<PAGE> 1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1995
OR
___ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______________ to ____________
Commission File No.: 0-11113
SANTA BARBARA BANCORP
(Exact Name of Registrant as Specified in its Charter)
California 95-3673456
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1021 Anacapa Street, Santa Barbara, California 93101
(Address of principal executive offices) (Zip Code)
(805) 564-6300
(Registrant's telephone number, including area code)
Not Applicable
Former name, former address and former fiscal year, if changed since last
report.
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 [ ]
Common Stock - As of November 7, 1995, there were 5,116,047 shares of the
issuer's common stock outstanding.
Page One of Fifty-one
<PAGE> 2
PART 1
FINANCIAL INFORMATION
<TABLE>
<CAPTION>
SANTA BARBARA BANCORP & SUBSIDIARIES
Consolidated Balance Sheets (Unaudited)
(dollars in thousands except per share amount)
September 30, 1995 December 31, 1994
<S> <C> <C>
Assets:
Cash and due from banks $ 48,184 $ 69,630
Federal funds sold 70,000 15,000
Cash and cash equivalents 118,184 84,630
Securities (Note 4):
Held-to-maturity 326,346 299,520
Available-for-sale 74,587 87,439
Bankers' acceptances 48,625 80,594
Loans, net of allowance of $11,516 at
September 30, 1995 and $12,911 at
December 31, 1994 (Note 5) 520,686 486,520
Premises and equipment, net (Note 6) 8,330 7,391
Accrued interest receivable 8,052 8,130
Other assets (Note 7) 13,308 13,392
Total assets $1,118,118 $1,067,616
Liabilities:
Deposits:
Demand deposits $ 135,886 $ 147,085
NOW deposit accounts 131,678 142,639
Money Market deposit accounts 396,819 355,581
Savings deposits 92,956 113,074
Time deposits of $100,000 or more 72,195 63,556
Other time deposits 148,593 134,782
Total deposits 978,127 956,717
Securities sold under agreements
to repurchase and Federal
funds purchased 34,482 9,487
Other borrowed funds 1,210 1,000
Accrued interest payable
and other liabilities 5,901 6,452
Total liabilities 1,019,720 973,656
Shareholders' equity (Note 3):
Common stock (no par value; $1.00
per share stated value; 20,000
authorized; 5,106 outstanding
at September 30, 1995 and 5,126
at December 31, 1994) 5,106 5,126
Surplus 39,041 39,683
Unrealized loss on securities
available for sale (314) (1,496)
Retained earnings 54,565 50,647
Total shareholders' equity 98,398 93,960
Total liabilities and
shareholders' equity $1,118,118 $1,067,616
</TABLE>
See accompanying notes to the consolidated condensed financial statements.
-2-
<PAGE> 3
<TABLE>
<CAPTION>
SANTA BARBARA BANCORP & SUBSIDIARIES
Consolidated Statements of Income (Unaudited)
(dollars in thousands except per share amounts)
For the Nine-Month Periods For the Three-Month Periods
Ended September 30, Ended September 30,
1995 1994 1995 1994
<S> <C> <C> <C> <C>
Interest income:
Interest and fees on loans $40,018 $35,595 $12,566 $10,825
Interest on taxable securities 12,073 14,284 4,221 4,852
Interest on tax-exempt
securities 5,302 5,267 1,727 1,844
Interest on Federal funds sold 1,935 374 1,024 249
Interest on bankers'
acceptances 2,041 626 553 339
Total interest income 61,369 56,146 20,091 18,109
Interest expense:
Interest on deposits:
NOW accounts 1,097 940 371 316
Money Market accounts 12,198 6,801 4,377 2,976
Savings deposits 1,805 2,366 567 737
Time deposits of
$100,000 or more 2,121 1,758 794 597
Other time deposits 6,200 5,136 2,247 1,762
Interest on securities
sold under agreements
to repurchase and
Federal funds purchased 961 674 391 246
Interest on other
borrowed funds 61 71 13 23
Total interest expense 24,443 17,746 8,760 6,657
Net interest income 36,926 38,400 11,331 11,452
Provision for loan losses 8,874 5,757 3,910 750
Net interest income after
provision for loan losses 28,052 32,643 7,421 10,702
Other income:
Service charges on deposits 3,172 2,222 1,056 752
Trust fees 5,042 4,839 1,686 1,548
Other service charges,
commissions and fees, net 4,740 3,064 1,130 1,023
Securities losses (Note 4) (22) (1,027) 0 (414)
Other income 360 414 169 121
Total other income 13,292 9,512 4,041 3,030
Other expense:
Salaries and benefits 17,550 16,271 5,927 5,295
Net occupancy expense 3,094 2,578 1,080 935
Equipment expense 1,937 1,613 652 614
Net cost (gain) from
operating other real estate 30 (597) 46 (17)
Other expense 9,355 9,106 1,547 2,867
Total other expense 31,966 28,971 9,252 9,694
Income before income taxes 9,378 13,184 2,210 4,038
Applicable income taxes 2,392 3,494 493 1,042
Net income $ 6,986 $ 9,690 $ 1,717 $ 2,996
Earnings per share (Note 2) $ 1.36 $ 1.90 $ 0.34 $ 0.59
</TABLE>
See accompanying notes to consolidated condensed financial statements.
-3-
<PAGE> 4
<TABLE>
<CAPTION>
SANTA BARBARA BANCORP & SUBSIDIARIES
Consolidated Statements of Cash Flows (Unaudited)
(dollars in thousands)
For the Nine Months Ended September
1995 1994
<S> <C> <C>
Cash flows from operating activities:
Net Income $ 6,986 $ 9,690
Adjustments to reconcile net income to net cash
provided by operations:
Depreciation and amortization 1,408 1,130
Provision for loan losses 8,874 5,757
Benefit (provision) for deferred income taxes 1,329 (1,044)
Net amortization of investment securities
discounts and premiums (428) (4,211)
Net change in deferred loan origination and
extension fees and costs 87 552
Decrease in accrued interest receivable 78 245
Increase in accrued interest payable 196 150
Increase in service fees and other
income receivable (2,242) (600)
Decrease in income taxes payable 0 (229)
Decrease in prepaid expenses 170 383
Increase (decrease) in accrued expenses (1,739) 484
Other operating activities 1,635 86
Net cash provided by operating activities 16,354 12,393
Cash flows from investing activities:
Proceeds from sale of securities:
Available-for-sale 0 91,569
Proceeds from call or maturity of securities:
Available-for-sale 36,743 134,425
Held-to-maturity 10,081 2,577
Purchase of securities:
Available-for-sale (52,577) (177,386)
Held-to-maturity (5,324) (98,513)
Proceeds from maturity of bankers' acceptances 108,470 62,970
Purchase of bankers' acceptances (77,440) (55,693)
Net increase in loans made to customers (43,349) (19,788)
Disposition of property from defaulted loans 294 3,024
Purchase or investment in
premises and equipment (2,369) (1,822)
Net cash provided by (used in)
investing activities (25,471) (58,637)
Cash flows from financing activities:
Net increase in deposits 21,410 57,428
Net increase (decrease) in borrowings with
maturities of 90 days or less 24,995 (190)
Proceeds from issuance of common stock 204 722
Payments to retire common stock (866) 0
Dividends paid (3,072) (2,853)
Net cash provided by financing activities 42,671 55,107
Net increase in cash and cash equivalents 33,554 8,863
Cash and cash equivalents at beginning of period 84,630 50,946
Cash and cash equivalents at end of period $118,184 $ 59,809
Supplemental disclosure:
Cash paid during the six months ended:
Interest $ 24,248 $ 17,596
Income taxes $ 3,110 $ 4,882
</TABLE>
See accompanying notes to consolidated condensed financial statements
-4-
<PAGE> 5
Santa Barbara Bancorp and Subsidiaries
Notes to Consolidated Financial Statements
September 30, 1995
(Unaudited)
1. Principles of Consolidation
The consolidated financial statements include the parent holding company,
Santa Barbara Bancorp ("Company"), and its wholly owned subsidiaries, Santa
Barbara Bank & Trust ("Bank") and SBBT Service Corporation ("Service Corp.").
Material intercompany balances and transactions have been eliminated.
2. Earnings Per Share
Net earnings per common and common equivalent share are computed based on the
weighted average number of shares outstanding during the period. There are no
common stock equivalents that cause dilution in earnings per share in excess
of 3 percent. For the nine- and three-month periods ended September 30, 1995
and 1994, the weighted average shares outstanding were as follows:
Nine-Month Periods Three-Month Periods
Ended September 30, Ended September 30,
1995 1994 1995 1994
Weighted average
shares outstanding 5,119,239 5,089,466 5,105,301 5,108,987
3. Basis of Presentation
The accompanying unaudited consolidated financial statements have been
prepared in a condensed format, and therefore do not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of Management,
all adjustments (consisting only of normal recurring accruals) considered
necessary for a fair presentation have been reflected in the financial
statements. However, the results of operations for the nine months ended
September 30, 1995, are not necessarily indicative of the results to be
expected for the full year. Certain amounts reported for 1994 have been
reclassified to be consistent with the reporting for 1995.
For the purposes of reporting cash flows, cash and cash equivalents include
cash and due from banks and Federal funds sold.
4. Securities
The Company's securities are classified as either "held-to-maturity" or
"available-for-sale." Only those securities for which the Company has the
ability and positive intent to hold to maturity may be classified as held-to-
maturity. Securities which meet these criteria are accounted for at their
amortized historical cost. That is, these securities are carried at their
purchase price adjusted for the amortization of any premium or discount
irrespective of later changes in their market value prior to maturity.
Securities which might be sold for liquidity purposes, sold in response to
interest rate changes, or sold to restructure the maturities of the portfolio
to better match deposit maturities or complement the maturity characteristics
of the loan portfolio are considered available-for-sale. These securities are
reported in the financial statements at fair value rather than at amortized
cost. The after-tax effect of unrealized gains or losses is reported as a
separate component of shareholders' equity. Changes in the unrealized gains
or losses are shown as increases or decreases in this component of equity,
but are not reported as gains or losses in the statements of income of the
Company.
The Company has reclassified a few U. S. Agency securities from "available-
for-sale" to "held-to-maturity." As required by Statement of Financial
Accounting Standards No. 115, Accounting for Certain Investments in Debt and
Equity Securities, the securities were transferred at their then fair value
which was lower than their amortized cost. This unrealized loss net of tax
remains as part of the separate component of capital mentioned above, and is
amortized against the interest income for the securities over their
respective lives. This amount, approximately $255,000, is the reason that the
separate component of capital exceeds the net unrealized losses related to
the securities classified as "available-for-sale."
During the third quarter of 1995, the Bank became a member of the Federal
Reserve System. As a member, it is required to purchase stock in the Federal
Reserve Bank equal to a percentage of the Bank's capital. By regulation, this
stock is classified as available-for-sale, but it has no market value other
than it's purchase price. Therefore, it is shown on a separate line in the
next table.
Book and market values of securities are as follows:
<TABLE>
<CAPTION>
(in thousands) Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
<S> <C> <C> <C> <C>
September 30, 1995:
Held-to-maturity:
U.S. Treasury
obligations $195,681 $ 656 $ (2,382) $193,955
U.S. Agency
obligations 44,215 496 (239) 44,472
State and municipal
securities 86,450 13,352 (98) 99,704
326,346 14,504 (2,719) 338,131
Available-for-sale:
U.S. Treasury
obligations 28,931 166 (68) 29,029
U.S. Agency
obligations 45,068 14 (12) 45,070
73,999 180 (80) 74,099
Equity Securities 488 0 0 488
74,487 180 (80) 74,587
$400,833 $14,684 $ (2,799) $412,718
December 31, 1994:
Held-to-maturity:
U.S. Treasury
obligations $195,354 $ 69 $(12,189) $183,234
U.S. Agency
obligations 14,654 0 (999) 13,655
State and municipal
securities 89,512 9,727 (1,477) 97,762
299,520 9,796 (14,665) 294,651
Available-for-sale:
U.S. Treasury
obligations 48,812 12 (685) 48,139
U.S. Agency
obligations 41,024 0 (1,724) 39,300
89,836 12 (2,409) 87,439
$389,356 $ 9,808 $(17,074) $382,090
</TABLE>
The Company does not expect to realize any significant amount of the
unrealized gains shown above for the held-to-maturity securities unless the
securities are called prior to maturity. The Company does not expect to
realize any of the unrealized losses related to the securities in the held-
to-maturity portfolio because it is the Company's intent to hold them to
maturity. At that time the par value will be received. Losses may be realized
on securities in the available-for-sale portfolio.
<TABLE>
<CAPTION>
(in thousands) Held-to- Available-
Maturity for-Sale Total
<S> <C> <C> <C>
September 30, 1995:
Amortized cost:
In one year
or less $ 41,326 $ 69,021 $ 110,347
After one year
through five years 232,148 4,978 237,126
After five years
through ten years 27,283 0 27,283
After ten years 25,589 0 25,589
326,346 73,999 400,345
Equity Securities 0 488 488
$ 326,346 $ 74,487 $ 400,833
Estimated market value:
In one year
or less $ 41,646 $ 68,955 $ 110,601
After one year
through five years 234,378 5,144 239,522
After five years
through ten years 34,856 0 34,856
After ten years 27,251 0 27,251
338,131 74,099 412,230
Equity Securities 0 488 488
$ 338,131 $ 74,587 $ 412,718
December 31, 1994:
Amortized cost:
In one year
or less $ 17,220 $ 33,992 $ 51,212
After one year
through five years 225,648 55,844 281,492
After five years
through ten years 35,798 0 35,798
After ten years 20,854 0 20,854
$ 299,520 $ 89,836 $ 389,356
Estimated market value:
In one year
or less $ 17,694 $ 33,816 $ 51,510
After one year
through five years 214,105 53,623 267,728
After five years
through ten years 43,063 0 43,063
After ten years 19,789 0 19,789
$ 294,651 $ 87,439 $ 382,090
</TABLE>
The book value and estimated market value of debt securities by contractual
maturity are shown above. Expected maturities may differ from contractual
maturities because certain issuers may have the right to call or prepay
obligations with or without call or prepayment penalties.
5. Loans
The balances in the various loan categories are as follows:
<TABLE>
<CAPTION>
(in thousands) September 30, 1995 December 31, 1994
<S> <C> <C>
Real estate:
Residential $134,127 $108,923
Non-residential 172,034 145,928
Construction 19,186 26,695
Commercial loans 135,258 148,396
Home equity loans 35,349 32,573
Consumer loans 26,969 27,319
Municipal tax-exempt obligations 7,602 7,831
Other loans 1,677 1,766
Total loans $532,202 $499,431
</TABLE>
The loan balances at September 30, 1995 and December 31, 1994, are net of
approximately $2,124,000 and $2,038,000 respectively, in loan fees and
origination costs deferred under the provisions of Statement of Financial
Accounting Standards No. 91.
Statements of Financial Accounting Standards No. 114, Accounting by Creditors
for Impairment of a Loan, and No. 118, Accounting by Creditors for Impairment
of a Loan--Income Recognition and Disclosures were adopted on January 1,
1995. At that date, a valuation allowance for credit losses related to
impaired loans was established. A loan is identified as impaired when it is
probable that interest and principal will not be collected according to the
contractual terms of the loan agreement. Because this definition is very
similar to that used by bank regulators to determine on which loans interest
should not be accrued, the Company expects that most impaired loans will be
on nonaccrual status. Therefore, in general, the accrual of interest on
impaired loans is discontinued, and any uncollected interest is written off
against interest from other loans in the current period. No further income is
recognized until all recorded amounts of principal are recovered in full or
until circumstances have changed such that the loan is no longer regarded as
impaired.
There are some loans about which there is doubt regarding the collectibility
of interest and principal according to the contractual terms, but which are
both fully secured by collateral and which are current in their interest and
principal payments. These impaired loans are not classified as nonaccrual.
Not all types of loans are covered by the provisions of these statements.
Loans of these types may be classified as nonaccrual because of concern for
collectibility, but not be reported as impaired.
The amount of the valuation allowance for impaired loans is determined by
comparing the recorded investment in each loan with its value measured by one
of three methods: (1) the expected future cash flows are estimated and then
discounted at the effective interest rate; (2) by the loan's observable
market price if it is of a kind for which there is a secondary market; or (3)
by valuing the underlying collateral. A valuation allowance is computed as
any amount by which the recorded investment exceeds the value of the impaired
loan. If the value of the loan as determined by one of the above methods
exceeds the recorded investment in the loan, no valuation allowance for that
loan is established. The following table discloses information about the
impaired loans and the allowance related to them ($ in millions) as of
September 30, 1995.
Loans identified as impaired $20.3
Impaired loans for which a valuation
allowance has been determined $19.7
Impaired loans for which no valuation
allowance was determined necessary $0.6
Amount of valuation allowance $5.8
The average amounts of the recorded investment in impaired loans for the
three and nine month periods ended September 30, 1995 were approximately
$23.8 million and $25.1 million, respectively.
Approximately $412,000 and $1,145,000 in interest was collected from impaired
loans in the three and nine month periods ended September 30, 1995,
respectively.
The provisions of the statements permit the valuation allowance reported
above to be determined on a loan-by-loan basis or by aggregating loans with
similar risk characteristics. Because the loans currently identified as
impaired have unique risk characteristics, the valuation allowance was
determined on a loan-by-loan basis.
The Company also provides an allowance for losses for (1) loans that are not
covered by the provisions of SFAS Nos. 114 & 118; (2) loans which while of a
kind that is covered by the statements, are not identified as impaired; and
(3) losses inherent in loans of all types which have not been specifically
identified as of the period end. This allowance is based on review of
individual loans, historical trends, current economic conditions, and other
factors.
Loans that are deemed to be uncollectible, whether or not covered by the
provisions of the statements, are charged-off. Uncollectibility is determined
based on the individual circumstances of the loan and historical trends.
The valuation allowance for impaired loans is included with the general
allowance for loan losses of $5.7 million to total the $11.5 million reported
on the balance sheet for September 30, 1995 which these notes accompany and
in the statement of changes in the allowance account below
($ in thousands).
<TABLE>
<S> <C>
Balance, December 31, 1994 $12,911
Provision for tax refund anticipation loans 2,863
Tax refund loan losses charged to allowance (4,402)
Tax refund loan recoveries credited to allowance 251
Provision for loan losses 6,011
Loan losses charged to allowance (6,727)
Loan recoveries credited to allowance 609
Balance, September 30, 1995 $11,516
</TABLE>
6. Premises and Equipment
Premises and equipment are stated at cost less accumulated depreciation and
amortization. Depreciation is charged to income over the estimated useful
lives of the assets, generally by the use of an accelerated method in the
early years, switching to the straight line method in later years. Leasehold
improvements are amortized over the terms of the related lease or the esti-
mated useful lives of the improvements, whichever is shorter. Depreciation
expense (in thousands) was $525 and $431 for the three-month periods ended
September 30, 1995 and 1994, respectively, and $1,408 and $1,130 for the
nine-month periods ended September 30, 1995 and 1994, respectively. The table
below shows the balances by major category of fixed assets:
<TABLE>
<CAPTION>
(in thousands) September 30, 1995 December 31, 1994
Accumulated Net Book Accumulated Net Book
Cost Depreciation Value Cost Depreciation Value
<S> <C> <C> <C> <C> <C> <C>
Land and buildings $ 5,614 $ 2,924 $ 2,690 $ 5,576 $ 2,793 $ 2,783
Leasehold improvements 6,233 3,808 2,425 5,369 3,481 1,888
Furniture and equipment 12,591 9,376 3,215 11,167 8,447 2,720
Total $24,438 $16,108 $ 8,330 $22,112 $14,721 $ 7,391
</TABLE>
7. Property from Defaulted Loans Included in Other Assets
Property from defaulted loans is included within other assets on the balance
sheets. As of September 30, 1995, and December 31, 1994, the Company had
$1,021,000 and $856,000, respectively, in property from defaulted loans.
Property from defaulted loans is carried at the lower of the outstanding
balance of the related loan or the estimate of the market value of the assets
less disposal costs.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Net income for the third quarter of 1995 is lower than net income for the
same quarter of last year, and the year to date net income at September is
also lower than for the first three quarters of 1994. The reasons for this
are explained in detail in throughout this discussion. In brief, they include
(1) a narrower spread between interest income and interest expense for core
products, (2) an increase in non-interest expense related to the three major
initiatives begun by the Company to regain its former rate of growth in net
income--entry into the Ventura County market, enhanced credit support and
administration, and additional sales and investment management staff for the
Trust and Investment Services Division, and (3) a much larger provision for
loan loss. The year to date comparison is impacted by the same factors plus
an increase in expenses incurred in the refund anticipation loan program.
Business
The Company is a bank holding company. While the Company has a few operations
of its own, these are not significant in comparison to those of its major
subsidiary, Santa Barbara Bank and Trust (the "Bank"). The Bank is a state-
chartered commercial bank which has just become a member of the Federal
Reserve Bank. It offers a full range of retail and commercial banking
services. These include commercial, real estate, and consumer loans, a wide
variety of deposit products, and full trust services. The Company's second
subsidiary is SBBT Service Corporation ("ServiceCorp"). ServiceCorp provides
correspondent banking services such as check processing to other financial
institutions on the Central Coast of California. All references to "the
Company" below apply to the Company and its subsidiaries.
Interest Rate Sensitivity
Most of the Company's earnings arise from its functioning as a financial
intermediary. As such, it takes in funds from depositors and then either
loans the funds to borrowers or invests the funds in securities and other
instruments. It earns interest on the loans and securities and it pays
interest on the deposits. Net interest income is the difference in dollars
between the interest income earned and the interest expense paid. The net
interest margin is the ratio of net interest income to earning assets. This
ratio is useful in allowing the Company to monitor the spread between
interest income and interest expense from month to month and year to year
irrespective of the growth of the Company's assets. If the Company is able to
maintain the same percentage spread between interest income and interest
expense as the Company grows, the amount of net interest income will
increase.
The Company must maintain its net interest margin to remain profitable, and
must be prepared to address the risks of adverse effects as interest rates
change. Average market interest rates increased during most of 1994 as the
Federal Reserve Board ("the Fed") raised short-term rates in an effort to
temper economic recovery. This had the impact of raising the average rates
earned and paid on short-term assets and liabilities. Short-term rates then
declined slightly through the second quarter of 1995 while long-term rates
declined more significantly. The decreases are not yet apparent in the
deposit rates reported in Table 2, but can be seen in the loan rates in Table
3 and in securities in Table 6. These impacts illustrate the risks associated
with changes in interest rates.
The primary risk is "market risk;" that is, the market value of financial
instruments such as loans, securities, and deposits that have rates of
interest fixed for some term will increase or decrease with changes in market
interest rates. If the Company invests funds in a fixed-rate long-term
security and interest rates subsequently rise, the security is worth less
than a comparable security just issued. This is because it pays less interest
than the newly issued security. If the security had to be sold, the Company
would have to recognize a loss. The opposite is true when interest rates
decline; that is, the market value of the older security would be higher than
that of a newly issued comparable security because the holder of the older
security would be earning interest at a higher rate than the current market.
The same principle applies to fixed rate certificates of deposit and other
liabilities. They represent a less costly obligation relative to the current
market when interest rates rise (because their rate would be less than the
new higher rate) and a more costly obligation when interest rates decline
(because their rate would be more than the new lower rate). However, most
fixed-rate interest-bearing liabilities have a shorter maturity than fixed-
rate interest-earning assets and so there is less fluctuation in market value
from changes in interest rates. Therefore, the exposure to loss from market
risk is primarily from rising interest rates.
This exposure to "market risk" is managed by limiting the amount of fixed
rate assets (loans or securities that earn interest at a rate fixed when the
funds are lent or the security purchased) and by keeping maturities short.
The Company underwrites the largest proportion of its loans with variable
interest rates. While virtually all of the Company's securities are fixed-
rate, it has generally maintained the taxable portion of its securities
portfolios heavily weighted towards securities with maturities of less than
three years. However, these methods of avoiding market risk must be balanced
against the consideration that shorter term securities generally earn less
interest income than longer term instruments. Therefore, the Company makes
some fixed rate loans and purchases some longer-term securities, because if
it were to make only variable loans and only purchase securities with very
short maturities, its net interest margin would decline significantly.
The Company is also exposed to "mismatch risk." This is the risk that
interest rate changes may not be equally reflected in the rates of interest
earned and paid because of differences in the contractual terms of the assets
and liabilities held. An obvious example of this kind of difference is if a
financial institution uses the proceeds from shorter-term deposits to
purchase longer-term assets or fund longer-term loans. If interest rates rise
significantly, the interest that must be paid on the deposits will exceed the
interest earned on the assets.
The Company controls mismatch risk by attempting to roughly match the maturi-
ties and repricing opportunities of assets and liabilities. For example, if
the interest rates start to decrease, the Company's variable loans will be
repriced at lower rates and the proceeds from securities that mature in the
near future will be reinvested at lower rates. If the Company is well
matched, it should be able to reprice an approximately equal amount of
deposits or other liabilities to lower interest rates within a short time.
Similarly, if interest rates paid on deposits increase, the Company should be
able to protect its interest rate margin through adjustments in the interest
rates earned on loans and securities. This matching is accomplished by
managing the terms and conditions of the products that are offered to
depositors and borrowers and by purchasing securities with the right maturity
or repricing characteristics to fill in mismatches.
One of the means by which the Company monitors the extent to which the
maturities or repricing opportunities of the major categories of assets and
liabilities are matched is an analysis such as that shown in Table 1. This
analysis is sometimes called a "gap" report, because it shows the gap between
assets and liabilities repricing or maturing in each of a number of periods.
The gap is stated in both dollars and as a percentage of total assets for
each period and on a cumulative basis for each period. As a percentage of
assets, the Company's target is to be no more than 10% plus or minus in
either of the first two periods.
Many of the categories of assets and liabilities on the balance sheet do not
have specific maturities. For the purposes of this table, the Company assigns
these pools of funds to a likely repricing period. However, the assumptions
underlying the assignment of the various classes of non-term assets and
liabilities are somewhat arbitrary in that the timing of the repricing is
often a function of competitive influences. For example, if other financial
institutions are increasing the rates offered depositors, the Company may
have no choice but to reprice sooner than it expected or assumed in order to
maintain market share.
The first period shown in the gap report covers assets and liabilities that
mature or reprice within the next three months. This is the most critical pe-
riod because there would be little time to correct a mismatch that is having
an adverse impact on income. For example, if the Company had a significant
negative gap for the period--with liabilities maturing or repricing within
the next three months significantly exceeding assets maturing or repricing in
that period -- and interest rates rose suddenly, the Company would have to
wait for more than three months before an equal amount of assets could be
repriced to offset the higher interest expense on the liabilities. From
quarter to quarter, the gap for the first period varies between positive and
negative. As of September 30, 1995, the gap for this first period is a
negative 10.70%, just beyond the target range. At the end of the second
quarter of 1995 and at the end the third quarter of 1994, the gaps were also
negative at 4.01% and 10.07% of assets, respectively. The change from last
quarter is due to the reinvestment of some maturing securities and an
increase in the transaction deposit accounts.
The impact of a negative gap in the first period is mitigated by the
similarly sized positive gap in the second period, "After three months but
within six." If there were a negative gap in the second period as well as the
first, then it would be even longer before sufficient assets could be
repriced to offset the negative impact of rising rates.
The larger negative gap for the third period, "After six months but within
one year" is caused by the large amounts of transaction deposit accounts that
the Company at present assumes will not be repriced sooner than six months.
If market interest rates change substantially, the rates paid on these
accounts may have to be repriced sooner than six months. There would be a
negative impact on earnings from an upward repricing of these deposits. This
impact would be partially offset by the fact that, in an environment of
rising interest rates, short-term assets tend to reprice more often and to a
greater degree than the short-term liabilities.
The periods of over one year are the least critical because more steps can be
taken to mitigate the adverse effects of any interest rate changes. In the
cumulative computation, the positive gaps in these periods offset the
negative gaps from the earlier periods.
<TABLE>
<CAPION>
Table 1-INTEREST RATE SENSITIVITY
After three After six After one Non-interest
As of September 30, 1995 Within months months year but bearing or
(in thousands) three but within but within within After five non-repricing
months six one year five years items Total
<S> <C> <C> <C> <C> <C> <C> <C>
Assets:
Loans $ 287,492 $100,419 $ 44,862 $ 60,095 $ 29,560 $ 9,774 $ 532,202
Cash and due from banks 0 0 0 0 0 48,184 48,184
Federal Funds 70,000 0 0 0 0 0 70,000
Securities:
Held-to-maturity 1,645 14,771 24,911 232,150 52,869 0 326,346
Available-for-sale 3,991 29,934 35,030 5,144 0 488 74,587
Bankers' acceptances 9,938 38,687 0 0 0 0 48,625
Other assets 0 0 0 0 0 18,174 18,174
Total assets 373,066 183,811 104,803 297,389 82,429 76,620 1,118,118
Liabilities and shareholders'
equity:
Borrowed funds:
Repurchase agreements and
Federal funds purchased 34,482 0 0 0 0 0 34,482
Other borrowings 1,210 0 0 0 0 0 1,210
Interest-bearing deposits:
Savings and interest-bearing
transaction accounts 387,006 0 234,447 0 0 0 621,453
Time deposits 70,050 40,877 46,507 62,924 430 0 220,788
Demand deposits 0 0 0 0 0 135,886 135,886
Other liabilities 0 0 0 0 0 5,901 5,901
Shareholders' equity 0 0 0 0 0 98,398 98,398
Total liabilities and
shareholders' equity 492,748 40,877 280,954 62,924 430 240,185 $1,118,118
Interest rate-
sensitivity gap $ (119,682) $142,934 $ (176,151) $234,465 $ 81,999 $(163,565)
Gap as a percentage of
total assets (10.70%) 12.78% (15.75%) 20.97% 7.33% (14.63%)
Cumulative interest
rate-sensitivity gap $ (119,682) $ 23,252 $ (152,899) $ 81,566 $ 163,565
Cumulative gap as a
percentage of total assets (10.70%) 2.08% (13.67%) 7.29% 14.63%
</TABLE>
Note: Net deferred loan fees, overdrafts, and the allowance for loan losses
are included in the above
table as non-interest bearing or non-repricing items.
Total Assets and Earning Assets
Because significant deposits are sometimes received at the end of a quarter
and are quickly withdrawn, especially at year-end, the overall trend in the
Company's growth is better shown by the use of average balances for the
quarters. The chart below shows the growth in average total assets and
deposits since the fourth quarter of 1992. For the Company, changes in assets
are primarily related to changes in deposit levels, so these have been
included in the chart. Dollar amounts are in millions.
(In the printed copy of this filing there appears here a chart showing a
gradual rise in deposits and earning assets with variation as described in
the text)
Earning assets consist of the various assets on which the Company earns
interest income. The Company was earning interest on 94.4% of its assets
during the first three quarters of 1995. This compares with an average of
85.1% for all FDIC-Insured Commercial Banks and 89.3% for the Company's
Southern California peers for the first half of 1995 [Footnote 1]. Having
more of its assets earning interest helps the Company to maintain its high
level of profitability. The Company has achieved this higher percentage by
several means: (1) loans are structured to have interest payable in most
cases each month so that large amounts of accrued interest receivable (which
are non-earning assets) are not built up; (2) the Company avoids tying up
funds that could be earning interest by leasing most of its facilities under
long-term contracts rather than owning them; (3) the Company has aggressively
disposed of real estate obtained as the result of foreclosure; and (4) the
Company has developed systems for clearing checks faster than those used by
most banks of comparable size that allow it to put the cash to use more
quickly. At the Company's current size, these steps have resulted in about
$98.3 million more assets earning interest during the first three quarters of
the year than would be the case if the Company's ratio were similar to its
FDIC peers. The additional earnings from these assets are somewhat offset by
higher lease expense, additional equipment costs, and occasional losses taken
on quick sales of foreclosed property, but on balance Management believes
that these steps give the Company an earnings advantage.
Deposits and Related Interest Expense
While occasionally there are slight decreases in average deposits from one
quarter to the next, the overall trend is one of growth. This orderly growth
has been planned by Management and can be sustained because of the strong
capital position and earnings record of the Company. The overall deposit base
for financial institutions in the Company's Santa Barbara market area has
declined from $4.5 billion in 1989 to $3.2 billion in 1994. During this time
the Company has increased its market share from 14.1% in 1989 to 29.4% in
1994. The increases have come by maintaining competitive deposit rates,
through the introduction of new deposit products, and by successfully
encouraging former customers of failed or merged financial institutions to
become customers of the Company.
Table 2 presents the average balances for the major deposit categories and
the yields of interest-bearing deposit accounts for the last seven quarters
(dollars in millions). As shown both in the preceding chart and in Table 2,
average deposits for the third quarter of 1995 have increased 5.3% from aver-
age deposits a year ago. Most of this growth (3.9%) in average deposits has
come from the Ventura County offices. It would be unexpected for the Santa
Barbara offices to experience significant growth when they have already
captured almost 30% of the market.
<TABLE>
<CAPTION>
Table 2-AVERAGE DEPOSITS AND RATES
1994 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
<S> <C> <C> <C> <C> <C> <C> <C> <C>
NOW/MMDA $371.2 2.09% $407.0 2.50% $446.5 2.93% $481.0 3.25%
Savings 149.4 2.25 142.9 2.25 130.4 2.24 118.7 2.23
Time deposits 100+ 72.3 3.35 63.2 3.57 61.0 3.88 58.4 4.13
Other time deposits 155.1 4.35 153.7 4.47 151.0 4.63 145.1 4.90
Total interest-bearing
deposits 748.0 2.72% 766.8 2.95% 788.9 3.21% 803.2 3.46%
Non-interest-bearing 117.5 118.6 119.1 123.0
Total deposits $865.5 $885.4 $908.0 $926.2
<CAPTION>
1995 1st Quarter 2nd Quarter 3rd Quarter
<S> <C> <C> <C> <C> <C> <C>
NOW/MMDA $480.1 3.58% $470.5 3.67% $512.7 3.67%
Savings 108.6 2.39 100.7 2.38 95.0 2.36
Time deposits 100+ 53.8 4.58 56.7 5.10 59.3 5.26
Other time deposits 144.9 5.24 151.6 5.50 158.2 5.65
Total interest-bearing
deposits 787.4 3.79% 779.5 3.96% 825.2 4.02%
Non-interest-bearing 135.5 126.3 130.6
Total deposits $922.9 $905.8 $955.8
</TABLE>
The average rates that are paid on deposits generally trail behind money
market rates because financial institutions do not try to raise deposit rates
with each small increase or decrease in short-term rates. This trailing
characteristic is stronger with time deposits than with deposit types that
have administered rates. Administered rate deposit accounts are those
products which the institution can reprice at its option based on competitive
pressure and need for funds. This contrasts with deposits for which the
rates are set by contract for a term or are tied to an external index.
Certificates of deposit are time or term deposits. With these accounts, even
when new offering rates are established, the average rates paid during the
quarter are a blend of the rates paid on individual accounts. Only new
accounts and those which mature and therefore reprice during the quarter will
bear the new rate.
During 1994, as market interest rates were rising, most banks, including the
Company, raised interest rates paid on their administered rate transaction
accounts only minimally, but by late 1994, competitive pressures required
increases in the rates paid on all deposit types. It is therefore consistent
with expectations that average rate on the time deposits would increase to a
lesser degree during late 1994 and the first half of 1995 than the NOW/MMDA
transaction accounts. As interest rates stabilized and then decreased in
1995, the interest paid on administered rate accounts was immediately
impacted, while the average rate on time deposit accounts continued to
increase as deposits were opened or rolled over at higher rates than had been
in effect a year earlier.
The growth trends of the individual types of deposits are primarily impacted
by the relative rates of interest offered by the Company and the customers'
perceptions of the direction of future interest rate changes. Compared with
the third quarter of 1994, the primary growth in deposits during the last
four quarters came in the interest-bearing transaction accounts ("NOW/MMDA").
Included within this category is the Company's "Personal Money Master
Account." In 1990, when first introduced, the account had its rate tied to
the 3-month Treasury bill. Popular because of the then high interest rates,
the account again garnered a large influx of deposits in 1994 as the rate on
the 3-month bills soared. The monthly average balance of these accounts had
increased $110.4 million or 152% from December 1993 to October 1994. In
November 1994 the Company changed the account to an administered rate account
and lowered the rate. The rate paid on the account still remains attractive
and the average balance has increased to $223 million.
Approximately $11.1 million of the average balance for demand deposits in the
first quarter of 1994 and $15.6 in the first quarter of 1995 relates to
outstanding checks from the tax refund anticipation loan program. There is
relatively little effect from these checks in other quarters. New deposits in
the Ventura offices accounts for $7.7 million of the $11.5 million increase
in demand deposits from the third quarter of 1994 to the third quarter of
1995.
Generally, the Company offers higher rates on certificates of deposit in
amounts over $100,000 than for lesser amounts. It would be expected,
therefore, that the average rate paid on these large time deposits would be
higher than the average rate paid on time deposits with smaller balances. As
may be noted in Table 2, however, this is not the case. There are three
primary reasons for this.
First, as indicated in the next section of this discussion, loan demand has
been low during the recession in the California economy. With less need for
funds to lend, the Company has been reluctant to encourage large deposits
that are not the result of stable customer relationships, because the spread
between the cost of these funds and the earnings on their uses are small.
Therefore the premium offered on these large deposits has been small. Second,
the time deposits of $100,000 and over generally have shorter maturities than
the smaller certificates. Therefore, they reprice more frequently. In a
declining interest rate environment, that means that their average rate paid
will decline faster, and in a rising rate environment they will rise faster.
While the average rate paid on the smaller time deposits has remained greater
than on the larger deposits over the last four quarters, the difference
contracted from 100 basis points to 40 basis points in the second quarter of
1995, reflecting a general trend of increasing rates during 1994. The
difference remained the same in the third quarter of 1995 as the second
quarter as rates began to stabilize. Third, there has been an increase in the
proportion of IRA accounts among the under $100,000 time deposits. The
Company pays a higher rate on these accounts. These factors have served to
maintain a higher average rate paid on the smaller time deposits relative to
the average rate paid on larger deposits.
The Company does not solicit and does not intend in the future to solicit any
brokered deposits or out-of-territory deposits. Because these types of
accounts are highly volatile, they present major problems in liquidity
management unless the depository institution is prepared to continue to offer
very high interest rates to keep the deposits. Therefore, the Company has
taken specific steps to discourage even unsolicited out-of-territory deposits
in the $100,000 range and above.
Loans and Related Interest Income
Table 3 shows the changes in the end-of-period (EOP) and average loan
portfolio balances and taxable equivalent income and yields [Footnote 2] over
the last eight quarters (dollars in millions).
<TABLE>
<CAPTION>
Table 3-LOAN BALANCES AND YIELDS
EOP Average Interest Average
Quarter Ended Outstanding Outstanding and Fees Yield
<S> <C> <C> <C> <C>
December 1993 $ 464.2 $ 457.7 $ 10.4 9.00%
March 1994 $ 469.5 $ 488.6 $ 14.2 11.73%
June 1994 $ 464.9 $ 465.6 $ 10.8 9.24%
September 1994 $ 480.2 $ 474.1 $ 10.9 9.15%
December 1994 $ 499.4 $ 486.3 $ 11.3 9.25%
March 1995 $ 534.9 $ 525.5 $ 15.1 11.58%
June 1995 $ 541.0 $ 537.8 $ 12.5 9.31%
September 1995 $ 532.2 $ 536.0 $ 12.6 9.40%
</TABLE>
Change in Average Loan Balances
The Company has increased its residential real estate loans by $38 million or
40% in the last year. Most of this increase is in adjustable rate mortgages
("ARMS") that have initial "teaser" rates. As the teaser rate periods expire
and with current rates higher than when most of these loans were made, the
yield should increase. Applicants for these loans are qualified based on the
fully-indexed rate. The Company sells almost all of its long-term, fixed
rate, 1-4 family residential loans when they are originated. This is done in
order to manage market and interest rate risks and liquidity.
The first quarters of both 1994 and 1995 show the impact of the tax refund
anticipation loans ("RAL's") that the Company makes. The RAL's are extended
to taxpayers who have filed their returns with the IRS electronically and do
not want to wait for the IRS to send them their refund check. The Company
earns a fixed fee per loan for advancing the funds. Because of the April 15
tax filing date, almost all of the loans are made in the first quarter of the
year.
Through April of 1994, the Company had lent $230 million to 150,000
taxpayers. The outstanding loans averaged $29.5 million for the first quarter
of 1994 and there were $13.9 million outstanding at March 31, 1994.
Eliminating these loans from the above table would show average loans of
other types for the first quarter of 1994 of $459.1 million, just slightly
higher than for the fourth quarter of 1993 when no RAL's were outstanding.
Only $5.4 million of the average balance for the second quarter of 1994 in
the table above relates to RAL's.
The Company had intended to significantly expand the program for the 1995 tax
season, but several changes in IRS procedures prevented this. In prior years
the IRS provided confirmation before the Company advanced funds that the
taxpayer identification was valid, that there were no liens by the IRS
against the refund, and that the refund would be sent to the Company instead
of the taxpayer. This confirmation was discontinued for the 1995 tax season.
The IRS also placed a moratorium on payment of that portion of refunds which
was related to the Earned Income Credit ("EIC"). Many of the taxpayers filing
electronically are low income families who do so to receive the EIC. Without
confirmation, and with significant uncertainty regarding whether the IRS
would reimburse the Company for loans related to EIC, the Company restricted
loans only to those taxpayers who met certain credit standards, and
restricted the amount that it would lend only to the non-EIC related portion
of any refund claim.
Through April of 1995, the Company had lent just over $75.5 million to about
75,600 taxpayers. Eliminating the average balance of these loans ($11.6
million) from the above table would show average loans of other types for the
first quarter of 1995 of $513.9, continuing a steady increase in the average
balance since the second quarter of 1994.
Interest and Fees Earned and the Effect of Changing Interest Rates
Interest rates on most consumer loans are fixed at the time funds are
advanced. The average yields on these loans significantly lag market rates as
rates rise because the Company only has the opportunity to increase yields as
new loans are made. In a declining interest rate environment, these loans
tend to track market rates more closely because they may be prepaid if the
current market rate for any specific type of loan declines sufficiently below
the contractual rate on the original loan to warrant the customer
refinancing.
The rates on most commercial and construction loans vary with an external
index like the national prime rate or the Cost of Funds Index ("COFI") for
the 11th District of the Federal Home Loan Bank, or are set by reference to
the Company's base lending rate. This rate is established by the Company by
reference to the national prime adjusting for local lending and deposit price
conditions. The loans that are tied to prime or to the Company's base lending
rate adjust immediately to a change in those rates while the loans tied to
COFI usually adjust every six months or less. Therefore, variable rate loans
tend to follow market rates more closely.
The yields shown in Table 3 for the first quarters of 1994 and 1995 are
significantly affected by the fees earned in the RAL program which are
reported as interest income. Average yields for the two quarters without the
effect of RAL's were 8.67% and 9.27%, respectively.
The fee charged on each RAL was increased in 1995 to cover the greater credit
risk and the additional expenses associated with credit checks on taxpayers
which had not been necessary in previous years. However, the lower level of
activity resulted in $3.3 million in fees from RAL's for 1995 compared to
$4.7 million in fees in 1994. As described in the section below titled "Other
Operating Income," $1.6 million in other fees related to the RAL program were
earned during 1995.
Other Loan Information
In addition to the outstanding loans reported in the accompanying financial
statements, the Company has made certain commitments with respect to the
extension of credit to customers.
(in millions) September 30, September 30,
1995 1994
Credit lines with unused balances $122.4 $120.6
Undisbursed loans $16.6 $10.5
Other loan or letter of credit commitments $66.8 $34.3
The increase in commitments is attributed to some improvement in local
economic activity and to the Company's entry into the Ventura County market
area. The majority of the commitments are for one year or less. The majority
of the credit lines and commitments may be withdrawn by the Company subject
to applicable legal requirements. With the exception of the undisbursed
loans, the Company does not anticipate that a majority of the above
commitments will be used by customers.
The Company has established maximum loan amount to collateral value ratios
for construction and development loans ranging from 65% to 90% depending on
the type of project. There are no specific loan to value ratios for other
commercial, industrial, agricultural loans not secured by real estate. The
adequacy of the collateral is established based on the individual borrower
and purpose of the loan. Consumer loans may have maximum loan to collateral
ratios based on the loan amount, the nature of the collateral, and other
factors.
The Company defers and amortizes loan fees collected and origination costs
incurred over the lives of the related loans. For each category of loans, the
net amount of the unamortized fees and costs are reported as a reduction or
addition to the balance reported. Because the fees are generally less than
the costs for commercial and consumer loans, the total net deferred or
unamortized amounts for these categories are additions to the loan balances.
Allowance for Loan Losses and Credit Quality
The allowance for loan losses (sometimes called a "reserve") is provided in
recognition that not all loans will be fully paid according to their
contractual terms. The Company is required by regulation, generally accepted
accounting principles, and safe and sound banking practices to maintain an
allowance that is adequate to absorb losses that are inherent in the loan
portfolio, including those not yet identified. The adequacy of this general
allowance is based on the size of the loan portfolio, historical trends of
charge-offs, and Management's estimates of future charge-offs. These
estimates are in turn based on the grading of individual loans and
Management's outlook for the local and national economies and how they might
affect borrowers. In addition, Statements of Accounting Standards No. 114,
Accounting by Creditors for Impairment of a Loan and No. 118, Accounting by
Creditors for Impairment of a Loan--Income Recognition and Disclosures
require the establishment of a valuation allowance for impaired loans as
described in Note 5 to the financial statements.
A trend of increasing non-performing loans began in late 1994. The Company
focused more efforts on monitoring these loans, but with continued slow
economic recovery in California, the number of delinquent loans continued to
increase. At the end of 1994, two specific steps were taken to reverse the
trend of increase in non-current loans. First, Management strengthened the
credit review, analysis, and administrative functions by hiring additional
professional staff. Second, Management established a Special Assets Committee
to give increased attention to the larger problem loans. The new staff and
the committee have aggressively pursued collection plans with customers that
have resources to repay at least some portion of their loans and have
acknowledged uncollectibility and charged-off other loans. These efforts are
still continuing. In addition to the remaining $0.8 million in RAL's that
were charged-off in the quarter, $2.6 million in other loans were charged-off
in the third quarter of 1995. The collections and charge-offs have reduced
the ratio of non-current loans to total loans.
The Company continues its exhaustive review of the credit quality in the
various loan portfolios. It increased the provision for loan loss (bad debt
expense) to $3.9 million for the quarter compared to $750,000 for the third
quarter of 1994. The year-to-date total for 1995 is $8.8 million compared to
$5.8 million for the first nine months of 1994. The substantial provision in
the third quarter of 1995 less net charge-offs of $3.5 million increased the
allowance for loan loss by $421,000 from the end of the previous quarter.
Table 4 shows the amounts of non-current loans and non-performing assets for
the Company at the end of the third quarter of 1995, at the end of the prior
two quarters and at the end of the same quarter a year ago (in thousands).
Also shown is the coverage ratio of the allowance to non-current loans, the
ratio of non-current loans to total loans, and the percentage of non-
performing assets to average total assets. Also included in the table in
boldface is comparable data [Footnote 3] regarding the Company's Southern
California peers for the three earlier quarters.
One large relationship consisting of a number of individual loans was
recognized as impaired and placed on non-accrual status during the first
quarter of 1995. This relationship accounts for $4.0 million of the $9.1
million in non-accrual loans as of June 30, 1995. The Company has charged-off
all or portions of the loans that it deems uncollectible.
<TABLE>
<CAPTION>
Table 4-ASSET QUALITY
September 30, June 30, March 31, September 30,
1995 1995 1995 1994
Company Company Company Company
<S> <C> <C> <C> <C>
Loans delinquent
90 days or more $ 535 $ 5,112 $ 1,671 $ 1,379
Non-accrual loans 10,588 9,146 10,650 3,328
Total non-current loans 11,123 14,258 12,321 4,707
Foreclosed real estate 1,021 1,113 681 1,397
Total non-performing assets $ 12,144 $ 15,371 $ 13,002 $ 6,104
<CAPTION>
June 30, March 31, Sept. 30,
1995 1995 1994
Sept. 30, June 30, So. Cal March 31, So. Cal March 31, So. Cal
1995 1995 Peer 1995 Peer 1995 Peer
Company Company Group Company Group Company Group
<S> <C> <C> <C> <C> <C> <C> <C>
Coverage ratio
of allowance
for loan losses
to non-current
loans and leases 104% 78% 102% 133% 95% 267% 99%
Ratio of non-current
loans
to total loans
and leases 2.09% 2.64% 3.29% 2.30% 3.76% 0.98% 3.59%
Ratio of
non-performing
assets to average
total assets 1.11% 1.44% 3.04% 1.25% 3.28% 0.59% 2.97%
</TABLE>
The September 30, 1995 balance of non-current loans does not equate directly
with future charge-offs, because most of these loans are secured by
collateral. Nonetheless, Management believes it is probable that some portion
will have to be charged off and that other loans will become delinquent.
Based on its review of the loan portfolio, Management considers the current
amount of the allowance adequate. As the on-going cycle of periodic reviews
continues and additional information becomes available, Management will
provide for additional allowance to address new possible losses identified.
However, Management does not anticipate the need to provide additional
allowance in an amount comparable to the provision in the third quarter of
1995.
Table 5 classifies non-performing loans and all potential problem loans
including non-performing loans by loan category for September 30, 1995
(amounts in thousands).
Table 5--NON-PERFORMING AND POTENTIAL PROBLEM LOANS
All Potential
Non-performing Problem Loans
Loans (including non-performing)
Loans secured by real estate:
Construction and
land development $ -- $ --
Agricultural -- 136
Home equity lines 588 588
1-4 family mortgage 4,622 6,608
Multi-family 704 1,794
Non-residential, non-farm 2,430 13,654
Commercial and industrial 2,703 5,043
Checking overdraft lines -- 5
Other consumer loans 9 91
Other 67 67
Total $11,123 $27,986
The following table sets forth the allocation of the allowance for all
potential problem loans by classification as of September 30, 1995 (amounts
in thousands)
Doubtful $2,820
Substandard $3,139
Special Mention $1,000
The total of the above numbers is less than the total allowance because some
of the allowance is allocated to loans which are not regarded as potential
problem loans, and some is not allocated but instead is provided to potential
losses in any classification that have not yet been identified.
Securities and Related Interest Income
Generally accepted accounting principles require that securities be
classified in one of three categories when they are purchased. The first
category is that of "held-to-maturity." The Company must have both the intent
and the ability to hold a security until its maturity date for it to be
classified as such. Securities classified as held-to-maturity are carried on
the balance sheet at their amortized historical cost. That is, they are
carried at their purchase price adjusted for the amortization of premium or
accretion of discount. If debt securities are purchased for later sale, the
securities are classified as "trading assets." Assets held in a trading
account are required to be carried on the balance sheet at their current
market value. Changes in the market value of the securities are recognized in
the income statement for each period in which they occur as unrealized gain
or loss. Securities that do not meet the criteria for either of these
categories, e. g. securities which might be sold to meet liquidity
requirements or to effect a better asset/liability maturity matching, are
classified as "available-for-sale." They are carried on the balance sheet at
market value like trading securities. However, unlike trading securities,
changes in their market value are not recognized in the income statement for
the period. Instead, the unrealized gain or loss (net of tax effect) is
reported as a separate component of equity. Changes in the market value are
reported as changes to this component.
The Company has created two separate portfolios of securities. The first
portfolio, for securities that will be held to maturity, is the "Earnings
Portfolio." This portfolio includes all of the tax-exempt municipal
securities and most of the longer term taxable securities. The second
portfolio, the "Liquidity Portfolio," consists of the securities that are
available for sale and is made up almost entirely of the shorter term taxable
securities. The Company specifies the portfolio into which each security will
be classified at the time of purchase. The Company has no securities which
would be classified as trading securities.
Securities purchased for the earnings portfolio will not be sold for
liquidity purposes or because their fair value has increased or decreased
because of interest rate changes. They could be sold if concerns arise about
the ability of the issuer to repay them or if tax laws change in such a way
that any tax-exempt characteristics are reduced or eliminated.
The classification of securities is required by Statement of Financial
Accounting Standards No. 115, Accounting for Certain Investments in Debt and
Equity Securities ("SFAS 115"). The issuer of SFAS 115, the Financial
Accounting Standards Board, has announced that it will permit holders of
securities covered by the statement a one-time opportunity to move securities
from the "held-to-maturity" classification to "available-for-sale" without
calling into question the holders intent to hold the remaining securities
until maturity. Management is reviewing the securities classified as held-to-
maturity to decide if it would be advantageous to reclassify any.
Reclassifications must be completed before the end of the year and will be
reported in the Company's annual report.
In general, the Company uses available funds to purchase for the two
portfolios according to the following priorities. Taxable securities, usually
U. S. Government obligations with maturities of two years to three years, are
purchased for the liquidity portfolio. The size of the liquidity portfolio
will vary based on loan demand, deposit growth, and the scheduled maturities
of other securities. To the extent that estimated liquidity needs are met,
tax-exempt municipals that meet credit quality standards will be purchased
for the earnings portfolio up to an amount that does not trigger the
Alternative Minimum Tax described below in "Income Taxes." Lastly, taxable
securities, generally U. S. Government obligations with maturities of two to
five years, may be purchased for the earnings portfolio.
The Effects of Interest Rates on the Composition of the Investment Portfolio
Table 6 presents the combined securities portfolios, showing the average
outstanding balances (dollars in millions) and the yields for the last six
quarters. The yield on tax-exempt state and municipal securities has been
computed on a taxable equivalent basis. Computation using this basis
increases income for these securities in the table over the amount accrued
and reported in the accompanying financial statements. The tax-exempt income
is increased to that amount which, were it fully taxable, would yield the
same income after tax as the amount that is reported in the financial
statements. The computation assumes a combined Federal and State tax rate of
approximately 41%.
<TABLE>
<CAPTION>
Table 6-AVERAGE BALANCES OF SECURITIES AND INTEREST YIELD
1994 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
<S> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. Treasury $305.4 5.28% $355.6 5.30% $309.4 5.38% $259.5 5.55%
U.S. Agency 20.8 4.61 45.9 4.55 55.8 4.71 55.7 4.78
Tax-Exempt 78.0 13.49 79.9 13.44 86.8 13.14 90.0 13.49
Total $404.2 6.83% $481.4 6.58% $452.0 6.79% $405.2 7.21%
<CAPTION>
1995 1st Quarter 2nd Quarter 3rd Quarter
<S> <C> <C> <C> <C> <C> <C>
U.S. Treasury $236.7 5.63% $226.8 5.60% $224.5 5.57%
U.S. Agency 55.6 4.86 54.8 5.25 77.0 5.51
Tax-Exempt 87.6 12.99 84.0 12.69 84.8 12.52
Total $379.9 7.22% $365.6 7.18% $386.3 7.08%
</TABLE>
The Company's practice has been to shorten the average maturity of its
investments while interest rates are rising, and to lengthen the average
maturity as rates are declining. When interest rates are rising, short
maturity investments are preferred. This is because principal is better
protected and average interest yields more closely follow market rates since
the Company is buying new securities more frequently to replace maturing
securities. When rates are declining, longer maturities are preferable
because their purchase tends to "lock-in" higher rates. When there is no
sustained movement up or down, the funds from maturing securities are usually
sold as Federal funds until a clear direction is established. Generally,
"longer maturities" has meant purchases of securities with maturities of
three or five years.
Because securities generally have a fixed rate of interest to maturity, the
average interest rate earned in the portfolio lags market rates in the same
way as rates paid on term deposits. The impact of last year's increases in
market rates is seen as a very gradual increase in the average rates of
taxable securities.
Investments in most tax-exempt securities became less advantageous after 1986
because of the effect of certain provisions of the Tax Reform Act of 1986
("TRA"). Those provisions did not affect securities purchased before the
passage of the act which make up the majority of the Company's tax-exempt
securities. There is still more than a sufficient differential between the
taxable equivalent yields on these securities and yields on taxable
securities to justify holding them to maturity. The average maturity is
approximately eight years. The yield on these securities is gradually
declining as older, higher-earning securities mature or are called by the
issuers.
Certain issues of municipal securities may still be purchased with the tax
advantages available before TRA. Such securities, because they can only be
issued in very limited amounts, are generally issued only by small
municipalities and require a careful credit evaluation of the issuer. In
reviewing securities for possible purchase, Management must also ascertain
that the securities have desirable maturity characteristics, and that the
amount of tax-exempt income they generate will not be enough to trigger the
Alternative Minimum Tax; otherwise the tax advantage will be lost. Apart from
a few small issues that have met the Company's criteria for purchase, the
increase in the average balance of tax exempt securities is due to the
accretion of discount (the periodic recognition as interest income of the
difference between the purchase cost and the par value that will be received
from the issuer upon maturity).
Included with the balances shown for U.S. Agency securities that are being
held to maturity are four structured notes with a combined book value of
$34.4 million. They are a type of security known as step bonds. They were
issued at an initial rate and had one or more call dates. If not called, the
interest rate steps up to a higher level. None of the notes purchased has
been called and two have reached their final steps at 4.50% and 6.61%. The
other two notes have some remaining steps with call dates every 6 months. The
first has a current rate of 5.15% with future rates of 6.15% and 7.15%. The
second has a current rate of 4.50% with future rates of 5.00%, 6.00%, and
7.00%. Only the interest rate on these notes is contingent, all principal is
paid at maturity unless at a sooner call date. There is no circumstance under
which the interest rates will decline. The current interest rate for notes of
comparable maturity with no call or steps is slightly above the current rates
so there are small unrealized losses for these notes.
Unrealized Gains and Losses
As explained in "Interest Rate Sensitivity" above, fixed rate securities are
subject to market risk from changes in interest rates. Footnote 4 to the
financial statements shows the impact of the decline in longer-term interest
rates that has occurred during 1995. While there were no maturities or
purchases of U.S. Treasury securities in the earnings or held-to-maturity
portfolio during 1995, the market value increased by $10.7 million while the
book value increased only $327,000 from the accretion of discount. The market
value of the municipal securities (of which there were several purchases and
calls) also increased in market value from 109% of book value to 115%.
Federal Funds Sold
Cash in excess of the amount needed to fund loans, invest in securities, or
cover deposit withdrawals, is sold to other institutions as Federal funds.
The sales are only overnight. Excess cash expected to be available for longer
periods is generally invested in U. S. Treasury securities or bankers' accep-
tances if the available returns are acceptable. The amount of Federal funds
sold during the quarter is therefore an indication of Management's estimation
during the quarter of immediate cash needs and relative yields of alternative
investment vehicles.
Table 7 illustrates the average funds sold position of the Company and the
average yields over the last eight quarters (dollars in millions).
Table 7--AVERAGE BALANCE OF FUNDS SOLD AND YIELDS
Average Average
Quarter Ended Outstanding Yield
December 1993 $21.8 2.97%
March 1994 4.9 3.20
June 1994 8.7 3.95
September 1994 22.1 4.47
December 1994 30.8 5.13
March 1995 23.8 5.69
June 1995 38.5 6.01
September 1995 69.8 5.82
When interest rates are rising, the Company can benefit by keeping larger
amounts in Federal funds because these excess funds then earn interest that
is repriced daily. When rates are declining, the Company generally decreases
the amount of funds sold and instead purchases Treasury securities and/or
bankers' acceptances. When rates are stable, the balance of Federal funds is
determined more by available liquidity than by policy concerns. In recent
years, excess funds that might otherwise have been sold as Federal funds were
instead invested in short-term U. S. Treasury securities and bankers'
acceptances that would mature in the first quarter of the year to provide
funding for the RAL program. In the first quarter of 1994, virtually all
available funds were used to support the program, leaving few funds for sale,
even though rates were rising.
The average balances sold into the market have been greater in 1995 than in
the comparable quarters of 1994 for several reasons. The first is that the
smaller RAL program required less funds, so the Company had greater
liquidity. Secondly, other loan demand, a potential use of the funds, has not
kept up with the growth in deposits and maturing securities. Thirdly, the
current partially inverted yield curve has meant that the yield on Federal
funds could be matched with Treasury securities only if notes with at least 3
or 4 years to maturity were purchased. At present, Management is
uncomfortable assuming the interest rate risk inherent in that maturity
range.
Bankers' Acceptances
The Company has used bankers' acceptances as an alternative to 6-month U. S.
Treasury securities when pledging requirements are otherwise met and
sufficient spreads to U. S. Treasury obligations exist. The acceptances of
only the highest quality institutions are utilized. Table 8 discloses the
average balances and yields of bankers' acceptances for the last eight
quarters (dollars in millions).
Table 8--AVERAGE BALANCE OF BANKERS' ACCEPTANCES AND YIELDS
Average Average
Quarter Ended Outstanding Yield
December 1993 $ 60.8 3.32%
March 1994 33.7 3.31%
June 1994 1.4 3.35
September 1994 25.3 5.32
December 1994 64.4 5.38
March 1995 55.7 5.97
June 1995 41.6 6.44
September 1995 35.9 6.11
With their relatively short maturities, bankers' acceptances are an effective
instrument for managing the timing of cash flows. After the 1993 tax season,
Management recognized that it would have to begin taking steps to ensure that
sufficient cash flows would be available during the first quarter of the
following year to fund the RAL program. With rates on acceptances comparing
favorably to shorter-term U. S. Treasury securities, significant purchases of
bankers' acceptances were made beginning late in the third quarter of 1993.
When they matured, the proceeds were used as planned to fund the RAL program.
Expecting a further expansion of the program in 1995, Management again
purchased bankers' acceptances in the third and fourth quarters of 1994 to
mature in early 1995. With the reduction in the amount of loans in the RAL
program in 1995, some of the maturing acceptances were not needed for the
intended purpose and were reinvested in additional bankers' acceptances if
available. This accounts for the higher average balances in the second and
third quarters of 1995 than in the comparable quarters of 1994
Other Borrowings and Related Interest Expense
Other borrowings consist of securities sold under agreements to repurchase,
Federal funds purchased (usually only from other local banks as an
accommodation to them), Treasury Tax and Loan demand notes, and borrowings
from the Federal Reserve Bank ("FRB"). Because the average total short-term
component represents a very small portion of the Company's source of funds
(less than 5%) and shows little variation in total, all of the short-term
items have been combined for the following table. Interest rates on these
short-term borrowings change over time, generally in the same direction as
interest rates on deposits.
Table 9 indicates the average balances that are outstanding (dollars in
millions) and the rates and the proportion of total assets funded by the
short-term component over the last eight quarters.
Table 9--OTHER BORROWINGS
Average Average Percentage of
Quarter Ended Outstanding Rate Average Total Assets
December 1993 $ 29.1 2.88% 2.9%
March 1994 28.8 2.97 2.9
June 1994 30.5 3.50 3.0
September 1994 26.3 4.05 2.5
December 1994 18.3 4.63 1.8
March 1995 16.3 5.47 1.6
June 1995 28.1 5.69 2.7
September 1995 29.5 5.42 2.7
Other Operating Income
Trust fees are the largest component of other operating income. Management
fees on trust accounts are generally based on the market value of assets
under administration. Table 10 shows trust income over the last eight
quarters (in thousands).
Table 10--TRUST INCOME
Quarter Ended Trust Income
December 1993 $1,706
March 1994 1,781
June 1994 1,510
September 1994 1,548
December 1994 1,611
March 1995 1,765
June 1995 1,590
September 1995 1,686
Trust customers are charged for the preparation of the fiduciary tax returns.
The preparation generally occurs in the first and/or second quarter of the
year. This accounts for approximately $236,000 and $22,000 of the fees earned
in the first and second quarters of 1995 and $179,000 and $81,000 of the fees
earned in the first and second quarters of 1994, respectively. Other
variation is caused by the recognition of probate fees when the work is
completed rather than accrued as the work is done, because it is only upon
the completion of probate that the fee is established by the court. After
adjustment for these seasonal and non-recurring items and short-term
fluctuations of price levels in the stock and bond markets, trust income has
remained relatively stable during the quarters shown.
Other categories of non-interest income include various service charges,
fees, and miscellaneous income. Included within "Other Service Charges,
Commissions & Fees" in the following table are service fees arising from
credit card processing for merchants, escrow fees, and a number of other fees
charged for special services provided to customers. Categories of non-
interest operating income other than trust fees are shown in Table 11 for the
last eight quarters (in thousands).
Table 11--OTHER INCOME Other Service
Service Charges Charges,
on Deposit Commissions Other
Quarter Ended Accounts & Fees Income
December 1993 $ 713 $ 1,012 $ 334
March 1994 724 791 145
June 1994 746 1,249 149
September 1994 752 1,023 121
December 1994 961 1,013 152
March 1995 1,044 2,468 78
June 1995 1,072 1,143 113
September 1995 1,056 1,130 169
The Company revised its schedule for most fees in the fourth quarter of 1994.
The effect of the increase is seen in the increase in the amount of service
charges on deposit accounts in that quarter and the first three quarters of
1995.
The large increase in other service charges, commissions and fees for the
first quarter of 1995 is due to $1.5 million of fees received for the
electronic transfer of tax refunds. As explained in the section above titled
"Loans and Related Interest Income," the Company did not advance funds under
the RAL program to as large a number of potential borrowers as it had
expected because of the changes in the IRS procedures. Nonetheless, the
Company was able to assist these taxpayers by transferring funds to them
faster than the standard IRS check writing process. The Company received the
refund from the IRS and then transferred it directly to the taxpayer's
checking account or authorized the tax preparer to write a check that the
taxpayer could pick up immediately.
Included in other income are gains or losses on sales of loans. When the
Company collects fees on loans that it originates, it must defer them and
recognize them as interest income over the term of the loan. If the loan is
sold before maturity, any unamortized fees are recognized as gains on sale
rather than interest income. In 1993 when interest rates were low, the
Company originated a significant number of refinancings that it immediately
sold to other financial institutions or insurance companies. This was
especially true in the fourth quarter of 1993 as approximately $196,000 in
gains were recognized. The larger amount appeared to be related to consumers'
fears that rates were starting to rise and that this would be their last
chance to "lock in" lower rates. As interest rates rose in 1994, the Company
did fewer refinancings, accounting for the smaller amount of other income.
Staff Expense
The largest component of non-interest expense is staff expense. Staff size is
closely monitored and in most years the rate of increase in staff is less
than the rate of growth in the Company's assets (if the growth in fiduciary
assets is also considered).
Table 12 shows the amounts of staff expense incurred over the last eight
quarters (in thousands).
Table 12--STAFF EXPENSE
Salary and Profit Sharing and
Quarter Ended Other Compensation Other Employee Benefits
December 1993 $ 4,010 $ 787
March 1994 4,096 1,353
June 1994 4,281 1,246
September 1994 4,090 1,205
December 1994 3,834 1,045
March 1995 4,780 1,405
June 1995 4,422 1,015
September 1995 4,776 1,151
There is usually some variation in staff expense from quarter to quarter.
Staff expense in the first quarter of 1995 was greater than usual for several
reasons. First, the Company began hiring staff for the three Ventura offices
that have been opened. They were hired with enough lead time before the
openings to provide training and familiarization with the Company. Second, as
mentioned above, the Company has hired a number of new staff in the areas of
lending and credit administration and in loan review to more closely monitor
credit quality. Thirdly, staff has been added in the Trust Division to sell
and manage several new products offered in this area. Lastly, all officers
have their annual salary review in the first quarter with merit increases
effective on March 1. These increases averaged 4% this year.
Salary and other compensation decreased in the second quarter of 1995.
Officer bonuses are paid after the end of each year from a bonus pool, the
size of which has been set by the Board of Directors based on net income. The
Company accrues compensation expense for the pool for officer bonuses during
the year for which they are paid rather than in the subsequent year when they
are actually paid. The accrual is based on projected net income for the year.
Management's mid-year revised forecast projected net income at an amount less
than originally projected. Therefore a portion of the amount accrued was
reversed and a reduced accrual was recorded for the third quarter. Had the
adjustments not occurred, staff expense for the second quarter would have
been comparable to the amount for the first and third quarters of 1995.
There is also variability in the amounts reported above for Profit Sharing
and Other Employee Benefits. These amounts include (1) the Company's
contribution to profit sharing plans and retiree health benefits, (2) the
Company's portion of health insurance premiums and payroll taxes, and (3)
payroll taxes and workers' compensation insurance.
The amount for the fourth quarter of 1993 was unusually low. The Company's
contributions for the profit sharing and retiree health benefit plans are
determined by a formula that results in a contribution equal to 10% of a base
figure made up of income before tax and before the contribution, adjusted to
add back the provision for loan loss and to subtract actual charge-offs. The
Company begins each year accruing an amount based on its forecast of the base
figure. Because actual net charge-offs were a higher percentage of the
provision in 1993 (72%) than they had been in prior years, the base was lower
relative to net income than it previously had been. The Company had been
accruing for these contributions during the first three quarters of 1993 with
the assumption of a more normal ratio of actual net charge-offs to provision
and therefore needed to adjust the accrual in the fourth quarter. The same
type of adjustment was made in the fourth quarter for 1994 and in the second
quarter for 1995.
Payroll taxes introduce a seasonality to this expense category. While bonus
expense is accrued as salary expense during the year to which it relates, the
Company is not liable for the payroll taxes until the bonuses are paid in the
first quarter of the following year. Therefore the payroll taxes relating to
the bonuses for the prior year are all charged as expense in the first
quarter of the current year, accounting for a portion (approximately $57,000)
of the increase from the fourth quarter of 1994 to the first quarter of 1995.
Moreover, payroll tax expense is normally lower in the fourth quarter of each
year because the salaries of the higher paid employees have passed the
payroll tax ceilings by the fourth quarter.
As discussed above in "Loans and Related Interest Income," the accounting
standard relating to loan fees and origination costs requires that salary
expenditures related to originating loans not be immediately recognized as
expenses, but instead be deferred and then amortized over the life of the
loan as a reduction of interest and fee income for the loan portfolio.
Therefore, compensation actually paid to employees in each of the above
listed periods is higher than shown by an amount ranging from $125,000 to
$275,000, depending on the number of loans originated during that quarter.
Other Operating Expenses
Table 12 shows other operating expenses over the last seven quarters (in
thousands).
Table 12--OTHER OPERATING EXPENSE
Occupancy Expense Furniture & Other
Quarter Ended Bank Premises Equipment Expense
December 1993 $ 817 $ 539 $3,459
March 1994 787 488 3,096
June 1994 855 511 3,144
September 1994 935 614 2,867
December 1994 950 634 3,745
March 1995 1,011 645 4,198
June 1995 1,003 640 3,611
September 1995 1,080 652 1,547
Occupancy expenses increased in the first quarter of 1995 as a result of the
new Ventura County offices and will remain higher than in prior years. The
Company leases rather than owns most of its premises. Many of the leases
provide for annual rent adjustments. Equipment expense fluctuates over time
as needs change, maintenance is performed, and equipment is purchased. This
category has also been impacted by the opening of the new offices.
Table 13 shows a detailed comparison for the major expense items in other
expense for the three and nine month periods ended September 30 (amounts in
thousands).
<TABLE>
<CAPTION>
Table 13-OTHER EXPENSE
Nine-Month Periods Three-Month Periods
Ended September 30, Ended September 30,
1995 1994 1995 1994
<S> <C> <C> <C> <C>
FDIC and State assessments $ 6 $ 1,560 $(1,031) $ 520
Professional services 617 497 232 135
RAL processing and
incentive fees 37 348 (63) 25
Supplies and sundries 507 439 195 139
Postage and freight 508 452 144 134
Marketing 1,059 720 255 232
Bankcard processing 869 1,204 310 405
Credit bureau 540 45 47 16
Telephone and wire expense 655 264 176 90
Charities and contributions 259 113 44 97
Software expense 628 567 212 209
Operating losses 106 37 38 11
Other 3,564 2,860 988 854
Total $9,355 $ 9,106 $ 1,547 $ 2,867
</TABLE>
Included in other expense is the premium cost paid for FDIC insurance. The
FDIC has converted to a graduated rate for the premium based on the soundness
of the particular institution. Prior to the third quarter, the annual rate
ranged from $0.23 to $0.30 per hundred dollars of deposits. On the basis of
its "well-capitalized" position, the Company's rate was $0.23 per hundred. As
deposits increased, this expense increased as well. In the third quarter, the
FDIC announced that it would decrease the rates paid by well-capitalized
banks to $0.04 per hundred dollars because the Bank Insurance Fund had been
capitalized to the level specified by statute. The FDIC refunded premiums
paid in advance, and the Company reversed the accrual that it had made for
the expense. This resulted in approximately $1.3 million less expense for the
quarter relative to what the premium cost would have been had there been no
change.
A number of these expense categories have increased due to the Ventura County
expansion. These include marketing, telephone and wire, and charities and
contributions. The increase in credit bureau expense is almost wholly related
to the extra credit checks for the RAL program necessitated by the IRS
changes noted above. Substantial telephone expense was incurred in the RAL
program to answer questions from applicants for loans regarding the changes
made by the IRS and why the Company would act as a transferor only. Telephone
expense also increased because of a new business rate schedule implemented by
the Company's local telephone vendor.
The Company became aware in the first quarter of 1995 that it may have some
responsibility for a large loss suffered by one of its customers and has
therefore included with other operating losses an estimate of the amount it
is likely to have to reimburse the customer.
RAL processing and incentive fees are paid to tax preparers and filers based
on the volume of loans and the collectibility of the loans made through them.
As of March 31, 1995, the Company had estimated that it would be obligated
for $250,000 in such payments. With the reduced volume and the lower
collectibility, in the second quarter, the Company estimated it would be
obligated for only $100,000, and a portion of the earlier estimate was
reversed. In the third quarter, with final numbers available, the obligation
was calculated at $37,000. This amount was paid and the remaining accrual
reversed.
The net cost of other real estate owned ("OREO") is not included in the
preceding table because it appears on a separate line in the statements of
income. When the Company forecloses on the real estate collateral securing
delinquent loans, it must record these assets at the lower of their fair
value (market value less estimated costs of disposal) or the outstanding
amount of the loan. If the fair value is less than the outstanding amount of
the loan, the difference is charged to the allowance for loan loss at the
time of foreclosure. Costs incurred to maintain or operate the properties are
charged to expense as they are incurred. If the fair value of the property
declines below the original estimate, the carrying amount of the property is
written-down to the new estimate of fair value and the decrease is also
charged to this expense category. If the property is sold at an amount higher
than the estimated fair value, the gain that is realized is credited to this
category.
The negative amount in the income statement for this expense category for the
first nine months of 1994 reflects approximately $924,000 in net gains
arising out of sales less approximately $327,000 in operating expenses and
writedowns. Almost all of the gains arose from the sale of the final four
units of a condominium project on which the Company foreclosed in 1993. The
Company had made a very conservative estimate of the market value of these
units at the time of foreclosure because of the slow pace of sales of the
units before foreclosure. With the local residential real estate market
showing increased strength, and with some initial sales to demonstrate that
the prices were not going to be reduced further, the Company was able to sell
the units at prices higher than the conservative estimate. Some gains from
sale were also recognized in the final quarter of 1993.
As disclosed in Note 7 to the financial statements, the Company had $1.0
million in OREO as of September 30, 1995. This compares with $0.9 million as
of a year earlier. With the small balance of OREO being held, Management
anticipates that OREO operating expense will continue to be relatively low.
However, the Company has liens on properties which are collateral for (1)
loans which are in non-accrual status, or (2) loans that are currently
performing but about which there is some question that the borrower will be
able to continue to service the debt according to the terms of the note.
These conditions may necessitate additional foreclosures during the next
several quarters, with a corresponding increase in this expense.
Liquidity
Sufficient liquidity is necessary to handle fluctuations in deposit levels,
to provide for customers' credit needs, and to take advantage of investment
opportunities as they are presented. Sufficient liquidity is a function of
(1) having cash or cash equivalents on hand or on deposit at a Federal
Reserve Bank ("FRB") adequate to meet unexpected immediate demands, and (2)
balancing near-term and long-term cash inflows and outflows to meet such
demands over future periods.
Federal regulations require banks to maintain a certain amount of funds on
deposit ("deposit reserves") at the FRB for liquidity. Except in periods of
extended declines in interest rates when the investment policy calls for
additional purchases of investment securities, or at times during the first
quarter when all available funds are used to fund the RAL's, the Company also
maintains a balance of Federal funds sold which are available for liquidity
needs with one day's notice.
The timing of inflows and outflows to provide for liquidity over longer
periods is achieved by making adjustments to the mix of assets and
liabilities so that maturities are matched. These adjustments are
accomplished through changes in terms and relative pricing of different prod-
ucts. The timing of liquidity sources and demands is well matched when there
is at least the same amount of short-term liquid assets as volatile, large
liabilities. It is also important that the maturities of the remaining long-
term assets are relatively spread out. Of those assets generally held by the
Company, the short-term liquid assets consist of Federal funds sold and debt
securities with a remaining maturity of less than one year. Because of its
investment policy of selling taxable securities from the liquidity portfolio
before any loss becomes too great to materially affect liquidity, and because
there is an active market for Treasury securities, the Company considers its
Treasury securities with a remaining maturity of under 2 years to be short-
term liquid assets for this purpose. The volatile, large liabilities are time
deposits over $100,000, public time deposits, Federal funds purchased,
repurchase agreements, and other borrowed funds. While balances held in
demand and passbook accounts are immediately available to depositors, they
are generally the result of stable business or customer relationships with
inflows and outflows usually in balance over relatively short periods of
time. Therefore, for the purposes of this analysis, they are not considered
volatile.
A method used by bank regulators to compute liquidity using this concept of
matching maturities is to divide the difference between the short-term,
liquid assets and the volatile, large liabilities by the sum of the loans and
long-term investments, that is:
Short-term, Liquid Assets - Volatile, Large Liabilities
- ------------------------------------------------------- = Liquidity Ratio
Net Loans and Long-term Investments
<TABLE>
<CAPTION>
Table 15 -LIQUIDITY COMPUTATION COMPONENTS
Net Loans and Long-term
Short-term, Liquid Assets Volatile, Large Liabilities Investments
<S> <C> <S> <C> <S> <C>
Fixed rate debt Time deposits 100+ $ 73,300 Net loans $520,686
with maturity Repurchase agreements Long-term
less than 1 year $110,282 and Federal funds securities 123,896
Treasury securities with purchased 34,482 Equity Securities 488
1-2 year maturities 46,967 Other borrowed funds 1,210
Federal funds 70,000
Bankers' acceptances 48,625
Total $275,874 Total $108,992 Total $645,070
</TABLE>
As of September 30, 1995, the difference between short-term, liquid assets and
volatile, large liabilities, the "liquidity amount," was a positive $167
million and the liquidity ratio was 26%, using the balances (in thousands)
in Table 15.
The Company's liquidity ratio indicates that all of the Company's volatile,
large liabilities are matched against short-term liquid assets, with an
excess of liquid assets. The current liquidity amount exceeds the range that
the Company is trying to maintain -- from positive $75 million to negative
$25 million. Too high a liquidity amount or ratio results in reduced earnings
because the short-term, liquid assets generally have lower interest rates. If
liquidity is too low, earnings are reduced by the cost to borrow funds or
because of lost opportunities. Some purchases of taxable securities were
planned for the third quarter and were carried out but they had maturities
less than two years and so will not reduce the liquidity ratio as computed
above. The Company is also making small purchases of municipal securities for
their tax advantages, but these are unlikely to be in an amount that will
significantly lower the liquidity ratio.
Securities from both the liquidity and earnings portfolios are included in
the balances for short-term liquid assets in Table 15. The inclusion of
securities from the earnings portfolio is not predicated on their possible
sale, but rather on the recognition that Management will be including the
proceeds that will be received at maturity in liquidity planning.
Capital Resources
Table 16 presents a comparison of several important amounts and ratios for
the third quarters of 1995 and 1994 (dollars in thousands).
<TABLE>
<CAPTION>
Table 16-CAPITAL RATIOS 3rd Quarter 3rd Quarter
1995 1994 Change
<S> <C> <C> <C>
Amounts:
Net Income $ 1,717 $ 2,996 $ (1,279)
Average Total Assets 1,090,070 1,032,016 58,054
Average Equity 99,035 91,157 7,878
Ratios:
Equity Capital to
Total Assets (Period-end) 8.80% 8.80% 0.00%
Annualized Return on
Average Assets 0.63% 1.16% (0.53%)
Annualized Return on
Average Equity 6.93% 13.15% (6.22%)
</TABLE>
Earnings are the largest source of capital for the Company. For reasons
mentioned in various sections of this discussion, Management expects that
there will be more variation quarter by quarter in operating earnings. Areas
of uncertainty include asset quality, loan demand, RAL operations and
collections, and the Ventura County expansion.
A substantial increase in charge-offs would require the Company to record a
larger provision for loan loss to restore the allowance to an adequate level,
and this would negatively impact earnings. If loan demand increases, the
Company will be able to reinvest proceeds from maturing investments at higher
rates, which would positively impact earnings. Because of the changes
instituted by the IRS regarding RAL payments to the Company, the amount of
the RAL advances not repaid to the Company is higher than originally
estimated. These changes have already increased operating costs over the
Company's original projections. Expenses related to the new Ventura offices
have stabilized and should begin to be offset by additional income as loans
are made and more deposits received.
The FRB sets minimum capital guidelines for U. S. banks and bank holding
companies based on the relative risk of the various types of assets. The
guidelines require banks to have capital equivalent to at least 8% of risk
adjusted assets. As of September 30, 1995, the Company's risk-based capital
ratio was 18.39% The Company must also maintain shareholders' equity of at
least 4% to 5% of unadjusted total assets. As of September 30, 1995,
shareholders' equity was 8.80% of total assets. The Company's ratios reflect
that it currently has ample capital to support the additional growth in
Ventura County.
No significant commitments or reductions of capital are anticipated.
Refund Anticipation Loan Summary
The impact of the RAL program on the Company's activities and results of
operations during 1995 is discussed in various parts of this analysis.
Especially in the first quarters of each year, but also in the second, the
Company's interest and fee income totals are greater than would otherwise be
the case. Operating expenses and loan losses proved to be greater than
expected in the first three quarters of 1995 because of the IRS procedural
changes. These changes increased the amount of delinquencies and resulting
charge-offs, and as a result required a shift in emphasis during the tax
season from making loans to simply acting as a transfer agent for the refund.
Rather than extend funds to the taxpayer and wait for repayment by the IRS,
the Company remitted the payment to the taxpayer only after receipt from the
IRS. Taxpayers still received the funds sooner than would have been the case
had they waited for a check. The Company's fee was lower in these cases than
for the loans.
In summary, the Company lost about $600,000 to date before tax from the 1995
RAL program, compared to the positive pre-tax contribution to income of $1.6
million that the program made in 1994. RAL customers with unpaid loan
balances of about $900,000 have agreed to payment plans. To the extent that
these plans are honored, the Company's loss for the 1995 program will be
reduced.
The Company has rigorously examined the advisability of continuing with the
program in 1996. There are two key questions. The first is whether the
Company can identify the conditions necessary for the IRS to promptly remit
the refund to the Company and restrict loans to those situations. The second
is whether there is sufficient demand for the refund transfer portion of the
program to warrant the fixed operating costs. To date, Management is of the
opinion that it can address the IRS procedures issue in such a way that loan
losses are substantially reduced and that there is sufficient demand for
refund transfers to justify involvement in the program in 1996. If these
conditions are met, the program should result in a positive contribution to
income in 1996.
Regulation
The Company is closely regulated by Federal and State agencies. The Company
and its subsidiaries may engage only in lines of business that have been
approved by their respective regulators, and cannot open or close offices
without their approval. Disclosure of the terms and conditions of loans made
to customers and deposits accepted from customers are both heavily regulated
as to content. The Company is required by the provisions of the Community
Reinvestment Act ("CRA") to make significant efforts to ensure that access to
banking services is available to the whole community. The Bank's CRA
compliance was last examined by the FDIC in the fourth quarter of 1992, and
the Bank was given the highest rating of "Outstanding." As a bank holding
company, the Company is primarily regulated by the Federal Reserve Bbank. As
a member bank of the Federal Reserve System that is state-chartered, the
Bank's primary Federal regulator is the FRB and its state regulator is the
California State Department of Banking. As a non-bank subsidiary of the
Company, ServiceCorp is regulated by the FRB. Both of these regulatory
agencies conduct periodic examinations of the Company and/or its subsidiaries
to ascertain their compliance with regulations.
The FRB may take action against bank holding companies and banks should they
fail to maintain adequate capital. This action has usually taken the form of
restrictions on the payment of dividends to shareholders, requirements to
obtain more capital from investors, and restrictions on operations. The
Company has received no indication that either banking agency is in any way
contemplating any such action with respect to the Company or the Bank, and
given the strong capital position of both the Bank and the Company,
Management expects no such action.
FOOTNOTES TO MANAGEMENT'S DISCUSSION AND ANALYSIS
[1] The Company primarily uses two published sources of information to obtain
performance ratios of its peers. The FDIC Quarterly Banking Profile, Second
Quarter, 1995, published by the FDIC Division of Research and Statistics,
provides information about all FDIC insured banks and certain subsets based
on size and geographical location. Geographically, the Company is included in
a subset that includes 12 Western states plus the Pacific Islands. To obtain
information more specific to California, the Company uses The Western Bank
Monitor, published by Montgomery Securities. This publication provides
performance statistics for "leading independent banks" in 13 Western states,
and further distinguishes a Southern California subset within which the
Company is included. Both of these publications are based on year-to-date
information provided by banks each quarter. It takes about 2-3 months to
process the information, so the published data is always one quarter behind
the Company's information. For this quarter, the peer information is for the
second quarter of 1995. All peer information in this discussion and analysis
is reported in or has been derived from information reported in one of these
two publications.
[2] As required by applicable regulations, tax-exempt non-security
obligations of municipal governments are reported as part of the loan
portfolio. These totaled approximately $7.6 million as of September 30, 1995.
The average yields presented in Table 3 give effect to the tax-exempt status
of the interest received on these obligations by the use of a taxable
equivalent yield assuming a combined Federal and State tax rate of
approximately 41% (while not tax exempt for the State of California, the
State taxes paid on this Federal-exempt income is deductible for Federal tax
purposes). If their tax-exempt status were not taken into account, interest
earned on loans for the third quarter of 1995 would still round to $12.6
million but the average yield would be 9.35%. There would also be
corresponding reductions for the other quarters shown in the Table 4. The
computation of the taxable equivalent yield is explained in the section below
titled "Investment Securities and Related Interest Income."
[3] Reported in Western Bank Monitor, Second Quarter, 1995.
PART II
OTHER INFORMATION
Item 1. Legal Proceedings
Not applicable.
Item 2. Changes in Securities
Not applicable.
Item 3. Defaults Upon Senior Securities
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable.
Item 5. Other Information:
Not applicable.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibit Index:
Sequential
Page Number
(no pages in
Exhibit Number Item Description EDGAR version)
3.1 Amendment One to by-laws
of the Company
3.2 Amendment One to by-laws
of Santa Barbara
Bank & Trust
11 Computation of Per
Share Earnings
27 Financial Data Schedule
(b) No reports were filed on Form 8-K
<PAGE>
EXHIBIT 3.1
CERTIFICATE OF RESOLUTION
SANTA BARBARA BANCORP
Santa Barbara, California
AMENDMENT NUMBER ONE TO BYLAWS
This is to certify that I am the duly elected, qualified and acting
Secretary of the above-named Corporation and that by resolution of the Board
of Diretors of the Corporation duly adopted at the meeting held on October
24, 1995, Sections 2.10 and 2.11 of the Bylaws of the Corporation were added
to read in as follows:
2.10 Shareholder Action Without a Meeting.
2.10.1 Written Consents. Unless otherwise provided in the
Articles of Incorporation, any action which may be taken at any annual or
special meeting of the shareholders, other than the election of directors,
may be taken without a meeting and without prior notice if a consent in
writing, setting forth the action so taken, shall be signed by the holders of
outstanding shares having not less than the minimum number of votes that
would be necessary to authorize or take such action at a meeting at which all
shareholders entitled to vote thereon were present and voted.
2.10.2 Notice of Written Consent. Unless the consents of all
shareholders entitled to vote have been solicited in writing, prompt notice
of any corporate action approved by shareholders without a meeting by less
than unanimous written consent shall be given, in accordance with Section
601(b) of the California General Corporation Law, to those shareholders
entitled to vote who have not consented in writing. Such notice must be
given at least ten (10) days before the consummation of any action authorized
by such approval if the action involves (i) a contract or other transaction
with an interested director, governed by Section 310 of the California
General Corporation Law, (ii) the indemnification of any present or former
agent of the Corporation within the meaning of Section 317 of the California
General Corporation Law, (iii) any reorganization within the meaning of the
California General Corporation Law, or (iv) a plan of distribution in
dissolution other than in accordance with the rights of any outstanding
preferred shares as provided in California General Corporation Law Section
2007.
2.10.3 Election of Directors by Written Consent. A director
may be elected at any time to fill a vacancy (other than a vacancy resulting
from the removal of a director) not filled by the Board by the written
consent of persons holding a majority of the outstanding shares entitled to
vote for the election of directors, and any required notice of any such
election shall promptly be given as provided in Section 2.10.2, above.
Directors may not otherwise be elected without a meeting unless a consent in
writing, setting forth the action so taken, is signed by all of the persons
who would be entitled to vote for the election of directors.
2.10.4 Solicitation of Consents. In order that the
shareholders shall have an opportunity to receive and consider the
information germane to their making an informed judgment as to whether to
give a written consent, no corporate action to be taken by written consent
shall be effective until the later of (a) twenty (20) days after the date of
the commencement of a solicitation (as such term is defined in Rule 14a-1
promulgated under the Securities Exchange Act of 1934, as amended) of
consents and (b) such date as may be specified in the proxy statement or
information statement furnished in connection with the solicitation; provided
that the foregoing shall not apply to any corporate action to be taken by
written consent pursuant to solicitation of not more than ten (10) persons.
For purposes of this Section 2.10, a consent solicitation shall be deemed to
have commenced when a proxy statement or information statement containing the
information required by law is first furnished to the shareholders.
2.10.5 Duration of Consents. Consents to corporate action (a)
shall be effective only on delivery to the Corporation of the original or a
certified copy of the consent and (b) shall be valid for a maximum of sixty
(60) days after the date of the earliest dated consent delivered to the
Corporation in the manner provided in this Section 2.10.
2.10.6 Revocation of Consents. Consents may be revoked at any
time prior to the time that written consents of the number of shares required
to authorize the proposed action have been filed with the Secretary of the
Corporation. Consents may be revoked by written notice delivered to any of
(a) the Corporation, (b) the shareholder or shareholders soliciting consents
or soliciting revocations in opposition to action by consent proposed by the
Corporation (the "Soliciting Shareholders"), or (c) a proxy solicitor or
other agent designated by the Corporation or the Soliciting Shareholders. A
revocation of a consent shall be effective upon receipt by the applicable
person.
2.10.7 Inspectors of Election. Within three (3) business days
after the delivery of any consents to the Corporation or the determination by
the Board of Directors that the Corporation should seek corporate action by
written consent, as the case may be, the Secretary shall engage independent
inspectors of elections (the "Inspectors") for the purpose of performing a
ministerial review of the validity of the consents and revocations. The cost
of retaining inspectors of election shall be borne by the Corporation.
2.10.8 Procedures for Counting. Consents and revocations shall
be delivered to the Inspectors upon receipt by the Corporation, the
Soliciting Shareholders or their proxy solicitors or other designated agents.
As soon as consents and revocations are received, the Inspectors shall review
the consents and revocations and shall maintain a count of the number of
valid and unrevoked consents. The Inspectors shall keep such count
confidential and shall not reveal the count to the Corporation, the
Soliciting Shareholder or their representatives or any other entity except in
connection with the Preliminary Report or the Final Report. As soon as
practicable after the earlier of (a) sixty (60) days after the date of the
earliest dated consent delivered to the Corporation or (b) a written request
therefor by the Corporation or the Soliciting Shareholders (whichever is
soliciting consents) (which request may be made no earlier than twenty (20)
days after the commencement of the applicable solicitation of consents,
except in the case of corporate action by written consent taken pursuant to
solicitations of not more than ten (10) persons), notice of which request
shall be given to the party opposing the solicitation of consents, if any,
the Inspectors shall issue a preliminary report (the "Preliminary Report") to
the Corporation and the Soliciting Shareholders stating: (i) the number of
valid consents; (ii) the number of valid revocations; (iii) the number of
valid and unrevoked consents; (iv) the number of invalid consents; (v) the
number of invalid revocations; and (vii) whether, based on their preliminary
count, the requisite number of valid and unrevoked consents has been obtained
to authorize or take the action specified in the consents. Any request
delivered by the Corporation or the Soliciting Shareholders under this
Section shall state that the requesting party has a good faith belief that
the requisite number of valid and unrevoked consents to authorize or take the
action specified in the consents has been received in accordance with these
By-Laws.
2.10.9 Inspectors' Final Report. Unless the Corporation and
the Soliciting Shareholders shall agree to a shorter or longer period, the
Corporation and the Soliciting Shareholders shall have forty-eight (48) hours
after the Inspectors' delivery of the Preliminary Report to review the
Preliminary Report and copies of the consents and revocations and to advise
the Inspectors and the opposing party in writing as to whether they intend to
challenge the Preliminary Report of the Inspectors. If no written notice of
an intention to challenge the Preliminary Report is received within such 48-
hour period, the Inspectors shall issue to the Corporation and the Soliciting
Shareholders their final report (the "Final Report") containing the
information from the Inspectors' determination with respect to whether the
requisite number of valid and unrevoked consents was obtained to authorize
and take the action specified in the consents. If the Corporation or the
Soliciting Shareholders issue written notice of an intention to challenge the
Inspectors' Preliminary Report within such 48-hour period, a challenge
session shall be scheduled by the Inspectors as promptly as practicable. A
transcript of the challenge session shall be recorded by a certified court
reporter. Following completion of the challenge session, the Inspectors
shall as promptly as practicable issue their Final Report to the Soliciting
Shareholders and the Corporation. The Final Report shall contain the
information included in the Preliminary Report, plus all changes, if any, in
the vote total as a result of the challenge and a certification of whether
the requisite number of valid and unrevoked consents was obtained to
authorize or take the action specified in the consents. A copy of the Final
Report of the Inspectors shall be included in the Corporation's records in
which the proceedings of meetings of shareholders are maintained.
2.10.10 Further Review. If the Inspectors state in the Final
Report that the requisite number of valid and unrevoked consents was not
obtained to authorize or take the action specified in the consents, the party
soliciting the consents thereafter may make one additional request in
accordance with the provisions of Section 2.10.8 hereof that the Inspectors
again review the consents and revocations and issue a further Preliminary
Report and Final Report.
2.10.11 Notice to Shareholders. The Corporation shall give
prompt notice to the shareholders of the results of any consent solicitation
or the taking of the corporate action without a meeting and by less than
unanimous written consent.
2.10.12 Content of Consents; Delivery of Consents. Each
written consent shall bear the date of signature of each shareholder who
signs the consent and a clear statement of the name of the shareholder who
signs the consent. Consents and revocations of consent shall be delivered to
the Corporation or any other person by hand or by certified or registered
mail, return receipt requested. Subject to the provisions of Section 2.10.4
hereof, consents and revocations of consent shall be effective upon receipt.
Other notices and requests delivered under this Section 2.10 may be delivered
personally, by facsimile or other form of electronic transmission that
provides for confirmation of receipt, or by certified or registered United
States mail, return receipt requested, and, if properly addressed, shall be
deemed delivered (a) on the date of delivery, if delivery was made personally
or by transmission by facsimile or other form of electronic transmission, or
(b) on the fifth (5th) business day after the date on which deposited with
the United States Postal Service.
2.10.13 Severability. Each term and provision of this Section
2.10 shall be valid and enforceable to the fullest extent permitted by law.
If independent counsel to the Corporation delivers to the Corporation a
written opinion stating, or a court of competent jurisdiction determines,
that this Section 2.10, or any portion thereof, or the application thereof to
any person or circumstance is illegal or unenforceable with respect to any
corporate action to be taken by written consent for which a consent has been
delivered to the Corporation, then this Section 2.10, or such portion
thereof, as the case may be, shall after the date of such delivery of such
opinion or such determination be null and void in total or with respect to
such person or circumstance, as the case may be, and the remainder of this
Section 2.10 or the application thereof to persons or circumstances other
than those to which it is held invalid or unenforceable, shall not be
affected thereby.
2.11 Shareholder Proposals.
2.11.1 Consideration of Proposals. At any annual or special
meeting of shareholders, only such business shall be conducted as shall have
been properly brought before the meeting. The provisions of this Section
2.11 shall control the determination of whether a proposal by any
shareholder, in his or her capacity as a shareholder, for action by the
shareholders of the Corporation has been properly brought before the meeting.
Notwithstanding anything in these Bylaws to the contrary, no business shall
be conducted at any meeting of shareholders except in accordance with the
procedures of this Section 2.11.
2.11.2 Submission of Proposal. To be properly brought before
an annual meeting of shareholders or any special meeting of shareholders
noticed and called other than on behalf of the proposing shareholder, any
proposal for action by the shareholders submitted by a shareholder of the
Corporation shall be made in writing and shall be delivered or mailed to the
Secretary of the Corporation at its principal place of business not less than
thirty (30) days nor more than sixty (60) days prior to scheduled date of the
meeting; provided that if less than twenty-one (21) days' notice of the
meeting is given to the shareholders, such proposal shall be mailed or
delivered to the Secretary of the Corporation not later than the close of
business on the Fourteenth (14th) day following the day on which notice of
the meeting was mailed to the shareholders. To be properly brought before
any special meeting of shareholders noticed and called on behalf of the
proposing shareholder, all proposals for action submitted by such requesting
shareholders shall be made in writing and shall be delivered or mailed to the
Secretary of the Corporation at its principal place of business
simultaneously with such shareholder(s) submission of their request for the
meeting. Notwithstanding the foregoing, any shareholder may submit for
consideration at a meeting any proposal which is directly related to a matter
which is specifically identified in the written notice of the meeting as a
matter on which action by the shareholders will be requested at the meeting.
2.11.3 Content of Submission. A shareholder's notice to the
Secretary of the Corporation requesting that a proposal for action be
submitted for consideration at any meeting of shareholders shall set forth as
to the matter which the shareholder proposes to bring before the meeting: (a)
a brief description of the business desired to be brought before the meeting
and the reasons for conducting such business at the meeting; (b) the name and
address, as they appear on the Corporation's books of the shareholder
proposing such business; (c) the class and number of shares of stock of the
Corporation owned by the shareholder beneficially and of record; (d) any
material interest of the shareholder in the business proposed to be brought
before the meeting; and (e) any other information that is required by law to
be provided by the shareholder in the shareholder's capacity as a proponent
of a shareholder proposal.
2.11.4 Number of Proposals. No shareholder, other than the
shareholder(s) on whose behalf the meeting is noticed and called, may submit
more than one (1) proposal for consideration at any one (1) meeting of the
shareholders of the Corporation.
2.11.5 Federal Rules. Nothing in this Section shall be deemed
to limit or waive the application of, or the need for any shareholder to
comply with, any of the provisions of Section 14 of the Securities Exchange
Act of 1934 and the Rules promulgated thereunder applicable to the inclusion
of any shareholder proposal in any proxy statement or form of proxy used by
the Corporation in connection with any meeting of shareholders.
2.11.6 Chairperson's Statement. The Chairperson of the
meeting shall, if the facts warrant, determine and declare to the meeting
that business was not properly brought before the meeting and in accordance
with the provisions of this Section and, if the Chairperson so
determines, shall so declare to the meeting and any such business not
properly brought before the meeting shall not be transacted.
I hereby certify that the foregoing resolution now stands on record on
the books of said Corporation, and has not been modified, repealed or set
aside in any manner, and is now in full force and effect.
Dated at Santa Barbara,
California
________________________ _______________________________
Jay Donald Smith
Secretary
<PAGE>
EXHIBIT 3.2
CERTIFICATE OF RESOLUTION
SANTA BARBARA BANK & TRUST
Santa Barbara, California
AMENDMENT NUMBER ONE TO BYLAWS
This is to certify that I am the duly elected, qualified and acting
Secretary of the above-named Corporation and that by resolution of the Board
of Diretors of the Corporation duly adopted at the meeting held on October
24, 1995, Section 2.10 of the Bylaws of the Corporation was amended to read
in its entirety as follows:
2.10 Shareholder Action Without a Meeting.
2.10.1 Written Consents. Unless otherwise provided in the
Articles of Incorporation, any action which may be taken at any annual or
special meeting of the shareholders, other than the election of directors,
may be taken without a meeting and without prior notice if a consent in
writing, setting forth the action so taken, shall be signed by the holders of
outstanding shares having not less than the minimum number of votes that
would be necessary to authorize or take such action at a meeting at which all
shareholders entitled to vote thereon were present and voted.
2.10.2 Notice of Written Consent. Unless the consents of all
shareholders entitled to vote have been solicited in writing, prompt notice
of any corporate action approved by shareholders without a meeting by less
than unanimous written consent shall be given, in accordance with Section
601(b) of the California General Corporation Law, to those shareholders
entitled to vote who have not consented in writing. Such notice must be
given at least ten (10) days before the consummation of any action authorized
by such approval if the action involves (i) a contract or other transaction
with an interested director, governed by Section 310 of the California
General Corporation Law, (ii) the indemnification of any present or former
agent of the Corporation within the meaning of Section 317 of the California
General Corporation Law, (iii) any reorganization within the meaning of the
California General Corporation Law, or (iv) a plan of distribution in
dissolution other than in accordance with the rights of any outstanding
preferred shares as provided in California General Corporation Law Section
2007.
2.10.3 Election of Directors by Written Consent. A director
may be elected at any time to fill a vacancy (other than a vacancy resulting
from the removal of a director) not filled by the Board by the written
consent of persons holding a majority of the outstanding shares entitled to
vote for the election of directors, and any required notice of any such
election shall promptly be given as provided in Section 2.10.2, above.
Directors may not otherwise be elected without a meeting unless a consent in
writing, setting forth the action so taken, is signed by all of the persons
who would be entitled to vote for the election of directors.
2.10.4 Solicitation of Consents. In order that the
shareholders shall have an opportunity to receive and consider the
information germane to their making an informed judgment as to whether to
give a written consent, no corporate action to be taken by written consent
shall be effective until the later of (a) twenty (20) days after the date of
the commencement of a solicitation (as such term is defined in Rule 14a-1
promulgated under the Securities Exchange Act of 1934, as amended) of
consents and (b) such date as may be specified in the proxy statement or
information statement furnished in connection with the solicitation; provided
that the foregoing shall not apply to any corporate action to be taken by
written consent pursuant to solicitation of not more than ten (10) persons.
For purposes of this Section 2.10, a consent solicitation shall be deemed to
have commenced when a proxy statement or information statement containing the
information required by law is first furnished to the shareholders.
2.10.5 Duration of Consents. Consents to corporate action (a)
shall be effective only on delivery to the Corporation of the original or a
certified copy of the consent and (b) shall be valid for a maximum of sixty
(60) days after the date of the earliest dated consent delivered to the
Corporation in the manner provided in this Section 2.10.
2.10.6 Revocation of Consents. Consents may be revoked at any
time prior to the time that written consents of the number of shares required
to authorize the proposed action have been filed with the Secretary of the
Corporation. Consents may be revoked by written notice delivered to any of
(a) the Corporation, (b) the shareholder or shareholders soliciting consents
or soliciting revocations in opposition to action by consent proposed by the
Corporation (the "Soliciting Shareholders"), or (c) a proxy solicitor or
other agent designated by the Corporation or the Soliciting Shareholders. A
revocation of a consent shall be effective upon receipt by the applicable
person.
2.10.7 Inspectors of Election. Within three (3) business days
after the delivery of any consents to the Corporation or the determination by
the Board of Directors that the Corporation should seek corporate action by
written consent, as the case may be, the Secretary shall engage independent
inspectors of elections (the "Inspectors") for the purpose of performing a
ministerial review of the validity of the consents and revocations. The cost
of retaining inspectors of election shall be borne by the Corporation.
2.10.8 Procedures for Counting. Consents and revocations shall
be delivered to the Inspectors upon receipt by the Corporation, the
Soliciting Shareholders or their proxy solicitors or other designated agents.
As soon as consents and revocations are received, the Inspectors shall review
the consents and revocations and shall maintain a count of the number of
valid and unrevoked consents. The Inspectors shall keep such count
confidential and shall not reveal the count to the Corporation, the
Soliciting Shareholder or their representatives or any other entity except in
connection with the Preliminary Report or the Final Report. As soon as
practicable after the earlier of (a) sixty (60) days after the date of the
earliest dated consent delivered to the Corporation or (b) a written request
therefor by the Corporation or the Soliciting Shareholders (whichever is
soliciting consents) (which request may be made no earlier than twenty (20)
days after the commencement of the applicable solicitation of consents,
except in the case of corporate action by written consent taken pursuant to
solicitations of not more than ten (10) persons), notice of which request
shall be given to the party opposing the solicitation of consents, if any,
the Inspectors shall issue a preliminary report (the "Preliminary Report") to
the Corporation and the Soliciting Shareholders stating: (i) the number of
valid consents; (ii) the number of valid revocations; (iii) the number of
valid and unrevoked consents; (iv) the number of invalid consents; (v) the
number of invalid revocations; and (vii) whether, based on their preliminary
count, the requisite number of valid and unrevoked consents has been obtained
to authorize or take the action specified in the consents. Any request
delivered by the Corporation or the Soliciting Shareholders under this
Section shall state that the requesting party has a good faith belief that
the requisite number of valid and unrevoked consents to authorize or take the
action specified in the consents has been received in accordance with these
By-Laws.
2.10.9 Inspectors' Final Report. Unless the Corporation and
the Soliciting Shareholders shall agree to a shorter or longer period, the
Corporation and the Soliciting Shareholders shall have forty-eight (48) hours
after the Inspectors' delivery of the Preliminary Report to review the
Preliminary Report and copies of the consents and revocations and to advise
the Inspectors and the opposing party in writing as to whether they intend to
challenge the Preliminary Report of the Inspectors. If no written notice of
an intention to challenge the Preliminary Report is received within such 48-
hour period, the Inspectors shall issue to the Corporation and the Soliciting
Shareholders their final report (the "Final Report") containing the
information from the Inspectors' determination with respect to whether the
requisite number of valid and unrevoked consents was obtained to authorize
and take the action specified in the consents. If the Corporation or the
Soliciting Shareholders issue written notice of an intention to challenge the
Inspectors' Preliminary Report within such 48-hour period, a challenge
session shall be scheduled by the Inspectors as promptly as practicable. A
transcript of the challenge session shall be recorded by a certified court
reporter. Following completion of the challenge session, the Inspectors
shall as promptly as practicable issue their Final Report to the Soliciting
Shareholders and the Corporation. The Final Report shall contain the
information included in the Preliminary Report, plus all changes, if any, in
the vote total as a result of the challenge and a certification of whether
the requisite number of valid and unrevoked consents was obtained to
authorize or take the action specified in the consents. A copy of the Final
Report of the Inspectors shall be included in the Corporation's records in
which the proceedings of meetings of shareholders are maintained.
2.10.10 Further Review. If the Inspectors state in the Final
Report that the requisite number of valid and unrevoked consents was not
obtained to authorize or take the action specified in the consents, the party
soliciting the consents thereafter may make one additional request in
accordance with the provisions of Section 2.10.8 hereof that the Inspectors
again review the consents and revocations and issue a further Preliminary
Report and Final Report.
2.10.11 Notice to Shareholders. The Corporation shall give
prompt notice to the shareholders of the results of any consent solicitation
or the taking of the corporate action without a meeting and by less than
unanimous written consent.
2.10.12 Content of Consents; Delivery of Consents. Each
written consent shall bear the date of signature of each shareholder who
signs the consent and a clear statement of the name of the shareholder who
signs the consent. Consents and revocations of consent shall be delivered to
the Corporation or any other person by hand or by certified or registered
mail, return receipt requested. Subject to the provisions of Section 2.10.4
hereof, consents and revocations of consent shall be effective upon receipt.
Other notices and requests delivered under this Section 2.10 may be delivered
personally, by facsimile or other form of electronic transmission that
provides for confirmation of receipt, or by certified or registered United
States mail, return receipt requested, and, if properly addressed, shall be
deemed delivered (a) on the date of delivery, if delivery was made personally
or by transmission by facsimile or other form of electronic transmission, or
(b) on the fifth (5th) business day after the date on which deposited with
the United States Postal Service.
2.10.13 Severability. Each term and provision of this Section
2.10 shall be valid and enforceable to the fullest extent permitted by law.
If independent counsel to the Corporation delivers to the Corporation a
written opinion stating, or a court of competent jurisdiction determines,
that this Section 2.10, or any portion thereof, or the application thereof to
any person or circumstance is illegal or unenforceable with respect to any
corporate action to be taken by written consent for which a consent has been
delivered to the Corporation, then this Section 2.10, or such portion
thereof, as the case may be, shall after the date of such delivery of such
opinion or such determination be null and void in total or with respect to
such person or circumstance, as the case may be, and the remainder of this
Section 2.10 or the application thereof to persons or circumstances other
than those to which it is held invalid or unenforceable, shall not be
affected thereby.
Furthermore, Setion 2.11 was added to the Bylaws of the Corporation to
read as follows:
2.11 Shareholder Proposals.
2.11.1 Consideration of Proposals. At any annual or special
meeting of shareholders, only such business shall be conducted as shall have
been properly brought before the meeting. The provisions of this Section
2.11 shall control the determination of whether a proposal by any
shareholder, in his or her capacity as a shareholder, for action by the
shareholders of the Corporation has been properly brought before the meeting.
Notwithstanding anything in these Bylaws to the contrary, no business shall
be conducted at any meeting of shareholders except in accordance with the
procedures of this Section 2.11.
2.11.2 Submission of Proposal. To be properly brought before
an annual meeting of shareholders or any special meeting of shareholders
noticed and called other than on behalf of the proposing shareholder, any
proposal for action by the shareholders submitted by a shareholder of the
Corporation shall be made in writing and shall be delivered or mailed to the
Secretary of the Corporation at its principal place of business not less than
thirty (30) days nor more than sixty (60) days prior to scheduled date of the
meeting; provided that if less than twenty-one (21) days' notice of the
meeting is given to the shareholders, such proposal shall be mailed or
delivered to the Secretary of the Corporation not later than the close of
business on the Fourteenth (14th) day following the day on which notice of
the meeting was mailed to the shareholders. To be properly brought before
any special meeting of shareholders noticed and called on behalf of the
proposing shareholder, all proposals for action submitted by such requesting
shareholders shall be made in writing and shall be delivered or mailed to the
Secretary of the Corporation at its principal place of business
simultaneously with such shareholder(s) submission of their request for the
meeting. Notwithstanding the foregoing, any shareholder may submit for
consideration at a meeting any proposal which is directly related to a matter
which is specifically identified in the written notice of the meeting as a
matter on which action by the shareholders will be requested at the meeting.
2.11.3 Content of Submission. A shareholder's notice to the
Secretary of the Corporation requesting that a proposal for action be
submitted for consideration at any meeting of shareholders shall set forth as
to the matter which the shareholder proposes to bring before the meeting: (a)
a brief description of the business desired to be brought before the meeting
and the reasons for conducting such business at the meeting; (b) the name and
address, as they appear on the Corporation's books of the shareholder
proposing such business; (c) the class and number of shares of stock of the
Corporation owned by the shareholder beneficially and of record; (d) any
material interest of the shareholder in the business proposed to be brought
before the meeting; and (e) any other information that is required by law to
be provided by the shareholder in the shareholder's capacity as a proponent
of a shareholder proposal.
2.11.4 Number of Proposals. No shareholder, other than the
shareholder(s) on whose behalf the meeting is noticed and called, may submit
more than one (1) proposal for consideration at any one (1) meeting of the
shareholders of the Corporation.
2.11.5 Federal Rules. Nothing in this Section shall be deemed
to limit or waive the application of, or the need for any shareholder to
comply with, any of the provisions of Section 14 of the Securities Exchange
Act of 1934 and the Rules promulgated thereunder applicable to the inclusion
of any shareholder proposal in any proxy statement or form of proxy used by
the Corporation in connection with any meeting of shareholders.
2.11.6 Chairperson's Statement. The Chairperson of the
meeting shall, if the facts warrant, determine and declare to the meeting
that business was not properly brought before the meeting and in accordance
with the provisions of this Section and, if the Chairperson so
determines, shall so declare to the meeting and any such business not
properly brought before the meeting shall not be transacted.
I hereby certify that the foregoing resolution now stands on record on the
books of said Corporation, and has not been modified, repealed or set aside
in any manner, and is now in full force and effect.
Dated at Santa Barbara,
California
________________________ _______________________________
Jay Donald Smith
Secretary
<PAGE>
EXHIBIT 11
SANTA BARBARA BANCORP & SUBSIDIARIES
COMPUTATION OF PER SHARE EARNINGS
<TABLE>
<CAPTION>
For the Nine-Month Periods Ended September 30,
1995 1994
Primary Fully Diluted Primary Fully Diluted
<S> <C> <C> <C> <C>
Weighted Average
Shares Outstanding 5,119,239 5,119,239 5,089,466 5,089,466
Weighted Average
Options Outstanding 452,654 452,654 509,805 509,805
Anti-dilution adjustment (1) (7,686) 0 (15,885) 0
Adjusted Options Outstanding 444,968 452,654 493,920 509,805
Equivalent Buyback Shares (2) (307,276) (276,626) (348,689) (323,763)
Total Equivalent Shares 137,692 176,028 145,231 186,042
Adjustment for Non-
Qualified Tax Benefit (3) (56,453) (72,172) (59,545) (76,277)
Weighted Average Equivalent
Shares Outstanding 81,239 103,856 85,686 109,765
Weighted Average
Shares for Computation 5,200,478 5,223,095 5,175,152 5,199,231
Fair Market Value (4) $ 26.86 $ 30.75 $ 25.09 $ 28.50
Net Income $6,986,479 $6,986,479 $9,689,975 $9,689,975
Per Share Earnings $ 1.34 $ 1.34 $ 1.87 $ 1.86
<CAPTION>
For the Three-Month Periods Ended September 30,
1995 1994
Primary Fully Diluted Primary Fully Diluted
<S> <C> <C> <C> <C>
Weighted Average
Shares Outstanding 5,105,301 5,105,301 5,108,987 5,108,987
Weighted Average
Options Outstanding 461,912 461,912 488,881 488,881
Anti-dilution adjustment (1) (5,708) 0 0 0
Adjusted Options Outstanding 456,204 461,912 488,881 488,881
Equivalent Buyback Shares (2) (305,160) (287,564) (326,652) (312,062)
Total Equivalent Shares 151,044 174,348 162,229 176,819
Adjustment for Non-
Qualified Tax Benefit (3) (61,928) (71,482) (66,514) (72,496)
Weighted Average Equivalent
Shares Outstanding 89,116 102,866 95,715 104,323
Weighted Average
Shares for Computation 5,194,417 5,208,167 5,204,702 5,213,310
Fair Market Value (4) $ 28.42 $ 30.75 $ 27.21 $ 28.50
Net Income $1,717,011 $1,717,011 $2,996,051 $2,996,051
Per Share Earnings $ 0.33 $ 0.33 $ 0.58 $ 0.57
<FN>
(1) Options with exercise prices above fair market value are excluded
because of their anti-dilutive effect.
(2) The number of shares that could be purchased at fair market value from
the proceeds if the adjusted options outstanding were to be exercised.
(3) The Company receives a tax benefit when non-qualified options are
exercised. The benefit is equal to the product obtained by muliplying its tax
rate by the difference between the market value of the options at the time of
exercise and the exercise price. The benefit is assumed to be available for
purchase of additional outstanding shares.
(4) Fair market value for the computation is defined as the average market
price during the period for primary dilution, and the greater of that average
or the end-of-period market price for full dilution.
SIGNATURES
Pursuant to the Securities Exchange Act of 1934, the Company has duly caused
this report to be signed on its behalf by the undersigned thereunto duly
authorized:
SANTA BARBARA BANCORP
DATE: November 13, 1995 /s/ David W. Spainhour
David W. Spainhour
President
Chief Executive Officer
DATE: November 13, 1995 /s/ Donald Lafler
Donald Lafler
Vice President
Chief Financial Officer
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1995
<PERIOD-END> SEP-30-1995
<CASH> 48,184
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 70,000
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 74,587
<INVESTMENTS-CARRYING> 326,346
<INVESTMENTS-MARKET> 0
<LOANS> 532,202
<ALLOWANCE> 11,516
<TOTAL-ASSETS> 1,118,118
<DEPOSITS> 978,127
<SHORT-TERM> 35,692
<LIABILITIES-OTHER> 5,901
<LONG-TERM> 0
<COMMON> 5,106
0
0
<OTHER-SE> 93,292
<TOTAL-LIABILITIES-AND-EQUITY> 1,118,118
<INTEREST-LOAN> 40,018
<INTEREST-INVEST> 17,375
<INTEREST-OTHER> 3,976
<INTEREST-TOTAL> 61,369
<INTEREST-DEPOSIT> 23,421
<INTEREST-EXPENSE> 24,443
<INTEREST-INCOME-NET> 36,926
<LOAN-LOSSES> 8,874
<SECURITIES-GAINS> (22)
<EXPENSE-OTHER> 31,966
<INCOME-PRETAX> 9,378
<INCOME-PRE-EXTRAORDINARY> 9,378
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 6,986
<EPS-PRIMARY> 1.36
<EPS-DILUTED> 1.36
<YIELD-ACTUAL> 5.33
<LOANS-NON> 10,588
<LOANS-PAST> 535
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 16,863
<ALLOWANCE-OPEN> 12,911
<CHARGE-OFFS> 11,129
<RECOVERIES> 860
<ALLOWANCE-CLOSE> 11,516
<ALLOWANCE-DOMESTIC> 11,516
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
