as of September 30, 1999 compared to $108.7 million as of December
31, 1998. The growth was primarily in commercial loans, which was partially
offset by a reduction in real estate commercial and multi-family loans held
for investment. The Company sold $10.2 million in unguaranteed portions of
SBA loans during the nine months ended September 30, 1999, for the purpose of
liquidity and reducing concentrations in hotel lending. The total servicing
portfolio, which consists primarily of SBA loans sold to other investors
combined with other loan participations sold, being serviced by the Bank was
$91.2 million as of September 30, 1999 compared to $82.8 million as of
December 31, 1998.
16
<PAGE>
LOAN ORIGINATION AND SALE. The following table sets forth the Bank's loan
originations by category and purchases, sales and principal repayments of
loans for the periods indicated:
<TABLE>
<CAPTION>
At or For the Nine months At or For the Three Months
Ended September 30, Ended September 30,
------------------------------------------------------------
1999 1998 1999 1998
------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C>
Beginning balance $108,709 $ 73,884 $110,706 $89,287
Loans originated:
Commercial loans............ 17,628 7,301 7,354 3,168
Real estate:
Construction loans........ 39,788 25,414 15,026 9,568
One- to four-family....... 34,107 26,226 8,226 13,916
Commercial................ 42,045 31,000 18,613 12,999
Consumer.................... 4,535 2,658 2,209 1,535
---------------------------------------------------------
Total loans originated.... 138,103 92,599 51,428 41,186
Loans sold......................
Real estate:
One- to four-family....... 22,843 20,632 4,328 15,852
Commercial................ 33,529 13,440 4,799 4,180
---------------------------------------------------------
Total loans sold......... 56,372 34,072 9,127 20,032
Less:
Principal repayments........ 63,143 38,444 26,341 16,050
Other net changes1.......... 939 (728) 308 (304)
---------------------------------------------------------
Total loans:.............. $126,358 $ 94,695 $126,358 $94,695
---------------------------------------------------------
---------------------------------------------------------
</TABLE>
- ----------------
(1) Other net changes include changes in allowance for loan losses,
deferred loan fees, loans in process and unamortized premiums
and discounts.
NONPERFORMING ASSETS. Nonperforming assets consists of nonperforming loans
and other real estate owned ("OREO"). Nonperforming loans are those loans
which have (i) been placed on nonaccrual status, (ii) been subject to
troubled debt restructurings, or (iii) become contractually past due 90 days
or more with respect to principal or interest and have not been restructured
or placed on nonaccrual status.
The following table sets forth the Bank's nonperforming assets at the dates
indicated:
<TABLE>
<CAPTION>
September 30, December 31, September 30,
1999 1998 1998
---------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C>
Nonaccrual loans................................... $ 1,777 $ 969 $ 538
Troubled debt restructurings....................... - 723 720
Loans contractually past due 90 days
or more with respect to either
principal or interest and still
accruing interest................................ - 203 -
------- ------ ------
Total nonperforming loans........................ 1,777 1,895 1,258
Other real estate owned............................ - - 494
------- ------ ------
Total nonperforming assets......................... $ 1,777 $1,895 $1,752
------- ------ ------
------- ------ ------
Allowance for loan losses to total gross loans..... 1.05% 0.88% 0.92%
Allowance for loan losses to nonaccrual loans...... 76.36 102.37 170.63
Allowance for loan losses to nonperforming loans... 76.36 52.35 72.97
Allowance for loan losses to nonperforming assets.. 76.36 52.35 52.40
Total nonperforming assets to total assets......... 1.14 1.39 1.39
Total nonperforming loans to total gross loans..... 1.37% 1.68% 1.68%
</TABLE>
NONACCRUAL LOANS. Nonaccrual loans are impaired loans where the original
contractual amount may not be fully collectible. The Bank measures its
impaired loans by using the fair value of the collateral if the loan is
collateral-dependent and the present value of the expected future cash flows
discounted at the loan's effective interest rate if the loan is not
collateral-dependent. As of
17
<PAGE>
September 30, 1999, December 31, 1998 and September 30, 1998, all impaired or
nonaccrual loans were collateral-dependent. The Bank places loans on
nonaccrual status that are delinquent 90 days or more or when a reasonable
doubt exists as to the collectibility of interest and principal. The Bank
had nine loans on nonaccrual status as of September 30, 1999, totaling $1.8
million. Of this total, $943,000 is guaranteed by the SBA. As of December
31, 1998, the Bank had four loans on nonaccrual status, totaling $969,000,
with $293,000 guaranteed by the SBA. As of September 30, 1998 the Bank had
three loans on nonaccrual status, totaling $538,000 with $295,000 guaranteed
by the SBA.
ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses is established
through a provision for loan losses based on management's evaluation of the
risks inherent in its loan portfolio and the general economy. The allowance
is increased by provisions charged against earnings and reduced by net loan
chargeoffs. Loans are charged off when they are deemed to be uncollectible,
or partially charged off when portions of a loan are deemed to be
uncollectible. Recoveries are generally recorded only when cash payments
are received.
In determining the adequacy of the allowance for loan losses, management
initially considers the allowances specifically allocated to individual
impaired loans, and next considers the level of general loss allowances
deemed appropriate for the balance of the portfolio based on factors
including the levels of classified assets, general portfolio trends relative
to asset and portfolio size, asset categories, potential credit
concentrations, nonaccrual loan levels, historical loss experience, risks
associated with changes in economic and business conditions, and other
factors. In addition, various regulatory agencies, as an integral part of
their examination process, periodically review the Bank's allowance for loan
losses. Such agencies may require the Bank to make additional provisions for
loan losses based upon judgments which differ from those of management.
The following table sets forth information regarding the Bank's allowance for
loan losses at the dates and for the periods indicated:
<TABLE>
<CAPTION>
At or For the nine months
Ended September 30,
-------------------------
1999 1998
-------------------------
(dollars in thousands)
<S> <C> <C>
Balance at beginning of period........................... $992 $650
Chargeoffs:
Real estate loans:
One- to four- family............................. - 23
Commercial....................................... 19 127
Consumer............................................... 5 4
------ ----
Total chargeoffs................................. 24 154
Recoveries:
Real estate loans:
One- to four-family.................................. - -
Commercial........................................... 2 1
Consumer............................................... 1 11
------ ----
Total recoveries................................. 3 12
------ ----
Net chargeoffs........................................... 21 142
Provision for loan losses................................ 385 410
------ ----
Balance at end of period................................. $1,357 $918
------ ----
------ ----
Net charge offs to average loans (annualized)............ 0.02% 0.17%
</TABLE>
As of September 30, 1999 the balance in the allowance for loan losses was
$1.4 million compared to $918,000 as of September 30, 1998. As a percentage
of total gross loans the allowance was 1.05% as of September 30, 1999
compared to 0.92% as of September 30, 1998. Management believes the
allowance at September 30, 1999 is adequate based upon its ongoing analysis
of the loan portfolio, historical loss trends and other factors.
18
<PAGE>
OTHER REAL ESTATE OWNED. The following table gives the major components of
the changes in OREO assets for the nine months ended September 30, 1999 and
1998.
<TABLE>
<CAPTION>
1999 1998
----------------------
(dollars in thousands)
<S> <C> <C>
Balance at beginning of period $ - $ -
Additions - 835
Sales - 341
----------------------
Balance at end of period $ - $ 494
----------------------
----------------------
</TABLE>
CAPITAL
The Company's capital increased $880,000 to $10.4 million as of September 30,
1999 compared to $9.5 million as of December 31, 1998. In 1997 the Bank
implemented an Employee Stock Ownership Plan which was funded with a $1.2
million line of credit. As of September 30, 1999 the indebtedness of the
ESOP in the amount of $847,000 is shown as a deduction from shareholders'
equity. In future years capital will be increased as the unearned ESOP
contributions are made by the Bank. During the nine month period ended
September 30, 1999, the Bank repaid principal totaling $153,000, and is
planning to contribute approximately $192,000 annually to this program.
As part of the Bank's strategic plan, during the third quarter of 1998 the
Board elected to eliminate cash dividends in favor of retaining earnings to
support future growth. The Bank declared a $114,000 dividend prior to this
change in dividend policy during the three months ended September 30, 1998.
A 5% stock dividend was declared and paid to shareholders of record as of
November 30, 1998. The Company declared a 5% stock dividend on November 1,
1999 to shareholders of record as of November 15, 1999, payable on November
30, 1999. It is anticipated that the Company will continue the policy of
paying stock dividends from time to time.
As of September 30, 1999, all Bank capital ratios were above all current
Federal capital guidelines for a "Well Capitalized" bank. As of September
30, 1999 and December 31, 1998 the regulatory total capital to risk-weighted
assets ratios were 11.15% and 8.86%, respectively. The regulatory tier 1
capital to risk-weighted assets ratio was 10.11% as of September 30, 1999
compared to 7.98% as of December 31, 1998. The regulatory tier 1 capital to
average assets ratio was 8.39% as of September 30, 1999 compared to 6.61% as
of December 31, 1998. As part of its strategic plan, a holding company was
formed on June 25, 1999. The Company obtained a $3.2 million loan from a
correspondent bank, and invested $3.0 million of the proceeds into the Bank
as additional paid in capital. The Company's strategic plan addresses the
future capital needs of the Bank through increasing retained earnings and
potential sources of additional capital such as an equity offering and
potential debt which qualifies for regulatory capital.
As of September 30, 1999, the Company's regulatory total capital to
risk-weighted assets ratio was 8.79%. The regulatory tier 1 capital to
risk-weighted assets ratio was 7.75% and the regulatory tier 1 capital to
average assets ratio was 6.47%. The Company exceeded all minimum regulatory
capital ratios as of September 30, 1999. The Company was formed on June 25,
1999, and therefore there are no prior period capital ratios.
LIQUIDITY
The Bank closely monitors its liquidity so that the cash requirements for
loans and deposit withdrawals are met in an economical manner. Management
monitors liquidity in relation to trends of loans and deposits for short term
and long term requirements. Liquidity sources are cash, deposits with other
banks, overnight Federal Funds investments, unpledged interest bearing
deposits at other banks, investment securities and the ability to sell loans.
As of September 30, 1999 liquid assets as a percentage of deposits were
12.25% compared to 12.62% as of December 31, 1998.
19
<PAGE>
The Company has borrowed $3.2 million from a correspondent bank, and has
reinvested $3.0 million into the Bank. The loan has provisions for interest
only payments on a quarterly basis for the first year, followed by a five
year amortization period. The Company relies on the Bank's cash dividends as
its source of repayment for the loan and other operating expenses. As of
September 30, 1999, the Company had liquid assets of $159,000, or 72.94% of
current liabilities.
YEAR 2000 ISSUES
The Year 2000 issue is the result of computer programs being written using
two digits rather than four to define the applicable year. Any of Fallbrook
National Bank's programs that have time-sensitive software may recognize a
date using "00" as the year 1900 rather than the Year 2000. This could
result in system failure or miscalculations. If the Bank or significant
customers, suppliers or other third parties fail to correct Year 2000 issues,
the Bank's ability to operate could be affected. The Bank is addressing its
Year 2000 issues using a five phase program. The five phases are awareness,
assessment, renovation, validation and implementation. A brief description
of each phase and the Bank's progress toward completing each phase follows.
The awareness phase identifies potential Year 2000 problems, develops an
overall strategy for addressing the issues, obtains support from the board of
directors and management, appoints a project team of employees to direct the
Bank's activities and implements an internal and external communication
program to raise awareness of the problems and issues. The Bank completed
this phase as of June 30, 1998.
The assessment phase identifies all information technology systems such as
hardware, software, ATMs, and non-information technology systems such as
alarm and security systems and environmental controls that could be affected
by a Year 2000 related issue. This phase also develops a system to evaluate
and assess borrower and vendor preparedness, including a tracking and
monitoring system to identify potential problems. The Bank has completed all
of its information and non-information technology system assessments.
Risk assessment for each issue was also determined in this phase, and a risk
management program relating to Year 2000 issues was implemented. In April of
1998, Fallbrook National Bank initiated a credit risk assessment program,
with loan officers completing a Year 2000 questionnaire for all new and
renewed credits in amounts over $100,000. These questionnaires were designed
to provide Fallbrook National Bank's management with information by which it
could evaluate the borrower's awareness of and sensitivity to Year 2000 risk.
Responses to the questionnaires are reviewed by senior lenders, Credit
Administration and, where appropriate, internal loan committee in order to
ascertain Year 2000 risk associated with the credit. In addition, legal
language addressing Year 2000 issues is included in significant commitment
letters and loan documentation for certain borrowers. Finally, on loan
participations purchased, Fallbrook National Bank requires assurances from
the lead lender that it has obtained a Year 2000 questionnaire from the
borrower and also that the lead lender is satisfactorily progressing toward
Year 2000 compliance. The Bank considers these Year 2000 risk factors
associated with its borrowers when evaluating the adequacy of the allowance
for loan losses. This allocation process is reviewed and revised on a
quarterly basis, with reviews continuing through at least the first quarter
of 2000. Accordingly, monitoring and communication with borrowers and
vendors is ongoing.
The Bank has also made initial assessments of its liquidity position in
relation to the Year 2000 impact on large depositors and the deposit base in
general. The Bank is monitoring its liquidity position on a daily basis and
projects expected cash need through the subsequent 90 days in order to avoid
any Year 2000 liquidity related issues.
The renovation phase involves making the necessary information technology and
non-information technology changes and upgrades necessary to be Year 2000
compliant. The Bank has substantially completed this phase.
The risk to Fallbrook National Bank resulting from the failure of third
parties in the public and private sector to attain Year 2000 readiness is the
same as other firms in the Banking industry and other business enterprises
generally. The Bank is presently unable to assess the likelihood that the
Bank will experience significant operational problems due to unresolved Year
2000 problems of third parties that do business with the Bank. Although the
Bank has not been put on notice that any known third-party problem will not
be timely resolved, the Bank has limited information and no assurance of
additional information concerning the Year 2000 readiness of third parties.
The resulting risks to the Bank's business are very difficult to assess due
to the large number of variables involved. If third parties fail to achieve
year 2000 compliance, Year 2000 problems could have a material impact on the
Bank's operations. Similarly, there can be no assurance that the Bank can
timely mitigate its risks related to a supplier's failure to resolve its Year
2000 issues. If such mitigation is not achievable, Year 2000 problems could
have a material impact on the Bank's operations.
The validation phase is the testing phase. The Bank uses a third party data
processing vendor whose software is Year 2000 compliant. The Bank's testing
of mission critical systems was completed by March 31, 1999. As a part of
the validation phase, the Bank has prepared a contingency plan for each
critical system and product used by the Bank. The contingency plan describes
how the Bank will resume normal business operations if remediated systems do
not perform as planned either before or after the century date change.
Additionally, manual procedures for each mission critical function were
substantially in place by June 30, 1999. The business resumption portion of
the contingency plan was validated according to Federal Financial
Institutions Examination Council ("FFIEC") requirements. The methodology for
the validation was in place as of June 30, 1999 and the testing of the
contingency plan was completed by September 30, 1999.
Based on its current assessments and remediation plans, which are based in
part on certain representations of third-party service providers, the Bank
does not expect that it will experience a significant disruption of its
operations as a result of the rollover to the Year 2000. Although the Bank
has no reason to conclude that a failure will occur, the most likely
worst-case Year 2000 scenario would involve a disruption or failure of its
power supply or voice and data transmission suppliers, a computer system, a
third-party service provider, or a facility. If such a failure were to
occur, the Bank would implement its contingency plan. While it is impossible
to quantify the impact of such a scenario, the most reasonably likely
worst-case scenario would involve a diminishment of service levels, some
customer inconvenience, and additional costs from the contingency plan
implementation, which are not currently estimable. While the Bank has
contingency plans to address a temporary disruption in these services, there
can be no assurance that any disruption or failure will be only temporary,
that the contingency plan will function as anticipated, or that the Bank's
results of operations will not be adversely effected in the event of a
prolonged disruption or failure.
20
<PAGE>
The implementation phase introduces system changes into an operating
environment. Once tested, Year 2000 compliant systems are ready to be
introduced into the Bank's operating environment. This phase is
substantially complete.
The Bank projects that total Year 2000 expenditures during 1999 will be
approximately $60,000, $40,000 of which has been spent during the nine months
ended September 30, 1999. In 1998, the Bank allocated approximately $421,000
for technology-related initiatives, which had the effect of reducing its
current cost of Year 2000 readiness. The Bank's estimates of the costs of
achieving Year 2000 compliance and the day by which Year 2000 compliance will
be achieved are based on management's best estimates, which were derived
using numerous assumptions about future events including the continued
availability of certain resources, third-party modification plans and other
factors. However, there can be no assurance that these estimates will be
achieved, and actual results could differ materially from these estimates.
Specific factors that might cause such material differences include, but are
not limited to, the availability and cost of personnel trained in Year 2000
remediation work, the ability to locate and correct all affected computer
systems, the success achieved by the Bank's suppliers in reaching Year 2000
readiness, and the timely availability of necessary replacement items and
similar uncertainties. While the Year 2000 costs estimated above include
additional costs to the Bank's operations, the Bank believes, based on
available information, that it will be able to manage its total Year 2000
transition with any material adverse effect on its business operations,
products or financial prospects.
At this time, based on the assessments and testing to date, the Bank does not
foresee any Year 2000 issues that would materially impair the Bank's ability
to conduct business. There can, however, be no assurance that the FFIEC or
other federal regulators will not issue new regulatory requirements that
require additional work by the Bank and, if issued, that new regulatory
requirements will not increase the cost or delay the completion of the Year
2000 project.
CASH DIVIDENDS
The Bank declared a $.05 per share cash dividend in the first and second
quarter of 1998, payable on April 1, 1998 with a record date of March 16,
1998 and payable July 1, 1998 with a record date of June 14, 1998. Effective
with the third quarter of 1998, the Bank ceased paying cash dividends in
favor of retaining earnings to support future growth. The Bank declared a
stock dividend to shareholders of record as of November 30, 1998 which was
paid on December 11, 1998. The Company declared a 5% stock dividend on
November 1, 1999 to shareholders of record as of November 15, 1999, payable
on November 30, 1999.
It is anticipated that the Company will continue the policy of paying
stock dividends from time to time.
PART II OTHER INFORMATION
ITEM 1 LEGAL PROCEEDINGS
The Company's wholly owned subsidiary, Fallbrook National Bank, has been
subject to a lawsuit by a former employee alleging, amongst other things,
breach of contract and fraud. Trial commenced on July 19, 1999, with the
Jury rendering a verdict on August 2nd, 1999. The Jury awarded compensatory
damages of approximately $65,000, punitive damages of $750,000, court costs
and legal fees. On October 26, 1999, the Riverside County Superior Court
ordered a new trial on punitive damages only unless the plaintiff consented
to a reduction of the punitive damage verdict to $250,000. On November 4,
1999, the plaintiff consented to the punitive damage verdict of $250,000.
The Company now anticipates appealing the judgement even though reduced in
amount. During the nine months ended September 30, 1999, the Company accrued
$298,000 in connection with this verdict. Because of the nature of its
activities, the Company is at all times subject to pending and threatened
legal actions which arise out of the normal course of its business. The
Company is not aware of any pending or threatened legal actions other than
that stated above.
ITEM 2 CHANGES IN SECURITIES
None to report.
ITEM 3 DEFAULTS UPON SENIOR SECURITIES
None to report.
ITEM 4 SUBMISSION OF MATTERS TO SECURITY HOLDERS
None to report.
ITEM 5 OTHER INFORMATION
None to report.
21
<PAGE>
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS
EXHIBIT NO. EXHIBIT
- ----------- -------
27 Financial Data Schedule
(b) REPORTS ON FORM 8-K
On August 4, 1999, the Company filed an 8-K Report pursuant to Item 5 of such
Form. The Report concerned the litigation matter described in Note 4 to the
Financial Statements. The Company subsequently filed an additional 8-K
Report during the fourth quarter of 1999 as there were additional
developments in connection with such litigation.
22
<PAGE>
SIGNATURES
Pursuant to the requirements of the Exchange Act, the registrant has
duly caused this report to be signed on its be half by the undersigned
thereunto duly authorized.
Community Bancorp Inc.
----------------------
(Registrant)
Date November 12, 1999 /s/ Thomas E. Swanson
----------------- ---------------------
Thomas E. Swanson
President and Chief Executive Officer
Date November 12, 1999 /s/ L. Bruce Mills, Jr.
----------------- -----------------------
L. Bruce Mills, Jr.
Sr. Vice President, Chief Financial Officer
23
<PAGE>
EXHIBIT INDEX
EXHIBIT NO. EXHIBIT
- ----------- -------
27 Financial Data Schedule
24
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 7,178
<INT-BEARING-DEPOSITS> 800
<FED-FUNDS-SOLD> 6,105
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 0
<INVESTMENTS-CARRYING> 6,897
<INVESTMENTS-MARKET> 6,799
<LOANS> 127,715
<ALLOWANCE> (1,357)
<TOTAL-ASSETS> 155,696
<DEPOSITS> 140,053
<SHORT-TERM> 0
<LIABILITIES-OTHER> 1,195
<LONG-TERM> 4,022
0
0
<COMMON> 10,426
<OTHER-SE> 0
<TOTAL-LIABILITIES-AND-EQUITY> 155,696
<INTEREST-LOAN> 8,874
<INTEREST-INVEST> 613
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 9,487
<INTEREST-DEPOSIT> 2,875
<INTEREST-EXPENSE> 3,013
<INTEREST-INCOME-NET> 6,474
<LOAN-LOSSES> 385
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 8,453
<INCOME-PRETAX> 1,183
<INCOME-PRE-EXTRAORDINARY> 1,183
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 695
<EPS-BASIC> 0.30
<EPS-DILUTED> 0.30
<YIELD-ACTUAL> 9.48
<LOANS-NON> 1,777
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 992
<CHARGE-OFFS> 24
<RECOVERIES> 3
<ALLOWANCE-CLOSE> 1,357
<ALLOWANCE-DOMESTIC> 1,357
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
