FORM 10-KSB
U.S. Securities and Exchange Commission
Washington, D.C. 20549
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 [Fee Required]
For the Fiscal Year Ended December 31, 1999
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 [No Fee Required]
For the transition period from___________to__________
Commission File Number 2-91196(1)
NORTHERN EMPIRE BANCSHARES
--------------------------------------------------
(Name of small business issuer in its charter)
CALIFORNIA 94-2830529
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(State of Incorporation) (I.R.S. Employer Identification Number)
801 Fourth Street
Santa Rosa, California 95404
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(Address of principal executive offices)
(707) 579-2265
(Issuer's telephone number)
Securities registered under Section 12(b) of the Exchange Act: NONE
Securities registered under Section 12(g) of the Exchange Act: NONE
Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days. Yes X
No____.
Check if there is no 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]
State issuer's revenues for its most recent fiscal year. $31,396,000
State the aggregate market value of the voting stock held by
non-affiliates computed by reference to the price at which the stock was sold,
or the average bid and asked prices of such stock, as of a specified date
within the past 60 days. $43,104,173, as of February 15, 2000. Shares of
common stock held by each executive officer and director have been excluded in
that such persons may be deemed to be affiliates. Such determination of
affiliate status is not necessarily a conclusive determination for other
purposes.
State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date: 3,560,401 shares of common
stock as of February 15, 2000.
DOCUMENTS INCORPORATED BY REFERENCE:
Not Applicable.
Transitional Small Business Disclosure Format: Yes No X
(1) Registrant filed a registration statement, on Form S-1, under File Number
2-91196, and the Post Effective Amendment No. 8 to the registration statement
was declared effective on November 23, 1988.
TABLE OF CONTENTS
Part I
Item 1. Description of Business
Business of the Bank
Employees
Supervision and Regulation
Item 2. Description of Properties
Item 3. Legal Proceedings
Item 4. Submission of Matters to a Vote of Security Holders
Part II
Item 5. Market for Common Equity and Related Stockholder Matters
Item 6. Management's Discussion and Analysis or Plan of Operations
Item 7. Financial Statements
Item 8. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure
Part III
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16(a) of the Exchange Act
Item 10. Executive Compensation
Item 11. Security Ownership of Certain Beneficial Owners and
Management
Item 12. Certain Relationships and Related Transactions
Item 13. Exhibits, Financial and Reports on Form 8-K
PART 1
ITEM 1. Description of Business
Northern Empire Bancshares (the "Corporation") was incorporated as a
California corporation on June 8, 1982 for the purpose of becoming a bank
holding company of Sonoma National Bank (the "Bank"). The Corporation's
executive offices are located at 801 Fourth Street, Santa Rosa, California,
and its telephone number is (707) 579-2265.
The Corporation's sole subsidiary is the Bank and its activities are the
commercial banking activities engaged in through the Bank and some lending.
As a bank holding company, the Corporation may in the future invest in
additional banking subsidiaries or in those non-banking subsidiaries which are
permissible for a bank holding company, subject to the required approvals of
the Federal Reserve Board. See, "Supervision and Regulation." However, the
Corporation has no present plans to make any such additional investments and
there can be no assurance that it will do so in the future.
Business of the Bank
The Bank was organized as a national banking association on March 27, 1984 and
commenced operations on January 25, 1985. It currently has five banking
offices: the main office located at 801 Fourth Street, in the central business
district of Santa Rosa, California, a branch office located in the Oakmont
area of Santa Rosa, approximately 5 miles east of the main office, a branch
office in west Santa Rosa, a branch in Windsor, approximately 5 miles north of
the main office and a branch office located in Sebastopol, approximately 5
miles west of the main office.
As a national bank, the Bank is subject to supervision, regulation and regular
examination by the Comptroller of the Currency ("Comptroller"). The deposits
of the Bank are insured by the Bank Insurance Fund, which is administered by
the Federal Deposit Insurance Corporation. The Bank is a member of the
Federal Reserve System and, as such, is subject to applicable provisions of
the Federal Reserve Act and the regulations thereunder. See, "Supervision and
Regulation."
Description of Business
The Bank engages in the general commercial banking business. It accepts
checking and savings deposits, offers money market deposit accounts and
certificates of deposit, makes secured and unsecured commercial and other
installment and term loans, and offers other customary banking services. The
Bank makes commercial loans guaranteed by the SBA ("Small Business
Administration"), which may be sold in the secondary market. The Bank does not
offer trust services directly, and does not presently intend to do so, but
offers such services, where requested, through its correspondent banks.
Within the Loan Department is a specialized group of SBA lenders. SBA loans
are funded by the Bank and then the Bank may, at its option, sell the portion
of the loan guaranteed by the SBA (generally 70% to 90% of the total loan
amount, depending on the purpose and term of the loan). When a SBA loan is
sold, the Bank retains the unguaranteed portion of that loan and the right to
service the loan. Income from loan sales is recorded in non-interest income.
See, "Management's Discussion and Analysis or Plan of Operations, Non-Interest
Income." The Bank is designated as a "Preferred Lender" by the SBA. This
means that it may fund a loan without the prior approval of the SBA.
Certification as a Preferred Lender gives the Bank a competitive advantage, as
it is able to provide a quick response to loan applications.
Market Area
The Bank's primary market area and source of most of its loan business is
primarily Sonoma County, with Small Business Administration loans also being
generated in California, Arizona and New Mexico. The Bank has increased its
lending territory for construction loans, commercial real estate loans and
loans made under the programs of the Small Business Administration ("SBA").
The Bank has loan production facilities in Phoenix, Arizona, Albuquerque, New
Mexico, San Francisco, California and Sacramento, California. The primary
market area for deposit business is Sonoma County.
Competition
The banking business in California generally, and specifically in the market
area served by the Bank, is highly competitive with respect to both loans and
deposits, and is dominated by major banks which have offices operating
throughout California. Among the advantages such major banks have over the
Bank are their ability to finance wide-ranging advertising campaigns and to
allocate their investment assets to regions of highest yield and demand. In
addition, many of the major banks operating in the Bank's service area offer
specialized services, such as trust and international banking services, which
the Bank does not offer directly. By virtue of their greater total
capitalization, the major banks also have substantially higher lending limits
than the Bank has. The Bank competes for loans and deposits with these major
banks, as well as with other independent banks, savings and loan associations,
credit unions, mortgage companies, insurance companies and other lending
institutions. The entry of other independent banks in the Bank's service area
may adversely affect the Bank's ability to compete.
Savings and loans, credit unions and money market funds have provided
significant competition for banks with respect to deposits. Other entities,
both governmental and private, seeking to raise capital through the issuance
and sale of debt or equity securities, also provide competition for the Bank
in the acquisition of deposits. The trend of federal and state legislation
has significantly increased competition between banks and other financial
institutions for both loans and deposits and is expected to continue to do so
in the future. In particular, the Gramm-Leach-Bliley Act enacted in November,
1999 authorizes affiliations among banks, insurance companies and securities
firms and is expected to significantly increase competition among financial
institutions with respect to all types of financial products and services.
At present, there are approximately 110 banking offices and offices of savings
and loan associations in the Sonoma County market area, including offices of
major chain banks, of smaller independent banks and savings and loan
associations. The Bank attempts to compete by offering personalized and
specialized services to its customers. The Bank's promotional activities
emphasize the advantages of doing business with a locally owned, independent
institution attuned to the particular needs of the community.
The Bank has experienced increased competition from major banks and local
community banks in making SBA loans, especially in California. Most of our
local SBA competitors also have Preferred Lender status from the SBA, and they
often offer more attractive rates on SBA loans than the Bank can. We expect
this trend to continue. There can be no assurance that the Bank will continue
to increase its SBA loan portfolio or continue to make a significant number of
SBA loans.
Forward-Looking Statements
This report contains "forward-looking statements" as defined in section 27A of
the Securities Act of 1933, as amended, and section 21E of the Securities
Exchange Act of 1934, as amended, which includes statements such as
projections, plans and objectives and assumptions about the future, and such
forward looking statements are subject to the safe harbor created by these
sections. Many factors could cause the actual results, amounts or events to
differ materially from those the Corporation expects to achieve or occur, such
as changes in competition, market interest rates, economic conditions and
regulations. Although the Corporation has based its plans and projections on
certain assumptions, there can be no assurances that its assumptions will be
correct, or that its plans and projections can be achieved.
Statistical Information
Certain statistical information concerning the Bank and the Corporation is
provided at "Item 6-Management's Discussion and Analysis or Plan of
Operation".
Employees
At December 31, 1999 the Bank had 69 full-time and 29 part-time employees.
Supervision and Regulation
The Corporation
The Corporation is a bank holding company registered under the Bank Holding
Company Act of 1956 and is subject to the supervision of the Board of
Governors of the Federal Reserve System ("Board"). As a bank holding company,
the Corporation must obtain the approval of the Board before it may acquire
all or substantially all of the assets of any bank, or ownership or control of
the voting shares of any bank if, after giving effect to such acquisition of
shares, the Corporation would own or control more than 5% of the voting shares
of such bank. With certain limited exceptions, the Corporation is prohibited
from engaging in or acquiring direct or indirect ownership or control of more
than 5% of the voting shares of any company engaged in non-banking activities,
unless the Federal Reserve Board determines that such activities are so
closely related to banking as to be a proper incident thereof.
The Board has the authority to examine the Corporation periodically. The
Board has a policy for risk-focused supervision of small bank holding
companies that do not engage in significant non-banking activities. The focus
of examinations under the policy is on whether the Corporation has in place
systems to manage the risks it takes on in its business. In analyzing risk,
the Board looks at the financial condition of the Corporation and the Bank,
management, compliance with laws and regulations, inter-company transactions
and any new or contemplated activities.
The Corporation and any subsidiary which it may acquire or organize in the
future are deemed to be affiliates of the Bank within the meaning set forth in
the Federal Reserve Act and are subject to that Act. This means, for example,
that there are limitations on loans by the Bank to affiliates, on investments
by the Bank in any affiliate's stock and on the Bank's taking any affiliate's
stock as collateral for loans to any borrower. All affiliate transactions
must satisfy certain limitations and otherwise be on terms and conditions that
are consistent with safe and sound banking practices. In this regard, the
Bank generally may not purchase from any affiliate a low-quality asset (as
that term is defined in the Federal Reserve Act). Also, transactions by the
Bank with an affiliate must be on substantially the same terms as would be
available for non-affiliates.
The Corporation and its subsidiary are also subject to certain restrictions
with respect to engaging in the underwriting, public sale and distribution of
securities.
The Corporation and the Bank are prohibited from engaging in certain tie-in
arrangements in connection with the extension of credit. For example, the
Bank generally may not extend credit on the condition that the customer obtain
some additional service from the Bank or the Corporation, or refrain from
obtaining such service from a competitor.
(a) Financial Services Modernization. Major financial services modernization
legislation was enacted in November 1999, known as the Gramm-Leach-Bliley Act
("1999 Act"). This legislation has removed barriers that have heretofore
separated banks' securities firms and other types of financial institutions.
Effective March 11, 2000, the 1999 Act establishes a new type of holding
company, a "financial holding company," that may engage in "financial
activities" not permitted to bank holding companies and that have the
authority to affiliate with companies engaged in such activities. "Financial
activities" are to be determined by the Board in coordination with the
Secretary of the Treasury, and may include activities that are financial in
nature, incidental to an activity that is financial in nature, or
complimentary to a financial activity and that do not pose a safety and
soundness risk. The 1999 Act enumerates activities considered financial in
nature (in addition to those already permitted to bank holding companies),
including underwriting insurance or annuities, or acting as an insurance or
annuity principal, agent or broker; providing investment or financial advice;
underwriting, dealing in or making markets in securities; and merchant banking
(subject to certain limitations).
A holding company may elect to be treated as a financial holding company, and
engage in these activities, provided that its subsidiary depository
institutions are well-capitalized, well-managed and have received at least a
satisfactory rating in the last Community Reinvestment Act examination.
National banks may also engage in many of these activities through a new
structure, the "financial subsidiary," subject to substantially the same
capital, management and CRA requirements, and state-chartered banks are given
similar authority.
The Act also provides for functional regulation of financial services firms,
which means that securities activities are to be regulated by the Securities
and Exchange Commission, insurance activities by state insurance regulators,
and banking activities by the appropriate bank regulatory agencies.
The 1999 Act is expected to result in new or revised regulations for such
matters as (1) newly authorized activities for bank holding companies and
financial holding companies, (2) financial privacy, (3) customer protections
for bank insurance sales, (4) the Community Reinvestment Act, (5) overseas
activities of bank holding companies, (6) bank derivatives transactions and
intra-day credit, (7) activities allowed in national bank operating
subsidiaries, and (8) broker-dealer registration requirements for bank sales
of "new hybrid products.
(b) Dividends Payable by the Corporation Holders of Common Stock of the
Corporation are entitled to receive dividends as and when declared by the
Board of Directors out of funds legally available therefor under the laws of
the State of California. Under California law, the Corporation is prohibited
from paying dividends unless: (a) the amount of its retained earnings
immediately prior to the dividend payment equals or exceeds the amount of the
dividend; or (b) immediately after giving effect to the dividend (i) the sum
of its assets would be at least equal to 125 percent of its liabilities and
(ii) its current assets would be at least equal to its current liabilities,
or, if the average of its earnings before taxes on income and before interest
expense for the two preceding fiscal years was less than the average of its
interest expense for the two preceding fiscal years, at least equal to 125
percent of its current liabilities.
The Board of Governors has advised bank holding companies that it believes
that payment of cash dividends in excess of current earnings from operations
is inappropriate and may be cause for supervisory action. As a result of this
policy, banks and their holding companies may find it difficult to pay
dividends out of retained earnings from historical periods prior to the most
recent fiscal year or to take advantage of earnings generated by extraordinary
items such as sales of buildings or other large assets in order to generate
profits to enable payment of future dividends. Further, the Board of
Governors' position that holding companies are expected to provide a source of
managerial and financial strength to their subsidiary banks potentially
restricts a bank holding company's ability to pay dividends.
The Corporation's ability to pay dividends on its Common Stock is subject to
the rights of senior security holders and lenders, which will include the
holders of preferred stock in the future if preferred stock is issued.
Dividend payments will also be dependent upon its separate liquidity needs.
See Item 6, "Management's Discussion and Analysis of Financial Condition." In
that regard, Federal and state statutes, regulations and policies impose
restrictions on the payment of management fees and cash dividends by the Bank
to the Corporation. Information regarding the Company's cash dividend payment
history can be found in Item 5, "Market for Common Equity and Related
Stockholder Matters."
The Bank
As a national banking association, the Bank is subject to the National Bank
Act and to supervision, regulation and regular examination by the Comptroller
of the Currency ("Comptroller"). It is also a member of the Federal Reserve
System and, as such, is subject to applicable provisions of the Federal
Reserve Act and regulations issued pursuant thereto. The deposits of the Bank
are insured up to the maximum legal limits by the Bank Insurance Fund ("BIF"),
which is managed by the Federal Deposit Insurance Corporation ("FDIC"), and
the Bank is therefore subject to applicable provisions of the Federal Deposit
Insurance Act and regulations of the FDIC. The statutes and regulations
administered by these agencies govern most aspects of the Bank's business,
including required reserves against deposits, loans, investments, dividends,
and the establishment of new branches and other banking facilities.
(a) Supervision and Examinations. Federal law mandates frequent
examinations of all banks, with the costs of examinations to be assessed
against the bank being examined. In the case of the Bank, its primary
regulator is the Comptroller.
The Comptroller has a community bank risk-assessment system, which consists of
examination procedures that focus on the various types of risks that national
banks face. The Comptroller measures each individual bank's exposure to
certain risks, assesses the controls the bank has adopted in response to the
risks it faces and the measures it takes to monitor those risks. The
Comptroller evaluates nine categories of risk: credit, interest rate,
liquidity, price, foreign exchange, transaction, compliance, strategic and
reputation. These nine risks are measured and the direction of the risk is
also analyzed.
The FDIC has "back up" enforcement power over the Bank under Federal law. The
FDIC may recommend and, in the absence of response by an institution's primary
regulator, undertake enforcement action against any insured financial
institution. Such "back up" enforcement action is permissible if ordered by
the Board of Directors of the FDIC only upon a showing that an insured
financial institution's conduct poses a risk to its insurance fund.
The Federal banking regulatory agencies have substantial enforcement powers
over the depository institutions that they regulate. Civil and criminal
penalties may be imposed on such institutions and persons associated with
those institutions for violations of any law or regulation. The penalties can
be up to $ 5,000 per day that a violation continues when the violation is
unintentional, or up to $1 million per day that a violation continues when the
violation is willful. The amount of the penalty also depends on whether the
violation is part of a pattern or causes a loss to the financial institution.
(b) Prompt Corrective Action. The Federal Deposit Insurance Corporation
Improvement Act of 1991 ("FDICIA") requires the banking agencies to take
corrective action against certain financial institutions, based upon the
financial institutions' compliance with the various capital measurements. The
capital requirements and the definitions of the various measures of capital
are described below under the heading "Capital Regulations and Dividends."
The following chart sets forth the various categories of capital compliance.
In order to be considered in the well or adequately capitalized categories, a
financial institution must meet all the requirements for that category. An
institution will be considered undercapitalized or significantly or critically
undercapitalized if it meets any of the requirements for that category.
<TABLE>
<CAPTION>
Ratio Category Total Risk-Based Tier 1 Risk-Based Leverage
- --------------- ---------------- ----------------- ---------
<S> <C> <C> <C>
Well Capitalized* 10% or above 6% or above 5% or above
Adequately Capitalized 8% or above 4% or above 4% or above**
Undercapitalized Less than 8% Less than 4% Less than 4%
Significantly Undercapitalized Less than 6% Less than 3% Less than 3%
Critically Undercapitalized - - 2% or less
<F/N>
* In addition, the institution must not be subject to any written capital
order or directive to meet and maintain a specific capital level.
** 3% instead of 4% if the institution has the highest rating under the
CAMEL rating system.
</TABLE>
FDICIA also permits the banking agencies essentially to downgrade an
institution to the next lower category (but not into the category of
critically undercapitalized) if it determines that the institution is in an
unsafe or unsound condition, or is engaging in an unsafe or unsound practice.
An institution that has received a less-than-satisfactory rating in its most
recent examination report for assets, management, earnings or liquidity may be
deemed to be engaged in an unsafe and unsound practice. Except for a finding
based on a less-than-satisfactory rating, the institution is entitled to prior
written notice and an opportunity to respond to its regulator's finding that
it is in an unsafe or unsound condition or is engaging in such practices.
Based on its capital position at December 31, 1999, the Bank is considered
well capitalized.
As noted above, an undercapitalized financial institution is subject to
certain corrective action by the appropriate agency, depending on the category
it falls into. All undercapitalized institutions are required to submit a
capital plan within 45 days after the institution becomes undercapitalized.
Also, such an institution's asset growth is restricted and it must obtain the
prior approval of its federal regulator before it acquires any company, sets
up any new branch or engages in any new line of business. The banking agency
is required to monitor closely the condition of the bank and its compliance
with its plan, and to review periodically the plan and the supervisory
restrictions on the bank to assure they are appropriate. In addition, the
regulator is authorized by statute to take the certain corrective actions and
order certain limitations on the bank's activities if necessary to carry out
the purposes of the statute.
If an institution is categorized as being significantly undercapitalized, or
is undercapitalized and fails to submit a capital plan, its banking regulator
is required to take increasingly severe enforcement actions against such
institution. The regulator must require recapitalization through a sale of
stock or a merger, restrict affiliate transactions and restrict the interest
rates the bank may offer on deposits, (unless it finds that doing so would not
further the purpose of the section). In addition, such an institution may not
pay a bonus to a senior executive officer or increase the pay of any executive
officer without the prior written approval of its federal regulator.
An institution that is critically undercapitalized is subject to mandatory
restrictions that are even more severe, and seizure within time limits
designated by statute. In general, the federal regulator is required to seize
an institution within 90 days of its becoming critically undercapitalized,
unless the regulator can document that another course of action will better
achieve the purposes of this section. The FDIC is required to restrict the
activities of a critically undercapitalized institution, beyond the degree of
limitations specified above for institutions that are significantly
undercapitalized.
(c) Brokered Deposits. FDICIA places limits on brokered deposits and
extends the limits to any bank that is not "well capitalized" or is notified
that it is in "troubled condition." Previously, the limitations applied only
to troubled banks. A well capitalized institution (which generally includes
an institution that is considered well capitalized for purposes of the prompt
corrective action regulations discussed above) may still accept brokered
deposits without restriction, unless it has been informed by its appropriate
Federal regulatory agency that it is in "troubled condition." All other
insured depository institutions are prohibited from accepting brokered
deposits unless a waiver is obtained from the FDIC. If a waiver is obtained,
the interest paid on such deposits may not exceed the rate paid for deposits
in its normal market area, or the national rate as determined in the FDIC's
regulation.
If a depository institution solicits deposits by offering interest rates
significantly higher than rates being offered in its market area, it is deemed
under FDICIA to be a deposit broker. Therefore, depending on its capital
category, it may be prohibited from such practice, or need a prior waiver from
the FDIC in order to offer such rates. The FDIC's regulations specify that an
institution that is not well capitalized may offer rates that exceed the
prevailing effective rates offered in the normal market area only if the
institution obtains a waiver, but the institution may not offer rates more
than 75 basis points above such prevailing rates.
The Bank is at this time considered well capitalized and not in a "troubled
condition," and it is not, therefore, subject to the brokered deposit
limitations.
(d) Risk-Based Deposit Insurance Assessments. In addition, FDICIA
required the FDIC to develop and implement a system to account for risks
attributable to different categories and concentrations of assets and
liabilities in assessing deposit insurance premiums. Under this system, each
bank's deposit insurance premium assessment is calculated based on the level
of risk that the Bank Insurance Fund will incur a loss if that bank fails and
the amount of the loss if such failure occurs. This requirement, along with
the increased emphasis on exceeding capital measures, may cause banks such as
the Bank to adjust their asset mix in order to affect their deposit insurance
premium and their ability to engage in activities.
Capital Regulations and Dividends
The Board requires member banks and bank holding companies to maintain
adequate capital and has adopted capital leverage guidelines for evaluating
the capital adequacy of bank holding companies. The Comptroller has also
adopted a similar minimum leverage regulation, requiring national banks to
maintain at least a minimum capital to asset ratio. The Board's guidelines
and the Comptroller's regulations require the banks and bank holding companies
subject to them to achieve and maintain a Tier 1 capital to total asset ratio
of at least three percent (3.0%) to five percent (5.0%), depending on the
condition and rate of growth of the bank or holding company. Tier 1 or core
capital is defined to consist primarily of common equity, retained earnings,
and certain qualified perpetual preferred stock. These minimum leverage ratio
requirements limit the ability of the banking industry, including the
Corporation and the Bank, to leverage assets.
The Federal Reserve Board also uses risk-based capital guidelines to evaluate
the capital adequacy of member banks and bank holding companies. Under these
guidelines, assets are categorized according to risk and the various
categories are assigned risk weightings. Assets considered to present less
risk than others require allocation of less capital. In addition, off-balance
sheet and contingent liabilities and commitments must be categorized and
included as assets for this purpose. Under these guidelines, the Corporation
is required to maintain total capital of at least 8.00% of risk-adjusted
assets, and half of that minimum total capital must consist of Tier 1 capital
as defined above.
The Comptroller has also adopted risk-based capital guidelines applicable to
national banks, such as the Bank, that are similar to the Federal Reserve's
risk-based capital guidelines. At this time, the Bank is required to maintain
total capital of at least 8.00% of risk-adjusted assets.
The capital totals of the Corporation and the Bank, as of December 31, 1999,
exceeded the amounts of capital required under the regulatory guidelines. The
following table shows the capital of the Corporation and the Bank, as a
percentage of assets, and the capital which they are required to maintain
under the capital regulations, as of December 31, 1999:
Corporation Bank
Leverage capital ratio 7.5% 7.5%
Required leverage capital ratio 3.0% - 5.0%* 3.0% - 5%*
Total risk-based capital ratio 10.5% 10.5%
Required total risk-based capital ratio 8.0% 8.0%
Tier 1 risk-based capital ratio 9.3% 9.3%
Required tier 1 risk-based capital ratio 4.0% 4.0%
* Determined based on the regulators' evaluations.
Under the risk-based capital rules, when the agencies assess the capital
adequacy of a bank, they must take into account the effect on that bank's
capital that would occur if interest rates moved up or down. The purpose of
this requirement is to ensure that banks with high levels of interest rate
risk have enough capital to cover the loss exposure.
The risk-based guidelines and the leverage ratio do not have a significant
effect on the Corporation and the Bank at this time because both the
Corporation and the Bank meet their respective required ratios. The effect
the requirements may have in the future is uncertain, but management does not
believe they will have an adverse effect on the Corporation or the Bank. The
risk-based capital guidelines may affect the allocation of the Bank's assets
between various types of loans and investments. If the Bank continues to grow
with its present asset composition, it may be required to raise additional
capital.
The required capital ratios have increased in significance under FDICIA, as
described above. The ratios now affect the Bank's ability to utilize brokered
deposits and its deposit insurance premium rates, and they can result in
regulatory enforcement action. See, above, "The Bank."
As required by FDICIA, the Federal banking agencies now take credit risk
concentrations and an individual institution's ability to manage such
concentrations into account when they assess a bank's capital adequacy.
Non-traditional investments and activities, such as the use of derivatives,
are also taken into account in assessing capital requirements. The agencies
can adjust the standards for risk-based capital on a case by case basis to
take such risks into account, but there is no formula that a bank can use
prior to evaluation by the agency to determine how credit concentration or
nontraditional activities will affect its capital requirements.
Regulatory restrictions and other information guidelines with respect to the
payment of dividends by the Bank are contained in Item 5, "Market for Common
Equity and Related Stockholder Matters.", below.
Impact of Monetary Policies
Banking is a business in which profitability depends on rate differentials.
In general, the difference between the interest rate received by the Bank on
loans extended to its customers and securities held in the Bank's investment
portfolio and the interest rate paid by the Bank on its deposits and its other
borrowings comprise the major portion of the Bank's earnings. To the extent
that the Bank is not able to compensate for increases in the cost of deposits
and other borrowings with greater income from loans, securities and fees, the
net earnings of the Bank will be reduced. The interest rates paid and
received by the Bank are highly sensitive to many factors which are beyond the
control of the Bank, including the influence of domestic and foreign economic
conditions.
The earnings and growth of the Bank are also affected by the monetary and
fiscal policy of the United States government and its agencies, particularly
the Board. These agencies can and do implement national monetary policy,
which is used in part to curb inflation and combat recession. Among the
instruments of monetary policy used by these agencies are open market
transactions in United States Government securities, changes in the discount
rates of member bank borrowings and changes in reserve requirements. The
actions of the Board have had a significant effect on lending by banks,
investments and deposits, and such actions are expected to continue to have a
substantial effect in the future. However, the nature and timing of any
further changes in such polices and their impact on the Bank cannot be
predicted.
Public Interest Laws, Consumer and Lending Laws
In addition to the other laws and regulations discussed herein, the Bank is
subject to certain consumer and public interest laws and regulations that are
designed to protect customers in transactions with banks. While the list set
forth below is not exhaustive, these laws and regulations include the
Community Reinvestment Act, Truth in Lending Act, the Truth in Savings Act,
the Electronic Funds Transfer Act, the Expedited Funds Availability Act, the
Equal Credit Opportunity Act, the Fair Housing Act, the Real Estate Settlement
Procedures Act, the Home Mortgage Disclosure Act, the Fair Credit Reporting
Act, the Fair Debt Collection Practices Act, the Bank Secrecy Act and the
Right to Financial Privacy Act.
These laws and regulations mandate certain disclosure requirements and
regulate the manner in which financial institutions must deal with customers
when taking deposits, making loans, collecting loans and providing other
services. The Bank must comply with the applicable provisions of these laws
and regulations as part of its ongoing customer relations. Failure to comply
with these laws and regulations can subject the Bank to various penalties,
including but not limited to enforcement actions, injunctions, fines or
criminal penalties, punitive damages to consumers and the loss of certain
contractual rights.
Environmental Regulation
Federal, state and local regulations regarding the discharge of materials into
the environment may have an impact on the Corporation and the Bank. Under
Federal law, liability for environmental damage and the cost of cleanup may be
imposed upon any person or entity who is an owner or operator of contaminated
property. State law provisions, which were modeled after Federal law, impose
substantially similar requirements. Both Federal and state laws were amended
in 1996 to provide generally that a lender who is not actively involved in
operating the contaminated property will not be liable to clean up the
property, even if the lender has a security interest in the property or
becomes an owner of the property through foreclosure.
The Economic Growth and Regulatory Paperwork Reduction Act of 1996 (the
"Economic Growth Act"), discussed in more detail below, includes protection
for lenders from liability under the Comprehensive Environmental Response,
Compensation and Liability Act of 1980 ("CERCLA"). The Economic Growth Act
adds a new section to CERCLA to specify the actions a lender may take with
respect to lending and foreclosure activities without incurring environmental
clean-up liability or responsibility. Typical contractual provisions regarding
environmental issues in the loan documentation and due diligence inspections
will not lead to lender liability for clean-up, and a lender may foreclose on
contaminated property, so long as it merely maintains the property and moves
to divest it at the earliest possible time.
Under California law, a lender generally will not be liable to the State
Attorney General for the cost associated with cleaning up contaminated
property unless the lender realized some benefit from the property, failed to
divest the property promptly, caused or contributed to the release of the
hazardous materials or made the loan primarily for investment purposes. This
amendment to California law became effective with respect to judicial
proceedings filed and orders issued after January 1, 1997.
The extent of the protection provided by both the Federal and state lender
protection statutes will depend on their interpretation by the administrative
agencies and courts, and the Corporation cannot predict whether it will be
adequately protected for the types of loans made by the Bank.
In addition, the Corporation and the Bank are still subject to the risks that
a borrower's financial position will be impaired by liability under the
environmental laws and that property securing a loan made by the Bank may be
environmentally impaired and not provide adequate security for the Bank.
California law provides some protection against the second risk, by
establishing certain additional, alternative remedies for a lender in the
situation where the property securing a loan is later found to be
environmentally impaired. Primarily, the law permits the lender in such a
case to pursue remedies against the borrower other than foreclosure under the
deed of trust.
The Bank attempts to protect its position against the remaining environmental
risks by performing prudent due diligence. Environmental questionnaires and
information on use of toxic substances are requested as part of its
underwriting procedures. The Bank lends based upon its evaluation of the
collateral, net worth of the borrower and the borrower's capacity for
unforeseen business interruptions or risks.
Americans With Disabilities Act
The Americans With Disabilities Act ("ADA") enacted by Congress, in
conjunction with similar California legislation, is having an impact on banks
and their cost of doing business. The legislation requires employers with 15
of more employees and all businesses operating "commercial facilities" or
"public accommodations" to accommodate disabled employees and customers. The
ADA has two major objectives (1) to prevent discrimination against disabled
job applicants, job candidates and employees and (2) to provide disabled
persons with ready access to commercial facilities and public accommodations.
Commercial facilities, such as the Bank, must ensure all new facilities are
accessible to disabled persons, and in some instances may be required to adapt
existing facilities to make them accessible, such as ATM's and bank premises.
New and Pending Legislation
Certain legislative and regulatory proposals that could affect the
Corporation, the Bank and the banking business in general are pending or have
been introduced, before the United States Congress, the California State
Legislature, and Federal, state and local government agencies.
(a) ATM Fees. Legislation has been proposed in the past in the Congress and
the California legislature and measures are currently being proposed in local
jurisdictions to regulate the amount of ATM fees that operators of ATMs may
charge, and to further regulate the disclosure of such fees. The
Gramm-Leach-Bliley Act of 1999 also requires ATM operators who impose a fee
for use of an ATM by a non-customer to disclose such fees. The Bank does not
own or operate ATM machines.
(b) Expansion in Credit Union Membership. A broad rule adopted by the
National Credit Union Administration ('NCUA'), relaxes limits of credit union
membership. The new rule took effect January 1, 1999. The NCUA will now
approve credit unions with membership of more than 300,000 residents with
proof that they function as a community. The effect is to substantially
expand credit union membership and make credit unions as tax exempt entities,
serving credit needs of large communities, more competitive to banks.
Litigation attacking the new rule is pending.
(c) Office of Thrift Supervision ('OTS') Expansion of Charters to Insurance
Industry. In 1998 the OTS granted its ninth charter for an insurance company
to operate a thrift or savings and loan subsidiary. In this case the OTS
approved the application of State Farm Mutual Auto Insurance Co. to operate a
savings and loan business at some 16,000 sites where State Farm has insurance
agents. State Farm will offer auto, home equity and mortgage loans both
directly through agents and through the mail. There have been 41 new thrifts
approved by the OTS since 1994 with 54 charter applications pending which is
expected to result in yet more competition for banks.
(d) Privacy. The 1996 Amendments to the Fair Credit Reporting Act allow a
bank to share customer information with its affiliates providing the bank's
customers are given the opportunity to 'opt out' by way of language contained
in a bank's loan applications, loan agreements and other forms. The
Gramm-Leach-Bliley Act of 1999 requires financial institutions to provide
further customer protections regarding the sharing or selling of nonpublic
personal information, including disclosure by an institution of its policies
regarding confidentiality and security of such personal information and
further requirements regarding notices to customers and the customer's
opportunity to exercise a non-disclosure option. Regulations to implement
these requirements will be adopted by the regulatory agencies. California
state law provides protection against furnishing customer information to third
parties (other than law enforcement officials).
It is not known to what extent, if any, these proposals will be enacted or
remain in force or what effect such legislation would have on the structure,
regulation and competitive relationship of financial institutions. It is
likely, however, that many of these proposals would subject the Corporation
and the Bank to increased regulation, disclosure and reporting requirements
and would increase competition to the Bank and its cost of doing business.
In addition to pending legislative changes, the various banking regulatory
agencies frequently propose rules and regulations to implement and enforce
already existing legislation. It cannot be predicted whether or in what form
any such legislation or regulations will be enacted or the effect that such
legislation or regulations may have on the Bank's business. It is likely,
however, that many of these proposals would subject the Corporation and the
Bank to increased regulation, disclosure and reporting requirements and would
increase competition to the Bank and its cost of doing business.
ITEM 2. Description of Properties
The Corporation and the Bank share common quarters at 801 Fourth Street, in
the central business district of Santa Rosa. The Corporation leases a total
of approximately 9,335 square feet of ground floor and second floor office
space at that location and sublets this area to the Bank.
The SBA and Commercial Lending and Loan Administration offices are located
less than a block away from the main office at 815 Fifth Street, Santa Rosa.
The Bank leases 8,047 square feet from Mr. James Ratto, a major shareholder of
the Corporation.
The Corporation leases approximately 3,692 square feet of office space at 6641
Oakmont Drive, Santa Rosa, where Highway 12 intersects with Oakmont Drive, for
a branch office of the Bank opened in 1989. The Bank leases approximately
4,200 square feet of office space at 201 North Main St., Sebastopol for a
branch office which opened on December 6, 1999.
The Bank also leases other property for its supermarket branches in Sonoma
County and loan production offices in California, Arizona and New Mexico.
The Bank has invested in loans secured by real property collateral. The
Bank's policies with respect to such loans are described under the caption
"Item 7, Management's Discussion and Analysis or Plan of Operation - Loan
Portfolio."
ITEM 3. Legal Proceedings
Neither the Corporation nor the Bank is a party to any pending legal
proceedings, other than proceedings arising in the ordinary course of the
Bank's business. None of these are expected to have a material impact on the
financial position or results of operations of the Corporation.
ITEM 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of shareholders in the fourth quarter of
1999.
Part II
ITEM 5. Market for Common Equity and Related Stockholder Matters
On February 15, 2000, the Corporation had 3,560,401 shares of common stock
outstanding, held by approximately 315 shareholders of record.
At February 15, 2000, the directors and officers of the Corporation and the
Bank hold 11.2% and beneficially own 33.1% of the outstanding shares. See
"Item 11, Security Ownership of Certain Beneficial Owners and Management,"
herein. Under SEC rules, the directors and officers are restricted in the
amount of securities they may sell without registration under the Securities
Act of 1933, as amended. In general, directors and officers each may offer up
to 35,604 shares in any three month period without such registration.
As of February 15, 2000, the directors, officers and staff also have the right
to acquire 838,495 additional shares upon the exercise of options granted
pursuant to the Corporation's Stock Option Plans. Should several directors
and officers choose to exercise options and sell their shares on the market,
such that a large number of shares are offered at one time, the price of the
common stock could be adversely affected.
The firms Everen Securities, Inc. and Mutual Securities, located in Santa
Rosa, and Hoefer & Arnett and First Security Van Kasper, located in San
Francisco, are presently making a market in the stock.
The following chart shows the high and low bid quotations and the volume of
transactions in the Corporation's stock for the periods indicated. The volume
information has been provided to the Corporation by Hoefer & Arnett of
transactions reported to NASDAQ and does not include privately negotiated
transactions. The prices provided by Mutual Securities are inter-dealer
prices, do not necessarily represent actual transactions and do not include
retail mark-ups, mark-downs or commissions. The bid prices and numbers of
shares in this table have been adjusted for the impact of the stock split and
stock dividends issued during 1998 and stock dividend in 1999.
Bid Quotations for the Corporation's Approximate
Common Stock Trading Volume
Quarter Ended High Low
- ----------------- ----- ----- -------
March 31, 1998 15.54 16.19 293,111
June 30, 1998 17.14 17.22 237,741
September 30, 1998 15.12 14.44 48,405
December 31, 1998 14.52 14.38 287,070
March 31, 1999 18.98 13.10 419,265
June 30, 1999 18.25 17.00 119,300
September 30, 1999 17.88 17.13 78,000
December 31, 1999 19.63 16.63 275,500
There has been a modest increase in the trading volume over the last few
years. Due to the lack of any significant trading and no established public
market, the prices indicated above should not be considered an indication of
the market value of the shares. There is no assurance that any significant
trading market for the shares will develop in the future and there are no
assurances as to the price at which shares may be traded in the future. The
bid and asked prices of the Corporation's common stock were $16.75 and $17.50,
respectively, on February 15, 2000.
Dividends
On April 6, 1999, the Corporation declared a 5% stock dividend to shareholders
of record on May 18, 1999. On August 25, 1998, the Corporation declared a two
for one stock split to shareholders of record on September 30, 1998. On March
31, 1998, the Corporation declared a 5% stock dividend to shareholders of
record on May 1, 1998.
There is no assurance that dividends will be paid, or, if paid, what the
amount of any such dividends will be. The future dividend policy of the
Corporation is subject to the discretion of the Board of Directors and will
depend upon a number of factors, including earnings, financial condition, cash
needs and general business conditions.
In addition, the Board of Directors may declare dividends only out of funds
legally available therefor. See "Supervision and Regulation." The
Corporation's primary source of income (other than interest income earned on
the Corporation's other investments) is the receipt of dividends from the
Bank. The Bank's ability to pay dividends is subject to the restrictions of
the national banking laws and, under certain circumstances, the approval of
the Comptroller of the Currency.
A national bank may not pay dividends from its capital. All dividends must be
paid out of net profits then on hand, after deducting for expenses, including
losses and bad debts. A national bank is also prohibited from declaring a
dividend until its surplus fund equals the amount of its capital stock or, if
the surplus fund does not equal the amount of its capital stock, until
one-tenth of the bank's net profits for the preceding half year, in the case
of quarterly or semiannual dividends, or the preceding two consecutive
half-year periods, in the case of an annual dividend, are transferred to the
surplus fund each time dividends are declared.
The approval of the Comptroller is required if the total of all dividends
declared by a bank in any calendar year will exceed the total of its net
profits of that year combined with its retained net profits of the two
preceding years, less any required transfers to surplus or a fund for the
retirement of any preferred stock which may be outstanding. Moreover, the
Comptroller may prohibit the payment of dividends which would constitute an
unsafe and unsound banking practice. As of December 31, 1999, $13,616,000 of
retained earnings of the Bank was available for the payment of dividends under
this requirement.
ITEM 6. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The Corporation's sole subsidiary is Sonoma National Bank ("Bank"), and its
primary activities are the
commercial banking activities engaged in through the Bank. The following
discussion of financial condition and results of operations focuses primarily
on the Bank, for the years ended December 31, 1998 and 1999.
During 1999, total consolidated assets grew 23.5% to $397,928,000 at December
31, 1999. Total consolidated assets grew 37.8% during 1998 to $322,253,000 at
December 31, 1998. The growth in both years results from strong commercial
and commercial real estate loan demand. See discussion on Loan Portfolio.
Total deposits increased 20.9% to $357,867,000 when comparing December 31,
1999 to December 31, 1998. For the year ended December 31, 1998, total
deposits increased 37.8% to $295,969,000. Deposits increased to fund the loan
growth mentioned above. See discussion on Deposits.
Results of Operations
The Corporation's consolidated net income for the year ended December 31, 1999
was $5,578,000 as compared to $4,765,000 for the year ended December 31, 1998,
an increase of 17.1%. The Corporation's consolidated net income for the year
ended December 31, 1998, increased 45.6% over the year ended December 31,
1997.
Net interest income before provision for loan losses increased 18.8%, or
$2,692,000, when comparing the year of 1999 to 1998. This increase results
from the growth in the volume of loans on which the Bank earns a net interest
margin. The Bank's interest margin for 1999 equaled 5.03% compared to 5.23%
in 1998. The interest margin equaled 5.22% in 1997. See, "Net Interest
Income."
The provision for loan losses increased $320,000 in 1999 over 1998. See,
"Allowance for Loan Losses." Other income decreased $130,000 primarily due to
a decrease in gains on SBA loan sales. See, "Non-Interest Income." Operating
expenses increased by $846,000 primarily because of growth of the Bank. A new
branch office was opened in Sonoma County and a new loan production office was
opened in New Mexico.
When comparing 1998 to 1997 the provision for loan losses decreased $170,000
and other income increased $299,000. Operating expenses increased $866,000
during 1998 primarily due to increases in personnel costs, new branch office
and the relocation of the lending staff to larger space.
Net Interest Income
The primary source of the Bank's income is the difference between (1) the
interest earned on its loan and investment portfolios, interest bearing
deposits with other banks, and federal funds sold, and (2) the interest paid
on deposits and other borrowed funds. This difference is referred to as net
interest income, and it is one of the primary factors that affect the
Corporation's profitability. Interest income earned on loans, which includes
loan fee income, is primarily a function of the amount of loans outstanding
and the rates prevailing on these loans. Interest paid on deposits depends on
the composition of the deposit base and the rates paid to attract deposits.
See, "Deposits."
For the year ended December 31, 1999, net interest income before the provision
for loan losses totaled $16,988,000 as compared to $14,296,000 for the year
ended December 31, 1998, representing an increase of 18.8%. The majority of
this increase results from the net margin earned on growth in the loan
portfolio, largely from the increase in commercial real estate and
construction loans. See, "Loan Portfolio." During 1998, net interest income
before the provision for loan losses increased $2,842,000 or 24.8%, from
$11,454,000 in 1997 to $14,296,000, primarily due to the net margin earned on
growth in the loan portfolio.
The Bank's net interest margin (expressed as a percentage, the yield on
average interest earning assets less the rate paid on average interest bearing
liabilities) moved from 5.22% in 1997 to 5.23% in 1998 to 5.03% in 1999.
Several factors impact the Bank's net interest margin. These include changes
in market interest rates, mix of loan and earning assets, non-accrual loan
balances, mix of funding sources and the level of loans relative to deposits.
During 1998 and 1999 the Federal Reserve Board made several changes to the Fed
Funds and Discount rates ending a period of relatively stable interest rates.
The prime rate was adjusted as the Federal Reserve Bank changed the Discount
rate resulting in the prime rate equaling 8.5% at December 31, 1999, 7.75% at
December 31, 1998 and 8.25% at December 31, 1997. Since the Bank is asset
sensitive, meaning more assets are immediately adjustable than liabilities,
the net interest margin tends to increase when rates increase and tends to
decrease in a declining rate environment. There are no assurances that
earnings will not be adversely impacted by future actions of the Federal
Reserve Board and changes in market interest rates.
The full impact of rate changes on the Bank's earnings are not realized for
several months, since not all loans or deposits reprice immediately. The
majority of SBA loans are tied to the prime rate and reprice on a calendar
quarter basis. The Bank has adjustable rate loans, mainly commercial real
estate loans, that are tied to indexes which adjust at a slower pace, such as
the Eleventh District Cost of Funds Index (COFI). The COFI rate moved from
4.95% in December 1997 to 4.69% in December 1998 to 4.77% in December 1999.
The Bank also has a fixed rate loan portfolio which generally reduces net
interest margin as interest rates rise.
The net interest margin is also affected by the level of loans relative to
deposits. The Bank's ratio of loans-to-deposits increased during 1999, when
it averaged 96.1%, as compared to 94.9% in 1998 and 90.6% in 1997. An
increase in the loan-to-deposit ratio generally results in increased net
interest margin.
Changes in the mix of loans also impact the Bank's interest margin. During
1999, the Bank grew average loans by $68.5 million. The majority of the
growth occurred in commercial real estate (increased $49.4 million) which had
the lowest average interest rate of 8.90% during 1999. The average yield was
9.20% for the total loan portfolio with construction loans yielding 10.41% and
commercial and SBA loans yielding 9.28%.
Interest income increased from $20.6 million in 1997 to $25.4 million in 1998
to $29.8 million in 1999. This is a direct result of growth in loans.
Average loans increased from $191.3 million in 1997 to $239.5 million in 1998
to $308.0 million in 1999. The yield on loans fluctuated from 9.98% in 1997 to
9.85% in 1998 to 9.20% in 1999. The 65 basis point decline during 1999
resulted primarily from the mix in loans. During 1999, average balances of
commercial real estate loans, which have a lower yield than other types of
loans such as SBA loans, increased $49.4 million thereby impacting the overall
portfolio yield. The Bank continues to experience increased competition for
loans, which has resulted in lower loan pricing in the market place, and may
impact the Bank's offering rates on new loans in the future.
Overall loan portfolio yields are affected by deferred loan fees and discounts
on loans. These fees and discounts are amortized to income over the life, or
estimated life, of the loan with which they are associated and serve to
increase loan portfolio yields. Interest income on loans includes loan fee
income of $1,246,000 for the year ended December 31, 1999 and $1,095,000 for
the year ended December 31, 1998. This fee income increased yields on average
loans by 40 basis points in 1999 as compared to 45 basis points in 1998.
Deferred loan fees are a product of origination and commitment fees net of
certain direct loan origination costs. The deferred fee amounts are as
follows: $2,122,000 as of December 31, 1999, and $1,353,000 as of December
31, 1998. Deferred fees are netted against total loans in the balance sheet.
Discounts on the unguaranteed portion of SBA loans are recorded as an asset
when the guaranteed portion of the SBA loan is sold. These discounts are
amortized as an adjustment to the loan yields over the estimated life of the
SBA loan. As of December 31, 1999, $568,000 was recorded as discounts
compared to $654,000 at December 31, 1998. These discounts are netted against
total loans in the balance sheet.
The allowance for loan losses has no direct effect on yield. Loans carried as
non-accrual reduce the portfolio yield, since the balance of a non-accrual
loan is maintained in the loan total but no interest is accrued. Non-accrual
loans are included in the loan amounts in the average balance sheets below.
Interest foregone on non-accrual loans equaled $60,000 in 1999 compared to
$12,000 in 1998.
Interest expense increased 15.6% when comparing 1998 to 1999, due to increases
in interest bearing deposits, particularly in time deposits which bear the
highest cost. The average cost of interest paid on interest bearing deposits
for the year ended December 31, 1999 was 4.62%, versus 4.89% for the year
ended December 31, 1998. Average non-interest bearing deposits increased
31.7% in 1999. In 1998, the majority of the Bank's growth also was funded by
time certificates and money market accounts.
The Bank's deposits reprice at a slower pace than loans, primarily since
certificates of deposits usually do not reprice until their maturity dates,
which generally range from six months to eighteen months. Time deposits have
fluctuated from $102.9 million at December 31, 1997 to $146.6 million at
December 31, 1998 to $132.9 million at December 31, 1999. During both 1998
and 1999, the Bank ran several time deposit campaigns at rates slightly higher
than its local competitors. These higher priced deposits were used to fund
the rapid growth in loans. The cost of time deposits averaged 5.26% in 1999
compared to savings and money market rate accounts which averaged 4.06%.
Growth in time deposits (highest cost), has a negative impact on the Bank's
cost of funds and net interest margin.
The Bank's money market rate account, the Sonoma Investors Reserve Account,
which offers rates tied to US Treasury rates, also remained competitive during
1999. Balances held in Sonoma Investors Reserve accounts increased from $64.8
million at December 31, 1997 to $87.0 million December 31, 1998 and $97.5
million at year end 1999. Average balances for all money market accounts at
the Bank were $66.7 million for 1997, $77.5 million for 1998 and $87.9 million
for 1999. The rate offered on the Sonoma Investors Reserve account is
repriced on a weekly basis. The cost of these funds fluctuates based upon the
movement of the 90 day U.S. Treasury Bill. Due to the weekly repricing,
changes in rates on the Sonoma Investors Reserve Account have a more immediate
impact on the Bank's cost of funds than changes in rates on time certificates.
The cost of funds on savings and money market accounts equaled 4.06% in 1999
compared to 4.17% in 1998.
The Bank's margin had been relatively stable during 1997 and 1998. Changes in
the mix of loans and deposits, changes in the ratio of loans-to-deposits and
market rates all impact the Bank's margin. During 1998, the Bank's cost of
funds decreased 0.09%, while the rate earned on loans decreased 0.13% which
negatively impacted income. The Bank's average loans-to-deposits ratio
increased from 90.6% in 1997 to 94.9% in 1998, this had a positive impact on
net interest margin.
The tables on the following pages (i) summarize the distribution, by amount,
of the average assets, liabilities and shareholders' equity of the Corporation
for the periods indicated and (ii) set forth the yields on earning assets and
the rates paid for interest bearing liabilities during the periods indicated.
Averages are computed primarily from daily balances.
AVERAGE BALANCE SHEET
Year Ended
December 31, 1999
(dollars in thousands)
Average Interest Average
Balance Income/Expense Yield/Rate
------- -------------- ----------
Certificates of deposit
with other banks $0 $0
Investments 5,170 275 5.31%
Federal funds sold 24,772 1,203 4.86%
Loans:
Commercial (including SBA loans) 121,650 11,292 9.28%
Installment loans to individuals 1,738 186 10.68%
Real estate - Construction 29,020 3,022 10.41%
Real estate - Other 155,605 13,846 8.90%
-------- ------- -----
Total Loans 308,013 28,346 9.20%
-------- ------- -----
Total earning assets 337,955 29,824 8.82%
-------
Non-earning assets:
Allowance for loan losses (3,328)
Deferred Loan Fees & Discounts (2,286)
Cash and due from banks 10,550
Other assets 7,105
--------
TOTAL ASSETS $349,996
========
Deposits:
Demand - interest bearing $15,833 $176 1.11%
Savings & money market 92,468 3,750 4.06%
Time certificates 167,224 8,794 5.26%
-------- ------- -----
Total interest bearing deposits 275,525 12,720 4.62%
Other Interest bearing liabilities 2,132 116 5.44%
-------- ------- -----
Total Interest bearing deposits &
liabilities 277,657 12,836 4.62%
-------
Non-interest bearing liabilities:
Non-interest bearing deposits 44,656
Other liabilities 1,882
Shareholders' equity 25,801
--------
TOTAL LIABILITIES
AND SHAREHOLDERS' EQUITY $349,996
========
Net interest income $16,988
=======
Net interest margin 5.03%
=======
AVERAGE BALANCE SHEET
Year Ended
December 31, 1998
(dollars in thousands)
Average Interest Average
Balance Income/Expense Yield/Rate
------- -------------- ----------
Certificates of deposit
with other banks $ 0 $ 0
Investments 5,660 332 5.87%
Federal funds sold 28,047 1,466 5.23%
Loans:
Commercial (including SBA loans) 113,108 11,357 10.04%
Installment loans to individuals 1,761 193 10.99%
Real estate - Construction 18,473 2,142 11.59%
Real estate - Other 106,207 9,909 9.32%
-------- ------- -----
Total Loans 239,549 23,601 9.85%
-------- ------- -----
Total earning assets 273,256 25,399 9.29%
-------
Non-earning assets:
Allowance for loan losses (2,765)
Deferred Loan Fees & Discounts (1,992)
Cash and due from banks 8,072
Other assets 6,181
--------
TOTAL ASSETS $282,752
========
Deposits:
Demand - interest bearing $12,608 $134 1.06%
Savings & money market 81,359 3,395 4.17%
Time certificates 132,938 7,568 5.69%
-------- ------- -----
Total interest bearing deposits 226,905 11,097 4.89%
Other Interest bearing liabilities 130 6 4.61%
-------- ------- -----
Total Interest bearing deposits &
liabilities 227,035 11,103 4.89%
-------
Non-interest bearing liabilities:
Non-interest bearing deposits 33,917
Other liabilities 1,426
Shareholders' equity 20,374
--------
TOTAL LIABILITIES
AND SHAREHOLDERS' EQUITY $282,752
========
Net interest income $14,296
=======
Net interest margin 5.23%
=======
AVERAGE BALANCE SHEET
Year Ended
December 31, 1997
(dollars in thousands)
Average Interest Average
Balance Income/Expense Yield/Rate
------- -------------- ----------
Certificates of deposit
with other banks $1,292 $75 5.80%
Investments 7,360 422 5.73%
Federal funds sold 19,514 1,064 5.45%
Loans:
Commercial (including SBA loans) 95,682 9,894 10.34%
Installment loans to individuals 1,833 202 11.02%
Real estate - Construction 4,766 585 12.27%
Real estate - Other 89,011 8,403 9.44%
-------- ------- -----
Total Loans 191,292 19,084 9.98%
-------- ------- -----
Total earning assets 219,458 20,645 9.41%
-------
Non-earning assets:
Allowance for loan losses (2,146)
Deferred Loan Fees & Discounts (1,868)
Cash and due from banks 7,458
Other assets 5,547
--------
TOTAL ASSETS $228,449
========
Deposits:
Demand - interest bearing $11,258 $120 1.07%
Savings & money market 67,949 2,999 4.41%
Time certificates 105,207 6,072 5.77%
-------- ------- -----
Total interest bearing deposits 184,414 9,191 4.98%
-------- ------- -----
Non-interest bearing liabilities:
Demand - non-interest bearing 26,649
Other liabilities 1,262
Shareholders' equity 16,124
--------
TOTAL LIABILITIES
AND SHAREHOLDERS' EQUITY $228,449
========
Net interest income $11,454
=======
Net interest margin 5.22%
=======
The following tables set forth the changes in net interest income due to
changes in interest rates and the volume of assets and liabilities between
years. Variances attributable to simultaneous rate and volume changes are all
allocated to volume change amount.
ANALYSIS OF VOLUME AND RATE CHANGES
ON NET INTEREST INCOME AND EXPENSE
1999 OVER 1998
(dollars in thousands)
Volume Yield/Rate Total
------ ---------- -----
Increase/(decrease) in interest income:
Certificates of deposit with other banks $0 $0 $0
Investments (28) (29) (57)
Federal funds sold (171) (92) (263)
Loans:
Commercial (incl. SBA loans) 860 (925) (65)
Installment loans to individuals (2) (5) (7)
Real estate - Construction 1,222 (342) 880
Real estate - Other 4,591 (654) 3,937
------ ------ ------
Total 6,472 (2,047) 4,425
------ ------ ------
Increase/(decrease) in interest expense:
Deposits & other interest bearing liabilities:
Demand - interest bearing 34 8 42
Savings & money market 457 (102) 355
Time certificates 1,945 (719) 1,226
Other interest bearing liabilities 92 18 110
------ ------ ------
Total 2,528 (795) 1,733
------ ------ ------
Increase/(decrease) in net interest income $3,944 ($1,252) $2,692
====== ====== ======
ANALYSIS OF VOLUME AND RATE CHANGES
ON NET INTEREST INCOME AND EXPENSE
1998 OVER 1997
(dollars in thousands)
Volume Yield/Rate Total
------ ---------- -----
Increase/(decrease) in interest income:
Certificates of deposit with other banks $(75) $ - $(75)
Investments (97) 7 (90)
Federal funds sold 465 (63) 402
Loans:
Commercial (incl. SBA loans) 1,802 (339) 1,463
Installment loans to individuals (8) (1) (9)
Real estate - Construction 1,682 (125) 1,557
Real estate - Other 1,623 (117) 1,506
------ ------ ------
Total 5,392 (638) 4,754
------ ------ ------
Increase/(decrease) in interest expense:
Deposits & other interest bearing liabilities:
Demand - interest bearing 14 - 14
Savings & money market 591 (195) 396
Time certificates 1,600 (104) 1,496
Other interest bearing liabilities - 6 6
------ ------ ------
Total 2,205 (293) 1,912
------ ------ ------
Increase/(decrease) in net interest income $3,187 $(345) $2,842
====== ====== ======
Non-Interest Income
Non-interest income is derived primarily from gains on sales of SBA loans,
service charges on deposit accounts, earnings on life insurance and SBA loan
servicing fees. When comparing the year ended December 31, 1999 to December
31, 1998, non-interest income decreased 7.6% to $1,572,000, compared to
$1,702,000 in 1998.
Gains on the sale of the guaranteed portion of SBA loans decreased to $475,000
in 1999 versus $619,000 in 1998. This decrease in gains on sales resulted
from decline in premium offered by the secondary market. Due to the general
strength of the economy and low interest rate environment over the last few
years, SBA borrowers had been refinancing in order to take advantage of lower
rates and increased equity of their collateral. Due to these prepayments the
yields to investors had declined and premiums were reduced. The Bank's
premiums averaged 5.4% in 1999 compared to 9.4 during 1998. During 1999 the
Bank sold SBA loans totaling $10,017,000, compared to $7,144,000 in 1998.
SBA servicing fees decreased to $295,000 for 1999 compared to $339,000 for
1998. Service fee income is based on payments received, and therefore, vary
from year to year. During 1999, the Bank's average SBA loan portfolio serviced
was $26.8 million declining from $31.5 million in 1998. The decline in the
serviced portfolio is caused by SBA loan payoffs. If the serviced portfolio
continues to decline, SBA servicing revenue will continue to be negatively
impacted.
There can be no assurance that the SBA program will continue to generate
significant amounts of other non-interest income in the future. The Bank
continues to experience additional competition with more financial
institutions making SBA loans. The government may also revise the SBA program
at any time, which could have a negative impact on the Bank's profit. See,
"Item 1, The Corporation, Business of the Bank."
Non-interest income includes service charges on deposit accounts. During
1999, service charges totaled $444,000 versus $367,000 in 1998. Service
charges vary depending upon the customers' uses of various Bank services.
With the growth in deposit customers the fee income also increased.
Non-interest income also includes earnings on life insurance held for certain
directors and senior officers which totaled $105,000 in 1999 the same as 1998.
Discount brokerage services generated $19,000 in 1999 compared to $72,000 in
1998. The costs associated with this service have consistently exceeded the
revenue generated. This service was well received by Bank customers; however,
due to the risk associated with discount brokerage services it was determined
that the Bank would no longer offer this service effective January 1999 which
accounts for the decline in income from this source.
During 1999, $2,000 in loss on sale of other real estate owned (OREO) was
recorded compared to $1,000 gain in 1998. See, "Other Real Estate Owned."
Non-interest income for 1998 totaled $1,702,000, compared to $1,403,000 in
1997. The increase in gains on the sale of the guaranteed portions of SBA
loans, which totaled $619,000 in 1998 compared to $265,000 in 1997 positively
impacted non-interest income, on SBA loan sales totaling $7,144,000 in 1998
and $3,959,000 in 1997. SBA servicing fees decreased during 1998 to $339,000
compared to $392,000 in 1997. During 1998, discount brokerage services added
$72,000, before expenses. Service charges also increased $21,000 during 1998.
Non-Interest Expense
Non-interest expenses include salaries and employee benefits, occupancy,
equipment and the general expenses required for the operation of the
Corporation and the Bank. For the year ended December 31, 1999, non-interest
expenses totaled $8,428,000, an increase of 11.2% over the previous year. The
following table outlines the components of non-interest expense for the
periods indicated:
(In thousands)
Year Ended December 31,
Expense Item 1999 1998 1997
---- ---- ----
Salaries & Employee Benefits $4,820 $4,284 $3,762
Occupancy 789 747 713
Equipment 468 521 368
Advertising/Business Development 380 299 318
Outside Customer Services 347 278 249
Director & Shareholder expenses 290 274 204
Deposit and Other Insurance 211 198 173
Professional Fees 165 151 147
Stationery & Supplies 173 148 146
Other 785 682 636
------ ------ ------
TOTAL $8,428 $7,582 $6,716
====== ====== ======
A portion of the 12.5% increase in salaries and benefits resulted from staff
increases associated with the opening of the new Sebastopol Branch in the last
quarter of 1999 and a new loan production office in New Mexico. During 1999
incentive compensation increased due to increased loan production and deposit
growth. Salaries included increases for performance and promotions during the
year. The Bank also experienced staff growth in 1999 with the Bank's full time
equivalent (FTE) staff positions averaging 83 persons in 1999, compared to 76
in 1998.
Occupancy costs increased 5.6% due to additional offices and annual increases
in the rents charged on most facilities.
Equipment expenses decreased 10.2% to $468,000 in 1999. During 1999 the Bank
continued its efforts to assure that the Bank's computer systems were Year
2000 compliant. During 1999, the Bank spent $25,000 on expenses and costs
associated with Year 2000 project which brought the total cost of this project
to approximately $75,000 (this does not include staff time dedicated to this
project). Equipment costs are expected to increase during 2000 as the Bank
grows and expands it usage of technology.
Advertising and business development costs vary from year to year depending on
the various promotions that have occurred during the year. These costs include
promotion of various products (Telebanc, SBA lending, Commercial lending and
Deposit campaigns).
Outside customer services increased from $278,000 in 1998 to $347,000 in 1999.
Analysis charges are a major expense included in this category. Analysis
charges are customer expenses for title and escrow services, check charges,
courier and payroll services incurred on behalf of customers who maintain
deposit balances sufficient to compensate for these costs. See, "Deposits."
While some non-interest expense is incurred, management feels the contribution
of the non-interest bearing demand accounts toward lowering overall cost of
funds more than offsets this cost.
Professional fees increased from $151,000 in 1998 to $165,000 in 1999. The
Bank's legal costs vary depending on the need to retain legal assistance on
problem loans, OREO, compliance issue and other issues. Other professional
fees include accounting services, outside data processing review, loan review
services, SBA audit fees and computer training.
Regulatory assessments has been increasing since 1996 when they equaled
$55,000 to $88,000 in 1997 to $97,000 in 1998 to $117,000 in 1999. The Bank's
deposit insurance premium is currently in the lowest cost category. The
Bank's cost per $100 of insurance deposits fell from $0.23 to $0.04 during
1995 and then fell in the first half of 1996 to zero cents per $100 of insured
deposits with an annual minimum payment of $2,000 where it has continued.
There can be no assurance that the deposit insurance rates will remain at this
low level. Effective in 1997, the Bank was charged a "Financing Corporation"
(FICO) assessment at the annual rate of $0.0128 per $100 of insured deposits.
This cost equaled $25,000 in 1997, $26,000 in 1998 and $35,000 in 1999. Also
included is the fee (based upon total assets) assessed by the Office of the
Comptroller of the Currency which equaled $82,000 in 1999 and $69,000 in 1998
See, "Description of Business-Supervision and Regulation."
Director and shareholder expenses increased from $274,000 in 1998 to $290,000
in 1999. See "Compensation of Directors." Director fees vary depending upon
the number of meetings during the year and director attendance at those
meetings. Shareholder services have increased and the Corporation's transfer
agent has increased charges from $8,000 in 1997 to $22,000 in 1998 and 1999.
Other expenses increased 15.1% to $785,000 during 1999. Included in this
category are expenses related to loan costs (broker fees, appraisals, etc.),
problem loan and OREO expenses, insurance, charitable donations, seminars and
travel costs. During 1998, other expenses of $682,000 increased 7.2% over
1997.
Non-interest expenses are expected to increase in 2000 due to the planned
growth in the Bank.
The increase in non-interest expenses of 13.9% from the 1997 total of
$6,716,000 to $7,582,000 in 1998 was due primarily to staff incentives
associated with increased volume of loan and deposit activity. The Bank's
equipment cost were increasing due to Year 2000 costs and upgrading personal
computers within the Bank. The loan department relocation and the addition of
the West College branch also increased operating expenses.
Loan Portfolio
The following table shows the composition of the loan portfolio, by type of
loan, as of the dates indicated.
(In thousands)
December 31,
Type of Loan 1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Commercial $130,924 $118,395 $100,283 $84,969 $62,062
Real Estate Construction 39,523 28,177 10,982 1,533 3,556
Real Estate Other 191,472 123,839 95,513 81,008 64,720
Installment Loans to Individuals 1,783 1,644 2,012 2,218 2,702
-------- -------- -------- -------- --------
TOTAL $363,702 $272,055 $208,790 $169,728 $133,040
======== ======== ======== ======== ========
The table above illustrates the Bank's emphasis on commercial and real estate
lending. At December 31, 1999 and 1998 commercial loans comprised 36.0% and
43.5%, respectively, of the Bank's total loan portfolio. Construction and
other real estate loans (combined) comprised 63.5% and 55.9% on those same
dates. Management is aware of the risk factors in making commercial and real
estate loans and is continuously monitoring the local marketplace as well as
performing annual reviews of this portfolio.
The Bank makes commercial loans primarily to small and medium sized businesses
and to professionals located within Sonoma County with SBA loans also being
generated in California, Arizona and New Mexico. While the Bank emphasizes
commercial lending, management does not believe that there is any significant
concentration of commercial loans to any specific type of business or
industry.
Most of the security for the Bank's loans is located in the area where the
loan is generated. A significant natural disaster impacting those locations,
such as a severe earthquake or widespread flooding, could disrupt the business
of these borrowers and impair the security for the Bank's loans. Although
some of the Bank's borrowers carry insurance to cover some of the losses that
might arise from such an event, the Bank does not require all its borrowers to
carry earthquake insurance coverage since such insurance typically provides a
large deductible amount. If a large earthquake occurs in the Bank's market
area, the Bank would probably have to restructure some of its loans and may
suffer loan losses related to the earthquake.
The Bank originates loans guaranteed by the U.S. Small Business Administration
("SBA"). The guaranteed portion of each loan, typically ranging from 55% to
90%, may be sold to outside investors, usually at a price in excess of par.
The unguaranteed portion on sold loans is generally retained in the Bank's
loan portfolio. The Bank follows the same internal credit approval process
when approving an SBA loan as when approving other loans. The majority of the
Bank's SBA loans are secured by real estate. All SBA loans are reported in
the chart above as Commercial Loans.
While SBA loans generally have the same underwriting requirements as the
Bank's other loans, they are sometimes for longer terms (7 to 25 years) and
have a higher loan-to-value ratio than the Bank typically accepts. This risk
is mitigated by the majority of the loans being secured by real estate. If a
default on a SBA loan occurs the Bank shares proportionally in the collateral
supporting the loan with the SBA which guarantees the loan. At December 31,
1999, the Bank held $165,019,000 in loans generated by the SBA department, of
which $60,948,000 was guaranteed by the SBA. At December 31, 1998, the Bank
held $125,108,000 in loans generated by the SBA department, of which
$59,020,000 was guaranteed by the SBA. There were no SBA loans more than 90
days past due and still accruing interest: there were four SBA loan totaling
$1,206,000, of which $908,000 was guaranteed by the SBA, on non-accrual
status, as of December 31, 1999. There were no SBA loan charge offs during
1999 or 1998.
The category entitled "Real Estate-Other" includes loans which are secured by
real estate and not classified as a construction or commercial loan. The
majority of these loans are secured by commercial real estate. The Bank offers
residential mortgage loans on a limited basis.
Home equity lines of credit, included in Real Estate - Other, equaled 0.7% of
the total loan portfolio at December 31, 1999 compared to 1.1% at December 31,
1998. These loans are secured primarily by second trust deeds on single
family residences. The Bank typically requires a loan-to-value ratio of no
more than 80% for home equity loans. The rates are adjustable monthly based
on the Bank's internal reference rate, and terms do not exceed ten years.
Real estate construction loans grew from $1,533,000 in 1996 to $10,982,000 in
1997 to $28,177,000 in 1998 to $39,523,000 in 1999. The Bank created a
construction loan group during 1997 to focus on construction loans primarily
for single family residences valued at under $4,000,000 located in Northern
California. Construction loans are made to "owner/occupied" and "owner/users"
of the properties and occasionally to developers with a successful history of
developing projects in the Bank's market area. Loan-to-value ratios on
construction loans depend upon the nature of the property. The Bank's policy
is to require that the loan-to-value ratio ranges from 65% to 80% and that the
borrower have a cash equity interest in the land ranging from 25%-50% or
alternative collateral. The construction lending business is subject to,
among other things, the volatility of interest rates, real estate prices in
the area and the market availability of conventional real estate financing to
repay such construction loans. A decline in real estate values and/or demand
could potentially have an adverse impact on this portion of the loan
portfolio, and on the earnings and financial condition of the Bank.
The Bank has a small portfolio of consumer loans, equaling 0.5% of the total
loan portfolio at December 31, 1999 and 1.0% at December 31, 1998. Personal
lines of credit and overdraft protection are offered to customers. Regular
underwriting procedures are followed depending upon the type of loans.
Revolving lines are reviewed every two years.
It is the Bank's policy to collateralize all loans unless, in management's
estimation, the credit worthiness, cash flow and character of the borrower
justify extension of credit on an unsecured basis. Management recognizes the
inherent risk in making unsecured loans, but in management's judgement, such
unsecured loans are justified based on the credit worthiness and financial
strength of the borrowers. Management believes that its secured loans are
adequately collateralized to minimize loss in the event of default in payment
of interest or principal or decline in collateral values. In making
collateralized loans, the Bank's policy establishes a maximum
loan-to-collateral value ratio of from 50% to 100%, depending on the type of
collateral and the other factors supporting the loan.
The following table summarizes the Bank's loan maturities, by loan type, at
December 31, 1999. Loans are categorized by the maturity of the final
installment.
(In thousands)
Over 1 Year
1 Year through Over 5
Or Less 5 Years Years Total
------- ------- -------- --------
Commercial $10,238 $10,886 $109,800 $130,924
Real Estate -Construction 34,705 0 4,818 39,523
Real Estate -Other 9,935 20,499 161,038 191,472
Installment Loans 435 620 728 1,783
------- ------- -------- --------
TOTAL $55,313 $32,005 $276,383 $363,702
======= ======= ======== ========
Of the total loans due in more than one year at December 31, 1999, $55,758,000
were at fixed interest rates, which includes loans currently at their floor
rate, and $252,630,000 were at adjustable interest rates.
Interest Rate Sensitivity
The Bank attempts to lend at competitive interest rates and to reduce exposure
to interest rate fluctuations by making most of its loans at adjustable
interest rates.
The following table summarizes the Bank's loan portfolio by contractual
repricing frequency and by loan type, at December 31, 1999. SBA loans are
considered commercial loans for this analysis. Most of the SBA loans are
secured by real estate. The Bank has approximately $34.7 million in
adjustable loans which are priced at floor rate and are considered fixed rate
loans, deemed to reprice at their maturity date for the purpose of this
analysis.
(In thousands)
Over 3 Over 1
Months Year
3 Months or through through Over 5
Less 1 Year 5 Years Years Total
----------- ------- ------- ------- --------
Commercial $106,145 $8,434 $3,845 $12,500 $130,924
Real Estate -Construction 13,174 25,684 171 494 39,523
Real Estate -Other 30,116 121,638 10,725 28,993 191,472
Installment Loans 987 89 537 170 1,783
-------- -------- ------- ------- --------
TOTAL $150,422 $155,845 $15,278 $42,157 $363,702
======== ======== ======= ======= ========
Interest rate risk is reduced through the practice of making variable interest
rate loans which are tied to an outside rate index. These loans "float", or
adjust their rate as the interest rate environment changes. As of December
31, 1999 and 1998 approximately 73% and 70%, respectively, of the Bank's loan
portfolio was comprised of loans with adjustable rates (excluding those which
had reached their floors).
Allowance for Loan Losses
In accordance with its policy, the Bank maintains an allowance for loan losses
to provide for losses in the loan portfolio. The allowance for loan losses is
reviewed monthly and is based on an allocation for each loan category (e.g.
Real Estate, Commercial), an allocation for undisbursed commitments, plus an
allocation for any outstanding loans which have been classified by regulators
or internally for the "Watch List." Each loan that has been classified is
individually analyzed for the risk involved and an allowance provided
according to the risk assessment. In addition, management considers such
factors as known loan problems, historical loan loss experience, loan
concentrations, loan loss experience in the banking industry, evaluations made
by bank regulatory agencies, assessment of economic conditions and other
appropriate data to identify risks in the loan portfolio. Based upon this
analysis of the allowance for loan losses (which incorporates the growth in
the loan portfolio during the year), the Bank has increased the allowance by
25.4% to $3,787,000 at December 31, 1999 compared to $3,019,000 in 1998. The
provision for loan losses for the year ended December 31, 1999 was $800,000 as
compared to $480,000 for the year ended December 31, 1998. The increase in the
allowance was based upon the growth in the loan portfolio during the year.
The ratio of allowance to loans outstanding (net of SBA loan guarantees)
equaled 1.3% at December 31, 1999 and 1998.
Depending on future evaluations of the allowance in connection with regulatory
examinations, any changes in the factors management reviews as described
above, and the amount of any loan losses that may be incurred, further
increases may be made in accordance with the Bank's policy, and such increases
will have an adverse effect on earnings. Management attempts to reduce
exposure to loss from adverse economic conditions through portfolio
diversification among businesses and types of borrowers.
During 1999 there were charged-offs on four loans (2 commercial and 2
consumer) totaling $32,000 and no loan recoveries. During 1998, there were no
loan charged-offs or recoveries.
The following table sets forth the changes in the allowance for loan losses
over the last five years and the relationship to loans outstanding, net of the
SBA guaranteed portion, at the end of those periods.
<TABLE>
<CAPTION>
(dollars in thousands)
Year Ended December 31,
ALLOWANCE FOR LOAN LOSSES: 1999 1998 1997 1996 1995
-------- -------- -------- --------- --------
<S> <C> <C> <C> <C> <C>
Balance at Beginning of Period $3,019 $2,539 $2,042 $1,676 $1,421
Provision for Loan Losses
Charged to Expense 800 480 650 420 250
Less Charge-Offs:
Commercial 13 0 48 38 0
Real Estate-Other 0 0 140 0 72
Consumer loans 19 0 34 24 30
-------- -------- -------- --------- --------
Total Charge-offs 32 0 222 62 102
-------- -------- -------- --------- --------
Recoveries:
Commercial 0 0 69 8 79
Real Estate - Other 0 0 0 0 24
Consumer 0 0 0 0 4
-------- -------- -------- --------- --------
Total Recoveries 0 0 69 8 107
-------- -------- -------- --------- --------
Net Charge-offs/(Recoveries) 32 0 153 54 (5)
-------- -------- -------- --------- --------
Balance at the End of the Period $3,787 $3,019 $2,539 $2,042 $1,676
======== ======== ======== ======== ========
Total Loans Outstanding at End of
Period-Net of SBA Guarantees $302,665 $213,034 $162,077 $141,472 $118,716
======== ======== ======== ======== ========
Ratio of Ending Allowance to
Ending Loans Outstanding-Net of
SBA Loan Guarantees 1.3% 1.4% 1.6% 1.4% 1.4%
======== ======== ======== ======== ========
AVERAGE TOTAL LOANS $308,013 $239,549 $191,292 $148,025 $114,819
======== ======== ======== ======== ========
Ratio of Net Charge-offs to Average
Loans Outstanding During the Period 0.010% 0.0% 0.079% 0.036% (0.004)%
======== ======== ======== ======== ========
</TABLE>
The following tables set forth the allocation of the allowance for loan losses
by loan type at the end of those periods indicated. The allocation of the
allowance will necessarily change whenever management determines that the risk
characteristics of the loan portfolio have changed. It should not be
construed that the amount allocated to a particular segment is the only amount
available for future charge-offs that might occur within that segment, since
the allowance is a general reserve. In addition, the amounts allocated by
segment may not be indicative of future charge-off trends. The percentage of
loans shown in these schedules represent the percentage of loans in each loan
category to total loans.
(dollars in thousands)
December 31, 1999 December 31, 1998
Category Amount % of Loans Amount % of Loans
------ ---------- ------ ----------
Commercial $1,269 36.0% $1,565 43.5%
Real Estate -Construction 776 10.9 444 10.4
Real Estate -Other 1,700 52.6 959 45.5
Installment Loans 42 0.5 51 0.6
------ ----- ------ -----
TOTAL $3,787 100.0% $3,019 100.0%
====== ===== ====== =====
<TABLE>
<CAPTION>
(dollars in thousands)
December 31, 1997 December 31, 1996 December 31, 1995
Category Amount % of Loans Amount % of Loans Amount % of Loans
------ ---------- ------ ---------- ------ ----------
<S> <C> <C> <C> <C> <C> <C>
Commercial $1,312 48.0% $1,081 50.1% $788 46.7%
Real Estate-Construction 133 5.3 66 0.9 166 2.7
Real Estate-Other 1,021 45.7 744 47.7 682 48.6
Installment Loans 73 1.0 151 1.3 40 2.0
------ ----- ------ ----- ------ -----
TOTAL $2,539 100.0% $2,042 100.0% $1,676 100.0%
====== ===== ====== ===== ====== =====
</TABLE>
Non-Performing and Impaired Loans
Loans are generally placed on Non-accrual status when the borrowers are past
due 90 days or when payment in full of principal or interest is not expected.
At the time a loan is placed on Non-accrual status, any interest income
previously accrued but not collected is reversed. Interest accruals are
resumed on such loans only when they are brought fully current with respect to
interest and principal and when, in the judgement of management, the loans are
estimated to be fully collectible as to both principal and interest. The Bank
considers a loan impaired when, based upon current information and events, it
is probable that the Bank will be unable to collect all amounts due according
to the contractual terms of the loan agreement.
The following table sets forth accruing loans past due 90 days or more and
non-accrual loans as of the dates indicated.
(dollars in thousands)
December 31,
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Past due 90 days or more $0 $0 $150 $0 $0
Non-accrual 1,888 62 318 438 398
------ ---- ---- ----- ----
Total $1,888 $62 $468 $438 $398
====== ==== ==== ==== ====
Percent of Total Loans 0.5% 0.0% 0.2% 0.3% 0.3%
====== ==== ==== ==== ====
Impaired Loans $1,888 $62 $468 $438 $398
====== ==== ==== ==== ====
The amount of interest foregone on the loans on non-accrual at December 31,
1999 totaled approximately $60,000 for 1999 and $106,000 in interest was
earned on those loans (prior to those loans being placed on non-accrual)
during the year.
On December 31, 1999, the Bank had $1,888,000 in non-accrual loans, of which
$959,000 was collateralized by real estate and $908,000 was guaranteed by the
SBA. As of December 31, 1998, the Bank had $62,000 in non-accrual loans, of
which $62,000 was collateralized by real estate and $56,000 was guaranteed by
the SBA.
Potential non-performing loans are identified by management as part of its
ongoing evaluation and review of the loan portfolio. Based on such reviews as
of December 31, 1999, management has no knowledge of information about any
loan which causes management to have doubts about the borrowers' ability to
comply with present repayment terms, such that the loan might subsequently be
classified as non-performing.
Other Real Estate Owned
During 1999, there was one foreclosure which was sold at a loss of $2,000.
During 1998, there were no foreclosures resulting in OREO properties; however,
on January 1, 1998 there was one property which was held as OREO which was
sold during 1998 at a $1,000 gain.
Deposits
The Bank obtains deposits primarily from shareholders, local businesses, loan
customers and personal contacts by its business development staff, officers
and directors. The Bank does not have any brokered deposits.
At December 31, 1999, deposits totaled $357,867,000, which was an increase of
20.9% from December 31, 1998.
Non-interest bearing demand deposits totaled $40,358,000 at December 31, 1999
as compared to $42,413,000 at December 31, 1998. Although these deposits do
not bear interest, some of the account holders utilize the Bank's analysis
system which gives earnings credits for their collected average balances based
on 100% of the 91-Day T-Bill rate. The customer may then use those earnings
credits towards various account services such as escrow accounting fees,
courier services, payroll, and check printing paid to third party vendors. The
balances in this type of account tend to vary and were lower than normal at
the end of the year. The average balance for demand deposits grew from
$33,917,000 during 1998 to $44,656,000 during 1999.
Time deposits increased $50.8 million or 34.7% in 1999. During both 1998 and
1999, the Bank offered highly competitive rates on time deposits in order to
fund growth in loans. Time deposits increased from $102,904,000 at December
31, 1997 to $146,584,000 at December 31, 1998 to $197,416,000 at December 31,
1999. This shift to time deposits which bear a higher rate than other types
of deposits, increased the Bank's overall cost of funds. See, "Net Interest
Income."
Money market deposits increased $10.5 million or 12.0% from December 31, 1998
to December 31, 1999. The Bank's Sonoma Investor Reserve account is tied to
the 90-day Treasury Bill and reprices on a weekly basis. During 1998 and 1999
the Sonoma Investors Reserve accounts offered rates which were competitive
with rates offered on 30 to 90 day time certificates, and therefore, this
account has been very popular with depositors.
Management attempts to reduce risks from fluctuating interest rates by
limiting the maturities on certificates of deposit. The following table sets
forth, by time remaining to maturity, the Bank's time certificates of deposit
as of December 31, 1999.
$100,000 and Over Less than $100,000
Amount Amount
(in 000's) Pct (in 000's) Pct
---------- ---- -------- -----
Three Months or Less $11,053 17.4% $15,650 11.7%
3 to 6 months 14,855 23.3 33,954 25.4
6 months to 1 year 34,352 54.0 74,704 55.8
Over 1 year 3,360 5.3 9,488 7.1
------- ----- -------- -----
Total $63,620 100.0% $133,796 100.0%
======= ===== ======== =====
At December 31, 1999, certificates of deposit of $100,000 or more constituted
approximately 17.8% of total deposits. The holders of these deposits are
primarily local customers of the Bank. While these deposits are rate
sensitive, the Bank believes they are stable deposits, as they are obtained
primarily from customers with other banking relationships with the Bank.
Investment Portfolio
The following table shows the fair value of the Bank's investment portfolio at
December 31, 1999, 1998 and 1997.
December 31,
(in thousands) 1999 1998 1997
---- ---- ----
U.S. Treasury Securities $0 $0 $1,499
U.S. Government-Sponsored Agencies 2,970 7,005 3,498
Mortgage-Backed Securities 0 0 453
Federal Home Loan Bank Stock 1,165 1,602 1,511
Federal Reserve Stock 129 129 129
------ ------ ------
Total $4,264 $8,736 $7,090
====== ====== ======
Securities Pledged $625 $625 $500
====== ====== ======
The following table shows the yield of investments (at amortized cost) by
maturity ranges as of December 31, 1999. Federal Home Loan Bank and Federal
Reserve stock are excluded from this table.
(in thousands)
Amount Yield
------ -----
One year or less $3,000 5.16%
Over one year through 5 years 0 0.00
Over 5 years through 10 years 0 0.00
Over 10 years 0 0.00
------ ----
Total $3,000 5.16%
====== ====
The yield on average investments equaled 5.87% during 1998 compared to 5.31%
in 1999. See, "Net Interest Income."
The Federal Home Loan Bank ("FHLB") stock was purchased during 1997. Stock
purchase is a requirement of establishing a borrowing relationship. See,
"Liquidity." The Bank receives stock dividends quarterly based upon the
earnings of the Federal Home Loan Bank Stock. The Bank received an annualized
yield of 5.8% during 1998 and 5.4% during 1999. The Bank invested in
mortgage-backed securities to qualify for participation with the FHLB since
there is a requirement that participating Banks have a minimum percentage of
total loan balances be held in residential loan products. During 1997 these
securities matured. The Federal Reserve Bank stock has a yield of 6.0%.
Investments are carried at amortized cost or market value, depending on
whether they are held to maturity or available for sale. At December 31,
1999, $2,970,000 was classified as available for sale per accounting
definitions. At December 31, 1998, $7,005,000 was classified as available for
sale. The market value of securities equaled $2,970,000 and 7,005,000 at
December 31, 1999 and December 31, 1998, respectively.
Liquidity - Consolidated
Liquidity is a bank's ability to meet possible deposit withdrawals, to meet
loan commitments and increased loan demand, and to take advantage of other
investment opportunities as they arise. The Bank's liquidity practices are
defined in both the Asset and Liability Policy and the Investment Policy.
These policies define acceptable liquidity measures in terms of ratios to
total assets, deposits, liabilities and capital. In addition, these policies
include acceptable ranges for the Bank's loans-to-deposits ratio. The Bank
also compares its liquidity position and ratios to its peer group.
During 1999, the Bank prepared a Year 2000 Liquidity Contingency Plan. This
plan was designed to identify sources of liquidity had the public withdrew
excessive amounts of cash prior to year end and also to cover cash needs if
the event that technology failures occurred with the transition to the new
millennium. As a part of this plan the Bank entered into a borrowing
arrangement with the Federal Reserve Bank and pledged a portion of the loan
portfolio. The Bank also held additional cash in its own vaults and had
back-up cash supplies held in our correspondent bank's vault. While the Bank
did experience a higher level of cash withdrawal during December 1999, the
cash needs were processed using normal Bank procedures.
The Bank is required to maintain specific reserve balances with the Federal
Reserve Bank. This is monitored on a daily basis to assure compliance with
regulatory requirements. The Office of the Comptroller of the Currency
("OCC") also requires the Bank to establish adequate liquidity policies and
practices. Although defined liquidity percentages are not specified in the
OCC's regulations, they have been incorporated in the Bank's policies and
procedures.
Cash and due from banks and federal funds sold totaled $28,059,000 or 7.1% of
total assets at December 31, 1999 compared to $39,333,000 or 12.2% of total
assets at December 31, 1998. The liquidity level at December 31,1999 was below
policy guidelines which was caused by a large increase in the loan portfolio
of $16.2 million and the higher demand for cash related to Year 2000. During
December the Bank borrowed $7.2 million from the Federal Home Loan Bank. A
deposit campaign was implemented to raise liquidity and the ALCO
(Asset/Liability Committee) committee approved the sale of $5 million in SBA
loans and participations totaling $1.2 million in January 2000. As a result
of these actions the liquidity position improved during January.
At December 31, 1999 and 1998 the Bank's ratio of loans-to-deposits was 101.6%
and 91.8% respectively. Due to the high loan growth in December 1999, the
loan-to-deposit ratio exceeded the policy guideline of 95% at 1999 year end.
The Bank has two federal funds lines of credit totaling $9,000,000 with two
financial institutions. These lines are available on a short term basis to
meet cash demands that may arise. The Bank also has a borrowing relationship
with the Federal Home Loan Bank, which has provided a new source of funds for
loan growth and liquidity purposes. As of December 31, 1999, the Bank had
borrowed $9,050,000 of which $2,200,000 has been repaid and $5,000,000 is due
in May 2000 and the balance is long term. As of December 31, 1998, the Bank
had borrowed $1,872,000 from the FHLB which was used to fund fixed rate real
estate loans with similar maturity and loan terms.
The Bank funded loan growth during 1999 and 1998 through increased
interest-bearing deposits (mainly time deposits) and liquidity. Deposits
increased during 1999 and 1998 largely due to deposit campaigns which offered
higher rates to attract new time deposits. This trend is expected to continue
in 2000. The Bank expects to continue to use the Federal Home Loan Bank
lending program to fund loan growth in the future.
The following table represents the Corporation's interest rate sensitivity
profile as of December 31, 1999. Assets, liabilities and shareholders' equity
are classified by the earliest possible repricing opportunity or maturity
date, whichever first occurs.
<TABLE>
<CAPTION>
Balance Sheet
(in thousands)
Over 3 Over 1 Non-rate
months year Sensitive
Through 3 through through or Over 5
months 1 year 5 years years Total
-------- -------- ------- ------- --------
<S> <C> <C> <C> <C> <C>
Assets
Fed funds sold $17,029 $17,029
Investment securities $2,970 $1,294 4,264
Loans 150,422 155,845 $15,278 42,157 363,702
Non-interest-earning assets
(net of allowance for
loan losses) 12,933 12,933
-------- -------- ------- ------- --------
$167,451 $158,815 $15,278 $56,384 $397,928
======== ======== ======= ======= ========
Liabilities & Shareholders Equity
Time Deposits $100,000 and over $11,053 $49,207 $3,360 $63,620
Other interest-bearing deposits
and liabilities 138,768 114,273 9,590 308 262,939
Non-interest bearing liabilities 40,358 40,358
Other Liabilities &
Shareholders' Equity 31,011 31,011
-------- -------- ------- ------- --------
$149,821 $163,480 $12,950 $71,677 $397,928
======== ======== ======= ======= ========
Interest Rate Sensitivity (1) $17,630 ($4,665) $2,328 ($15,293)
======== ======== ======= ======= ========
Cumulative Interest Rate Sensitivity $17,630 $12,965 $15,293 $0
======== ======== ======= ======= ========
<F/N>
(1) Interest rate sensitivity is the difference between interest rate
sensitive assets and interest rate sensitive liabilities within the above time
frames.
</TABLE>
The Bank is asset sensitive. In a declining interest rate environment there
is an immediate negative impact on the Bank's net interest margin, since
assets reprice to lower rates more quickly than liabilities. In a raising
interest rate environment, the Bank's earnings are positively affected
immediately. The Bank continually monitors its interest rate sensitivity as
part of the Bank's planning process.
The Corporation and the Bank do not at this time engage in hedging
transactions (interest rate futures, caps, swap agreements, etc.).
Liquidity - Parent Company Only
At present, the Corporation's primary sources of liquidity are from short term
investments on its capital, proceeds from exercise of stock options, and
dividends from the Bank. The Bank's ability to pay dividends to the
Corporation is subject to the restrictions of the national banking laws and,
under certain circumstances, the approval of the OCC. In addition, the
Federal Reserve Act prohibits the Bank from making loans to its "affiliates",
including the Corporation, unless certain collateral requirements are met.
At December 31, 1999, the Corporation had non-interest and interest bearing
cash balances of $16,000, which management believes is adequate to meet the
Corporation's foreseeable operational expenses.
Return on Equity and Assets
The following table shows key financial ratios for the years ended December
31, 1999, 1998 and 1997:
Year Ended December 31,
1999 1998 1997
---- ---- ----
Return on Average Assets 1.6% 1.7% 1.4%
Return on Average
Shareholders' Equity 21.6% 23.4% 20.3%
Average Shareholders' Equity
as a Percent of Average Assets 7.4% 7.2% 7.1%
Dividend Payout Ratio N/A N/A N/A
Effects of Inflation
Inflation affects the Bank and the banking business generally because of its
effect on interest rates and loan demand. To offset inflation and the
resulting changes in interest rates and market demands, the Bank attempts to
maintain liquid interest bearing assets and to manage its assets and
liabilities such that they can be repriced within a short period of time. In
addition to its effect on market conditions and interest rates, inflation
increases the Corporation's cost of operations. The rate of inflation has
maintained a very low annual rate during 1999 and 1998.
Capital
The Corporation and the Bank are required by the Federal Reserve Board and the
Comptroller of the Currency to maintain adequate capital. The Board of
Governors of the Federal Reserve Bank has adopted risk-based capital
guidelines for member banks and bank holding companies which provide minimum
uniform capital adequacy requirements for bank holding companies. The OCC has
also adopted additional capital requirements which are applicable to national
banks, such as the Bank. See "Item 1, Description of Business, Supervision
and Regulation-Capital Regulations."
The Bank and the Corporation are considered "Well-Capitalized" under the
"risk-based" capital methodology. The Bank's leverage capital ratio was 7.1%
of its total assets. The Bank's total risk-based capital ratio was 10.5% at
December 31, 1999. The minimum acceptable level at December 31, 1999 was
8.0%. The Corporations leverage capital ratio was 7.2%, with total risk-based
capital equaling 10.6%, at December 31, 1999.
Income Taxes
The 1999 provision for income tax equaled $3,754,000. The overall effective
tax rate was 40.2% during 1999. See, "Item 7, Consolidated Financial
Statements, Note 6." The provision for federal income taxes for 1998 was
$3,171,000. The overall effective tax rate for 1998 was 40.0%.
Year 2000
The Bank adopted a year 2000 strategy to address Y2K compliance, and its
systems successfully responded to the century date change. The Bank will
continue to monitor its own systems and those of its major customers and
vendors throughout the year 2000.
ITEM 7. Financial Statements
INDEPENDENT AUDITOR'S REPORT
CONSOLIDATED FINANCIAL STATEMENTS
Balance sheets
Statements of income
Statements of comprehensive income
Statements of changes in stockholders' equity
Statements of cash flows
Notes to financial statements
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors and Stockholders
Northern Empire Bancshares
We have audited the accompanying consolidated balance sheet of Northern
Empire Bancshares and Subsidiary as of December 31, 1999, and the related
consolidated statements of income, comprehensive income, changes in
stockholders' equity, and cash flows for the year 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 audit.
We conducted our audit 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 misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe our audit provides a reasonable
basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Northern Empire
Bancshares and Subsidiary as of December 31, 1999, and the consolidated
results of their operations and cash flows for the year then ended, in
conformity with generally accepted accounting principles.
/s/ Moss Adams LLP
Santa Rosa, California
January 14, 2000
Report of Independent Accountants
To the Board of Directors and Stockholders of Northern Empire Bancshares and
Subsidiary:
We have audited the consolidated balance sheet of Northern Empire Bancshares
and Subsidiary (the Company) as of December 31, 1998, and the related
consolidated statements of income, comprehensive income, stockholders' equity
and cash flows for the year 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 auditing standards generally
accepted in the United States. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of the
Company at December 31, 1998, and the results of its operations and its cash
flows for the year then ended, in conformity with accounting principles
generally accepted in the United States. We have not audited the
consolidated financial statements of the Company for any period subsequent
to December 31, 1998.
PricewaterhouseCoopers LLP
San Francisco, CA
February 11, 1999
NORTHERN EMPIRE BANCSHARES
CONSOLIDATED BALANCE SHEETS
December 31, 1999 and 1998
ASSETS
1999 1998
Cash and cash equivalents: ------------- -------------
Cash and due from banks $11,030,000 $9,613,000
Federal funds sold 17,029,000 29,720,000
------------- -------------
Total cash and cash equivalents 28,059,000 39,333,000
------------- -------------
Investment securities available for sale 2,970,000 7,005,000
Federal Home Loan Bank (FHLB) stock, at cost 1,165,000 1,602,000
Federal Reserve Bank stock, at cost 129,000 129,000
Total investment securities 4,264,000 8,736,000
Loans receivable, net 357,225,000 267,029,000
Leasehold improvements and equipment, net 792,000 859,000
Accrued interest receivable and other assets 7,588,000 6,296,000
------------- -------------
Total assets $397,928,000 $322,253,000
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits $357,867,000 $295,969,000
Accrued interest payable and other liabilities 1,949,000 1,602,000
FHLB advances 9,050,000 1,872,000
------------- -------------
Total liabilities 368,866,000 299,443,000
------------- -------------
STOCKHOLDERS' EQUITY
Common stock, no par value; 20,000,000 shares authorized;
3,560,296 and 3,309,712 shares issued and outstanding
at 1999 and 1998 15,561,000 12,365,000
Additional paid-in capital 646,000 202,000
Accumulated other comprehensive income (loss) (17,000) 4,000
Retained earnings 12,872,000 10,239,000
------------- -------------
Total stockholders' equity 29,062,000 22,810,000
------------- -------------
Total liabilities and stockholders' equity $397,928,000 $322,253,000
============= =============
<TABLE>
<CAPTION>
NORTHERN EMPIRE BANCSHARES
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, 1999 and 1998
1999 1998
------------ ------------
<S> <C> <C>
INTEREST INCOME
Loans $28,346,000 $23,601,000
Federal funds sold and investment securities 1,478,000 1,798,000
------------ ------------
Total interest income 29,824,000 25,399,000
INTEREST EXPENSE 12,836,000 11,103,000
------------ ------------
Net interest income before
provision for loan losses 16,988,000 14,296,000
------------ ------------
PROVISION FOR LOAN LOSSES 800,000 480,000
------------ ------------
Net interest income after
provision for loan losses 16,188,000 13,816,000
------------ ------------
NONINTEREST INCOME
Service charge on deposits 444,000 367,000
Gain on sale of loans 475,000 619,000
Other 653,000 716,000
------------ ------------
Total noninterest income 1,572,000 1,702,000
------------ ------------
NONINTEREST EXPENSES
Salaries and benefits 4,820,000 4,284,000
Occupancy 789,000 747,000
Equipment 468,000 521,000
Outside customer services 347,000 278,000
Deposit and other insurance 211,000 198,000
Professional fees 165,000 151,000
Advertising 213,000 187,000
Other administrative 1,415,000 1,216,000
------------ ------------
Total noninterest expenses 8,428,000 7,582,000
------------ ------------
INCOME BEFORE INCOME TAXES 9,332,000 7,936,000
PROVISION FOR INCOME TAXES 3,754,000 3,171,000
------------ ------------
NET INCOME $5,578,000 $4,765,000
============ ============
EARNINGS PER SHARE OF COMMON STOCK $1.58 $1.37
============ ============
EARNINGS PER SHARE OF COMMON STOCK
ASSUMING DILUTION $1.48 $1.33
============ ============
</TABLE>
NORTHERN EMPIRE BANCSHARES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Years Ended December 31, 1999 and 1998
1999 1998
---------- ----------
NET INCOME $5,578,000 $4,765,000
---------- ----------
OTHER COMPREHENSIVE INCOME (LOSS)
Unrealized holding gains (losses
arising during period (30,000) 8,000
Reclassification adjustment for gains
included in net income (4,000) 0
---------- ----------
(34,000) 8,000
Income tax benefit (expense) 13,000 (3,000)
---------- ----------
(21,000) 5,000
---------- ----------
COMPREHENSIVE INCOME $5,557,000 $4,770,000
========== ==========
<TABLE>
<CAPTION>
NORTHERN EMPIRE BANCSHARES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Years Ended December 31, 1999 and 1998
Accumulated
Additional Other
Common Stock Paid-in Comprehensive Retained
Shares Amount Capital Income (Loss) Earnings Total
--------- ----------- --------- ---------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1997 3,110,138 $9,778,000 $0.00 ($1,000) $7,932,000 $17,709,000
5% stock dividend 156,976 2,453,000 -- -- (2,453,000) --
Stock options exercised 42,598 134,000 202,000 -- -- 336,000
Payout of fractional shares -- -- -- -- (5,000) (5,000)
Unrealized gains on securities,
net of tax -- -- -- 5,000 -- 5,000
Net income -- -- -- -- 4,765,000 4,765,000
--------- ----------- --------- ---------- ----------- -----------
Balance, December 31, 1998 3,309,712 12,365,000 202,000 4,000 10,239,000 22,810,000
5% stock dividend 169,351 2,942,000 -- -- (2,942,000) --
Stock options exercised 81,233 254,000 444,000 -- -- 698,000
Payout of fractional shares -- -- -- -- (3,000) (3,000)
Unrealized loss on securities,
net of tax -- -- -- (21,000) -- (21,000)
Net income -- -- -- -- 5,578,000 5,578,000
--------- ----------- --------- ---------- ----------- -----------
Balance, December 31, 1999 3,560,296 $15,561,000 $646,000 ($17,000) $12,872,000 $29,062,000
========= =========== ========= ========== =========== ===========
</TABLE>
<TABLE>
<CAPTION>
NORTHERN EMPIRE BANCSHARES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 1999 and 1998
1999 1998
----------- -----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $5,578,000 $4,765,000
Adjustments to reconcile net income
to net cash provided by
operating activities:
Provision for loan losses 800,000 480,000
Depreciation, amortization and accretion 356,000 380,000
FHLB stock dividend (75,000) (90,000)
Gain on sale of other real estate owned (OREO) 0 (1,000)
Net increase in deferred loan fees and discounts 691,000 164,000
Change in deferred income taxes (644,000) (448,000)
Tax benefit from stock options exercised 444,000 202,000
Gain on sale of fixed assets (4,000) 0
Increase in interest receivable and other assets (648,000) (604,000)
Increase in accrued interest payable and
other liabilities 347,000 321,000
----------- -----------
Net cash provided by operating activities 6,845,000 5,169,000
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from maturities of
available-for-sale securities 4,000,000 3,953,000
Net increase in loans receivable (91,687,000) (63,265,000)
Purchase of leasehold improvements
and equipment, net (294,000) (561,000)
FHLB stock redemptions 512,000 0
Proceeds from sale of fixed assets 23,000 0
Purchase of available-for-sale securities 0 (6,998,000)
Maturities of held-to-maturity securities 0 1,499,000
Proceeds from the sale of OREO 0 131,000
----------- -----------
Net cash used by investing activities (87,446,000) (65,241,000)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in deposits 61,898,000 81,222,000
Net increase in FHLB advances 7,178,000 1,872,000
Payout of fractional shares (3,000) (5,000)
Proceeds from exercise of stock options 254,000 134,000
----------- -----------
Net cash provided by financing activities 69,327,000 83,223,000
----------- -----------
NET INCREASE (DECREASE) IN
CASH AND CASH EQUIVALENTS (11,274,000) 23,151,000
CASH AND CASH EQUIVALENTS, beginning of year 39,333,000 16,182,000
----------- -----------
CASH AND CASH EQUIVALENTS, end of year $28,059,000 $39,333,000
=========== ===========
SUPPLEMENTAL CASH-FLOW INFORMATION
Cash paid during the year for:
Interest $12,725,000 $10,995,000
Income taxes $4,246,000 $2,853,000
</TABLE>
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - DESCRIPTION OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES
Description of operations - Northern Empire Bancshares (the Company) is a
bank holding company that conducts its business through its wholly-owned
subsidiary, Sonoma National Bank (the Bank). The Bank is a commercial bank
headquartered in Santa Rosa, California, that operates five branches in
suburban communities located throughout Sonoma County, California. Its primary
source of revenues is derived from providing commercial and real estate loans
to predominantly small and middle-market businesses. The Bank is a Preferred
Lender under the Small Business Administration's (SBA) Loan Guarantee Program.
Principles of consolidation - All significant, intercompany transactions and
accounts between Northern Empire Bancshares and its wholly-owned subsidiary,
Sonoma National Bank, have been eliminated in consolidation.
Use of estimates - 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, liabilities,
revenues and expenses, and the disclosure of contingent assets and
liabilities. The amounts estimated could differ from actual amounts.
Cash and cash equivalents - For purposes of reporting cash flows, cash and
cash equivalents consist of cash on hand, amounts due from banks, and federal
funds sold. Generally, federal funds are sold overnight. Substantially all
cash and cash equivalents held in other financial institutions exceed existing
deposit insurance coverage.
Investment securities - The Bank classifies and accounts for debt and equity
securities as follows:
Held-to-maturity: Debt securities that management has the positive
intent and ability to hold until maturity are classified as held-to-maturity
and are carried at their remaining unpaid principal balance, net of
unamortized premiums or nonaccreted discounts. Premiums are amortized and
discounts are accreted using the level interest yield method over the
estimated term of the underlying security.
Available-for-sale: Debt and equity securities that will be held for
indefinite periods of time, including securities that may be sold in response
to changes in market interest or prepayment rates, needs for liquidity, and
changes in the availability of and the yield of alternative investments, are
classified as available-for-sale. After amortization or accretion of any
premiums or discounts, these assets are carried at market value. Market value
is determined using published quotes as of the close of business. Unrealized
gains and losses are excluded from earnings and reported net of tax as a
separate component of stockholders' equity.
Trading securities: Debt and equity securities that are bought and held
principally for the purposes of selling them in the near term are classified
as trading securities and reported at market value, with unrealized gains and
losses included in earnings.
Stock-based compensation - The Company accounts for stock-based employee
compensation arrangements in accordance with the provisions of Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees"
(APB No. 25), and complies with the disclosure provisions of Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" (SFAS No. 123). Under APB No. 25, compensation expense is the
excess, if any, of the fair value of the Company's stock at a measurement date
over the amount that must be paid to acquire the stock. SFAS No. 123 requires
a fair value method to be used when determining compensation expense for stock
options and similar equity instruments. SFAS No. 123 permits a company to
continue to use APB No. 25 to account for stock-based compensation to
employees, but proforma disclosures of net income and earnings per share must
be made as if SFAS No. 123 had been adopted in its entirety. Stock options
issued to non-employees are valued under the provisions of SFAS No. 123.
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Leasehold improvements and equipment - Leasehold improvements and equipment
are stated at cost and depreciated or amortized using the straight-line method
over the shorter of the estimated useful lives of the assets, which are three
to seven years, or the term of the lease.
Income taxes - The Company and the Bank file consolidated federal income tax
returns and combined state tax returns for California, Arizona, and New
Mexico. Income taxes are recognized using enacted tax rates and are composed
of taxes on financial accounting income that is adjusted for requirements of
current tax law and deferred taxes. Deferred taxes are the expected future tax
consequences of temporary differences between the financial statement carrying
amounts and tax bases of existing assets and liabilities.
Recent accounting pronouncements - The Financial Accounting Standards Board
has issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities." SFAS No. 133 is effective for fiscal years beginning after June
15, 2000, and requires companies to record derivatives on the balance sheet as
assets or liabilities, measured at fair-market value. The accounting for gains
or losses resulting from changes in the values of those derivatives is
dependent on whether the derivative qualifies for hedge accounting. The key
criterion for hedge accounting is that the hedging relationship must be highly
effective in achieving offsetting changes in fair value or cash flows. The
Company does not expect the adoption of SFAS No. 133 to have a material effect
on the Company's consolidated financial statements.
Loans receivable - Loans held for investment are carried at amortized cost.
The Bank's loan portfolio consists primarily of commercial and real estate
loans generally collateralized by first and second deeds of trust on real
estate, as well as business assets and personal property.
Interest income is accrued daily on the outstanding loan balances using the
simple interest method. Loans are generally placed on nonaccrual status when
the borrowers are past due 90 days and when full payment of principal or
interest is not expected. At the time a loan is placed on nonaccrual status,
any interest income previously accrued but not collected is reversed. Interest
accruals are resumed on such loans only when they are brought fully current
with respect to interest and principal and when, in the judgment of
management, the loans are estimated to be fully collectible as to both
principal and interest.
The Bank charges loan origination and commitment fees. Net loan origination
fees are deferred and amortized to interest income over the life of the loan.
Loan commitment fees are amortized to interest income over the commitment
period.
Sales and servicing of Small Business Administration (SBA) loans - The Bank
originates loans to customers under SBA programs that generally provide for
SBA guarantees of 70% to 90% of each loan. The Bank has the option to sell the
guaranteed portion of each loan and retain the unguaranteed portion in its own
portfolio. Funding for the SBA programs depends on appropriations by the U.S.
Congress.
Gains on these sales are earned through the sale of the guaranteed portion of
the loan for an amount in excess of the adjusted carrying value of the portion
of the loan sold. The Bank allocates the carrying value of such loans between
the portion sold, the portion retained, and a value assigned to the right to
service the loan. The difference between the adjusted carrying value of the
portion retained and the face amount of the portion retained is amortized to
interest income over the life of the related loan using a method that
approximates the interest method.
The amount assigned to the right to service the loan is based on its fair
value relative to the loan as a whole. To determine the fair value of
servicing rights, the Bank uses models that incorporate assumptions that
market participants would use in estimating future net servicing income, which
includes estimating the cost of servicing per loan, the discount rate, and
loan prepayment estimates. The Bank amortizes the servicing rights using the
effective interest methods. The balance of the servicing asset is included in
other assets.
<PAGE>
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Allowance for loan losses - An allowance for loan losses is maintained at a
level deemed appropriate by management to provide for both known and
unidentified losses in the loan portfolio. The allowance is based upon
management's assessment of various factors affecting the collectibility of the
loans, including current and projected economic conditions, past credit
experience, delinquency status, the value of the underlying collateral, if
any, and continuing review of the portfolio of loans and commitments.
The allowance for loan losses is an estimate, and actual losses may vary from
these estimates. The estimate is reviewed periodically and adjustments, if
necessary, are reported in earnings in the periods in which the adjustment
becomes known.
A loan is considered impaired if it is probable the Bank will be unable to
collect the scheduled payments of principal or interest according to the
contractual terms of the loan agreement. Any allowance for losses on impaired
loans is measured under one of three prescribed methods. Since nearly all of
the Bank's loans are collateral dependent, the calculation of the impaired
loans is generally based on the fair value of the collateral.
Earnings per share - Earnings per share (EPS) are computed using the weighted
average number of common shares outstanding during the year. Diluted earnings
per share are computed by adjusting the common shares outstanding for the
assumed conversion of all potentially dilutive stock options. The computation
of basic and dilutive earnings per share are retroactively adjusted for all
periods presented to reflect the change in the capital structure resulting
from stock dividends.
The following is a reconciliation of the numerators and denominators of the
basic and diluted earnings per share computations for the years ended December
31, 1999 and 1998:
<TABLE>
<CAPTION>
1999 1998
----------------------------- ----------------------------------
Weighted Average Per Weighted Average Per
Income Shares Share Income Shares Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
---------- ------------ ------- ---------- ------------- ------
<S> <C> <C> <C> <C> <C> <C>
Net income $5,578,000 $4,765,000
========== ==========
EPS
Income available to
common stockholder $5,578,000 3,542,050 $1.58 $4,765,000 3,470,800 $1.37
========== ===== ========== =====
Effect of dilutive securities
Stock options 221,596 118,302
-------- --------
EPS assuming dilution
Income available to
common stockholders
plus assumed conversion $5,578,000 3,763,646 $1.48 $4,765,000 3,589,102 $1.33
========== ========== ===== ========== ========== =====
</TABLE>
Advertising - Advertising costs are charged to expense during the year in
which they are incurred.
Comprehensive income - Comprehensive income is composed of net income and
changes in equity from non-stockholder sources. These non-stockholder sources
are reported net of tax and include unrealized gains and losses on certain
investments in debt and equity securities and foreign currency translation
adjustments. Accumulated balances of these non-stockholder sources are
reflected as a separate item in the equity section of the balance sheet.
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Federal Home Loan Bank system - As a member of the Federal Home Loan Bank
(FHLB), the Company is required to maintain an investment in the capital stock
of the FHLB. The investment is carried at cost. Interest rates on the advances
from the FHLB currently range from 3.56% to 6.07%, and mature through 2008. To
collateralize these advances, the FHLB has a blanket lien on approximately
$29,613,000 of residential mortgage loans.
Federal Reserve Bank - During 1999, the Bank entered into a Liquidity
Contingency Agreement with the Federal Reserve Bank, which allowed the Bank to
borrow up to $12,173,000 in the event additional liquidity was needed due to
Year 2000 issues. As of December 31, 1999, there were no outstanding advances
under this Agreement. To collateralize any advances, the Federal Reserve Bank
has a blanket lien of approximately $24,345,000 on commercial real estate
loans at December 31, 1999.
Reclassifications - Certain reclassifications have been made to the prior
year's financial statements to conform to the current year's presentation,
including a change in format in presenting comprehensive income. A separate
statement of comprehensive income has been included in the current year's
financial statement, which is a change from the prior year when comprehensive
income was included in the statement of changes in stockholders' equity.
NOTE 2 - INVESTMENT SECURITIES AVAILABLE FOR SALE
Investment securities with a carrying value of $625,000 were pledged to secure
deposits and borrowings, as required by law, at both December 31, 1999 and
1998. The securities held at December 31, 1999, mature within one year.
Unrealized Market
Cost Gains (Losses) Value
---------- ---------- ----------
U.S. Government Agency Securities
December 31, 1999 $3,000,000 (30,000) $2,970,000
---------- ---------- ----------
U.S. Government Agency Securities
December 31, 1998 $7,000,000 5,000 $7,005,000
---------- ---------- ----------
NOTE 3 - LOANS AND ALLOWANCE FOR LOAN LOSSES
The Bank's lending activities are concentrated primarily in Sonoma County,
California, with SBA loans also being generated in California, Arizona and New
Mexico. There were no industry or borrower group concentrations at December
31, 1999.
1999 1998
------------ ------------
Commercial loans $130,924,000 $118,395,000
Consumer installment loans 1,783,000 1,644,000
Real estate loans - construction 39,523,000 28,177,000
Real estate loans - other 191,472,000 123,839,000
------------ ------------
363,702,000 272,055,000
Deferred loan fees and discount (2,690,000) (2,007,000)
Allowance for loan losses (3,787,000) (3,019,000)
------------ ------------
$357,225,000 $267,029,000
============ ============
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
A summary of activity in the allowance for loan losses is as follows:
1999 1998
---------- ----------
Balance, beginning of year $3,019,000 $2,539,000
Provision for loan losses 800,000 480,000
Loans charged-off (32,000) 0
---------- ----------
$3,787,000 $3,019,000
========== ==========
There were five loans totaling $1,888,000 and two loans totaling $62,000 on
nonaccrual status at December 31, 1999 and 1998. Interest foregone on these
loans totaled $60,000 and $12,000, respectively. That portion of the allowance
for loan losses associated with these nonaccrual loans was $127,000 and
$4,000, respectively.
The Bank has the option to sell to outside investors the guaranteed portion of
SBA loans while retaining the unguaranteed portion in its loan portfolio. The
SBA guarantee is transferred to the buyer and the Bank retains the loan's
servicing function. The Bank serviced $25,267,000 and $28,699,000 in loans
guaranteed by the SBA at December 31, 1999 and 1998, of which the Bank's
retained interests in those loans ranged from 10% to 45%. Losses on these
loans are shared between the Bank and the SBA on a pro rata basis. SBA
guaranteed loans at December 31, 1999, that could be sold in the future
totaled $60,894,000.
At December 31, 1999 and 1998, the Bank serviced non-SBA loans for others
totaling $9,300,000 and $6,850,000.
NOTE 4 - LEASEHOLD IMPROVEMENTS AND EQUIPMENT
1999 1998
---------- ----------
Leasehold improvements $1,083,000 $1,070,000
Furniture and equipment 2,337,000 2,095,000
---------- ----------
3,420,000 3,165,000
Less accumulated depreciation
and amortization 2,628,000 2,306,000
---------- ----------
$792,000 $859,000
========== ==========
NOTE 5 - DEPOSITS
Certificates of deposit with balances of $100,000 or more totaled $63,620,000
and $48,242,000, at December 31, 1999 and 1998. Deposits consist of the
following:
1999 1998
------------ ------------
Noninterest-bearing $40,358,000 $42,413,000
Interest-bearing:
Money market rate 97,500,000 87,035,000
Savings 5,029,000 5,389,000
Demand 17,564,000 14,548,000
Certificates of deposit 197,416,000 146,584,000
------------ ------------
$357,867,000 $295,969,000
============ ============
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Certificates of deposit are scheduled to mature as follows:
Year Ending December 31,
------------------------
2000 $184,568,000
2001 12,709,000
2002 139,000
------------
$197,416,000
============
NOTE 6 - INCOME TAXES
The components of the provision for federal and state income taxes are as
follows:
1999 1998
---------- ----------
Provision for income taxes
Federal $2,928,000 $2,539,000
State 1,026,000 878,000
---------- ----------
3,954,000 3,417,000
Change in deferred income taxes (644,000) (448,000)
Tax benefit from options exercised 444,000 202,000
---------- ----------
$3,754,000 $3,171,000
========== ==========
A reconciliation of the statutory tax rates to the effective tax rates is as
follows:
1999 1998
---- ----
Federal income tax at statutory rate 34.0 % 34.0 %
State franchise taxes, net
of federal income tax benefit 7.3 6.2
Other, net (1.1) (0.2)
------ -------
40.2 % 40.0 %
======= =======
The components of net deferred tax assets are as follows:
1999 1998
---------- ----------
Loan loss reserves $1,559,000 $981,000
State taxes, net of federal effect 349,000 601,000
Deferred compensation 239,000 198,000
Deferred loan fees -- 20,000
All others 224,000 (73,000)
---------- ----------
$2,371,000 $1,727,000
========== ==========
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
NOTE 7 - STOCK OPTIONS
The Company's nonqualifying stock option plans provide for granting of stock
options to directors and officers to purchase shares of the Company's stock.
All options granted to date may be purchased at a price not less than the
fair-market value on the date the option was granted. Options vest over five
years and expire ten years from the date of grant.
Had compensation cost for the Company's options been determined based on the
methodology prescribed under SFAS 123, the Company's net income and income per
share would have been as follows:
1999 1998
---------- ----------
Net income for the year $5,578,000 $4,765,000
Compensation expense, net of tax effect 266,000 --
---------- ----------
Proforma net income $5,312,000 $4,765,000
========== ==========
Proforma earnings per share $1.50 $1.37
Proforma earnings per share assuming dilution $1.41 $1.33
The fair value of each option is estimated on date of grant using the
Black-Scholes option-pricing model with the following weighted-average
assumptions:
1999 1998
----- -----
Dividends 5% --
Expected volatility 25.91% --
Risk-free interest rate 4.57%-5.45% --
Expected life 10 years --
The following tables summarize the number of options granted and exercisable,
and the weighted average exercise prices and remaining contractual lives of
the options:
<TABLE>
<CAPTION>
1999 1998
------------------- ----------------
Weighted- Weighted-
Average Average
Exercise Exercise
Shares Price Shares Price
------ ----- ------ -----
<S> <C> <C> <C> <C>
Outstanding at beginning of year 881,578 $12.99 166,676 $3.02
Granted 0 $0.00 757,500 $14.63
Options granted attributable to
the stock dividend 39,975 $13.39 0 $0.00
Forfeited (1,300) $14.00 0 $0.00
Exercised (81,233) $3.12 (42,598) $3.02
------- -------
Outstanding at year-end 839,020 $13.33 881,578 $12.99
======= =======
Options exercisable at year-end 203,812 124,078
======= =======
Weighted-average fair value of
options granted during the year $0.00 $2.25
======= =======
</TABLE>
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
In accordance with the Plan, options granted during 1999 were to prevent the
antidilutive effect of the 5% stock dividend granted during the year. The
exercise price was reduced accordingly.
Weighted- Weighted-
Weighted- Average Average
Number Average Remaining Number Exercise Price
Outstanding at Exercise Contractual Exercisable at of Options at
12/31/99 Price Life 12/31/99 12/31/99
----------- -------- ---------- ------------- -------------
40,101 $2.60 1.7 years 40,101 $2.60
4,909 $3.12 4.2 years 4,909 $3.12
66,360 $13.33 8.8 years 13,272 $13.33
727,650 $13.99 8.6 years 145,530 $13.99
------- -------
839,020 203,812
======= =======
NOTE 8 - DEFERRED COMPENSATION
The Company has deferred compensation agreements with two key officers and
four Board members. The agreements require the Company to provide annual
benefits ranging from $75,000 to $100,000 for the officers, and $13,000 to
$55,000 for the Board members for 15 years after retirement or disability. In
the event of death, the beneficiaries are to receive the benefits. The
estimated present value of future benefits to be paid is being accrued over
the period from the effective date of the agreements until the expected
retirement dates of the participants. The expense incurred for the years ended
December 31, 1999 and 1998, totaled $173,000 and $186,000. The Company is the
beneficiary of life insurance policies that have been purchased as a method of
financing the benefits under the agreements. At December 31, 1999 and 1998,
the cash surrender value of these policies, which is included on the balance
sheet in other assets, was $2,079,000 and $1,990,000, respectively.
NOTE 9 - EMPLOYEE BENFIT PLAN
The Company has a 401(k) savings plan covering substantially all employees of
the Company. Employees who elect to participate are able to defer up to 15% of
their annual salary, subject to limitations imposed by federal tax law. The
Company makes matching contributions equal to 100% of each participant's
elective deferral, up to a maximum of $1,000 per employee. Contributions by
the Company for the years ended December 31, 1999 and 1998, were $51,000 and
$53,000.
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
NOTE 10 - RELATED-PARTY TRANSACTIONS
The Company had an operating lease for a branch location with a director of
the Company. The leased property was sold during 1998 and the lease was
assigned to non-related parties. Rental payments made under that lease were
$26,000 for the year ended December 31, 1998. The Company also has an
operating lease with a major stockholder of the Company for office facilities.
The lease expires in August 2004, with an option to extend the lease for an
additional five years. Rental payments under this lease were $155,000 and
$110,000, for the years ended December 31, 1999 and 1998.
The Company has, and expects to have in the future, banking transactions in
the ordinary course of business with directors, officers, and their
associates. An analysis of the loans to related parties is as follows:
1999 1998
---- ----
Balance, beginning of year $6,331,000 $7,015,000
Additions 6,721,000 4,914,000
Principal reductions (6,036,000) (5,598,000)
---------- ----------
$7,016,000 $6,331,000
========== ==========
NOTE 11 - COMMITMENTS AND CONTINGENCIES
The Bank is required by federal regulations to maintain certain minimum
average balances with the Federal Reserve, based primarily on the Bank's daily
demand deposit balances. Required deposits held with the Federal Reserve at
December 31, 1999 and 1998, were $1,474,000 and $1,396,000.
The Company and the Bank have entered into nine operating leases for branches
and office facilities that expire through July 2008. Two of the leases have
options to extend the term for two additional five-year terms. One lease has
an option to extend the term for three additional five-year terms. Two leases
are on a month-to-month basis. Rental payments under these various leases were
$416,000 and $205,00 for the years ended December 31, 1999 and 1998. Total
rental expense for the years ended December 31, 1999 and 1998, was $571,500
and $520,000.
Future minimum non-cancelable lease payments are as follows:
Year Ending December 31,
------------------------
2000 $589,000
2001 572,000
2002 542,000
2003 528,000
2004 364,000
Thereafter 205,000
----------
$2,800,000
==========
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
NOTE 12 - REGULATORY CAPITAL REQUIREMENTS
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 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
quantitative measures of the Bank's assets, liabilities, and certain
off-balance sheet items as calculated under regulatory accounting practices.
The 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, 1999 and 1998, that the Company and the Bank meet all capital adequacy
requirements to which it is subject.
<TABLE>
<CAPTION> Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
----------- ----------------- -----------------
Amount Amount Amount
(in thousands Ratio (in thousands) Ratio (in thousands) Ratio
------------ ---- -------------- ----- ------------ -----
<S> <C> <C> <C> <C> <C> <C>
At December 31, 1999:
Total Capital to Risk-Weighted Assets
Consolidated $32,823 10.5% $24,902 8.0% $31,128 10.0%
Bank $32,646 10.5% $24,877 8.0% $31,096 10.0%
Tier 1 Capital to Risk-Weighted Assets
Consolidated $29,036 9.3% $12,451 4.0% $18,677 6.0%
Bank $28,859 9.3% $12,438 4.0% $18,658 6.0%
Tier 1 Capital to Average Assets
Consolidated $29,036 7.5% $15,479 4.0% $19,349 5.0%
Bank $28,859 7.5% $15,471 4.0% $19,339 5.0%
At December 31, 1998:
Total Capital to Risk-Weighted Assets
Consolidated $25,567 10.6% $19,246 8.0% $24,057 10.0%
Bank $25,239 10.5% $19,223 8.0% $24,029 10.0%
Tier 1 Capital to Risk-Weighted Assets
Consolidated $22,560 9.4% $9,623 4.0% $14,434 6.0%
Bank $22,234 9.3% $9,612 4.0% $14,417 6.0%
Tier 1 Capital to Average Assets
Consolidated $22,560 7.2% $12,580 4.0% $15,725 5.0%
Bank $22,234 7.1% $12,580 4.0% $15,725 5.0%
</TABLE>
At December 31, 1999, the Bank was categorized as well capitalized under the
regulatory framework for prompt corrective action. To be categorized as well
capitalized, the Bank must maintain minimum Total risk-based, Tier I
risk-based, and Tier I average ratios as set forth in the table above.
Payment of dividends by the Bank is limited under regulation. The amount that
can be paid in any calendar year without prior approval of the Office of the
Comptroller of the Currency cannot exceed the lesser of net profits (as
defined) for that year, plus the net profits for the preceding two calendar
years, or retained earnings.
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLDATED FINANCIAL STATEMENTS (Continued)
NOTE 13 - FAIR VALUES OF FINANCIAL INSTRUMENTS
Fair value estimates are determined as of a specific date in time utilizing
quoted market prices, where available, or various assumptions and estimates.
As the assumptions underlying these estimates change, the fair value of the
financial instruments will change. The use of assumptions and various
valuation techniques, as well as the absence of secondary markets for certain
financial instruments, will likely reduce the comparability of fair value
disclosures between financial institutions. Additionally, the Bank has not
disclosed highly subjective values of other non-financial instruments.
Accordingly, the aggregate fair value amounts presented do not represent, and
should not be construed to represent the full underlying value of the Company.
The methods and assumptions used to estimate the fair values of each class of
financial instruments are as follows:
Cash and cash equivalents - The carrying value of cash and cash equivalents
approximates fair value due to the relatively short-term nature of these
instruments.
Investment securities - The fair value of investment securities is based on
quoted market prices. If quoted market prices are not available, then fair
values are based on quoted market prices of comparable instruments.
Loans receivable - In order to determine the fair values for loans, the loan
portfolio was segmented based on loan type, credit quality and repricing
characteristics. For certain variable rate loans with no significant credit
concerns and frequent repricings, estimated fair values are based on the
carrying values. The fair values of other loans are estimated using discounted
cash flow analyses. Discount rates used in these analyses are generally based
on origination rates for similar loans of comparable credit quality. Maturity
estimates of installment loans are based on historical experience with
prepayments.
Deposits - The fair values for deposits subject to immediate withdrawal, such
as interest and noninterest bearing and savings deposit accounts, are equal to
the amount payable on demand at the reporting date (i.e., their carrying
amount on the balance sheet). Fair values for fixed-rate certificates of
deposits are estimated by discounting future cash flows using interest rates
currently offered on time deposits with similar remaining maturities.
Off-balance sheet instruments The fair value of commitments to extend credit
and standby letters of credit is estimated using the fees currently charged to
enter into similar agreements, taking into account the remaining terms of the
agreements and the present creditworthiness of the counter parties.
<TABLE>
<CAPTION>
December 31, 1999 December 31, 1998
---------------------- ----------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $28,059,000 $28,059,000 $39,333,000 $39,333,000
Investment securities 4,264,000 4,124,000 8,736,000 8,729,000
Loans receivable, net 357,225,000 356,754,000 267,029,000 268,326,000
------------ ------------ ------------
$389,548,000 $388,937,000 $315,098,000 $316,388,000
============ ============ ============
Financial liabilities - Deposits $357,867,000 $356,858,000 $295,969,000 $296,163,000
============ ============ ============
Off-balance sheet financial instruments:
Commitments to extend credit $-- $354,000 $-- $307,000
</TABLE>
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
NOTE 14 - FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
The Bank is a party to financial instruments with off-balance sheet risk in
the normal course of business to meet the financing needs of its customers. To
date, these financial instruments include commitments to extend credit and
standby letters of credit that involve elements of credit and interest rate
risk in excess of the amount recognized in the statement of financial
position.
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, and may require payment of a fee. Since many of the commitments are
expected to expire without being drawn upon, the total commitment amounts do
not necessarily represent future cash requirements. The Bank evaluates each
customer's creditworthiness on a case-by-case basis, and generally requires
collateral or other security to support commitments to extend credit.
Standby letters of credit are performance assurances made on behalf of
customers who have a contractual obligation to produce or deliver goods or
services or otherwise perform. Credit risk in these transactions arises from
the possibility that a customer may not be able to repay the Bank if the
letter of credit is drawn upon. As with commitments to extend credit, the Bank
evaluates each customer's creditworthiness on a case-by-case basis. The amount
of collateral obtained, if any, is based on management's credit evaluation of
the counter-party.
At December 31, 1999 and 1998, loan commitments totaled $35,387,000 and
$30,658,000, and standby letters of credit totaled $1,936,000 and $168,000,
respectively.
NOTE 15 - PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
The condensed financial statements of Northern Empire Bancshares (parent
company only) as of December 31, 1999 and 1998, and for each of the two years
then ended, are as follows:
ASSETS
1999 1998
---- ----
Cash and cash equivalents $16,000 $313,000
Loans receivable 149,000 0
Investment in Sonoma National Bank 28,886,000 22,486,000
Other assets 51,000 51,000
----------- -----------
Total assets 29,102,000 22,850,000
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Other liabilities 40,000 40,000
----------- -----------
Preferred stock, no par value;
10,000,000 shares authorized; 0 0
none issued or outstanding
Common stock, no par value;
20,000,000 shares authorized;
3,560,296 and 3,309,712 issued
and outstanding in
1999 and 1998 15,561,000 12,365,000
Additional paid-in-capital 646,000 202,000
Accumulated other comprehensive
income (loss) (17,000) 4,000
Retained earnings 12,872,000 10,239,000
----------- -----------
Total stockholder's equity 29,062,000 22,810,000
----------- -----------
Total liabilities and
stockholders' equity $29,102,000 $22,850,000
=========== ===========
NORTHERN EMPIRE BANCSHARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
1999 1998
---- ----
STATEMENTS OF INCOME
Interest and other income $25,000 $12,000
Administrative expenses (23,000) (24,000)
Income tax expense (1,000) (1,000)
Equity in undistributed earnings of
Sonoma National Bank 5,577,000 4,778,000
---------- ----------
Net income $5,578,000 $4,765,000
========== ==========
1999 1998
---- ----
STATEMENTS OF CASH FLOWS
Cash flows from operating activities:
Net income $5,578,000 $4,765,000
Adjustments to reconcile net income to
net cash provided by
operating activities:
Change in other assets 0 35,000
Equity in undistributed earnings (5,577,000) (4,778,000)
---------- ----------
Net cash provided by operating activities 1,000 22,000
---------- ----------
Cash flows from investing activities:
Capital contribution to Sonoma National Bank (400,000) 0
Net increase in loans receivable (149,000) 0
---------- ----------
Net cash used in investing activites (549,000) 0
---------- ----------
Cash flows from financing activities:
Payout of fractional shares (3,000) (5,000)
Proceeds from exercise of stock options 254,000 134,000
---------- ----------
Net cash provided by financing activities 251,000 129,000
---------- ----------
Net increase (decrease) in cash and
cash equivalents (297,000) 151,000
Cash and cash equivalents, beginning of year 313,000 162,000
---------- ----------
Cash and cash equivalents, end of year $16,000 $313,000
========== ==========
ITEM 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
The information required to be reported in this item has been previously
reported in a Form 8-k filed on October 4, 1999 and a Form 8-K/A filed on
October 7, 1999
Part III
ITEM 9. Directors, Executive Officers, Promoters and Control Persons;
The following are the directors and executive officers of the Corporation and
the Bank:
<TABLE>
<CAPTION>
Name and Positions with the Principal Occupation
Corporation and the Bank Age During the Past 5 Years
- ------------------------ --- -----------------------
<S> <C> <C>
Deborah A. Meekins, 47 President and Chief Executive Officer
President & Chief Executive Officer and of the Bank since February 1991.
Director of the Bank
Clement C. Carinalli 54 Retired CPA, local businessman,
Director of the Corporation and the Bank rancher and real estate investor.
Patrick R. Gallaher, 54 Certified Public Accountant and local businessman;
Chief Accounting Officer of the Corporation major shareholder in Oakmont Developers,
and Director of the Corporation and the Bank a Santa Rosa development company.
William P. Gallaher, 49 Real Estate developer and investor; President
Director of the Corporation and the Bank of Oakmont Developers; President
of Gallaher Construction Company.
William E. Geary, 71 Senior Partner in Geary, Shea & O'Donnell,
Director of the Corporation and the Bank a Santa Rosa law firm.
Dennis R. Hunter, 57 Real estate investor and developer in Santa Rosa;
Chairman of the Board of the Corporation and principal in Investment Development Fund, a venture
Vice Chairman of the Board of the Bank capital fund, a director of Pinnacle Oil
International, Inc.
James B. Keegan, Jr.,
President & Director of the Corporation and 51 Partner in Keegan & Coppin Company,
Chairman of the Board of the Bank a Santa Rosa real estate brokerage and
development firm, since 1976.
Robert V. "Buzz" Pauley, 55 Owner of Pauley Exports, Ltd., an exporter
Secretary/Treasurer of the Corporation and of California food and beverage products to the
Director of the Bank Pacific Rim; commercial properties manager;
trader of futures and options contracts in
Chicago and other international market exchanges.
David F. Titus, 47 Executive Vice President & Senior Loan Officer
Executive Vice President and of the Bank since January, 1995. Senior Vice President
Senior Loan Officer of the Bank & Senior Loan Officer of the Bank from August 1991 to
January, 1995.
JoAnn Barton, 46 Senior Vice President and Senior Operations
Senior Vice President & Senior Administrator of the Bank since
Operations Officer of the Bank March 1992; from November 1985 Vice President
and Senior Operations Administrator of the Bank.
Jane M. Baker 53 Senior Vice President and Chief Financial
Senior Vice President & Officer of the Bank since August 1995; Vice President
Chief Financial Officer of the Bank and Chief Financial Officer of the Bank since August
1992.
</TABLE>
Each of the directors of the Corporation has served as a director since the
initial organization of the Corporation in 1982, except for Patrick R.
Gallaher who was elected on May 19, 1992, William P. Gallaher who was elected
on June 21, 1994 and Clement C. Carinalli who served from 1982 until 1992 and
from 1996 to date. William P. Gallaher and Patrick R. Gallaher are brothers.
William E. Geary, Dennis R. Hunter, James B. Keegan, Jr. and Robert V. Pauley
have served as directors of the Bank since the initial organization of the
Bank in 1984. Clement C. Carinalli served from 1984 to 1992 and from 1996 to
date. Deborah A. Meekins was appointed as Bank director in August 1990;
William P. Gallaher was appointed in November 1988; and Patrick R. Gallaher
was appointed in December 1991. As the sole shareholder of the Bank, the
Corporation elects the directors of the Bank.
The Corporation's common stock is not registered pursuant to section 12 of the
Exchange Act, therefore Item 405 of Regulation S-B is not applicable.
ITEM 10. Executive Compensation
The following table sets forth the cash compensation paid to or accrued for
the executive officers of the Bank whose cash compensation exceeded $100,000,
for services rendered for the periods indicated. The executive officers of
the Corporation, including the President, do not receive compensation for
their services as such. The President of the Corporation, James B. Keegan,
Jr., serves as the Chairman of the Board of the Bank and receives $2,000 per
month from the Bank for his services in that capacity. All other executive
officers of the Corporation are considered outside directors of the Bank and,
as such, they receive directors' fees. See, "Compensation of Directors,"
below.
Summary Compensation Table
(dollars in thousands)
Long Term
Annual Compensation Compensation
Options All Other
Name and Principal Position Year Salary Bonus (No. of Shares) (1)
- --------------------------- ---- ------ ----- ------------- -------
Deborah A. Meekins, 1997 $141 $110 $51
President and Chief Executive 1998 149 132 84,000 46
Officer and Director of 1999 157 138 53
the Bank
David F. Titus, Executive Vice 1997 100 73 46
President and Senior Loan 1998 107 88 15,000 37
Officer of the Bank 1999 111 97 41
JoAnn Barton, Senior Vice 1997 84 14 1
President and Senior 1998 90 17 5,000 1
Operations Officer of 1999 94 18 2
the Bank
Jane Baker, Senior Vice 1997 84 14 1
President and Chief Financial 1998 90 17 5,000 1
Officer of the Bank 1999 94 18 2
(1) Includes contribution by the Bank for the benefit of the named officer
pursuant to the Bank's 401(k) plan and expenses incurred with respect to the
Salary Continuation Agreement for the named officer, as described below.
Salary Continuation Agreements
The Bank has deferred compensation agreements with Deborah A. Meekins,
President & Chief Executive Officer, and David F. Titus, Executive Vice
President & Senior Loan Officer. Under these agreements, the Bank is
obligated to provide for them or their beneficiaries, during a period of 15
years after the employee's death, disability, or retirement, annual benefits
ranging from $75,000 to $100,000. Benefits are also provided to the officer
if he/she resigns following a change in control or if he/she voluntarily
resigns after June 1, 1995. The estimated present value of future benefits to
be paid is being accrued over the period from the effective date of the
agreements until their expected retirement dates. The accrued expense is
included in Other Liabilities in the financial statements. The Bank is the
beneficiary of life insurance policies that have been purchased as a method of
financing the benefits under the agreements. At December 31, 1999, the total
cash surrender value of these policies was $965,000, which is included in
other assets.
Stock Option Plan
Neither the Corporation nor the Bank award restricted stock or have long term
incentive plans, other than the Corporation's 1984 and 1997 Stock Option
Plans. No stock options have been granted under the 1984 Plan since its
expiration in February 1994. Options for a total of 45,010 shares (23,242 to
directors and 21,768 to officers and employees of the Bank) granted under the
1984 Plan remain outstanding even though the 1984 Plan has terminated.
The Corporation's Board of Directors adopted the 1997 Stock Option Plan which
was approved by the shareholders at the May 19, 1998 shareholders' meeting.
Options for a total of 794,010 shares (639,450 to all directors of the
Corporation and 154,560 shares to forty-one officers and employees of the
Bank) have been granted under the 1997 Plan.
The following sets forth information regarding all options held by the named
officers, including options exercised during 1999:
<TABLE>
<CAPTION>
Aggregated Year-End Option Exercised and Values
December 31, 1999
----------------------------------------------------
Number of Securities
Underlying Unexercised Value of Unexercised
Shares acquired Options (No. of Shares)(1) Options (2)
Name on exercise (#) Value realized($) Exercisable/Unexerciable Exercisable/Unexercisable
- --------------- -------------- ---------------- ------------------------ -------------------------
<S> <C> <C> <C> <C>
Deborah A. Meekins 3,854 $56,268 32,900 / 70,560 $355,123 / $388,919
David F. Titus n/a n/a 5,825 / 12,600 $63,230 / $77,700
JoAnn Barton 4,466 $67,995 1,583 / 4,200 $15,483 /$25,900
Jane Baker n/a n/a 3,284 / 4,200 $43,059 / $25,900
<F/N>
(1) Adjusted for stock dividends issued since date of the option grant.
(2) Calculated based on the difference between the fair market value of the
stock and the exercise price of the options, as of December 31, 1999.
</TABLE>
Compensation of Directors
Outside Directors of the Bank (including directors who serve as executive
officers of the Corporation) receive director fees as follows: $1,500 for
each monthly board meeting attended, $500 per executive and $250 per all
other committee meetings attended. The Chairman of the Board of the Bank
receives a fee of $2,000 per month in addition to the committee fees described
above. The Corporation does not pay director's fees at this time, and does
not plan to in the near future.
Outside directors were eligible to receive options under the Corporation's
1984 Stock Option Plan and are also eligible to receive options under the 1997
Stock Option Plan. See "Item 11, Security Ownership of Certain Beneficial
Owners and Management." During 1999, stock options for 72,380 shares were
exercised by directors, realizing a value of approximately $977,000. Outside
directors held on December 31, 1999 options for 662,692 shares, which options
had an estimated value of $3,917,000 based on the difference between the fair
market value of the stock as of that date and the exercise price of the
options.
The Corporation has deferred compensation agreements with directors Patrick R.
Gallaher, William P. Gallaher, William Geary, and James B. Keegan, Jr. Under
each of these agreements, the Corporation is obligated to
provide for the director or his beneficiaries, during a period of between 10
to 15 years after the director's death, disability or retirement, annual
benefits ranging from $13,000 to $55,000. The estimated present value of
future benefits to be paid is being accrued over the period from the effective
date of the agreements until the expected retirement dates. The Corporation
is beneficiary of life insurance policies that have been purchased as a method
of financing the benefits. At December 31, 1999, the total cash surrender
value of these policies was $1,126,000, which is included in other assets.
ITEM 11. Security Ownership of Certain Beneficial Owners and Management
Other than as set forth below, the Corporation knows of no person who is the
beneficial owner of more than 5.0% of the Corporation's outstanding shares as
of February 15, 2000.
The following sets forth the numbers of shares of common stock beneficially
owned by each director of the Corporation and the Bank and by the directors
and officers (including vice presidents and above) of the Corporation and the
Bank as a group, as of February 15, 2000. The numbers of shares beneficially
owned include the numbers of shares which each person has the right to acquire
upon exercise of stock options granted pursuant to the Corporation's Stock
Option Plans. The percentages of shares owned beneficially are calculated,
pursuant to SEC Rule 13d-3(d) (1), based on the number of shares presently
outstanding plus the number of shares which the person or group has the right
to acquire.
Number of Shares
Name Beneficially Owned Pct
- ------------------- ------------------ -----
Clement C. Carinalli 183,465 (1) 4.9%
Patrick R. Gallaher 138,626 (2) 3.7
William P. Gallaher 57,471 (3) 1.5
William E. Geary 181,459 (4) 4.8
Dennis R. Hunter 258,942 (5) 6.9
James B. Keegan, Jr. 123,609 (6) 3.3
Deborah A. Meekins 65,051 (7) 1.7
Robert V. Pauley 189,131 (8) 5.0
All other officers as
a group (17 people) 49,405 (9) 1.3
---------- ----
Directors and Officers as
a group (26 persons) 1,247,159 33.1%
---------- ----
(1) Including 35,525 shares issuable to Mr. Carinalli upon the exercise
of stock options exercisable within 60 days and 67,864 shares held by
members of his immediate family residing at his home.
(2) Including 17,640 shares issuable to Mr. Gallaher upon the exercise of
stock options exercisable within 60 days, 120,776 shares held in Mr.
& Mrs. Gallaher's trust and 210 shares owned by a child living at home.
(3) Including 22,997 shares issuable to Mr. W. Gallaher upon the exercise
of stock options exercisable within 60 days.
(4) Including 17,640 shares issuable to Mr. Geary upon the exercise of stock
options exercisable within 60 days, 40,055 shares held in Mr. Geary's
profit sharing plan, 17,141 shares held in employee pension and profit
sharing plan of Geary, Shea & O'Donnell, 39,509 shares held by Mrs.
Geary and 8,706 shares held in a trust account for which Mr. Geary
serves as trustee but does not have a beneficial interest.
(5) Including 19,845 shares issuable to Mr. Hunter upon the exercise of
stock options exercisable within 60 days, 76,970 shares held in the
name of Kathrine Hunter, as to which Mr. Hunter has voting rights and
162,127 shares held in trust accounts for which Mr. Hunter serves as
trustee but does not have a beneficial interest.
(6) Including 19,845 shares issuable to Mr. Keegan upon the exercise of
stock options exercisable within 60 days, 80,119 shares held by
Keegan & Coppin Company, Inc., 7,917 shares held by the Keegan &
Coppin Profit Sharing Plan and 23,425 held in trust accounts for which
Mr. Keegan is trustee or held in accounts for the benefit of his minor
children.
(7) Including 32,900 shares issuable to Ms. Meekins upon the exercise of
stock options exercisable within 60 days.
(8) Including 17,640 shares issuable to Mr. Pauley upon the exercise of
stock options exercisable within 60 days and 13,890 shares held by Mrs.
Pauley.
(9) Including 14,480 shares issuable to such officers upon the exercise of
stock options exercisable within 60 days.
The business addresses of each of the above individuals is c/o Northern Empire
Bancshares, 801 Fourth Street, Santa Rosa, CA 95404
ITEM 12. Certain Relationships and Related Transactions
The Bank leases facilities for the loan department and some administrative
offices from Mr. James Ratto, a major shareholder of the Corporation. Total
rental expense on this lease for the year ended December 31, 1999 and 1998 was
$155,000 and $110,000, respectively.
The Bank has had in the ordinary course of business, and expects to have in
the future, banking transactions with its directors, officers and their
associates, including transactions with corporations of which such persons are
directors, officers or controlling shareholders. The transactions involving
loans have been and will be entered into with such persons in the ordinary
course of business, on substantially the same terms, including interest rates
and collateral, as those prevailing at the time for comparable transactions
with other persons, and on terms not involving more than the normal risk of
collectibility or presenting other unfavorable features. At December 31,
1999, loans by the Bank to directors, officers and their associates totaled
approximately $7,016,000, constituting 1.9% of total loans, 25.0% of the
Bank's shareholder's equity and 24.1% of the consolidated shareholders' equity
of the Corporation.
Loans to insiders, such as officers, directors, and certain other persons are
subject to the limitations and requirements of the Financial Institutions
Regulatory and Interest Rate Control Act of 1978 and regulations thereunder.
ITEM 13. Exhibits and Reports on Form 8-K
(a) Exhibits
The following is a list of the exhibits to this Form 10-KSB.
(3) (a) Articles of Incorporation of the Corporation (filed
as Exhibit 3.1 to the Corporation's S-1 Registration
Statement, filed May 18, 1984 and incorporated herein
by this reference).
(b) Certificate of Amendment to Articles of Incorporation,
filed January 17, 1989 (filed as exhibit (3)(b) to the
Corporation's Annual Report on Form 10-K for the Fiscal
Year Ended December 31, 1988 and incorporated herein by
this reference).
(c) Amendment to the Bylaws of the Corporation and revised
Bylaws (filed as Exhibit (3)(d) to the Corporation's
Annual Report on Form 10-KSB for the Fiscal Year Ended
December 31,1994 and incorporated herein by this reference).
(d) Secretary's certificate of Amendment to the Bylaws of
the Corporation and revised Bylaws (filed as exhibit (3)(e)
to the Corporation's Annual Report on Form 10-KSB for the
Fiscal Year Ended December 31, 1997 and incorporated
herein by this reference).
(10) (a) Lease for Bank Premises at 801 Fourth Street, Santa
Rosa, California (filed as Exhibit 10.2 to the
Corporation's S-2 Registration Statement, filed
September 11, 1992, and incorporated herein by this
reference).
(b)* Stock Option Plan (filed as Exhibit 10.2 to the
Corporation's S-1 Registration Statement, filed May 18,
1984, and incorporated herein by this reference).
(c)* Amendment No. 1 to Stock Option Plan (filed as Exhibit
(10)(d) to the Corporation's Annual Report on Form 10-K
for the Fiscal Year ended December 31, 1989 and
incorporated herein by this reference).
(d)* Amendment No. 2 to Stock Option Plan (filed as Exhibit
(10)(f) to the Corporation's Annual Report on Form 10-K
for the Fiscal Year Ended December 31, 1991 and
incorporated herein by this reference).
(e)* Indemnification Agreements between James B. Keegan,
Jr. and Northern Empire Bancshares and Sonoma National Bank
(filed as Exhibit (10)(h) to the Corporation's Annual Report
on Form 10-KSB for the Fiscal Year Ended December 31,1992
and incorporated herein by this reference).
(f)* Indemnification Agreements between Dennis R. Hunter
and Northern Empire Bancshares and Sonoma National Bank
(filed as Exhibit (10)(i) to the Corporation's Annual Report
on Form 10-KSB for the Fiscal Year Ended December 31,1992
and incorporated herein by this reference).
(g)* Indemnification Agreements between Robert V. Pauley
and Northern Empire Bancshares and Sonoma National Bank
(filed as Exhibit (10)(j) to the Corporation's Annual Report
on Form 10-KSB for the Fiscal Year Ended December 31,1992
and incorporated herein by this reference).
(h)* Indemnification Agreements between William E. Geary
and Northern Empire Bancshares and Sonoma National Bank
(filed as Exhibit (10)(k) to the Corporation's Annual
Report on Form 10-KSB for the Fiscal Year Ended December
31,1992 and incorporated herein by this reference).
(i)* Indemnification Agreements between Patrick R.Gallaher
and Northern Empire Bancshares and Sonoma National Bank
(filed as Exhibit (10)(l) to the Corporation's Annual
Report on Form 10-KSB for the Fiscal Year Ended December
31,1992 and incorporated herein by this reference).
(j)* Indemnification Agreement between William P. Gallaher
and Sonoma National Bank (filed as Exhibit (10)(m) to the
Corporation's Annual Report on Form 10-KSB for the Fiscal
Year Ended December 31,1992 and incorporated herein by this
reference).
(k)* Indemnification Agreement between Deborah A. Meekins
and Sonoma National Bank (filed as Exhibit (10)(p) to the
Corporation's Annual Report on Form 10-KSB for the Fiscal
Year Ended December 31,1992 and incorporated herein by this
reference).
(l)* Executive Salary Continuation Agreement between Deborah A.
Meekins and Sonoma National Bank (filed as Exhibit (10)(O)
to the Corporation's Annual Report on Form 10-KSB for the
Fiscal Year Ended December 31,1993 and incorporated herein
by this reference).
(m)* Executive Salary Continuation Agreement between David
F. Titus and Sonoma National Bank (filed as Exhibit (10)(p)
to the Corporation's Annual Report on Form 10-KSB for the
Fiscal Year Ended December 31,1993 and incorporated
herein by this reference).
(n) Lease for premises in Lakeside Village Shopping Center,
Windsor, California, dated March 1,1993 (filed as Exhibit
(10.15) to the Corporation's Amendment No. 1 to Form S-2
Registration Statement, File No. 33-60566, filed May 13,
1993 and incorporated herein by this reference).
(o)* Director's Deferred Compensation Plan between Patrick
R. Gallaher and Sonoma National Bank (filed as Exhibit
(10)(r) to the Corporation's Annual Report on Form 10-KSB
for the Fiscal Year Ended December 31,1994 and incorporated
herein by this reference).
(p)* Director's Deferred Compensation Plan between William
P. Gallaher and Sonoma National Bank (filed as Exhibit
(10)(s) to the Corporation's Annual Report on Form 10-KSB
for the Fiscal Year Ended December 31,1994 and incorporated
herein by this reference).
(q)* Director's Deferred Compensation Plan between James
B. Keegan, Jr. and Sonoma National Bank (filed as Exhibit
(10)(t) to the Corporation's Annual Report on Form 10-KSB
for the Fiscal Year Ended December 31,1994 and incorporated
herein by this reference).
(r)* Director's Deferred Compensation Plan between William
E. Geary and Sonoma National Bank (filed as Exhibit (10)(u)
to the Corporation's Annual Report on Form 10-KSB for the
Fiscal Year Ended December 31,1994 and incorporated herein
by this reference).
(s)* Director's Deferred Compensation Plan between William
P. Gallaher and Sonoma National Bank (filed as Exhibit
(10)(v) to the Corporation's Quarterly Report on Form
10-QSB for the Quarter Ended June 30,1996 and incorporated
herein by this reference).
(t) Lease for Bank Premises at 6641 Oakmont Drive, Santa
Rosa, California, dated October 1, 1996 (filed as Exhibit
(10)(w) to the Corporation's Quarterly Report on Form 10-QSB
for the Quarter ended September 30, 1996 and incorporated
herein by this reference).
(u) Lease for Loan and Administration Offices at 815
Fifth Street, Santa Rosa, California, dated February 24,
1998 (filed as Exhibit (10)(w) to the Corporation's Annual
Report on Form 10-KSB for the Fiscal Year Ended December
31,1997 and incorporated herein by this reference).
(v)* Indemnification Agreements between William P.Gallaher
and Northern Empire Bancshares (filed as Exhibit (10)(a)
to the Corporation's Quarterly Report on Form 10-QSB for
the Quarter Ended June 30,1998 and incorporated herein
by this reference).
(w)* Indemnification Agreements between Clement C.Carinalli
and Northern Empire Bancshares and Sonoma National Bank
(filed as Exhibit (10)(b) to the Corporation's Quarterly
Report on Form 10-QSB for the Quarter Year Ended June 30,
1998 and incorporated herein by this reference).
(x)* 1997 Stock Option Plan, as amended, and Stock Option
Agreement (filed as Exhibit (10)(b) to the Corporation's
Quarterly Report on Form 10-QSB for the Quarter Year Ended
June 30, 1998 and incorporated herein by this reference).
(y) Lease for West College Branch in G & G Market at
1211A West College Avenue, Santa Rosa, California, dated
June 30, 1998.
*Management contract or compensation plan or arrangement.
(21) Subsidiaries of the Corporation (filed as Exhibit 22 to Post
Effective Amendment No. 5 to the Corporation's S-1 Registration
Statement, filed May 29, 1987, File No 2-91196 and incorporated
herein by this reference).
(27) Financial Data Schedule.
(b) Reports on Form 8-K
The Corporation filed a report on Form 8-K on October 4, 1999 as
amended on October 7, 1999. The report was filed under item 4 with
respect to the change in the Corporations independent accountants.
Supplemental Information to be Furnished With Reports Filed Pursuant to
Section 15(d) of the Exchange Act by Non Reporting Issuers.
Four copies of the Registrant's 1999 Annual Report to Security Holders will
be furnished to the Commission for its information when it is sent to the
security holders.
The Registrant's Proxy Materials for the 2000 Shareholders' Meeting have not
yet been sent to the Security Holders. Copies of the Proxy materials will be
furnished to the Commission for its information when they are
sent to the security holders.
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities and
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
Northern Empire Bancshares
By /s/ Dennis R. Hunter
---------------------------------
Dennis R. Hunter,
Chairman of the Board of Directors
Date March 20, 2000
By /s/ Patrick R. Gallaher
----------------------------------
Patrick R. Gallaher
Chief Accounting Officer/Director
Date March 20, 2000
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in capacities on the dates indicated.
/s/ Dennis R.Hunter March 20, 2000
- ----------------------------------- Date----------------------
Dennis R. Hunter
Chairman of the Board of Directors
/s/ James B. Keegan, Jr. March 20, 2000
- ----------------------------------- Date----------------------
James B. Keegan, Jr.
President/Director
/s/ Patrick R. Gallaher March 20, 2000
- ----------------------------------- Date----------------------
Patrick R. Gallaher,
Chief Accounting Officer/Director
- ----------------------------------- Date----------------------
Robert V. Pauley,
Secretary and Treasurer/Director
/s/ Clement C. Carinalli March 20, 2000
- ------------------------------------ Date-----------------------
Clement C. Carinalli,
Director
/s/ William P. Gallaher March 20, 2000
- ------------------------------------ Date-----------------------
William P. Gallaher,
Director
/s/ William E. Geary March 20, 2000
- ------------------------------------ Date-----------------------
William E. Geary,
Director
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> DEC-31-1999
<CASH> 11030
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 17029
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 2970
<INVESTMENTS-CARRYING> 3000
<INVESTMENTS-MARKET> 0
<LOANS> 361012
<ALLOWANCE> 3787
<TOTAL-ASSETS> 397928
<DEPOSITS> 357867
<SHORT-TERM> 7200
<LIABILITIES-OTHER> 1949
<LONG-TERM> 1850
0
0
<COMMON> 15561
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</TABLE>
