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U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
(Mark One)
[x] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934. (FEE REQUIRED)
For the fiscal year ended December 31, 1996
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[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934. (NO FEE REQUIRED)
For the transition period from to
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Commission file number 2-78580
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PNB FINANCIAL GROUP
(Name of small business issuer in its charter)
CALIFORNIA 95-3847640
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4665 MACARTHUR COURT, NEWPORT BEACH, CA. 92660
(Address of principal executive offices) (Zip Code)
Issuers telephone number, including area code: (714) 851-1033
Securities registered pursuant to Section 12(b) of the Act:
NONE
Securities registered pursuant to Section 12(g) of the Act:
NONE
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No.
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Check if disclosure of delinquent filers in response to Item 405 of Regulation
S-B is not contained in this form, and no disclosure will be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB X
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Issuer's revenue for its most recent fiscal year ended December 31, 1996 is
$26,805,000. The aggregate market value of the voting stock held by
nonaffiliates, which excludes shares held by officers, directors, and 10%
stockholders of the registrant as of March 27, 1997 was approximately
$7,123,000. The average bid and ask price of the Company's stock during March
1997 which was used to compute the aggregate market value was $11.75 per share.
The number of shares of common stock outstanding as of March 27, 1997, was
2,172,783.
Documents incorporated by reference - None.
This document contains 75 pages. The index to exhibits appears on page 69.
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TABLE OF CONTENTS
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Page(s)
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PART I
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Item 1. BUSINESS 3
Item 2. PROPERTIES 27-28
Item 3. LEGAL PROCEEDINGS 28
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS 28
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS 29
Item 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 29-34
Item 7. FINANCIAL STATEMENTS 34- 63
Item 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURES 64
PART III
Item 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND
CONTROL PERSONS 64
Item 10. EXECUTIVE COMPENSATION 65-66
Item 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT 66-69
Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 69
Item 13. EXHIBITS AND REPORTS ON FORM 8-K 69-70
SIGNATURES 71
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PART I
Item 1. BUSINESS
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PNB Financial Group
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PNB Financial Group (the "Company") was organized on June 3, 1982 as a
California corporation and is registered as a Bank Holding Company under
the federal Bank Holding Company Act of 1956, as amended (the "Act"). The
Company commenced business on April 29, 1983 when, pursuant to a
reorganization, it acquired all of the voting stock of Pacific National
Bank ("PNB" or the "Bank"). At this time, the Company's principal business
is to serve as a holding company for the Bank.
Pacific National Bank
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PNB was organized as a national banking association in 1980. PNB's
business consists primarily of attracting deposits from the public and
using such deposits, together with capital and other funds, to make loans
to individuals and small and medium-size businesses. These loans can be
separated into two distinct types: (1) commercial, real estate and consumer
loans which the Bank holds for investment, and (2) residential mortgage
loans which are held for sale to institutional investors.
During the fourth quarter of 1996, the Bank opened a new mortgage loan
office in San Diego and closed its mortgage loan production office in
Riverside. With these changes, PNB operates four commercial loan and
depository regional offices, two mortgage loan offices and one mortgage
loan production office. With the exception of the mortgage loan production
office in Phoenix, Arizona, all of the offices are in the Southern
California marketplace with deposit taking offices in Newport Beach, Irvine
Spectrum, Beverly Hills, and Orange, and mortgage division offices in
Irvine, and San Diego. On December 31, 1996 the Bank employed 196 full
time equivalent people including 26 commissioned mortgage brokers. The
Bank's residential mortgage division accounted for 118 of the employees of
the Bank. Several of the Bank's employees also provide services for the
Company.
PNB's investment lending activities are conducted primarily in the Southern
California marketplace. As of December 31, 1996, PNB's investment loan
portfolio totaled approximately $102 million of which approximately 37%
consisted of commercial loans, 56% in real estate loans and the remainder
in consumer loans. In addition, a portion of the Bank's assets are
invested in its inventory of mortgage loans held for sale. The balance of
the Bank's investable funds are placed in short-term insured certificates
of deposit, a combination of short and medium-term securities of the United
States government and its agencies, mortgage backed securities, and in
other short-term money market instruments, including the sale of federal
funds to other banks. The Bank's revenues are derived principally from
interest and fees earned on its loan portfolio and other investments,
income derived from the origination and sale of residential mortgage loans
and the guaranteed portion of SBA loans. Interest on deposits, salaries
and commissions, occupancy, and general and administrative costs are the
Bank's major expense items.
During 1996, Management continued to emphasize the Bank's marketing efforts
through the extensive use of personal solicitations by the Bank's officers,
directors, and commission sales representatives. All officers and sales
representatives are responsible for making regular calls on potential
customers to solicit business as well as on existing customers to obtain
referrals. Certain officers and commissioned sales representatives use
outside brokers who generally earn a commission for services rendered.
Through the combined efforts of its employees, officers and directors, the
Bank offers its customers the opportunity to deal on an individual basis
with professional bankers who have commercial and real estate lending
experience, lending authority, and the resources to promptly serve
customers' banking needs. To ensure timely decisions on lending
transactions, the Bank's loan committee meets
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on a regular basis and is available for special meetings where an expedited
evaluation of a loan is requested by the customer, and the proposed loan is
appropriate for our expedited review evaluation.
In 1992, in order to increase its lending activities to the small business
market and increase its fee income, the Bank established a Small Business
Administration ("SBA") loan department. The SBA department originates
loans which are underwritten within guidelines established by the Bank and
the U.S. SBA program. Under this program, a portion of the loan is
guaranteed by the U.S. Government's agency. The Bank typically sells the
guaranteed portion of the loan into the secondary market and earns a
premium from the sales. The Bank retains the remaining portion of the loan
in its portfolio and continues to service the total loan. As of December
31, 1996, the Bank was servicing approximately $13.6 million of SBA loans
for others. During the fourth quarter of 1996, the Bank received a
preferred lending status with the SBA's Santa Ana District Office and
during the first quarter of 1997, the Bank received a preferred lending
status with the SBA's Los Angeles and San Diego District Offices. The
preferred lending status gives the Bank designated underwriting from the
SBA and could enable the Bank to increase its volume of SBA lending.
The deposit services offered by the Bank include those traditionally
offered by commercial banks, such as checking, savings and time deposits.
As of December 31, 1996, approximately 42% of the Bank's deposits were
noninterest bearing demand deposits and 29% of the total deposits were
interest bearing demand deposits. A portion of the noninterest bearing
demand accounts consist of demand accounts maintained by escrow and title
insurance companies. It is against California state law to pay interest on
these types of accounts. Consistent with banking industry practice, the
Bank provides an earnings allowance for these types of accounts and usually
provides external services not offered by the Bank to compensate for these
deposits. As of December 31, 1996, the Bank maintained approximately $25
million (or 35% of the total noninterest bearing accounts) of noninterest
bearing accounts for its escrow and title insurance customers. In order
to fund certain short-term needs in the mortgage banking operation, the
Bank has solicited a limited amount of short-term brokered deposits. These
brokered deposits are utilized as a low cost alternative to traditional
financing methods. Management monitors the brokered deposits closely and
the board of directors has limited these deposits to a maximum of $20
million. As of December 31, 1996, the Bank's brokered deposits totaled
$1.7 million.
The Bank opened its residential mortgage division in 1986. The Bank's
residential mortgage loan activity is primarily conducted throughout
Southern California and Arizona. A small portion of its loan volume is
from other areas throughout the United States. This business is brought to
the Bank through a professional sales staff which services an extensive
network of wholesale mortgage loan brokers. The Bank also maintains a
retail sales staff that generates the loans through their own efforts in
contacting the end consumer. All of the mortgage loans it originates are
sold to institutional investors. These loans are funded by the Bank and
generally delivered to the purchaser within twenty days after funding. The
Bank does not maintain the servicing on the loans which it sells. The
Bank's mortgage division operates both a wholesale and retail department.
The wholesale department accounts for the majority of the loans originated.
Historically, most of the loans generated by the Bank's residential
mortgage division were FHA insured or VA guaranteed loans. During 1996,
the Bank expanded its product line to more aggressively market
nongovernment guaranteed loans. In 1996, 56% of the mortgage loans
originated were FHA insured or VA guaranteed loans. For additional
information concerning this segment of the Company, please see footnote 10
of the Company's consolidated financial statements on page 58 of this
report.
The banking business in Southern California, generally, and in the Bank's
primary market area in Orange and Los Angeles Counties, in particular, is
highly competitive with respect to both deposits and loans. The area is
dominated by a relatively small number of major banks which have many
offices operating over a wide geographic area. Many of the major commercial
banks operating in the Bank's market area offer certain services which the
Bank does not offer. These competitors, which are more highly capitalized
than the Bank in terms of absolute dollars, also have higher lending
limits.
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During 1994, several community banks located in the Bank's primary
marketing area were taken over by the F.D.I.C. and, subsequently, sold to
other banking institutions. During 1995 and 1996, several other
transactions took place where banks, including some of the largest banks
and savings and loans in California, were merged or sold. The last three
years have seen the number of independent banks in Orange County decrease
greatly and there are a couple of mergers/acquisitions not yet completed
which could reduce this number further.
The mortgage banking business in Southern California is also very
competitive. The Bank's mortgage banking competition includes large
national mortgage companies which have many offices over the Bank's primary
market area, along with local non-bank mortgage companies. The large
national mortgage companies typically sell their mortgage loans directly to
FNMA and Freddie Mac and maintain the loan servicing. This, together with
their large volume, gives them the ability to offer better pricing than the
Bank. The excellent service PNB has continued to give, along with the
knowledge of the Bank's underwriters and sales staff, encourages the
mortgage banker to send their loans to PNB. In addition, the largest
advantage the Bank has over most local non-bank mortgage companies, is the
Bank's ability to fund loans the same day that the loan documents are
received. Most non-bank mortgage companies have to use an outside
warehousing line which considerably slows down the funding function.
The Bank competes for deposits primarily on the basis of interest rates
paid and the quality of service provided to its customers. The Bank faces
strong competition for all types of deposits, including deposits from
escrow and title insurance companies which it has actively marketed. The
majority of deposits are placed by depositors in the geographic areas in
which the Bank's branches are located. The Bank also uses outside couriers
to service depositors not in the geographic area of the Bank's branches.
The Bank competes for its investment loans principally on the basis of the
quality of services it provides borrowers, the types of loans it
originates, the underwriting criteria and loan conditions applied and the
interest rates and loan fees charged. The Bank believes it attracts
customers by offering a higher degree of professionalism and service than
that offered by its competition, along with offering loans which can be
tailor made for each specific request. The Bank's personnel emphasize
highly personalized services and the advantages of dealing with a smaller
institution attuned to the particular needs of the borrower. For customers
whose loan demands exceed the Bank's lending limit, the Bank may arrange
for the funding of such loans on a participation basis with other banks.
The Bank also assists customers requiring services not offered by the Bank
to obtain these services from its correspondent banks.
Effect of Governmental Policies and Recent Legislation
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The assets of a commercial banking institution consist largely of interest
earning assets, including loans and investment securities. The liabilities
of a commercial banking institution consist largely of interest bearing
liabilities, including time deposits, money market accounts, and other Bank
borrowings. The value and yields of these assets, and the rates paid on
these liabilities, are sensitive to changes in prevailing market rates of
interest. The earnings and growth of the Bank, and, therefore, the
Company, are partially dependent upon its ability to increase the amount
and net yield of its interest earning assets, which in turn depends upon
growth and the ability of the Bank to maintain a favorable differential or
"spread" between the yield on interest earning assets and the rate paid on
deposits and other interest bearing liabilities. The earnings and growth
of the Bank and the Company are also impacted by the fees and commissions
generated by the Bank's mortgage and SBA division. The market place in
which the mortgage division operates is also very sensitive to changes in
the prevailing market rates of interest.
The earnings and growth of the Company and the Bank are substantially
influenced by general economic conditions, the monetary and fiscal policies
of the federal government, and the policies of regulatory agencies,
particularly the Federal Reserve Board ("FRB") and the Comptroller of the
Currency ("Comptroller"), the primary regulator of the Bank. The FRB
implements national monetary policies by its open-market operations in
United States Government securities, by adjusting the required level of
reserves for financial institutions subject to its reserve requirements,
and by varying the discount rate for borrowings by banks which are members
of the Federal Reserve System. The Comptroller regulates daily operations
of the Bank through an extensive system of regulation, reporting, and
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accounting. The Comptroller's accounting guidelines and policies are not
always the same as generally accepted accounting principles. The actions of
the FRB and the Comptroller in these areas influence the growth of Bank
loans, investments and deposits and also affect interest rates charged on
loans and deposits. The nature and impact of any future changes in
monetary, regulatory and accounting policies cannot be predicted.
The Bank's SBA department, together with the residential mortgage division
utilize federal governmental agencies in providing loans to its customers.
On two occasions in November and December, 1995, the U. S. Federal
Government was forced to shut down various non-essential agencies due to
the Federal budget impasse. During these two occasions, the SBA department
and Housing and Urban Development ("HUD") were shut down. A prolonged
shutdown of these departments could have a material effect on the Bank's
ability to guarantee and/or insure SBA loans and FHA/VA loans. This
inability may lead to the Bank limiting or temporarily stopping these
lending programs which could have a material effect on the operation of the
Bank's SBA department and residential mortgage loan department. During
1996, the budget impasse was resolved, but another budget impasse could
occur in the future and may have a material impact on the Bank's
operations.
The Bank's SBA department is substantially impacted by the policies,
guidelines and funding availability established by the U. S. Government's
SBA. Periodically, Congress sets the amount of SBA funds available. The
level of funding could severely effect the operation of the Bank's SBA
department. In 1995 and 1996, the SBA, in an effort to reduce the Federal
Government's subsidy of the program, changed a number of its rules several
times. Also during this period, legislation was introduced in Congress to
abolish the SBA agency. This legislation did not pass, but the Bank's SBA
department is subject to operational effects of changes in the SBA. Below
is a list of changes which were enacted by the SBA during the past two
years, and are currently in effect, which could effect the level of SBA
lending at the Bank. Management does not anticipate that these changes
will have a material impact on the Bank's SBA lending activity.
* Debt refinancing eliminated on SBA 7(a) program unless a 20% savings
would be realized on the borrower's current loan payment.
* Maximum amount of SBA guarantee increased from $500,000 to $750,000
* SBA guaranty fee raised from a flat fee of 2% to a progressive fee
structure of 3% to 3.875% based upon the loan amount
* SBA guaranty amount changed from a range of 70%-90% of total loans, to
80% on loans less than $100,000 and 75% on loans greater than $100,000.
* SBA servicing fee increased to .50%
Potential legislation is also being discussed (or has been proposed) which
also could affect the business activities of the Company and the Bank. It
is probable that other bills affecting the banking industry will be
introduced in the future. Such legislation includes wide-ranging proposals
to limit the scope and amount of deposit insurance, to allow the banking
industry to sell insurance and other products to customers, consolidation
of the regulatory agencies and to move the industry closer to an
"interstate banking" system. The extent to which the present or future
business of the Company or Bank may be affected thereby cannot be
predicted.
California law currently permits the acquisition of California banks or
bank holding companies by out-of-state bank holding companies on a
nationwide reciprocal basis. These interstate banking measures could have
an impact on the competitive relationships among California financial
institutions, since out-of-state institutions, some with relatively large
financial and managerial resources, are now able to acquire California
banks and thereby engage in a banking business in California. The extent
to which interstate banking will affect the banking industry in California
cannot be predicted.
In August 1989, the Financial Institutions Reform, Recovery, and
Enforcement Act of 1989 ("FIRREA") was enacted. This legislation was
adopted in order to reform the regulation and supervision of financial
institutions and the insurance of deposits of financial institutions.
Among the major changes made by this law is a measure requiring
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the Federal Deposit Insurance Corporation ("FDIC") to assume responsibility
for insuring the deposits of financial institutions formerly insured by the
Federal Savings and Loan Insurance Corporation. FIRREA establishes two
separate insurance funds to be administered by the FDIC. Premiums on
deposit insurance will be assessed by the FDIC independently for the Bank
Insurance Fund ("BIF") and the Savings Association Insurance Fund ("SAIF").
In September 1992, the FDIC agreed on a system that will charge higher
insurance rates to banks that pose greater risks to the deposit insurance
funds. The new rules went into effect January 1, 1993 and provide that
each institution will be assigned to one of three groups (well capitalized,
adequately capitalized, or undercapitalized) based upon its capital ratios.
The FDIC will then assign each institution to one of three subgroups based
on an evaluation based upon reviews by the institution's primary
supervisor, statistical analyses of financial statements and other
information relevant to the ongoing risk posed by the institution. During
the second quarter of 1995, the BIF reached its predetermined goal of 1.25%
of total insured deposits. Due to this level, the FDIC established a lower
risk based premium schedule ranging from 4 cents to 27 cents per $100 of
deposits depending on the Bank's risk classification. On November 14,
1995, the FDIC Board of Directors voted to again reduce the insurance
premiums paid on deposits covered by the BIF. The new rate schedule became
effective on January 1, 1996 and ranges from a statutory annual minimum of
$2,000 to 27 cents per $100 of deposits depending on the Bank's risk
classification. In addition to the rate reductions, on July 1, 1995, the
Bank's FDIC risk classification was upgraded to reflect the improved
financial condition of the Bank. These two changes lowered the Bank's BIF
deposit premiums from 29 cents per $100 during the first quarter of 1995,
to 7 cents per $100 of BIF deposits during 1996.
In 1991, the Bank acquired certain assets and liabilities of the Beverly
Hills, California branch of Unity Savings and Loan Association, F.A. Due
to this acquisition, some of the deposit base of the Bank is insured under
SAIF. Until the second quarter of 1995, deposit premiums on both the BIF
and SAIF had been identical. Although the BIF premiums have been reduced,
institutions insured by the SAIF have continued to pay premiums on a risk-
related basis of 23 cents per $100 of deposits to 31 cents per $100 of
deposits. SAIF insured deposits continued to pay higher rates than BIF
insured deposits because SAIF remained seriously undercapitalized. In
September of 1996, Congress passed legislation to recapitalize the SAIF to
1.25% of total insured deposits. As a result of this legislation, the FDIC
levied a one time special assessment to SAIF insured institutions.
Accordingly, the Bank paid a one time assessment of $307,000. Due to this
special assessment, effective October 1, 1996, the deposit premiums on SAIF
insured deposits were adjusted to equal the deposit premiums paid on BIF
insured deposits. Management anticipates that the reduction in SAIF
insurance premiums will offset the special assessment of $307,000 in the
next two years.
FIRREA also strengthens the FDIC's regulatory enforcement authority in the
following ways: (1) it expands the categories of persons over whom
enforcement powers may be exercised; (2) it reduces the threshold for the
imposition of civil monetary penalties, including allowing such penalties
to be imposed for an inadvertent failure to file a regulatory report in a
timely fashion; (3) it substantially increases criminal and civil monetary
penalties; (4) it expands available remedies, including "reimbursement" by
parties committing a wrong and orders requiring the sale of assets; (5) it
enhances provisions for immediate remedies; (6) it expands the FDIC's power
to appoint conservators and receivers; and (7) it allows the FDIC to
proceed against "commonly controlled insured financial institutions" in the
event that the FDIC is required to provide assistance to a troubled
financial institution.
FIRREA also gives the FDIC authority to approve or require changes in an
institution's management in certain circumstances; imposes limitations on
certain investment activities and on certain deposit-generating activities;
amends the Federal Deposit Insurance Act to permit the acquisition of both
healthy and failing savings associations by bank holding companies; and
prohibits a bank which does not meet the applicable minimum capital
requirements from accepting brokered deposits.
The FDIC Improvement Act of 1991 ("FDICIA") followed on the heels on FIRREA
and further served to curb perceived abuses and laxness in the financial
institutions marketplace. It established certain safety and soundness
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guidelines, including accounting reforms, establishing a program for "least
cost resolution" when dealing with failing institutions, and other
mechanisms to allow prompt corrective action. In addition, FDICIA was
enacted to improve certain existing regulations by clarifying or amending a
bank's responsibilities and liabilities under the Equal Credit Opportunity
Act, Expedited Funds Availability Act, branch closing requirements, Truth
In Savings Act and others.
A third piece of legislation which is of particular importance to the Bank
is the Community Reinvestment Act ("CRA"), which requires banking
institutions to address the credit needs of their assessment areas,
including low and moderate income areas in which they do business. The
Comptroller periodically conducts examinations of banking activities to
determine the sufficiency of efforts to meet the credit needs of its
assessment area, including low and moderate income neighborhoods,
consistent with safe and sound banking practices. FIRREA provisions also
require that certain aspects of the Comptroller's CRA performance
evaluation be made public.
In 1995, the Bank underwent a CRA examination by the Comptroller and
received a "satisfactory" CRA rating. In April of 1995, in response to
complaints that the implementation of CRA focused too much on paperwork and
not enough on results, the federal banking agencies issued joint
regulations reforming the CRA process. Under the revised regulations, the
Bank qualifies as a "small institution," which is an independent
institution having total assets under $250 million as of either of the
prior two calendar year ends or an affiliate of bank holding companies
having total banking and thrift assets of less than $1 billion as of either
of the prior two calendar year ends. Streamlined evaluation procedures,
which took effect for small institutions on January 1, 1996, are expected
to emphasize CRA performance, reduce unnecessary compliance burden, and
permit more effective enforcement against institutions demonstrating poor
performance.
The Bank's CRA performance will be measured against five performance
standards: (1) the reasonableness of its loan to deposit ratio, (2) the
percentage of its loans within its assessment area, (3) its record of
lending to borrowers of different income levels and businesses and farms of
different sizes, (4) the geographic distribution of its loans, and (5) its
record of taking action, if warranted, in response to written complaints
about its performance in helping to meet credit needs in its assessment
area.
The Bank expects to undergo a regulatory examination of its CRA performance
under the new evaluation procedures sometime during 1997. Following the
close of the calendar year, the Bank begins to collect data for analysis of
its lending activity in response to the credit needs of its assessment
area. It is anticipated that the Bank's residential mortgage and small
business lending patterns will meet the regulatory performance standards
for small institutions and that the Bank will benefit from the streamlined
evaluation process.
In December 1993, pursuant to the mandate of FDICIA, the federal banking
agencies issued an interagency policy statement regarding the allowance for
possible loan losses. Insured depository institutions are required to
maintain a level of the allowance for possible loan losses that is adequate
to absorb "estimated credit losses" associated with the loan portfolio,
including all binding commitments to lend. "Estimated credit losses" are
defined as an estimate of the current amount of the loan portfolio that is
not likely to be collected given the facts and circumstances as of the
evaluation date. These estimated credit losses should meet the criteria
for accrual of a loss contingency set forth in generally accepted
accounting principles as stated in Statement on Financial Accounting
Standards No. 5 ("SFAS 5"). The policy statement describes the
responsibility of the board of directors and management to maintain the
allowance for possible loan losses at an adequate level and prescribes that
the allowance for possible loan losses should be no less than the sum of
the following items:
(1) For loans and classified substandard or doubtful, whether analyzed and
provided individually or as part of pools, all estimated credit losses
over the remaining effective lives of these loans.
(2) For components of the loan portfolio not classified, all estimated
credit losses over the upcoming 12 months.
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(3) Amounts for estimated losses from transfer risk on international
loans.
The board of directors and management are also responsible to ensure:
(1) the institution has an effective loan review system;
(2) loans or portions of loans are promptly charged off if determined
uncollectible; and
(3) the process for determining an adequate level for the allowance for
possible loan losses is based on a comprehensive, adequately
documented and consistently applied analysis of the loan portfolio.
The policy statement describes components of the portfolio which should be
reviewed and factors to consider in the estimation of credit losses.
Furthermore, the policy statement specifies the steps which will be
followed by examiners of the federal banking regulatory agencies in
examining the adequacy of the allowance for possible loan losses for
individual institutions. These steps include analyzing an institution's
policies, practices and historical credit loss experience, and a further
check of the reasonableness of Management's methodology by comparing the
reported allowance for possible loan losses (after deduction of all loans,
or portions thereof, classified as loss) against the sum of the following
amounts:
(1) 50 percent of the portfolio that is classified doubtful;
(2) 15 percent of the portfolio that is classified substandard; and
(3) for the portions of the portfolio that have not been classified
(including those loans designated special mention), estimated credit
losses over the upcoming twelve months given the facts and
circumstances as of the evaluation date (based on the institution's
average annual rate of net charge-offs experienced over the previous
two or three years on similar loans, adjusted for current conditions
and trends).
The policy statement cautions that "the amount is neither a 'floor' nor a
'safe harbor' level for an institution's allowance for possible loan
losses. However, federal examiners will view a shortfall relative to this
amount as indicating a need to more closely review Management's analysis to
determine whether it is reasonable and supported by the weight of available
evidence, and that all relevant factors have been appropriately
considered."
Supervision and Regulation
--------------------------
PNB Financial Group
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The Company, as a bank holding company, is subject to regulation under the
Act. The Company is required to file quarterly and annual reports with the
FRB and to provide such additional information as the FRB may require. The
FRB also conducts examinations of the Company and any non-bank
subsidiaries, if any. The FRB has authority to regulate provisions of
certain bank holding company debt, including authority to impose interest
ceilings and reserve requirements on such debt. Under the Act and
regulations adopted by the FRB, a bank holding company and its subsidiaries
are prohibited from requiring certain tie-in arrangements in connection
with any extension of credit, lease or sale of property or furnishing of
services. The FRB also regulates the ability of the bank holding company
to establish branches in foreign countries.
The Company is required to obtain the prior approval of the FRB for the
acquisition of more than 5% of the voting shares or substantially all of
the assets of any bank or bank holding company. In addition, the Company
is prohibited by the Act, except in certain statutorily prescribed
instances, from acquiring direct or indirect ownership or control of more
than 5% of the voting shares of any company which is not a bank or bank
holding company and
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from engaging, directly or indirectly, in activities other than those of
banking, managing or controlling banks or furnishing services to its
subsidiaries. However, the Company may, subject to the approval of the FRB,
engage in, or acquire shares of companies engaged in any activities which
are deemed by the FRB to be so closely related to banking, or managing or
controlling banks, as to be a proper incident thereto. The FRB is empowered
to differentiate between activities commenced de novo and activities
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commenced by acquisition, in whole or in part, of a going concern and is
prohibited from approving an application by a bank holding company to
acquire voting shares of any commercial bank in another state unless such
acquisition is specifically authorized by the laws of such other state. The
Company has agreed with the FRB not to pay dividends without the prior
approval of the FRB and also to advise the FRB if the Company repurchases
any stock.
Pacific National Bank
---------------------
The Bank, as a national banking association, is subject to primary
supervision, examination and regulation by the Comptroller. The Bank also
is a member of the Federal Reserve System and is subject to applicable
provisions of the Federal Reserve Act and regulations issued thereunder.
The deposits of the Bank are insured by the FDIC to the maximum extent
provided by law.
Capital Adequacy
----------------
The Comptroller, the FDIC and the FRB impose risk-based capital
requirements on all banking organizations. The risk-based capital
guidelines were designed to make regulatory capital requirements more
sensitive to the differences in the risk profiles of individual banking
organizations. In general, the risk-based capital guidelines provide
detailed definitions of which obligations will be treated as capital, and
assign different weights to various assets and off-balance sheet items,
depending upon the perceived degree of credit risk to which they expose
such entities. Each bank is required to maintain a minimum ratio of core
capital (Tier 1) and total capital to risk-weighted assets of 4% and 8%,
respectively.
A bank's risk-based capital ratio is calculated by dividing its qualifying
total capital by its risk-weighted assets. A bank's qualifying total
capital consists of the sum of two types of capital elements: core capital
elements (Tier 1 capital) and supplementary capital elements.
Supplementary capital consists primarily of the allowance for loan losses
which is limited to 1.25% of total risk-weighted assets.
Total risk-weighted assets are ascertained by assigning a bank's balance
sheet assets and credit equivalent amounts of off-balance sheet items, such
as letters of credit, outstanding loan commitments, interest rate swap
agreements and SBA loans sold with recourse to one of four broad risk
categories. The risk categories range from 0% for risk-free assets, such as
cash and certain U.S. Government securities, to 100% for relatively high-
risk assets such as investment loans and investments in fixed assets,
premises and other real estate owned. Residential mortgage loans are risk
rated 50% if they are not government guaranteed and 20% if they are
guaranteed. The aggregate dollar amount of each category is then
multiplied by the risk weight associated with that category. The resulting
weighted values from each of the categories are then added together to
determine the total risk-weighted assets.
The risk-based capital ratio focuses principally on broad categories of
credit risk; however, the ratio does not take into account other factors
that can affect a bank or bank holding company's financial condition.
Those factors include overall interest rate risk exposure; liquidity,
funding and market risks; the quality and level of earnings; investment or
loan portfolio concentrations; the quality of loans and investments; the
effectiveness of loan and investment policies; and Management's overall
ability to monitor and control financial and operating risks. In addition
to evaluating capital ratios, an overall assessment of capital adequacy
will take into account each of those other factors, including, in
particular, the level and severity of problem and adversely classified
assets. For this reason, the final supervisory judgement on a bank's
capital adequacy may differ significantly from the conclusions
10
<PAGE>
that might be drawn solely from the entity's risk-based capital ratio. In
light of the foregoing, banks are generally expected to operate above the
minimum risk-based capital ratio.
The FRB and the Comptroller impose a leverage capital ratio to compliment
the risk-based capital guidelines. The leverage capital ratio serves as a
backstop to the risk-based capital guidelines, and require every bank
holding company, as well as every bank, to maintain a minimum level of
equity capital to protect against unforeseen and extraordinary events.
In determining compliance with the leverage capital rule, the leverage
capital ratio is calculated by dividing Tier 1 capital (as defined earlier)
by total adjusted assets. Total adjusted assets are calculated by adding
the allowance for possible loan losses to total assets. The minimum
leverage ratio for BOPEC 1 bank holding companies and CAMEL 1 banks is 3%.
Other bank holding companies and banks will be required to have a minimum
leverage ratio of 4% to 5%. The leverage capital rule also provides a
general subjective catch-all requirement that financial institutions should
hold capital commensurate with the level and nature of all the risks,
including the volume and severity of problem loans.
At December 31, 1996, the Company's and the Bank's capital ratios were in
excess of all minimum capital requirements. The actual capitalization of
the Company and the Bank are set forth as follows:
<TABLE>
<CAPTION>
Pacific PNB
Regulatory National Financial
Requirements Bank Group
------------- --------- ----------
<S> <C> <C> <C>
Leverage Capital Ratio 4.0% 8.8% 10.0%
Risk Based Capital:
Tier I Capital 4.0% 12.0% 13.7%
Total Capital 8.0% 13.3% 14.9%
</TABLE>
Other Regulations
-----------------
Various requirements and restrictions under the laws of the United States
affect the operations of the Bank. Federal statutes and regulations relate
to many aspects of the Bank's operations, including reserves against
deposits, loans, investments, mergers and acquisitions, borrowings,
dividends and locations of branch offices. The Bank also is subject to
applicable provisions of California law, insofar as they do not conflict
with, or are not preempted by, federal banking law. There has been no
effect upon the Bank's capital expenditures, earnings, or competitive
position as a result of compliance with federal, state or local provisions
regarding the discharge of materials into the environment or the removal of
hazardous waste or toxic substances. The Bank is aware of one loan secured
by property on which methane gas has been found, but believes that
remediation will be accomplished without further cost to the Bank.
Distribution of Assets, Liabilities and Shareholders' Equity
------------------------------------------------------------
The following table sets forth the Company's condensed consolidated average
balances of each principal category of assets, liabilities and
shareholders' equity for each of the past two years. Average balances are
based on daily averages for the Bank and monthly averages for the Company,
since the Company does not maintain daily average information. In
addition, the Company does not calculate the net unrealized loss on
investment securities available for sale on a daily basis and, therefore,
its average balance is calculated using month end data. Management
believes that the difference between monthly and daily average data (where
monthly data has been used) is not significant. All dollar amounts are in
thousands.
11
<PAGE>
<TABLE>
<CAPTION>
PNB Financial Group
Average Balance Report
Years Ended December 31,
------------------------
1996 1995
-------- --------
<S> <C> <C>
Assets
- ------
Cash and due from banks $ 11,168 $ 9,620
Interest bearing deposits in other banks 597 -0-
Federal funds sold 9,566 2,286
-------- --------
Total cash and cash equivalents 21,331 11,906
Securities available for sale 8,018 14,911
Mortgage loans held for sale 46,164 21,660
Loans 99,609 107,713
Allowance for loan losses (2,259) (2,674)
-------- --------
Net loans 97,350 105,039
Premises and equipment, net 1,222 1,485
Other real estate owned 3,835 2,240
Other assets 2,109 2,208
-------- --------
Total assets $180,029 $159,449
======== ========
Liabilities and Stockholders' Equity
- ------------------------------------
Deposits:
Noninterest bearing $ 57,942 $ 51,140
Interest bearing 101,571 91,976
-------- --------
Total deposits 159,513 143,116
Short-term borrowings 723 1,044
Other liabilities 2,813 1,415
-------- --------
Total liabilities 163,049 145,575
Stockholders' equity:
Capital stock 16,006 16,130
Retained earnings (deficit) 1,107 (1,913)
Unrealized loss on securities available for sale (131) (343)
-------- --------
Total stockholders' equity 16,980 13,874
-------- --------
Total liabilities and stockholders' equity $180,029 $159,449
======== ========
</TABLE>
12
<PAGE>
Interest Rates and Differentials
--------------------------------
The Company's consolidated earnings are affected by the difference between
the income the Bank receives from its loan portfolio, investment in
mortgage loans held for sale, and securities available for sale and the
Bank's cost of funds, principally interest paid on deposits. Interest
rates charged on the Bank's loans are affected principally by the demand
for such loans, the supply of money available for lending purposes, and
competition. In turn, these are influenced by general economic conditions
and other factors beyond the Company's control, such as federal economic
and tax policies, the general supply of money in the economy, governmental
budgetary action, and the actions of the FRB.
Information concerning consolidated average interest earning assets along
with the average interest rates earned is set forth in the following table.
Averages were computed based upon daily balances for the Bank and monthly
balances for the Company, and all dollar amounts shown are in thousands.
<TABLE>
<CAPTION>
Years ended December 31,
--------------------------------------------------------------
1996 1995
-------- --------
Average Interest Average Average Interest Average
Balance Income Rate Balance Income Rate
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Earning Assets
- --------------
Total loans (1) (2) $ 99,609 $ 9,392 9.4% $107,713 $10,335 9.6%
Mortgage loans held for sale 46,164 3,623 7.8% 21,660 1,681 7.8%
Securities available for sale 8,018 438 5.5% 14,911 762 5.1%
Federal funds sold 9,566 493 5.2% 2,286 128 5.6%
Interest-bearing deposits with banks 597 32 5.4% - - -
-------- ------- --- -------- ------- ---
Total interest-earning assets $163,954 $13,978 8.5% $146,570 $12,906 8.8%
-------- ------- --- -------- ------- ---
</TABLE>
(1) Net loan fees, which are deferred and amortized over the life of the
loan, are included in interest earned on loans. Total loan fees
included in interest income was $292,000 and $189,000 for the years
ended December 31, 1996 and 1995, respectively.
(2) Average loan balances includes average loans on nonaccrual status of
$6,333,000 and $7,592,000 in 1996 and 1995, respectively, and are
recorded net of average unearned income of $505,000 and $287,000 as of
December 31, 1996 and 1995, respectively. Without nonaccrual loans,
the average rate on loans would be 10.1% and 10.3% for the years ended
December 31, 1996 and 1995, respectively.
Information concerning consolidated average interest bearing liabilities,
along with the average interest rates paid, is set forth in the following
table. Averages were computed based upon daily balances for the Bank and
monthly balances for the Company, and all dollar amounts are in thousands.
13
<PAGE>
<TABLE>
<CAPTION>
Years ended December 31,
-----------------------------------------
1996 1995
-------- --------
Average Interest Average Average Interest Average
Balance Expense Rate Balance Expense Rate
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Deposits and Borrowed Money
- -------------------------------------
Interest bearing demand deposits $ 54,126 $1,416 2.6% $49,241 $1,266 2.6%
Time deposits 42,725 2,293 5.4% 37,023 1,935 5.2%
Savings deposits 4,720 116 2.5% 5,711 154 2.7%
Short-term borrowings (1) 723 63 8.7% 1,044 49 4.7%
-------- ------ --- ------- ------ ---
Total interest-bearing liabilities $102,294 $3,888 3.8% $93,019 $3,404 3.7%
======== ====== === ======= ====== ===
</TABLE>
(1) In 1996, short term borrowings includes borrowings by the Holding Company
on the purchase of participation interests in nonperforming loans.
Net interest earnings (in thousands) and net yield on average earning assets
are shown in the table below:
<TABLE>
<CAPTION>
Years ended December 31,
-----------------------------------
1996 1995
-------- --------
<S> <C> <C>
Total interest income (1) $ 13,978 $ 12,906
Total interest expense 3,888 3,404
-------- --------
Net interest earnings $ 10,090 $ 9,502
======== ========
Average earning assets (2) $163,954 $146,570
Net yield on average earning assets (3) 6.2% 6.5%
</TABLE>
(1) Net loan fees, which are deferred and amortized over the life of the
loan, are included in interest earned on loans.
(2) Average earning assets include average loans on nonaccrual status of
$6,333,000 and $7,593,000 in 1996 and 1995 respectively, and are
recorded net of average unearned income of $505,000 and $287,000 as of
December 31, 1996, and 1995, respectively.
(3) Without average nonaccrual loans, net yield on average earning assets
would be 6.4% and 6.8% for the years ended December 31, 1996 and 1995,
respectively.
The Bank purchases external services on behalf of certain banking customers
in consideration of their noninterest bearing accounts. These external
services are limited to what a larger bank with the ability to provide in-
house services, such as courier, bookkeeping and payroll accounting
services could provide. In these larger banks, these costs could be
reflected as increased payroll, rent and other administrative costs. At
PNB, these costs are reflected as other deposit expense. The effects of
these arrangements in relationship to the approximate average deposit
balances are presented below. All dollar amounts are in thousands.
14
<PAGE>
<TABLE>
<CAPTION>
Years ended December 31,
--------------------------------------
1996 1995
------ -----
Average Deposit Average Average Deposit Average
Balance Expense Rate Balance Expense Rate
------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
Approximate noninterest
bearing accounts for which
external services are provided $25,000 $1,039 4.2% $20,000 $944 4.7%
======= ====== === ======= ==== ===
</TABLE>
The effects of these arrangements together with the average interest-bearing
liabilities and average interest rates paid from page 14 of this report are
presented below. All dollar amounts are in thousands.
<TABLE>
<CAPTION>
Years ended December 31,
--------------------------------------
1996 1995
------ ------
Average Deposit Average Average Deposit Average
Balance Expense Rate Balance Expense Rate
------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
Noninterest bearing accounts
for which external services are
provided and interest bearing
liabilities $127,294 $4,927 3.9% $113,019 $4,348 3.8%
======== ====== === ======== ====== ===
</TABLE>
The effects of these arrangements on net interest earnings and net yield on
average earning assets are shown in the table below. All dollar amounts are in
thousands.
<TABLE>
<CAPTION>
Years ended December 31,
--------------------------
1996 1995
------------ -----------
<S> <C> <C>
Net interest earnings $ 10,090 $ 9,502
Other deposit expense 1,039 944
-------- --------
Net interest earnings after other deposit expense $ 9,051 $ 8,558
======== ========
Average earning assets $163,954 $146,570
Net yield on average earning assets after
other deposit expense 5.5% 5.8%
</TABLE>
The Company's rate and volume analysis for the interest bearing assets and
interest bearing liabilities for 1996 as compared to 1995, as well as 1995
compared to 1994, is summarized in the tables set forth below. The total
change is separated into the change attributable to variations in volume
and the change attributable to variations in interest rates. For purposes
of this table, changes which are not due solely to volume or interest rate
changes have been allocated evenly among changes attributable to variations
in volume and rate. Nonaccrual loans are included in average loans. Other
deposit expense is not included in this analysis.
15
<PAGE>
<TABLE>
<CAPTION>
Change in Net Interest Income in 1996 from 1995
-----------------------------------------------
(In Thousands)
Volume Rate Total
------ ----- -------
<S> <C> <C> <C>
Interest income:
Loans $ (752) $(294) $(1,046)
Mortgage loans held for sale 1,912 30 1942
Securities available for sale (364) 40 (324)
Deposits in other banks 32 0 32
Federal funds sold 391 (26) 365
------ ----- -------
Total 1,219 (250) 969
Change in loan fees 103 - 103
------ ----- -------
Total change in interest and loan fee income $1,322 $(250) $ 1,072
====== ===== =======
Interest expense:
Interest bearing demand deposits $ 127 $ 23 $ 150
Time deposits 301 56 357
Savings deposits (25) (12) (37)
Short-term borrowings (22) 36 14
------ ----- -------
Total change in interest expense $ 381 $ 103 $ 484
====== ===== =======
Change in net interest and loan fee income $ 941 $(353) $ 588
====== ===== =======
</TABLE>
<TABLE>
<CAPTION>
Change in Net Interest Income in 1995 from 1994
-----------------------------------------------
(In Thousands)
Volume Rate Total
------ ------- ------
<S> <C> <C> <C>
Interest income:
Loans $ 421 $1,165 $1,586
Mortgage loans held for sale 647 (36) 611
Securities available for sale (522) 54 (468)
Deposits in other banks (20) (20) (40)
Federal funds sold (270) 97 (173)
----- ------ ------
Total 256 1,260 1,516
Change in loan fees (7) - (7)
----- ------ ------
Total change in interest and loan fee income $ 249 $1,260 $1,509
===== ====== ======
Interest expense:
Interest bearing demand deposits $ (43) $ 114 $ 71
Time deposits 157 493 650
Savings deposits (13) (2) (15)
Short-term borrowings 30 16 46
----- ------ ------
Total change in interest expense $ 131 $ 621 $ 752
===== ====== ======
Change in net interest and loan fee income $ 118 $ 639 $ 757
===== ====== ======
</TABLE>
16
<PAGE>
Securities Available for Sale
-----------------------------
As required by SFAS No. 115, "Accounting for Certain Investments in Debt
and Equity Securities"all investments in equity securities that have
readily determinable fair values and all investments in debt securities are
carried at fair value unless they meet the criteria to be classified as
held to maturity. Securities classified as available for sale are those
debt securities that the Company intends to hold for an indefinite period
of time, but not necessarily to maturity. All equity securities are
classified as available for sale. Any decision to sell a security
classified as available for sale would be based on various factors,
including significant movements in interest rates, changes in the maturity
mix of the Company's assets and liabilities, liquidity needs, regulatory
capital considerations and other similar factors. Securities available for
sale are carried at fair value. Unrealized gains or losses net of any
income tax effect, for securities available for sale is excluded from
earnings and reported as a net amount in a separate component of
stockholders' equity. Realized gains or losses, determined on the basis of
the cost of the specific securities sold, are included in earnings. The
Company has classified all of its securities as available for sale and on
December 31, 1996 and 1995, has recorded $63,000 and $84,000, respectively
as unrealized losses, net of income tax effect, as a separate component of
stockholders' equity. The Company has no securities classified as held to
maturity or trading. During 1996, the Bank purchased an equity investment
in the Federal Home Loan Bank which was required to acquire membership in
this institution. The Bank sought membership into this institution to
obtain favorable financing arrangements which the Federal Home Loan Bank
offers.
The maturity distribution for securities available for sale as well as the
weighted average yield for each range of maturity at December 31, 1996 is
as follows. Actual maturities may differ from contractual maturities in
mortgage backed securities because mortgages underlying the securities may
be called or repaid without any penalties. Therefore, these securities are
not included in the maturity categories in the following maturity summary.
All dollar amounts are in thousands.
<TABLE>
<CAPTION>
Weighted
Average
Fair Value Yield
---------- ---------
U.S. Government Securities
- --------------------------
<S> <C> <C>
Maturities one year or less $ 150 4.64%
Maturities over one year through five years 1,035 4.85%
U.S. Government Agency Securities
- ---------------------------------
Maturities one year or less 2,096 4.61%
Mortgage backed securities 2,930 6.00%
Federal Reserve Board stock 340 6.00%
Federal Home Loan Bank stock 830 6.00%
</TABLE>
Mortgage Banking and Mortgage Loans Held for Sale
-------------------------------------------------
Although all risks associated with mortgage banking cannot be easily
summarized, the following are some of the risks involved. One risk
associated with mortgage banking is the liability associated with
representations and warranties made to purchasers and insurers of the
mortgage loans. Under certain circumstances, the Bank may become liable
for the unpaid principal and interest if there has been a breach of
representation or warranties. In addition, some mortgage loans are sold
with a recourse provision. The Bank has different recourse provisions with
each separate investor. Generally, loans sold under the recourse provision
are required to be repurchased by the Bank if the loan becomes delinquent
within a range of two to six months of funding, depending upon the
investor. The Bank has the choice to not purchase the loan, but to
indemnify the investor for any and all costs and losses associated with the
investor's collection of the loan. The Bank may become liable for the
unpaid and uninsured portion of the principal and delinquent interest on
mortgage loans either repurchased or indemnified.
17
<PAGE>
The Bank limits these risks by using Certified Direct Endorsement
Underwriters, thereby assuring itself of having qualified personnel with the
necessary underwriting skills. The Bank also uses tighter than mandated
underwriting criteria, and performs prefunding audits of randomly and
specifically selected loans by the Bank's quality control department. The
quality control department also performs post funding audits of randomly and
specifically selected loans to ensure that its credit quality is being adhered
to. The risks associated with the recourse provisions are further reduced as a
majority of the loans originated by the Bank have FHA insurance or VA
guarantees which reduce the potential losses, if any. The risks associated
with nongovernment loans are reduced due to stricter underwriting guidelines
and generally lower loan to value requirements.
During 1996, due to the increased volume of overall mortgage lending, the Bank
experienced an increase in the number of loans repurchased/indemnified. After
October 1, 1996, a majority of the mortgage loans sold were to investors who
did not have a recourse provision tied to loan delinquency. Management
anticipates that this will reduce its exposure due to early payment defaults.
Management is continually assessing its risks associated with the recourse
provisions and has created a reserve for the estimated future losses.
Management believes that the risk associated with mortgage loans sold has been
adequately reserved in the Company's financial statements as of December 31,
1996 and 1995. The following is a summary of transactions affecting this
reserve for the years ending December 31, 1996 and 1995.
<TABLE>
<CAPTION>
1996 1995
---------- ---------
<S> <C> <C>
Beginning balance $ 232,000 $ 246,000
Provision for losses 1,080,000 385,000
Amounts charged to reserve, net of recoveries (851,000) (399,000)
---------- ---------
Ending balance $ 461,000 $ 232,000
========== =========
</TABLE>
The following table indicates the obligations which have been incurred in
connection with the recourse provision for the years ending December 31, 1996
and 1995. All dollar amounts, except for the number of loans, are in
thousands.
<TABLE>
<CAPTION>
1996 1995
-------- --------
<S> <C> <C>
Total mortgage loans sold $794,000 $337,000
Number of loans repurchased/indemnified 94 26
Dollar volume of loans repurchased/indemnified $ 11,038 $ 3,163
Historical % of repurchased/indemnified loans 1.94% 1.47%
</TABLE>
Mortgage loans held for sale are reported at the lower of cost or market. A
portion of mortgage loans held for sale are not funded until the Bank obtains
a purchase commitment from a third party. The risk specifically associated
with this portion of mortgage loans held for sale is that the Bank will fail
to deliver the loans to the purchaser by the commitment date. Policies and
procedures are in place to insure that all mortgage loans held for sale are
shipped to the purchaser within the required time frames. The total amount of
mortgage loans which had purchase commitments at December 31, 1996 and 1995
was $38,690,000 and $23,898,000, respectively.
The portion of mortgage loans held for sale that are not allocated to an
existing purchase commitment, and unfunded rate-locked loans, create interest
rate exposure. The Bank monitors this exposure daily and limits the potential
exposure by the purchase of mandatory forward commitments to sell whole loans.
Management estimates the amount of unfunded rate-locked loans that will
actually fund and purchases mandatory forward commitments based upon this
estimate and based upon the general interest rate environment. Management
does not speculate on interest
18
<PAGE>
rate movement and uses mandatory forward commitments purely as a hedge against
interest rate swings which could effect the value of its unfunded pipeline of
rate-locked loans and unallocated loans held for sale. The estimates which
management uses can differ from actual loan fundings and, therefore, interest
rate risk does exist. Management believes that it is minimizing this risk by
employing experienced personnel who are following conservative secondary
marketing policies. The Bank also reduces interest rate exposure by limiting
customer rate commitments to varying periods of less than sixty days.
Loans in process for which interest rates were committed to the mortgage
broker/borrower totaled $27,174,000 and $17,266,000 as of December 31, 1996
and 1995. At December 31, 1996 and 1995, the Bank had $43,000,000 and
$34,000,000, respectively, of mandatory forward commitments to sell whole
loans relating to their unfunded pipeline of rate-locked loans and unallocated
loans held for sale. Gains and losses on mandatory forward commitments are
realized in the period settlement occurs. Unrealized gains and losses on
forward commitments are included in the analysis of lower of cost or market
valuation for mortgage loans held for sale. At December 31, 1996 and 1995,
the unrealized gain (loss) on the Bank mandatory forward commitments was
$270,000 and ($200,000), respectively.
Loan Portfolio
--------------
Although all risks relating to lending cannot be easily summarized, certain
loan risks are inherent in certain types of loans. Risks associated with
commercial loans include the competency of the Management of the borrower, the
industry in which the borrower is operating, the economy and the strength of
the product or service rendered. Risks associated with installment loans
include the strength of the revenue stream of the borrower and the value of
the collateral. Real estate construction loan risks include building
activity, marketing abilities, financing conditions, the economy, and the
supply and demand of the product in the specific area being developed.
To minimize the risks associated with its investment lending, the board has
established certain maximum loan-to-value ratios on real estate dependent
loans and certain maximum accounts receivable or inventory advance rates on
commercial business loans. The Bank's loan policy includes certain owner
occupied and non owner occupied commercial construction loans. The maximum
loan-to-value ratio on owner occupied and non owner occupied commercial
construction loans is 75% and 70% respectively, and on affordable single
family residential construction loans is 70%. The loan-to-value requirements
on all construction loans are periodically reviewed to assure conservative
ratios based upon current economic conditions.
Commercial loans based upon accounts receivable or inventory are generally
limited to borrowings of a maximum of 80% of the asset base. In many
situations, the Bank further limits its risks on commercial loans by securing
real estate and other assets as additional collateral. The Bank monitors the
cash flow and financial condition of a commercial borrower by obtaining and
reviewing the financial statements of the borrower on a monthly, quarterly or
annual basis.
Construction loans are reviewed by Management as to the status of the loan, as
well as the construction project which serves as its collateral, on at least a
monthly basis. This frequent review allows Management to monitor for
unforeseen circumstances or events. By undertaking this supervision, the
risks inherent in construction loans remain under constant review by
Management. A portion of the Bank's real estate loan portfolio consists of
non-owner occupied real estate mortgage loans. The Bank monitors the
properties cash flow and the financial condition of the borrower as
extensively as the documentation of each loan allows and are visited as
frequently as necessary.
The loan portfolio is analyzed and reviewed regularly by the Audit Committee
of the Bank. The quantitative review includes analysis of delinquent loans,
nonaccrual loans, classified loans, loans held for sale, concentrations,
trends in portfolio volume, off balance sheet items, historical loan loss
experiences, and the economy. All loans are
19
<PAGE>
internally graded and all classified loans are carefully reviewed on a
loan-by-loan basis. The Audit Committee also relies on an annual review by the
Comptroller and a regular monthly loan review by an outside third party. This
third party loan review audits certain loans based upon guidelines set by the
Audit Committee, and reports its findings directly to Audit Committee.
In 1997, the Bank opened an Accounts Receivables Factoring Department.
Factoring is a form of accounts receivable financing in which the Bank
purchases the customer's invoices. This form of financing is more dependent
upon the paying ability of the customer's debtors than the Bank's typical
asset based borrowers. Consequently, field audits are required prior to
funding and periodically during the duration of the contract. The product is
priced by discounting the amount paid for each invoice to achieve a targeted
yield. In addition, to reduce the risk, an additional discount is set aside
as a reserve account to cover charge backs of purchased invoices. The reserve
is established by the Bank's underwriting criteria and generally ranges from
15% to 50% of purchased invoices.
The Company's loans are summarized in the following table according to loan
types as of December 31, 1996 and 1995, respectively. Loans have been
recorded net of loan purchase discounts of $598,000 and $729,000 and unearned
income of $347,000 and $251,000 as of December 31, 1996 and 1995,
respectively. Such purchase discounts will be amortized to income over the
life of the loans, which range from one to twenty-three years as of December
31, 1996. The Company has no foreign loans. All dollar amounts are in
thousands.
<TABLE>
<CAPTION>
1996 1995
-------- --------
<S> <C> <C>
Commercial loans $ 38,666 $ 47,291
Real estate loans 43,556 34,984
Construction loans 14,301 12,001
Consumer loans 7,703 9,461
-------- --------
Total loans 104,226 103,737
Allowance for possible loan losses (1,812) (2,659)
-------- --------
Net loans $102,414 $101,078
======== ========
</TABLE>
Maturities and Sensitivities of Loans to Changes in Interest Rates
------------------------------------------------------------------
A significant portion of the commercial loan portfolio normally does not
actually payoff when the loans mature. There are several factors which cause
actual repayments to differ from scheduled maturities. On a commercial loan,
the Bank typically will establish an annual maturity date. This enables the
Bank to monitor the borrower's financial condition and past performance along
with their compliance with any loan conditions. If the Bank determines that
the loan still meets its underwriting criteria, the loan may be renewed.
Often times the loan will not be renewed but will be restructured so that the
loan is still within the Bank's underwriting guidelines. Under either of
these circumstances, the commercial loan is renewed, not repaid. Before
renewing a loan, the Bank has the opportunity to adjust or change the interest
rate charged on the loan. Therefore, in regards to the sensitivity of loans
to interest rates, the maturities are important.
Delays in the construction or marketing period might cause a construction loan
not to be paid off upon maturity. The borrower may need additional time to
complete the project and an extension is approved provided no other defaults
have occurred. As with commercial loans, if a construction loan is renewed or
extended, the Bank may change the interest rate charged and/or charge
additional loan fees.
20
<PAGE>
Scheduled maturities of all investment loans outstanding at December 31, 1996
are summarized in the table set forth below. As discussed above, the Company
does not expect a majority of the commercial loans to be repaid upon maturity.
As of December 31, 1996, all of the Bank's construction loan portfolio is
scheduled to mature in one year or less. The Company does not keep records as
to the actual amount repaid upon maturity. Information regarding the loan
maturities within the individual loan classifications presented above is not
available. All dollar amounts are in thousands.
<TABLE>
<CAPTION>
Total Loans
-----------
<S> <C>
In one year or less $ 38,842
After one year but less than five 43,620
Over 5 years 21,764
--------
Total loans $104,226
========
</TABLE>
On a floating interest rate loan, the Bank may impose a minimum floor and/or
maximum ceiling interest rate which the floating rate cannot be either reduced
below or above. In doing this, the Bank limits its exposure to large
decreases in interest rates but also risks not receiving as much interest as
possible if interest rates were to increase significantly in a short time
period. Loans which have these floors or ceilings are reported as floating
interest rate loans below. The total amount of loans as of December 31, 1996
due after one year, categorized as to those loans which have predetermined
interest rates and those which have floating interest rates are summarized in
the table set forth below. Information regarding the fixed interest rate
versus variable interest rate by loan classifications presented above is not
available. All dollar amounts are in thousands.
<TABLE>
<CAPTION>
Loan balances due after one year which have:
Total Loans
-----------
<S> <C>
Fixed interest rates $16,003
Floating interest rates 49,381
-------
Total Loans $65,384
=======
</TABLE>
Interest Rate Sensitivity Analysis
----------------------------------
Management attempts to match the maturities of rate sensitive assets and rate
sensitive liabilities to the extent believed necessary to minimize interest
rate risk. Management monitors rates and maturities of rate sensitive assets
and liabilities and attempts to minimize interest rate risk by adjusting terms
of new loans and deposits and by investing in securities which mitigate the
Bank's overall interest rate risk.
The Company's interest rate sensitivity is measured by dividing the Company's
rate sensitive assets by its rate sensitive liabilities. The interest rate
sensitivity ratio ("GAP") indicates what effect a change in interest rate
would have on the net interest margin of a financial institution. Generally,
in a positive GAP environment an increase in interest rates would increase the
net interest margin while a decrease in interest rates would have a negative
impact on the net interest margin. The following table sets forth the
Company's interest rate sensitivity analysis as of December 31, 1996. All
dollar amounts are in thousands.
21
<PAGE>
<TABLE>
<CAPTION>
Greater
Less than 3 - 12 1 - 5 than
3 Months Months Years 5 years Total
--------- ------- ------- ------- --------
<S> <C> <C> <C> <C> <C>
Rate Sensitive Assets:
Loans (1) $ 70,353 $16,013 $14,640 $ - $101,006
Interest rate swap (2) (20,000) - 20,000 - -
Mortgage loans held for sale 62,620 - - - 62,620
Investment securities (3) 1,245 2,488 3,755 - 7,488
Federal funds sold 6,000 - - - 6,000
-------- ------- ------- ------- --------
Total Rate Sensitive Assets $120,218 $18,501 $38,395 $ - $177,114
Rate Sensitive Liabilities:
Time deposits $ 28,017 $12,049 $ 4,109 $ - $ 44,175
Interest bearing demand deposits 49,720 - - - 49,720
Savings deposits 5,390 - - - 5,390
Other demand deposits (4) 21,753 - - - 21,753
Borrowings on line of credit 7,000 - - - 7,000
-------- ------- ------- ------- --------
Total Rate Sensitive Liabilities 111,880 12,049 4,109 - 128,038
Cumulative GAP $ 8,338 $14,790 $49,076 $49,076
======== ======= ======= =======
Cumulative GAP Ratio 1.07 1.12 1.38
======== ======= =======
</TABLE>
(1) Loans do not include nonaccrual loans of $3,220,000 as of December 31,
1996.
(2) In April 1996, the Bank entered into an interest rate swap agreement
with a total notional principal amount of $20 million. Management
entered into the agreement to reduce the impact of changes in interest
rates on its balance sheet. The agreement effectively transfers variable
rate assets to fixed rate assets. The agreement provides for the Bank to
pay a fixed rate on the notional amount with the counterpart paying a
variable rate of prime. The agreement terminates in April 1998.
(3) Securities are recorded at their amortized cost and mortgage back
securities are included at their estimated repayment dates.
(4) These deposits consist of the rate sensitive portion of the noninterest
bearing demand deposits of escrow and title companies. A portion of
these deposits are considered to be rate sensitive because the Bank
provides them with an earnings allowance which fluctuates with an
interest rate index.
As the gap analysis demonstrates, the Company is in a positive one year gap
position. The Company's one year gap ratio at December 31, 1996, was 1.12%
and is within the acceptable range of 1.25% as determined by the Company's
asset/liability policy.
While the gap analysis is a useful asset/liability management tool, it does
not fully assess interest rate risk. Gap analysis does not address the
effects of customer options (such as early withdrawal of time deposits and
options to prepay loans) and Bank strategies, (such as delaying increases in
interest rates paid on interest-bearing deposit accounts) on the Bank's net
interest income. Therefore, a gap analysis is only one tool with which to
analyze interest rate risk and must be reviewed in conjunction with other
asset/liability management reports.
22
<PAGE>
Nonperforming Loans
-------------------
The Company's current policy is generally to cease accruing interest and to
charge-off all accrued and unpaid interest on loans which are past due as to
principal and/or interest for 90 days, or at an earlier time as Management
determines timely collection of interest to be in doubt. As a result of
placing loans on nonaccrual status, the Company did not accrue interest of
approximately $343,000 and $650,000 during 1996 and 1995, respectively, which
would have been earned had such loans been performing throughout the year. On
certain nonaccrual loans deemed by Management to be fully collectible, accrued
interest is not charged-off. Additionally, loans which are 90 days or more
past due may continue accruing interest if they are, in the opinion of
Management and the Bank's Audit Committee, both well secured and in the
process of collection. As of December 31, 1996, $175,000 of loans classified
past due 90 days or more consists of FHA insured mortgage loans which have
been repurchased and, in the opinion of Management, have no principal or
interest loss exposure.
Certain loans which are performing to their contractual obligation may be
recorded as a nonaccrual loan. In some of these cases, the full amount of the
payment received is used to reduce the principal balance of the loan and no
interest income is recorded. These loans are recorded as such because in the
opinion of Management and the Bank's audit committee or the opinion of the
Comptroller, there are serious doubts as to the ability of the borrower to
continue to comply with the present loan repayment terms. The interest income
not recognized and applied to principal is only recognized when the loan is
fully repaid. At December 31, 1996, the Bank had 14 loans totaling $878,000
which are being accounted for in this manner. Additionally, some loans which
are performing to their contractual obligations may be carried as a nonaccrual
loan, but interest income is being recognized on a cash received basis. In
these cases, the loan is not accruing interest, but when a payment is
received, the payment is being applied to principal and interest income as if
the loan was on accrual status. At December 31, 1996, the Bank had no loans
which are being accounted for in this manner, but during the year ended
December 31, 1996, the Bank recognized approximately $120,000 of interest
income on loans being accounted for in this manner.
The following table sets forth the total amount of nonperforming loans and the
percentage of nonperforming loans to total loans for December 31, 1996, and
1995, respectively. All dollar amounts are in thousands.
<TABLE>
<CAPTION>
1996 1995
------------------------ -----------------------
Percent of Percent of
Amount Total Loans Amount Total Loans
------- ------------ ------- ------------
<S> <C> <C> <C> <C>
Performing loans accounted for on a nonaccrual basis $ 878 .8% $ 3,684 3.6%
Nonperforming loans accounted for on a nonaccrual basis 2,342 2.3% 5,983 5.7%
Accruing loans contractually past due 90 days or more 277 .3% 382 .4%
------ --- ------- ---
Total $3,497 3.4% $10,049 9.7%
====== === ======= ===
</TABLE>
As of December 31, 1996 and 1995, the Company had no loans in a current
status where there were serious doubts as to the ability of the borrower to
comply with the present loan repayment terms. However, on December 31,
1996, the Company had one loan totaling $1.6 million on which there is
doubt as to the ability of the borrower to comply with the present loan
repayment terms along with the payment of current property taxes.
Additionally, due to the risks inherent in the Company's loan portfolio, as
well as general economic conditions, Management recognizes that loans now
current may become doubtful as to repayment. As of December 31, 1996, the
Company had two loans totaling $4.1 million that are referred to as
"troubled debt restructuring" in accordance with SFAS 15. Both of these
loans are performing loans which, as of December 31, 1996, are accounted
for on an accrual basis. As of December 31, 1995, the Company had three
loans totaling $3.6 million that are referred to as troubled debt
restructurings. These three loans were all performing loans which, as of
December 31, 1995, were accounted for on a nonaccrual basis.
23
<PAGE>
Other Real Estate Owned
-----------------------
The Company's policy is to acquire real estate in settlement of loans when
all other repayment alternatives have been exhausted and when the Company
can reasonably estimate that it can recover all or a portion of its
original loan. The Company's policy is to evaluate the potential recovery
based upon the fair market value of the property less estimated selling
costs and any senior encumbrances which might be attached to the property.
The Company's other real estate owned ("OREO") is carried at its fair
market value less estimated selling costs. As of December 31, 1996 and
1995, all of the Company's OREO was acquired in settlement of real estate
loans.
The following table sets forth the type of property which is included in
other real estate owned as of December 31, 1996 and 1995. All amounts are
in thousands.
<TABLE>
<CAPTION>
Type of Real Estate 1996 1995
- ------------------- ------ ------
<S> <C> <C>
Single family residence $1,535 $ -
Commercial and Industrial 1,258 283
Condominium 626 254
Land 64 405
Apartment Building - 395
------ ------
Total $3,483 $1,337
====== ======
</TABLE>
Summary of Loan Loss Experience
-------------------------------
The Company maintains an allowance for loan losses, which is reduced by loan
charge-offs and increased by loan recoveries and the provision for loan losses
which are charged to operating expense. The level of the allowance for loan
losses is continually evaluated and is based upon the Company's loan loss
experience (using a migration analysis), performance of loans in the Company's
portfolio, evaluation of collateral for such loans, cash flows or net worth of
the respective borrowers or guarantors, prevailing economic conditions, and
such other factors as, in Management's judgment, deserve current recognition
in the estimation of loan losses.
The Bank maintains a program which ensures that the Bank maintains an adequate
allowance. The Bank's program is consistent with Banking Circular #201
(revised) dated February 20, 1992. In general, this methodology is referred
to as a migration analysis. A migration analysis uses historical loan loss
experience within pools of similar loans to determine the allowance necessary
for each loan pool. The Bank began using this methodology for the year ended
December 31, 1992 and has continued to use it on a quarterly basis since such
date.
As required by SFAS No. 114, "Accounting by Creditors for Impairment of a
Loan", as amended by SFAS No. 118, impaired loans subject to the statement are
required to be measured based on the present value of expected future cash
flows discounted at the loan's effective interest rate or, as a practical
expedient, at the loan's observable market price or the fair value of the
collateral if the loan is collateral dependent. The Company had $3,220,000 of
impaired loans as of December 31, 1996, of which the majority were collateral
dependent. The total allowance for loan losses relating to $2,499,000 of
impaired loans was $397,000 on December 31, 1996. Impaired loans for which
there is no specific allowance for loan losses at December 31, 1996, is
$721,000.
The following table summarizes loan balances and changes in the allowance for
loan losses arising from loan charge-offs and recoveries as of the dates and
for the periods indicated. All dollar amounts are in thousands.
24
<PAGE>
<TABLE>
<CAPTION>
Years ended December 31,
--------------------------
1996 1995
------- --------
<S> <C> <C>
Balance of allowance for loan losses at beginning of period $ 2,659 $ 2,727
Loans changed off:
Commercial 340 616
Consumer 20 32
Real Estate 1,695 1,097
-------- --------
Total loans charged-off $ 2,055 $ 1,745
Recoveries of loans previously charged-off:
Commercial 257 62
Consumer 5 10
Real Estate 43 102
-------- --------
Total loan recoveries 305 174
-------- --------
Net loans charged off 1,750 1,571
Provision charged to operating expense 903 1,503
-------- --------
Balance of allowance for loan losses at end of period $ 1,812 $ 2,659
======== ========
Amount of loans outstanding at end of period $104,226 $103,737
Average amount of loans outstanding during the year $ 99,609 $107,713
Ratio of net charge-offs during the period to average loans
outstanding during the period 1.76% 1.46%
======== ========
</TABLE>
Allocation of Allowance for Loan Losses
- ---------------------------------------
In determining the level and adequacy of the allowance for loan losses, the Bank
utilizes a migration analysis as recommended by the Comptroller. Due to the
small size of its portfolio, the Bank Holding Company determines its allowance
on a loan by loan basis. At December 31, 1996, the allowance for loan losses was
approximately $799,000 in excess of the amounts computed using the migration
analysis discussed above. This excess was determined necessary because certain
historical loss percentages as indicated in the migration analysis were
considered to be below the minimum amount that management believes is necessary
to establish an adequate allowance for loan losses. As a result of the improving
condition of the loan portfolio and the local economy, management expects to
reduce its provision for loan losses in 1997. The following table sets forth the
loan pools the Company utilizes and its respective allowance established. All
dollar amounts are in thousands.
25
<PAGE>
<TABLE>
<CAPTION>
December 31, 1996 December 31, 1995
------------------------ ------------------------
Percent of Percent of Percent of Percent of
Loans to Allowance Allowance Loans to Allowance Allowance
Total Loans Amount to Loans Total Loans Amount Loans
------------ --------- ---------- ------------ --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Classified loans
----------------
Construction loans .9% $ 58 5.9% 4.2% $ 608 14.0%
First trust deed loans 2.6% 274 10.3% 7.1% 887 12.0%
Real estate commercial borrowers .9% 237 26.7% 2.8% 538 18.6%
Guaranteed mortgage loans .7% 55 7.9 % - - -%
All other loans .8% 125 14.6% 1.4% 139 9.3%
---- ------ ---- ---- ------ ----
Total classified loans 5.8% $ 749 12.3% 15.6% $2,172 13.5%
---- ------ ---- ---- ------ ----
Nonclassified loans
-------------------
Construction loans 10.7% $ - - 8.7% $ - -%
First trust deed loans 39.4% 232 .6% 16.0% 91 .6%
Guaranteed mortgage loans (1) - - - .5% - -
All other loans 44.1% 32 - 59.1% 396 .7%
Unallocated reserve - 799 N/A - - -
---- ------ ---- ---- ------ ----
Total nonclassified loans 94.2% 1,063 1.1% 84.4% 487 .6%
---- ------ ---- ---- ------ ----
Total 100% $1,812 1.7% 100% $2,659 2.6%
==== ====== ==== ==== ====== ====
</TABLE>
(1) Loans sold under recourse provision - see mortgage banking section page
17.
Deposits
--------
As a well capitalized Bank, as defined by the FDIC, the Bank can obtain
brokered deposits without any restriction by the regulators. During the
fourth quarter of 1996, the Bank utilized brokered deposits to help fund its
mortgage loans held for sale. Management monitors its use of brokered
deposits very closely and the board of directors of the Bank has placed a
maximum limit of $20 million of these deposits. Due to the lower cost,
management anticipates the utilization of brokered deposits when necessary to
fund its mortgage loans held for sale.
The average amounts of deposits and the average rates paid thereon for the
periods indicated are summarized below. The Bank does not have any significant
foreign deposits. All dollar amounts are in thousands.
<TABLE>
<CAPTION>
December 31, 1996 December 31, 1995
----------------- -----------------
Average Average Average Average
Balance Rate Balance Rate
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Noninterest-bearing demand deposits $ 57,942 0% $ 51,140 0%
Interest-bearing demand deposits 54,126 2.6% 49,241 2.6%
Savings deposits 4,720 2.5% 5,711 2.7%
Time certificates of deposit of $100,000 or more 20,708 5.3% 18,269 5.5%
Other time deposits 22,017 5.4% 18,754 5.0%
-------- --------
Total $159,513 $143,115
======== ========
</TABLE>
26
<PAGE>
The following table shows the maturity schedule of time certificate of deposits
of $100,000 or more at December 31, 1996.
<TABLE>
<CAPTION>
<S> <C>
Three months or less $18,818
Over 3 through 6 months 3,044
Over 6 through 12 months 2,282
Over 12 months 832
-------
Total $24,976
=======
</TABLE>
Return on Equity and Assets
- ---------------------------
The following table sets forth certain consolidated financial ratios relative to
the Company's consolidated financial performance for the periods indicated:
<TABLE>
<CAPTION>
Years ended December 31,
------------------------
1996 1995
----- -----
<S> <C> <C>
Net interest spread on average assets 5.6% 6.0%
Return on average assets 2.0% 1.3%
Return on average equity 20.9% 14.7%
Dividend payout rate None None
Average equity to average assets 9.4% 8.7%
</TABLE>
Short-Term Borrowings
- ---------------------
From time to time during the year ended December 31, 1996, the Bank borrowed on
its short-term borrowing facilities. This was due to an increase in the Bank's
mortgage loans held for sale which could not be funded by the Bank's liquid
assets. These back up sources of liquidity include a $3 million unsecured line
with its correspondent bank, a line of credit with the Federal Home Loan Bank
(See Note 5 page 50 of this report), and borrowings against the Bank's
securities available for sale. During 1996, the Bank joined the Federal Home
Loan Bank of San Francisco. As a member of this federally assisted government
agency, the Bank has secured a line of credit collateralized by certain
portfolio loans of the Bank. As the mortgage loans held for sale are generally
presold to institutional investors via the mandatory forward commitments, the
risk to the Bank that the Bank cannot repay these short term borrowings by the
ultimate sale of the mortgage loans is minimal. The Company had no category of
short-term borrowings of which the average balance for the year was greater than
30% of consolidated shareholders' equity at December 31, 1996 or 1995.
Item 2. PROPERTIES
- -------------------
As of December 31, 1996 the Bank leases seven properties. The properties are
used as administrative offices, branch offices, and mortgage banking offices.
Neither the Company, nor any of its subsidiaries other than the Bank, lease or
own any real property. All of the leased premises are suitable for their
intended use. In the opinion of Management, all of the leased properties are
adequately insured. The following table sets forth certain information with
respect to leases of the Bank.
<TABLE>
<CAPTION>
Lease 1996
Square Expiration 1996 Rental Effective
Feet Date Expense Lease Rate (6)
------ ---------- ----------- --------------
<S> <C> <C> <C> <C>
Location
- --------
Branch Offices
- --------------
4665 MacArthur Court, Newport Beach (1) 17,130 12/31/00 $401,000 $1.85
15615 Alton Parkway, Suite 100, Irvine (2) 4,757 10/31/97 133,000 1.85
8501 Wilshire Boulevard, Beverly Hills (3) 4,040 04/30/00 113,000 1.95
1045 West Katella Boulevard, Orange (4) 7,465 2/28/99 134,000 1.45
</TABLE>
27
<PAGE>
<TABLE>
<S> <C> <C> <C> <C>
Mortgage Banking
- ----------------
41 Corporate Park, Irvine 14,664 3/31/99 211,000 1.20
6390 Greenwich Drive, Suite 240, San Diego 2,531 9/30/99 10,000 1.29
Mortgage Loan Production Officer
- --------------------------------
4041 North Central Avenue, Phoenix, AZ (5) 1,850 3/30/97 18,000 .81
</TABLE>
(1) The Bank subleases approximately 2,700 square feet of these premises on a
month to month basis and received rental income from the sublease of
$38,500 during 1996. Senior Management, loan administration, the Bank's
SBA department, and its construction loan department occupy approximately
5,000 square feet of the Newport Beach location.
(2) The Bank's financial service department utilizes approximately 2,000
square feet of the Irvine Spectrum location.
(3) On March 1, 1996, the Bank entered into a new lease agreement whereby the
Bank reduced its rental rate and its rentable square footage. The lease
expires on 4/30/00, but the Bank has the right to cancel the lease for a
small cancellation charge, on or after March 1, 1999 with six months
notification to the landlord.
(4) Approximately 2,000 square feet of this location is utilized for the
Bank's data processing center.
(5) The Bank subleases this space. The expiration of the sublessor's master
lease expires 4/1/00. As a part of the sublease, sublessor is required to
provide receptionist services for the Bank.
(6) Calculated as monthly charge per actual square foot over the life of the
lease.
Item 3. LEGAL PROCEEDINGS
- ---------------------------
There are no pending legal proceedings to which the Company or the Bank is a
party or to which any of their respective properties are subject, other than
ordinary routine litigation incidental to the Bank's business.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- -------------------------------------------------------------
During the Company's Annual Meeting of Shareholders on October 16, 1996, the
shareholders voted on two matters. They elected all of the nominees of the
board of directors and approved the appointment of McGladrey & Pullen, LLP as
the Company's independent public auditors for 1996. The following schedule
sets forth the number of votes cast for, against, or withheld, as well as the
number of abstentions and broker non-votes, including a separate tabulation
with respect to each nominee for office.
<TABLE>
<CAPTION>
Votes Broker
For Withheld Abstain Non-Votes
--------- -------- ------- ---------
<S> <C> <C> <C> <C>
Election of Directors:
----------------------
Allen C. Barbieri 1,765,072 2,445 0 203,974
Martin T. Hart 1,765,172 2,245 0 203,974
G.Mitchell Morris 1,765,172 6,345 0 203,974
Jon A. Salquist 1,765,172 2,345 0 203,974
Bernard E. Schneider 1,765,172 2,345 0 203,974
Appointment of Independent Public Auditors
------------------------------------------
McGladrey & Pullen, LLP 1,764,197 100 3,220 203,974
</TABLE>
28
<PAGE>
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
- -------------------------------------------------------------------------------
The Company's common stock is not presently trading in an "established public
trading market". The Company is aware of four security dealers who seek to
handle trades in its stock: Mitchell Securities Corporation of Portland,
Oregon, Burford Capital of Glendale, California, Cruttenden & Roth of Newport
Beach, California, and Hoefer & Arnett of San Francisco, California. The number
of shareholders of record as of January 1, 1997 was 324. The following table
shows the range of bid quotations for each quarter within the last two fiscal
years. Such over-the-counter quotations are to the best knowledge of Management
and reflect interdealer prices, without retail mark up, mark down or
commissions and may not necessarily represent actual transactions. To date, the
Company has not paid dividends on any of its shares.
<TABLE>
<CAPTION>
HIGH LOW
<S> <C> <C>
Fourth Quarter, 1996 $11.50 $11.00
Third Quarter, 1996 7.50 6.50
Second Quarter, 1996 7.00 6.00
First Quarter, 1996 6.00 5.00
Fourth Quarter, 1995 $ 5.25 $ 4.50
Third Quarter, 1995 4.50 4.25
Second Quarter, 1995 4.25 3.50
First Quarter, 1995 4.00 3.50
</TABLE>
For the period December 1995 to September 1996, three people exercised
stock options with the Company in which the underlying stock was not
registered. These options were granted under both the 1985 Amended Non
Qualified Stock Option Plan and the 1985 Incentive Stock Option Plan. A
total of 5,500 shares of stock were issued at a total consideration to the
Company of $21,750. These transactions were exempt from registration under
Section 4 (2) of the Security Act of 1933, Regulation D thereunder. On
December 16, 1996, the Company filed form S-8 to register the underlying
stock of each of these stock option plans.
Item 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
-----------------------------------------------------------------------
OF OPERATIONS
-------------
SUMMARY
-------
The Company reported a net profit of $3,556,000 in 1996 compared to a net
profit of $2,041,000 in 1995. The 1996 net income is the highest earnings
the Company has reported since its inception in 1982. Along with the record
earnings during 1996, the Company reduced its nonperforming assets from
$11.0 million, or 6.3% of total assets as of December 31, 1995, to $6.7
million, or 3.4% of total assets at December 31, 1996. The increase in net
income was due to higher income from the Bank's residential mortgage
division along with an increase in the Bank's net interest margin and a
lower provision for loan losses. The Bank's residential mortgage division
contributed $2,725,000 to pretax profit during 1996 compared to a pretax
profit of $1,123,000 during 1995. The increase in profit of this division
was a result of increased lending activity. During 1996, the Bank funded
6,528 mortgage loans totaling $815 million compared to 1995 during which
the bank funded 2,981 mortgage loans totaling $367 million. The increase in
net interest income in 1996 compared to 1995 was a result of a higher
volume of mortgage loans held for sale which was partially offset with a
lower volume the Bank's portfolio loans. The decrease in the provision for
loan losses was primarily due to a substantial decrease in the level of
nonperforming and classified loans.
During the year ended December 31, 1996, the Company had total average
assets of $180.0 million, total average portfolio loans of $99.6 million
and total average deposits of $159.5 million compared to total average
assets of $159.4 million, total average portfolio loans of $107.7 million
and total average deposits of $143.1 million during the year ended December
31, 1995. The increase in average assets and average deposits in 1996
compared to 1995 is primarily due to an increase in money market and time
deposits. A portion of this increase was due to an increased level of
deposits from the Bank's escrow customers. This increase is due to an
increase in the number of escrow customers along with a general increase in
the real estate activity in Southern California. The 1996 decrease in
portfolio loans is primarily a result of a decrease in the nonperforming
and classified loans of the Bank.
29
<PAGE>
RESULTS OF OPERATIONS
---------------------
The Company's fully diluted earnings per common and common equivalent share
was $1.57 in 1996, a 73% increase over its fully diluted earnings per
common and common equivalent shares of $.91 in 1995. Return on average
assets was 2.0% in 1996 compared to 1.3% in 1995. Return on average
stockholder's equity was 20.9% in 1996 compared to 16.7% in 1995. Due to
net operating loss carryforwards and the elimination of its valuation
allowance on deferred tax assets, the Company's income tax expense was less
than the tax at the statutory rates in 1996 and 1995. On a fully taxed
basis, the Company's return on average assets would have been 1.5% and .95%
for 1996 and 1995, respectively and its return on average equity would have
been 15.6% and 8.3% for 1996 and 1995, respectively.
Although fee generating activity such as the Bank's mortgage division and
the Bank's SBA division are an integral part of the Company, the Company's
primary source of revenue will continue to be its net interest margin. The
Company's net interest margin as a percent of total average earning assets
was 6.2% in 1996 compared to 6.5% in 1995. The decrease in the net
interest margin was due to a small decrease in the Bank's highest yielding
asset portfolio loans, along with the decrease in the average prime lending
rate in 1996 compared to 1995. Due to the actions of the Federal Reserve
Bank (FRB), in February, 1996 the prime lending rate decreased from 8.5% to
8.25%. A significant portion of the Bank's portfolio loans are based on a
variable interest rate tied to prime and, therefore, the yield on its
portfolio loans declined by 25 basis points. In 1996, the Bank mitigated
the risk of a decrease in interest income due to lower interest rates by
entering into an interest rate swap agreement totaling $20 million. The
agreement effectively transfers $20 million of variable rate assets tied to
prime for assets with a fixed rate of 8.49%. The interest rate swap
agreement expires in April 1998.
NET INTEREST INCOME
-------------------
Net interest income before the provision for loan losses totaled
$10,090,000 in 1996 compared to $9,502,000 in 1995. The increase of net
interest income of $588,000 in 1996 compared to 1995 was due to an increase
in the Company's interest income which was partially offset by an increase
in the Company's interest expense. The increase of interest income was
primarily due to an increase in the average balance of mortgage loans held
for sale. During 1996, the balance of mortgage loans held for sale averaged
$46.2 million compared to an average of $21.7 million in 1995. This
increase was partially offset by a decrease in the average balance of
portfolio loans and the interest rate earned on portfolio loans. The
increase in the Company's interest expense was primarily due to an increase
in the average balance of time deposits. Time deposits averaged $96.6
million in 1996 compared to $86.3 million in 1995.
The average yield on total interest bearing assets was 8.5% in 1996
compared to 8.8% in 1995, a decrease of 30 basis points. The primary
reasons for the decrease in average yield was a decrease in the average
volume of portfolio loans along with a decrease in the average interest
rates earned on these loans. The average cost of interest bearing
liabilities was 3.8% in 1996 compared to 3.7% in 1995, an increase of 10
basis points. The increase was primarily attributed to the increase in
interest rates paid on time deposits of 14 basis points. As a result of
its normal operations, the Bank assumes the risk that general interest rate
levels will change. Management regularly monitors this risk, but
substantial change in the interest rate environment could have an impact on
the Company's net interest income and profitability.
PROVISIONS FOR LOAN LOSSES
--------------------------
The Company's provision for loan losses was $903,000 in 1996 compared to
$1,503,000 in 1995. This resulted in an allowance of $1,812,000 at
December 31, 1996 compared to $2,659,000 at December 31, 1995. The
decrease in the provision for 1996 was a result of, among other factors, a
significant decrease in the classified and nonaccrual loans in 1996
compared to 1995.
30
<PAGE>
Nonaccrual loans were $3.2 million on December 31, 1996, compared to $9.7
million on December 31, 1995. Classified loans decreased 70% during 1996
from $20.5 million to $6.1 million. These decreases, along with a nominal
historical loss percentage on the Company's nonclassified loans during the
past two years and a continually improving Southern California economy have
been the most significant reason for the lower provision and reduced
allowance for loan loss. Management is continuing to work on reducing the
nonperforming assets and anticipates a further reduction in this level
during the next year. If the improving trend in the loan portfolio and
the Southern California economy continues, management expects to reduce the
provision for loan losses in 1997.
The allowance for loan loss is a result of Management's analysis of the
estimated inherent losses in the Bank's loan portfolio. This analysis
takes into consideration the level and trend of loan losses, loan
delinquencies, classified loan levels and Management analysis of current
economic conditions. As an integral part of its examination process, the
Comptroller reviews the Bank's allowance. The Comptroller may require the
Bank to recognize additions to the allowance based upon judgements
different from those of Management. Management believes that the allowance
at December 31, 1996 is adequate to absorb the inherent risks in the
Company's loan portfolio. Nevertheless, due to the level of nonperforming
loans, there still exists some inherent risk in the current loan portfolio
and the improvement in the local economy could be short term. The table
below provides more specific data relative to the Company's allowance and
nonperforming assets. All dollar amounts are in thousands.
<TABLE>
<CAPTION>
DECEMBER 31, 1996 DECEMBER 31, 1995
<S> <C> <C>
Allowance for possible loan losses $1,812 $ 2,659
Loans past due 90 days or more and accruing 277 382
Nonaccrual loans 3,220 9,667
Classified loans 6,087 20,534
Troubled debt restructuring (In 1995, these loans 4,108 3,589
are included in nonaccrual and classified loans)
Other real estate owned 3,483 1,337
Allowance for possible loan losses as a percent of:
Total loans 1.7% 2.6%
Nonaccruing loans 56.3% 27.5%
Classified loans 29.8% 12.9%
Nonperforming loans and real estate owned
as a percent of total assets: 3.4% 6.3%
</TABLE>
OTHER INCOME
------------
Mortgage loan processing fees, premiums earned on the sale of mortgage
loans held for sale and SBA loans, and service charges and other fees
charged to Bank customers continue to be the primary components of other
income in 1996 and 1995. Mortgage division gross income was $11,129,000 in
1996, an increase of 95% from the 1995 gross income of $5,708,000. The
increase in the mortgage division's gross revenue was a direct result of an
increase in the volume of mortgage loans originated and sold. The
increased volume is a result of the division's continued reputation for
quality service and competitive pricing, along with a continual effort to
increase its market share within its' current market and expand into new
marketing areas. In addition, the improved state of the Southern
California marketplace, and the stable interest rate environment added to a
strong home buyer's market in 1996. Purchase money loans dominated the
Bank's mortgage loan volume in 1995 and 1996. These loans are less
volatile to changes in mortgage loan interest rates than refinancing
mortgage loans, but are more dependent on a good economy. In the fourth
quarter of 1996, the Bank opened a San Diego office of its mortgage
department which is expected to service the entire San Diego area. In
addition, the Bank has entered into an agreement with
31
<PAGE>
American Savings to process government loans which American Savings loan
officers originate through their branch system. Management believes these
two activities will increase volume further and management will continue to
explore other growth opportunities. Management anticipates at a minimum,
the 1996 level of mortgage loans originated and sold to continue into 1997.
During 1996, the Bank's SBA department had gain on the sale of SBA loans of
$463,000 compared to $240,000 in 1995. Including interest income and loan
servicing income on loans, the SBA department contributed $649,000 to
profit compared to a contribution of $232,000 in 1995. The increase in
gross income in this department is due to an increase in SBA loan activity
which is due to management's efforts to grow this department of the Bank.
During 1996, the Bank received a Preferred Lender status ("PLP") with the
Santa Ana SBA District Office and, in early 1997, received the PLP status
with both the Los Angeles and San Diego County's SBA offices. These SBA
offices cover all loans within Orange, Los Angeles, San Bernardino,
Riverside, Ventura, Santa Barbara and San Diego counties. This status
will enable the Bank to give quicker loan approval which should help
increase the Bank's sales efforts. From time to time, the government
changes its SBA policies, guidelines, and funding availability. These
changes could have a material impact on the Bank's ability to continue to
generate a profit from this department.
In addition to these increases in other income, the Company recorded gains
on the sale of other real estate owned of $472,000 during 1996 compared to
$10,000 in 1995. These gains were primarily a result of the Company
purchasing at a substantial discount two troubled real estate dependent
loans and recognizing a gain on the ultimate disposition of the real estate
secured by these loans. Management does not anticipate opportunities such
as these to occur in the future.
OTHER EXPENSES
--------------
Total other expenses were $17,513,000 in 1996, compared to other expenses
of $12,595,000 in 1995. Outside of the mortgage division, the Company's
other expenses increased $703,000 while the Bank's residential mortgage
division's expenses increased $4,215,000. The increase in the mortgage
division expenses is a direct result of the large increase in the loan
activity of the department. The increase in mortgage division expenses is
primarily due to an increase in salaries and benefits, commissions,
occupancy and other direct costs associated with the origination and sale
of mortgage loans.
Aside from the mortgage division expenses, the increase in the Company's
other operating expenses were primarily due to increases in salaries, other
real estate owned (OREO) expenses, insurance expense, and other deposit
expenses. The increase in salaries was primarily due to an employee
performance bonus plan that was put in place by the board of directors and
was based on a combination of the increase in net income of the Company
along with the reduction of nonperforming assets. The increase in OREO
expense was due to the increased level of OREO. The increase in the
insurance expense of the Company was primarily due to a $307,000 one time
special assessment which was charged to operations for the recapitalization
of the Savings Association Insurance Fund (SAIF). The Company expects to
recapture this cost over the next two years with lower SAIF deposit
insurance premiums. This one time charge was partially offset with lower
Bank Insurance Fund (BIF) deposit insurance premiums which the Bank enjoyed
for approximately three quarters of 1996. The increase in other deposit
expense is a result of the increase of noninterest bearing demand deposits
for which the Bank provides an earnings allowance and purchases external
services on behalf of these customers. The increase in these deposits was
partially offset by a decrease of the earnings allowance rate on these
deposit accounts. The decrease in occupancy costs was partially a result
of the renegotiation of the Bank's Beverly Hills lease.
32
<PAGE>
PROVISION FOR INCOME TAXES
--------------------------
The Company recognized a provision for income tax of $945,000 during 1996
compared to an income tax benefit of $98,000 in 1995. During 1996,
management eliminated the valuation allowance on deferred tax assets as
they believe that it is more likely than not that the Company's deferred
tax assets will be realized in the future. This elimination of the
valuation allowance lowered the Company's 1996 effective tax rate on the
statement of income from 41% to 21%. The Company expects to be profitable
in 1997 and expects to record a full income tax provision of 41% of the
pretax income.
LIQUIDITY
---------
Liquidity as it relates to banking, represents the ability to obtain funds
to meet loan requirements and to satisfy demand for deposit withdrawal.
The principal source of funds that provide liquidity to the Bank are cash
balances, federal funds sold, securities available for sale and a portion
of mortgage loans held for sale. The Bank's portfolio loan-to-deposit
ratio at December 31, 1996 was 60.0% as compared to 65.0% at December 31,
1995. The decrease in this ratio is the result of the increase in the
Bank's deposits of $12.7 million (8.1%) from December 31, 1995 to December
31, 1996. The Bank's residential mortgage division utilizes the Bank's
funding sources to fund its mortgage loans held for sale. During 1996, the
average time between funding and sale of a mortgage loan was 19 days.
Management can slow down or speed up the shipping and sale of these loans,
and manages the balance of the mortgage loans held for sale to match its
funds available. In this way, management maximizes the yield on its liquid
assets. In 1996, mortgage loans held for sale earned 7.8%, while federal
funds sold earned 5.2%. Due to fluctuations in funding and sale of
mortgage loans, along with changes in the deposit balances of the Bank, the
matching of liquid assets and mortgage loans held for sale is not always
achieved. At certain times during the year, the Bank utilizes its back up
borrowing relationships to help fund the mortgage loans held for sale.
These back up sources include an unsecured line of credit with its
correspondent bank, a line of credit with the Federal Home Loan Bank,
borrowings against the Bank's securities available for sale, and the use of
brokered deposits.
A large portion of the Bank's deposits consist of deposits maintained by
escrow companies and, to a lesser degree, title insurance companies. At
December 31, 1996, escrow and title insurance companies' deposits totaled
approximately $28.2 million or 16.6% of total deposits. This compared to
escrow and title insurance deposits of approximately $23.0 million or 14.5%
of total deposits at December 31, 1995. The Bank's policy is to maintain
these deposits at a level not to exceed 25% of total deposits. The Bank
monitors the deposit levels of this group closely. During the past two
years, no escrow or title insurance customer accounts for over 3% of the
Bank's total deposits. In 1996, one of the largest deposit customers of
the Bank was sold to a company which controlled another financial
institution. On January 3, 1997, the deposits of this customer, totaling
approximately $6.2 million, were transferred to the other institution.
Management does not anticipate the loss of these deposits will have a
significant impact on its operations.
Liquidity as its relates to the Bank Holding Company represents the ability
to obtain funds to support investment activities and operating needs. The
Bank Holding Company's principal sources of funds are its cash balances and
loan portfolio, as well as its ability to raise capital by selling
additional shares of common stock. Another common source of liquidity to a
bank holding company is cash dividends from its subsidiary bank. During
the fourth quarter of 1996, in order to assist the Bank with funding a loan
over the Bank's legal lending limit, the Bank Holding Company participated
in a loan with the Bank. In order to help fund this loan, on January 3,
1997, the Bank paid a $500,000 cash dividend to the Holding Company. An
additional cash dividend of up to $250,000 may be needed by the Bank
Holding Company to support its 1997 loan commitments and operating
requirements. There are no restrictions that would prohibit the Bank from
declaring this additional dividend.
33
<PAGE>
CAPITAL RESOURCES
-----------------
The capital adequacy of a financial institution is generally measured by
relating the amount of capital to total assets. Risk-based capital
guidelines require that each bank and bank holding company maintain a
minimum ratio of core capital and total capital to risk-weighted assets of
4% and 8%, respectively. Leverage capital guidelines serve as a backstop
to the risk-based capital rules, and require every bank holding company, as
well as every bank, to maintain a minimum level of equity to adjusted
assets of 4%. During 1996, the increase in the Company's stockholders
equity was proportionally more than the growth of the Company's average
assets and, therefore, the Company's capital ratios increased. During
1996, the Company's stockholder's equity increased by $3.5 million or
22.7%, while its average assets grew by $20.6 million or 12.9%. At
December 31, 1996 and 1995, the Company's and the Bank's capital ratios
were well in excess of all the minimum required levels. The federally
mandated minimum capital requirements and the actual capitalization of the
Company and the Bank are set forth below.
<TABLE>
<CAPTION>
1996 1995
---------------------- ----------------------
Pacific PNB Pacific PNB
National Financial National Financial
Regulatory Requirement Bank Group Bank Group
---------------------- --------- ---------- --------- ----------
<S> <C> <C> <C> <C> <C>
Leverage Capital Ratio 4.0% 8.8% 10.0% 7.7% 9.1%
Risk Based Capital
Tier I Capital 4.0% 12.0% 13.7% 10.4% 12.3%
Total Capital 8.0% 13.3% 14.9% 11.7% 13.4%
</TABLE>
Item 7. FINANCIAL STATEMENTS
- ----------------------------
The table below indicates the pages in this report where the 1996 and 1995
consolidated financial statements of PNB Financial Group and the 1996 and
1995 report of McGladrey & Pullen, LLP independent auditors, are located.
<TABLE>
<CAPTION>
Page(s)
-------
<S> <C>
Report of Independent Auditors for 1996 and 1995 35
Consolidated Balance Sheets 36
Consolidated Statements of Income 37
Consolidated Statements of Stockholders' Equity 38
Consolidated Statements of Cash Flows 39
Notes to Consolidated Financial Statements 40-63
</TABLE>
34
<PAGE>
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors
PNB Financial Group
Newport Beach, California
We have audited the accompanying consolidated balance sheets of PNB Financial
Group and subsidiary as of December 31, 1996 and 1995, and the related
consolidated statements of income, stockholders' equity and cash flows for the
years then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstate ment. An audit includes examining on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of PNB Financial Group
and subsidiary as of December 31, 1996 and 1995, and the results of their
operations and their cash flows for the years then ended in conformity with
generally accepted accounting principles.
/s/ McGladrey & Pullen, LLP
Anaheim, California
January 22, 1997
35
<PAGE>
PNB FINANCIAL GROUP
CONSOLIDATED BALANCE SHEETS
December 31, 1996 and 1995
<TABLE>
<CAPTION>
ASSETS 1996 1995
- ------------------------------------------------------------------------------------------------------
<S> <C> <C>
Cash and Due from Banks (Note 14) $ 12,700,000 $ 13,814,000
Federal Funds Sold 6,000,000 2,500,000
------------------------------
TOTAL CASH AND CASH EQUIVALENTS 18,700,000 16,314,000
Securities Available-for-Sale (Notes 2 and 6) 7,381,000 10,626,000
Mortgage Loans Held-for-Sale (Note 3) 62,620,000 41,968,000
Loans, net of allowance for loan losses 1996 $1,812,000;
1995 $2,659,000 (Notes 3, 5 and 6) 102,414,000 101,078,000
Premises and Equipment (Note 4) 1,150,000 1,340,000
Other Real Estate Owned 3,483,000 1,337,000
Other Assets (Note 9) 2,450,000 2,129,000
------------------------------
TOTAL ASSETS $ 198,198,000 $ 174,792,000
==============================
LIABILITIES AND STOCKHOLDERS' EQUITY
- ------------------------------------------------------------------------------------------------------
Deposits (Note 5)
Noninterest bearing $ 70,754,000 $ 61,757,000
Interest bearing 99,285,000 95,546,000
------------------------------
TOTAL DEPOSITS 170,039,000 157,303,000
Line of Credit (Note 5) 7,000,000 --
Other Liabilities (Note 3) 2,476,000 2,261,000
------------------------------
TOTAL LIABILITIES 179,515,000 159,564,000
------------------------------
Commitments and Contingencies (Notes 3, 6 and 14)
Stockholders' Equity (Notes 7 and 14)
Common stock, no par value; 20,000,000 shares authorized;
2,170,783 and 2,187,933 shares issued and outstanding
at December 31, 1996 and 1995, respectively 16,012,000 16,134,000
Retained earnings (deficit) 2,734,000 (822,000)
Unrealized loss on securities available-for-sale, net (Note 2) (63,000) (84,000)
------------------------------
TOTAL STOCKHOLDERS' EQUITY 18,683,000 15,228,000
------------------------------
$ 198,198,000 $ 174,792,000
==============================
</TABLE>
See Notes to Consolidated Financial Statements.
36
<PAGE>
PNB FINANCIAL GROUP
CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED DECEMBER 31, 1996 AND 1995
<TABLE>
<CAPTION>
1996 1995
- ------------------------------------------------------------------------------------------------
<S> <C> <C>
Interest Income (Note 8) $ 13,978,000 $ 12,906,000
Interest Expense on Deposits (Note 8) 3,888,000 3,404,000
------------------------------
NET INTEREST INCOME 10,090,000 9,502,000
Provision for Loan Losses (Note 3) 903,000 1,503,000
------------------------------
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 9,187,000 7,999,000
------------------------------
Other Income
Commissions and other revenue from mortgage
banking operations (Note 10) 11,129,000 5,708,000
Service charges, fees and other (Note 2) 1,235,000 591,000
Gain on sale of SBA loans (Note 3) 463,000 240,000
------------------------------
12,827,000 6,539,000
------------------------------
Other Expenses
Mortgage banking operations (Notes 3 and 10) 8,390,000 4,175,000
Salaries and employee benefits 3,953,000 3,635,000
Occupancy (Note 6) 1,538,000 1,675,000
Other deposit expense (Note 5) 1,039,000 944,000
Other expenses (Note 8) 2,593,000 2,166,000
------------------------------
17,513,000 12,595,000
------------------------------
INCOME BEFORE PROVISION (BENEFIT)
FOR INCOME TAXES 4,501,000 1,943,000
Provision (Benefit) for Income Taxes (Note 9) 945,000 (98,000)
------------------------------
NET INCOME $ 3,556,000 $ 2,041,000
==============================
Earnings per Common and Common Equivalent
Share, primary and fully diluted $ 1.57 $ 0.91
==============================
</TABLE>
See Notes to Consolidated Financial Statements.
37
<PAGE>
PNB FINANCIAL GROUP
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Years Ended December 31, 1996 and 1995
<TABLE>
<CAPTION>
Unrealized
Loss on
Common Stock Retained Securities Total
------------------------------- Earnings Available- Stockholders'
Shares Amount (Deficit) for-Sale, net Equity
- -----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1994 2,186,933 $16,129,000 $(2,863,000) $(1,009,000) $12,257,000
Exercise of stock options 1,000 5,000 - - 5,000
Decrease in unrealized
loss on securities
available-for-sale, net - - - 925,000 925,000
Net income - - 2,041,000 - 2,041,000
------------------------------------------------------------------------------------------
Balance, December 31, 1995 2,187,933 16,134,000 (822,000) (84,000) 15,228,000
Exercise of stock options 7,500 29,000 - - 29,000
Repurchase of common
stock (24,650) (151,000) - - (151,000)
Decrease in unrealized
loss on securities
available-for-sale, net - - - 21,000 21,000
Net income - - 3,556,000 - 3,556,000
------------------------------------------------------------------------------------------
Balance, December 31, 1996 2,170,783 $16,012,000 $2,734,000 $(63,000) $18,683,000
==========================================================================================
</TABLE>
See Notes to Consolidated Financial Statements.
38
<PAGE>
PNB FINANCIAL GROUP
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 1996 and 1995
<TABLE>
<CAPTION>
1996 1995
- ------------------------------------------------------------------------------------------------
<S> <C> <C>
Cash Flows from Operating Activities
Net income $ 3,556,000 $ 2,041,000
Adjustments to reconcile net income to net cash
used in operating activities:
Depreciation and amortization 585,000 568,000
Provision for loan losses 903,000 1,503,000
Provision for indemnification losses 1,080,000 385,000
Gain on sale of other real estate owned (472,000) (10,000)
Change in other assets and liabilities, net (1,573,000) 1,014,000
Proceeds from sale of mortgage loans held-for-sale 794,366,000 336,694,000
Origination of mortgage loans held-for-sale (815,018,000) (366,214,000)
------------------------------------
Net cash used in operating activities (16,573,000) (24,019,000)
------------------------------------
Cash Flows from Investing Activities
Proceeds from sale of available-for-sale securities 3,052,000 7,628,000
Proceeds from maturities of available-for-sale securities 1,000,000 1,749,000
Purchase of available-for-sale securities (830,000) -
Net change in loans (6,178,000) 1,829,000
Proceeds from sale of other real estate owned 2,329,000 1,590,000
Acquisitions of premises and equipment (380,000) (148,000)
------------------------------------
Net cash provided by (used in)
investing activities (1,007,000) 12,648,000
------------------------------------
Cash Flows from Financing Activities
Proceeds from borrowings on notes payable 15,360,000 -
Payments on notes payable (8,009,000) -
Net change in deposits 12,737,000 14,844,000
Sale of common stock 29,000 5,000
Repurchase of common stock (151,000) -
------------------------------------
Net cash provided by financing activities 19,966,000 14,849,000
------------------------------------
Net increase in cash and cash equivalents 2,386,000 3,478,000
Cash and Cash Equivalents
Beginning of year 16,314,000 12,836,000
------------------------------------
End of year $ 18,700,000 $ 16,314,000
====================================
</TABLE>
Supplemental Disclosures (Note 13)
See Notes to Consolidated Financial Statements.
39
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
1. Nature of Banking Activities and Significant Accounting Policies
Nature of business:
PNB Financial Group is a bank holding company whose wholly-owned subsidiary,
Pacific National Bank, provides bank related services including the granting of
commercial, real estate, installment, construction, and Small Business
Administration (SBA) loans, mortgage brokerage and mortgage banking services to
customers.
A summary of the Company's significant accounting policies are as follows:
Use of estimates in the preparation of financial statements:
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosures of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Principles of consolidation:
The consolidated financial statements include the accounts of PNB Financial
Group (the Company) and its wholly-owned subsidiary, Pacific National Bank (the
Bank). All significant intercompany balances have been eliminated in
consolidation.
Cash and cash equivalents:
For purposes of reporting cash flows, the Company considers all highly liquid
debt instruments purchased with a maturity of three months or less and federal
funds sold to be cash equivalents. The Company has deposits at other banks in
excess of insured limits and federal funds sold are all to one institution.
40
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 1. Nature of Banking Activities and Significant Accounting Policies
(Continued)
Securities available-for-sale:
Securities classified as available-for-sale are those debt securities that the
Company intends to hold for an indefinite period of time, but not necessarily to
maturity and equity securities in the Federal Home Loan Bank and the Federal
Reserve Bank which is a required investment to acquire membership privileges in
those institutions. Any decision to sell a security classified as available-
for-sale would be based on various factors, including significant movements in
interest rates, changes in the maturity mix of the Company's assets and
liabilities, liquidity needs, regulatory capital considerations and other
similar factors. Securities available-for-sale are carried at fair value.
These fair values are based on quoted prices when such quotes are available. In
the absence of quoted market prices, securities are priced based on prices
obtained from certain brokers who estimate the fair value based upon quoted
prices for similar securities. There can be no assurance that prices estimated
for such securities can be realized upon ultimate sale. Unrealized gains or
losses are reported as increases or decreases in stockholders' equity, net of
any related deferred tax effect. Realized gains or losses, determined on the
basis of the cost of specific securities sold, are included in earnings.
Mortgage loans held-for-sale:
Mortgage loans held-for-sale are reported at the lower of cost or fair value
which is computed by the aggregate method. Gains and losses on the sale of
mortgage loans are adjusted by gains and losses generated from corresponding
hedging transactions entered into to protect the mortgage loan inventory value
from fluctuations in interest rates. Hedge positions are also maintained to
protect the pipeline of loan applications in process from changes in interest
rates. Gains and losses which occur during the commitment and warehousing
period related to the pipeline and mortgage loans held-for-sale are recognized
in the period loans are sold. Unrealized hedging losses are recognized
currently if deferring such losses would result in mortgage loans held-for-sale
and the pipeline being valued in excess of their estimated fair value. Interest
income on these loans is accrued daily. Loan origination fees and cost are
deferred and recognized as income or expense when the loan is sold.
Loans:
Loans are stated at amounts advanced less payments received, unearned fees and
loan discounts. Impaired loans are measured based on the present value of
expected future cash flows discounted at the loan's effective interest rate, or
as an expedient at the loan's observable market price or the fair value of the
collateral less estimated selling cost if the loan is collateral dependent. A
loan is impaired when it is probable the creditor will be unable to collect all
contractual principal and interest payments due in accordance with the terms of
the loan agreement. Interest income on loans is accrued daily except where
reasonable doubt exists as to the collectibility of the interest, in which case
the accrual of interest income is discontinued. The Company's current policy is
generally to cease accruing interest and to charge off all accrued and unpaid
interest on loans which are past due as to principal and/or interest for 90
days, or at an earlier time, if management determines timely collection of
interest is in doubt. Loan origination fees and certain incremental direct
costs relating to loan originations are deferred and amortized over the life of
the loan. Discounts on loans purchased are credited to income over the life of
the loan using the interest method.
41
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 1. Nature of Banking Activities and Significant Accounting Policies
(Continued)
Loans (continued):
The adequacy of the allowance for loan losses is determined by management based
on a number of factors, including historical loan loss experience (migration
analysis), changes in the nature and volume of the loan portfolio, review of
problem loans, quality of the overall portfolio and current economic conditions.
While management uses the best information available to provide for possible
losses, future adjustments to the allowance may be necessary due to economic,
operating, regulatory or other conditions that may be beyond the Company's
control. Loans considered uncollectible are charged to the allowance for loan
losses and subsequent recoveries are added to the allowance.
Premises and equipment:
Premises and equipment are stated at cost, less accumulated depreciation and
amortization which is charged to expense on a straight-line basis over the
estimated useful lives of the assets. The useful life of equipment is estimated
to be from three years to five years. Improvements to leased property are
amortized over the lesser of the term of the lease or life of the improvements.
Other real estate owned:
Other real estate owned, which represents real estate acquired in settlement of
loans, is held-for-sale and is recorded at the lower of cost or fair value less
estimated cost of disposal. Any write-down to fair value at the time of
transfer to other real estate owned is charged to the allowance for loan losses.
Any subsequent operating expenses or income, reduction in estimated fair values,
or gains or losses on disposition of such properties are charged or credited to
current operations. Other real estate owned is evaluated regularly by
management and reductions of the carrying amounts are recorded as necessary.
Income taxes:
Deferred taxes are provided on a liability method whereby deferred tax assets
are recognized for deductible temporary differences and operating loss
carryforwards and deferred tax liabilities are recognized for taxable temporary
differences. Temporary differences are the differences between the reported
amounts of assets and liabilities and their tax bases. Deferred tax assets are
reduced by a valuation allowance when, in the opinion of management, it is more
likely than not that some portion or all of the deferred tax assets will not be
realized. Deferred tax assets and liabilities are adjusted for the effects of
changes in tax laws and rates on the date of enactment.
42
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 1. Nature of Banking Activities and Significant Accounting Policies
(Continued)
Earnings per common and common equivalent share:
Earnings per common and common equivalent share are determined by dividing net
income by the weighted average number of common and common equivalent shares
outstanding during the year. Dilutive common stock equivalents related to the
stock options were determined using the treasury stock method. Earnings per
common and common equivalent share assuming full dilution are the same as
primary earnings per common and common equivalent share.
The weighted average shares outstanding for computing primary and fully diluted
earnings per share were 2,263,371 and 2,271,423, respectively, for the year
ended December 31, 1996 and 2,269,591 and 2,277,600, respectively, for the year
ended December 31, 1995.
Interest rate exchange agreements:
Interest rate exchange agreements (swaps) used in asset/liability management
activities are accounted for using the accrual method. Net interest income
(expense) resulting from the differential between exchanging floating and fixed
rate interest payments is recorded on an accrual basis.
Reclassification:
Certain reclassifications have been made to the 1995 financial statements, with
no effect on net income or stockholders' equity, to conform to the 1996
financial statement presentation.
Recent accounting developments:
Accounting for stock-based compensation:
Effective January 1, 1996, the Company adopted Financial Accounting Standards
Board (FASB) Statement No. 123, "Accounting for Stock-Based Compensation".
Statement No. 123, establishes financial accounting and reporting standards for
stock-based employee compensation plans such as a stock purchase plan. The
Statement generally suggests, but does not require, stock-based compensation
transactions with employees be accounted for based on the fair value of the
consideration received or the fair value of the equity instruments issued,
whichever is more reliably measurable. An enterprise may continue to follow the
requirements of Accounting Principles Board (APB) Opinion No. 25, which does not
require compensation to be recorded if the consideration to be received is at
least equal to the fair value at the measurement date. If an enterprise elects
to follow APB Opinion No. 25, it must disclose the pro forma effects on net
income as if compensation were measured in accordance with the suggestions of
Statement No. 123. Nonemployee stock-based transactions occurring after
December 15, 1995 must be accounted for at fair value. The Company has
determined that it will continue to follow the measurement principles of APB
Opinion No. 25 for stock-based employee compensation, therefore, adoption of
this pronouncement did not have an impact on the financial statements.
43
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 1. Nature of Banking Activities and Significant Accounting Policies
(Continued)
Accounting for transfers and servicing of financial assets:
The FASB has issued Statement No. 125, "Accounting for Transfers and Servicing
of Financial Assets and Extinguishment of Liabilities", which becomes effective
for transactions occurring after December 31, 1996. The Statement does not
permit earlier or retroactive application. The Statement distinguishes
transfers of financial assets that are sales from transfers that are secured
borrowings. A transfer of financial assets in which the transferor surrenders
control over those assets is accounted for as a sale to the extent that
consideration other than beneficial interests in the transferred assets is
received in exchange. The Statement also establishes standards on the initial
recognition and measurement of servicing assets and other retained interests and
servicing liabilities, and their subsequent measurement.
The Statement requires that debtors reclassify financial assets pledged as
collateral and that secured parties recognize those assets and their obligation
to return them in certain circumstances in which the secured party has taken
control of those assets. In addition, the Statement requires that a liability
be derecognized only if the debtor is relieved of its obligation through payment
to the creditor or by being legally released from being the primary obligor
under the liability either judicially or by the creditor.
In December 1996, FASB issued Statement No. 127 which amended Statement No. 125
by delaying the effective date of certain portions of the Statement for one
year.
Management does not believe the application of these Statements to transactions
of the Company that have been typical in the past will materially affect the
Company's financial position and results of operations.
Note 2. Investment Securities Available-for-Sale
Securities available-for-sale as of December 31, 1996 and 1995 consist of the
following:
<TABLE>
<CAPTION>
1996
--------------------------------------------------------------------------
Amortized Unrealized Unrealized
Cost Gains Losses Fair Values
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. treasury securities $ 1,202,000 $ - $ (17,000) $ 1,185,000
U.S. government agencies
securities 2,112,000 $ - (16,000) 2,096,000
Mortgaged backed securities 3,004,000 $ - (74,000) 2,930,000
Federal Reserve Bank stock 340,000 $ - 340,000
Federal Home Loan Bank stock 830,000 $ - 830,000
--------------------------------------------------------------------------
$ 7,488,000 $ - $ (107,000) $ 7,381,000
==========================================================================
</TABLE>
44
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 2. Investment Securities Available-for-Sale (Continued)
<TABLE>
<CAPTION>
1995
-----------------------------------------------------------------
Amortized Unrealized Unrealized
Cost Gains Losses Fair Values
- --------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. treasury securities $ 4,753,000 $ 1,000 $(20,000) $ 4,734,000
U.S. government agencies
securities 2,247,000 - (26,000) 2,221,000
Mortgaged backed securities 3,370,000 12,000 (51,000) 3,331,000
Federal Reserve Bank stock 340,000 - - 340,000
-----------------------------------------------------------------
$10,710,000 $13,000 $(97,000) $10,626,000
=================================================================
</TABLE>
The amortized cost and fair value of securities available-for-sale as of
December 31, 1996 by contractual maturity are shown below. Maturities may
differ from contractual maturities in mortgage backed securities because the
mortgages underlying the securities may be called or repaid without any
penalties. Therefore, these securities are not included in the maturity
categories in the following maturity summary:
<TABLE>
<CAPTION>
Amortized
Cost Fair Value
- ----------------------------------------------------------------------------
<S> <C> <C>
Due in one year or less $2,263,000 $2,246,000
Due after one year through five years 1,051,000 1,035,000
Mortgage backed securities 3,004,000 2,930,000
Bank stocks 1,170,000 1,170,000
--------------------------
$7,488,000 $7,381,000
==========================
</TABLE>
Gross realized losses from the sale of securities available-for-sale were $1,000
and $51,000 for the years ended December 31, 1996 and 1995, respectively. There
were no gross realized gains on the sale of securities available-for-sale for
the years ended December 31, 1996 and 1995. As of December 31, 1996 and 1995,
securities available-for-sale with a fair value of $2,650,000 and $1,450,000,
respectively, were pledged as collateral for various purposes as required or
permitted by law (Note 6).
45
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 3. Loans
Loan portfolio composition:
The composition of the Company's loan portfolio as of December 31, 1996 and 1995
are as follows:
<TABLE>
<CAPTION>
1996 1995
- --------------------------------------------------------------------
<S> <C> <C>
Commercial $ 38,666,000 $ 47,291,000
Real estate and construction 57,857,000 46,985,000
Consumer 7,703,000 9,461,000
Allowance for loan losses (1,812,000) (2,659,000)
-------------------------------
$ 102,414,000 $ 101,078,000
===============================
</TABLE>
Loans have been recorded net of purchase discounts of $598,000 and $729,000 and
net deferred origination fees of $158,000 and $69,000 as of December 31, 1996
and 1995, respectively. Such amounts will be amortized to income over the lives
of the loans.
A majority of the Bank's commercial and consumer loan portfolio is with
customers located in California throughout its primary market area of Orange and
Los Angeles Counties. The Bank grants commercial and consumer loans to
borrowers in a number of different industries.
The Bank's real estate and construction loan portfolio consists of loans on real
estate located throughout Southern California. Prior to 1996, several areas
throughout Southern California have experienced adverse economic conditions,
including declining real estate values. These factors adversely affected
borrowers' ability to repay. Over the last two years the Southern California
economy has shown signs of improvement, although management believes the level
of its allowance for loan losses and the carrying value of its other real estate
owned as of December 31, 1996 is appropriate, a return to depressed economic
conditions in Southern California may result in losses that cannot be reasonably
predicted at this time. In addition, various regulatory agencies as an integral
part of their examination process periodically review the Bank's allowance for
loan losses. Such agencies may require the Bank to recognize additions to the
allowance based on judgments different from those of management.
Allowance for loan losses:
The following is a summary of transactions affecting the allowance for loan
losses for the years ended December 31:
<TABLE>
<CAPTION>
1996 1995
- ----------------------------------------------------------------
<S> <C> <C>
Balance, beginning $ 2,659,000 $ 2,727,000
Provision for loan losses 903,000 1,503,000
Amounts charged off (2,055,000) (1,745,000)
Recoveries 305,000 174,000
-----------------------------
Balance, ending $ 1,812,000 $ 2,659,000
=============================
</TABLE>
46
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 3. Loans (Continued)
SBA loans:
The Bank sells the guaranteed portion of substantially all of its Small Business
Administration (SBA) loans it originates in the secondary market. The Bank
sells these to generate sales premiums and servicing income along with providing
additional funds for lending. Under such agreements, the Bank continues to
service the loans and the buyer receives the principal collected together with
interest. In connection with these sales, the Bank serviced approximately
$13,619,000 and $10,847,000 of SBA loans for others as of December 31, 1996 and
1995, respectively, which are not included in the accompanying balance sheets.
Gains and losses on sales of SBA loans are calculated on a predetermined formula
in compliance with Emerging Issues Task Force 88-11 based on the difference
between the selling price and the book value of the loans sold. Any inherent
risk of loss on loans is transferred to the buyer at the date of sale on the
portion of the loan sold. However, the Bank maintains the risk on the portion
retained. At December 31, 1996 and 1995, $189,000 and $182,000, respectively,
of net deferred gains relating to the sale of SBA loans is included in loans.
The Bank has issued various representations and warranties associated with the
sale of SBA loans. These representations and warranties may require the Bank to
repurchase loans for a period of 90 days after the date of sale as defined per
the applicable sales agreement. The Bank experienced no losses during the years
ended December 31, 1996 and 1995 regarding these representations and warranties.
The Bank's SBA department, together with the residential mortgage division,
utilize federal governmental agencies in providing loans to its customers. On
two occasions in November and December 1995, the U.S. Federal Government was
forced to shut down various nonessential agencies due to the federal budget
impasse. During these two occasions, the SBA department and Housing and Urban
Development ("HUD") were shut down. A prolonged shutdown of these departments
could have a material effect on the Bank's ability to guarantee and/or insure
SBA loans and FHA/VA loans. This inability may lead to the Bank limiting or
temporarily stopping these lending programs which could have a material effect
on the operation of the Bank's SBA department and residential mortgage loan
department.
The Bank's SBA department is substantially impacted by the policies, guidelines
and funding availability established by the U.S. Government's SBA.
Periodically, Congress sets the amount of SBA funds available and changes the
fees charged by the SBA. The level of funding and changes to the fee structure
could severely effect the operation of the Bank's SBA department.
Nonaccrual and impaired loans:
Loans on which the accrual of interest has been discontinued amounted to
$3,220,000 and $9,667,000 at December 31, 1996 and 1995, respectively. If
nonaccrual loans had been maintained in accordance with their terms, additional
interest income of approximately $343,000 ($.15 per primary common share) and
$650,000 ($.29 per primary common share) would have been recorded during the
years ended December 31, 1996 and 1995, respectively.
47
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 3. Loans (Continued)
Nonaccrual and impaired loans (continued):
Impaired loans having recorded investments of $3,220,000 and $9,021,000 at
December 31, 1996 and 1995, respectively, have been recognized in conformity
with FASB Statement No. 114 as amended by FASB Statement No. 118. The total
allowance for loan losses related to these loans was $397,000 and $1,511,000 at
December 31, 1996 and 1995, respectively. Impaired loans for which there is no
specific allowance for loan losses at December 31, 1996 and 1995 is $721,000 and
$445,000, respectively. The average recorded investment for all impaired loans
during 1996 and 1995 was $6,333,000 and $7,592,000, respectively. Interest
income of $120,000 and $117,000 was recognized on impaired loans in 1996 a nd
1995, respectively, all of which was recognized using a cash-basis method of
accounting during the time within that period that the loans were impaired.
Mortgage loans held-for-sale:
In the ordinary course of business, the Bank has liability under representations
and warranties made to purchasers and insurers of mortgage loans. Under certain
circumstances, the Bank may become liable for the unpaid principal and interest
on defaulted loans (whether recourse or nonrecourse) or other loans if there has
been a breach of representations or warranties. The Bank has had no material
losses from breaches of representations and warranties.
Until September 30, 1996, substantially all mortgage loans were sold with a
recourse provision. After October 1, 1996, the majority of the loans sold were
without a recourse provision. The Bank has different recourse provisions with
each investor. Generally, loans sold under the recourse provision are required
to be purchased back by the Bank if the loan becomes delinquent within two to
six months of funding. The Bank has the choice to not purchase the loan, but to
indemnify the investor for any and all costs associated with the investors
collection of the loan. During 1996, the Bank chose to indemnify the majority of
the loans subject to a recourse provision. The Bank estimates its loss exposure
to loans sold under the recourse provision and has recorded a loss estimate at
December 31, 1996 and 1995. The following is a summary of transactions
affecting this reserve for the years ended December 31, 1996 and 1995:
<TABLE>
<CAPTION>
1996 1995
- ----------------------------------------------------------------------------------------
<S> <C> <C>
Balance, beginning $ 232,000 $ 246,000
Provision for losses, included in
mortgage banking operations expenses 1,080,000 385,000
Amounts charged to reserve, net of any recoveries (851,000) (399,000)
-------------------------
Balance, ending $ 461,000 $ 232,000
-------------------------
</TABLE>
48
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 3. Loans (Continued)
Related party loans:
Certain stockholders of the Company, officers and directors of the Company and
the Bank, including their families and companies of which they are principal
owners, are considered to be related parties. These related parties were loan
customers of, and had other transactions with, the Company and the Bank in the
ordinary course of business. In management's opinion, these loans and
transactions were on the same terms as those for comparable loans and
transactions with nonrelated parties. The activity in related party loans for
the year ended December 31, 1996 is as follows:
- --------------------------------------------------------------------------------
<TABLE>
<S> <C>
Balance, beginning $ 5,986,000
Additional advances 2,053,000
Repayments (3,074,000)
Loans no longer with related parties (4,000)
-----------
Balance, ending $ 4,961,000
===========
Maximum balance during the year (month-end balances) $ 5,730,000
===========
</TABLE>
At the end of the year in the table above, none of the loans were past due,
impaired, on nonaccrual, or restructured to provide a reduction or deferral of
interest or principal because of deterioration in the financial position of the
borrower.
4. Premises and Equipment
Components of premises and equipment are as follows at December 31:
<TABLE>
<CAPTION>
1996 1995
- ----------------------------------------------------------------------------
<S> <C> <C>
Furniture, fixtures and equipment $ 2,442,000 $ 3,659,000
Leasehold improvements 1,402,000 1,470,000
------------------------------
3,844,000 $ 5,129,000
Accumulated depreciation and amortization (2,694,000) (3,789,000)
------------------------------
$ 1,150,000 $ 1,340,000
==============================
</TABLE>
49
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 5. Deposits and Line of Credit
Deposits:
The composition of the Company's interest bearing deposits as of December 31,
1996 and 1995 is as follows:
<TABLE>
<CAPTION>
1996 1995
- -------------------------------------------------------------------------------------
<S> <C> <C>
Demand $49,720,000 $47,983,000
Savings 5,390,000 5,131,000
Time certificates of deposit of 24,976,000 20,453,000
$100,000 or more
Other time deposits 19,199,000 21,979,000
----------------------------
$99,285,000 95,546,000
============================
</TABLE>
As of December 31, 1996 and 1995, approximately $25,000,000 and $23,000,000,
respectively, of the Bank's noninterest bearing demand deposits consist of
demand accounts currently maintained by title insurance, escrow and property
management companies. The Bank provides an earnings allowance for these
customers and purchases external services on behalf of these customers based on
the amount of the earnings allowance less any internal charges incurred. These
externa l services, which are commonly offered in the banking industry, include
courier, bookkeeping and payroll accounting services. The expense of these
external services totaled $1,039,000 and $944,000 for the years ended December
31, 1996 and 1995, respectively, is classified as other deposit expense in the
accompanying consolidated statements of income.
In December 1996, the Bank obtained deposits through brokers in order to fund a
portion of its mortgage loans held-for-sale. At December 31, 1996, the Bank had
$1,692,000 of these deposits.
In 1996, a large customer of the Bank was sold and on January 3, 1997 their
deposits were transferred to another institution. These deposits totaled
approximately $6.2 million. At December 31, 1996, management does not
anticipate the loss of this customer will have a significant impact on its
operations.
Line of credit:
The Bank has a line of credit with the Federal Home Loan Bank (FHLB).
Borrowings on the line are collateralized by certain loans with a carrying value
totaling $17,658,000 at December 31, 1996. Borrowings bear interest at the FHLB
daily reference rate (7.08% at December 31, 1996 with an average rate for the
month of December 1996 of 5.93%). The maximum amount the Bank may borrow under
this agreement is limited to the lesser of the eligible collateral and borrowing
base established in the agreement or 25% of the Bank's total assets. At
December 31, 1996, the maximum available was $7,290,000 of which $7,000,000 was
outstanding.
50
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 6. Commitments and Contingencies
Operating leases:
At December 31, 1996, all of the Company's operations are conducted in leased
facilities under noncancelable operating leases expiring at various dates
through 2006. Several of the leases contain options to extend the lease terms
which range from five to fifteen years. The Company incurred rental expense of
$1,025,000 and $1,037,000, during the years ended December 31, 1996 and 1995,
respectively.
The future minimum lease payments required under operating leases total
$3,037,000 and are due in the years ending: 1997 $1,020,000; 1998 $926,000;
1999 $587,000; 2000 $504,000; 2001 $504,000; and thereafter $1,996,000.
Financial instruments with off-balance sheet risk:
In the normal course of business, the Bank is a party to financial instruments
with off-balance sheet risk to meet the financing needs of its customers. These
financial instruments include unfunded commitments to extend credit and
obligations under standby letters of credit. Such financial instruments are
recorded in the financial statements when they are funded. These instruments
involve, to varying degrees, elements of credit and interest rate risk in excess
of the amount recognized in the consolidated balance sheets. The Bank's
exposure to credit loss in the event of nonperformance by the other party as a
result of commitments to extend credit and obligations under standby letters of
credit is represented by the contractual amount of those instruments. At
December 31, 1996 and 1995 the Bank had unfunded commitments related to its
portfolio loans to extend credit of $24,442,000 and $19,231,000 and obligations
under standby letters of credit of $635,000 and $492,000, respectively.
These commitments to extend credit are agreements to lend to a customer as long
as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses.
Since many of the commitments are expected to expire without being drawn down,
the total commitment amounts do not necessarily represent future cash
requirements.
Standby letters of credit are conditional commitments issued by the Bank to
guarantee the performance of a customer to a third party. All standby letters
of credit issued by the Bank are for a fixed period not to exceed one year.
The Bank uses the same credit policies in making commitments and conditional
obligations as it does for extending loan facilities to customers. The Bank
evaluates each customer's credit worthiness on a case-by-case basis. The amount
of collateral obtained, if deemed necessary by the Bank upon extension of
credit, is based on management's credit evaluation of the counterparty.
Collateral held varies but may include cash, accounts receivable, inventories,
property, plant and equipment, and residential and commercial properties.
51
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 6. Commitments and Contingencies (Continued)
Financial instruments with off-balance sheet risk (continued):
The Bank enters into financial arrangements to mitigate the exposure of
fluctuating interest rates in the normal course of business through origination
and selling of mortgage loans. These financial instruments include commitments
to fund mortgage loans and mandatory forward commitments. These instruments
involve, to varying degrees, elements of credit and interest rate risk. Credit
risk is managed by the Bank by entering into agreements with Wall Street
investment bankers and with investors meeting the credit standards of the Bank.
At any time, the exposure to the Bank, in the event of default by the
counterparty under a mandatory forward commitment is the difference between the
contract price and current market value, which amount would only be a fractional
percentage of the outstanding commitments.
Until a rate commitment is extended by the Bank to a mortgage broker/borrower,
there is no market interest rate risk to the Bank. The Bank reduces interest
rate exposure by limiting these rate commitments to varying periods of less than
sixty days. Loans in process for which interest rates were committed to the
mortgage broker/borrower totaled $27,174,000 as of December 31, 1996. These
commitments as well as $22,989,000 of uncommitted mortgage loans held-for-sale
are hedged by the Bank by entering into mandatory forward commitments.
At December 31, 1996, the Bank had $43,000,000 of mandatory forward commitments
to sell whole loans relating to their unfunded pipeline of rate-locked loans and
loans held-for-sale uncommitted to investors. Gains and losses on mandatory
forward commitments are realized in the period settlement occurs. Unrealized
gains and losses on forward commitments are included in the analysis of lower of
cost or market valuation for mortgage loans held-for-sale. At December 31,
1996, the unrealized gain on the Bank's mandatory forward commitments was
$270,000. The Bank has also committed to sell loans that have already been
funded that are pending purchases by an investor. The total amount of such
committed loans at December 31, 1996 was $38,690,000.
Interest rate swap:
In April 1996, the Bank entered into an interest rate swap agreement with a
total notional principal amount of $20,000,000. Management entered into the
agreement to reduce the impact of changes in interest rates on its balance
sheet. The agreement effectively transfers interest rate risk on the excess of
interest bearing assets over interest bearing liabilities. The agreement
provides for the Bank to pay a fixed rate on the notional amount with the
counterparty paying a variable rate of prime. The agreement terminates in April
1998 and requires the Bank to maintain collateral with the counterparty totaling
4% of the notional amount. In accordance with the agreement, $808,000 of
securities were pledged at December 31, 1996 by the Bank with a similar amount
being pledged by the counterparty.
52
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 7. Stockholders' Equity
Stock option plans:
During 1995, the Company's 1985 Incentive Stock Option Plan and the 1985
Nonqualified Stock Option Plan expired. As of December 31, 1996, options for
42,750 and 243,500 shares, respectively, of the Company's common stock were
outstanding under these Plans. In 1995, the Company adopted a 1995 Incentive
Stock Option Plan which provides for a maximum of 50,000 options to be granted.
As of December 31, 1996, 8,500 options under the 1995 Plan have been granted.
Under terms of the incentive and nonqualified stock option plans, options of the
Company's common stock may be gr anted to officers, key employees and directors
of the Company and the Bank, and others. Under the plans, options are granted
with an exercise price not less than fair market value of the common stock at
the date the options are granted. All options expire ten years from the date of
grant, and are 100% vested and available for exercise at the date of grant.
A summary of the status of the stock option plans at December 31, 1996 and 1995
and changes during the years ended on those dates is as follows:
<TABLE>
<CAPTION>
1996 1995
- ------------------------------------------------------------------------------------------------------------------------------------
Weighted- Weighted-
Average Average
Exercise Exercise
Shares Price Shares Price
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Outstanding, beginning of year 295,750 $3.52 283,250 $3.50
Granted 8,500 7.44 44,000 3.65
Exercised (7,500) 3.83 (1,000) 4.50
Expired (2,000) 3.50 (30,500) 3.50
------- -------
Outstanding, end of year 294,750 $3.62 295,750 $3.52
------- -------
</TABLE>
53
<PAGE>
PNB FINANCIAL GROUP
NOTES CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 7. Stockholders' Equity (Continued)
A further summary about options outstanding at December 31, 1996 is as follows:
<TABLE>
<CAPTION>
Weighted-
Average
Remaining
Number Contractual
Exercise Prices Outstanding Life
- --------------------------------------------------------------------------------
<S> <C> <C>
3.50 283,250 7 years
4.50 3,000 9
7.00 6,000 10
8.50 2,500 10
-------
294,750 7.3 years
=======
</TABLE>
The Company applies APB Opinion 25, "Accounting for Stock Issued to Employees,"
and related Interpretations in accounting for its plans. Accordingly, no
compensation cost has been recognized. The Company has elected not to adopt
FASB Statement No. 123, "Accounting for Stock-Based Compensation." Had
compensation cost for the Company's stock option plan been determined based on
the fair value at the grant dates for awards under this plan consistent with the
method of Statement No. 123, the Company's net income and earnings per common
and common equivalent share would have been reduced to the pro forma amounts
indicated below:
<TABLE>
<CAPTION>
1996 1995
- ----------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net income As reported $3,556,000 $2,041,000
Pro forma 3,546,000 1,985,000
Earnings per common and common
equivalent share, primary and
fully diluted As reported $ 1.57 $ 0.91
Pro forma 1.57 0.88
</TABLE>
The proforma compensation cost was recognized for the fair value of the stock
options granted, which was estimated using the Black-Scholes model with the
following weighted average assumptions for 1996 and 1995, respectively:
Expected volatility of 25.3% and 24.5%, risk-free interest 6.3% and 6.8%,
expected life of 5 years and no expected dividends for all years. The estimated
weighted average fair value of stock options granted in 1996 and 1995 was $3.68
and $1.27, respectively.
Preferred stock:
The Company has authorized 10,000,000 shares, no par value, preferred stock. No
shares of preferred stock have been issued.
54
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 7. Stockholders' Equity (Continued)
Dividend restrictions:
The Company and the Bank are limited as to the amount of dividends which can be
paid. Dividends declared by national banks that exceed the net income (as
defined) for the current year plus retained net income for the preceding two
years must be approved by the Comptroller of the Currency. Regardless of formal
regulatory restrictions, the Company and the Bank may not pay dividends that
would result in its capital levels being reduced below the minimum regulatory
requirements (see Note 12).
Note 8. Income Statement Information
Interest income and interest expense for the years ended December 31, 1996 and
1995 consists of the following:
<TABLE>
<CAPTION>
1996 1995
- -------------------------------------------------------------------------
<S> <C> <C>
Interest income:
Interest and fees on loans (Note 3) $ 13,015,000 $ 12,016,000
Interest on investment securities 438,000 762,000
Interest on federal funds sold 493,000 128,000
Interest on deposits in other banks 32,000 -
------------------------------
$ 13,978,000 $ 12,906,000
==============================
Interest expense:
Demand $ 1,479,000 $ 1,315,000
Savings 116,000 154,000
Time certificates of deposit of
$100,000 or more 1,100,000 1,003,000
Other time deposits 1,193,000 932,000
------------------------------
$ 3,888,000 $ 3,404,000
==============================
</TABLE>
55
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 8. Income Statement Information (Continued)
Other expense:
Other expense for the years ended December 31, 1996 and 1995 consists of the
following:
<TABLE>
<CAPTION>
1996 1995
- --------------------------------------------------------------------------
<S> <C> <C>
Insurance $ 672,000 $ 541,000
Professional services 472,000 452,000
Legal 322,000 292,000
Other real estate owned expense, net 400,000 246,000
Supplies 212,000 171,000
Business development expense 122,000 126,000
Auto 59,000 68,000
Miscellaneous 334,000 270,000
----------------------------------
$ 2,593,000 $ 2,166,000
==================================
</TABLE>
In September 1996, Congress passed legislation which began the process of
merging the bank (BIF) and savings and loans (SAIF) insurance funds into one
fund. As a result of the legislation, all institutions that had SAIF deposits
were required to pay a one time assessment for those deposits that brought up
the SAIF fund to a level commensurate with the BIF fund. During 1996, the Bank
paid approximately $307,000 for this special one time assessment which is
included in insurance expense. This payment will reduce the Bank's future SAIF
deposit insurance premiums.
Note 9. Income Taxes
The provision (benefit) for income taxes consists of the following:
<TABLE>
<CAPTION>
1996 1995
- -------------------------------------------------------------------------
<S> <C> <C>
Current
Federal $ 896,000 $ (98,000)
State 505,000 -
Deferred (456,000) -
---------------------------------
TOTAL PROVISION (BENEFIT) FOR
INCOME TAXES $ 945,000 $ (98,000)
=================================
</TABLE>
56
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 9. Income Taxes (Continued)
The provision (benefit) for income taxes resulted in an effective tax rate
different from the federal income tax statutory rate. The reasons for this
difference are as follows:
<TABLE>
<CAPTION>
1996 1995
- ---------------------------------------------------------------------------
<S> <C> <C>
Federal income tax computed at a
statutory rate of 35% $ 1,575,000 $ 680,000
State franchise tax, net of federal
income tax benefit 278,000 120,000
Change in valuation allowance (890,000) (801,000)
Other items (18,000) (97,000)
--------------------------------------
TOTAL PROVISION (BENEFIT) FOR
INCOME TAXES $ 945,000 $ (98,000)
======================================
</TABLE>
Components of the Company's deferred tax assets and liabilities are as follows:
<TABLE>
<CAPTION>
1996 1995
- --------------------------------------------------------------------------
<S> <C> <C>
Nonaccrual interest income $ 170,000 $ 270,000
Indemnification reserve 188,000 -
Mortgage loans held-for-sale 281,000 42,000
State income taxes 167,000 10,000
Loan loss reserve - 416,000
Net operating loss carryforward - 309,000
Premises and equipment - 64,000
Other 92,000 56,000
------------------------------------
TOTAL DEFERRED TAX ASSETS 898,000 1,167,000
Valuation allowance - 890,000
------------------------------------
NET DEFERRED TAX ASSETS 898,000 277,000
------------------------------------
Loan loss reserve (68,000) -
Discount on loans (145,000) (224,000)
Other (69,000) (53,000)
Premises and equipment (116,000) -
-------------------------------------
TOTAL DEFERRED TAX LIABILITIES (398,000) (277,000)
-------------------------------------
NET DEFERRED TAX ASSET INCLUDED IN
OTHER ASSETS $ 500,000 $ -
=====================================
</TABLE>
57
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 9. Income Taxes (Continued)
During 1996, management eliminated the valuation allowance on deferred tax
assets as they believe it is more likely than not that the deductible temporary
differences existing at December 31, 1996 will be realized. Management
considered the Company's recent past and expected future performance in making
the determination to eliminate the valuation allowance. If the Company is
unable to generate the income necessary to recognize the deferred tax assets
recorded, a valuation allowance will need to be provided in the future.
Note 10. Segment Data, Mortgage Banking Operations
The Bank operates a residential mortgage division for the origination and sale
of mortgage loans. The operations of this division are very sensitive to
changes in the prevailing market rates of interest. Substantially all of the
mortgage loans it originates are located in Los Angeles, Orange, San Bernardino
and San Diego Counties and all loans are sold to institutional investors.
During the years ended December 31, 1996 and 1995, 35% and 63%, respectively, of
loans sold were to one investor. The Bank does not maintain the servicing on
the loans which it sells. The mortgage division operates both a wholesale and
retail department. During 1996, approximately 90% of the loan volume was
originated from the wholesale department, and approximately 56% of the mortgage
loans originated were FHA-insured or VA-guaranteed loans. In addition,
approximately 79% of the mortgage loan volume originated in 1996 were purchase
money loans. All revenue earned by this division is from unaffiliated third
parties.
Income from operations of the mortgage division was $2,725,000 and $1,123,000
for the years ended December 31, 1996 and 1995, respectively. Income from the
mortgage division operations is calculated before income tax and allocation of
corporate expenses such as administration, data processing, legal and
accounting. Income from operations of the mortgage division does not include
the interest income or expense associated with the funding and holding of
mortgage loans be fore they are sold. Total assets related to the mortgage
division, which include the inventory of mortgage loans held-for-sale as well as
certain furniture and equipment were $66,253,000 and $44,430,000 as of December
31, 1996 and 1995, respectively. As of December 31, 1996, the Bank employed 196
people, of whom 118 were engaged in the mortgage division.
58
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 11. Estimated Fair Value of Financial Instruments
In accordance with FASB Statement No. 107, "Disclosures About Fair Value of
Financial Instruments," a summary of the estimated fair value of the Company's
consolidated financial instruments as of December 31, 1996 and 1995 is presented
below. The estimated fair value amounts have been determined by management
using available market information and appropriate valuation methodologies.
However, considerable judgment is necessary to interpret market data to develop
the estimates of fair value. Accordingly, the estimates presented herein are
not necessarily indicative of the amounts the Company could realize in a current
market exchange. The use of different assumptions and/or estimation
methodologies may have a material effect on the estimated fair value amounts.
Statement No. 107 excludes certain financial instruments and all nonfinancial
assets and liabilities from its disclosure requirements. Accordingly, the
aggregate fair value amounts presented do not represent the underlying value of
the Company.
<TABLE>
<CAPTION>
1996 1995
---------------------------------------------------------------------------------------------
Carrying Amount Estimated Fair Value Carrying Amount Estimated Fair Value
- -----------------------------------------------------------------------------------------------------------------------------------
(In Thousands)
<S> <C> <C> <C> <C>
Assets
Cash and due from banks $ 12,700 $ 12,700 $ 13,814 $ 13,814
Federal funds sold 6,000 6,000 2,500 2,500
Securities available-for-sale 7,381 7,381 10,626 10,626
Mortgage loans held-for-sale 62,620 62,979 41,968 42,271
Loans 102,414 102,381 101,078 101,067
Accrued interest receivable 848 848 859 859
Liabilities
Savings and demand deposits 125,864 125,864 114,871 114,871
Time deposits 44,175 44,147 42,432 42,439
Borrowing on line of credit 7,S000 7,000 -- --
Accrued interest payable 205 205 246 246
Gain (Loss) on Off-Balance
Sheet Financial Instruments:
Mandatory forward commitments -- 270 -- (200)
Mortgage loan commitments -- (172) -- 230
Interest rate swap -- 61 -- --
Portfolio loan commitments -- (122) -- (96)
</TABLE>
The fair value of cash and due from banks, federal funds sold, accrued interest
receivable and payable, and borrowings on the line of credit, approximate their
carrying amounts. The fair value of securities available-for-sale and mortgage
loans held-for-sale are based on quoted market prices when such quotes are
available. In the absence of quoted market prices, securities are priced based
on prices obtained from certain brokers. These brokers estimate the fair value
based upon quoted prices for similar securities. There can be no assurance that
the prices estimated for such securities can be realized upon ultimate sale.
59
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 11. Estimated Fair Value of Financial Instruments (Continued)
For variable rate loans that reprice frequently, and that have experienced no
significant change in credit risk, fair values are based on carrying values. At
December 31, 1996 and 1995, variable rate loans comprised approximately 79% and
80%, respectively, of the loan portfolio. Fair values for all other loans are
estimated based on discounted cash flows, using interest rates currently being
offered for loans with similar terms to borrowers with similar credit quality.
Prepayments prior to the repricing date are not expected to be significant.
Loans not held-for-sale are expected to be held to maturity and any unrealized
gains or losses are not expected to be realized.
Fair values disclosed for demand deposits equal their carrying amounts, which
represent the amount payable on demand. The carrying amounts for variable rate
money market accounts and certificates of deposit approximate their fair values
at the reporting date. Fair values for fixed rate certificates of deposit are
estimated using a discounted cash flow calculation. This calculation uses
interest rates currently being offered on certificates with similar maturities.
Early withdrawals of fixed rate certificates of deposit are not expected to be
significant.
The fair value of mortgage loan commitments is estimated by taking into account
the rates being demanded on mortgage loans without the value of servicing.
The fair value of portfolio loan commitments is based on fees currently charged
to enter into similar agreements taking into account the remaining terms of the
agreements and the counterparty credit standings.
The fair value of the interest rate swap at December 31, 1996, is estimated
based on the present value of the payments currently being received over the
swaps contractual life. Changes in the interest rate will have a significant
effect on the swaps fair value.
The fair value estimates presented herein are based on pertinent information
available to management as of December 31, 1996 and 1995. Although management
is not aware of any factors that would significantly affect the estimated fair
value amounts, such amounts have not been comprehensively revalued for purposes
of these consolidated financial statements since that date and, therefore,
current fair value estimates may differ significantly from amounts presented
herein.
Interest rate risk:
The Bank assumes interest rate risk (the risk that general interest rate levels
will change) as a result of its normal operations. As a result, fair value of
the Bank's financial instruments will change when interest rate levels change
and that change may be either favorable or unfavorable to the Bank. Management
attempts to match maturities of rate sensitive assets and liabilities to the
extent believed necessary to minimize interest rate risk. However, borrowers
with fixed rate obligations are less likely to prepay in a rising rate
environment and more likely to repay in a falling rate environment. Conversely,
depositors who are receiving fixed rates are more likely to withdraw funds
before maturity in a rising rate environment and less likely to do so in a
falling rate environment. Management monitors rates and maturities of rate
sensitive assets and liabilities and attempts to minimize interest rate risk by
adjusting terms of new loans and deposits and by investing in securities with
terms that mitigate the Bank's overall interest rate risk.
60
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATMENTS
- --------------------------------------------------------------------------------
Note 12. Condensed Financial Information - Parent Company Only
A condensed summary of financial information of PNB Financial Group (parent
company only) is as follows:
<TABLE>
<CAPTION>
CONDENSED BALANCE SHEETS
ASSETS 1996 1995
- ------------------------------------------------------------------------------------------------
<S> <C> <C>
Cash $ 338,000 $ 772,000
Loans, net 1,879,000 1,015,000
Investment in subsidiary 16,778,000 13,407,000
Other assets 75,000 36,000
---------------------------------
TOTAL ASSETS $ 19,070,000 $ 15,230,000
=================================
LIABILITIES AND STOCKHOLDERS' EQUITY
- ------------------------------------------------------------------------------------------------
Liabilities $ 387,000 $ 2,200
Stockholders' equity 18,683,000 15,228,000
---------------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 19,070,000 $ 15,230,000
=================================
CONDENSED STATEMENTS OF INCOME
- ------------------------------------------------------------------------------------------------
Revenues $ 469,000 132,000
Expenses 263,000 173,000
----------------------------------
Income (loss) before equity in net
net income of subsidiary 206,000 (41,000)
Equity in net income of subsidiary 3,350,000 2,082,000
---------------------------------
NET INCOME $ 3,556,000 $ 2,041,000
=================================
CONDENSED STATEMENTS OF CASH FLOWS
- ------------------------------------------------------------------------------------------------
Net income $ 3,556,000 $ 2,041,000
Equity of net (income) loss of subsidiary (3,350,000) (2,082,000)
Other 346,000 157,000
---------------------------------
Cash flows from operating activities 552,000 116,000
Cash flows from investing activities (864,000) 460,000
Cash flows from financing activities (122,000) 5,000
---------------------------------
NET INCREASE (DECREASE) IN CASH (434,000) 581,000
Cash at beginning of year 772,000 191,000
---------------------------------
Cash at end of year $ 338,000 $ 772,000
=================================
</TABLE>
There were no dividends paid from the Bank to the Company during the years ended
December 31, 1996 and 1995. In January 1997, the Bank paid a $500,000 dividend
to the Company.
61
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 13. Disclosure of Cash Flow Information
Supplemental cash flow information and disclosure of noncash activity for the
years ended December 31 is as follows:
<TABLE>
<CAPTION>
1996 1995
- --------------------------------------------------------------------------------------------------
<S> <C> <C>
Supplemental Disclosure of Cash Flow Information
Interest paid $ 3,929,000 $ 3,353,000
=================================
Income taxes paid (refunds), net $ 1,282,000 $ (13,000)
=================================
Supplemental Disclosure of Noncash Investing Activites
Real estate acquired in settlement of loans $ 7,343,000 $ 2,763,000
=================================
Loans to facilitate sale of other real estate owned $ 2,423,000 $ 3,266,000
=================================
</TABLE>
Note 14. Regulatory Matters
Bank regulations require that all banks maintain a percentage of their deposits
as reserves at the Federal Reserve Bank. At December 31, 1996 and 1995, their
required reserves were $3,521,000 and $2,569,000, respectively. These amounts
are included in cash and due from banks.
The Company and the Bank are subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory - and possibly additional
discretionary - actions by regulators that, if undertaken, could have a direct
material effect on the Company's and the Bank's financial statements. Under
capital adequacy guidelines and the regulatory framework for prompt corrective
action, the Company and the Bank must meet specific capital guidelines that
involve qualitative measures of the Company and the Bank's assets, liabilities,
and certain off-balance sheet items as calculated under regulatory accounting
practices. The Company and the Bank's capital amounts and classification are
also subject to qualitative judgments by the regulators about components, risk
weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and the Bank to maintain minimum amounts and ratios (set
forth in the table below) of total and Tier I capital (as defined in the
regulations) to risk-weighted assets (as defined), and of Tier I capital (as
defined) to average assets (as defined). Management believes, as of December
31, 1996, that the Company and the Bank meet all capital adequacy requirements
to which it is subject.
As of December 31, 1996, the Company and the Bank are categorized as well
capitalized under the regulatory framework for prompt corrective action. To be
categorized as well capitalized, the Company and the Bank must maintain minimum
total risk-based, Tier I risk-based, Tier I leverage ratios as set forth in the
table. There are no conditions or events since that management believes have
changed the institution's category.
62
<PAGE>
PNB FINANCIAL GROUP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
Note 14. Regulatory Matters (Continued)
The Company's and the Bank's actual capital amounts and ratios, along with the
minimum capital amounts and ratios for both capital adequacy purposes and to be
well capitalized under prompt corrective action provisions, are presented in the
following tables. All amounts are in thousands.
The Bank:
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
-----------------------------------------------------------------------------
Amount Ratio Amount Ratio Amount Ratio
- -------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1996
Total Capital (to Risk Weighted Assets) $18,025 13.3% $10,868 8.0% $13,589 10.0%
Tier I Capital (to Risk Weighted Assets) $16,327 12.0% $ 5,434 4.0% $ 8,151 6.0%
Tier I Capital (to Average Assets) $16,327 8.8% $ 7,461 4.0% $ 9,326 5.0%
As of December 31, 1995
Total Capital (to Risk Weighted Assets) $14,280 11.7% $ 9,787 8.0% $12,233 10.0%
Tier I Capital (to Risk Weighted Assets) $12,751 10.4% $ 4,893 4.0% $ 7,340 6.0%
Tier I Capital (to Average Assets) $12,751 7.7% $ 6,628 4.0% $ 8,285 5.0%
The Company:
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
-----------------------------------------------------------------------------
Amount Ratio Amount Ratio Amount Ratio
- -------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1996
Total Capital (to Risk Weighted Assets) $20,463 14.9% $10,986 8.0% $13,733 10.0%
Tier I Capital (to Risk Weighted Assets) $18,746 13.7% $ 5,493 4.0% $ 8,240 6.0%
Tier I Capital (to Average Assets) $18,746 10.0% $ 7,553 4.0% $ 9,441 5.0%
As of December 31, 1995
Total Capital (to Risk Weighted Assets) $16,866 13.4% $ 9,946 8.0% $ 1,243 10.0%
Tier I Capital (to Risk Weighted Assets) $15,312 12.3% $ 4,973 4.0% $ 7,460 6.0%
Tier I Capital (to Average Assets) $15,312 9.1% $ 6,701 4.0% $ 8,376 5.0%
</TABLE>
63
<PAGE>
Item 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
- -----------------------------------------------------------------------
FINANCIAL DISCLOSURES
---------------------
None
PART III
Item 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS
- ---------------------------------------------------------------------
As of December 31, 1996, the board of directors of the Company consists of
five (5) members, all of whose terms expire at the next annual meeting of
shareholders. Executive officers of the Company serve at the pleasure of the
board of directors. The following table sets forth certain information
concerning the directors and executive officers of the Company.
<TABLE>
<CAPTION>
Position in PNB Served
Financial Group Since Age
----------------------- ------ ---
<S> <C> <C> <C>
Allen C. Barbieri Director/President/CEO 1994 38
Martin T. Hart Director 1990 61
Doug L. Heller Chief Financial Officer 1990 39
G. Mitchell Morris Director 1996 76
Jon A. Salquist Director 1995 52
Bernard E. Schneider Director/Chairman 1991 51
</TABLE>
A brief summary of the background and business experience of each of the above
persons during the past five years is set forth below.
Allen C. Barbieri has been the President and Chief Executive Officer of the
-----------------
Bank since 1994, and is currently the President and Chief Executive Officer of
the Company. Mr. Barbieri has worked in the banking industry since 1986. He
received a Masters Degree in Business/Finance from the Massachusetts Institute
of Technology (MIT) in 1987.
Martin T. Hart is an active private investor. He serves on numerous boards of
--------------
directors of private and publicly held companies.
Doug L. Heller has been the Executive Vice President and Chief Financial
--------------
Officer of the Bank, and Chief Financial Officer of the Company since 1990.
Mr. Heller graduated from the University of Colorado Business School in 1979
and earned his certified public accountant license in 1983.
G. Mitchell Morris is retired and a private investor.
------------------
Jon A. Salquist is an active private investor. He holds a Masters Degree from
---------------
Stanford University.
Bernard E. Schneider is a partner and an attorney with the international law
--------------------
firm of McDermott, Will and Emery. Mr. Schneider has served as Chairman of the
Board of the Company and the Bank since 1995.
64
<PAGE>
Item 10. EXECUTIVE COMPENSATION
- --------------------------------
The total compensation paid or accrued by the Company and the Company's
subsidiaries for the years ended December 31, 1996, 1995 and 1994, to the
Company's Chief Executive Officer ("CEO") and the four most highly compensated
executive officers ("Named Executive Officers") are presented below in the
summary compensation table.
SUMMARY COMPENSATION TABLE
--------------------------
<TABLE>
<CAPTION>
Other Annual
Name (1) Year Salary Bonus Comp.(2) Options
- --- ---- -------- ------- ------ -------
<S> <C> <C> <C> <C> <C>
Allen C. Barbieri 1996 $146,833 $120,000 $1,292 0
1995 131,000 35,000 1,493 0
1994 131,000 0 298 50,000
Doug L. Heller 1996 128,333 60,000 864 0
1995 120,000 20,000 808 0
1994 120,000 0 3,676 13,750
Allan Gibson 1996 120,000 32,500 1,780 0
1995 120,000 10,000 1,831 0
1994 120,000 0 3,161 10,000
Gregory M. Savino 1996 114,000 35,000 284 3,000
1995 114,000 10,000 536 0
1994 114,000 0 4,995 0
Herb Reynolds 1996 125,812 12,500 1,492 0
1995 125,812 5,000 1,391 0
1994 129,058 0 6,147 0
</TABLE>
(1) Allen C. Barbieri President and Chief Executive Officer of Pacific
National Bank and the Company
Doug L. Heller Executive Vice President and Chief Financial Officer
of Pacific National Bank, Chief Financial Officer of
the Company
Allan Gibson Executive Vice President and Chief Operating Officer of
Pacific National Bank
Gregory M. Savino Executive Vice President and Senior Loan and Credit
Officer of Pacific National Bank
Herb Reynolds Executive Vice President
(2) Automobile allowance and other fringe benefits.
The Company has no stock appreciation rights ("SARs"), restricted stock awards
or LTIP payouts. The following table sets forth the number of stock options/SARs
granted in 1996 for the named executive officers:
Options/SAR Grants in Last Fiscal Year
--------------------------------------
<TABLE>
<CAPTION>
Number of Percent of Total Options/ Exercise or
Securities Underlying SARs Granted to Base Price Expiration
Options/SARs Granted (#) Employees in Fiscal Year ($/Share) Date
------------------------ ------------------------- ------------ ----------
<S> <C> <C> <C> <C>
Allen C. Barbieri 0/0 N/A N/A N/A
Doug L. Heller 0/0 N/A N/A N/A
Allan Gibson 0/0 N/A N/A N/A
Gregory M. Savino 3,000/0 35%/N/A $7.0/0N/A 7/24/06/N/A
Herb Reynolds 0/0 N/A N/A N/A
</TABLE>
65
<PAGE>
The following table sets forth the number of unexercised stock options, along
with the value of unexercised in-the-money options as of December 31, 1996 for
the named executive officers. For the purpose of calculating the value of
unexercised in-the-money options, the fair market value of the Company's stock
was estimated at $11.50 per share based upon the price paid for the Company's
stock as reported by Mitchell Securities.
Aggregate Options/SARs Exercised in Last Fiscal Year and Fiscal Year End
------------------------------------------------------------------------
Options/SAR Values
------------------
<TABLE>
<CAPTION>
Shares Number of Unexercised Value of Unexercised
Acquired Options in-the-money options
on at FY-End(#) at FY-End($)
Exercise Value Exercisable/ Exercisable/
Name (#) Realized Unexerciseable Unexerciseable
- -------------------- -------- -------- ---------------------- ---------------------
<S> <C> <C> <C> <C>
Allen C. Barbieri N/A N/A 50,000/0 $400,000/0
Doug L. Heller N/A N/A 20,000/0 160,000/0
Allan Gibson N/A N/A 10,000/0 80,000/0
Gregory M. Savino N/A N/A 10,000/0 70,000/0
Herb Reynolds N/A N/A 1,250/0 10,000/0
</TABLE>
On April 1, 1994, the Bank entered into an employment agreement with Allen
Barbieri which set forth the terms and conditions under which Mr. Barbieri would
be employed by the Bank. Other than a termination clause, this agreement is
consistent with all normal employment policies of the Bank. The agreement sets
forth that Mr. Barbieri's initial term of employment shall be for two years and
shall be extended by the board for additional successive terms of one year. The
board may terminate Mr. Barbieri's employment for cause without any additional
compensation at any time during the term of the agreement. If Mr. Barbieri's
employment is terminated by the Bank without cause, or if the Bank gives written
notice to Mr. Barbieri of its intention not to renew for a successive term, then
the Bank will pay Mr. Barbieri his annual salary.
The Company compensates its outside directors for their participation in board
of directors meetings along with other committee meetings. The amount for each
committee is based upon several factors including an estimation of the time
devoted to the preparation of each meeting and the length of time at each
meeting. Due to the extra time devoted, the chairman of each committee is
compensated double the normal committee fee. The schedule below sets forth the
compensation which each outside director was paid during 1996 for his
participation in each committee meeting along with the frequency of each
committee meeting.
<TABLE>
<CAPTION>
Committee Company Fee Frequency
- --------------------------------------- ----------- ---- ---------
<S> <C> <C> <C>
Board of Directors Holding Co. $ 0 Quarterly
Board of Directors Bank 350 Monthly
Audit Committee Bank 250 Monthly
Loan Committee Bank 150 Weekly
Asset Liability Committee Bank 100 Monthly
Community Reinvestment Act Committee Bank 150 As needed
Compensation Committee Bank 125 As needed
</TABLE>
Item 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
- ------------------------------------------------------------------------
The following table sets forth, as of December 31, 1996, information with
respect to the securities holdings of all persons which the Registrant has
reason to believe may be deemed the beneficial owners of more than 5% of the
66
<PAGE>
Registrant's outstanding Common Stock. The following table indicates the
beneficial ownership of such individuals numerically calculated based upon the
total number of shares of common stock outstanding. Also set forth in the table
is the beneficial ownership of all shares of the Registrant's outstanding stock,
as of such date, of all directors and named executive officers, individually,
and all directors and executive officers as a group. Certain common stock
listed in the table below relates to an option to purchase shares of common
stock owned by Mr. Terry Giles pursuant to an option agreement ("Giles Option
Agreement"), which is more fully disclosed below:
<TABLE>
<CAPTION>
Name and Address Amount and Nature % of
Beneficial Owner of Beneficial Ownership Ownership
- ------------------------ ------------------------ ---------
<S> <C> <C>
Allen C. Barbieri 179,916 (1) 8.10%
9 Carnelian
Irvine, CA 92714
Allan Gibson 13,000 (2) *
4704 East Hastings
Orange, CA 92667
Terry M. Giles 1,203,009 (3) 53.93%
16092 Via Cuesta Verde
Rancho Santa Fe, CA 92067
Martin T. Hart 424,722 (4) 19.57%
875 Race Street
Denver, CO 80206
Doug L. Heller 49,191 (5) 2.25%
14 Estrella
Irvine, CA 92714
G. Mitchell Morris 251,912 (6) 11.60%
4277 Park Terrace Drive
Salt Lake City, UT 84124
Herb Reynolds 1,250 (7) *
213 Louise Drive
Placentia, CA 92870
Jon A. Salquist 293,731 (8) 13.53%
2725 N. W. Circle A Drive
Portland, OR 97229
Gregory M. Savino 14,080 (9) *
28461 Rancho De Juana
Laguna Niguel, CA 92656
Bernard E. Schneider 40,400 (10) 1.83%
326 Emerald Bay
Laguna Beach, CA 92651
</TABLE>
67
<PAGE>
<TABLE>
<CAPTION>
Name and Address Amount and Nature % of
Beneficial Owner of Beneficial Ownership Ownership
- ---------------- ----------------------- ---------
<S> <C> <C>
James Schuler 396,762 (11) 18.28%
828 Fort Street Mall
Honolulu, Hawaii 96813
All Directors and Executive Officers 1,268,202 (12) 56.06%
as a Group (9 Persons)
</TABLE>
(1) Includes options to purchase 79,467 shares of common stock of the
Company pursuant to the Giles Option Agreement and options to purchase
50,000 shares of the Company stock pursuant to the Company's stock
option plan, which are exercisable within 60 days.
(2) Includes options to purchase 10,000 shares of common stock of the
Company pursuant to the Company's stock option plan, which are
exercisable within 60 days.
(3) Includes options to purchase 60,000 shares of common stock of the
Company, pursuant to the Company's stock option plan which are
exercisable within 60 days. 1,192,006 of Mr. Giles' common stock is
subject to an option agreement which is more fully described below.
(4) Includes options to purchase 333,762 shares of common stock of the
Company pursuant to the Giles Option Agreement, which are exercisable
within 60 days.
(5) Includes options to purchase 21,191 shares of common stock of the
Company pursuant to the Giles Option Agreement and options to purcahse
20,000 shares of the Company stock pursuant to the Company's stock
option plan.
(6) Includes options to purchase 211,912 shares of common stock of the
Company pursuant to the Giles Option Agreement.
(7) Includes options to purchase 1,250 shares of common stock of the Company
pursuant to the Company's stock option plan.
(8) Includes options to purchase 211,912 shares of common stock of the
Company pursuant to the Giles Option Agreement.
(9) Includes options to purchase 10,000 shares of common stock of the
Company pursuant to the Company's stock option plan.
(10) Includes options to purchase 40,000 shares of common stock of the
Company pursuant to the Company's stock option plan.
(11) Includes options to purchase 333,762 shares of common stock of the
Company pursuant to the Giles Option Agreement.
(12) Includes options to purchase 858,244 shares of common stock of the
Company pursuant to the Giles Option Agreement and options to purchase
91,250 shares of the Company stock pursuant to the Company's stock
option plan.
* Less than 1%
68
<PAGE>
In February, 1995, Mr. Giles sold 225,000 common shares and granted an option
to purchase an additional 1,192,006 common shares to a group of six
individuals. This was an arms length transaction at prices negotiated and
determined to be fair market value. The group of six, which includes the
following directors of the Company and the Bank: Mr. Barbieri, Mr. Heller,
Mr. Hart, Mr. Salquist, and Mr. Morris would control over 70% of the
outstanding shares of the Company if the option is exercised. On October 17,
1995, the Federal Reserve approved the Company's change of control application
which was applied for as a result of this option. During May, 1996, certain
provisions of the stock option agreement were amended. The amended stock
option agreement states that during the option term, the optionee shall have
voting rights to the optioned shares. The option is exercisable until
September 1, 1997 and payable by September 30, 1997. In the event that the
Company or the Bank has entered into a definitive letter of intent or
agreement involving a sale of assets or stock, merger or other business
combination requiring regulatory approval, the payment for such exercise may
be delayed until December 31, 1997. The Company believes that the optionees
will exercise their options before the option period expires.
Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- --------------------------------------------------------
Certain directors of the Company directly, and through the companies with
which they are associated, are customers of, and have banking transactions
with, the Bank in the ordinary course of its business. These director related
loans, made in the ordinary course of business, were made on substantially the
same terms, including interest rates and collateral, as those prevailing at
the time for comparable transactions with unaffiliated persons. Such loans did
not involve more than the normal risk of collectibility or present other
unfavorable features to the Bank. As of December 31, 1996 the loans
outstanding to officers, directors and affiliates were 26.6% of the Company's
total stockholders' equity and 4.8% of the Company's total loan portfolio.
Item 13. EXHIBITS AND REPORTS ON FORM 8-K
- -----------------------------------------
<TABLE>
<CAPTION>
No. Exhibit Page
---- -------------------------------------------- ----
<C> <S> <C>
3.1 Restated Articles of Incorporation (1) *
3.2 Bylaws of the Company (2) *
3.3 Amended Articles of Incorporation (3) *
4 Section Eight of the By-laws of the Company (2) *
10.1 1985 Incentive Stock Option Plan (4) *
10.2 1985 Amended Non Qualified Stock Option Plan (5) *
10.3 1995 Incentive Stock Option Plan (6) *
11 Computation of Earnings Per Share 72
21 Subsidiaries of the Company 73
23.1 Consent of McGladrey & Pullen, LLP 74
27 Financial Data Schedule 75
</TABLE>
*Not Applicable
(1) Filed as Exhibit 3.1 to registrant's 1989 Annual Report on Form 10-K, which
is incorporated herein by reference.
(2) Filed as Exhibit 6, to Registrant's Registration Statement on Form S-14
(File No. 2-78580), which exhibits are incorporated herein by reference.
69
<PAGE>
(3) Filed as Exhibit 3.3 to Registrant's 1990 Annual Report on Form 10-K, which
is incorporated herein by reference.
(4) Filed on Form S-8 on April 5, 1989, which is incorporated herein by
reference.
(5) Files on Form S-8 on December 16, 1996, File # 333-17997, which is
incorporated herein by reference.
(6) Filed on Form S-8 on December 16, 1996, File #333-17999, which is
incorporated herein by reference.
Reports on Form 8-K.
- -------------------
During the last quarter of 1996, the Company filed no reports on form 8-K.
70
<PAGE>
SIGNATURES
In accordance with the requirements of Section 13 or 15(d) of the Securities
Exchange Act, the registrant caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized, on the 28th day of March 1997.
PNB FINANCIAL GROUP
(Registrant)
BY: /s/ BERNARD E. SCHNEIDER
-----------------------
BERNARD E. SCHNEIDER
Chairman of the Board
In accordance with the Security Exchange Act, this report has been signed below
by the following persons on behalf of the registrant in the capacities and on
the dates indicated.
Signature Title Date
- --------- ----- ----
/s/ ALLEN C. BARBIERI President and Director March 28, 1997
- --------------------------
ALLEN C. BARBIERI
/s/ DOUG L. HELLER Chief Financial Officer March 28, 1997
- --------------------------
DOUG L. HELLER
/s/ MARTIN T. HART Director March 28, 1997
- --------------------------
MARTIN T. HART
/s/ G. MITCHELL MORRIS Director March 28, 1997
- --------------------------
G. MITCHELL MORRIS
/s/ JON A. SALQUIST Director March 28, 1997
- --------------------------
JON A. SALQUIST
71
<PAGE>
EXHIBIT 11
PNB FINANCIAL GROUP AND SUBSIDIARY
COMPUTATION OF EARNINGS PER SHARE
<TABLE>
<CAPTION>
PRIMARY EARNINGS 1996 1995
- ---------------- ---------- ----------
<S> <C> <C>
Net income applicable to common stock $3,556,000 $2,041,000
========== ==========
Shares
Weighted average number of common stock outstanding 2,169,337 2,223,574
Assuming exercise of options at average year prices
reduced by the number of shares which could have
been purchased with the proceeds plus related tax
benefit for nonqualified options 94,034 46,017
---------- ----------
Primary weighted average common and common
stock equivalents 2,263,371 2,269,591
========== ==========
Primary earnings per share $ 1.57 $ 0.91*
========== ==========
ASSUMING FULL DILUTION
- ----------------------
Net income applicable to common stock $3,556,000 $2,041,000
========== ==========
Shares
Weighted average number of common stock outstanding 2,169,337 2,231,115
Assuming exercise of options at end of year prices
reduced by the number of shares which could have
been purchased with the proceeds plus related tax
benefit for nonqualified options 102,086 46,485
---------- ----------
Fully diluted weighted average common and common
stock equivalents 2,271,423 2,277,600
========== ==========
Fully diluted earnings per share $ 1.57 $ 0.91*
========== ==========
</TABLE>
* Difference of $0.01 due to rounding of quarterly amounts.
72
<PAGE>
EXHIBIT NO. 22
SUBSIDIARIES OF THE COMPANY
SUBSIDIARIES OF PNB FINANCIAL GROUP
-----------------------------------
At December 31, 1996, the only subsidiary of PNB Financial Group was Pacific
National Bank.
73
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
To The Board of Directors
PNB Financial Group
Newport Beach, CA
We hereby consent to the incorporation of our report dated January 22, 1997,
included in this form 10KSB in the previously filed Registration Statements
dated December 16, 1996. (Commission file Numbers 333-17997 and 333-17999)
McGladrey & Pullen, LLP
Anaheim, California
March 27, 1997
74
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<CASH> 12,700
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 6,000
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 70,001
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 104,226
<ALLOWANCE> 1,812
<TOTAL-ASSETS> 198,198
<DEPOSITS> 170,039
<SHORT-TERM> 7,006
<LIABILITIES-OTHER> 2,476
<LONG-TERM> 0
0
0
<COMMON> 16,012
<OTHER-SE> 2,671
<TOTAL-LIABILITIES-AND-EQUITY> 198,198
<INTEREST-LOAN> 13,015
<INTEREST-INVEST> 438
<INTEREST-OTHER> 525
<INTEREST-TOTAL> 13,978
<INTEREST-DEPOSIT> 3,888
<INTEREST-EXPENSE> 3,888
<INTEREST-INCOME-NET> 10,090
<LOAN-LOSSES> 903
<SECURITIES-GAINS> (1)
<EXPENSE-OTHER> 17,513
<INCOME-PRETAX> 4,501
<INCOME-PRE-EXTRAORDINARY> 4,501
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 3,556
<EPS-PRIMARY> 1.57
<EPS-DILUTED> 1.57
<YIELD-ACTUAL> 6.15
<LOANS-NON> 3,220
<LOANS-PAST> 277
<LOANS-TROUBLED> 4,108
<LOANS-PROBLEM> 6,078
<ALLOWANCE-OPEN> 2,659
<CHARGE-OFFS> 2,055
<RECOVERIES> 305
<ALLOWANCE-CLOSE> 1,812
<ALLOWANCE-DOMESTIC> 1,812
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
