SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended December 31, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE
ACT OF 1934
Commission File Number 0-10198
THE SAN FRANCISCO COMPANY
(Exact name of Registrant as specified in its charter)
Delaware 94-3071255
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
550 Montgomery Street, 10th Floor
San Francisco, California 94111
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (415)781-7810
Securities registered pursuant to Section 12(b) of the Act:
Title of Class Name of Each Exchange on Which Registered
Class A Common Stock, $0.01 Par Value None
Securities registered pursuant to Section 12(g) of the Act: None
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
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of Regulation S-K is not contained
herein, and will not be contained, to the best of registrant's
knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any
amendments to this Form 10-K. [ ]
The aggregate market value of the voting stock held by
non-affiliates of the Registrant on March 13, 1998, was
$19,034,269 computed by reference to the higher of the bid price
or the price at the last sale of the Class A
Common Stock as reported by Van Kasper & Company, the sole market
maker of such stock.
The Registrant had 31,723,782 shares of Class A Common Stock
outstanding on March 13, 1998.
Page
THE SAN FRANCISCO COMPANY
1997 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENT
PART I
Page
Item 1. Business . . . . . . . . . . . . . . . . . . . . .. . . . . . . 1
Item 2. Properties . . . . . . . . . . . . . . . . . . . . . .. . . . . 7
Item 3. Legal Proceedings. . . . . . . . . . . . . . . . . . .. . . . . 8
Item 4. Submission of Matters to a Vote of Security Holders. .. . . . . 8
PART II
Item 5. Market for the Registrant's Common Equity and Related
Shareholder Matters8
Item 6. Selected Financial Data. . . . . . . . . . . . . . . .. . . . . 9
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations . . . . . . . . . . . . . 10
Item 8. Financial Statements and Supplementary Data. . . . . . . . . . 27
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosures . . . . . . . . . . . . .56
PART III
Item 10. Directors and Executive Officers of the Registrant . .. . . . .56
Item 11. Executive Compensation . . . . . . . . . . . . . . . .. . . . .58
Item 12. Security Ownership of Certain Beneficial Owners and Management.65
Item 13. Certain Relationships and Related Transactions . . . . . . . . 66
PART IV
Item 14. Exhibits, Financial Statement Schedules and
Reports on Form 8-K . . . . . . . . . . . . . . . . . . . . .67
Page
PART I
ITEM 1 - BUSINESS
The Company and the Bank
The San Francisco Company (the "Company"), a Delaware
corporation, is a one-bank holding company
registered under the Bank Holding Company Act of 1956, for Bank
of San Francisco (the "Bank"), a California state
chartered bank organized in 1978 whose deposits are insured by
the Federal Deposit Insurance Corporation (the
"FDIC"), subject to applicable limits. The Company was organized
in California in 1981 and reincorporated in
Delaware in 1988. The Bank, which the Company acquired through a
reorganization in 1982, is the only direct
subsidiary of the Company and accounts for over 99% of the
consolidated assets of the Company. The Bank
delivers its services from its headquarters building, Bank of San
Francisco Building, at 550 Montgomery Street (at
Clay Street), San Francisco, California 94111, and its phone
number is (415) 781-7810. The E-mail address for
the Bank's Stock Option Exercise and Discount Brokerage Services
department (the "Stock Option Services") is
[email protected].
The Company's Class A Common Stock, par value $0.01 per
share (the "Common Stock" or "Common
Shares"), is not traded on an exchange. The sole market maker of
the Common Stock is Van Kasper and Company.
The bid price for the Common Stock as reported by Van Kasper and
Company on March 13, 1998 was $0.60 per
share.
The Bank specializes in providing private banking as well as
business banking for individuals, their
businesses and other businesses, primarily in the Northern
California banking market. See "-- Private and Business
Banking." In addition, the Bank provides specialized services
related to homeowners associations (see "--
Association Bank Services"), brokerage services (see "-- Stock
Option Services") and escrow services (see "--Escrow
Services").
The Bank's primary market area, Northern California, has a
highly diversified economic base, including
high technology electronic manufacturing, scientific research,
real estate construction, retail and wholesale trade
and transportation. Much of the diversity in the economic base
is attributable to the service sector, including
finance, accounting, insurance, communications, law, consulting
and tourism. While many of the Bank's loans have
been and continue to be collateralized by real estate, the Bank's
deposit and lending relationships have not been
concentrated among borrowers within a specific trade, service or
industrial activity.
Private and Business Banking
Private and Business Banking combines highly personalized
service with an array of products to meet the
complex needs of its primary clients -- executives, professionals
and high net worth or high income individuals, and
the private and closely held businesses with which these
individuals are associated. The Bank has specialized in
private banking since it began operations in 1979.
The Bank's marketing strategy focuses on establishing
banking relationships with privately and closely held
businesses, and their owners and operators whose financial needs
require customized banking programs. At
December 31, 1997 and 1996, Private and Business Banking
customers deposits totaled approximately $34.7 million
and $36.4 million, representing approximately 40.1% and 40.0% of
the Bank's total deposits, respectively. At
December 31, 1997 and 1996, Private and Business Banking
customers loans totaled approximately $49.8 million
and $36.1 million, representing approximately 96.0% and 82.5% of
the Bank's total loans, respectively.
Association Bank Services
Established in 1987, Association Bank Services (the "ABS")
provides deposit and financial management
services to homeowner and community associations throughout
California. The Bank offers its ABS customers
deposit accounts for operating funds and reserves, loans,
assessment collection services and investment services.
In addition, the Bank offers lockbox services, courier services,
expedited deposit processing and special handling
of accounts. Deposits from homeowner and community associations
are a key component of the Bank's core deposit
base. At December 31, 1997 and 1996, ABS customers' deposits
totaled approximately $17.2 million and $19.9
Page 1
million, representing approximately 19.9% and 21.8% of the Bank's
total deposits, respectively. At December 31,
1997 and 1996, ABS customers loans totaled approximately $1.6
million and $2.4 million, representing
approximately 3.1% and 5.5% of the Bank's total loans,
respectively.
The Bank also offers a certificate of deposit placement
service (the "CD Placement") designed to invest
a customer's funds in other insured financial institutions up to
a maximum of $100,000 per institution (for which
the Bank is paid a fee based on the average CD Placement
investments outstanding).
Although a substantial portion of the individual ABS deposit
accounts are fully insured and, therefore, could
generally be considered stable, a small number of ABS customer
account managers control significant numbers of
such individual accounts, thus concentrating control of such
deposits in the discretionary authority of a few
individuals. Accordingly, a decision by several such account
managers to withdraw their business from the Bank
could have a significant impact on the Bank's core deposits. As
of December 31, 1997, no one account manager
controlled more than 2% of total deposits.
Stock Option Services
Begun in 1984, Stock Option Services provides a range of
discount brokerage services, combined with a
program to facilitate the exercise of stock options by employees
of publicly held companies.
The stock option exercise program offers employees the means
to exercise, hold or sell their option shares
at a minimum cost. In this program, the Bank makes loans to
holders of stock options of publicly traded companies
for the purpose of enabling them to exercise their options and
sell all or a portion of the stock acquired. The Bank
works with stock transfer and employee benefits officers to
coordinate the payment of the option exercise price, the
provision for the payment of taxes related to the exercise of
such options, the issuance and subsequent sale of the
underlying stock and the distribution of the net sale proceeds.
At December 31, 1997 and 1996, the Bank had total
stock option loans outstanding of $500,000 and $1.7 million,
respectively. Such amounts can vary substantially
based upon the timing of the exercise of stock options as well as
market conditions.
Historically, Stock Option Services has been a substantially
self-funding activity with associated deposit
balances closely tracking outstanding loan balances. Because
Stock Option Services' deposits are primarily non-
interest bearing demand deposit accounts, the Bank benefits from
them by reducing its cost of funds. Management
believes that most of these clients are in industries that
continue to present growth opportunities. Accordingly, stock
option programs should represent a continuing component of such
clients' overall compensation programs. In
addition, the Bank is expanding its marketing efforts to
diversify its client base to increase revenue and reduce
volatility. The Bank is also marketing its discount brokerage
services to those clients presently using stock option
services.
Historically, approximately 35% of Stock Option Services'
clients have generated over 90% of the fee
income of Stock Option Services. These clients are the focus of
Stock Option Services' customer service activities;
however, this concentration of clients exposes the Bank to the
possibility of losing significant non-interest income
if it loses some of these clients. Total commission revenue
generated by Stock Option Services was $1.4 million,
$1.2 million and $1.5 million for 1997, 1996 and 1995,
respectively, representing 12.4%, 16.1%, and 13.8% of
the Company's gross revenue for the same periods, respectively.
The earnings generated by Stock Option Services
is highly dependent on the trading prices of the stock underlying
the stock options of its clients and the overall
condition of the stock markets in which they trade. Management
considers the fee income produced by Stock
Option Services to be volatile, and there can be no guarantee
that income levels from this activity can be maintained
at current levels.
Escrow Services
Begun in 1989, the Corporate Escrow Services Department (the
"Escrow") provides primarily non-real
estate escrow services, including the temporary deposit and
investment of funds, deposit of securities, personal
property and other assets by attorneys, business brokers and
clients for business transactions, disputes, life care
facilities, and court actions. Escrow services has always made a
modest contribution to operating profit and
provided deposits to fund other business activities. At December
31, 1997 and 1996, Escrow deposits totaled
approximately $15.3 million and $10.0 million, representing
approximately 17.7% and 11.0% of the Bank's total
deposits, respectively.
Page 2
Trust Services
The Bank was granted trust powers in late 1989. The Bank
suspended its trust activities in 1996 because
the trust activities never achieved the size necessary to
generate the revenues required to cover direct costs. The
Bank will consider the resumption of trust activities in the
future.
Competition
The banking business in California, and specifically in the
market area served by the Bank, is highly
competitive. The Bank competes for loans and deposits with other
commercial banks, including some of the
country's and the world's largest banks, savings and loan
associations, finance companies, money market funds,
brokerage houses, credit unions, insurance companies, and
non-financial institutions. By virtue of their larger
amounts of capital, many of the financial institutions with which
the Bank competes have significantly greater
lending limits than the Bank and perform certain functions,
including corporate trust services and international
banking services, which are not presently offered directly by the
Bank (although such functions may be offered
indirectly by the Bank through correspondent institutions).
The Bank's strategy for meeting its competition has been to
concentrate on discrete segments of the market
for financial services, particularly small to medium-sized
businesses and their owners, professionals, corporate
executives, affluent individuals, and homeowner and community
associations, by offering specialized and
personalized banking and brokerage services to such clients.
Competitive conditions continue to intensify as legislation
is proposed or enacted which has the effect of
dissolving historical barriers that limit participation in
certain markets, increasing the cost of doing business for
banks, or affecting the competitive balance between banks and
other financial institutions. Technological and
economic factors can also be expected to have an ongoing impact
on competitive conditions. It is difficult to predict
the impact that these and other changes may have in the future on
commercial banking in general or on the business
of the Bank in particular.
Correspondent Banks
The Bank has correspondent relationships with twelve banks
for the purpose of check clearing, selling
federal funds, buying and selling investment securities,
safekeeping of investment securities and related record
keeping, stock registration and stock transfer services, and
issuance of letters of credit.
Employees
At December 31, 1997, the Company and the Bank employed 54
persons, consisting of 51 full-time and
3 part-time employees.
Regulatory Directives
Written Agreement
On December 16, 1994, the Company and the Federal Reserve
Bank of San Francisco (the "FRB") entered
into a Written Agreement (the "Agreement") that superseded the
previous FRB directive dated April 20, 1992. The
Agreement prohibits the Company, without prior approval of the
FRB, from: (a) paying any cash dividends to its
shareholders; (b) directly or indirectly, acquiring or selling
any interest in any entity, line of business, problem or
other assets; (c) executing any new employment, service, or
severance contracts, or renewing or modifying any
existing contracts with any executive officer; (d) engaging in
any transactions with the Bank that exceed an aggregate
of $20,000 per month; (e) engaging in any cash expenditures with
any individual or entity that exceed $25,000 per
month; (f) increasing fees paid to any directors for attendance
at board or committee meetings, or paying any
bonuses to any executive officers; (g) incurring any new debt or
increasing existing debt; and (h) repurchasing any
outstanding stock of the Company. The Company is required to
submit a progress report to the FRB on a quarterly
basis.
Page 3
The Company was also required to submit to the FRB an
acceptable written plan to improve and maintain
an adequate capital position, a comprehensive business plan
concerning current and proposed business activities,
a comprehensive operating budget for the Bank and the
consolidated Company, and an acceptable written plan
designed to enhance the Board of Directors' supervision of the
operations and management of the consolidated
organization.
Management was notified by the FRB at its 1997 examination
that the Company is in full compliance with
the Agreement.
Memorandum of Understanding
On May 27, 1997, the FDIC and the California Department of
Financial Institutions (formerly the State
Banking Department) (the "DFI") terminated the Bank's Cease and
Desist Orders and in lieu thereof entered into
a Memorandum of Understanding (the "MOU") with the Bank. The MOU
provides, among other things, that the
Bank: (a) have and retain management acceptable to the Regional
Director of the FDIC (the "Regional Director")
and the Commissioner of the DFI (the "Commissioner"); (b)
increase its capital by not less than $1.0 million by
June 30, 1997; (c) maintain a 7% Leverage Capital ratio; (d)
reduce assets classified "Substandard" as of September
30, 1996 to no more than $12.0 million by June 30, 1997, to no
more than $10.0 million as of September 30, 1997,
and to no more than $8.0 million by December 31, 1997; (f)
develop and implement written policy
recommendations outlined in the Report of Examination; (g)
implement a policy which establishes a range for the
Bank's volatile liabilities dependency ratio, and which ratio
shall not be more than 15%; (h) submit a strategic plan
covering the period 1997 - 2002; (i) not pay cash dividends
without prior written consent from the Regional Director
and the Commissioner; and (j) report to the Regional Director and
the Commissioner on a quarterly basis the form
and manner of any actions taken to secure compliance with the
MOU.
The Bank has filed all of the required submissions with the
FDIC and the DFI in accordance with the
MOU, and management believes that, as of December 31, 1997, the
Bank is in full compliance with the
requirements of the MOU.
Regulation and Supervision
Bank holding companies and banks are subject to extensive
supervision and regulation. The following
summaries of certain statutes and regulations affecting banks and
bank holding companies do not purport to be
complete. Such summaries are qualified in their entirety by
reference to such statutes and regulations.
Various other legislation, including proposals to overhaul
the bank regulatory system and to limit the
investments that a depository institution may make with insured
funds, is introduced into Congress from time to
time, and several such bills are presently pending. The Company
cannot determine the ultimate effect that any
potential legislation, if enacted, would have upon the financial
condition or operations of the Company and the Bank,
but the general effect of recent legislation has been to increase
competition among various types of financial
institutions.
The Company
The Company, as a bank holding company, is subject to
regulation under the U.S. Federal Bank Holding
Company Act of 1956, as amended (the "Holding Company Act"), and
is registered with and subject to the
supervision of the FRB. It is the policy of the FRB that each
bank holding company serve as a source of financial
and managerial strength to its subsidiary banks and conduct its
operations in a safe or sound manner.
The Holding Company Act requires prior FRB approval for the
acquisition of control over another bank,
and generally restricts the Company from engaging in any business
other than managing or controlling banks or
furnishing services to its subsidiaries. Among the exceptions to
such restrictions are certain activities which, in the
opinion of the FRB, are so closely related to banking or to
managing or controlling banks as to be a proper incident
to banking.
The Company and its subsidiaries are, with certain
exceptions, prohibited from engaging in certain tie-in
arrangements in connection with any extension of credit, sale or
lease of property or provision of services. The
Page 4
FRB is, however, becoming increasingly receptive to pricing
discounts conditioned upon the Bank customer
purchasing bundled groups of services. In addition, applicable
federal law imposes certain restrictions on
transactions between the Bank and its affiliates. As an
affiliate of the Bank, the Company is subject, with certain
exceptions, to the provisions of federal law imposing limitations
on, and requiring collateral for, loans by the Bank
to any affiliate.
Finally, the Company is subject to restrictions on its
operations imposed by the Agreement. See "--
Regulatory Directives - Written Agreement."
The Bank
The Bank is a California state-chartered bank and is subject
to regulation, supervision and periodic
examination by the DFI and the FDIC. The Bank is not a member of
the Federal Reserve System, but is
nevertheless subject to certain regulations of the FRB. The
Bank's deposits are insured by the FDIC to the
maximum amount permitted by law, which is currently $100,000 per
depositor in most cases.
The regulations of state and federal bank regulatory
agencies govern most aspects of the Bank's business
and operations, including but not limited to, the scope of its
business, its investments, its reserves against deposits,
the timing of the availability of deposited funds, the payment of
dividends, and potential expansion.
The Bank is subject to the California banking laws and to
regulation, supervision and periodic examination
by the DFI. The California banking laws, among other matters,
regulate: (a) the conduct of the banking business;
(b) accounts, including types of deposit accounts and claims made
thereon; (c) loans, including limitations on
obligations to the bank by borrowers in general and by the bank's
officers, directors and employees; and (d)
mergers, consolidations and conversions of banks, including
changes in control of banks. California interstate
banking and branching law allows the interstate acquisition of
whole banks which have been in existence for more
than five years and authorizes expanded correspondent bank agency
relationships among affiliated and unaffiliated
insured banks.
The Federal Reserve Act and FRB regulations, some of which
are applicable to state nonmember banks
under regulations of the FDIC, place limitations and conditions
on loans or extensions of credit to: a bank's or bank
holding company's executive officers, directors and principal
shareholders ("insiders"); any company controlled by
any such insiders; or any political or campaign committee
controlled by such insiders.
FDIC regulations generally prohibit an insured state bank
from directly engaging as principal in any activity
that is not permissible for a national bank, and also prohibit
majority-owned subsidiaries of an insured state bank
from engaging in any activity that is not permissible for a
subsidiary of a national bank, unless the bank meets and
continues to meet applicable minimum capital standards and the
FDIC determines that the conduct of the activity
by the bank and/or its majority-owned subsidiary will not pose a
significant risk to the deposit insurance funds.
These regulations also impose restrictions on real estate
investments, requiring that undercapitalized banks
with subsidiaries holding impermissible equity investments in
real estate ceased such activity and divest the
subsidiary or the real estate investments owned by the
subsidiary. State banks also must obtain the prior consent
of the FDIC before making real estate loans other than in
compliance with guidelines established for national banks.
Securities activities of state non-member banks, as well as
their subsidiaries and affiliates, are governed
by FDIC regulations. The FDIC has issued guidelines to state
non-member banks which recommend, among other
things, establishing a compliance and audit program to monitor
bank's mutual funds sales activities and compliance
with applicable federal securities laws, providing full
disclosure to customers about the risks of such investments
(including the possibility of loss of principal investment),
conducting securities activities of bank subsidiaries or
affiliates in separate and distinct locations, and prohibiting
bank employees involved in deposit-taking activities from
selling investment products or from giving investment advice.
Banks are also required to establish qualitative
standards for the selection and marketing of the investments
offered by the bank and maintain appropriate
documentation regarding suitability of investments recommended to
bank customers.
In response to various business failures in the savings and
loan and commercial banking industries, Congress enacted
the Federal Deposit Insurance Corporation Improvement Act of 1991
(the "FDICIA"). FDICIA primarily addresses
Page 5
the safety and soundness of the deposit insurance fund,
supervision of and accounting by insured depository
institutions and prompt corrective action by the federal bank
regulatory agencies for troubled institutions. FDICIA
also places restrictions on the activities of state-chartered
institutions and on institutions failing to meet minimum
capital standards and provides enhanced enforcement authority for
the federal banking agencies.
FDICIA restricts the acceptance of brokered deposits by
insured depository institutions that are not well
capitalized. It also places restrictions on the interest rate
payable on brokered deposits and the solicitation of such
deposits.
Under FDICIA, the FDIC has adopted a revised risk-based
assessment system for deposit insurance, under
which depository institutions are charged between 0 and 27 basis
points for every $100 in insured domestic deposits
depending on such institution's capital level and supervisory
rating. The Bank's present assessment is three (3) basis
points. The Bank is also assessed a surcharge for the Financing
Corporations (the "FICO") bonds which were
issued to help fund the cost associated with the savings and loan
crisis. The Bank is presently assessed an annual
FICO surcharge of approximately 0.012% of average deposits
through 1999 and 0.0243% of average deposits from
2000 through 2017.
Capital Adequacy Requirements
FDICIA establishes five capital categories for insured
depository institutions: (a) Well Capitalized; (b)
Adequately Capitalized; (c) Undercapitalized; (d) Significantly
Undercapitalized; and (e) Critically Undercapitalized.
All insured institutions (i.e., the Bank) are barred from making
capital distributions or paying management fees to
a controlling person (i.e., the Company) if to do so would cause
the institution to fall into any of the three
undercapitalized categories.
FDICIA also provides that if a well or adequately
capitalized or undercapitalized institution is in an unsafe
or unsound condition or is engaging in an unsafe or unsound
practice, its capital category may be downgraded to
achieve a higher level of regulatory scrutiny and prompt
corrective action.
Minimum Leverage Ratio. The FRB and the FDIC have
established a minimum leverage ratio of 3.0%
Tier 1 capital to total quarterly average assets for companies
that have received the highest composite regulatory
rating (a regulatory measurement of capital, assets, management,
earnings and liquidity) and that are not anticipating
or experiencing any significant growth. All other institutions
may be required to maintain a leverage ratio of at least
100 to 200 basis points above the 3.0% minimum.
Risk-based Capital Ratio. The FRB and the FDIC have
established regulations that require companies
to maintain a minimum ratio of qualifying total capital to
risk-weighted assets of 8.0%. The risk-based capital ratio
is calculated with reference to risk-weighted assets, including
both on and off-balance sheet exposures, which are
multiplied by certain risk weights as defined by regulation. At
least one-half of the qualifying capital must be in
the form of Tier 1 capital.
In certain circumstances, the agencies which regulate
financial institutions may determine that the capital
ratios for a financial institution must be maintained at levels
which are higher than the minimum levels required by
the guidelines. A financial institution that does not achieve
and maintain the required capital levels may be issued
a capital directive by the regulatory authorities to ensure the
maintenance of required capital levels.
The Company and the Bank are in compliance with these
capital adequacy requirements. See "Item 7
Management's Discussion and Analysis of Financial Condition and
Results of Operations - Capital" for a discussion
regarding the Company's and Bank's present capital condition.
Prompt Corrective Action. FDICIA amended the Federal
Deposit Insurance Act (the "FDIA") to
establish a format for closer monitoring of insured depository
institutions and to enable prompt corrective action
by regulators when an institution begins to experience
difficulty. The general thrust of these provisions is to impose
greater and earlier scrutiny and more restrictions on
institutions as their requirements for additional capitalization
increases. Undercapitalized institutions are subject to several
mandatory supervisory actions, including increased
monitoring and periodic review of the institution's efforts to
restore its capital, submitting an acceptable capital
restoration plan, restricted asset growth, and limits on
acquisitions, new branches or new lines of business. A
Page 6
parent holding company of an undercapitalized bank is expected to
guarantee that the bank will comply with the
bank's capital restoration plan until the bank has been
adequately capitalized, on the average, for four (4)
consecutive quarters. Such guarantee is limited to the lesser of
5% of the bank's total assets at the time it became
undercapitalized or the amount necessary to bring the bank into
full capital compliance.
Significantly undercapitalized institutions and
undercapitalized institutions that fail to submit and implement
adequate capital restoration plans are subject to the mandatory
provisions applicable to undercapitalized institutions
and, in addition, may be required to: sell additional capital,
including voting shares; restrict transactions with
affiliates; restrict interest rates paid on deposits; restrict
asset growth or reduce total assets; terminate, reduce or
alter any risky activities; elect new directors and install new
management; cease accepting deposits from
correspondent depository institutions; or divest or liquidate
certain subsidiaries. A bank holding company may be
required to divest itself of any affiliate of the institution
(other than another insured depository institution) under
certain conditions.
Critically undercapitalized institutions are required to
enter into a written agreement to increase Tier I
leverage capital to such level as the FDIC deems appropriate or
the institution may be subject to termination of
insurance action by the FDIC. The written agreement would
require the immediate efforts by the institution to
acquire the required capital.
ITEM 2 - PROPERTIES
The following table sets forth certain information
concerning the Bank's sole real property lease
commitment:
Square Expiration of Renewal
Banking Offices Footage Current Lease Period(s)
550 Montgomery Street 89,000 2010 One option for
an additional
San Francisco, CA 25 years
The Bank's headquarters at 550 Montgomery Street is an
89,000 square foot historically significant office
building on Clay and Montgomery Streets in San Francisco's
Financial District. The building serves as the
administrative and banking headquarters of the Company and the
Bank. The Bank currently subleases or has
available for sublease 57,000 square feet.
During the third quarter of 1995, the Bank acquired all of
the outside limited partnership interests in Bank
of San Francisco Building Company (the "BSFBC") for a total of
$3.3 million. The purchase price in excess of
book value of $525,000 is being amortized over the life of the
underlying lease, including extensions, through 2035
using the straight line method. Effective January 1, 1997, BSFBC
was dissolved, and its assets, including its
interest in the lease, and liabilities were assigned to the Bank.
The Company's net occupancy costs totaled $326,000
in 1997 an increase from $288,000 in 1996 compared to a decline
of $912,000 in 1996 from $1.2 million in 1995.
The decline from the 1995 net occupancy cost level has been
primarily the result of the acquisition of BSFBC in
1995 which enabled the Company to reduce facilities operating
costs and increase sublease income.
The acquisition was accounted for by the purchase method.
The Company's consolidated statement of
condition and operating results include the operations of BSFBC
beginning July 1, 1995. As of that date, the assets
included leasehold improvements and leasehold interests totaling
$5.5 million and cash equivalent investment
securities totaling $1.3 million. The liabilities included other
borrowings which were used to finance the acquisition
of the leasehold interests in 1986. The borrowings were repaid
on October 31, 1995.
As of December 31, 1997, the Company's premises and
equipment, net of accumulated amortization and
depreciation, is comprised of leasehold improvements totaling
$5.2 million, lease interests totaling $1.7 million,
premium paid to acquire BSFBC totaling $472,000, and furniture
and equipment totaling $419,000. Depreciation
on furniture, fixtures and equipment is computed on the
straight-line method over the estimated useful life of each
type of asset. Estimated useful lives are from three to seven
years. Leasehold improvements are amortized over
the term of the applicable lease, including lease extensions, or
their estimated useful lives, whichever is shorter.
Page 7
ITEM 3 - LEGAL PROCEEDINGS
Litigation
Because of the nature of its business, the Company and its
subsidiaries, including the Bank, are from time-
to-time a party to legal actions. Based upon information
available to the Company and the Bank, and its review
of such outstanding claims to date, management believes the
ultimate liability relating to these actions, if any, will
not have a material adverse effect on the Company's liquidity,
consolidated financial condition or results of
operations.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company did not hold a 1997 Annual Meeting.
PART II
ITEM 5 - MARKET FOR THE REGISTRANT'S COMMON EQUITY
AND RELATED SHAREHOLDER MATTERS
Market Information
The Company's Common Stock is not listed on any exchange or
the National Association of Securities
Dealers' Automated Quotation System. Van Kasper and Company of
San Francisco, California is the sole market
maker in the Company's Common Stock. The following table sets
forth the high and low bid prices for the
Common Stock based upon information provided by Van Kasper and
Company market from January 1996 to
December 31, 1997. The last known trades of the Common Stock
occurred on October 1, 1997 for 6,611 shares
at prices of $0.50 and $0.55 per share.
1997 1996
Quarter High Low High Low
First $0.40 $0.40 $0.35 $0.34
Second 0.40 0.40 0.35 0.34
Third 0.40 0.40 0.35 0.34
Fourth 0.55 0.40 0.40 0.35
None of the Company's preferred stock was listed on any
exchange or traded in any other public market
since 1988.
Holders
As of December 31, 1997, the number of holders of record of
the Company's Common Stock and Series
B Preferred Shares was 411 and 11, respectively, which management
believes is in each case less than the number
of actual beneficial owners because of the number of shares held
by known nominees.
Dividends
The Company is subject to dividend restrictions pursuant to
the Agreement, under the Delaware General
Corporation Law and regulations, and policies of the FRB. The
Company's Series B Preferred Shares participate
equally, share for share, in cash dividends paid on the Common
Shares in addition to receiving the cash dividends
to which they are entitled. The Board of Directors suspended the
dividend on the Common Shares and the Series
B Preferred Shares. Subject to regulatory approval, it is the
present intention of the Board of Directors to pay
dividends in arrears on the Series B Preferred Stock totaling
approximately $58,000 later this year, and thereafter to pay ongoing
dividends on the Series B Preferred Stock pursuant to their
terms. The Bank is subject to certain regulatory
restrictions regarding payment of dividends to the Company as set
forth in the California Financial Code. See "--
Regulatory Directives" for a discussion of these restrictions.
Page 8
ITEM 6 - SELECTED FINANCIAL DATA
The following table sets forth certain selected consolidated
financial data of the Company at and for the years ended December 31:
1997 1996 1995 1994 1993
(Dollars in Thousands
except for per share data)
FINANCIAL CONDITION DATA:
Total assets $116,617 $104,001 $114,862 $156,780 $231,021
Total loans 51,924 43,762 53,208 106,452 149,740
Total securities
held-to-maturity 5,864 6,943 -- 7,859 5,078
Total securities
available-for-sale 32,669 28,348 6,536 2,211 14,940
Total deposits 86,519 91,166 105,673 147,148 210,111
Other borrowings 10,000 -- -- 4,070 1,303
Shareholders' equity 17,570 11,064 6,880 2,129 17,455
OPERATING DATA:
Total interest income $8,026 $7,242 $10,691 $12,651 $18,155
Total interest expense 2,890 3,127 4,415 4,863 7,420
Net interest income 5,136 4,115 6,276 7,788 10,735
Provision (recovery) for
loan losses (2,820) -- 500 3,799 3,554
Net interest income after
provision (recovery)
for loan losses 7,956 4,115 5,776 3,989 7,181
Total non-interest
income 3,502 3,327 5,014 2,135 4,497
Total non-interest
expense 7,509 6,998 10,301 39,018 21,764
Income (loss) before
taxes 3,949 444 489 (32,894) (10,086)
Provision (benefit)
for income taxes (1,494) (258) 153 142 169
Net income (loss) $5,443 $702 $336 $(33,036) $(10,255)
OTHER DATA:
Return on average assets 5.0% 0.7% 0.3% (16.8)% (3.5)%
Return on average equity 45.2 7.9 6.8 (183.0) (57.5)
Average equity to
average assets 11.0 8.3 3.7 9.2 6.1
Equity to assets 15.1 10.6 6.0 1.4 7.6
Interest rate spread 4.0 3.7 4.3 5.0 4.4
Net interest margin 5.1 4.4 5.0 5.1 4.6
Non-performing assets
to total assets 0.5 8.2 13.1 12.8 18.8
Average interest-earning
assets to average
interest-bearing
liabilities 138.2 119.3 121.5 105.1 103.5
Non-interest expenses to
average assets 6.8 5.0 6.0 19.8 7.6
Net interest income,
after provision for
loan losses, to
non-interest expense 105.9 58.8 56.1 10.2 32.4
Loan charge-offs net of
(recoveries) as a
percent of
average loans (0.8) 0.6 1.4 4.4 2.0
Allowance for loan
losses as a
percent of loans 6.2 12.9 11.1 6.2 5.4
PER SHARE DATA:
Common shares outstanding,
end of period 31,723,782 28,775,995 5,765,978 5,766,008 444,990
Preferred shares outstanding,
end of period 15,869 15,869 231,291 16,291 916,591
Common Shares:
Book value per
common share $0.55 $0.38 $0.43 $0.37 (1.60)(a)
Income (loss) per
weighted average
common share
Basic 0.18 0.12 0.05 (10.73) (23.00)
Diluted 0.17 0.03 0.03 (10.73) (23.00)
(a) the negative book value per Common Share in 1993 resulted
because the book value per Preferred Shares was greater than the
Company's total capital.
Page 9
ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
The following discussion relates to information about the
financial condition and results of operations of
the Company and the Bank that might not otherwise be apparent
from a review of the financial statements contained
under ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. In
addition to historical
information, this discussion and analysis includes certain
forward-looking statements regarding events and trends
which may affect the Company's future results. Such statements
are subject to risks and uncertainties including,
but not limited to, those described in this discussion and
analysis, as well as those described in ITEM 1 -
BUSINESS section of this report that could cause actual results
to differ.
The Company recorded net income of $5.4 million for the year
ended December 31, 1997, following net
income of $702,000 in 1996 and $336,000 in 1995. The net income
in 1997 was comprised primarily of four
sources; 1) core operating earnings, 2) gain on sale of problem
assets, 3) a negative loan loss provision, and 4) the
recognition of the tax benefit of certain deferred tax assets.
The net income in 1996 and 1995 resulted primarily
from the sale of problem assets.
Results of Operations - Years Ended December 31, 1997, 1996 and
1995
Net Interest Income
One of the fundamental measures of the Bank's results of
operations is net interest income. Net interest
income is the difference between the combined yield earned on
interest earning assets and the combined rate paid
on interest bearing liabilities.
The following table presents the consolidated average balance
sheets of the Company, together with the
total dollar amounts of interest income and expense, and weighted
average interest rates for each of the years in the
Page 10
three year period ended December 31, 1997. Where possible, the
average balances are calculated on a daily average
basis. When this information is not available, average balances
are calculated on a monthly basis.
(Dollars in Thousands)
1997 1996 1995
Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate Balance Expense Rate
Assets
Interest-earning assets:
Federal funds and time deposits
$19,914 $1,114 5.6% $22,452 $1,248 5.6% $35,184 $ 1,790 5.1%
Investment securities
38,434 2,345 6.1 29,128 1,752 6.0 7,786 449 5.8
Loans, net (1)
42,389 4,567 10.8 42,012 4,242 10.1 81,080 8,452 10.4
Total interest-earning assets
100,737 8,026 8.0 93,592 7,242 7.7 124,050 10,691 8.6
Non-interest earning assets
9,134 13,365 7,688
Total assets
$109,871 $106,957 $131,738
Liabilities and Equity
Interest-bearing liabilities:
Interest-bearing deposits
$72,299 $2,798 3.9 $78,403 3,124 4.0 $100,357 4,244 4.2
Other borrowings
575 34 6.0 38 3 7.9 1,752 171 9.8
Total interest-bearing liabilities
72,874 2,832 4.0 78,441 3,127 4.0 102,109 4,415 4.3
Series B Preferred Stock
111 58 52.3 -- -- -- -- -- --
Non-interest bearing liabilities
24,959 19,660 24,699
Stockholders' equity
11,927 8,856 4,930
Total liabilities and stockholders' equity
$109,871 $106,957 $131,738
Net interest income
$5,136 $4,115 $6,276
Primary interest spread
4.0% 3.7% 4.3%
Margin as a percent of earning assets:
Interest income 8.0% 7.7% 8.6%
Interest expense 2.9 3.3 3.6
Net interest margin 5.1% 4.4% 5.0%
(1) Non-performing loans have been included in the average loan
balances. Interest income is included on
non-accrual loans only to the extent to which cash payments have
been received and full principal repayment is
probable.
Net interest income is dependent on the average balances
of interest earning assets and interest bearing
liabilities and the rates earned on interest sensitive assets and
the rates paid on interest sensitive liabilities. See
"Asset Liability Management" for more discussion of the
management of net interest income.
The dollar amount of interest income and interest expense
fluctuates depending on changes in the respective
interest rates and on changes in the respective amounts (volume)
of the Bank's earning assets and interest bearing
liabilities. For each category of interest earning asset and
interest bearing liability, information is provided in the
following table for changes attributable to (i) changes due to
volume (change in average balance multiplied by prior
Page 11
year's rate), and (ii) changes in rate (changes in rates
multiplied by prior year's average balances). Changes
attributable to the combined impact of volumes and rates have
been allocated pro-rata to each category.
1997 versus 1996 1996 versus 1995
(Dollars in Thousands) Rate Volume Net Rate Volume Net
Interest-earning assets:
Federal funds and
time deposits $8 $(142) $(134) $113 $(655) $(542)
Investment securities 26 567 593 24 1,279 1,303
Loans, net 286 39 325 (273) (3,937) (4,210)
Total interest-earning
assets 320 464 784 (136) (3,313) (3,449)
Interest-bearing liabilities:
Interest-bearing
deposits (92) (234) (326) (1,024) (96) (1,120)
Other borrowings 1 88 89 (102) (66) (168)
Total interest bearing
liabilities (91) (146) (237) (1,126) (162) (1,288)
Change in net interest
income $411 $610 $1,021 $990 $(3,151) $(2,161)
The Company's interest income increased during 1997
primarily as a result of the increase in interest-
bearing investment securities, increase in the yield on loans
from an increase in earning loans, and a decrease in
interest-bearing liabilities.
The Company's interest income in 1996 decreased compared to
1995 due mainly to the decrease in average
loans during that period. The decrease in the loan portfolio
primarily resulted from a decision to reduce the size
of the Company's assets through the non-renewal of loans to
comply with regulatory capital requirements. The
weighted average yield on loans decreased in 1996 compared to
1995 as a result of a reduction in the Bank's prime
rate from an average prime rate of 8.8% in 1995 to an average
8.3% during 1996.
Interest income and dividends on Federal funds sold and
investment securities was $3.4 million in 1997
compared to $3.0 million in 1996 and $2.2 million in 1995.
Average portfolio balances were $58.3 million in 1997
compared to $51.6 million in 1996 and $43.0 million in 1995, and
average portfolio yields were 5.9%, 5.8%, and
5.2% in 1997, 1996, 1995, respectively. The higher average
yields in 1997 and 1996 reflect the change in the mix
of investments from lower yielding Federal funds and time
deposits into higher yielding investment securities.
Interest expense for 1997 was $2.9 million compared to $3.1
million for 1996 and to $4.4 million for 1995.
The decline was primarily attributable to a decrease in average
interest bearing liabilities of $5.4 million to $73.0
million at the end of 1997 from $78.4 million at the end of 1996
and $102.1 million at the end of 1995. The
average cost of deposits and borrowings for 1997 and 1996 was
4.0% as compared to 4.3% for 1995.
Provision for Loan Losses
During 1997, 1996, and 1995, the Bank provided a negative
provision of $2.8 million, zero, and a positive
provision of $500,000, respectively, to its allowance for loan
losses. The negative loan loss provision in 1997
resulted in a reduction of total allowance for loan losses as a
percent of total loans to 6.2% at the end of 1997 from
12.9% at the end of 1996. The decline in the required allowance
for loan losses reflects the amount necessary to
reduce the allowance for loan losses to a level that management
believes is adequate based on many factors that are
more fully discussed under "Loans -- Allowance for Loan Losses".
The decline in the loan loss provision in 1996 as a
percentage of average loans to zero from 0.6% in 1995
was the result of the lower level of charge-offs required in 1996
compared to 1995, and reflects management's
assessment that the loan loss allowance adequately provided for
the risk in the Bank's loan portfolio. The
Company's loan loss provision in 1995 was for loan loss reserves
allocated to specific classified and non-performing
loans. See "-- Allowance for Loan Losses" herein.
Page 12
Non-Interest Income
Non-interest income increased $175,000 or 5.3% in 1997 as
compared to 1996, primarily as a result of
an increase in stock option and brokerage fees, other service
charges and fees and other income. Real estate rental
income and gain on sale of assets were lower in 1997 than in 1996
due primarily to lower other real estate owned
assets. As the Bank continues to decrease its other real estate
owned, gains are expected to continue to decline.
Non-interest income decreased $1.7 million or 33.6% in 1996
as compared to 1995, primarily as a result
of lower gain on sale of other assets which were primarily gains
on sale of other real estate owned assets. In
addition, income from real estate rental income increased in 1996
compared to 1995 as a result of the increase in
rental income of available space in the Bank's headquarter
building and from the lease of other real estate owned.
The following table provides a detail of non-interest income
for the years ended December 31:
(Dollars in Thousands) 1997 1996 1995
Stock option commissions and
brokerage fees $1,416 $1,201 $1,486
Real estate rental income 896 1,028 435
Service charges and fees 603 444 629
Other income 116 14 223
Loss on sale of investment
securities, net (6) -- --
Gain on sale of other assets, net 477 640 2,241
Total non-interest income $3,502 $3,327 $5,014
Non-Interest Expense
For the year ended December 31, 1997, non-interest expenses
increased $511,000, or 7.3%, from the year
ended December 31, 1996. The increase was primarily attributed
to higher salaries and related benefits which was
partially offset by reductions in other costs related to credit
quality, professional fees, equipment expense, and
insurance.
For the year ended December 31, 1996, non-interest expenses
decreased $3.3 million, or 32.0%, from the
year ended December 31, 1995. The reduction was attributed
primarily to lower compensation related expenses
and lower occupancy costs.
The following table provides a detail of non-interest
expense for the years ended December 31:
(Dollars in Thousands) 1997 1996 1995
Salaries and related benefits $4,203 $3,252 $4,279
Professional fees 530 629 974
Equipment expense 198 345 417
Insurance premiums 228 319 374
Data processing 431 304 526
Occupancy expense 1,192 1,165 1,635
FDIC insurance premiums 98 204 457
Other operating expenses 629 780 1,639
Total non-interest expense $7,509 $6,998 $10,301
The increase in salaries and related expenses in 1997 of
$951,000 to $4.2 million from $3.3 million in 1996
was primarily the result of increases in incentive compensation
accruals. The incentive compensation accruals
increased based on the Company's strong financial performance in
1997. The decrease in compensation related
expenses of $1.0 million in 1996 to $3.3 million, or 24.0%,
compared to 1995 resulted from lower staffing levels,
lower severance costs, and lower incentive compensation paid.
The compensation expense included incentives costs
of $970,000, $17,000, and $5,000 for 1997, 1996 and 1995,
respectively.
Page 13
The Company's expenses for professional services were
$530,000 in 1997 compared to $629,000 in 1996
and $974,000 in 1995. The Company includes in professional fees
the costs of legal, accounting, and management
consulting services. Professional service expenses declined in
1997, 1996 and 1995 primarily as a result of a lower
level of professional services required to manage problem assets,
the reduction in litigation matters, and the
reduction in activities related to regulatory concerns and
recapitalization.
The Company's occupancy costs totaled $1.2 million in 1997
and 1996. In 1996, a decline of $470,000
from $1.6 million in 1995 was primarily the result of the
acquisition of BSFBC which held the lease on the
Company's headquarter building which enabled the Company to
reduce facilities operating costs and increase
sublease income.
The decline in other operating costs of $151,000 in 1997 and
$859,000 in 1996 resulted primarily from
reductions in real estate owned property tax expense and
provisions for declines in the market value of other real
estate owned assets. Generally, all expenses declined in 1996
compared to 1995 as a result of the lower level of
problem assets and lower volumes of deposits and loans requiring
less administrative support and related costs.
Provision for Income Taxes
The income tax benefit was $1.5 million for 1997 compared to
$258,000 for 1996 and to a provision of
$153,000 in 1995. In 1997, the Company recognized a net deferred
tax asset resulting in the tax benefit in the
income statement of $1.5 million. The reduction in 1996 compared
to 1995 resulted from utilizing an acceptable
alternative method of calculating the Company's Delaware
franchise tax which resulted in a refund of the 1994 and
1995 franchise taxes of $270,000 and a reduction in 1996 period
taxes of $141,000.
As required by SFAS No. 109, the realizability of the
deferred tax assets is reevaluated and the valuation
allowance is adjusted so that the resulting level of deferred tax
asset will, more likely than not, be realized. During
1997, and adjustment of $1.5 million to the valuation allowance
was recorded to recognize the estimated benefits
from net operating loss carryforwards. The resulting adjustment
to the deferred tax asset valuation allowance
occurred based on a determination that the Company may be able to
utilize net operating loss carryforward benefits
that had previously been reserved. The consistent financial
results in the preceding three years including the strong
results in 1997 coupled with the apparent improvement in the
Company's credit quality indicate that the Company
might be able to utilize some of the net operating loss
carryforward benefits to reduce pre-tax income generated in
future years. The utilization of the net operating loss
carryforwards and rehabilitation and minimum tax credit
carryforwards may be limited on an annual basis under current tax
law due to possible changes in ownership in
future years.
The Company did not have any Federal or California income
taxes in 1997, 1996 and 1995 as a result of
tax operating loss carryforwards from losses in previous years.
The taxes in 1995 were for the Delaware franchise
tax. The effective tax rates for the years ended December 31,
1997, 1996 and 1995, were (37.8)%, (58.1)% and
31.3%, respectively. For each of the years ended December 31,
1997, 1996 and 1995, the federal statutory tax
rate applicable to the Company was 34%. The actual benefit rate
of the tax loss carryforwards may be less than
the current statutory rate due to tax differentials and the
alternative minimum tax.
As of December 31, 1997, the Company had temporary
differences and net operating loss carryforwards
for federal tax purposes of approximately $46.8 million which
begin expiring in 2007, and for California tax
purposes of approximately $22.8 million, which begin expiring in
1998. As of December 31, 1997, the Company
had rehabilitation tax credit carryforwards for federal tax
purposes of approximately $213,000, which expire in 2004
and 2005, and other tax credits of approximately $276,000 which
have no expiration. Utilization of the net
operating loss carryforwards, and rehabilitation and minimum tax
credit carryforwards may be limited on an annual
basis under current tax law due to possible changes in ownership
in future years.
Financial Condition
Total Assets
The Company's total assets were $116.6 million as of
December 31, 1997 an increase of $12.6 million or
12.1% compared to $104.0 million at December 31, 1996 and
compared to $114.9 million at December 31, 1995.
During 1997, the Company achieved its goal of improving asset
quality including a significant reduction in the level
Page 14
of problem loans and non-performing assets. In 1997, management
also continued its strategy to rebuild the Bank's
loan portfolio.
Liquidity
Liquidity is the Bank's ability to meet the present and
future cash needs of its clients for loans and deposit
withdrawals. The Bank's liquidity generally increases or
decreases as a result of fluctuations in the Bank's loans
and other assets, and deposits. The Bank maintains liquid assets
of cash and cash equivalents, such as federal funds
sold, at levels management believes are sufficient to meet the
liquidity needs of its deposit customers. At December
31, 1997, the Company's cash and cash equivalents were $17.0
million or 19.7% of total deposits and 86.3% of
non-interest bearing deposits. At December 31, 1996, the
Company's cash and cash equivalents were $15.6 million
or 17.1% of total deposits and 94.5% of non-interest bearing
deposits.
In 1997, the Company's principal source of liquidity was
repayment of loans, loan participations and sales,
maturity or sale of investment securities, new core deposits,
earnings, other borrowings and to a lesser extent new
capital from the issuance of capital stock. The Bank's access to
some of these sources of liquidity may be limited
for various reasons including some contractual maturities of more
than two years, the inability of borrowers to repay
loans according to the contractual terms, and limited collateral
available to pledge under other borrowing
arrangements.
Investment Activities
The Company adopted the Statement of Financial Accounting
Standards (the "SFAS") No. 115,
"Accounting for Certain Investments in Debt & Equity Securities"
which requires that all securities be classified,
at acquisition, into one of three categories: held-to-maturity
securities, trading securities, and available-for-sale
securities. The Bank determines the classification of all
securities at the time of acquisition. In classifying securities
as being held-to-maturity, trading, or available-for-sale, the
Bank considers its collateral needs, asset/liability
management strategies, liquidity needs, interest rate sensitivity
and other factors in determining its intent and ability
to hold the securities to maturity.
Investment securities held-to-maturity may include United
States Treasury and Federal agency securities,
investments in certificates of deposit, and mortgage-backed
securities. The objectives of these investments are to
increase portfolio yield, and to provide collateral to pledge for
federal, state and local government deposits and other
borrowing facilities. The investments held-to-maturity have an
average term to maturity of 31 and 43 months at
December 31, 1997 and 1996, respectively, and are carried at
amortized cost. At December 31, 1997 and 1996,
the investment securities held-to-maturity portfolio includes
$5.9 million and $6.9 million, respectively, in fixed rate
balloon mortgage-backed security investments.
Investment securities available-for-sale may include United
States Treasury and Federal agency securities,
mutual funds, mortgage-backed securities, and collateralized
mortgage obligations. These securities are typically
used to supplement the Bank's liquidity portfolio with the
objective of increasing yield. Investment securities
available-for-sale are accounted for at fair value. Unrealized
gains and losses are recorded as an adjustment to
equity and are not reflected in the current earnings of the Bank.
If the security is sold any gain or loss is recorded
as a charge to earnings and the equity adjustment is reversed.
At December 31, 1997 and 1996, the Bank held
$32.7 million and $28.3 million as investments
available-for-sale, respectively. At December 31, 1997 and 1996,
$16,000 and $77,000 was charged against equity, respectively, to
reflect the net market value adjustment to the
securities available-for-sale.
Page 15
The tables below sets forth certain information regarding
the carrying value and the weighted average yields
of the Bank's investment securities portfolio by maturity at
December 31, 1997:
Available for Sale
Total
With in One to Mortgage- Investment
One Year Five Years backed Securities
(Dollars in Thousands)
U.S. Treasury $97 -- -- $97
Average yield 5.3% -- -- 5.3%
Agency securities $7,480 $17,969 -- $25,449
Average yield 6.0% 6.2% -- 6.1%
Mortgage-backed securities -- -- $7,123 $7,123
Average yield -- -- 6.7% 6.7%
Total $7,577 $17,969 $7,123 $32,669
Average yield 6.0% 6.2% 6.7% 6.3%
Held to Maturity
Total
One to Investment
Five Years Securities
(Dollars in Thousands)
Mortgage-backed securities $5,864 $5,864
Average yield 6.1% 6.1%
As of December 31, 1997 and 1996, the Bank held 14,986 and
6,698 shares, respectively of stock in the
Federal Home Loan Bank of San Francisco (the "FHLB") as a
membership requirement with a carrying and market
value of $1.5 million and $670,000, respectively. The FHLB stock
has no term to maturity. As of December 31,
1997 and 1996, the Company and the Bank had no derivative
financial instruments. The Bank held $4.7 million
in adjustable rate mortgage-backed securities that had a final
maturity of more than five years as of December 31,
1996.
Loans
The Bank's primary lending activities are in commercial and
financial loans made primarily to individuals
and businesses in the nine counties surrounding the San Francisco
bay area and, to some extent, in the Sacramento
metropolitan area. The Bank purchases whole loans and enters
into loan participation agreements with other banks
in Northern California. The Bank also extends credit under a
program of lending pursuant to the Small Business
Administration's 504 Certified Development Company Program (the
"SBA 504 Program"). The Bank may provide
financing to qualifying borrowers for the sale of other real
estate owned. The Bank also provides financing for the
exercise of employee stock options. The Bank offers credit
ranging from $25,000 to $4.0 million depending on
loan characteristics such as type, collateral, and terms.
At December 31, 1997 and 1996, the Bank had net loans
outstanding of $48.7 million and $37.9 million,
respectively, which represented approximately 56.3% and 41.6% of
the Bank's total deposits at those dates and
approximately 41.8% and 36.4% of the total assets of the Company.
During 1997, the Bank originated, purchased
and participated in $24.9 million of loans, compared with $22.0
million during 1996. The interest rates charged
on the Bank's loans have varied with the degree of risk,
maturity, market interest rates, funds availability, and
governmental regulations, and have been subject to competitive
pressures. Approximately 57% of the Bank's loans
have interest rates that either adjust quarterly, or more
frequently, based on the Bank's prime rate, the eleventh
district cost of funds, or the one-year treasury constant
maturity, or mature within 90 days.
At December 31, 1997, the Bank had no direct loans to
foreign borrowers. Based on the best information
available at this time, management does not believe that the
uncertainties and volatility in the Asian financial markets
will have a direct negative impact on the credit quality of the
Bank's assets.
Page 16
Real Estate Secured Loans The Bank's real estate mortgage
loans typically are secured by first or second
deeds of trust on either commercial or residential property, and
have original maturities of three years or more.
Such loans have been non-revolving and generally have had
maturities that do not exceed ten years. Repayment
terms generally include principal amortization over a negotiated
term, with balloon principal payments due upon
maturity of the loans. The typical purpose of these loans is the
acquisition or re-financing of real property securing
the loan. The primary sources of repayment have been the
properties' cash flow in the case of commercial real
estate loans and the borrowers' cash flow in the case of
residential real estate. The secondary source of repayment
is the sale of the real property securing the loan. The Bank's
real estate secured loans typically bear a floating rate
of interest based on either the prime rate, eleventh district
cost of funds, or the a treasury constant maturity index.
The Bank will continue to consider and has made fixed rate loans.
Included in real estate secured loans are the SBA 504
Program loans. Generally, the SBA 504 Program
provides an SBA-backed debenture for long-term (up to 20 years),
permanent, fixed-rate financing for real estate
acquisition and development with a maximum project cost of $2.5
million. The financing of an SBA 504 Program
project includes a private-sector senior loan for up to 50% of
the value of the project, a junior lien to a maximum
of 40% of the value of the project which is guaranteed by the
SBA, and the borrower providing 10% equity. The
Bank's SBA 504 Program loans include construction and permanent
financing. The Bank provides the financing
during the construction of the project where the borrower has
qualified for permanent financing under the SBA 504
Program. The Bank provides the permanent financing when
construction is complete by providing the private-sector
senior loan for up to 50% of the value of the project.
Loans collateralized by real estate represent the Bank's
largest loan concentration. As of December 31,
1997 and 1996, approximately 72.8% and 64.0%, respectively, of
the Bank's total outstanding loan portfolio was
secured by real estate. The Bank mitigates concentration risk by
diversifying the type of real estate and the
geographic location of the collateral. The largest concentration
of real estate loans is collateralized by commercial
real estate which is 53.4% of total outstanding loans. The
largest concentration of commercial real estate loans by
type of underlying collateral is commercial office properties
which total $8.1 million or 6.9% of total assets. The
largest geographic concentration in San Francisco totals $14.3
million, or 12.2% of total assets. The largest real
estate secured loan was approximately 3.4% of total assets as of
December 31, 1997. As of December 31, 1997,
the Bank's real estate loan portfolio consists primarily of loans
with principal amounts of between $100,000 and
$4.0 million and generally have terms of maturity of between one
and ten years.
Secured Commercial and Financial Loans The Bank offers a
variety of commercial and financial lending
services including revolving lines of credit, working capital
loans, homeowners' association loans, and letters of
credit. In addition, the Bank may purchase participations in
agricultural and other types of loans. These loans are
typically secured by cash deposits, accounts receivable,
homeowners' association due assessments, equipment,
inventories, agricultural crop production, investments, and
securities. In underwriting commercial and financial
loans, the Bank focuses on the net worth, income, liquidity and
cash flows of the borrower or borrowers and the
value of the collateral. The Bank's commercial and financial
loans typically have a floating rate of interest based
on the prime rate. The Bank's commercial and financial loans are
primarily in principal amounts of at least
$100,000 and generally have terms of one year or less.
As of December 31, 1997 and 1996, the Bank had secured
commercial and financial loans outstanding of
$4.9 million and $6.2 million constituting approximately 9.5% and
14.2% of the Bank's total outstanding loan
portfolio, respectively. As of December 31, 1997, approximately
45% of the Bank's gross secured commercial and
financial loan commitments were scheduled to mature within one
year. As of December 31, 1997, the largest
secured commercial and financial loan commitment accounted for
less than 1% of the Bank's total assets.
Unsecured Loans The Bank offers a variety of unsecured
loans including commercial and financial loans
and loans to individuals. The purpose of unsecured loans
includes revolving lines of credit for personal investing
or cash flow management, home or business improvements, working
capital loans, and letters of credit. In
underwriting unsecured loans, the Bank focuses on the net worth,
income, liquidity and cash flows of the borrower.
The Bank's unsecured loans typically have a floating rate of
interest based on the prime rate. The Bank's unsecured
loans are primarily in principal amounts of at least $100,000 and
generally have terms of one year or less. In
addition, the Bank will extend unsecured credit under a credit
card arrangement as an accommodation for qualifying
borrowers. As of December 31, 1997, the Bank had credit card
commitments totaling $92,000 with outstanding
balances of $34,000.
Page 17
As of December 31, 1997 and 1996, the Bank's unsecured loan
commitments totaled $15.6 million and
$12.4 million and had outstanding balances totaling $8.6 million
and $7.8 million and were 16.6% and 17.8%,
respectively, of the Bank's total outstanding loan portfolio.
The Bank's largest unsecured loan accounted for
approximately 2% of total assets as of December 31, 1997.
Other Loans The Bank offers a variety of other loans a
majority of which are stock option loans. These
loans typically have a floating rate of interest based on the
prime rate and have a term of less than 30 days. See
"-- Stock Option Services." As of December 31, 1997 and 1996,
the Bank's other loans totaled $553,000 and $1.7
million and were 1.0% and 3.9%, respectively, of the Bank's total
loan portfolio.
Lending Policies and Procedures The Bank's lending policies
are established by the Bank's senior
management and approved by the Board of Directors of the Bank and
its Loan, Investment and Special Assets
Committee. The Bank is required by regulation to limit its
maximum outstanding balance to any one borrower to
25% of capital and reserves on secured loans and to 15% of
capital and reserves on unsecured loans. Secured loans
are defined as loans secured by a first deed of trust or
possessory collateral. Of the $30.1 million in loan
commitments added in 1997, a total of $10.1 million were to
borrowers that each have loan commitments from the
Bank of $1.0 million or more. Generally, any new or renewing
loan where the Bank's total borrower credit
exposure is over $1.0 million requires the approval of the Loan,
Investment and Special Assets Committee of the
Board. All other loans where the total borrower exposure is $1.0
million and less can be approved by senior
management.
The Bank assesses the lending risks, economic conditions and
other relevant factors related to the quality
of the Bank's loan portfolio in order to identify possible credit
quality risks. The Bank has engaged a third party
professional firm to perform certain agreed upon procedures
relating to credit quality and loan classification. These
credit review consultants review a sample of loans periodically
and report the results of their findings to the Audit
Committee of the Bank's Board of Directors. Results of reviews
by the credit review consultants as well as
examination of the loan portfolio by state and federal regulators
are also considered by management in determining
the level of the allowance for loan losses.
The Bank may restructure loans as a result of a borrower's
inability to service the obligation under the
original terms of the loan agreement. Restructures are executed
only when the Bank expects to realize more from
a restructured loan than from allowing the loan to be foreclosed
or pursuing other forms of collection.
When a borrower fails to make a required payment on a loan,
the loan is categorized as delinquent. If the
delinquency is not cured, workout procedures are generally
commenced. If workout proceedings are not successful,
collection procedures, which may include collection demands,
negotiated restructures, foreclosures and suits for
collection, are initiated. In general, loans are placed on
non-accrual status after being contractually delinquent for
more than 90 days, or earlier if management believes full
collection of future principal and interest on a timely basis
is unlikely. When a loan is placed on non-accrual status, all
interest accrued but not received is charged against
interest income. When the ability to fully collect non-accrual
loan principal is in doubt, cash payments received are
applied against the principal balance of the loan until such time
as full collection of the remaining recorded balance
is expected. Generally, loans with temporarily impaired values
and loans to borrowers experiencing financial
difficulties are placed on non-accrual status even though the
borrowers continue to repay the loans as scheduled.
Such loans are categorized as performing non-accrual loans and
are reflected in non-performing assets. Interest
received on such loans is recognized as interest income when
received. A non-accrual loan is restored to an accrual
basis when principal and interest payments are paid current and
full payment of principal and interest is probable.
Loans that are well secured and in the process of collection
remain on accrual status.
Page 18
Composition of Loan Portfolio The composition of the Bank's
loan portfolio at December 31 is summarized
as follows:
At December 31,
(Dollars in Thousands) 1997 1996 1995 1994 1993
Real estate mortgage $37,826 $28,022 $37,049 $ 71,153 $96,426
Secured commercial and financial 4,912 6,229 7,379 20,906 31,457
Unsecured 8,633 7,800 7,604 12,052 20,109
Other 553 1,711 1,176 2,341 1,749
51,924 43,762 53,208 106,452 149,741
Deferred fees and discounts, net (61) (190) (180) (388) (550)
Allowance for possible
loan losses (3,200) (5,663) (5,912) (6,576) (8,050)
Total loans, net $48,663 $37,909 $47,116 $99,488 $141,141
The following table presents the loan portfolio at December
31, 1997 based upon various contractually
scheduled principal payments allocated into maturity categories.
This table does not reflect anticipated prepayment
of loans.
One to After
Within Five Five
(Dollars in Thousands) One Year Years Years Total
Real estate mortgage $3,611 $20,296 $13,919 $37,826
Secured commercial and financial 1,916 2,948 48 4,912
Unsecured 7,844 789 -- 8,633
Other 553 -- -- 553
Total loans $13,924 $24,033 $13,967 $51,924
Adjustable rate loans total $40.1 million including $25.8
million with rates that adjust immediately based
on prime rate. Fixed rate loans and loans with next adjustment
dates beyond two years total $11.8 million, or 23%
of the Bank's total loan portfolio, have a weighted average yield
of 9.08% and an average final maturity date of
within 7.6 years. As of December 31, 1997, fixed rate loans with
pre-payment penalties totaled $3.9 million.
Generally, the prepayment penalty provisions are effective for
the first one to three years from the date of
origination.
There were $8.9 million in loans, or 17% of total loans,
that adjust at least annually based on the FHLB
eleventh district cost of funds index ("Cofi") which have a
weighted average yield of 8.22% and a weighted average
term to final maturity of approximately 8 years, as of December
31, 1997. Generally, these loans have a weighted
average annual interest rate change limit of 2.00% and a
life-time interest rate floor and cap of 6.46% and 14.38%,
respectively. The Bank also held $5.5 million in loans, or 11%
of total loans, that have an initial fixed term of two
years and then adjust quarterly based on the one-year treasury
constant maturity index for the remaining term of
the loan. As of December 31, 1997, the yield on these loans was
8.95% and the average term to final maturity was
approximately 10 years.
Problem Assets The Bank monitors the credit quality of its
assets by periodically reviewing market conditions,
reviewing borrower performance trends, obtaining updated
financial and appraisal information, and by inspecting
the collateral, if any, using defined grading standards. The
Bank categorizes the assets into credit quality grades
based on risk characteristics resulting in certain assets
receiving adverse grades. Assets that are assigned a grade
or rating of "substandard" or "doubtful" are identified as
Problem Assets. Assets assigned a grade or rating of
"Loss" are immediately charged or written off. Problem Assets
include non-performing assets such as non-accrual
loans, other real estate owned (the "OREO"), and performing loans
that exhibit certain credit quality weaknesses.
Effective January 1, 1995, the Company adopted SFAS No. 114
"Accounting by Creditors for Impairment
of a Loan" as amended by SFAS No. 118 "Accounting by Creditors
for Impairment of a Loan-Income Recognition
and Disclosures". A loan is considered impaired when, based on
certain events and information, it is "probable"
that a creditor will be unable to collect all amounts due
according to the contractual terms of the loan agreement.
Page 19
At December 31, 1997 and 1996, the Company measured the
impairment of all impaired loans, totaling $171,000
and $3.4 million, respectively, using the collateral value
method. For the year ended December 31, 1997 and 1996,
the weighted average impaired loans outstanding was $924,000 and
$3.7 million, respectively. Total interest
recognized on impaired loans during 1997 was $13,000 and the
related allowance for loan losses totaled $26,000
at December 31, 1997.
Real estate acquired through foreclosure is recorded at fair
value at the time of transfer to OREO. The
Bank periodically obtains either an appraisal or market valuation
analysis on all OREO. If the valuation analysis
indicates a decline in the market value of the property, a
specific loss allowance is established. The Bank provides
a charge against current earnings for estimated losses on
foreclosed property when the carrying value of the property
exceeds its fair value net of estimated selling expenses. Fair
value is based on current market conditions, appraisals,
and estimated sales values of similar properties, net of an
estimated discount for selling and other expenses.
In 1997, the Bank reduced its non-performing asset portfolio
by $7.9 million, from $8.5 million as of
December 31, 1996 to $581,000 as of December 31, 1997, through
resolutions, asset sales, charge offs and
improvements in loan quality. Of the $581,000 of non-performing
assets in the Bank's portfolio at December 31,
1997, properties classified by the Bank as OREO comprised 70% of
the total value of the non-performing asset
portfolio and 30% was held on a non-accrual basis. Based upon
information presently available, management
believes that the Bank has made sufficient provision to its
allowance for possible loan losses and specific reserves
to absorb possible losses that might result from the Bank's
current strategies to resolve the non-performing assets.
The table below outlines the Bank's classified assets as of
December 31:
(Dollars in Thousands) 1997 1996 1995 1994 1993
Non-accrual loans $171 $3,400 $7,511 $9,377 $11,086
Other real estate owned, net 410 5,133 7,514 10,021 32,372
Real estate investment, net -- -- 236 682 1,468
Total non-performing assets 581 8,533 15,261 20,080 44,926
Loans - performing 1,393 10,391 17,800 15,580 11,847
Total classified assets $1,974 $18,924 $33,061 $35,660 $56,773
Non-performing assets as a percentage
of total loans, OREO
outstanding 1.1% 17.4% 24.7% 16.7% 23.9%
Loans past due 90 days or
more and accrual -- -- -- $ 940 --
Loans restructured and in compliance
with modified terms -- 4,109 4,126 6,317 1,967
The Bank had $171,000 in loans on December 31, 1997 that
were between 31 and 89 days delinquent and
are included above as non-accrual loans. For the years ended
December 31, 1997, 1996, and 1995, interest income
foregone on restructured loans was zero, zero, and $24,000,
respectively. The amount of gross interest income that
would have been collected for non-accrual loans if all such loans
had been performing in accordance with their
original terms was $2,000, $29,000, and $177,000, in 1997, 1996
and 1995, respectively.
Page 20
Allowance for Loan Losses Generally, the Bank's method of
analyzing the adequacy of its allowance for
loan losses is based on the evaluation of fair value of the
underlying collateral, known risks, trends, and other
factors. The fair value of the underlying collateral is based on
current market conditions, appraisals, and estimated
sales values of similar properties, less an estimated discount
for selling and other expenses. In addition, the Bank
establishes a specific loss allowance based on the asset
classification and credit quality grade. This specific loss
allowance is utilized to ensure that allowances are allocated
based on the credit quality grading to capture inherent
risks. In addition, the Bank carries an "unallocated" allowance
for loan losses to provide for losses that may occur
in the future in loans that are not presently classified, based
on present economic conditions, trends, and related
uncertainties. The Bank continues to refine the allowance
methodology to ensure that all known risks, trends, and
facts are utilized in determining the adequacy of the allowance
for loan losses.
Generally, the Bank charges current earnings with provisions
for estimated losses on loans receivable and
other real estate owned. The Bank will provide a negative
provision if the total allowance for loan losses exceeds
the amount of estimated loan losses. The provisions take into
consideration the adequacy of the total allowance for
loan losses giving due consideration to specifically identified
problem loans, the financial condition of the borrowers,
the fair value of the collateral, recourse to guarantors, and
other factors.
The following table summarizes the loan loss experience of the
Bank for the years ended December 31:
(Dollars in Thousands) 1997 1996 1995 1994 1993
Balance of allowance for loan
losses at beginning of period $5,663 $5,912 $6,576 $8,050 $8,400
Loans charged off:
Commercial, financial and
unsecured (5) (4) (427) (3,888) (2,407)
Real estate (35) (642) (2,444) (2,732) (1,254)
Sale of loans -- -- -- -- (402)
Subtotal (40) (646) (2,871) (6,620) (4,063)
Recoveries of previous losses:
Commercial and financial 320 397 1,565 1,181 148
Real estate 77 -- 142 166 6
Net lease financing -- -- -- -- 5
Subtotal 397 397 1,707 1,347 159
Net loans recovery/(charged off) 357 (249) (1,164) (5,273) (3,904)
Provision for loan losses (2,820) -- 500 3,799 3,554
Balance of allowance for loan
losses at end of period $3,200 $5,663 $5,912 $6,576 $8,050
Ratio of the allowance to
total loans 6.2% 12.9% 11.1% 6.2% 5.4%
Ratio of the allowance to
non-accrual loans 1,871.3 166.6 78.7 70.1 72.6
Ratio of net (recoveries)/
charge-offs to average loans (0.8) 0.6 1.4 4.4 2.0
Page 21
Allocation of the allowance for loan losses by collateral
type at December 31 are as follows:
1997 1996 1995
(Dollars in Thousands)
Balance Percent(1) Balance Percent(1) Balance Percent(1)
Real estate
mortgage $1,460 72.8% $2,456 64.0% $1,613 69.6%
Secured commercial
and financial 97 9.6 250 14.2 1,207 13.9
Unsecured 214 16.6 483 17.8 1,872 14.3
Other 2 1.0 36 4.0 -- 2.2
Unallocated 1,427 -- 2,438 -- 1,220 --
Total $3,200 100.0% $5,663 100.0% $5,912 100.00%
1994 1993
Balance Percent(1) Balance Percent(1)
Real estate mortgage $2,322 66.9% $2,707 64.4%
Secured commercial and financial 1,522 19.6 999 21.0
Unsecured 2,359 11.3 1,549 13.4
Other -- 2.2 -- 1.2
Unallocated 373 -- 2,795 --
Total $6,576 100.0% $8,050 100.0%
(1) Percent refers to the percent of loans in each category to
total loans.
Deposits
The Bank had total deposits of $86.5 million and $91.2
million at December 31, 1997 and 1996,
respectively. As of December 31, 1997, deposits consisted of
demand deposits totaling $19.7 million, money
market and savings accounts totaling $16.0 million, NOW accounts
totaling $16.0 million and time deposits totaling
$34.8 million. As of December 31, 1997, the Bank had a total of
2,164 deposit accounts consisting of 540 demand
deposit accounts with an average balance of approximately $36,000
each, 468 savings and money market accounts
with an average balance of approximately $34,000 each,
approximately 728 NOW accounts with an average balance
of approximately $22,000 each and 428 time accounts with an
average balance of approximately $82,000. The
Bank's deposits and, correspondingly, its liquidity, are largely
dependent upon four sources of funds: deposits
acquired through its ABS function, Private and Business Banking,
Escrow Services, and deposits solicited through
the Bank's money desk. These sources of deposits comprised 90.5%
of the Bank's total deposits at December 31,
1997.
Certificates of deposit having a balance of at least
$100,000 represented approximately 18% of the Bank's
total deposits as of December 31, 1997 compared to 9.4% as of
December 31, 1996. As of December 31, 1997,
$10.0 million of the Bank's certificates of deposit of at least
$100,000 mature in 90 days or less and $4.9 million
mature between 91 days and one year. The aggregate average
maturity of all of the Bank's certificates of deposit
of at least $100,000 was three months as of December 31, 1997,
and the aggregate amount of all such certificates
of deposit as of December 31, 1997 was $15.6 million with a
weighted average stated rate of 5.2%.
The Bank solicits money desk deposits principally from other
financial institutions and municipalities outside
of the Bank's market area. As of December 31, 1997 and 1996, the
Bank had outstanding money desk deposits
of $11.7 million or 13.5% of total Bank's total deposits and
$21.0 million or 23.1% of Bank's total deposits,
respectively. During 1997, the money desk deposits averaged
$17.4 million, with a high balance of $21.8 million.
As of December 31, 1997, money desk deposits had a remaining
weighted average maturity of approximately six
months. Management believes that the Bank can continue to reduce
total money desk and volatile liabilities through
local deposit marketing efforts. No assurance can be given that
the Bank will be able to successfully implement
its plans to increase core deposits.
Page 22
The following table sets forth the maturities, as of
December 31, 1997, of the Bank's interest-bearing
deposits and other interest-bearing liabilities:
Over 3 Over More Than
3 Months Months to 6 Months 1 Year to
(Dollars in Thousands) or Less 6 Months to 1 Year 5 Years Total
Interest-bearing liabilities:
Money market and
savings accounts $16,040 -- -- -- $16,040
NOW accounts 15,986 -- -- -- 15,986
Time deposits 15,371 $8,565 $8,691 $2,175 34,802
Total interest-bearing
liabilities $47,397 $8,565 $8,691 $2,175 $66,828
Other Borrowings
The Bank has other borrowing facilities which include
advances from the FHLB and access to the discount
window at the FRB. During 1997, the Bank borrowed $10.0 million
from the FHLB under this borrowing facility.
The following table sets forth the maturities, as of December 31,
1997, of the borrowings:
Over More Than
1 Year 4 Years to
(Dollars in Thousands) to 3 Years 5 Years Total
Fixed rate borrowing $3,000 $5,000 $ 8,000
Adjustable rate borrowing 2,000 -- 2,000
Total interest-bearing
liabilities $5,000 $5,000 $10,000
No other borrowings were outstanding at December 31, 1996.
The Bank's short term line of credit with the FRB of up to
$1.7 million is available upon the pledge of
securities. The long-term borrowing from the FHLB of $10.0
million is secured by pledged securities and loans
totaling $14.8 million. As of December 31, 1997, the Bank had
$13.3 million available under its line of credit with
the FHLB. During 1997 and 1996, the Bank did not borrow at the
discount window at the Federal Reserve Bank.
In the second and third quarters of 1996, the Bank activated its
FHLB borrowing which were repaid in the third
and fourth quarters of 1996.
Market Risk Management
Market risk includes risks that arise from changes in
interest rates, foreign currency exchange rates,
commodity prices, equity prices, and other market changes that
affect market sensitive instruments. The Company's
primary market rate risk is interest rate risk. The Company does
not have any significant direct risks related to
foreign currency exchange rates, commodity prices, equity prices,
or other market changes that affect market
sensitive instruments.
Generally, interest rate risk occurs as a result of interest
sensitive assets and liabilities not repricing at the
same time and by the same amount. The Company's interest rate
risk is a combination of several risk factors
including interest, liquidity, price, and compliance. These risk
factors are influenced by many circumstances
including changes in the economic environment and competitive
pressures.
The oversight responsibilities for the Company's interest
rate risk management is performed by the Bank's
Asset Liability Committee (the "ALCO"). The interest rate risk
management policies are approved by the Board
of Directors. The Company's approach to managing interest rate
risk is to periodically measure the amount of
interest rate risk based on estimated cashflows assuming multiple
interest rate scenarios. The results of the
Page 23
measurement are evaluated and alternate strategies, if needed,
are implemented to reduce the interest rate risk
exposure. The strategies the Company uses to manage interest
rate risk include adjustments to the composition of
the investment securities portfolio, and new loan and deposit
product terms. The Company's policies permit the
use of off-balance sheet derivative instruments to control
interest rate risk. However, as of December 31, 1997,
no such instruments were outstanding.
Using a simulation model, the Company measures interest rate
sensitivity on a quarterly basis. The
simulation model takes into consideration the potential
volatility in projected results that can occur as the interest
rate environment changes over time. This provides a dynamic
assessment of interest rate sensitivity. For example,
callable agency securities have a final maturity but also have a
call feature that would result in the possibility of a
security being repaid in a declining rate environment, and/or, in
a declining rate environment, yields on loans might
declined but due to competitive pressures a reduction in interest
rates on deposits may not be possible without
increasing liquidity risk resulting in a decline in asset yields
without a corresponding decline in liability costs. These
and other factors may increase or decrease the amount of
volatility in projected results.
A simplified method of measuring interest rate sensitivity
is a "gap" analysis. A gap analysis assesses the
difference between the amount of assets and the amount of
liabilities which are subject to interest rate repricing at
a set intervals as of a specific date. If more assets than
liabilities are interest rate sensitive at a given time in a
rising interest rate environment, net interest income increases.
In a declining interest rate environment with the
same "gap", net interest income decreases. If more liabilities
change rates than assets, the same scenarios produce
the opposite effects. Gap analysis only partially depicts the
Company's sensitivity to interest rate changes at a
specific date. Such an analysis does not fully describe the
complexity of relationships between product features and
pricing, market rates and future management of the asset and
liability mix.
The following table illustrates the repricing opportunities
for the Company's interest-earning assets and
interest-bearing liabilities at December 31, 1997:
(Dollars in Thousands) Over 3 Over More Than No stated
3 Months Months to 6 Months 1 Year to and/or Over
or Less 6 Months to 1 Year5 Years 5 Years Total
Interest-Earning Assets:
Investment securities and
certain cash equivalents
$19,414 $7,505 $11,622 $14,172 $1,499 $54,212
Loans (1) 29,518 4,595 546 14,621 2,644 51,924
Total interest
earning assets 48,932 12,100 12,168 28,793 4,143 106,136
Liabilities and Equity:
Interest-bearing deposits
48,031 9,053 9,648 96 -- 66,828
Other borrowings
2,000 -- -- 8,000 -- 10,000
Portion of non-interest
bearing liabilities and equity
-- -- -- -- 29,308 29,308
Portion of liabilities
and equity
50,031 9,053 9,648 8,096 29,308 106,136
Interest bearing assets over (under)
liabilities and equity
$(1,099) $3,047 $2,520 $20,697 $(25,165) --
Cumulative primary gap
$ (1,099) $ 1,948 $ 4,468 $ 25,165 --
Gap as a percentage of total
interest-earning assets
(1.0)% 1.8% 4.2% 23.7% 0.0%
(1) Excludes non-accrual loans.
The Company's simulation model estimates the changes in
earnings as a result of changes in interest rate
sensitive assets and liabilities which would occur as a result of
an instantaneous and sustained increase or decrease
Page 24
in interest rates of 200 basis points, and the resulting effect
on the Company's net interest margin, net income and
capital over a one and two year period. The Company has
established policy guidelines regarding maximum
negative variances in net interest margin of 10%, in net income
of 50%, and in capital of 10% in the event of an
instantaneous and sustained increase or decrease in market rates
of 200 basis points. As of December 31, 1997,
the Company's sensitivity to changes on interest rates was within
policy guidelines.
The following table presents the Company's hypothetical
changes in the Company's net interest income,
net income and capital, measured for the one-year period
beginning January 1, 1998, based on the December 31,
1997 beginning balance sheet.
Change in Estimated Increase/(Decrease) in
Interest Rates Net interest income Net income Capital
(basis points) Amount Percent Amount Percent Amount Percent
+ 200 $(83) (1.5)% $(81) (3.8)% $(705) (3.6)%
no change - - - - - -
- 200 $(521) (9.1)% $(391) (18.2)% $(358) (1.8)%
The table above illustrates that in an increasing interest
rate environment, the Company's earnings and
capital would be expected to decline slightly due to the cost of
interest bearing deposits rising faster than the
increase in yield on loans and investments. In a declining
interest rate environment, the Company's earnings and
capital would be expected to decline primarily as a result of the
reinvestment of cashflow from accelerated maturity
of certain fixed rate callable securities and prepayment of fixed
rate loans in lower yielding investments and loans,
and the lag in the decline of the cost of interest bearing
deposits.
The simulation model includes key assumptions regarding
cashflows including projections of new and
renewing loans and deposits, prepayment assumptions for certain
investment securities and loans, and reinvestment
of cashflows and assumptions regarding estimated competitive
pressures regarding pricing of loan and deposit
products given the present economic climate.
The simulation model does not contemplate all interest rate
scenarios or all the actions the Company may
undertake in response to changes in market interest rates. Also,
the model does not capture the change in value
for certain balance sheet assets, which may reduce the effect of
changes in interest rates. For example, in a 2%
falling rate scenario, the model will not reflect additional
interest income on certain loans that have reached annual
or life-time floors and/or have pre-payment penalties; however,
those floors and/or prepayment penalties may result
in a significant increase in value.
The projections provided herein contain estimates that are
based on certain assumption that may or may
not occur, are subject to uncertainties that could cause actual
results to differ materially, and any method of
analyzing interest rate risk has certain inherent shortcomings.
For example, although certain assets and liabilities
have similar repricing characteristics, they may react in
different degrees to changes in market interest rates, certain
categories of assets and/or liabilities may precede, or lag
behind, changes in market interest rates, and the shift in
the slope of the yield curve could result in different estimates.
Also, actual rates of prepayments on loans and
investments could vary significantly from the estimates used in
the projections. Accordingly, results in the
preceding tables should not be relied upon as indicative of
actual results in the event of changing market interest
rates and are not intended to represent, and should not be
construed to represent, the underlying value of the
Company.
Capital
Shareholders' equity totaled $17.6 million at December 31,
1997, an increase of $6.5 million from $11.1
million at December 31, 1996. During 1997, the Company issued
2,941,176 shares of Class A Common Stock in
exchange for $1.0 million in capital.
The Company and the Bank are subject to general regulations
issued by the FRB, FDIC, and DFI which
require maintenance of a certain level of capital and the Bank is
under specific capital requirements as a result of
the MOU. The Company is also subject to a Letter Agreement dated
April 21, 1989, with the FRB which requires
that the Company maintain a minimum leverage capital ratio of
5.5%. As of December 31, 1997, the Company
Page 25
was in compliance with all minimum capital requirements and the
Bank was in compliance with all minimum capital
ratio requirements including the minimum leverage ratio of 7.0%
required by the MOU.
The following table reflects both the Company's and the
Bank's capital ratios with respect to the minimum
capital requirements in effect as of December 31, 1997.
Minimum
Capital
Company Bank Requirement MOU
Leverage ratio 14.6% 14.4% 4.0% 7.0%
Tier 1 risk-based capital 20.1 19.8 4.0 N/A
Total risk-based capital 21.9 21.6 8.0 N/A
Year 2000
The Company has adopted a plan to identify, assess, and
address issues related to the Year 2000 problem
(the "Y2K Plan"). The Year 2000 problem is a computer
programming issue that has occurred as a result of many
computer systems being programmed to use a two digit code to
identify the year. For example, the year 1997
would be signified by "97", and, therefore, the year 2000 may be
mis-recognized as the year 1900. This could
result in the miscalculation of financial data and/or result in
processing errors of transactions or functions that are
date sensitive.
The purpose of the Y2K Plan is to manage the business risks
associated with the Year 2000 problem. The
Y2K Plan is a five-step process ranging from identifying the
business risks to implementing and testing any
necessary corrective measures. Generally, the Bank's business
risks come from internal sources such as the Bank's
own computer systems or from external sources such as borrowers
whose businesses might be adversely impacted
by the Year 2000 issue, deposit customers whose transactions are
transmitted electronically, and other institutions
and governmental agencies whose computer systems may have a
direct or indirect adverse impact on the Bank or
the Bank's customers.
The Bank is in the process of upgrading all of its core
banking hardware and software. The upgrades are
projected to be operational by December 31, 1998 and testing is
expected to continue throughout 1999. The Bank maintains much of
its computer hardware on the premises of third
party vendors, uses software under licensing
agreements with vendors, and has outsourced its data processing
requirements to outside vendors. As a result, the
Bank is highly reliant on vendors to upgrade many of the Bank's
systems to be Year 2000 compliant. A project
team, staffed by Bank employees, is responsible for monitoring
the Y2K Plan progress including vendor
commitments, and periodically reporting such progress to the Bank
Audit and Regulatory Committee of the Board.
The Bank is requesting certification of compliance from all
vendors and intends to test the compliance of all major
systems. Notification has been sent to all loan and deposit
customers apprising them of the potential problems and
requesting that they assess the compliance of their computer
systems. The Bank's lending policies have been revised
to require an assessment of a borrower's risks to the Year 2000
problem, and the assessment has been incorporated
into the credit review process. Nevertheless, the inability of
vendors, borrowers, deposit customers, other
institutions and/or governmental agencies to implement all of the
required modifications could have a significant
adverse impact on the Company and the Bank.
The costs associated with executing the Y2K Plan and
completing the Year 2000 modifications are estimated
to be approximately $250,000 including approximately $160,000 for
the purchase of new hardware which will be
amortized over the useful life of the equipment. There can be no
guarantee that this estimate will be achieved, will
require revision at a later time, or that all business risks and
related exposure have been identified.
Page 26
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
Report of Independent Accountants. . . . . . . . . . . . . . . .. . . . 28
Consolidated Statements of Financial Condition,
December 31, 1997 and 1996 . . . . . . . . . . . . . . . . . .. . . . 29
Consolidated Statements of Operations, . . . . . . . . . . . . .. . . . 30
Years ended December 31, 1997, 1996 and 1995
Consolidated Statements of Changes in Shareholders' Equity,. . .. . . . 31
Years ended December 31, 1997, 1996 and 1995
Consolidated Statements of Cash Flows, . . . . . . . . . . . . .. . . . 32
Years ended December 31, 1997, 1996 and 1995
Notes to Consolidated Financial Statements . . . . . . . . . . .. . . . 34
Page 27
REPORT OF INDEPENDENT ACCOUNTANTS
The Board of Directors and Shareholders of
The San Francisco Company:
We have audited the accompanying consolidated statements of
financial condition of The San Francisco Company
and subsidiaries (the "Company") as of December 31, 1997 and 1996
and the related consolidated statements of
operations, changes in shareholders' equity and cash flows for
each of the years in the three-year period ended
December 31, 1997. These consolidated financial statements are
the responsibility of the Company's management.
Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted
auditing standards. Those standards require that
we plan and perform the audit to obtain reasonable assurance
about whether the consolidated financial statements
are free of material misstatement. An audit includes examining,
on a test basis, evidence supporting the amounts
and disclosures in the financial statements. An audit also
includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating
the overall financial statement presentation. We
believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the consolidated financial statements referred to
above present fairly, in all material respects, the
financial position of The San Francisco Company and subsidiaries
as of December 31, 1997 and 1996, and the
results of their operations and their cash flows for each of the
years in the three-year period ended December 31,
1997 in conformity with generally accepted accounting principles.
KPMG Peat Marwick LLP
February 12, 1998
San Francisco, California
Page 28
The San Francisco Company
Consolidated Statements of Financial Condition
December 31, 1997 and 1996
(Dollars in Thousands Except Per Share Data) Notes 1997 1996
Assets:
Cash and due from banks $ 2,837 $ 3,701
Federal funds sold 14,150 11,925
Cash and cash equivalents 16,987 15,626
Investment securities held-to-maturity
(Market value: 1997 - $5,822 and 1996 - $6,848) 3 5,864 6,943
Investment securities available-for-sale 3 32,669 28,348
Federal Home Loan Bank stock, at par 3 1,499 670
Loans 4 51,924 43,762
Deferred loan fees 4 (61) (190)
Allowance for loan losses 5 (3,200) (5,663)
Loans, net 48,663 37,909
Other real estate owned 6 410 5,133
Premises and equipment, net 7 7,791 8,059
Interest receivable 720 758
Other assets 2,014 555
Total assets $116,617 $104,001
Liabilities and Shareholders' Equity:
Non-interest bearing deposits $19,691 $ 16,505
Interest bearing deposits 66,828 74,661
Total deposits 8 86,519 91,166
Other borrowings 9 10,000 --
Other liabilities and interest payable 2,528 1,771
Total liabilities 99,047 92,937
Commitments and contingencies 15
Shareholders' Equity: 11
Convertible preferred stock (par value $0.01 per share)
Series B - Authorized - 437,500 shares
Issued and outstanding - 1997 - 15,869 and
1996 - 15,869 shares 111 111
Common stock (par value $0.01 per share)
Class A - Authorized - 100,000,000 shares
Issued and outstanding - 1997 - 31,723,782 and 1996 -
28,775,995 shares 317 288
Additional paid in capital 78,814 77,841
Retained deficit (61,656) (67,099)
Unrealized loss on securities available-for-sale (16) (77)
Total shareholders' equity 17,570 11,064
Total liabilities and shareholders' equity $116,617 $104,001
The accompanying notes are an integral part of the consolidated
financial statements.
Page 29
The San Francisco Company
Consolidated Statements of Operations
Years Ended December 31, 1997, 1996 and 1995
(Dollars in Thousands Except Per Share Data)
Notes 1997 1996 1995
Interest income:
Loans $4,567 $4,242 $8,452
Fed funds sold 1,103 1,248 1,771
Investments 2,311 1,714 423
Dividends 45 38 45
Total interest income 8,026 7,242 10,691
Interest expense:
Deposits 8 2,798 3,124 4,244
Other borrowings 92 3 171
Total interest expense 2,890 3,127 4,415
Net interest income 5,136 4,115 6,276
Provision (recovery) for loan losses 5 (2,820) -- 500
Net interest income after provision
(recovery) for loan losses 7,956 4,115 5,776
Non-interest income:
Stock option commissions and brokerage fees 1,416 1,201 1,486
Real estate rental income 896 1,028 435
Service charges and fees 603 444 629
Other income 116 14 223
Loss on sale of investment securities, net (6) -- --
Gain on sale of other assets, net 477 640 2,241
Total non-interest income 3,502 3,327 5,014
Non-interest expense:
Salaries and related benefits 4,203 3,252 4,279
Occupancy expense 7 1,192 1,165 1,635
Professional fees 530 629 974
Data processing 431 304 526
Insurance premiums 228 319 374
Equipment expense 198 345 417
FDIC insurance premiums 98 204 457
Other operating expenses 629 780 1,639
Total non-interest expense 7,509 6,998 10,301
Income before income taxes 3,949 444 489
Provision (benefit) for income taxes 10 (1,494) (258) 153
Net Income $5,443 $702 $336
Income per share:
Basic: Weighted average
shares outstanding 30,393,679 5,829,035 5,765,985
Net income $0.18 $0.12 $0.05
Diluted:Weighted average
shares outstanding 30,644,487 23,773,101 9,411,046
Net income $0.17 $0.03 $0.03
The accompanying notes are an integral part of the consolidated
financial statements.
Page 30
The San Francisco Company
Consolidated Statements of Changes in Shareholders' Equity
Years Ended December 31, 1997, 1996 and 1995
Unrealized
Employee Gain/
(Dollars in Thousands) Purchase (Loss)on Total
Additional and Securities Share-
Preferred Common Paid-in Retained Option Available- Holders
Stock Stock Capital Deficit Plans for-Sale Equity
Balances at January 1, 1995
$114 $58 $70,168 $(68,137) $(70) $ (4) $2,129
Net change in employee stock
ownership plan
-- -- -- -- 70 -- 70
Net proceeds from sale of stock
4,300 -- -- -- -- -- 4,300
Unrealized appreciation on securities
available-for-sale
-- -- -- -- -- 45 45
Net income -- -- -- 336 -- -- 336
Balances at December 31, 1995
4,414 58 70,168 (67,801) -- 41 6,880
Net proceeds from sale of stock
3,500 -- -- -- -- -- 3,500
Conversion of preferred stock
to common stock
(7,803) 230 7,573 -- -- -- --
Other -- -- 100 -- -- -- 100
Unrealized depreciation on securities
available-for-sale
-- -- -- -- -- (118) (118)
Net income -- -- -- 702 -- -- 702
Balances at December 31, 1996
111 288 77,841 (67,099) -- (77) 11,064
Net proceeds from sale of stock
-- 29 971 -- -- -- 1,000
Net proceed from the exercise of
of stock options
-- -- 2 -- -- -- 2
Unrealized appreciation on securities
available-for-sale
-- -- -- -- -- 61 61
Net income -- -- -- 5,443 -- -- 5,443
Balances at December 31, 1997
$111 $317 $78,814 $(61,656) -- $(16) $17,570
The accompanying notes are an integral part of the consolidated
financial statements.
Page 31
The San Francisco Company
Consolidated Statements of Cash Flows
For the Years Ended December 31, 1997, 1996 and 1995
(Dollars in Thousands) 1997 1996 1995
Cash Flows from Operating Activities:
Net income $5,443 $702 $336
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Provision (recovery) for loan losses (2,820) -- 500
Deferred income tax benefit (1,500) -- --
Depreciation and amortization expense 535 671 581
Net gain on sale of real estate owned and
other assets (477) (643) (2,058)
Provision for other real estate owned and
real estate investment 182 -- 506
Loss on sale of investment securities
available for sale 6 -- --
Decrease in interest receivable and other assets 79 12 532
Increase (decrease) in other liabilities and
interest payable 757 (438) (1,055)
(Decrease) increase in deferred loan fees (129) 10 (208)
Net cash flows provided by (used in)
operating activities 2,076 314 (866)
Cash Flows from Investing Activities:
(Purchase) redemption of
Federal Home Loan Bank stock, net (829) -- 705
Proceeds from maturities of investment
securities held-to-maturity 1,079 865 7,859
Purchase of investment securities held-to-maturity -- (7,846) --
Proceeds from sales of investment securities
available-for sale 9,120 -- --
Purchase of investment securities
available-for-sale (18,600) (29,321) (8,414)
Proceeds from maturities of
investment securities available-for-sale 5,214 7,390 4,134
Capital expenditures for real estate owned 28 -- (855)
Net (increase) decrease in loans (8,162) 7,422 49,132
Recoveries of loans previously charged off 397 397 1,707
Acquisition of leasehold interest -- BSFBC -- -- (4,471)
Purchases of premises and equipment (267) (41) (120)
Proceeds from sales of real estate
owned and investment, and other assets 4,952 4,639 6,601
Net cash (used in) provided by
investing activities (7,068) (16,495) 56,278
Cash Flows from Financing Activities:
Net decrease in deposits (4,647) (14,507) (41,475)
Net increase (decrease) in other borrowings 10,000 -- (4,070)
Net proceeds from sale of stock 1,000 3,500 4,300
Net cash provided by (used in) financing activities 6,353 (11,007) (41,245)
Increase (decrease) in cash and cash equivalents 1,361 (27,188) 14,167
Cash and cash equivalents at beginning of year 15,626 42,814 28,647
Cash and cash equivalents at end of year $16,987 $15,626 $42,814
The accompanying notes are an integral part of the consolidated
financial statements.(continued)
Page 32
The San Francisco Company
Consolidated Statements of Cash Flows
For the Years Ended December 31, 1997, 1996 and 1995
(continued)
(Dollars in Thousands) 1997 1996 1995
Supplemental Disclosure of Cash Flow Information:
Cash paid during the year for:
Interest $2,811 $3,167 $4,450
Income taxes 6 5 153
Supplemental Schedule of Noncash Investing and Financing
Activities:
Net transfer of loans to other real estate owned -- 1,378 1,197
The accompanying notes are an integral part of the consolidated
financial statements.
Page 33
The San Francisco Company
Notes to Consolidated Financial Statements
December 31, 1997 and 1996
Note 1: Statement of Accounting Policies
The accounting and reporting policies of The San Francisco
Company (the "Company") and its subsidiaries
are in accordance with generally accepted accounting principles
and practices within the banking industry.
Organization
The Company is a Delaware corporation and a bank holding
company registered under the Bank Holding
Company Act of 1956, as amended. The Company was organized in
1981 under the laws of the State of California,
and in July, 1988, the Company reincorporated in Delaware. Bank
of San Francisco (the "Bank"), a state chartered
bank, was organized as a California banking corporation in 1978
and became a wholly owned subsidiary of the
Company through a reorganization in 1982. The Bank specializes
in providing private banking and business banking
for such professional individuals, their business and other
business primarily in the Northern California banking
market. The Bank's wholly owned subsidiary, Bank of San
Francisco Realty Investors (the "BSFRI"), invested in
real estate investment properties from 1985 to 1996. During
1996, BSFRI disposed of all of its real estate
investment properties.
Prior to 1995, the Bank and BSFRI had partnership interests
of 34.5% and 2.5%, respectively, in Bank
of San Francisco Building Company (the "BSFBC"), a California
limited partnership which holds the leasehold
interest in the Company's headquarters building located at 550
Montgomery Street, San Francisco, California.
During 1995, the Bank acquired 100% of the outside limited
partnership interests in BSFBC.
Principles of Consolidation
The accompanying financial statements include the accounts
of the Company, the Bank, and the Bank's
wholly owned subsidiary, BSFRI. BSFRI is no longer active in
real estate investment activities. All material
intercompany transactions have been eliminated in consolidation.
During 1995, the Bank acquired controlling interest in
BSFBC. Prior to the acquisition, the Company
accounted for its investment in BSFBC using the equity method.
BSFBC was dissolved effective January 1, 1997
and all of its assets and liabilities were assumed by the Bank.
Cash and Cash Equivalents and Statements of Cash Flows
Cash equivalents are defined as short-term, highly liquid
investments both readily convertible to known
amounts of cash and so near maturity that there is insignificant
risk of change in value because of changes in interest
rates. Generally, only investments with maturities of three
months or less at the time of purchase qualify as cash
equivalents. Cash and cash equivalents include cash and due from
banks, time deposits with other financial
institutions, and Federal funds sold.
The Bank is required to maintain non-interest bearing cash
reserves equal to a percentage of certain
deposits. In 1997 and 1996, the average reserve balances
outstanding were $1.0 million for each period. Generally,
the Bank does not maintain compensating balance arrangements.
Investment Securities
The Company classifies its investment securities into one
of two categories: held-to-maturity or available-
for-sale. The investments classified as held-to-maturity are
carried at amortized cost because management has both
the intent and ability to hold these investments to maturity.
Investments classified as available-for-sale are carried
at fair value with any unrealized gains and losses included as a
separate component of shareholders' equity.
Page 34
Investment securities include debt securities and Federal
Home Loan Bank (the "FHLB") Stock. Any
discounts or premiums are accreted or amortized to income over
the expected term of the investment considering
prepayment assumptions, if applicable. Discounts or premiums are
adjusted periodically to reflect actual prepayment
experience. The gain or loss on all investment securities sold
is determined based on the specific identification
method. The estimated fair value is based on quoted market
prices and/or third party dealer quotes.
Loans
Loans are stated at the principal amount outstanding, net
of the allowance for loan losses, deferred fees
and unearned discount, if any. The Bank holds loans receivable
primarily for investment purposes. A significant
portion of the Bank's loan portfolio is comprised of adjustable
rate loans.
Interest on loans is calculated using the simple interest
method on the daily balances of the principal
amount outstanding. The accrual of interest is discontinued and
any accrued and unpaid interest is charged against
current income when the payment of principal or interest is 90
days past due, unless the loan is well-secured and
in the process of collection. When the ability to fully collect
non-accrual loan principal is in doubt, cash payments
received are applied against the principal balance of the loan
until such time as full collection of the remaining
recorded balance is expected. Generally, loans with temporarily
impaired values and loans to borrowers
experiencing financial difficulties are placed on non-accrual
status even though the borrowers continue to repay the
loans as scheduled. Interest received on such loans is
recognized as interest income when received. A non-accrual
loan is restored to an accrual basis when principal and interest
payments are being paid currently and full payment
of principal and interest is probable.
Loan Fees
The Bank charges nonrefundable fees for originating loans.
Loan origination fees, net of the direct costs
of underwriting and closing the loans, are deferred and amortized
to interest income using the interest method.
Unamortized net fees and costs on loans sold or paid in full are
recognized as income. Other loan fees and charges,
which represent income from delinquent payment charges, and
miscellaneous loan services, are recognized as
interest income when collected.
Allowance for Loan Losses
The Company records an adjustment to the allowance for loan
losses based on estimated losses on loans
receivable considering both specifically identified problem loans
and credit risks not specifically identified in the
loan portfolio. At December 31, 1997, the Company reduced the
allowance for loan losses to a level that
management believes adequately reflects the credit risks in the
loan portfolio. See additional discussion under "Note
19: Quarterly Information (Unaudited)".
The allowance for loan losses takes into consideration
numerous factors including the financial condition
of the borrowers, the fair value of the collateral prior to the
anticipated date of sale, collateral concentrations and
past loss experience. These allowances are subjective and may be
adjusted in the future depending on economic
conditions. In addition, regulatory examiners may require the
Company to provide additional allowances based on
their judgements of the information regarding problem loans and
credit risks available to them at the time of their
examinations.
Losses are recognized as charges to the allowance when the
loan or a portion of the loan is considered
uncollectible or at the time of foreclosure. Recoveries on loans
receivable previously charged off are credited to
allowance for loan losses.
Premises and Equipment
Premises and equipment are stated at historical cost less
accumulated depreciation and amortization.
Depreciation on furniture, fixtures and equipment is computed on
the straight-line method over the estimated useful
life of each type of asset. Estimated useful lives are from
three to seven years. Leasehold improvements are
amortized over the term of the applicable lease, including lease
extensions, or their estimated useful lives, whichever
is shorter.
Page 35
Other Real Estate Owned
Other real estate owned (the "OREO") includes loans
receivable that have been repossessed in settlement
of debt (foreclosures). At the date of transfer, OREO is
recorded at fair value net of estimated selling costs.
The Company provides a charge against current earnings for
estimated losses on foreclosed property when
the carrying value of the property exceeds its fair value net of
estimated selling expenses. The Bank obtains an
appraisal or market valuation analysis on all other real estate
owned. If the periodic valuation indicates a decline
in the fair value below recorded carrying value, an allowance for
OREO losses is established. Fair value is based
on current market conditions, appraisals, and estimated sales
values of similar properties.
Impairment of Long-lived Assets
Effective January 1, 1996, the Company adopted Statement of
Financial Accounting Standards (the "SFAS")
No. 121, "Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed Of."
SFAS No. 121 requires that long-lived assets and certain
identifiable intangibles held and used by an entity be
reviewed for impairment whenever events or changes indicate that
the carrying value of an asset may not be
recoverable. Recoverability of long-lived assets is measured by
a comparison of the carrying value of an asset to
future net cash flows expected to be generated by that asset. If
such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which
the carrying amount of the assets exceed the fair
value of the assets.
As of December 31, 1997, the Company determined that no
events or changes occurred during 1997 that
would indicate that the carrying value of any long-lived assets
may not be recoverable. Adoption of this statement
did not have any impact on the Company's financial position,
results of operations or liquidity.
Income Taxes
The Company uses the asset and liability method to account
for income taxes. Under such method,
deferred tax assets and liabilities are recognized for the future
tax consequences of differences between the financial
statement carrying amounts of existing assets and liabilities and
their respective tax bases (temporary differences).
Deferred tax assets and liabilities are measured using enacted
tax rates expected to apply to taxable income in the
years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rate is recognized in
income in the period of enactment.
The Company has provided a valuation allowance for net
deferred tax assets because an estimate of the
utilization of the underlying benefits cannot be determined.
Stock-based Compensation
Effective January 1, 1996, the Company adopted SFAS No.
123, "Accounting for Stock-Based
Compensation." SFAS No. 123 permits a company to choose either a
new fair value based method of accounting
for its stock-based compensation (stock options) or the current
Accounting Principles Board (the "APB") Opinion
No. 25 intrinsic value based method of accounting for its
stock-based compensation. SFAS No. 123 requires pro-
forma disclosures of net income and earnings per share computed
as if the fair value based method had been applied
in financial statements of companies that continue to follow APB
No. 25. The Company has elected to use the
current APB No. 25 intrinsic value based method of accounting for
its stock-based compensation and to disclose
its stock-based compensation in accordance with SFAS No. 123.
Non-Interest Income
Fees for other customer services represent fees earned for
the brokerage of certificates of deposit and
escrow services, and commissions earned in connection with the
Bank's stock option lending program and other
banking services. Fees for services are recorded as income when
the services are performed.
Page 36
Earnings per Share (the "EPS")
The Company has adopted FASB No. 128, "Earnings Per Share,"
effective with these financial statements
and has applied it to all prior periods. FASB No. 128
establishes simplified standards for computing and presenting
EPS, and replaces the presentation of primary EPS with "basic
EPS" and modifies the fully diluted EPS calculation
which is designated diluted EPS. It also requires a dual
presentation of basic EPS and diluted EPS on the face of
the income statement, and requires disclosure of the calculation
of basic EPS compared to diluted EPS in the
footnotes to the financial statements.
Basic EPS is calculated dividing net income by the weighted
average number of common shares outstanding. The dilutive EPS
is calculated giving effect to all potentially dilutive common shares,
such as certain stock options, that were outstanding during the period.
The following tables present a reconciliation of the
amounts used in calculating basic and diluted EPS for
each of the periods shown.
(dollars in thousands except Per-share amounts)
Per-share
1997 Income Shares amount
Basic EPS $5,443 30,393,679 $0.18
Effect of dilutive securities:
Series B Preferred Stock 58 793
Stock options -- 250,015
Diluted EPS $5,501 30,644,487 $0.17
Per-share
1996 Income Shares amount
Basic EPS $702 5,829,035 $0.12
Effect of dilutive securities:
Series D Preferred Stock -- 17,944,066
Stock options -- --
Diluted EPS $702 23,773,101 $0.03
Per-share
1995 Income Shares amount
Basic EPS $336 5,765,985 $0.05
Effect of dilutive securities:
Series D Preferred Stock -- 3,645,061
Stock options -- --
Diluted EPS $336 9,411,046 $0.03
Use of Estimates
The preparation of these financial statements in conformity
with generally accepted accounting principles
requires management to make estimates and assumptions that affect
the reported amounts of recognized and
contingent assets and liabilities at the date of the financial
statements and the reporting amounts of revenues and
expenses during the reporting period. Actual results could
differ from those estimates.
Recent Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board (the
"FASB") issued SFAS No. 130, "Reporting
Comprehensive Income" which provides standards for required
reporting and displaying comprehensive income and
its components in the financial statements. The accumulated
balance of other comprehensive income is to be
displayed separately from retained earnings and additional paid
in capital in the equity section of the Statement of
Financial Condition, but no specific format is required. This
statement is effective with the year-end 1998 financial
Page 37
statements including interim financial statements.
Reclassification of financial statements for earlier periods is
required. The Bank is in the process of determining its format
for reporting comprehensive income.
In June 1997, the FASB issued SFAS No. 131, "Disclosure
about Segments of an Enterprise and Related
Information", which requires that a public company report
financial and descriptive information about its reportable
operating segments on the basis that is used internally for
evaluating segment performance and deciding how to
allocate resources to segments. This statement is effective for
year-end 1998 financial statements.
In June 1996, the FASB issued SFAS No. 125, "Accounting for
Transfers and Servicing of Financial
Assets and Extinguishing of Liabilities" which provides guidance
for distinguishing transfers of financial assets that
are sales from transfers that are secured borrowings. SFAS No.
125 is effective January 1997 and is to be applied
prospectively. In December 1996, the FASB issued SFAS No. 127,
"Deferral of the Effective Date of Certain
Provisions of SFAS No. 125", which defers certain provisions of
SFAS No. 125 for one year. Management does
not expect that the adoption of SFAS No. 125 or No. 127 will have
a material impact on the Company's financial
condition.
Reclassifications
Certain reclassifications have been made in the prior
years' consolidated financial statements to conform
to the current year presentation.
Note 2: Regulatory Directives
The Company
On December 16, 1994, the Company and the Federal Reserve
Bank of San Francisco (the "FRB") entered
into a Written Agreement (the "Agreement"). The Agreement
prohibits the Company, without prior approval of
the FRB, from: (a) paying any cash dividends to its
shareholders; (b) directly or indirectly, acquiring or selling
any interest in any entity, line of business, problem or other
assets; (c) executing any new employment, service,
or severance contracts, or renewing or modifying any existing
contracts with any executive officer; (d) engaging
in any transactions with the Bank that exceed an aggregate of
$20,000 per month; (e) engaging in any cash
expenditures with any individual or entity that exceed $25,000
per month; (f) increasing fees paid to any directors
for attendance at board or committee meetings, or paying any
bonuses to any executive officers; (g) incurring any
new debt or increasing existing debt; and (h) repurchasing any
outstanding stock of the Company. The Company
is required to submit a progress report to the FRB on a quarterly
basis.
The Company was also required to submit to the FRB an
acceptable written plan to improve and maintain
adequate capital position, a comprehensive business plan
concerning current and proposed business activities, a
comprehensive operating budget at the Bank and the consolidated
organization, and an acceptable written plan
designed to enhance Board supervision of the operations and
management of the consolidated organization. The
Company has filed all of the required submissions with the FRB in
accordance with the Agreement. The FRB
confirmed the Company's full compliance with the Agreement at its
1997 examination.
The Bank
Memorandum of Understanding
On May 27, 1997, the FDIC and the California Department of
Financial Institutions (formerly the State
Banking Department) (the "DFI") terminated the Bank's Cease and
Desist Orders and in lieu thereof entered into
a Memorandum of Understanding (the "MOU") with the Bank. The MOU
provides, among other things, that the
Bank: (a) have and retain management acceptable to the Regional
Director of the FDIC (the "Regional Director")
and the Commissioner of the DFI (the "Commissioner"); (b)
increase its capital by not less than $1.0 million by
June 30, 1997; (c) maintain a 7% Leverage Capital ratio; (d)
reduce assets classified "Substandard" as of September
30, 1996 to no more than $12.0 million by June 30, 1997, to no
more than $10.0 million as of September 30, 1997,
and to no more than $8.0 million by December 31, 1997; (f)
develop and implement written policy
recommendations outlined in the Report of Examination; (g)
implement a policy which establishes a range for the
Bank's volatile liabilities dependency ratio, and which ratio
shall not be more than 15%; (h) submit a strategic plan
Page 38
covering the period 1997 - 2002; (i) not pay cash dividends
without prior written consent from the Regional Director
and the Commissioner; and (j) report to the Regional Director and
the Commissioner on a quarterly basis the form
and manner of any actions taken to secure compliance with the
MOU.
The Bank has filed all of the required submissions with the
FDIC and the DFI in accordance with the MOU, and management believes
that, as of December 31, 1997, the Bank is in full compliance with
the requirements of the MOU.
Note 3: Investment Securities
The amortized cost and estimated market values of
investment securities held-to-maturity at December 31
are as follows:
Amortized Unrealized Unrealized Market
(Dollars in Thousands) Cost Gains Losses Value
1997:
Mortgage-backed securities $5,864 -- $(42) $5,822
Total $5,864 -- $(42) $5,822
1996:
Mortgage-backed securities $6,943 -- $(95) $6,848
Total $6,943 -- $(95) $6,848
The amortized cost and estimated market values of investment
securities available-for-sale at December 31
are as follows:
Amortized Unrealized Unrealized Market
(Dollars in Thousands) Cost Gains Losses Value
1997:
Fixed rate mortgage-backed securities $7,133 $7 $(17) $7,123
U.S. Treasury and agency securities 25,552 26 (32) 25,546
Total $32,685 $33 $(49) $32,669
1996:
Adjustable rate mortgage-
backed securities $4,746 $24 -- $4,770
U.S. Treasury and agency securities 23,679 -- $101 23,578
Total $28,425 $24 $101 $28,348
For 1997 and 1996, the Company included a net unrealized
loss of $16,000 and $77,000, respectively, as
a separate component of stockholders' equity. The Company
recorded a loss of $6,000 on sale of securities in 1997
and no gains or losses on sale of investment securities during
1996.
As of December 31, 1997 and 1996, the Bank's investment in
FHLB stock totaled $1.5 million and
$670,000 and is stated at par.
Page 39
The amortized cost and estimated market value of securities
at December 31, 1997 by contractual maturity,
are shown below:
Securities Available Securities
for Sale Held to Maturity
Amortized Estimated Amortized Estimated
(Dollars in Thousands) Cost Market Value Cost Market Value
1 year or less $7,563 $7,577 -- --
1 to 5 years 17,989 17,969 -- --
subtotal 25,552 25,546 -- --
Mortgage-backed
securities 7,133 7,123 $5,864 $5,822
Total $32,685 $32,669 $5,864 $5,822
The average yield on investments securities was 6.1% and
6.0% during 1997 and 1996, respectively. The
U.S. Treasury and agency securities held by the Company had
effective maturities of less than three years.
Expected maturities of mortgage-backed securities can differ from
contractual maturities because borrowers have
the right to prepay obligations with or without prepayment
penalties. Factors such as prepayments and interest rates
may affect the yield and carrying value of mortgage-backed and
callable agency securities. As of December 31,
1997 and 1996, the Company had no derivative financial
instruments.
At December 31, 1997 and 1996, $1.6 million and $810,000,
respectively, of securities were pledged as
collateral for treasury, tax, loan deposits, public agency,
bankruptcy and trust deposits. At December 31, 1997,
$12.4 million of investment securities and $2.4 million of loans
were pledged as collateral for the $10.0 million
FHLB borrowing. At December 31, 1997 and 1996, the Company had
no securities sold under agreements to
repurchase.
At December 31, 1997, the Bank had a $250,000 letter of
credit from an independent third party bank for
the purpose of issuing international trade finance letters of
credit on behalf of the Bank's clients.
Note 4: Loans
The Bank's loan portfolio at December 31 is summarized as
follows:
(Dollars in Thousands) 1997 1996
Real estate mortgage $37,826 $28,022
Secured commercial and financial 4,912 6,229
Unsecured 8,633 7,800
Other 553 1,711
Total loans 51,924 43,762
Deferred fees (61) (190)
Allowance for loan losses (3,200) (5,663)
Total loans, net $48,663 $37,909
At December 31, 1997 and 1996, non-accrual loans totaled
$171,000 and $3.4 million, respectively, and
there were no loans past due 90 days or more and still accruing.
For the years ended December 31, 1997, 1996
and 1995 interest income foregone on non-accrual loans was
$2,000, $29,000, and $177,000, respectively.
Restructured loans totaled zero and $4.1 million at December 31,
1997 and 1996, respectively. For the years ended
December 31, 1997, 1996 and 1995, interest income foregone on
restructured loans were zero, zero and $24,000,
respectively.
Effective January 1, 1995, the Company adopted SFAS No. 114
"Accounting by Creditors for Impairment
of a Loan" as amended by SFAS No. 118 "Accounting by Creditors
for Impairment of a Loan-Income Recognition
and Disclosures". In accordance with SFAS No. 114, a loan is
considered impaired when, based on certain events
and information, it is "probable" that a creditor will be unable
to collect all amounts due according to the contractual
Page 40
terms of the loan agreement. At December 31, 1997 and 1996, the
Company measured the impairment of all
impaired loans, totaling $171,000 and $3.4 million, respectively,
using the collateral value method. For the year
ended December 31, 1997 and 1996, the weighted average impaired
loans outstanding was $924,000 and $3.7
million, respectively. Total interest income recognized on
impaired loans during 1997 and 1996 was $13,000 and
$170,000, respectively. At December 31, 1997 and 1996, the
portion of the allowance for loan losses assigned to
impaired loans totaled $26,000 and $717,000, respectively.
The Company's business activities are with clients in
Northern California primarily the greater San
Francisco Bay Area. As of December 31, 1997, the Company had
$37.8 million in loans secured by real estate
located in Northern California including 38% located in San
Francisco. The primary source of repayment of real
estate loans is the borrower's or property's debt service
capacity while the secondary source of repayment is the
underlying real estate collateral. As of December 31, 1997, the
Company had $16.1 million in commitments on
unsecured loans of which 52% were outstanding. The primary
source of repayment on the unsecured loans is the
borrowers net worth and cash flow.
Note 5. Allowance for Loan Losses
Changes in the Company's allowance for loan losses for the
years ended December 31 were as follows:
(Dollars in Thousands) 1997 1996 1995
Balances at beginning of the year $5,663 $5,912 $6,576
Provision for loan losses (2,820) -- 500
Loans charged off (40) (646) (2,871)
Recoveries of loans charged off 397 397 1,707
Balances at end of the year $3,200 $5,663 $5,912
Note 6: Other Real Estate Owned
Other real estate owned at December 31 consist of the
following:
(Dollars in Thousands) 1997 1996
Real Estate:
Residential development $3,652 $2,313
Commercial development -- 1,758
Raw land -- 10,173
Subtotal 3,652 14,244
Allowance for losses (3,242) (9,111)
Total $410 $5,133
In 1997, the Company sold OREO that had an original book
value of $10.6 million and a net book value,
at December 31, 1996, totaling $4.9 million. In 1997, the
Company recorded a net gain on sale totaling $460,000.
Page 41
The following table summarizes the changes in the allowance
for losses related to OREO for the periods
shown:
(Dollars in Thousands) 1997 1996 1995
Balance of allowance for losses - beginning $9,111 $11,991 $19,404
Charge-offs (6,051) (2,880) (7,500)
Provision 182 -- 87
Balance of allowance for losses - ending $3,242 $9,111 $11,991
Based upon information presently available, management
believes that the Bank has made sufficient
provision to its allowance for possible loan losses and specific
reserves to absorb possible losses that might result
from the Bank's strategy to divest the OREO.
Note 7: Premises and Equipment, net
Premises and equipment, net, at December 31 consist of the
following:
(Dollars in Thousands) 1997 1996
Leasehold $3,701 $3,701
Leasehold improvements 8,646 8,503
Furniture and equipment 1,541 1,534
Subtotal 13,888 13,738
Less: Accumulated depreciation and amortization (6,097) (5,679)
Total $7,791 $8,059
The amount of depreciation and amortization included in
non-interest expense was $535,000, $671,000,
and $581,000 in 1997, 1996 and 1995, respectively. Total rental
and other occupancy expenses net of sublease
income for the Company's premises were $326,000, $288,000 and
$1.2 million in 1996, 1995 and 1994.
At December 31, 1997, the approximate future minimum rental
payments under a non-cancelable operating
lease, with a remaining term of thirteen years, for the Company's
premise are as follows:
(Dollars in Thousands) Amount
1998 $134
1999 134
2000 134
2001 134
2002 134
Thereafter 1,050
Total $1,720
The lease payment is fixed until the expiration of the lease
on October 31, 2010. During 1997, 1996 and
1995, the Company received $864,000, $877,000 and $435,000 of
sublease income, respectively. The total future
minimum rent payments to be received under noncancellable
operating subleases over the next five years aggregate
$4.3 million. None of the noncancellable operating subleases have
a remaining term of more than five years. These
payments are not reflected in the above table.
Page 42
Note 8: Deposits
Deposit balances and average interest rates paid by the Bank
at December 31 are as follows:
1997 1996
Average Average
(Dollars in Thousands) Balance Rate Balance Rate
Demand deposit accounts $19,691 0.0% $16,505 0.0%
Money market and savings accounts 16,040 2.0 18,719 2.1
NOW accounts 15,986 2.3 18,295 2.1
Time accounts 34,802 5.4 37,647 5.8
Total $86,519 2.9% $91,166 3.2%
Total deposit balances averaged $95.0 million and $98.1
million during 1997 and 1996, respectively, with
average interest rates of 2.9% and 3.2%, respectively. The
weighted average stated rates on deposits as of
December 31, 1997 and 1996 were 2.9% and 3.2%, respectively.
Domestic time deposits in amounts of $100,000 or more by
time remaining to maturity at December 31
are as follows:
(Dollars in Thousands) 1997 1996
Three months or less $10,026 $4,490
Three months to six months 2,925 2,699
Six months to one year 2,062 904
Between one and two years 605 400
Total $15,618 $8,493
Interest expense on time deposits in amounts of $100,000 or
more was $589,000, $304,000 and $353,000
in 1997, 1996, and 1995, respectively. Time deposit accounts in
amounts of $100,000 or more averaged $12.1
million and $5.8 million during 1997 and 1996, respectively, with
weighted average rates of 4.9% and 5.3%,
respectively. The weighted average stated interest rate on such
deposits at December 31, 1997 and 1996 was 5.2%
and 5.1%, respectively.
The Company had no brokered deposits as of December 31, 1997
and 1996, and money desk deposits
totaled $11.7 million and $21.0 million at December 31, 1997 and
1996, respectively.
Note 9: Other Borrowings
Other borrowings at December 31 are as follows:
Maximum
Balance Stated Average Average Balance
(Dollars in Thousands) Outstanding Rate Balance Rate Outstanding
1997:
Other borrowings -
FHLB long-term $10,000 6.0% $575 6.0% $10,000
Total $10,000 6.0% $575 6.0% $10,000
1996:
Other borrowings -
FHLB line of credit -- -- $38 6.3% $2,000
Total -- -- $38 6.3% $2,000
Page 43
The following table sets forth the maturities, as of
December 31, 1997, of the borrowings:
Over More Than
1 Year 4 Years to
(Dollars in Thousands) to 3 Years 5 Years Total
Fixed rate borrowing $3,000 $5,000 $ 8,000
Adjustable rate borrowing 2,000 -- 2,000
Total interest-bearing
liabilities $5,000 $5,000 $10,000
No other borrowings were outstanding at December 31, 1996.
The Bank has a credit facility available with the FHLB for
up to 20% to total assets, or $23.3 million as
of December 31, 1997. At December 31, 1997 and 1996, $14.8
million and $8.5 million of loans and securities
were pledged as collateral against other borrowings. The Bank is
required to hold FHLB stock as a condition for
maintaining its membership in the FHLB.
The Bank has access to the discount window at the FRB for a
total borrowing facility of $1.7 million upon
the pledge of securities. At December 31, 1997, no securities
are pledged as collateral for the FRB facility.
Note 10: Income Taxes
The (benefit) provision for state franchise taxes consists
of:
(Dollars in Thousands) 1997 1996 1995
Current:
Federal -- -- --
State $6 $(258) $153
Total current 6 (258) 153
Deferred:
Federal (1,065) -- --
State (435) -- --
Total deferred (1,500) -- --
Total (benefit) provision for income taxes $(1,494)$(258) $153
The provision for income taxes for 1997 consists of minimum
amounts due and recognition of the tax
benefit of certain deferred tax assets including temporary
differences and net operating loss carryforwards, and the
1996 and 1995 provisions for income taxes consists of the minimum
amount of franchise taxes due net of refunds.
In 1996, the Company received a refund for prior years' Delaware
franchise tax.
Page 44
The tax effects of temporary differences that give rise to
significant portions of deferred tax assets and
deferred tax liabilities at December 31, 1997 and 1996 are
presented below:
(Dollars in Thousands) 1997 1996
Deferred Tax Assets:
Book loan loss reserve in excess of tax $711 $1,898
Other provisions 167 156
Provision for losses for real estate 1,334 3,777
Net operating losses 17,546 16,563
Tax credits 489 489
Net tax value of premises in excess of book 127 120
Other 395 403
Total deferred tax assets 20,769 23,406
Valuation allowance (18,864) (23,006)
Total deferred tax assets, net 1,905 400
Deferred Tax Liabilities:
Loan origination costs (54) (33)
Taxable income in excess of book for
rehabilitation credit (351) (367)
Total deferred tax liabilities (405) (400)
Net deferred taxes $(1,500) --
As required by SFAS No. 109, the realizability of the
deferred tax assets is reevaluated and the valuation
allowance is adjusted so that the resulting level of deferred tax
asset will, more likely than not, be realized. During
1997, and adjustment of $1.5 million to the valuation allowance
was recorded to recognize the estimated benefits
from net operating loss carryforwards. The resulting adjustment
to the deferred tax asset valuation allowance
occurred based on a determination that the Company may be able to
utilize net operating loss carryforward benefits
that had previously been reserved. The consistent financial
results in the preceding three years including the strong
results in 1997 coupled with the apparent improvement in the
Company's credit quality indicate that the Company
might be able to utilize some of the net operating loss
carryforward benefits to reduce pre-tax income generated in
future years. The utilization of the net operating loss
carryforwards and rehabilitation and minimum tax credit
carryforwards may be limited on an annual basis under current tax
law due to possible changes in ownership in
future years.
The total tax provision (benefit) differs from the statutory
Federal rates for the reasons shown in the
following table:
1997 1996 1995
Tax expense at the statutory federal rate 34.0% 34.0% 34.0%
Utilization of prior year taxable losses (34.0) (34.2) (34.6)
State income taxes (refund), net of
federal tax benefit 0.2 (58.1) 31.3
Non-deductible expenditures and non-taxable income 0.0 0.2 0.6
Change in valuation allowance (38.0) 0.0 0.0
Total effective tax (benefit) provision rate (37.8)% (58.1)% 31.3%
Because the Company has utilized most of its ability to
carryback net operating losses, the tax losses
incurred from 1992 to 1997 must be carried forward to offset
future tax net operating income, if any. In addition,
the actual benefit rate may be less than the current statutory
rate due to tax differentials and the alternative minimum
tax. As of December 31, 1997, the Company has net operating loss
carryforwards for federal tax purposes of
approximately $46.8 million which begin expiring in 2007, and for
California tax purposes of approximately $22.8
million, which begin expiring in 1998. As of December 31, 1997,
the Company had rehabilitation tax credit
carryforwards for federal tax purposes of approximately $213,000,
which expire in 2004 and 2005, and minimum
tax credits of approximately $276,000 which have no expiration.
Page 45
Note 11: Shareholders' Equity
The capital contributions in 1997, 1996, and 1995 were $1.0
million, $3.5 million, and $4.3 million,
respectively. The capital in 1997 was raised by the issuance of
2,947,787 shares of Class A Common Stock at
$0.34 per share. The capital in 1996 was raised by the issuance
of 175,000 shares of Series D Preferred Stock at
$20.00 per share. The capital in 1995 was raised by the issuance
of 215,000 shares of Series D Preferred Stock
at $20.00 per share. The Series D Preferred Shares were
converted into Common Shares in 1996.
Description of Capital Stock
The authorized capital stock of the Company consists of
100,000,000 Common Shares, par value $0.01
per share and 5,000,000 shares of preferred stock, par value
$0.01 per share, of which 437,500 are designated as
Series B Preferred Shares. The remainder are not designated.
In accordance with the Agreement and the MOU, the Company
and the Bank are prohibited from paying
dividends without the prior written consent or approval of the
FDIC, the Commissioner of the Department of
Financial Institutions and the Federal Reserve Bank of San
Francisco.
Description of Common Stock
As of December 31, 1997, there were 31,723,782 Common Shares
outstanding out of a total of
100,000,000 shares authorized. The Series B Preferred Shares,
which were convertible into shares of the Class B
Common Stock at the option of the holders thereof are now
convertible to Common Stock. The reclassification is
not deemed by the Company to alter or change any of the relative
powers, preferences or special rights of the
holders of the Class B Preferred shares.
Dividends
Subject to the rights and preferences of any preferred stock
outstanding, each share of Common Stock is
entitled to receive dividends if, as and when declared by the
Board of Directors of the Company. Subject to the
rights of the Series B Preferred Shares, dividends must be paid
on the Common Stock, together with the Series B
Preferred Shares, at any time that dividends are paid on either.
Any dividend so declared and payable in cash,
capital stock of the Company or other property will be paid
equally, share for share, on the Common Stock,
Series B Preferred Shares, and on any other participating series
of preferred stock issued in the future; provided,
however, that the Company may issue dividends consisting solely
of its Common Shares on the Common Stock.
Liquidation Rights
In the event of the liquidation, dissolution or winding up
of the Company, holders of the Common Stock
are entitled to share equally, share for share, in the assets
available for distribution, subject to the liquidation
preferences of the Series B Preferred Shares and the rights of
any other class or series of preferred stock then
outstanding.
Description of Preferred Stock
The Board of Directors of the Company is authorized by the
Certificate of Incorporation to provide for the
issuance of one or more series of preferred stock. The Board of
Directors has the power to fix various terms with
respect to each such series, including voting powers,
designations, preferences, dividend rates, conversion and
exchange provisions, redemption provisions, and the amounts which
holders are entitled to receive upon any
liquidation, dissolution, or winding up of the Company. As of
December 31, 1997, the Board of Directors
authorized only the issuance of the Series B Preferred Shares.
The Company's Certificate of Incorporation provides
that additional securities, including additional shares of any
class of preferred stock, can be issued only if
unanimously approved by the Board of Directors or by stockholders
holding a majority of the voting power of the
Company.
Page 46
Voting Rights
Holders of Common Stock (when and if issued) are entitled to
one vote per share. Except as described
below, holders of Common Stock vote together with holders of the
Company's Series B Preferred Shares, on all
matters including the election of directors. The Board of
Directors is presently authorized to have nine (9)
members. The Board of Directors is a classified Board with
staggered terms providing for a maximum of three
classes of directors, which are as nearly equal in number as
possible, and with one class elected each year for a
maximum term of three years. Holders of Common Stock are not
entitled to vote cumulatively for the election of
directors.
The holders of Common Stock are entitled to vote as separate
classes on any modification to the rights of
either class of stock and as otherwise required by law.
Description of Series B Preferred Stock
The Company issued the Series B Preferred Shares during
1988. As of December 31, 1997, there were
15,869 Series B Preferred Shares outstanding.
Dividends
Holders of the Series B Preferred Shares are entitled to
receive, when funds of the Company are legally
available for payment, an annual cash dividend of 8% per annum or
Fifty-Six Cents ($0.56) per share, payable
quarterly in January, April, July and October of each year.
Dividends on the Series B Preferred Shares are
cumulative. Cumulative unpaid dividends on the Series B
Preferred Stock at December 31, 1997 total approximately
$57,800.
Payment of dividends on the Series B Preferred Shares shall
be junior to payment of dividends at the stated
rate of all other series of preferred stock that the Company may
issue in the future and that are designated senior
to the Series B Preferred Shares. Dividends on the Series B
Preferred Shares will be declared and paid or set apart
for payment in full for all previous dividend periods (i) before
the payment or setting apart of any funds or assets
for the payment of any dividends on the Common Stock or any other
class of stock, except preferred stock ranking
on a parity with or senior to the Series B Preferred Shares, and
(ii) before any purchase or other acquisition for
value of any Common Stock or any future class of stock except
preferred stock ranking on a parity with or senior
to the Series B Preferred Shares; provided, however, that the
Company may issue dividends consisting of its
Common Shares on the Common Shares.
After payment of dividends at the stated rate on all series
of preferred stock that the Company may issue
in the future and that are designated senior to the Series B
Preferred Shares and on any other preferred stock of the
Company that is on a parity with the Series B Preferred Shares,
and payment of dividends at the stated rate on the
Series B Preferred Shares, holders of the Series B Preferred
Shares will participate pro rata with the holders of
Common Stock, on the basis of number of shares owned, in all
other dividends by the Company to its stockholders,
except that, as noted above, the Company may issue dividends
consisting solely of its Common Shares on the
Common Shares.
Liquidation Rights
In the event of any liquidation, dissolution, receivership,
bankruptcy, or winding up of the Company,
voluntarily or involuntarily, the holders of the Series B
Preferred Shares are entitled to receive the sum of Seven
Dollars ($7.00) per share, plus any accrued and unpaid dividends
thereon, before any distributions will be made
to the holders of the Common Stock or any other class of stock
junior in preference upon liquidation, but after or
concurrent with distributions to be made at the stated rate on
preferred stock of any series ranking on a parity with
or senior in preference upon liquidation to the Series B
Preferred Shares, and will be entitled to no other
distribution.
Conversion
The holders of Series B Preferred Shares are entitled at any
time to convert their Series B Preferred Shares
into Common Stock of the Company at the conversion ratio of one
Series B Preferred Share convertible into one-
Page 47
tenth of one share of Common Stock, upon payment of a conversion
fee of Seven Dollars ($7.00) per share, subject
to adjustment under certain conditions.
Voting Rights
The holders of the Series B Preferred Shares are entitled to
one vote per Series B Preferred Share on all
matters on which shareholders are entitled to vote. Holders of
the Series B Preferred Shares have full voting rights
and powers equal to the voting rights and powers of the holders
of the Common Stock. Holders of the Series B
Preferred Shares are entitled to vote generally for the election
of directors and vote with the holders of the Common
Stock, except that the holders of the Series B Preferred Shares
are entitled to vote as a class on any modification
to the rights of the Series B Preferred Shares and otherwise as
required by law.
Note 12: Stock Option Plan
During 1996, the Company's stockholders approved the Amended
and Restated 1993 Stock Option Plan
(the "Plan"). Pursuant to the Plan, options may be granted to
directors and key employees of the Company and
its subsidiaries. The shares of Common Stock reserved for the
Plan total 9,000,000 shares. The number of shares
granted may be subject to adjustment as determined by a Committee
of the Board of Directors. The exercise price
of options must be at least the fair market value of the shares
of the Company's Common Stock as of the date the
option is granted. The expiration date of the options is ten
years from the effective date that the options were
granted. During 1997, 6,611 of the options granted have been
exercised. The agreements for certain executive
officers and former executive officers provide that options shall
be granted to acquire shares of Common Stock
under the Plan equal to 9% of the fully-diluted shares of the
Company's Common Stock, with additional shares to
be issued in the future to maintain the 9% ratio.
The weighted-average fair value of stock options granted and
vested during 1997 and 1996 were $88,000
and $163,000, respectively on the date of grant using the Black
Scholes option-pricing model with the following
weighted-average assumptions:
1997 1996
Expected dividend yield 0.0% 0.0%
Risk-free interest rate 5.35% 6.17%
Expected life 2.75 yrs 5 yrs
Volatility factor 0.253 0.01
Fair value of options granted $0.08 $0.09
The Company has not recognized any compensation costs for the
stock options in the financial statements.
The proforma net income reflects only options granted and vested
in 1997 and 1996. Had the Company determined
compensation cost based on fair value at the date of grant for
its stock options, the Company's net income would
have been the proforma amounts indicated below:
1997 1996 1995
Net income - as reported (dollars in thousands) $5,443 $702 $336
proforma 5,360 539 336
Earnings per share - basic $0.18 $0.12 $0.05
Diluted 0.17 0.03 0.03
Proforma per share - basic $0.18 $0.09 $0.05
Diluted 0.17 0.02 0.03
Page 48
The following table provides the stock option activity for each
period presented:
December 31, 1997 December 31, 1996 December 31, 1995
Weighted Average Weighted Average Weighted Average
Number of Exercise Number of Exercise Number of Exercise
Shares Price Shares Price Shares Price
Balance at
beginning
of year 3,029,500 $1.24 509,322 $5.68 511,822 $5.68
Granted 668,971 0.34 2,522,678 0.35 -- --
Exercised 6,611 0.34 -- -- -- --
Expired 19,827 0.34 2,500 5.68 2,500 5.68
Balance at
end of year 3,672,033 $1.08 3,029,500 $1.24 509,322 $5.68
At December 31, 1997, the range of exercise prices and
remaining contractual life of outstanding options
was $0.34 and $5.68 and six (6) years and ten (10) years,
respectively. The following table provides stock option
information as of December 31, 1997:
Options Outstanding Options Exercisable
Weighted-average
Range of Number Remaining
Exercise Out- Contractual Weighted-average Number Weighted-average
price standing life Exercise Price Exercisable Exercise Price
$0.34 -
$0.45 3,161,540 8.90 years $0.34 2,768,448 $0.34
$4.50 -
$5.68 510,493 6.75 years $5.68 484,970 $5.68
Note 13: Regulatory Capital Requirements
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 initiate certain mandatory and
possible additional discretionary actions by regulators, that if
undertaken, could have a direct material effect on the
Company's consolidated financial statements. Under capital
adequacy guidelines and the regulatory framework for
prompt corrective action, the Bank must meet specific capital
guidelines that involve quantitative measures of the
Bank's assets, liabilities, and certain off-balance-sheet items
as calculated under regulatory accounting practices.
The Bank's capital amounts and classification are also subject to
qualitative judgements by the regulators regarding
the Bank's capital components, risk weightings, and other
factors.
Quantitative measures established by regulation to ensure
capital adequacy require the Company and the
Bank to maintain minimum amounts and ratios, as set forth below,
of total and Tier I capital, as defined by
regulations, to risk weighted assets, and Tier I capital to
average assets.
The Bank is also subject to the MOU. The MOU provides that
the Bank must maintain a minimum
leverage ratio of 7%. See Note 2: Regulatory Directives for more
information regarding capital requirements.
The Company is also subject to a Letter Agreement dated
April 21, 1989 with the FRB which requires that
the Company maintain a minimum leverage capital ratio of 5.5%.
As of December 31, 1997, the most recent notification from
the FDIC categorized the Bank as adequately
capitalized under the regulatory framework for prompt corrective
action. To be categorized as well capitalized, the
highest capital category, a bank must maintain minimum total
risk-based, Tier I risk-based, Tier I leverage ratios
as set forth below and must not be subject to any certain
regulatory orders, agreements or directives.
Page 49
The following table sets forth the Bank's capital amounts
and ratios as of December 31, for each of the
periods shown:
To be Well
(dollars in thousands) Capitalized Under
For Capital Prompt Corrective
Actual Adequacy purposes Action Provisions
Amount Ratio Amount Ratio Amount Ratio
1997:
Total risk-
based capital $16,877 21.6% $6,24 2 8.0% 7,803 10.0%
Tier 1 capital 15,875 19.8 3,209 4.0 4,814 6.0
Leverage capital 15,875 14.4 4,417 4.0 5,521 5.0
1996:
Total risk-
based capital $11,777 17.8% $5,293 8.0% $6,616 10.0%
Tier 1 capital 10,890 15.3 2,838 4.0 4,270 6.0
Leverage capital 10,890 10.3 4,242 4.0 5,302 5.0
The following table sets forth the Company's and Bank's
capital ratios compared to minimum capital ratio
requirements as of December 31, 1997 and the requirements
contained in the MOU:
Minimum
Capital
Company Bank Requirement MOU
Total risk-based capital 21.9 21.6 8.0 N/A
Tier 1 capital 20.1 19.8 4.0 N/A
Leverage capital 14.6% 14.4% 4.0% 7.0%
Note 14: Employee Benefit Plans
Employee 401K Plan
The Company provides a 401k plan for its employees. The
Company provides matching contributions up
to 2% of the employees qualifying earnings. During 1997, 1996,
and 1995, the Company contributed $41,000,
$31,000 and $40,000, respectively, to the 401k Plan.
Employee Stock Ownership Plan
The Company terminated its Employee Stock Ownership Plan
(the "ESOP") on December 1, 1995. During
1995, the Company made contributions to the ESOP of $77,000.
Note 15: Commitments and Contingencies
Lending and Letter of Credit Commitments
In the normal course of its business, the Bank has entered
into various commitments to extend credit which
are not reflected in the consolidated financial statements. Over
90% of such commitments consist of the undisbursed
balance on personal and commercial lines of credit and of
undisbursed funds on construction and development loans.
At December 31, 1997 and 1996, the Bank had outstanding loan
commitments, which had primarily adjustable rates,
totaling approximately $10.7 million and $9.6 million,
respectively. In addition, the Bank had outstanding letters
of credit, which represent guarantees of obligations of Bank
customers, totaling $9.8 million and $9.6 million at
December 31, 1997 and 1996, respectively. The actual liquidity
needs or the credit risk that the Company will
Page 50
experience will be lower than the contractual amount of
commitments to extend credit because a significant portion
of these commitments are expected to expire without being drawn
upon. The Bank's outstanding loan commitments
are made using the same underwriting standards as comparable
outstanding loans. The credit risk associated with
these commitments is considered in management's determination of
the allowance for loan losses.
Litigation
Because of the nature of its business, the Company and its
subsidiaries, including the Bank, are from time-
to-time a party to legal actions. Based upon information
available to the Company and the Bank, and its review
of such outstanding claims to date, management believes the
ultimate liability relating to these actions, if any, will
not have a material adverse effect on the Company's liquidity,
consolidated financial condition or results of
operations.
Note 16: Related Party Transactions
Loans
In the ordinary course of business, the Bank may extend
credit to directors, officers, shareholders and their
associates on substantially the same terms, including interest
rates and collateral, as in comparable loan transactions
with unaffiliated persons, and such loans do not involve more
than the normal risk of collection. As of December
31, 1997 and 1996, there were no loans outstanding to such
individuals.
Bank of San Francisco Building Company (the "BSFBC")
During the third quarter of 1995, the Bank acquired all of
the outside limited partnership interests in
BSFBC for a total of $3.3 million. The purchase price of those
interests in excess of book value was $525,000 and
is being amortized over the life of the underlying lease,
including extensions, through 2035 using the straight line
method.
The acquisition was accounted for by the purchase method.
The consolidated financial statements include
the accounts of BSFBC. The Company's consolidated operating
results include the operations of BSFBC beginning
July 1, 1995. As of the acquisition date, the assets included
leasehold improvements and leasehold interests totaling
$5.5 million and cash equivalents and investment securities
totaling $1.3 million. The liabilities included other
borrowings which were used to finance the acquisition of the
leasehold interest in 1986. The borrowings were
repaid on October 31, 1995.
As of December 31, 1997, the Company's premises and
equipment, net of accumulated amortization and
depreciation, is comprised of leasehold improvements totaling
$5.2 million, leasehold interests totaling $1.7 million,
premium paid to acquire BSFBC totaling $472,000, and furniture
and equipment totaling $419,000. Leasehold
improvements including the premium paid to acquire BSFBC are
amortized over the term of the applicable lease,
including lease extensions, or their estimated useful lives,
whichever is shorter.
Prior to the acquisition, the Company accounted for its
investment in BSFBC using the equity method.
The Bank's equity in the operating results of BSFBC in 1995 were
earnings of $48,000. Such income was included
in the Bank's other income in the Company's Consolidated
Financial Statements.
Note 17: Fair Value of Financial Instruments
The following disclosures of the estimated fair value of
financial instruments are made in accordance with
the requirements of SFAS No. 107. The estimated fair value
amounts have been determined by the Company using
available market information and appropriate valuation
methodologies. However, considerable judgement is
necessarily required to interpret market data to develop the
estimates of fair value. Accordingly, the estimates
presented herein are not necessarily indicative of the amount the
Company could realize in a current market
exchange. The use of different market assumptions and/or
estimation methodologies may have a material effect on
the estimated fair value amounts.
Page 51
The carrying amount and estimated fair values of the
Company's financial instruments at December 31 are
as follows:
1997 1996
Carrying Fair Carrying Fair
(Dollars in Thousands) Amount Value Amount Value
Financial Assets:
Cash and cash equivalents $16,987 $16,987 $15,626 $15,626
Investment securities 40,032 39,990 35,961 35,866
Loans, net 48,663 50,151 37,909 40,030
Financial Liabilities:
Deposits 86,519 86,519 91,116 91,166
Other borrowings 10,000 10,000 -- --
The following methods and assumptions were used to estimate
the fair value of each major classification
of financial instruments at December 31, 1997 and 1996:
Cash and Cash Equivalents: Current carrying amounts approximate
estimated fair value. Due to the short term
nature of time deposits with other financial institutions
(original maturities of 90 days or less), current carrying
amounts approximate market.
Investment Securities Held-to-Maturity and Available-for-Sale:
For securities held-to-maturity and available-for-
sale, quoted market prices and/or third party dealer quotes were
used to determine fair value. FHLB stock is
included at par value which is fair value.
Loans Receivable: The carrying amount of loans is net of
unearned fee income and allowance for loan losses.
The fair value of loans was calculated by discounting cash flows
expected to be received through the estimated
maturity using estimated market discount rates that reflect the
credit and interest rate risk inherent in the loan. The
credit and interest rate risk inherent in the loans, was
estimated by segmenting the portfolio into categories based
on collateral type, fixed or adjustable interest rate, maturity,
estimated credit risk, and accrual status. The estimate
of maturity is based on final maturity for each loan
classification, modified, as required, by an estimate of the
effect
of amortization, and estimated prepayment based on current
economic and lending factors.
Deposit Liabilities: The fair value of deposits with no stated
maturity, such as non-interest bearing demand
deposits, savings and NOW accounts, and money market and checking
accounts, is equal to the amount payable on
demand as of each period end. The fair value of time deposits is
based on the discounted value of contractual cash
flows. The discount rate is estimated using the rates currently
offered for deposits of similar remaining maturities.
Other Borrowings: The fair value of other borrowings are
determined based on the actual cost of funds compared
to the market rate of similar borrowings published daily by the
FHLB.
Off Balance Sheet Instruments: The estimated fair value of off
balance sheet instruments, principally letters of
credit and loan commitments, is approximately the face value of
commitment fees collected.
Page 52
Note 18: The San Francisco Company
Condensed statements of financial condition and operations
of the Company at December 31 are as follows:
Condensed Statements of Financial Condition
(Dollars in Thousands) 1997 1996
Assets:
Cash and short term investments $307 $304
Investment in subsidiary 17,359 10,813
Other assets -- 2
Total assets $17,666 $11,119
Liabilities:
Other liabilities $96 $55
Total liabilities 96 55
Stockholders' equity 17,570 11,064
Total liabilities and shareholders' equity $17,666 $11,119
Condensed Statements of Operations
(Dollars in Thousands) 1997 1996 1995
Income:
Interest earned $6 $4 $9
Other income 24 -- 1
Total income 30 4 10
Expense:
Other expense 67 6 69
Total expense 67 6 69
Franchise taxes (benefit) 3 (258) 153
(Loss) income before equity in undistributed
net income of subsidiary (40) 256 (212)
Equity in undistributed net income of subsidiary 5,483 446 548
Net income $5,443 $702 $336
Page 53
Condensed Statements of Cash Flows
(Dollars in Thousands) 1997 1996 1995
Cash Flows from Operating Activities:
Net income $5,443 $702 $336
Adjustments to reconcile net income to
net cash provided
by (used in) operating activities:
Equity in undistributed net
income of subsidiary (5,483) (446) (548)
Net cash flows provided by (used in)
operating activities (40) 256 (212)
Cash Flows used in investing activities:
Investment in Bank (1,000) (3,500) (4,700)
Proceeds from sale of other real estate owned -- -- 85
Net decrease in other assets 2 68 61
Net cash used in investing activities (998) (3,432) (4,554)
Cash Flows provided by financing activities:
Proceeds from sale of Preferred Stock -- 3,500 4,300
Proceeds from sale of Common Stock 1,000 -- --
Net decrease in other liabilities 41 (177) (33)
Net cash provided by financing activities 1,041 3,323 4,267
Increase (decrease) in cash and cash equivalents 3 147 (499)
Cash and cash equivalents at beginning of year 304 157 656
Cash and cash equivalents at end of year $307 $304 $157
Note 19: Quarterly Information (Unaudited)
The following table sets forth the condensed operating
results of the Company for each quarter of the two
year periods ending December 31, 1997, and is qualified in its
entirety by the more detailed information and
financial statements contained elsewhere in this report:
(Dollars in Thousands Except Per Share data)
1997 Quarters Ended
March 31 June 30 Sept. 30 Dec. 31
Interest income $1,881 $1,939 $2,197 $2,009
Interest expense 697 662 755 776
Net interest income 1,184 1,277 1,442 1,233
Provision (recovery) for
loan losses -- -- -- (2,820)
Non-interest income 741 886 888 987
Non-interest expense 1,782 1,930 1,975 1,822
Income before income taxes 143 233 355 3,218
Provision (benefit) for taxes 5 2 (3) (1,498)
Net income $138 $231 $358 $4,716
Earnings per common share:
Basic $0.01 $0.01 $0.01 $0.15
Diluted 0.01 0.01 0.01 0.14
During the fourth quarter of 1997, the Bank provided a
negative provision of $2.8 million to its allowance
for loan losses. Based on the significant reduction in problem
assets, management determined that a reduction of
total allowance for loan losses as a percent of total loans to
6.2% at the end of 1997 from 12.9% at the end of 1996
Page 54
as appropriate. The decline in the required allowance for loan
losses reflects the amount necessary to reduce the
allowance for loan losses to a level that management believes is
adequate based on many factors that are discussed
under "Note 1: Statement of Accounting Policies -- Allowance for
Loan Losses".
As required by SFAS No. 109, the realizability of the
deferred tax assets is reevaluated and the valuation
allowance is adjusted so that the resulting level of deferred tax
asset will, more likely than not, be realized. During
1997, an adjustment of $1.5 million to the valuation allowance
was recorded to recognize the estimated benefits
from net operating loss carryforwards. The resulting adjustment
to the deferred tax asset valuation allowance
occurred based on a determination that the Company may be able to
utilize net operating loss carryforward benefits
that had previously been reserved. The consistent financial
results in the preceding three years including the strong
results in 1997 coupled with the apparent improvement in the
Company's credit quality indicate that the Company
might be able to utilize some of the net operating loss
carryforward benefits to reduce pre-tax income generated in
future years. See additional discussion under "Note 10: Income
Taxes".
(Dollars in Thousands Except Per Share data)
1996 Quarters Ended
March 31 June 30 Sept. 30 Dec. 31
Interest income $1,853 $1,820 $1,759 $1,809
Interest expense 865 782 748 732
Net interest income 988 1,038 1,011 1,077
Non-interest income 963 871 787 706
Non-interest expense 1,839 1,707 1,767 1,685
Income before income taxes 112 202 31 98
Provision (benefit) for taxes 4 6 (272) 3
Net income $108 $196 $303 $95
Earnings per common share:
Basic $0.02 $0.03 $0.05 $0.02
Diluted 0.01 0.01 0.01 0.00
Page 55
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND
FINANCIAL DISCLOSURES
Not applicable.
PART III
ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Directors
The following is a list of directors of the Company, their
occupations for the previous five years, ages and their
lengths of service as a director. Except as stated below, no
director of the Company is a director of any company
with a class of securities registered pursuant to section 12 of
the Securities Exchange Act of 1934, as amended, or
subject to the requirements of section 15(d) of such Act or of
any company registered as an investment company
under the Investment Company Act of 1940, as amended. Except for
the Bank, none of the corporations or
organizations discussed below is an affiliate of the Company. No
director or executive officer of the Company or
the Bank has any family relationship with any other director or
executive officer of the Company or director or
executive officer of the Bank.
JAMES E. GILLERAN. . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Mr. Gilleran has served as the Chairman and Chief Executive
Officer of the Company and the Bank since
October 1994. He served as Superintendent of Banks for the
state of California from 1989 to 1994. At
December 31, 1997, Mr. Gilleran was 64 years of age and he had
been serving as a director of the Company
and the Bank since 1994.
JOHN McGRATH . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Mr. McGrath has served as President, Chief Operating Officer
and Chief Credit Officer of the Bank since
November 1995 and as President of the Company since January
1997. He served as President and Chief
Executive Officer of Sacramento First National Bank from 1982
to 1995. At December 31, 1997, Mr.
McGrath was 55 years of age and had been serving as a director
and officer of the Bank since 1995 and as a
director of the Company since January 1997.
PAUL ERICKSON . . . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Mr. Erickson has operated his own business consulting practice,
Erickson Strategic Consulting Services, since
1989 where he advises small to medium size businesses on
strategic business issues. At December 31, 1997,
Mr. Erickson was 62 years of age and he had been serving as a
director of the Company and the Bank since
November 1997.
PETER FOO. . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Mr. Foo has been the President of Peninsula Holdings Inc. since
1993. He was co-owner of Ampac Trading
(USA) Co. from 1980 to 1993. At December 31, 1997, Mr. Foo was
50 years of age and he had been serving
as a director of the Company since August 1996 and the Bank
since February 1996.
KENT D. PRICE. . . . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Mr. Price has served as Executive Vice President of IBM since
September 1994. Mr. Price was the Chairman
and Chief Executive Officer of the Company and the Bank from
September 1993 to August 1994. He served
as Executive Vice President, Private Banking and Corporate
Development of Bank of America from 1991 to
1993; and Chief Financial Officer and Executive Vice President
of Bank of New England Corporation from
1990 to 1991. At December 31, 1997, Mr. Price was 54 years of
age and he had been serving as a director
of the Company since 1993. Mr. Price was also a director of
the Bank from 1993 to 1994.
Page 56
WILLARD D. SHARPE. . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Mr. Sharpe is a retired economist who, at the time of his
retirement in 1987, served as a Vice President of
Chase Manhattan Bank and as that bank's chief economist for
Asia. In addition, since 1993, Mr. Sharpe has
been a Vice President of two privately held companies involved
in efforts to explore prospects for investment
in Vietnam. At December 31, 1997, Mr. Sharpe was 74 years of
age and he had been serving as a director
of the Company and the Bank since 1993.
GORDON B. SWANSON . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Mr. Swanson has been the Chief Executive Officer of Cran Chile
since October 1997. Cran Chile is a major
grower and processor of cranberries into concentrate located in
southern Chile. Mr. Swanson also provides
real estate consulting services to Levi Strauss & Company. Mr.
Swanson served as Vice President of Global
Real Estate with Levi Strauss & Company from 1993 to 1997. He
served as President of G. B. Swanson &
Co., a real estate advisory firm from 1991 to 1992. At
December 31, 1997, Mr. Swanson was 53 years of
age and he had been serving as a director of the Company since
1985. He also has served as a director of the
Bank from 1985 to 1997.
NICHOLAS UNKOVIC . . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Mr. Unkovic has been a partner of the law firm of Graham &
James LLP for more than five years. At
December 31, 1997, Mr. Unkovic was 46 years of age and he had
been serving as a director of the Company
since 1994 and as a director of the Bank since May 1996.
GARY WILLIAMS. . . . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Mr. Williams has served as the Dean of the McLaren School of
Business at the University of San Francisco
since 1986. At December 31, 1997, Mr. Williams was 65 years of
age and he had served as a director of the
Company since April 1996 and the Bank since March 1996.
Committees of the Board of Directors
Audit Committee The Audit Committee is chaired by Mr.
Sharpe. Messrs. Erickson, Foo, and Unkovic
are Audit Committee members. The Audit Committee's primary
duties are to oversee the annual examination and
audit performed by a qualified firm of Certified Public Accounts.
The Audit Committee also oversees regulatory
compliance matters.
Personnel and Compensation Committee The Personnel and
Compensation Committee is chaired by Mr.
Williams. The outside directors on the Personnel and
Compensation Committee are Messrs. Erickson, Sharpe, and
Unkovic. Messrs. Gilleran and McGrath and Ms. Haakinson are also
Personnel and Compensation Committee
members. The Personnel and Compensation Committees duties are to
oversee and make recommendations to the
Board regarding personnel and compensation matters.
Executive Officers and Other Significant Officers (the "Named
Executives")
Each executive officer is selected annually by the Board of
Directors pursuant to provisions of the bylaws of
the Company and the Bank. In addition, the Company and the Bank
periodically enter into employment agreements
with certain executive officers. See "Employment and Separation
Agreement" below. The following are all of the
executive officers of the Company and/or the Bank (the "Named
Executives"), their occupations for the previous
five years, ages and the lengths of service as an officer.
JAMES E. GILLERAN. . . . . . . . . . . . . . . . . . . . . . . .. . . . .
(See position description of Mr. Gilleran's position with the
Company and the Bank, and his background under
the heading "Directors").
Page 57
JOHN McGRATH . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . .
(See position description of Mr. McGrath's position with the
Company and the Bank, and his background under
the heading "Directors").
JOANNE HAAKINSON . . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Ms. Haakinson (formerly Greenwood) has served as Executive Vice
President and Chief Administrative Officer
of the Bank, and Secretary of the Bank and the Company since
March 1996. She served as Executive Vice
President and Chief Financial Officer of Sacramento First
National Bank from 1982 to 1995. At December
31, 1997, Ms. Haakinson was 56 years of age.
KEARY COLWELL. . . . . . . . . . . . . . . . . . . . . . . . . .. . . . .
Ms. Colwell has served as Executive Vice President and Chief
Financial Officer of the Bank since April 1996
and of the Company since January 1997. Ms. Colwell had held
other senior positions with the Company and
the Bank since 1992. Prior to joining the Company and the
Bank, she served as Vice President at First
Nationwide Bank from 1988 to 1992. At December 31, 1997, Ms.
Colwell was 38 years of age.
Compliance with Reporting Requirements of Section 16
Under Section 16(a) of the Securities Exchange Act of 1934,
the Company's directors, executive officers
and any persons holding ten percent (10%) or more of the
Company's Common Stock are required to report their
ownership of any class of stock and any changes in that ownership
to the Securities and Exchange Commission (the
"SEC") and to furnish the Company with copies of such reports.
Specific due dates for these reports have been
established, and the Company is required to report any failure to
file on a timely basis by such persons. Based
solely upon a review of copies of reports filed with the SEC
during and with respect to the fiscal year ended
December 31, 1997, all reporting persons filed reports on a
timely basis, except for a Form 3, Initial Report of
Beneficial Ownership of Securities, Forms 4, Changes in
Beneficial Ownership, and Forms 5, Annual Statement
of Change in Beneficial Ownership, from PT Gunung Agung, which
holds a beneficial interest in a majority of the
Common Stock, with respect to acquiring the beneficial ownership
of 16,600,845 shares of Common Stock, and
Forms 4 and Forms 5, for Mr. Masagung, the holder of record of a
majority of the Common Stock, with respect
to the beneficial ownership of 16,600,845 shares of Common Stock
beneficially owned by PT Gunung Agung.
ITEM 11 - EXECUTIVE COMPENSATION
Executive Compensation
Decisions on the compensation of the Company's and the
Bank's executives are generally made by the four-
member Personnel/Compensation Committee. The members of the
Personnel/Compensation Committee are
members of the Board of Directors of the Company and/or Executive
Officers. All decisions by the
Personnel/Compensation Committee relating to the compensation of
the Company's and the Bank's executive officers
are reviewed by the Company's and the Bank's full Boards of
Directors, except for decisions about awards under
certain of the Company's stock-based compensation plans, which
are made solely by the Committee in order for
the grants or awards under such plans to satisfy Rule 16b-3 under
the Securities Exchange Act of 1934, as amended.
Set forth below is a report of the Personnel/Compensation
Committee addressing the Company's compensation
policies for 1997 as they affected the Named Executives of the
Company and the Bank serving at the end of 1996,
whose compensation in 1997 is shown in the "Executive
Compensation Tables" below.
Compensation Committee Interlocks and Insider Participation
The voting members of the Company's Personnel/Compensation
Committee, which during 1997 consisted
of Mr. Schultz, a former director, Mr. Erickson who joined the
Board in November 1997, Mr. Unkovic, Mr.
Williams, and Mr. Sharpe, make decisions with respect to the
compensation of the Named Executives. There are
no director interlocks.
Page 58
Board of Directors' Compensation
The Company and the Bank pay director fees to each
non-employee Director for attendance at Board
meetings and Committee meetings which are held monthly. The
combined fee for attendance at a Board meeting
of the Company and the Bank is $750 per meeting. The Chairman of
each committee receives $300 and each
member receives $200 for each committee meeting attended. The
Company's committees are the Personnel and
Compensation Committee, and the Audit Committee. The Bank's
committees are the Loan, Investment, and Special
Assets Committee, the Audit and Regulatory Committee, and the
Personnel and Compensation Committee.
Personnel and Compensation Committee's Report on Executive
Compensation
The calendar year 1997 was a transition year for the
Company. From 1991 to 1994, the Company
experienced significant financial losses. In 1995 and 1996, the
Company's financial condition was stabilized, and,
in 1997, the Company experienced significant improvements in core
operating results and asset quality. The
Company's compensation philosophy during most of this period was
dictated by the compensation necessary to
attract and retain executive management with the talent and
experience necessary to restore the Company's
profitability and by the requirements of certain regulatory
orders which were lifted in 1997.
Recently, the Company's compensation philosophy began to
return to a focus on the more traditional
corporate performance measures such as earnings per share and
increases in book value. The Company's
compensation philosophy is to pay for performance as an important
way to encourage the actions necessary to
achieve the Company's strategic objectives of increasing
profitability and maximizing shareholder value.
The Company's compensation philosophy is implemented through
its compensation program which is
structured to:
. promote the Company's annual operating objectives,
. promote the Company's long-term strategic plans,
. ensure continuity of management,
. recognize the level of management expertise,
. be competitive within the industry and community, and
. provide internal equity.
The Company's compensation program includes base salary,
annual bonus and special incentives, a stock
option plan, a severance and retention plan, and other benefits.
Presently, all monetary compensation of the Named
Executives is being paid by the Bank. The Company and the Bank
have agreed in principle to enter into contracts
or revise existing contracts with the Named Executives, subject
to regulatory approval on the terms described below.
Many of the specific terms of the individual executive's
compensation were negotiated and nondisapproved by the
regulators prior to the Company's turnaround. See "Employment
and Separation Agreements" below for additional
discussion on employment contracts.
Base Salary
Generally, the Company targets base salary at median to high
competitive levels. The competitive levels
are based on comparable positions in other banks. In addition,
the Company takes other factors into consideration
including an individual's specialized expertise, level of
experience, broad range of expertise allowing the executive
to assume multiple responsibilities, historical performance and
salary requirements, leadership in the Company and
the community, and contract terms.
Annual Bonus and Special Incentive
The purpose of the annual bonus is to provide incentive for
achieving defined target performance levels
based on the Company's annual business and profit plan. The
annual goals typically include objectives regarding
asset quality, earnings, regulatory examinations, operating
efficiency, and business development. The CEO and
President are eligible earn up to 100% of annual base salary.
The other Named Executives are eligible to earn up
Page 59
to 50% of annual base salary. Annual bonus awards are determined
based on the Company's performance and the
performance of the individual executive.
Based on the Company's extraordinary performance in 1997,
annual bonuses totaling $360,000 were
awarded to the Named Executives. The 1997 annual bonus awards
averaged 51% of annual base salary and ranged
between 33% and 67% of annual base salary.
In addition, Mr. Gilleran's contract includes the payment of
a one-time Special Incentive payment at such time
subsequent to a regulatory examination that the Board of
Directors of the Company and the Bank determine that
the financial condition is satisfactory.
Stock Option Plan
The purpose of the stock option plan is to serve as a
long-term incentive program by directly tying rewards
to the long-term success of the Company and increases in
stockholder value. Many of the options granted to the
executive officers were granted as an inducement to attract and
retain executives with the required talent and
experience to manage the Company through its financial
difficulties. Future awards may be granted based on the
long-term goals of the Company.
Severance and Retention Plan
The purpose of the severance and retention plan is to
promote continuity of management and provide for
a performance incentive with regard to a potential
change-in-control. Each executive is eligible for severance
equal to one year of annual base salary and a retention payment equal
to a maximum of one year of annual base salary.
Other Benefits
The executive officers are entitled to participate in all
employee benefit plans including the Company's
vacation, 401K, and welfare and benefit plans. Each executive is
entitled to four weeks of annual vacation. The
welfare and benefits plans include workers' compensation
benefits, medical and dental, life insurance, and long-term
disability. The life insurance plans for the CEO and President
provide for coverage of four (4) times the executives
salary. In addition, Mr. McGrath has been granted reimbursement
of certain living expenses.
The Personnel/Compensation Committee believes that the base
compensation of the Named Executives is
competitive with companies of similar size and with comparable
operating history in the commercial banking
industry.
CEO's Compensation
The base salary of the Company's CEO was determined
primarily on the terms of his employment
agreement as more fully discussed below. The agreement set Mr.
Gilleran's base salary at $300,000 and provides
for a discretionary annual bonus based upon many factors
including asset quality, business development, pre-tax
earnings, and oversight of the management of the Company and the
Bank. In addition, the CEO's compensation
for 1997 was based in part on his progress in achieving certain
additional criteria. These criteria included the lifting
of certain regulatory orders, development of the long-term
strategic business and profit plan, and his leadership
abilities. Based on the foregoing, in 1997 Mr. Gilleran received
a base salary of $279,170 and was awarded a
bonus of $200,000 which was paid in 1998.
Dated: March 26, 1998 Committee Members
Gary Williams, Chairman
Paul Erickson
Willard Sharpe
Nicholas Unkovic
Page 60
Executive Compensation Tables
Summary of 1995-1997 Compensation. The following table sets
forth the annual compensation, long-term
compensation and other compensation paid to each of the Named
Executives. Compensation is listed as of
December 31, 1997, 1996 and 1995.
SUMMARY COMPENSATION TABLE
Annual compensation Long term compensation
Awards
Other All
Annual Restricted other
Name and Compen- Stock compen
principal Salary Bonus sation award(s) Options/ -sation
position Year ($) ($) ($)(1) ($) SARs(#)(2) ($)
(a) (b) (c) (d) (e) (f) (g) (i)
Chairman/
CEO 1997 279,170 200,000 0 0 179,185 0
James E. 1996 235,425 40,000 0 0 1,276,637 0
Gilleran 1995 262,507 0 0 0 0 0
President/
COO/CCO - 1997 170,000 80,000 0 0 35,837 0
Bank 1996 169,209 30,000 14,756 0 318,055 0
John McGrath 1995 0 0 11,308 0 0 0
EVP/CAO 1997 120,000 40,000 0 0 90,000 0
Joanne 1996 90,000 20,000 29,078 0 0 0
Haakinson 1995 0 0 0 0 0 0
EVP/CFO 1997 120,000 40,000 0 0 90,000 0
Keary 1996 115,000 20,000 0 0 0 0
Colwell 1995 100,000 12,000 0 0 0 0
(1) "Other annual compensation" consists solely of
consulting fees paid for consulting services prior to formal
appointment into designated
positions.
(2) These options were granted pursuant to the employment
agreements described below. The options have an exercise price
range of
between $0.34 and $5.68, the fair market value of the
underlying stock at the time of grant.
Employment and Separation Agreements
Employment Agreement of Mr. Gilleran. The Company and
the Bank entered into an employment
agreement with Mr. Gilleran dated October 1, 1994 which provided,
among other things, for Mr. Gilleran to receive
an annual salary of at least $250,000 per year, payable in
accordance with the Bank's usual payment practices. Mr.
Gilleran's annual base salary was increased to $300,000 in
accordance with the terms of the contract. In addition,
the employment agreement provides for an annual cash performance
bonus of between 0% and 100% of base salary,
and a one-time special incentive bonus of $150,000 at such time
as the condition of the Company and the Bank are
deemed satisfactory. The expiration of the employment contract
has been extended from September 30, 1998 such
that, until a new contract is put in place, the remaining term of
the contract will always be twelve months.
The agreement provides that the Board of Directors
shall grant Mr. Gilleran options under the Amended
and Restated 1993 Stock Option Plan (formerly the 1993 Executive
Stock Option Plan) to acquire shares of the
Company's Class A Common Stock (the "Common Stock") equal to 5%
of the fully-diluted shares of the Common
Stock, with additional anti-dilution options to be granted in the
future as necessary to maintain the 5% interest until
after the next public offering of the Company's Common Stock.
The exercise price of subsequent anti-dilution
options is at the then-current fair market value per share of the
Common Stock or the price per share for the Common
Stock issued to others in a public offering of the Company's
Common Stock.
Page 61
As of December 31, 1997, Mr. Gilleran holds options to
purchase 313,639 shares of the Common Stock
with an exercise price of $5.68 per share, options to purchase
184 shares of the Common Stock with an exercise
price of $4.50 per share, and options to purchase 1,455,638
shares of the Common Stock with an exercise price
of $0.34 per share. Except for certain anti-dilution options,
the options granted to Mr. Gilleran, vest over a
three-year period, with one-third vesting on each anniversary
date of the employment agreement except that if the
Company closes a public offering of Common Stock all options will
vest. As of December 31, 1997, his options
are 100% vested.
Under the employment agreement, Mr. Gilleran is
indemnified by the Company and the Bank from any
liability or expense arising as a result of actions taken by the
Company or the Bank, or events relating to the
business of the Company or the Bank, occurring prior to the
execution of the employment agreement. Subject to
certain limitations, Mr. Gilleran is also indemnified by the
Company and the Bank from any liability or expense
arising as a result of actions taken by the Company or the Bank,
or events relating to the business of the Company
or the Bank, occurring after the execution of the employment
agreement, unless such liability or expense is due to
his bad faith or gross negligence.
Employment Agreement of Mr. McGrath. The Bank entered
into an employment agreement with
Mr. McGrath dated November 27, 1995 which provides, among other
things, for Mr. McGrath to receive an annual
salary of at least $170,000 per year, payable in accordance with
the Bank's usual payment practices. In addition,
the employment agreement provides for an annual cash performance
bonus of between 0% and 50% of base salary.
The expiration of the employment contract has been extended from
November 28, 1998 such that, until a new
contract is put in place, the remaining term of the contract will
always be twelve months.
The agreement provides that the Board of Directors
shall grant Mr. McGrath options under the Amended
and Restated 1993 Stock Option Plan (formerly the 1993 Executive
Stock Option Plan) to acquire shares of the
Company's Common Stock equal to 1% of the fully-diluted shares of
the Common Stock, with additional anti-
dilution options to be granted in the future as necessary to
maintain the 1% interest until after the next public
offering of the Company's Common Stock. The exercise price of
subsequent anti-dilution options would be at
then-current fair market value per share of the Common Stock or
the price per share of the Common Stock issued
to others in a public offering of the Company's Common Stock.
As of December 31, 1997, Mr. McGrath holds options to
purchase 353,892 shares of the Common Stock
with an exercise price of $0.34 per share. Except for certain
anti-dilution options, the options granted to Mr.
McGrath, vest over a three-year period, with one-third vesting on
each anniversary date of the employment
agreement except that if the Company closes a public offering of
Common Stock all options will vest. As of
December 31, 1997, two-thirds of his options are vested.
Under the employment agreement, Mr. McGrath is
indemnified by the Bank from any liability or expense
arising as a result of actions taken by the Bank or the Company,
or events relating to the business of the Bank or
the Company, occurring prior to the execution of the employment
agreement. Subject to certain limitations, Mr.
McGrath is also indemnified by the Bank from any liability or
expense arising as a result of actions taken by the
Bank or the Company, or events relating to the business of the
Bank or the Company, occurring after the execution
of the employment agreement, unless such liability or expense is
due to the his bad faith or gross negligence.
Other Employee Benefit Plans
401(k) Profit Sharing Plan. In 1986, the Company
established a 401(k) Profit Sharing Plan (the "Plan")
which is intended to qualify under Sections 401(a) and 401(k) of
the Internal Revenue Code. The Plan permits each
participating employee with six months of service to contribute
to the Plan through payroll deductions (the "salary
deferral contributions") of from 2% to 16% of the participant's
eligible compensation from the Company and its
subsidiaries, thereby deferring taxes on all or a portion of
these amounts. Under the Plan, the Company currently
will match a participant's tax deferred contributions by an
amount equal to 100% of such contribution for each year
subject to a limitation of 2% of the participant's eligible
compensation for that year.
The Company may also make additional contributions to
the Plan in such amounts as may be determined
by the Company's Board of Directors. Any such additional
contributions are allocated among Plan participants
based upon their compensation levels. The Company's contribution
vests 100% after a participant has completed
Page 62
five years of participation in the Plan, with vesting of 20% per
year for each of years one through five. In addition,
the Company's contribution vests upon a participant's retirement
at age 65 or upon a participant's death or
permanent disability. Participants are entitled to receive their
salary deferral contributions and vested benefits under
the Plan upon termination of employment, retirement, death or
disability. Participants have the right to allocate
their salary deferral contributions among six different
investment funds.
Amended and Restated 1993 Stock Option Plan. Awards
under the Amended and Restated 1993 Stock
Option Plan are made to both directors and officers. The awards
for officers are discretionary and based on the
performance of the Company, the officer's job performance, the
importance of his or her position, and his or her
contribution to the organization's goals for the award period.
In 1997 and 1996, grants totaling 668,971 and
2,522,689 were made, respectively. No grants were made in 1995.
The following table shows grants under the Amended and
Restated 1993 Stock Option Plan for the
individuals and groups set forth below:
Name and Position Number of Shares of
the Common Stock
Underlying Options
Granted Through
December 31, 1997
James E. Gilleran - Director of the Company and
the Bank (1) 1,769,461
John McGrath - Director of the Company and
the Bank (1) 353,892
Kent D. Price - Director of the Company (1) 353,892
Peter Foo - Director of the Company and Bank (2) 26,438
Nicholas Unkovic - Director of the Company and Bank (2) 27,315
Willard D. Sharpe - Director of the Company and Bank (2) 30,138
Gordon B. Swanson - Director of the Company (2) 30,138
Paul Erickson - Director of the Company and Bank (3) 26,438
Gary G. Williams - Director of the Company and Bank (2) 26,438
Named Executives Group (four persons) 2,303,353
Outside Director Group (seven persons) 484,960
_____________________
(1) The stock options have anti-dilution provisions.
(2) Each outside director not covered by an existing
contract has been granted options to acquire 26,438 shares
of the Common Stock at a price of $0.34 effective
October 1, 1996. These options will vest over three
years based on seniority with Messrs. Swanson and
Sharpe being fully vested, Mr. Unkovic 75% vested
and Messrs. Foo, Schultz and Williams 25% vested.
(3) Mr. Erickson has been granted options to acquire 26,438
of the Common Stock at a price of $0.45
effective November 21, 1997. The options vest rateably
over three years with 25% vesting
immediately. The following table sets forth the
options granted to the Named Executives during 1997:
Page 63
Number of % of Total
Securities Options/SARs
Name and Underlying Granted to Exercise or Grant Date
Principal Options/SARs Employees in Base Price Expiration Present
Position Granted(#) Fiscal Year ($/Share) Date Value ($)(1)
(a) (b) (c) (d) (e) (f)
Chairman/
CEO James 17,582 2.1 0.34 10/1/2006 1,407
E. Gilleran 161,603 19.1 0.34 6/13/2007 12,928
President/
COO/CCO 3,516 0.4 0.34 10/1/2006 281
John McGrath 32,321 3.8 0.34 6/13/2007 2,586
EVP/CAO
Joanne
Haakinson 90,000 10.6 0.34 10/1/2006 8,100
EVP/CFO
Keary Colwell 90,000 10.6 0.34 10/1/2006 8,100
(1) The Company used the Black-Scholes option pricing
model assuming a risk free interest rate of 5.35%, an expected
life of approximately three (3) years, no expected
dividend yield and a volatility factor of less than one.
The following table sets forth the unexercised options
held as of December 31, 1997 and options exercised
during 1997 by the Named Executives:
Number of
Securities Value of
Underlying Unexercised In-
Unexercised the-Money
Shares Options/SARs at Options/SARs at
Name and on Fiscal Year end Fiscal Year end($)
principal Acquired Value (Exercisable/Un- (Exercisable/Un-
Position Exercise (#) Realized($) exercisable)(#) exercisable)($)
(a) (b) (c) (d) (e)
Chairman/CEO
James E. -- -- 1,586,189/ $272,557/
Gilleran 183,272 33,127
President/COO/
CCO -- -- 234,219/ $49,186
John McGrath 119,673 25,131
EVP/CAO -- -- 45,000/ $9,000/
Joanne Haakinson 45,000 9,000
EVP/CFO -- -- 90,000/ $18,000/
Keary Colwell 0 0
Common Stock Performance Graph
The following Common Stock Performance chart compares
the annual percentage change, on a dividend
reinvested basis, in the cumulative total stockholder return on
the Common Stock with the cumulative total return
of the Standards & Poor's 500 Stock Index (the "S&P") and for the
five year period commencing January 1, 1993,
and an index on the Company's peers selected in good faith. The
peer group index selected is the Dow Jones Banks
- - Western U.S.
Page 64
The comparison assumes $100 was invested on December
31, 1992 in the Company's Common Stock in
each of the foregoing indices and the reinvestment of dividends.
The stock price performance depicted in the
Performance Graph is not necessarily indicative of future price
performance.
Index 1992 1993 1994 1995 1996 1997
The San Francisco Company $100 $90.00 $26.00 $1.00 $1.36 $2.40
S&P 500 Total Return Index 100 110.08 111.53 153.45 188.68 251.64
Dow Jones Western Bank Index 100 130.44 138.40 239.09 314.88 456.90
In 1994, the Company's Common Stock was suspended from
trading on the American Stock Exchange and
in 1995 the Company's Common Stock was delisted. Since 1996, Van
Kasper and Company has been making a
market in the Company's Common Stock. The Company's Common Stock
is thinly traded with less than 2.2% held
by minority Stockholders.
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT
Mr. Putra Masagung, the record holder of 97.8% of the
Company's Common Stock, advised the Company
that a majority ownership of the Company's Common Stock was
beneficially acquired by PT Gunung Agung, an
Indonesian company, in a series of transactions from 1992 to
1995. This acquisition of majority ownership occurred
without the required prior approval of the state and federal
regulatory authorities. Without such regulatory approval,
PT Gunung Agung will be prevented from exercising certain rights as a
shareholder. The Company advised the appropriate regulatory
authorities of these events. Representatives of both Mr. Masagung and PT
Gunung Agung have been in discussions with the regulatory agencies to
determine the appropriate steps to be taken under the
circumstances. The regulatory agencies have to date discussed with Mr.
Masagung and PT Gunung Agung an arrangement whereby they would transfer
their voting rights and ultimately sell their shares, but no agreement has
been reached with respect to these matters.
Based on the facts known at this time, management of the
Company does not believe this development will
have a material impact on the operations or the current financial
condition of the Company or the Bank. This
development has not materially reduced the net operating loss
carryforwards that the Company may utilize to reduce
future income tax liability. However, the future change in
control referred to above would materially reduce the
net present value of net operating loss carryforwards.
The following sets forth information regarding the
beneficial ownership of the Common Stock by PT
Gunung Agung and Mr. Putra Masagung, as provided by Mr. Masagung,
PT Gunung Agung, the executive officers
and directors, and by all other shareholders as of December 31,
1997. The address of PT Gunung Agung is 55 MH
Thamrin, Jakarta, Indonesia, and Mr. Putra Masagung's address for
the purpose of his ownership is the principal
executive office of the Company.
Directors and
PT Gunung Mr. Putra Executive All
Agung Masagung Officers(1) Others
Common Shares 16,600,845 14,426,457 2,938 693,542
Percentage ownership 52.3% 45.5% 0.0% 2.2%
(1) Does not include options granted pursuant to the
Amended and Restated 1993 Stock Option Plan (see
"Item 11 - Executive Compensation - Other Employee
Benefits"). If all such options were exercised, the
shares held by such directors and executive officers would
represent 9.5% of the outstanding shares of
Common Stock.
Page 65
The following sets forth information regarding the
beneficial ownership of the Series B Preferred Stock as
December 31, 1997.
Number of Shares Percentage
Beneficially of
Owned Class
Gordon Swanson 7,200 45.4%
John Volckman 3,500 22.0
All directors and
current executive
officers as a group 7,200 45.4
The address of Mr. Volckman is 497 Walsh Road, Atherton,
California 94027, and the address of Mr.
Swanson for the purpose of his ownership of the Series B
Preferred stock is the principal executive office of the
Company.
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Certain Transactions
The Bank has had and expects to continue to have banking
transactions with many of the directors and
executive officers of the Company and the Bank (and their
associates). Loans by the Bank to any director or
executive officer of the Company or any of its subsidiaries (or
any associate of such persons) have been made in
the ordinary course of business on substantially the same terms,
including interest rates and collateral, as those
prevailing at the time for comparable transactions with other
persons, and should not involve more than the normal
risk of collection or present other unfavorable features. Loans
by the Bank to any director, executive officer or
principal stockholder of the Company or any of its subsidiaries
(as such persons are defined by regulation) are
subject to limitations under California and federal law. Among
other things, a loan by the Bank to a director,
executive officer, or principal stockholder of the Company or any
of its subsidiaries must be on non-preferential
terms and, if all loans to a given person exceed $25,000, such
loans must be approved in advance by the Bank's
Board of Directors. The Bank had no such loans outstanding as of
December 31, 1997.
The Company and the Bank have engaged the law firm of
Graham & James LLP to perform the function
of General Counsel. Mr. Unkovic, a director of the Company and
the Bank, is a partner with Graham & James
LLP.
The Company entered into an indemnification agreement with
Mr. Unkovic and Graham & James LLP dated
December 16, 1994. The indemnification agreement provides that
Mr. Unkovic is indemnified from and against
any and all liabilities or expenses arising with respect to any
action or inaction taken in the course of his duties as
a director of the Company, and that Graham & James LLP is
indemnified against any and all liabilities and expenses
against Graham & James LLP arising by reason of Mr. Unkovic
serving as a director of the Company. The
indemnification does not include legal services Mr. Unkovic or
Graham & James LLP may render to the Company
or its subsidiaries, affiliates, directors, officers or
stockholders.
Under their employment agreements, Messrs. Gilleran and
McGrath would be indemnified by the Company
and/or the Bank from any liability or expense arising as a result
of actions taken by the Company or the Bank, or
events relating to the business of the Company or the Bank,
occurring prior to the execution of the employment
agreements. See Item 11 - "Executive Compensation -- Employment
and Separation Agreements" for additional
information on indemnification agreements.
During the first quarter of 1998, the Company and the Bank
agreed in principle to entering into supplemental
indemnification agreements with each Named Executive and each
outside director.
In 1993, the Bank entered into an indemnification agreement
with Mr. Thayer Prentice, former Chairman
of the Board, President and Chief Executive Officer of the
Company and the Bank. The indemnification agreement
expired August 31, 1997.
Page 66
PART IV
ITEM 14 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND
REPORTS ON FORM 8-K
(a) 1. All financial statements.
See Index to Financial Statements on page 26.
2. Financial Statement Schedules
All financial statement schedules
are omitted because they are not
applicable or not required, or
because the required information is
included in the Consolidated
Financial Statements or the notes thereto.
3. List of Exhibits (numbered in
accordance with Item 601 of Regulation
S-K):
Exhibit Number Exhibit
3.1 Certificate of Incorporation of
Bank of San Francisco (Delaware) Holding
Company, dated June 23, 1988 (1)
3.2 Agreement and Plan of Merger of
Bank of San Francisco (Delaware) Holding
Company, a Delaware corporation
and Bank of San Francisco Company Holding
Company, a California
Corporation, dated June 24, 1988 (1)
3.3 Certificate of Amendment of the
Certificate of Incorporation of Bank of San
Francisco Company Holding
Company, dated May 22, 1989 (1)
3.4 Certificate of Amendment of the
Certificate of Incorporation of Bank of San
Francisco Company Holding
Company, dated September 21, 1989 (1)
3.5 Bylaws of Bank of San Francisco
(Delaware) Holding Company, dated June 23,
1988 (1)
3.6 First Amendment to Bylaws of Bank
of San Francisco Company Holding
Company, dated July 19, 1989 (1)
3.7 Second Amendment to Bylaws of
Bank of San Francisco Company Holding
Company, dated June 6, 1990 (1)
3.8 Certificate of Amendment of the
Certificate of Incorporation of Bank of San
Francisco Company Holding
Company, dated May 23, 1994 (4)
3.9 Amended and Restated Certificate
of Incorporation of The San Francisco
Company, dated May 23, 1994 (4)
3.10 Certificate of Amendment of
Certificate of Incorporation or The San
Francisco Company, dated December 18, 1996(7)
4.1 Certificate of Designations of Rights,
Preferences, Privileges and Restrictions
of 8% Series B Convertible Preferred Stock
of Bank of San Francisco Company
Holding Company, dated July 28, 1988 (1)
4.2 Amended Certificate of Designations of
Rights, Preferences, Privileges and
Restrictions of 7% Series B Convertible
Preferred Stock of Bank of San Francisco
Company Holding Company, dated October 7,
1988 (1)
4.3 Certificate of Correction of Certificate
of Incorporation, dated June 18, 1990 (1)
10.2 Lease dated November 1, 1960 between The
Lurie Company and Bank of America, with
respect to premises at 550 Montgomery
Street (2)
10.3 Consent to Assignment of Lease, dated
October 8, 1986, between The Lurie
Company and Bank of San Francisco and Bank
of San Francisco Realty Investors, with
respect to premises at 550 Montgomery
Street (2)
10.4 Assignment of Lease, dated October 17,
1986, by Bank of America to Bank of
San Francisco and Bank of San Francisco
Realty Investors, with respect to
premises at 550 Montgomery Street (2)
Page 67
10.7 Letter Agreement with the Board
of Governors of the Federal Reserve Board,
dated April 21, 1989 (1)
10.9 Bank of San Francisco Company
Holding Company 401(k) Profit Sharing Plan
(3)
10.18 Employment Agreements dated
October 1, 1994 between Mr. Gilleran and The
San Francisco Company and the
Bank of San Francisco. (5)
10.19 Employment Agreements dated
November 27, 1995 between Mr. John McGrath
and the Bank of San Francisco(6)
10.20 Subscription Agreement dated as
of February 26, 1996 between The San
Francisco Company and Putra Masagung (6)
10.21 Amended and Restated 1993 Stock
Option Plan (7)
11.1 Computation of Earnings Per Share
21 Subsidiaries of registrant (3)
23.1 Consent of independent auditors
___________________________
Footnotes to List of Exhibits:
*Indicates filed herewith.
(1) Incorporated by reference from
the Form S-2 (Registration No. 33-34985).
(2) Incorporated by reference from
the Form 10-K for the year ended December 31,
1986.
(3) Incorporated by reference from
Form 10-K for the year ended December 31,
1990.
(4) Incorporated by reference from
Proxy Statement for the Special Meeting of
Stockholders' held on May 23, 1994.
(5) Incorporated by reference from
Form 10-K for the year ended December 31,
1994.
(6) Incorporated by reference from
Form 10-K for the year ended December 31,
1995.
(7) Incorporated by reference from
Proxy Statement of the 1996 Annual Meeting of
Stockholders' held on December 18, 1996.
(b) Reports on Form 8-K filed in the fourth quarter of 1997:
None
Page 68
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the
Securities Exchange Act of 1934, the registrant
has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
The San Francisco Company
/s/ James E. Gilleran Chairman of the Board and March 27, 1998
James E. Gilleran Chief Executive Officer
(Principal Executive Officer)
/s/ Keary L. Colwell Executive Vice President March 27, 1998
Keary L. Colwell Chief Financial Officer
(Principal Accounting Officer)
Page 69
Pursuant to the requirements of the Securities Exchange Act of
1934, this report has been signed below by the
following persons on behalf of the registrant in the capacities
and on the dates indicated.
Signature Title Date
/s/ James E. Gilleran Chairman of the Board and March 27, 1998
James E. Gilleran Chief Executive Officer
(Principal Executive Officer)
/s/ John McGrath President and March 27, 1998
John McGrath Director
/s/ Willard D. Sharpe Director March 27, 1998
Willard D. Sharpe
/s/ Gordon B. Swanson Director March 27, 1998
Gordon B. Swanson
/s/ Kent D. Price Director March 27, 1998
Kent D. Price
/s/ Nicholas C. Unkovic Director March 27, 1998
Nicholas C. Unkovic
/s/ Paul Erickson Director March 27, 1998
Paul Erickson
/s/ Gary Williams Director March 27, 1998
Gary Williams
/s/ Peter Foo Director March 27, 1998
Peter Foo
Page 70
EXHIBIT 11.1
Computation of Earnings Per Share
The following table provides the earnings per share
calculations for the years ended December 31, for each of the
periods shown:
1997 1996 1995
Basic earnings per share:
Net income (in thousands) $ 5,443 $ 702 $336
Weighted average Common Stock
outstanding 30,393,679 5,829,035 5,765,985
Net income per Common Stock
and Common Stock equivalent $0.18 $0.12 $0.05
Diluted earnings per share:
Net income (in thousands) $ 5,501 $ 702 $ 336
Weighted average:
Common Stock outstanding 30,393,679 5,829,035 5,765,985
Common stock equivalents -
dilutive 250,808 17,944,066 3,645,061
Total weighted average
Common Stock and
Common Stock equivalent 30,644,487 23,773,101 9,411,046
Net income per Common Stock
and Common Stock equivalent $0.17 $0.03 $0.03
Page 71
EXHIBIT 23.1
CONSENT OF INDEPENDENT AUDITORS
The Board of Directors
The San Francisco Company
We consent to the incorporation by reference in the registration
statement on Form S-8 (pertaining to The San Francisco Company Amended
and Restated 1993 Stock Option Plan) dated April 1, 1997 of The San
Francisco Company and subsidiaries (the "Company") of our report dated
February 12, 1998, relating to the Consolidated Statements of Financial
Condition of The San Francisco Company and subsidiaries as of December 31,
1997 and 1996, and the related consolidated Statements of
Operations, Changes in Shareholders' equity, and Cash Flows for
each of the years in the three-year period ended December 31,
1997, which report appears in the December 31, 1997 Form 10K of
The San Francisco Company.
San Francisco, California
March 30, 1998
Page 72
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