<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
------------
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 2000
-------------------------------------------------
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______________ to _________________
Commission file number 0-30777
---------
PACIFIC MERCANTILE BANCORP
-------------------------------------
(Exact name of Registrant as specified in its charter)
CALIFORNIA 33-0898238
----------------------------------------- --------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
450 NEWPORT CENTER DRIVE, SUITE 100, 92660
NEWPORT BEACH, CALIFORNIA
----------------------------------------- --------------------------------
(Address of principal executive offices) (Zip Code)
(949) 644-8040
------------------
(Registrant's telephone number, including area code)
Not Applicable
----------------------
(Former name, former address and former fiscal year,
if changed, since last year)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports); and (2) has been subject to such
filing requirements for the past 90 days.
YES X . NO ____.
---
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
6,332,020 shares of Common Stock as of October 31, 2000
<PAGE>
PACIFIC MERCANTILE BANCORP
QUARTERLY REPORT ON FORM 10Q
FOR
THE QUARTER ENDED SEPTEMBER 30, 2000
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page No.
-------
<S> <C>
Part I. Financial Information
Item 1. Financial Statements....................................................................... 3
Consolidated Statements of Financial Condition
September 30, 2000 and December 31, 1999................................................... 3
Consolidated Statements of Operations
Three months and nine months ended September 30, 2000 and 1999............................. 4
Consolidated Statements of Comprehensive Income (Loss)
Three months and nine months ended September 30, 2000 and 1999............................. 5
Consolidated Statements of Cash Flows
Three months and nine months ended September 30, 2000 and 1999............................. 6
Notes to Consolidated Financial Statements................................................. 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...... 9
Item 3. Market Risk................................................................................ 16
Forward Looking Statements and Uncertainties Regarding Future Performance........................... 16
Part II. Other Information................................................................................... 17
Item 2. Changes in Securities and Use of Proceeds.................................................. 17
Item 6. Exhibits and Reports on Form 8-K........................................................... 17
Signatures
Exhibit Index
Exhibit 27 Financial Data Schedule
</TABLE>
2
<PAGE>
PART I -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PACIFIC MERCANTILE BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
<TABLE>
<CAPTION>
September 30, December 31,
2000 1999
(Unaudited)
-------------- -------------
<S> <C> <C>
ASSETS
Cash and due from banks $ 6,917,100 $ 2,531,200
Federal funds sold 45,670,000 35,967,000
------------- -------------
Cash and cash equivalents 52,587,100 38,498,200
Interest earning deposits with 1,188,000 1,386,000
financial institutions
Securities available for sale, at fair value 4,525,300 2,668,800
Loans held for sale, at lower of cost or market 8,461,900 2,700,000
Loans, net 81,966,000 44,343,200
Accrued interest receivable 662,300 221,100
Premises and equipment, net 1,320,500 1,178,300
Other assets 413,900 169,800
------------- -------------
Total Assets $ 151,125,000 $ 91,165,400
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits:
Noninterest-bearing $ 35,314,600 $ 16,607,800
Interest-bearing 79,403,800 57,892,400
------------- -------------
Total deposits 114,718,400 74,500,200
Accrued interest payable 75,100 51,600
Security sold under agreement to repurchase 1,296,500 --
Other liabilities 715,900 595,200
------------- -------------
Total liabilities 116,805,900 75,147,000
------------- -------------
Commitments and contingencies (Note 2) -- --
Stockholders' equity:
Preferred stock, no par value,
2,000,000 shares authorized; none issued -- --
Common stock, no par value, 10,000,000
shares authorized; 6,332,020 and 3,720,162 shares issued
and outstanding September 30, 2000 and December 31,
1999, respectively 37,575,400 19,019,200
Accumulated deficit (3,253,000) (2,992,400)
Accumulated other comprehensive loss, net (3,300) (8,400)
------------- -------------
Total stockholders' equity 34,319,100 16,018,400
------------- -------------
Total Liabilities and Stockholders' Equity $ 151,125,000 $ 91,165,400
============= =============
</TABLE>
3
<PAGE>
Part I. Item 1. (continued)
PACIFIC MERCANTILE BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------------------------------------------------------------------------------------------------------------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Interest income:
Loans, including fees $ 1,974,500 $ 198,200 $ 4,929,400 $ 274,900
Federal funds sold 656,100 391,000 1,491,900 724,300
Securities available for sale 82,200 10,500 169,100 15,500
Interest earning deposits with financial institutions 19,000 14,900 57,300 25,000
Other - 37,000 - 64,100
-----------------------------------------------------------
Total interest income 2,731,800 651,600 6,647,700 1,103,800
-----------------------------------------------------------
Interest expense:
Deposits 906,300 291,400 2,479,000 496,500
Other borrowings 14,800 - 14,800 1,100
-----------------------------------------------------------
Total interest expense 921,100 291,400 2,493,800 497,600
-----------------------------------------------------------
Net interest income 1,810,700 360,200 4,153,900 606,200
Provision for loan losses 100,000 130,000 300,000 250,000
-----------------------------------------------------------
Net interest income after provision for loan losses 1,710,700 230,200 3,853,900 356,200
-----------------------------------------------------------
Noninterest income:
Service charges and fees 44,700 2,200 97,100 4,900
Mortgage banking 150,800 33,300 472,100 33,300
Other 14,000 4,100 102,800 4,500
-----------------------------------------------------------
Total noninterest income 209,500 39,600 672,000 42,700
-----------------------------------------------------------
Noninterest expense:
Salaries and employee benefits 880,100 496,900 2,647,600 990,500
Occupancy expense 146,900 82,700 418,900 209,100
Equipment expense 107,100 58,800 316,800 101,500
Professional fees 184,900 129,300 491,100 226,200
Other operating expense 382,500 206,900 909,700 429,500
-----------------------------------------------------------
Total noninterest expense 1,701,500 974,600 4,784,100 1,956,800
-----------------------------------------------------------
Income (loss) before income taxes 218,700 (704,800) (258,200) (1,557,900)
Income tax expense 1,600 - 2,400 800
-----------------------------------------------------------
Net income (loss) $ 217,100 $ (704,800) $ (260,600) $ (1,558,700)
===========================================================
Weighted average number of shares outstanding 6,321,102 2,103,705 4,684,720 2,095,034
===========================================================
Net income (loss) per share $ 0.03 $ (0.34) $ (0.06) $ (0.74)
===========================================================
</TABLE>
4
<PAGE>
Part I. Item 1. (continued)
PACIFIC MERCANTILE BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
<TABLE>
<CAPTION>
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
-----------------------------------------------------------------------------------------------------------------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net income (loss) $ 217,100 $ (704,800) $ (260,600) $ (1,558,700)
Other comprehensive income (loss), net of tax:
Unrealized gain (loss) on securities available for
sale,net of tax effect 6,700 (2,200) 5,100 (2,200)
-----------------------------------------------------------------------------------------------------------------
Total comprehensive income (loss) $ 223,800 $ (707,000) $ (255,500) $ (1,560,900)
=================================================================================================================
</TABLE>
5
<PAGE>
Part I. Item 1. (continued)
PACIFIC MERCANTILE BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
Nine months ended
September 30,
------------------------------------------------------------------------------------------------------------------------------
2000 1999
-------------- ------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (260,600) $ (1,558,700)
Adjustments to reconcile net loss to net cash used
in operating activities:
Depreciation and amortization 304,100 118,600
Provision for loan losses 300,000 250,000
Net amortization (accretion) premiums (discounts) on investment securities 3,900 (500)
Net loss on sale of equipment 2,200 -
Net change in accrued interest receivable (441,200) (111,700)
Net change in other assets (244,100) (173,900)
Net change in accrued interest payable 23,500 37,000
Net change in other liabilities 120,700 153,600
------------------------------------------------------------------------------------------------------------------------------
Net cash used in operating activities (191,500) (1,285,600)
------------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES
Net decrease (increase) in interest earning deposits with financial 198,000 (1,386,000)
institutions
Proceeds from maturities of securities available for sale 750,000 -
Purchase of securities available for sale (2,605,300) (2,490,800)
Net increase in loans held for sale (5,761,900) (2,723,400)
Net increase in loans (37,922,800) (14,188,000)
Proceeds from sale of premises and equipment 10,300 -
Purchase of premises and equipment (458,800) (1,024,700)
------------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (45,790,500) (21,812,900)
------------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in deposits 40,218,200 43,651,600
Net increase in security sold under agreement to repurchase 1,296,500 -
Proceeds from sale of common stock, net of offering expenses 18,555,200 16,307,400
Proceeds from exercise of stock options 1,000 -
Repayment of advances from founders - (470,000)
------------------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 60,070,900 59,489,000
------------------------------------------------------------------------------------------------------------------------------
Increase in cash and cash equivalents 14,088,900 36,390,500
Cash and cash equivalents, beginning of period 38,498,200 177,300
------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of period $ 52,587,100 $ 36,567,800
==============================================================================================================================
SUPPLEMENTAL DISCLOSURE OF NONCASH TRANSACTIONS
Unrealized (gain) loss on investment securities, available-for-sale, net of tax $ (5,100) $ 2,200
Cash paid for interest on deposits and other borrowings $ 2,538,000 $ 460,600
Cash paid for income taxes $ 2,400 $ 800
</TABLE>
6
<PAGE>
PACIFIC MERCANTILE BANCORP AND SUBSIDIARY
Notes to Consolidated Financial Statements
(Unaudited)
1. Nature of Business and Significant Accounting Policies
Organization
The accompanying unaudited consolidated financial statements have been
prepared in accordance with the instructions to Form 10-Q and, therefore, do not
include all footnotes as would be necessary for a fair presentation of financial
position, results of operations, changes in cash flows and comprehensive income
(loss) in conformity with generally accepted accounting principles. However,
these interim financial statements reflect all normal recurring adjustments
which, in the opinion of the management, are necessary for a fair presentation
of the results for the interim periods presented. All such adjustments were of a
normal recurring nature. The financial position at September 30, 2000, and the
results of operations for the nine month period ended September 30, 2000 are not
necessarily indicative of the results of operations that may be expected for any
other interim period or for the full year ending December 31, 2000. These
unaudited consolidated financial statements have been prepared in accordance
with generally accepted accounting principles on a basis consistent with the
Company's audited financial statements, and these interim financial statements
should be read in conjunction with the Company's audited financial statements as
of and for the year ended December 31, 1999 and the notes thereto included in
the Company's Registration Statement on Form S-1 filed under the Securities Act
of 1933, as amended, as such Registration Statement was declared effective on
June 14, 2000.
The consolidated financial statements include the accounts of Pacific
Mercantile Bancorp and its wholly owned subsidiary Pacific Mercantile Bank
(which together shall be referred to as the "Company"). The Company is a bank
holding company which was incorporated on January 7, 2000 in the State of
California. Pacific Mercantile Bank (the "Bank") is a banking company which was
formed on May 29, 1998, incorporated November 18, 1998 in the State of
California and commenced operations on March 1, 1999. The Bank is chartered by
the California Department of Financial Institutions (the "DFI") and is a member
of the Federal Reserve Bank of San Francisco ("FRB"). In addition, its
customers' deposit accounts are insured by the Federal Deposit Insurance
Corporation ("FDIC").
On June 12, 2000 the Company acquired the Bank by means of a merger as
a result of which the Bank became a wholly-owned subsidiary of the Company and
the Bank's shareholders became the Company's shareholders, owning the same
number and percentage of the Company's shares as they had owned in the Bank (the
"Reorganization"). Prior to the Reorganization, the Company had only nominal
assets and had not conducted any business. All financial information included
herein has been restated as if the Reorganization was effective for all periods
presented. Additionally, the number of common shares outstanding gives
retroactive effect to a two-for-one stock split of the Bank's outstanding shares
that became effective on April 14, 2000.
Use of Estimates
The preparation of the financial statements in conformity with
generally accepted accounting principles requires management to make certain
estimates and assumptions that affect the reported amounts of assets,
liabilities, and contingencies 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.
Loans
At September 30, 2000, the Company had no nonaccrual, impaired, or
restructured loans and had $74,000 of loans with principal more than 90 days
past due that were still accruing interest.
7
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Cont.-)
Income (Loss) Per Share
Basic income (loss) per share for each of the periods presented was
computed by dividing the net income (loss) by the weighted average number of
shares of common stock outstanding during each such period. The weighted average
number of shares used in the loss per share computation for the nine month
periods ended September 30, 2000 and 1999 was 4,684,720 and 2,095,034,
respectively. The weighted average number of shares used in the income (loss)
per share computation for the three months ended September 30, 2000 and 1999 was
6,321,102 and 2,103,705, respectively. The Company's common stock equivalents
are anti-dilutive for both the three months and the nine months ended September
30, 2000 and 1999, respectively, and are therefore, not included in the income
(loss) per share calculations.
Comprehensive Income (Loss)
Components of comprehensive income (loss) include non-ownership related
revenues, expenses, gains, and losses that under generally accepted accounting
principles are included in equity but excluded from net income.
Recent Accounting Pronouncements
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" which was subsequently amended by SFAS No.
137 and SFAS No. 138. SFAS No. 137 and SFAS No. 138 defer the effective date of
the pronouncement from fiscal years beginning June 15, 1999 to fiscal years
beginning June 30, 2000 and amend the reporting and accounting standards for
derivative instruments and for hedging activities. SFAS No. 133 requires
companies to record derivatives on the balance sheet as assets or liabilities,
measured at fair value. Gains or losses resulting from changes in the values of
those derivatives would be accounted for depending on the purpose of the
derivative and whether it qualifies for hedge accounting. The key criterion for
hedge accounting is that the hedging relationship must be highly effective in
achieving offsetting changes in fair value or cash flows. Management believes
that the adoption of SFAS No. 133, SFAS No. 137, and SFAS No. 138 will not have
a material impact on the Company's results of operations or financial condition.
2. Commitments and Contingencies
In order to meet the financing needs of its customers in the normal
course of business, the Company is party to financial instruments with
off-balance sheet risk. These financial instruments include commitments to
extend credit and standby letters of credit. These instruments involve, to
varying degrees, elements of credit and interest rate risk in excess of the
amount recognized in the consolidated financial statements. At September 30,
2000, the Company was committed to fund certain loans amounting to approximately
$30,446,000. The Company uses the same credit policies in making commitments and
conditional obligations as it does for on-balance sheet instruments. Commitments
generally have fixed expiration dates; however, since many of the commitments
are expected to expire without being drawn upon, the total commitment amounts do
not necessarily represent future cash requirements. The Company evaluates each
customer's creditworthiness on a case-by-case basis. The amount of collateral
obtained if deemed necessary by the Company upon an extension of credit is based
on management's credit evaluation of the customer. Collateral held varies, but
may include accounts receivable, inventory, property, plant and equipment,
residential real estate and income-producing commercial properties.
The Company and the Bank are subject to legal actions normally
associated with financial institutions. At September 30, 2000, neither the
Company nor the Bank had any pending contingencies that would be material to the
consolidated financial condition or results of operations of the Company.
8
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Overview
Background. The following discussion presents information about the
consolidated results of operations, financial condition, liquidity and capital
resources of the Company and the Bank, which is a wholly-owned subsidiary of the
Company. Substantially all of the Company's operations are conducted by the Bank
and the Bank accounts for substantially all of the Company's revenues. This
information should be read in conjunction with the Company's quarterly unaudited
consolidated financial statements and notes thereto contained earlier in this
Report.
Although the Company was not incorporated until January 7, 2000 and did
not conduct any business operations until June 12, 2000, when it acquired 100%
ownership of the Bank, for accounting purposes the inception of the Company is
deemed to have occurred on May 29, 1998, the date when the organizers of the
Bank established an organizing committee to file necessary applications for
regulatory approvals and begin preparations for the opening of the Bank.
Pursuant to those regulatory approvals, the Bank was incorporated in November
1998 and it received its charter, completed the initial issuance and sale of its
shares and commenced banking operations on March 1, 1999. As a result, prior to
March 1, 1999, the Bank had no shares outstanding and had generated no revenues
from operations.
The second quarter ended June 30, 1999 was our first quarter of
operations; and during the nine months of 1999, we had only seven months of
operations, from March 1, 1999 to September 30, 1999, when our operating results
were adversely affected by non-recurring organizational and start-up expenses.
As a result, readers of this Report are cautioned that comparisons of the three
month and nine month periods ended September 30, 2000 to the corresponding
periods of 1999 are of limited usefulness.
This Report also contains information regarding operating trends and
expectations regarding our future performance (which is referred to as
"forward-looking information"). That information is subject to the uncertainties
and risks described below in the Section of this Report entitled "Forward
Looking Information and Uncertainties Regarding Future Performance" and readers
of this Report are urged to read that Section in its entirety.
Overview of Recent Operating Results. We generated net income of
$217,100, or $0.03 per share, for the third quarter of 2000 as compared to a net
loss of $704,800 for the third quarter of 1999. This improvement was due largely
to increases in interest income and non-interest (largely fee) income that were
primarily attributable to the increases we achieved in the volume of our loans
and other interest-earning assets and the expansion of our mortgage loan
operations. On a per share basis, we generated earnings of $0.03 in the third
quarter of 2000, as compared to a loss of $0.34 in the same quarter of 1999.
Those per share figures are based on weighted-average shares outstanding of
6,321,102 in the third quarter of 2000, as compared to 2,103,705 during the same
quarter of 1999, an increase that was due to the completion of a public offering
in June 2000 in which we sold a total of 2,611,608 shares.
Operating results also improved significantly for the nine months ended
September 30, 2000. During that period, the Company incurred a net loss of
$260,600 or $0.06 per share, as compared to a net loss of $1,558,700 or $0.74
per share for the same period of 1999. However, since the Company commenced
operations in March of 1999, operating results for the nine months ended
September 30, 1999 included only seven months of business operations, as
compared to nine full months of business operations in 2000. Set forth below are
key financial performance ratios for the periods indicated:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------------------------------------------------------------------------------------------------------
2000 1999 2000 1999
------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Return on average assets (1) 0.60% (6.16)% (0.27)% (7.50)%
Return on average shareholders' equity (1) 2.56% (40.06)% (1.57)% (36.43)%
Net interest margin 4.95% 3.15% 4.41 % 2.92 %
Income (loss) per share $ 0.03 $ (0.34) $ (0.06) $ (0.74)
</TABLE>
____________
(1) Annualized
<PAGE>
Results of Operations
Net Interest Income. Net interest income, the major source of our
operating income, represents the difference between interest earned on
interest-earning assets and the interest paid on interest-bearing liabilities.
Net interest income, when expressed as a percentage of total average interest
earning assets, is referred to as "net interest margin."
We generated net interest income of $1,810,700 and $4,153,900,
respectively, in the quarter and nine months ended September 30, 2000. This
compares to net interest income of $360,200 and $606,200, for the corresponding
quarter and nine months of 1999. These increases in net interest income were
largely attributable to increases in interest income of $2,080,200 and
$5,543,900, respectively in the quarter and nine months ended September 30,
2000, which more than offset increases in our interest expense in those same
periods of $629,700 and $1,996,200, respectively. Those increases in interest
income were largely attributable to increases of $79,373,800 and $73,162,400,
respectively, in our average loan volume for those two periods, which generated
$1,776,300 and $4,654,500 of additional interest income for us in the quarter
and nine months ended September 30, 2000 as compared to the same periods of
1999. The increases in interest expense were primarily attributable to increases
of $54,823,600 and $53,919,200, respectively, in the average volume of our
interest-bearing deposits during the quarter and nine months ended September 30,
2000, compared to the corresponding periods of 1999. Our net interest margin for
the quarter and nine months ended September 30, 2000 improved to 4.95% and
4.41%, respectively, as compared to 3.15% and 2.92%, respectively, for the
corresponding periods of 1999. Those improvements were largely attributable to
the changes in the mix of earning assets to a greater proportion of loans on
which we earn higher rates of interest than on other interest earning assets.
Noninterest Income. Noninterest income consists of service charges on
deposit accounts, mortgage banking income and other noninterest income.
Noninterest income for the quarter and nine months ended September 30, 2000
consisted primarily of loan origination and processing fees and yield spread
premium generated by the mortgage banking division which originates conforming
and non-conforming, agency quality, residential first and home equity mortgage
loans. This division commenced operations in August 1999 and, therefore, a
comparison of noninterest income for the first nine months of 2000 to
noninterest income for the same period of 1999 is not meaningful.
Noninterest Expense. Total noninterest expense for the quarter and nine
months ended September 30, 2000 were $1,701,500 and $4,784,100, respectively, as
compared to $974,600 and $1,956,800, respectively, for the corresponding periods
of 1999. Salaries and employee benefits are the largest components of
noninterest expense and the increases in noninterest expense in the first nine
months of 2000 were attributable primarily to the addition of experienced
banking personnel required to meet the needs of our growing customer base. Other
operating expense primarily consisted of stationary and supplies, advertising
and messenger services, data processing, and check charges for customers. For
the quarters ended September 30, 2000 and 1999, annualized noninterest expense
as a percentage of average assets was 4.65% and 8.51%, respectively.
Financial Condition
Assets. Assets totaled $151,125,000 at September 30, 2000, as compared
to $91,165,400 at December 31, 1999. The increase is largely attributable to
increases in the volume of loans made during the nine months ended September 30,
2000.
Loans Held for Sale. Loans intended for sale in the secondary market
totaled $8,461,900 at September 30, 2000 and $2,700,000 at December 31, 1999.
This increase was attributable primarily to the purchase of $9,370,800 of
residential mortgage loans from an unrelated mortgage banking company during
January 2000, some of which have been subsequently sold, as well as a $4,185,200
increase in outstanding loans attributable to the activities of our mortgage
banking division. The purchased loans are carried at the lower of cost or
estimated fair value in the aggregate. Net unrealized losses, if any, are
recognized through a valuation allowance by charges to income.
Loans. Loans outstanding at December 31, 1999 and September 30, 2000
were made to customers in Southern California, the primary market areas being
Orange and Los Angeles Counties. The greatest concentration was in real estate
loans and commercial loans, which represent 59% and 33%, respectively, of the
loan portfolio at September 30, 2000, as compared to 68% and 23%, respectively,
at December 31, 1999.
10
<PAGE>
The loan portfolio consisted of the following at September 30, 2000 and
December 31, 1999:
<TABLE>
<CAPTION>
September 30, December 31,
2000 Percent 1999 Percent
---------------------------------------------------------------------
<S> <C> <C> <C> <C>
Real estate loans $ 48,791,900 58.88% $ 30,653,600 68.07%
Commercial loans 27,137,500 32.75% 10,471,600 23.25%
Construction loans 3,232,000 3.90% 90,600 0.21%
Consumer loans 3,707,200 4.47% 3,815,200 8.47%
-------------- ------- -------------- -------
Gross loans 82,868,600 100.00% 45,031,000 100.00%
======= =======
Deferred fee income 142,900 62,200
Allowance for loan losses (1,045,500) (750,000)
-------------- --------------
Loans, net $ 81,966,000 $ 44,343,200
============== ==============
</TABLE>
The following table sets forth the maturity distribution of the Bank's loan
portfolio (excluding consumer loans) at September 30, 2000:
<TABLE>
<CAPTION>
Over One
Year
One Year Through Over Five
or Less Five Years Years Total
------- ---------- ----- -----
<S> <C> <C> <C> <C>
Real estate loans
Floating rate $ 7,476,700 $ 2,608,200 $ 35,386,900 $ 45,471,800
Fixed rate -- 1,863,000 1,457,100 3,320,100
Commercial loans
Floating rate 18,962,300 4,523,900 112,900 23,599,100
Fixed rate 516,500 2,361,500 660,400 3,538,400
Construction loans
Floating rate 2,279,600 -- -- 2,279,600
Fixed rate 952,400 -- -- 952,400
-------------- ------------- ------------- --------------
Total $ 30,187,500 $ 11,356,600 $ 37,617,300 $ 79,161,400
============== ============= ============= ==============
</TABLE>
Allowance for Loan Losses. The risk that borrowers will fail or be unable
to repay their loans is an inherent part of the banking business. In order to
recognize on a timely basis, to the extent practicable, losses that can result
from such failures, banks establish an allowance for loan losses by means of
periodic charges to income known as "provisions for loan losses." Loans are
charged against the allowance for loan losses when management believes that
collection of the carrying amount of the loan, either in whole or in part, has
become unlikely. Periodic additions are made to the allowance (i) to replenish
and thereby maintain the adequacy of the allowance following the occurrence of
loan losses, and (ii) to increase the allowance in response to increases in the
volume of outstanding loans and deterioration in economic conditions or in the
financial condition of borrowers. The Bank evaluates the adequacy of and makes
provisions in order to maintain or increase the allowance for loan losses on a
quarterly basis. As a result, provisions for loan losses will normally represent
a recurring expense.
The allowance for loan losses at December 31, 1999 was $750,000, which
represented 1.6% of outstanding loans at that date. At September 30, 2000, the
allowance had been increased to $1,045,500, which represented 1.1% of
outstanding loans as of that date. The Bank carefully monitors changing economic
conditions, the loan portfolio by category, borrowers' financial condition and
the history of the portfolio in determining the adequacy of the allowance for
loan losses. We are not currently aware of any information indicating that there
will be material deterioration in our loan portfolio, and we believe that the
allowance for loan losses at September 30, 2000 is adequate to provide for
losses inherent in the portfolio. However, the allowance was established on the
basis of estimates developed primarily from historical industry loan loss data
because the Bank commenced operations in March 1999 and lacks historical data
relating to the performance of loans in its loan portfolio. As a result,
ultimate losses may vary from the estimates used to establish the allowance.
Additionally, as the volume of loans increases, additional provisions for loan
losses will be required to maintain the allowance at levels deemed adequate. In
addition, if economic conditions were to deteriorate, it would become necessary
to increase the provision to an even greater extent.
11
<PAGE>
We also evaluate loans for impairment, where principal and interest is
not expected to be collected in accordance with the contractual terms of the
loan agreement. We measure and reserve for impairment on a loan by loan basis
using either the present value of expected future cash flows discounted at the
loan's effective interest rate, or the fair value of the collateral if the loan
is collateral dependent. As of September 30, 2000, we had no loans classified as
impaired. We exclude from our impairment calculations smaller, homogeneous loans
such as consumer installment loans and lines of credit. Also, loans that
experience insignificant payment delays or payment shortfalls are generally not
considered impaired.
A summary of the transactions in the allowance for loan losses for the
nine months ended September 30, 2000 and the year ended December 31, 1999 is as
follows:
September 30, December 31,
2000 1999
----------------------------
Balance, beginning of period $ 750,000 $ --
Provision for loan losses 300,000 750,000
Recoveries -- --
Amounts charged off 4,500 --
----------------------------
Balance, end of period $1,045,500 $ 750,000
============================
Nonperforming Assets. There were no nonaccrual loans, restructured
loans or loans which were considered impaired at December 31, 1999 or September
30, 2000.
Deposits. At September 30, 2000 deposits totaled $114,718,400, which
included $21,607,000 of certificates of deposits of $100,000 or more. By
comparison, deposits at December 31, 1999, totaled $74,500,200, which included
$21,782,100 of certificates of deposit of $100,000 or more.
Set forth below is maturity schedule of domestic time certificates of
deposits outstanding at September 30, 2000:
<TABLE>
<CAPTION>
Certificates of Deposit Certificates of Deposit of
Maturities Under $100,000 $100,000 or more
------------------------------------- -------------- ----------------
<S> <C> <C>
Three Months or Less $ 1,144,000 $ 17,658,300
Over Three and though Six Months 1,189,300 1,791,100
Over Six through Twelve Months 1,316,800 1,670,100
Over Twelve Months 128,500 487,500
-------------- ----------------
Total $ 3,778,600 $ 21,607,000
============== ================
</TABLE>
Liquidity
The Company's liquidity needs are actively managed to insure sufficient
funds are available to meet the ongoing needs of the Bank's customers. The
Company projects the future sources and uses of funds and maintains sufficient
liquid funds for unanticipated events. The primary sources of funds include
payments on loans, the sale or maturity of investments and growth in deposits.
The primary uses of funds includes funding new loans, making advances on
existing lines of credit, purchasing investments, funding deposit withdrawals
and paying operating expenses. The Bank maintains funds in overnight federal
funds and other short-term investments to provide for short-term liquidity
needs.
12
<PAGE>
Cash flow from financing activities, primarily representing increases
in deposits and proceeds from the sale of common stock, totaled $60,070,900 for
the nine months ended September 30, 2000. Net cash used in operating activities,
primarily representing the net change in accrued interest receivable and other
assets, as well as, the net loss for the nine months ended September 30, 2000,
totaled $191,500. Net cash used in investing activities, primarily representing
increases in loans and loans held for sale, as well as purchases of investment
securities available for sale, totaled $45,790,500 for the nine months ended
September 30, 2000.
At September 30, 2000, liquid assets, which included cash and due from
banks, federal funds sold, interest earning deposits with financial institutions
and unpledged securities available for sale (excluding Federal Reserve Bank
stock) totaled $54,519,500 or 36% of total assets.
Investments and Investment Policy
The Bank's investment policy, as established by the Board of Directors,
is to provide for the liquidity needs of the Bank and to generate a favorable
return on investments without undue interest rate risk, credit risk or asset
concentrations.
The Bank is authorized to invest in obligations issued or fully
guaranteed by the United States government, certain federal agency obligations,
certain time deposits, certain municipal securities and federal funds sold. It
is our policy that there will be no trading account. The weighted-average
maturity of U.S. government obligations, federal agency securities and municipal
obligations cannot exceed five years. Time deposits must be placed with
federally insured financial institutions, cannot exceed $100,000 in any one
institution and may not have a maturity exceeding twenty-four months.
Securities available for sale are those that we intend to hold for an
indefinite period of time, but that may be sold in response to changes in
liquidity needs, changes in interest rates, changes in prepayment risks or other
similar factors. The securities are recorded at fair value, with unrealized
gains and losses excluded from earnings and reported as "Other Comprehensive
Income (Loss)."
The following is a summary of the major components of securities
available for sale and a comparison of the amortized cost, estimated fair values
and gross unrealized gains and losses as of September 30, 2000 and December 31,
1999:
<TABLE>
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Estimated
September 30, 2000 Cost Gains (Losses) Fair Value
---------------------------------------- ----------- ---------- ---------- -----------
<S> <C> <C> <C> <C>
Available-for-sale:
U.S. Treasury securities and obligations
of U.S. government agencies $ 3,706,900 $ -- $ (3,300) $ 3,703,600
Federal Reserve Bank Stock 821,700 -- -- 821,700
----------- ---------- ---------- -----------
Total $ 4,528,600 $ -- $ (3,300) $ 4,525,300
=========== ========== ========== ===========
Gross Gross
Amortized Unrealized Unrealized Estimated
December 31, 1999 Cost Gains (Losses) Fair Value
---------------------------------------- ----------- ---------- ---------- -----------
Available-for-sale:
U.S. Treasury securities and obligations
of US government agencies $ 2,242,000 $ -- $ (8,400) $ 2,233,600
Federal Reserve Bank Stock 435,200 -- -- 435,200
----------- ---------- ---------- -----------
Total $ 2,677,200 $ -- $ (8,400) $ 2,668,800
=========== ========== ========== ===========
</TABLE>
At September 30, 2000, U.S. government agency securities with a
carrying value of $748,500 were pledged to secure a discount line at the Federal
Reserve Bank. At September 30, 2000, the Company also had U.S. Treasury
securities with a carrying value of $2,210,700 that were pledged to secure a
repurchase agreement.
13
<PAGE>
The contractual maturities of debt securities at September 30, 2000
were between three and twelve months. The weighted-average yield is 6.33% for
securities maturing less than one year and 6.0% for Federal Reserve Bank stock.
Asset/Liability Management
The objective of asset/liability management is to reduce our exposure
to interest rate fluctuations. We seek to achieve this objective by matching
interest-rate sensitive assets and liabilities, and maintaining the maturity and
repricing of these assets and liabilities at appropriate levels given the
interest rate environment. Generally, if rate sensitive assets exceed rate
sensitive liabilities, the net interest income will be positively impacted
during a rising rate environment and negatively impacted during a declining rate
environment. When rate sensitive liabilities exceed rate sensitive assets, the
net interest income will generally be positively impacted during a declining
rate environment and negatively impacted during a rising rate environment.
However, because interest rates for different asset and liability products
offered by depository institutions respond differently to changes in the
interest rate environment, the gap is only a general indicator of interest rate
sensitivity.
The following table sets forth information concerning our rate
sensitive assets and rate sensitive liabilities as of September 30, 2000. The
assets and liabilities are classified by the earlier of maturity or repricing
date in accordance with their contractual terms. Certain shortcomings are
inherent in the method of analysis presented in the following table. For
example, although certain assets and liabilities may have similar maturities or
periods of repricing, they may react in different degrees and at different times
to changes in market interest rates. Rates on some assets and liabilities change
in advance of changes in market rates of interest, while rates on other assets
or liabilities may lag behind changes in market rates of interest. Also, loan
prepayments and early withdrawals of certificates of deposit could cause the
interest sensitivities to vary from those which appear in the table.
<TABLE>
<CAPTION>
Over Three Over One
Three Through Year Over Non-
Months Twelve Through Five Interest
or Less Months Five Years Years Bearing Total
--------------- -------------- ------------ ------------ ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
Assets
------
Interest earning deposits in
other financial institutions $ 99,000 $ 1,089,000 $ - $ - $ - $ 1,188,000
Securities available for sale - 3,703,600 - - - 3,703,600
Federal Reserve Bank stock - - - 821,700 - 821,700
Federal Funds Sold 45,670,000 - - - - 45,670,000
Loans, gross 69,674,500 9,778,100 9,011,100 3,009,700 - 91,473,400
Non-interest earning assets - - - - 8,268,300 8,268,300
--------------- -------------- ------------ ------------ ------------ -------------
Total assets 115,443,500 14,570,700 9,011,100 3,831,400 8,268,300 151,125,000
--------------- -------------- ------------ ------------ ------------ -------------
Liabilities and Stockholders'
-----------------------------
Equity:
------
Noninterest-bearing deposits - - - - 35,314,600 35,314,600
Interest-bearing deposits 72,820,500 5,967,300 616,000 - - 79,403,800
Repurchase agreements 1,296,500 - - - - 1,296,500
Other liabilities - - - - 791,000 791,000
Stockholders' equity - - - - 34,319,100 34,319,100
--------------- -------------- ------------ ------------ ------------ -------------
Total liabilities and
Stockholders' equity 74,117,000 5,967,300 616,000 - 70,424,700 151,125,000
--------------- -------------- ------------ ------------ ------------ -------------
Interest rate sensitivity gap $ 41,326,500 $ 8,603,400 $ 8,395,100 $ 3,831,400 $(62,156,400) $ -
=============== ============== ============ ============ ============ =============
Cumulative interest rate
Sensitivity gap $ 41,326,500 $ 49,929,900 $58,325,000 $62,156,400 $ - $ -
=============== ============== ============ ============ ============ =============
Cumulative % of rate sensitive
assets in maturity period 76.38% 86.03% 91.99% 94.53% 100.00%
=============== ============== ============ ============ ============
Rate sensitive assets to rate
sensitive liabilities 1.56 2.44 14.63 N/A N/A
=============== ============== ============ ============ ============
Cumulative ratio 1.56 1.62 1.72 1.77 N/A
=============== ============== ============ ============ ============
</TABLE>
14
<PAGE>
At September 30,2000, our rate sensitive balance sheet was shown to be
in a positive gap position. This implies that our earnings would increase in the
short-term if interest rates rise and would decline in the short-term if
interest rates were to fall. However, as noted above, this may not necessarily
be the case depending on how quickly rate sensitive assets and liabilities react
to interest rate changes.
Capital Resources
The Company and the Bank are subject to various regulatory capital
requirements administered by federal and state banking agencies. Failure to meet
minimum capital requirements can lead to certain mandatory and possible
additional discretionary actions by regulators that, if undertaken, could have a
direct material effect on the Company's operating results or financial
condition. Under capital adequacy guidelines and the regulatory framework for
prompt corrective action that apply to all bank holding companies and FDIC
insured banks in the United States, the Company (on a consolidated basis) and
the Bank must meet specific capital guidelines that involve quantitative
measures of assets, liabilities, and certain off-balance sheet items as
calculated under regulatory accounting practices. The Company's capital amounts
and classifications 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 (on a consolidated basis) and the Bank to maintain
minimum amounts and ratios of total and Tier I capital (as defined in the
regulations) to risk-weighted assets (as defined), and of Tier I capital (as
defined) to average assets (as defined). Management believes that, as of
September 30, 2000, the Company (on a consolidated basis) and the Bank met all
capital adequacy requirements to which they are subject.
On March 1, 1999, the Bank sold 2,090,628 shares of its common stock
for approximately $8,298,300 in an initial public offering, net of approximately
$64,200 in related expense. In November 1999, the Bank completed a second common
stock offering in which it sold a total of 1,629,534 shares for approximately
$10,720,900, net of approximately $278,500 in related expenses. In June 2000,
the Company sold a total of 2,611,608 shares in its initial public offering from
which it realized proceeds of approximately $18,555,200, net of approximately
$2,337,700 in underwriting commissions and discounts and other related expenses.
As of September 30, 2000, based on applicable capital regulations, the
Bank is categorized as well capitalized under the regulatory framework for
prompt corrective action. To be categorized as well capitalized, the Bank must
maintain minimum total risk-based, Tier I risk-based and Tier I leverage ratios
as set forth in the following table. There are no conditions or events that
management believes have changed the institution's category.
The Bank's actual capital amounts and ratios as of September 30, 2000
are also presented in the following table:
<TABLE>
<CAPTION>
To be Well Capitalized
Under Prompt
For Capital Corrective Action
Actual Adequacy Purposes Provisions
-------------------- -------------------- -------------------------
Amount Ratio Amount Ratio Amount Ratio
----------- ----- ---------- ------ ----------- -------
<S> <C> <C> <C> <C> <C> <C>
Total Capital to Risk
Weighted Assets................ $28,600,500 24.2% $9,438,800 **8.0% $11,798,500 **10.0%
Tier I Capital to Risk
Weighted Assets................ 27,555,000 23.3% 4,719,400 **4.0% 7,079,100 **6.0%
Tier I Capital to
Average Assets................. 27,555,000 18.9% 5,848,400 **4.0% 7,310,500 **5.0%
</TABLE>
** Greater than or equal to
Set forth below are the Company's capital ratios, presented on a
consolidated basis, as of the dates indicated:
<TABLE>
<CAPTION>
September 30,
2000 1999
---- ----
<S> <C> <C>
Total Capital to Risk Weighted Assets 29.97% 59.06%
Tier I Capital to Risk Weighted Assets 29.08% 58.06%
Tier I Capital to Average Assets 23.47% 31.68%
</TABLE>
15
<PAGE>
The Company intends to retain earnings to support future growth and,
therefore, does not intend to pay dividends for at least the foreseeable future.
In addition, the Bank has agreed with the FDIC to maintain a Tier 1 Capital to
Average Assets ratio of at least eight percent until February 28, 2002.
ITEM 3. MARKET RISK
Market risk is the risk of loss to future earnings, to fair values of
assets or to future cash flows that may result from changes in the price or
value of a financial instrument. The value of a financial instrument may change
as a result of changes in interest rates and other market conditions. Market
risk is attributed to all market risk sensitive financial instruments, including
loans, investment securities, deposits and borrowings. We do not engage in
trading activities or participate in foreign currency transactions for our own
account. Accordingly, our exposure to market risk is primarily a function of our
asset and liability management activities and of changes in market rates of
interest. Changes in rates can cause or require increases in the rates we pay on
deposits that may take effect more rapidly or may be greater than the increases
in the interest rates we are able to charge on loans and the yields that we can
realize on our investments. The extent of that market risk depends on a number
of variables including the sensitivity to changes in market interest rates and
the maturities of our interest earning assets and our deposits. See
"Asset/Liability Management."
FORWARD LOOKING INFORMATION AND UNCERTAINTIES REGARDING FUTURE PERFORMANCE
This Report, including Management's Discussion and Analysis of
Financial Condition and Results of Operations, contains certain forward-looking
information, which reflects management's current views of future financial
performance. The forward-looking information is subject to certain risks and
uncertainties that include the following:
Increased Competition. Increased competition from other financial
institutions, mutual funds and securities brokerage and investment banking firms
that offer competitive loan and investment products could require us to reduce
interest rates and loan fees to attract new loans or to increase interest rates
that we offer on time deposits, either or both of which could, in turn, reduce
interest income and net interest margins.
Possible Adverse Changes in Local Economic Conditions. Adverse changes
in local economic conditions could (i) reduce loan demand which could, in turn,
reduce interest income and net interest margins; (ii) adversely affect the
financial capability of borrowers to meet their loan obligations which, in turn,
could result in increases in loan losses and require increases in provisions
made for possible loan losses, thereby adversely affecting operating results;
and (iii) lead to reductions in real property values that, due to our reliance
on real property to secure many of our loans, could make it more difficult for
us to prevent losses from being incurred on non-performing loans through the
sale of such real properties.
Possible Adverse Changes in National Economic Conditions and FRB
Monetary Policies. Changes in national economic conditions, such as increases in
inflation or declines in economic output often prompt changes in Federal Reserve
Board monetary policies that could increase the cost of funds to us and reduce
net interest margins, particularly if we are unable, due to competitive
pressures or the rate insensitivity of earning assets, to effectuate
commensurate increases in the rates we are able to charge on existing or new
loans.
Changes in Regulatory Policies. Changes of federal and state bank
regulatory policies, such as increases in capital requirements or in loan loss
reserve or asset/liability ratio requirements, could adversely affect earnings
by reducing yields on earning assets or increasing operating costs.
16
<PAGE>
Effects of Growth. It is our intention to take advantage of
opportunities to increase our business, either through acquisitions of other
banks or the establishment of new banking offices. If we do acquire any other
banks or open any additional banking offices we are likely to incur additional
operating costs that may adversely affect our operating results, at least on an
interim basis, until any acquired bank is integrated into our operations or the
new banking offices are able to achieve profitability.
Due to these and other possible uncertainties and risks, readers are
cautioned not to place undue reliance on the forward-looking statements, which
speak only as of the date of this Quarterly Report, or to make predictions based
solely on historical financial performance.
Readers of this Report are also urged to review the Section entitled
"Risk Factors" in the Prospectus dated June 14, 2000, included in our S-1
Registration Statement filed with the Securities and Exchange Commission under
the Securities Act of 1933, as amended.
PART II - OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
The Company sold a total of 2,611,608 shares of its common stock in its
initial public offering which commenced in June 2000. That offering was
registered on a Form S-1 Registration Statement (File No. 333-33452) filed by
the Company with the Securities and Exchange Commission under the Securities Act
of 1933. That Registration Statement was declared effective on June 14, 2000,
and 2,500,000 of the shares in the offering were sold on June 20, 2000 and the
other 111,608 shares were sold on July 10, 2000 pursuant to the underwriter's
overallotment option. The proceeds of the offering totaled $18,555,200, net of
underwriting discounts and other offering expenses which totaled approximately
$2,337,700. In the quarter ended June 30, 2000, the Company contributed
$11,854,500 of the net proceeds to the Bank to be used to fund new loans and the
acquisition of other interest earning assets. The remaining net proceeds have
been invested in short-term investment grade instruments and are available to
fund working capital requirements. These uses of the net proceeds do not
represent a material change from the uses thereof described in the Company's
Registration Statement.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27. Financial Data Schedule
(b) Reports filed on Form 8-K
The Company filed a Current Report on Form 8-K on October
23, 2000 to report that it had replaced Arthur Anderson LLP as its independent
public accountants with Grant Thornton LLP as its new independent public
accountants. The Current Report also stated, and it was confirmed in a letter
from Arthur Andersen LLP, that there had never been (i) any disagreements
between the Company and Arthur Andersen LLP on any matter of accounting
principles or practices, financial statement disclosure or auditing scope or
procedures or (ii) any "reportable events" (as defined in Paragraph (a)(v) of
Item 304 of Regulation S-K as promulgated by the Securities and Exchange
Commission).
On November 7, 2000, the Company filed an Amendment to
that Current Report to clarify that Arthur Andersen had been dismissed by the
Company as its independent public accountants.
17
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DATE: November 13, 2000 Pacific Mercantile Bancorp
By: /S/ Daniel L. Erickson
----------------------------------
Daniel L.Erickson, Executive Vice President
and Chief Financial Officer
18
<PAGE>
EXHIBIT INDEX
Exhibit Description
------- -------------------------------------------------
Exhibit 27. Financial Data Schedule
19
